Should Courts Uphold Corporate Board Diversity Statutes?

• Publication year: 2022

53 Creighton L. Rev. 15. SHOULD COURTS UPHOLD CORPORATE BOARD DIVERSITY STATUTES?

SHOULD COURTS UPHOLD CORPORATE BOARD DIVERSITY STATUTES?

CREIGHTON R. MELAND, JR. ^[*]

Corporate board diversity statutes impose demographic requirements on the boards of directors of publicly traded corporations. This Article evaluates whether these state statutes are valid under the United States Constitution ^[1] and under the internal affairs doctrine. It concludes that any statute that establishes either or both of sex-based and race-based quotas concerning the composition of corporate boards of directors should be found unconstitutional under the Equal Protection Clause of the Fourteenth Amendment. Corporate board diversity statutes have interstate effects and their undue burdens on interstate commerce potentially violate the Dormant Commerce Clause. A case challenging these laws under the Dormant Commerce Clause will be one of first impression. The Dormant Commerce Clause outcome will be determined by the level of scrutiny applied to the statute and this Article argues that strict scrutiny should apply. A court applying strict scrutiny should invalidate each such statute under the Dormant Commerce Clause. By regulating the activities of corporations organized in states that do not impose demographic requirements, corporate board diversity statutes also interfere with the internal affairs of corporations. Internal affairs comprise a part of state conflict of laws principles. While corporate board diversity statutes interfere materially with corporate internal affairs, litigation outcomes under the internal affairs doctrine will vary depending on the jurisdiction hearing the case and the law to be applied. Corporate board diversity statutes present issues of litigant standing. Subject to certain limitations described below, potential litigants include (1) the affected corporation, (2) directors removed from office or denied positions under the quota system, and (3) shareholders ^[2] of the affected corporation.

This Article proceeds in six sections: Section I describes the corporate board diversity statutes (both enacted and potential) and identifies the legal issues they create. Section II analyzes the validity of these laws under the Fourteenth Amendment by discussing the standards applicable to race and sex. Sections III and IV analyze the validity of these laws under, respectively, the Dormant Commerce Clause and the internal affairs doctrine. Section V identifies who may challenge these laws, including considerations of standing. Section VI evaluates the public policy consequences of corporate board diversity statutes. The statute critiqued is from California, which has recently enacted a corporate board diversity statute that creates sex-based quotas. This Article will also comment on the California legislative declarations and findings ^[3] and will sometimes discuss related legislative activity in other states.

At the time of this writing, there are no race-based corporate board diversity statutes. In 2019, Illinois proposed a race and sex-based corporate board diversity statute, but modified it to include only reporting of diversity statistics and the creation of a state-run diversity ratings system, which has now been enacted into law. ^[4] When discussing race-based corporate board diversity statutes, this Article refers to laws a legislature might enact that would mimic the California statute, but apply with respect to race. When this Article refers to a "corporate board diversity statute" it refers to a statute that requires a publicly traded corporation to maintain a fixed number of women and/or racial minorities on its board of directors and enforces violations by fines. This Article sometimes analyzes the Delaware General Corporation Law due to Delaware's status as the principal state of incorporation for publicly traded corporations.

I. WHAT ARE CORPORATE BOARD DIVERSITY STATUTES?

A. CORE PROVISIONS AND PURPOSE

Corporate board diversity statutes require certain classes of corporations to maintain a minimum number of female ^[5] and/or racial minority directors. California affords a transition period in which to comply. ^[6] The first phase of California's statute requires at least one woman on each board by the end of calendar year 2019. ^[7] After the passage of the relevant time period, the corporation must comply with the requirement then in effect; in California the designated director seat must be held for "at least a portion of the calendar year." ^[8] Failure to seat a director that meets statutory requirements results in a fine enforced by the Secretary of State. The California statute contains specific terms concerning what constitutes a director qualifying for the required status. California defines a "female" as an individual who self-identifies her sex as a woman, without regard to the individual's designated sex at birth. ^[10] This differentiates between sex given at birth versus gender identity made by the candidate. The California statute does not require a removal of existing directors and replacement with women, although this is an option for the affected corporation. Rather, the statute enables the corporation to expand the board, ^[11] which corporations would be free to do in any case, but which will require approvals by the board of directors and in some cases by shareholders. ^[12] The California law does not set out necessarily to result in a particular percentage of women to comprise the board of directors. Instead, it imposes a minimum absolute number. However, in California, this number increases when the board reaches a certain size. ^[13] The effects of these absolute size requirements will be discussed.

B. CORPORATIONS SUBJECT TO CORPORATE BOARD DIVERSITY STATUTES

Corporate board diversity statutes apply to only a limited class of corporations. They do not apply to privately held corporations. The California statute applies to "a publicly held domestic or foreign corporation whose principal executive offices, according to the corporation's SEC 10-K form, are located in California . . . ." ^[14] Importantly, the statute applies to corporations both organized in California and those organized outside the state but maintaining headquarters there. This Article sometimes refers to these corporations as "foreign corporations." The California statute applies only to corporations. Publicly traded master limited partnerships, investment trusts and other publicly traded entities not organized as corporations are not subject to the law. ^[15] As will be discussed, this attempt to regulate foreign corporations creates issues under the Dormant Commerce Clause and under the internal affairs doctrine. Under the California corporate board diversity statute, a "publicly held corporation" includes "a corporation with outstanding shares listed on a major United States stock exchange." ^[16] The California statute mandates a certain number of female directors without exceptions.

II. ANALYSIS OF CORPORATE BOARD DIVERSITY STATUTES UNDER THE FOURTEENTH AMENDMENT

The Fourteenth Amendment of the United States Constitution provides in pertinent part that:

No State shall make or enforce any law which shall abridge the privileges or immunities of citizens of the United States; nor shall any State deprive any person of life, liberty or property without due process of law; nor deny to any person within its jurisdiction the equal protection of the laws. ^[17]

The Fourteenth Amendment also vests Congress with the power to enforce its provisions by appropriate legislation. ^[18] Fourteenth Amendment jurisprudence applies different standards to construe the meaning of "equal protection of the laws" depending on the subject matter, and different standards usually apply for race and sex. This Article first discusses how courts may conceptualize and address questions of diversity in corporate boards, followed by analysis of how the Fourteenth Amendment applies to corporate board diversity statutes. This proceeds in two Subsections, the first which discusses race, followed by a sex-focused analysis.

A. MEASURING AND CONCEPTUALIZING CORPORATE BOARD DIVERSITY STATUTES

At the time of this writing, the World Bank reports that there are 4,331 companies in the United States listed on a securities exchange. ^[19] However, the actual number of publicly traded companies in the United States is materially lower-in the vicinity of 3,500 companies. ^[20] This latter figure excludes exchange traded funds, closed end funds and other investment companies that trade publicly. Of relevance is not only the number of publicly traded companies, but their market capitalization, which equals the total market value of all outstanding shares of common stock. Much of the data concerning publicly traded companies in the United States lists companies in indices according to market capitalization or revenues. For purposes of the analysis contained in this Article, the Fortune 100, Fortune 500, Fortune 1000, and Russell 3000 will be most often discussed. The Fortune 100, Fortune 500, and Fortune 1000 rank America's companies by revenue, in order of, respectively, the top 100, the top 500, and the top 1,000. Companies in the Fortune indices need not be publicly traded, but the vast majority are. Instead, the Fortune criteria are derived from businesses that are required to file publicly available reports with...