As discussed in this article in Bloomberg Businessweek, a new analysis conducted by Bloomberg explores the potential impact of California’s new board gender diversity mandate, SB 826. And what does it show? The impact on the composition of boards could be substantial—perhaps even a “sea change.”

As you may recall, on September 30, 2018, former California Governor Jerry Brown signed into law a bill addressing board gender diversity, an issue that has recently been elevated to the forefront of corporate governance concerns. The legislation requires that public companies (defined as corporations listed on major U.S. stock exchanges) that have principal executive offices located in California, no matter where they are incorporated, include, as Brown phrased it, a “representative number” of women on their boards of directors. Under the new law, each public company will be required to have a minimum of one woman on its board of directors by the close of 2019. That minimum increases to two by December 31, 2021, if the corporation has five directors, and to three women directors if the corporation has six or more directors. (See this PubCo post.) The new law, while groundbreaking—or perhaps more appropriately, ceiling shattering—is the first of its kind in the U.S., but it may not be the last. According to Bloomberg, “New Jersey and Massachusetts are considering similar legislation. Other states have passed non-binding guidelines, often as a precursor to legal action.”

Mandating board quotas for gender diversity is an approach that has been adopted in a number of other countries. According to SB 826, “Germany is the largest economy to mandate a quota requiring that 30 percent of public company board seats be held by women; in 2003, Norway was the first country to legislate a mandatory 40 percent quota for female representation on corporate boards. Since then, other European nations that have legislated similar quotas include France, Spain, Iceland, and the Netherlands.” And the quotas appear to have been effective in increasing the proportion of women directors. The WSJ reports that “the number of women on big-company boards in Italy, Germany and several other European nations has tripled and, in some cases, quadrupled in recent years as mandates have forced corporations to boost the share of female directors to as much as 40%.”

The Bloomberg analysis showed that the new law could mean that 692 more board seats open up for women. In addition, reports Bloomberg, if every state were to adopt a comparable law, “U.S. companies in the Russell 3000 would need to open up 3,732 board seats for women within a few years.” Currently, among the Russell 3000, men hold 21,424 board seats, while women hold 5,088 seats. Only 717 companies would currently comply with the California requirements (if hypothetically applied in all states). More specifically, 394 companies have no women directors, and, assuming hypothetically that the California law were to apply nationwide, each of those companies would need to add one woman to its board this year. In addition, 1,760 companies have at least one woman on their boards, but would need to add more by the end of 2021 to comply, The projected (hypothetical) increase of 3,732 board seats would mean that “the number of women on these boards nationwide would rise by almost 75 percent.” That could be transformational.

The article observes that boards have long been male bastions—99% of boards are majority male. Board seats are often filled by current or retired executives, who are most often men. In addition, when director slots open, they are often filled through personal connections, likewise most often male. Those are just two of the reasons why women make up only one-fifth of U.S. board directors. As Bloomberg reports, without some kind of change, “it could take another two generations before the boardroom matches the workforce, which is about half female. The glacial rate of progress inspired the California law, which had wide support in the state legislature.” And, as discussed in this article in the WSJ, companies will need to “revamp the way they recruit female directors.” According to the chair of the NACD, the “‘system produces white male candidates unless board leaders deliberately do something different.’”

As has been widely noted, however, California’s new law is vulnerable to legal challenge. That challenge could come from the intended application of the new law, through new section 2115.5, to companies incorporated outside of California. The article notes that most of the Russell 3000 are incorporated in Delaware, “including 83 percent of those headquartered in California. It’s not clear whether another state can, legally, tell them what to do.” According to the SF Chronicle, over “two dozen organizations officially oppose the bill, stating in a coalition letter that it prioritizes a single element of diversity and violates the U.S. constitution.” The coalition includes every variety of Chamber of Commerce in California.” But, Bloomberg confirms, “so far, no one has sued.” And, the California Chamber of Commerce confirmed to Bloomberg “through a spokeswoman that the group doesn’t plan to sue to stop enforcement of the law and is not aware of any other efforts at this time.”

Generally, the “internal affairs doctrine” provides that the law of the state of incorporation governs those matters that pertain to the relationships among or between the corporation and its officers, directors and shareholders. This law, however, added new Section 2115.5, which is intended to make the new mandate expressly applicable to foreign corporations—to the exclusion of the law of the jurisdiction in which the foreign corporation is incorporated. Presumably, the condition that the company’s principal executive offices be located in California is intended to satisfy any need for a nexus to the state. If litigation were initiated, whether courts would view the location of a company’s principal executive office as sufficient to confirm California’s interest in the composition of a foreign corporation’s board, or otherwise to establish the nexus necessary to overcome the internal affairs doctrine in this regard, remains to be seen. Of course, if Delaware were to follow California’s lead, the issue would largely disappear.

Some industries have made more progress on board gender diversity than others. For example, Bloomberg reports, in the utility industry, a quarter (199) of board members are women, and the industry would need to fill, in the aggregate, only 43 additional board seats with women to satisfy the California requirements (assuming hypothetically that they applied). Similar stories apply to the consumer staples industry (where women hold 239 board seats and would need to add 102 seats) and consumer discretionary industry (where women hold 730 seats and would need to add 329 seats). The picture is different, however, for energy companies, which, according to Bloomberg, would have to more than double women’s directorships, from 184 to 475, or even healthcare, where women hold 712 seats and would need to add 769 seats to comply.

The article observes that pressure from institutional investors, such as BlackRock and State Street, has recently served to elevate the significance of the issue: “That’s borne some fruit. Among the new directors appointed at Russell 3000 companies last year, nearly 44 percent are women, pushing the overall share to about 18 percent. Every year, researchers estimate how long it will take these boards to reach gender parity. Typically, they say it’ll be several decades. But the new appointees have made a difference, says consulting firm Equilar Inc., which accelerated its projection by 20 years in its most recent analysis: Russell 3000 companies could get there by 2034, it said.” (See this PubCo post and this PubCo post.)

According to Bloomberg, there are a number of groups that are now dedicated to helping women secure board seats. For example, 2020 Women on Boards is scheduling “educational meetings in November in at least 30 U.S. cities to help women learn how to use their own networks to get on boards.” The CEO of 2020 observed that one important effect of the new California law has been to raise consciousness of the issue. In addition, according to the CEO of the NACD, the “next class of executives signing up for director professionalism training from the National Association of Corporate Directors is about 40 percent women…. A decade ago, it would have been half or less than that, he said. ‘We see the demographics shifting,’ [the CEO said.] He gets as many as 15 queries a week from people interested in being on a board. ‘We’ve got an older generation that’s in their last five to 10 years of service. We’ve got another generation coming in.’”

The article includes a handy search device that allows you to look for a company to retrieve its data and see whether it would comply with the California law.