Nasdaq diversity rule vacated – and what that means for companies

Nasdaq’s highly publicized rule, approved by the Securities & Exchange Commission, went into effect in 2022 requiring that Nasdaq-listed companies have — or explain why they do not have — at least 1 female director and at least 1 director who self-identifies as an underrepresented minority along with a board diversity matrix.

 

 

On December 11, 2024, the Fifth Circuit Court of Appeals, in a 9-8 vote, struck down this rule. The overriding reason for the decision, though extremely close, rested on the SEC’s approval of the rules. The 5th Circuit held that Nasdaq’s diversity rules “cannot be squared” with the Securities & Exchange Act, reasoning that the SEC’s approval of the rules was “arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with the law” due to the SEC’s failure to justify its determination that the rules were consistent with the requirements of the Exchange Act.

Two important things stemming from this decision for companies to know are: 1) other forces compel the disclosure of board of director demographics and 2) any change in practice following the vacated rule will be highly visible to stakeholders.

First, just four index fund providers own more than 25% of the largest companies in the U.S. (i.e. companies in the S&P 500). If their growth rates continue at their current pace, experts predict the entire U.S. market will be held by such firms by 2035. It is primarily these forces that compel companies to continue to report their board diversity. Blackrock, State Street, Vanguard and Fidelity all have board diversity policies. All have policies that state they will vote against a board’s Nominating Committee (NC) chairperson at companies that have no racially or ethnically diverse members and no women. State Street and Blackrock expect firms to have 30% representation of women directors. Vanguard expects companies to disclose their board diversity in terms of age as well.

Another force are proxy advisory firms. They provide research and make recommendations to their global institutional investor clients on management and shareholder proposals that are voted on at a company’s annual meeting of shareholders. Institutional Shareholder Services (ISS) and Glass-Lewis control 97% of the market in providing recommendations, with ISS having about two-thirds of the market. For race, ethnicity and gender, ISS and Glass Lewis will generally vote against NC chairs where the board has no apparent racially or ethnically diverse members. Glass Lewis will recommend voting against the chair of the NC when there is less than 30% gender diversity, or the entire nominating committee of a board with no gender diverse directors.

Second, since these disclosures are public and searchable within the SEC proxy filings database it is important for companies to be consistent with their previous statements about diversity. For this reason, in mid-January 2025, Apple Inc.’s board of directors recommended investors vote against a shareholder proposal to abolish the company’s diversity, equity, and inclusion programs, according to a proxy filing cited by Reuters.

Also important here is the disclosures on the company’s nomination process. PwC has argued that director selection processes and skill matrices disclosed by companies indicate how well or poorly the board’s overall profile matches the firm’s strategy.

In this same vein, there are organizations looking closely at company disclosures on a variety of social issues. According to Proxy Analytics social and environmental proposals that ask companies to increase their disclosure on these topics, doubled from 2021 to 2024. And 50/50 Women on Boards tracks the Russell 3000 in terms of women and minorities on boards and published an annual “Gender Diversity Index”.  These are both highly visible to the public.

In all, proxy statements, annual reports/10-Ks, SEC filings, presentations and voluntary disclosures provide firms with communication opportunities. And, companies operate in a stakeholder and stockholder environment where people are clamoring for more information, not less. Calls for sharpening company purpose are heard from both inside and outside of the company so when diversity is part of that purpose, the “why” of a firm, it may be beneficial to a company to be consistent when it comes to its espoused values.

 

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