California to Require Minority Representation on Boards of Directors

Boards of Directors

California has just passed legislation requiring that publicly traded companies headquartered in the state have at least one ‘diverse’ director by 2021. Diverse is defined in terms of race, ethnicity or sexual orientation. This legislation follows a similar measure that was passed two years ago, which instituted quotas based on gender.

These legislative measures have real effects. Since the gender mandate, the percent of women directors among Russell 3000 firms has increased from 17% to 24% (according to research from Equilar). We can expect this new legislation to have similar effects on the percent of directors who come from minority communities.

These legislative measures always raise questions, for example relating to the legality of such measures, the necessity of such measures and the benefits of such measures. We briefly comment on the latter two here (we will leave the legality-issues to the lawyers and the courts).

The necessity of such measures: would minority representation among boards of directors increase without these legislative measures? Research indicates that the answer to this question is no. Research by Cai, Nguyen and Walkling (2017) indicates that 75% of new director appointments are selected from the incumbent boards’ first- or second-degree networks. To the extent that peoples’ networks predominantly include people more similar to themselves, these dynamics contribute to the perpetuity of the ‘white, male board’. Incremental to this, minority groups are further disadvantaged by unconscious biases, i.e., by peoples’ tendency to associate certain skillsets with certain groups of people. Field, Souther and Yore (2020) highlight the impact of these effects – they conclude that it would take 86 years for Boards to reach the target proportion of minority directors!

The benefits of such measures: would minority representation among boards of directors provide benefits? The answer to this question can be framed in many ways: benefits to firms, benefits to society. Let’s start with benefits to society. Peoples’ expectations for themselves are framed by the identity of the people in leadership positions. If a young woman of color sees only white men in leadership positions, she will assume that she will never occupy such a position. As more women and people of color occupy these positions, more younger people from similar demographics will aspire to such positions.

Firms also can benefit from the increased diversity of their boards of directors. Individuals from different demographic groups tend to have different perspectives. This represents increased information for the firm, information which can help it better design its products, better market its products and better communicate with both internal and external constituents. The challenge for firms is to harness this added information in a productive way. Understanding peoples’ varying communication styles is paramount.

In conclusion, this move by California is an important step in the right direction. It can provide many benefits to society and firms alike. However, it is important to remember that this is one step: true progress will require continued efforts by all of us.

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