As Diversity Lawsuits Are Dismissed, What Will Shareholders Try Next?

With the courts saying that shareholders must prove that they have formally asked boards to diversify—and given boards time to make changes—a couple of responses from shareholders are likely.

Companies that have not yet diversified their corporate boards may think they can breathe a little easier now that it appears that courts are more inclined to dismiss shareholder diversity lawsuits if those shareholders had not demanded strong corrective action from the board before filing. Advanced Micro Devices was the latest company to have a shareholder lawsuit over board diversity dismissed because the shareholders didn’t convince the judge that the board would not have addressed the problem if properly confronted.

According to news reports from Reuters, about a dozen public companies have been sued for failing to appoint a Black board member since social justice protests erupted last year after George Floyd was murdered by police. Six of those lawsuits have now been dismissed because shareholders filed the lawsuit without adequately confronting the board about making changes.

Shareholder groups have taken to filing these diversity lawsuits because they believe not diversifying the board could violate laws in states like California and Washington that have diversity mandates. They also claim that not diversifying the board has other negative effects on the company that impact shareholder profits—like a company’s reputation with its customers. Whether those things are true is still being debated in boardrooms across the country, even as some research shows that companies with diverse boards have better financial performance than those without diverse boards. And although institutional shareholders BlackRock, State Street and Vanguard have all indicated that they will begin voting against the re-election of board members who appear to oppose board diversity, there are still corporate boards that haven’t made changes, even while claiming to support diversity.

So with the courts apparently saying that shareholders must prove that they have formally asked boards to diversify and then prove they’ve given boards time to make changes, a couple of responses from shareholders are likely.

• Shareholders demand engagement meetings to discuss solutions.

If a company board has received or is being threatened by one of these diversity lawsuits, the board should meet with the shareholders that filed the suit and determine what can be done to solve the issue. Since shareholders had cases dismissed because they couldn’t show that they held meetings with the board or sufficiently advised directors that they may be violating their fiduciary duties, some of these plaintiffs will set out to get evidence that they have done these things. If boards refuse to meet with shareholders, that will likely help the shareholders’ cause.

Talking to resolve the issue is certainly cheaper than defending the board in court. Every reasonable effort at compromising on board diversity should be made to avoid a refiling of the lawsuit and any reputational damage created by the company being sued “to place a Black person on its board.” Board refreshment happens on every board, so there are few excuses for why board diversity shouldn’t happen. However, if a board has a viable reason why it should not diversify with female of ethnic minority members, the board needs to communicate those reasons to all shareholders immediately before a lawsuit filing hits the news.

• Shareholders launch public campaigns to get the board to diversify.

If shareholders have lost faith in talks with the board, they will likely begin to create evidence that the board is being unreasonable by going public with their demands. They may draft and send a letter to shareholders pointing out the research supporting board diversity and demonstrating the board’s resistance to it. They then may publicize their letter in the media in an effort to get support for a shareholder resolution on some sort of solution to the diversity issue. Boards will have to have a public response to this type of campaign.

• Shareholders may run board candidates to replace those directors they believe are against board diversity.

Although we haven’t really seen shareholders go to this extreme response regarding this issue, replacing board members who oppose board diversity is a real option. Now that it has been proven that investors with small percentages of shares can effectuate change at even the largest public companies (e.g., Engine No. 1 vs. ExxonMobil) boards shouldn’t think that other ESG concerns, like board diversity, won’t be strongly supported— especially since the largest institutional investors, BlackRock, State Street and Vanguard have all indicated they will vote against directors who do not appear to be in favor of board diversity.