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Environmental, social, and governance risks and opportunities

California Appeals Board Gender Diversity Loss

Quota for number of female board directors unconstitutional
ESG law

Last month, the California Secretary of State appealed the decision by a California Superior Court striking down as unconstitutional California’s board diversity law, which required all publicly traded companies headquartered in the State to include a minimum number of female directors.

In 2018, Women on Boards (Senate Bill 826) was signed into law to advance equitable gender representation on California corporate boards, codified as Corporations Code section 301.3. California was the first state in the nation to require all publicly held domestic or foreign corporations whose principal executive offices are located in California to have at least one female director on their boards by December 31, 2019, either by filling an open seat or by adding a seat. By December 31, 2021, those companies were required to have minimum numbers of female directors based on the total size of the corporation’s board of directors (e.g., 3 women directors if the corporation had 6 or more directors). Under the statute, the State could impose fines for violations, from $100,000 to $300,000 per violation.

The law was described as an important step in corporate inclusion not just because California is the fifth largest economy in the world, but also the first state to mandate gender diversity on boards, even in advance of the current advent of ESG. When passed in 2018, one-fourth of California’s publicly held corporations had no women directors on their boards.

On May 13, 2022, Judge Maureen Duffy-Lewis in a case entitled Crest v. Padilla case No. 19STTCV27561, abrogated Section 301.3, which mandated the appointment of a minimum number of females to boards, concluding that the statute violated the Equal Protection Clause of the California Constitution.

Yes, this is the same Crest v. Padilla case name we blogged about with substantially the same subject, in California Racial, Ethnic and LGBT Quotas for Company Boards Ruled Unconstitutional.

Judge Duffy-Lewis reasoned that, because the statute afforded disparate treatment to qualified candidates for corporate board positions on the basis of gender, without furthering a compelling government interest, it violated equal protection. Echoing the unconstitutional holding in the first Crest case that came down only 30 days before this ruling, the court here found that the state failed to put forward “strong” evidence to show that including women on boards served a compelling state interest. The court was not persuaded by claims concerning the economic benefits of diversification and found that adding women to boards would not necessarily “boost California’s economy.” The court went on to conclude that the state’s evidence of the economic benefits associated with corporations having more female board members was unpersuasive, stating “the studies [the state] cited failed to sufficiently show a causal connection between women on corporate boards and [improved] corporate governance and did not otherwise provide reliable conclusions.”

Finally, the Court determined, the State failed to show that “the Legislature considered gender-neutral alternatives, that the statute was limited in scope and duration to that which is necessary to remedy specific, unlawful discrimination against women in the selection of board members.” So, possibly this is simply an example of bad legislating and the court opened the door to how the flaws could be remedied in the future?  

On August 22, California’s Secretary of State asked the state court judge to pause her order enjoining Section 301.3, allowing enforcement of the law requiring women be appointed to board while appeals are pending. That motion is pending.

Opponents are expected to counter with nationwide, women comprised 45% of all new Fortune 500 board appointments in 2021, a new high, without this law unconstitutionally burdening the vast majority of those corporations. As a positive aside, and with respect to the first Crest case (also on appeal), Black directors were 26% of new board appointees in 2021.

There is little debate that board governance is key to shareholder value. We advise clients how to leverage that good governance is key to ESG, but there is real debate about the proper role of government in mandating behavior by stockholders of private companies (in electing directors and otherwise).

With both Crest cases on appeal, it is not clear how these corporate board diversity laws will fare in the appellate courts? This is also an undercurrent of concern that this gender statute is deaf to the LGBT+ community, which may damn its chances, while the broader protected class of “underrepresented communities” in the first Crest case may fare better.

We continue to monitor both cases and when the appellate courts rule, blog about the fate of these state legislative efforts to address the “G”, governance prong in ESG.

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