On May 13, 2022, the California State Superior Court for the County of Los Angeles held at Crest vs. Padilla, Case No. 19STCV27561, that California Senate Bill (SB) 826, requiring public companies whose principal executive offices are located in California, have a minimum number of women on their boards of directors, violates clause equal protection of the California Constitution. SB 826 required covered companies to have a minimum of three female directors for a board of six or more directors, two female directors for a board of five or more directors, and one female director for a board of four or fewer directors. The law provided that the California Secretary of State would have the power to impose substantial fines for its violation.
This decision follows shortly after the decision of the Superior Court of Los Angeles in Crest vs. Padilla, Case No. 20 STCV 37513, reversing California Corporations Code Section 301.4 which required public corporations with principal executive offices in California to have a minimum number of directors from an underrepresented community (defined as individuals identifying as Black, African American, Hispanic, Latino, Asian, Pacific Islander, Native American, Hawaiian, or Alaska Native, or gay, lesbian, bisexual, or transgender), also citing violation of the Equal Protection Clause of the California constitution. This law required California corporations with nine or more directors to have at least three directors from underrepresented communities; with five to eight directors to have a minimum of two directors from underrepresented communities; and with four or fewer directors to have at least one director from an underrepresented community. This law also authorized the imposition of fines on companies that did not comply with the law.
In striking down California Corporations Code 301.4, Los Angeles Superior Court Judge Terry A. Green found that the law violated the Equal Protection Clause of the California Constitution on its face because it “dealed with individuals in a situation similar – qualified potential board members differently on their membership (or lack thereof) of certain listed racial, sexual orientation, and gender identity groups” and required “that a specific number of seats on the Board of Directors be restricted to members of the listed group,” thereby excluding members of other groups from those seats. Judge Green found that the California Secretary of State had not identified a compelling interest in the case to justify this classification; that the wider public benefits which would be obtained by the law were insufficient; and that the law was not narrowly designed to serve the interest offered. The tribunal concluded that: “Only in very special cases should discrimination be remedied by further discrimination… which should only happen after obvious alternative measures have been tried. Sometimes the direct approach should be the last resort, not the first. In its language, the court was not criticizing the purpose of the California legislature in enacting the law, but the specific means it had taken to serve the state’s commitment to equal treatment and opportunity. .
Now, in overturning SB 826, Los Angeles County California Superior Court Judge Maureen Duffy-Lewis has found that the state of California has failed to meet its burden of proof. Judge Duffy-Lewis found that the law created a quota that “unequally affects two or more groups ‘in the same situation’, thereby shifting the onus to the state to prove that the law ‘passes rigorous scrutiny.’ Applying the strict standard of review, the court held that the state had not, in the case at issue, demonstrated that the legislation was “closely tailored” to meet “a compelling state interest.” The court held that the legislature had failed to demonstrate that it “considered gender-neutral alternatives to address discrimination against women by private sector companies in the selection of board members. or that gender-neutral alternatives were not available” and “had not considered amending existing anti-discrimination laws or enacting a new anti-discrimination law focusing on the board selection process prior to enacting SB826… “. The court found that there was no evidence that SB 826’s use of gender-based classification was in fact corrective and “designed as much as possible to restore victims of deliberate or deliberate discrimination.” intentional and unlawful act specific to the positions the victims would have held but for the discrimination.” The tribunal’s language and reasoning indicated that, had it been asked to rule on a different law more in keeping with the nature of other existing laws aimed at preventing and remedying discrimination, the result might have been different.
Shortly after the decision banning SB 826, the California Secretary of State announced that she had ordered an appeal of the decision to be filed.
Notwithstanding the specific results of these two California cases, public companies headquartered in California and elsewhere should stay informed of future developments and be aware that the board diversification movement is still in its infancy. and will continue. In addition to monitoring legislative developments in California and other states, the requirements of regulatory bodies like the Securities and Exchange Commission come into play.
The Nasdaq has its own board diversity rule for its listed companies, which the SEC approved last August. However, this rule also currently faces legal challenges. The requirement set forth by the Nasdaq, effective in 2023, however, is different from SB826 (and Section 301.4 of the California Corporations Code). The Nasdaq has adopted a “comply or explain” diversity rule and established a disclosure framework. Nasdaq-listed companies (with limited exceptions) must add certain specified diverse members to their board of directors or explain why they do not meet these diversity goals. However, if they choose to explain why they do not meet the requirement, the rule does not actually require them to add diverse board members. Therefore, there is reason to believe that the outcome of challenges to this rule could be different.
While these legal challenges may be a setback for the state of California and other efforts to diversify boards, public interest in board diversity, investor pressure, and directives proxy advisory firms calling for increased diversity on boards means this is and will continue to be a developing area of law.
- Dentons Client Alert, “An April Fools Day Surprise: California Court Strikes Down Corporate Board Diversity Law,” April 14, 2022 ↩