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Earlier this month, a Los Angeles judge held unconstitutional a California landmark law mandating that companies diversify their boards with people of color and LGBT+ individuals (AB 979; also known as California Corporations Code § 301.4).
AB 979/CALIFORNIA CORPORATIONS CODE § 301.4
Amid a broad push to make corporate boards more inclusive, California passed AB 979 in 2020. AB 979 expanded diversity requirements for publicly held domestic and foreign companies with main executive offices in California. The companies were required to have at least one board member by the end of last year from an "underrepresented community," i.e., a person who self-identifies as Black, African American, Hispanic, Latino, Asian, Pacific Islander, Native American, Native Hawaiian, or Alaska Native or as gay, lesbian, bisexual, or transgender. By the end of 2022, the companies were required to add additional board members from that community, depending on the size of their boards.
Companies who did not comply could have faced fines of $100,000 for a first violation and $300,000 for subsequent violations. The Secretary of State published a report titled "Diversity on Boards" which shows that about 300 out of about 700 corporations complied with last year’s deadline. However, half of the corporations never filed the required disclosure statement. No fines have been issued yet.
WHO CHALLENGED AB 979 AND WHY?
In September 2020, a conservative, non-partisan advocacy group, Judicial Watch, filed a lawsuit (Crest v. Padilla II, Los Angeles Super. Ct. Case No. 20STCV37513) on behalf of three state taxpayers arguing that AB 979 violated the California Constitution. The lawsuit sought to bar the State from using taxpayer funds to enforce AB 979 and to have the law declared unconstitutional.
COURT'S REASONING FOR STRIKING DOWN AB 979
On April 1, 2022, the court granted summary judgment to Judicial Watch and instituted an injunction preventing the State from expending taxpayer funds on the implementation of the law.
The court found that the law violates the Equal Protection Clause of the California Constitution because:
"The difficulty is that the Legislature is thinking in group terms. But the California constitution protects the right of individuals to equal treatment. Before the Legislature may require that members of one group be given certain board seats, it must first try to create neutral conditions under which qualified individuals from any group may succeed. That attempt was not made in this case."
According to the court, the law did not “cure [a discrimination] problem.”
It is not clear whether the State will appeal the court's ruling.
OTHER CONSTITUTIONAL CHALLENGES TO AB 979 AND ANOTHER LAW GEARED TOWARDS DIVERSIFYING CORPORATE BOARDS
The State is currently defending three other ongoing actions involving AB 979 and a similar bill which we will continue to monitor:
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Crest v. Padilla I and Meland v. Weber are lawsuits challenging the enforcement of SB 826, which requires at least one woman director for corporations.
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Alliance for Fair Board Recruitment v. Weber is a lawsuit challenging both SB 826 and AB 979 on equal protection grounds.
TAKEAWAYS AND RECOMMENDATIONS FOR PUBLIC COMPANIES
Until an appellate court rules otherwise, corporate boards need not adhere to AB 979 to diversify and will not be penalized for maintaining the status quo.
Despite this, there is a general movement for diversity and inclusion for corporate boards. Consumers, investors, and employees continue to pressure companies to diversify their directors, disclose board diversity statistics, and withdraw policies that could violate federal and state anti-discrimination laws.
Notably, there is a correlation between companies with ethnically / culturally diverse boards and higher profits.
We note that with the heavy public pressure to diversify internally and by customers, the likelihood of ongoing consideration of statutory solutions like AB 979, and the anecdotal evidence of the potential for financial gain, we foresee many companies continuing efforts to diversify their boards.
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