On Dec. 1, Nasdaq asked the Securities and Exchange Commission to approve a new rule requiring companies listed on the U.S. stock exchange to regularly report on the diversity of their boards and have at least one woman and one director on the board from an underrepresented minority group. Under the proposal, companies that fail to meet the criteria or have a plan in place to get there could face delisting.
The move is the latest in an effort to encourage diverse representation on boards that have historically operated as “old boys clubs,” according to Todd Gormley, associate professor of finance at Olin Business School at Washington University in St. Louis. Gormley studies board governance and the impact of shareholder activism. He is a co-author of a working paper, “The Big Three and Board Gender Diversity: The Effectiveness of Shareholder Voice,” which finds that recent investor-driven campaigns have significantly increased the number of women directors on U.S. public company boards.
That study causes him to believe Nasdaq’s approach — in contrast to investor-driven campaigns — might only result in tokenism as found following some previous government interventions, including California’s law toward board diversification. It could result in a situation where “firms — and investors — don’t necessarily think the mandate is about improving shareholder value, and hence, they do the bare minimum to satisfy it rather than giving women real influence on boards,” he said.
Below, Gormley discusses this research — co-authored with researchers at the University of Alabama and Northwestern University — and the impact Nasdaq’s policy could have on the governance boards of the more than 3,000 publicly traded U.S. companies included in the exchange.
Your new research studies the impact of shareholder advocacy to expand women’s participation in corporate leadership, as well as index investors’ ability to influence firms’ governance structures. What did you find?
In 2017, “The Big Three” institutional investors — BlackRock, State Street and Vanguard — launched campaigns to increase gender diversity on corporate boards. These three asset managers have more than $15 trillion under management and account for 75% of all indexed mutual fund and ETF assets, giving them considerable influence potential.
State Street was the first to announce their plan in March 2017, which included policies of voting against directors’ re-election at firms that made insufficient progress toward a gender-diverse board. Within five months of launching its campaign, State Street voted against the re-election of directors at 400 companies that lacked female directors. BlackRock and Vanguard announced similar plans later that year.
The influence campaign led to an explosion in female directorships. Using our most conservative estimates, the Big Three’s campaigns led firms to add 2.5 times as many female directors in 2019 as they had in 2016, accounting for almost half of the total 2016-to-2019 increase in gender diversity. There also was a nearly one-fifth decline in the number of U.S. companies with no female directors over this period.
How did they do it? Before 2017, most boards were supportive of enhancing gender diversity in principle, but claimed that a limited pool of suitable female-director candidates prevented them from achieving greater diversity in the boardroom. State Street disagreed. They believed there were enough qualified women, but boards’ nominating practices and behavioral biases undervalued women’s contributions. In particular, companies relied too heavily on their existing director networks to identify director candidates. They also put too much of an emphasis on previous board experience.
The dominance of the “old boys club” and a focus on hiring directors with past director and CEO experience kept firms from adding more female directors until they faced investor pressure. Interestingly, our research found the campaigns not only led to more female directors, but also upgraded roles on the boards for women. Big Three-owned companies were more likely to have female directors sitting on and chairing the nominating committee, which increases the likelihood of bringing more diversity to the board. So, the growth in female directors was not mere tokenism.
The success of the Big Three’s campaigns shows that a concerted effort by influential stakeholders can drive change, even in the absence of government mandates. The Big Three’s campaigns successfully targeted an outcome that was easy to monitor with little firm-specific information, suggesting they can also play pivotal roles in shaping other board governance issues.
Is the Nasdaq policy needed to encourage broader diversity on boards?
The Big Three’s campaigns were focused primarily on gender diversity, and they already hold ownership stakes in most U.S. public companies. So, I would anticipate this policy by Nasdaq, if approved, will just add pressure to companies that haven’t already added a female director, and it will add pressure to diversify the board in other ways, which was not the primary focus of these earlier investor-driven campaigns.
Can the lessons learned from your study, which focused on gender diversity, be applied to other underrepresented groups including minorities and LGBTQ+?
While the Big Three did talk about the importance of diversity more broadly, the focus, especially for BlackRock and State Street, seemed to be on improving gender diversity. One reason the Big Three have probably not made as much of a push in diversity more generally is that information about directors’ ethnicity, nationality, etc., is not systematically reported, making it hard for them to monitor.
In your study, you found that investor campaigns were more successful than California’s gender quota in helping women achieve real positions of influence on corporate boards. Why? Where does the Nasdaq policy fit in?
It’s unclear. One possibility is that when investors are pushing for the change, it’s because they believe it will enhance shareholder value to have a more diverse board. Therefore, it would make sense for firms to not just add females, but make sure these females are given influence as well. A government mandate, however, might provoke the opposite response where firms — and investors — don’t necessarily think the mandate is about improving shareholder value, and hence, they do the bare minimum to satisfy it. If this is what is going on, then the Nasdaq approach probably falls closer to that of a government mandate, and hence, might be perceived and responded to similarly by firms.
Why is female and diverse representation on governance boards important?
The Big Three investors justified their campaigns by arguing that more diverse boards increase the effectiveness of the board, and hence, improve shareholder value. You see Nasdaq making similar arguments. However, I think the impact of this increased board diversity is still an open question.
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