Last week, a federal appeals court upheld Nasdaq’s board diversity rule potentially impacting the large numbers of businesses having initiatives to advance gender and racially diverse talent.

Nasdaq Stock Market, LLC proposed a rule that would require companies listed on its stock exchange to have women and minority directors on their boards or explain why they do not.

A three judge panel of the Fifth Circuit Court of Appeals explained the “fundamental purpose” of the Securities Exchange Act of 1934 is to enforce “a philosophy of full disclosure . . . in the securities industry.” Nasdaq is a private company that operates a securities exchange.

Consistent with this goal, on December 4, 2020, Nasdaq filed proposed rule changes to address board diversity.

The proposed rules included two parts: Under the Board Diversity proposal, Nasdaq proposed “to require each Nasdaq listed company, subject to certain exceptions, to publicly disclose in an aggregated form, to the extent permitted by applicable law, information on the voluntary self-identified gender and racial characteristics and LGBTQ+ status of the company’s board of directors.”

Nasdaq also proposed to require each Nasdaq listed company, subject to certain exceptions, to have, or explain why it does not have, at least two members of its board of directors who are Diverse, including at least one director who self-identifies as female and at least one director who self identifies as an Underrepresented Minority or LGBTQ+.

Under the proposed rules, “Diverse” would be defined to mean an individual who self identifies in one or more of the following categories: (i) Female, (ii) Underrepresented Minority, or (iii) LGBTQ+ ..;  “Female” would be defined to mean an individual who self identifies her gender as a woman, without regard to the individual’s designated sex at birth; “Underrepresented Minority” would be defined to mean an individual who self identifies as one or more of the following: Black or African American, Hispanic or Latinx, Asian, Native American or Alaska Native, Native Hawaiian or Pacific Islander, or Two or More Races or Ethnicities; and “LGBTQ+” would be defined to mean an individual who self-identifies as any of the following: Lesbian, gay, bisexual, transgender, or as a member of the queer community.

On August 6, 2021, the SEC issued an Approval Order, approving the proposed rule changes. After the SEC approved these rules, the Alliance for Fair Board Recruitment and the National Center for Public Policy Research petitioned for review.

Last week, the Fifth Circuit panel found that the challenge was flawed, as Nasdaq is not a state actor and not subject to constitutional scrutiny. The Court further concluded that the SEC acted within its statutory authority in approving Nasdaq’s rules, explaining, “This evidence is sufficient to support the SEC’s determination that regardless of whether investors think that board diversity is good or bad for companies, disclosure of information about board diversity would inform how investors behave in the market.” Accordingly, the petitions seeking to block the rules were rejected.

Read the lengthy but very interesting decision at  Alliance for Fair Board Recruitment, et al v. SEC, United States Court of Appeals for the Fifth Circuit.

This may not be the end of this dispute. The Alliance for Fair Board Recruitment has filed a petition for a rehearing before the full Fifth Circuit. Such could be significant because the three judges on the panel in this decision were each Democratic appointees while the majority of the Fifth Circuit are Republican appointees. And given the U.S. the Supreme Court’s June ruling declaring unlawful the race-conscious student admissions policies used by Harvard University and the University of North Carolina, final approval of the Nasdaq rule is less than certain.

In a similar vein we posted earlier this year, Court Finds California Racial, Ethnic and LGBT Quotas for Boards Unconstitutional.

And for those interested in the subject, the SEC has announced it will propose a rule on “human capital management” that commentators have speculated will be even more expansive than this Nasdaq rule.

With large numbers of businesses having initiatives to advance gender and racially diverse talent, keeping track of the law on this subject is a necessity.

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