by Cydney Posner

In a speech last week to the International Corporate Governance Network Annual Conference, SEC Chair Mary Jo White announced that the Corp Fin staff is preparing a proposal to amend the current rule requiring board diversity disclosure in proxy statements. The goal will be to require “more meaningful” disclosure about board members and nominees where the directors elect to report that  information. White’s view “is that the SEC has a responsibility to ensure that our disclosure rules are serving their intended purpose of meaningfully informing investors.” The current rule, she believes, just does not cut it: “[o]ur lens of board diversity disclosure needs to be re-focused in order to better serve and inform investors.” 

You may recall that the current rules (under Item 407(c) of Reg S-K) require disclosure of whether, and if so, how, a nominating committee considers diversity in identifying nominees for director. If the nominating committee (or the board) has a diversity policy for identifying director nominees, companies must describe how that policy is implemented, as well as how the nominating committee (or the board) assesses the effectiveness of its policy. Because the SEC recognized that companies might define “diversity” in different ways, no definition was included in the rules. In fact, the 2009 adopting release expressly stated that “some companies may conceptualize diversity expansively to include differences of viewpoint, professional experience, education, skill and other individual qualities and attributes that contribute to board heterogeneity, while others may focus on diversity concepts such as race, gender and national origin. We believe that for purposes of this disclosure requirement, companies should be allowed to define diversity in ways that they consider appropriate as broadly or narrowly as appropriate.”  Most companies adopted the more expansive view, with the result that any intent to enhance disclosure about race, gender or ethnic diversity largely went by the wayside.

According to White, companies’ “disclosures on board diversity in reporting under our current requirements have generally been vague and have changed little since the rule was adopted.  Very few companies have disclosed a formal diversity policy and, as a result, there is very little disclosure on how companies are assessing the effectiveness of their policies. Companies’ definitions of diversity differ greatly, bringing in life and work experience, living abroad, relevant expertise and sometimes race, gender, ethnicity, and sexual orientation.  But these more specific disclosures are rare and, not surprisingly, there are investors who are not satisfied.” There are better examples, White suggests, in the voluntary analyses that some companies have provided, “accompanied by pie charts and bar graphs, to describe the state of the board’s gender, race and ethnic diversity composition, sometimes in addition to other categories – that is one of the positive results of private ordering.”

SideBar: While we don’t know exactly what the proposal will require, White may have signaled one possible aspect of the coming change.  In January, at the Securities Regulation Institute in San Diego, she noted that the SEC has received “a number of petitions pending that raise the issue of — wouldn’t this be more meaningful if you actually defined diversity in your rule, SEC, to at least include ethnicity, race, and gender, in addition to whatever other qualities, fall under that category and require disclosure of those facts.” (See this PubCo post.)

As White indicated in her speech, she has pressed the topic of board diversity on several occasions.  (See, e.g., this PubCo post.)  In this speech, she laments the failure in the U.S. to make much progress on board diversity: “Minority directors on boards of the top 200 companies on the S&P 500 have stagnated at 15% for the last several years, and the percentage of these companies with at least one minority director actually declined from 90% in 2005 to 86% in 2015.  In 2009, women held only 15.2% of board seats at Fortune 500 companies and that number has only risen to 19.9% in the past six years; 73% of new directorships in 2015 at S&P 500 companies went to men.  At this rate, the GAO has estimated that it could take more than 40 years for women’s representation on boards to be on par with men’s.  The low level of board diversity in the United States is unacceptable.”  (See this PubCo post for a possible explanation for the stagnation.)

SideBar:  Interestingly, board diversity, although framed by White as a topic of interest to investors, is one of the few issues bearing on social policy that White has embraced and even persistently promoted. For example, she has expressly declined to pursue political spending disclosure, even though it too has certainly been characterized as a topic of keen interest to investors. As noted in this Bloomberg article, “in a speech in October 2013, she lauded the SEC for resisting past calls to mandate reporting of political contributions, emphasizing that the independent agency should stay away from politics. One month later, she pulled consideration of the rule off of the agency’s regulatory agenda.” And she has maintained that position notwithstanding receipt of a letter from two former SEC Chairs and one former Commissioner politely berating (well, maybe not so politely) her failure to take action on a 2011 rulemaking petition to require disclosure of the use of corporate resources for political activities and characterizing the subject matter of the petition as “an issue of paramount public interest and growing concern to investors.” The petition had been submitted by a committee of distinguished law professors, and subsequently received 1.2 million letters in support. (See this PubCo post.)  Similarly, in a 2013 address at Fordham Law School, she expressed concern regarding disclosure that strays from the SEC’s core purposes, when, “from time to time, the SEC is directed by Congress or asked by interest groups to issue rules requiring disclosure that does not fit within our core mission.”  In particular, she was critical of the “specialized disclosures” mandated by Dodd-Frank: “But other mandates, which invoke the Commission’s mandatory disclosure powers, seem more directed at exerting societal pressure on companies to change behavior, rather than to disclose financial information that primarily informs investment decisions. That is not to say that the goals of such mandates are not laudable.  Indeed, most are.  Seeking to improve safety in mines for workers or to end horrible human rights atrocities in the Democratic Republic of the Congo are compelling objectives, which, as a citizen, I wholeheartedly share. But, as the Chair of the SEC, I must question, as a policy matter, using the federal securities laws and the SEC’s powers of mandatory disclosure to accomplish these goals.”

Then why should investors care about this issue? White observes that, as a former board member, she has “seen first-hand what the research is telling us – boards with diverse members function better and are correlated with better company performance.  This is precisely why investors have – and should have – an interest in diversity disclosure about board members and nominees.”

SideBar: According to a study from the Peterson Institute for International Economics,  the presence of women in corporate leadership positions may improve firm performance and “the magnitudes of the correlations are not small.” The results of the study indicated that the presence of more women on corporate boards and in executive positions contributes to firm performance: “for profitable firms, a move from no female leaders to 30 percent representation is associated with a 15 percent increase in the net revenue margin.” According to the study, the proportion of female executives made the most significant contribution, followed by the proportion of female board members. (See this PubCo post.) And Bloomberg has noted that “[c]ompanies with at least one female director had better returns for six straight years….[T]here’s a pile of research showing that boards and other leadership panels with 50 percent women think more critically, which may explain the better results. Group dynamics change for the better when both sexes are present. Diverse groups solve problems better than homogeneous ones do, possibly because the men and women monitor each other’s performance more closely.” (See this PubCo post.)

Given the volume of work remaining on the SEC’s agenda, together with the failure of Congress to  confirm nominees for the two open seats on the SEC – leaving the SEC short-staffed with only three commissioners  – whether White can succeed in getting a final rule adopted before she leaves her post (presumably in time to allow a new president to select her replacement) is an open question.   

In addition to diversity, White repeated the staff’s frequently articulated concern that “non-GAAP information, which is meant to supplement the GAAP information, has become the key message to investors, crowding out and effectively supplanting the GAAP presentation.” Alluding to the recent CDIs regarding non-GAAP financial measures, White urged that companies “carefully consider this guidance and revisit their approach to non-GAAP disclosures.  I also urge again, as I did last December, that appropriate controls be considered and that audit committees carefully oversee their company’s use of non-GAAP measures and disclosures.” (See this PubCo post.) Finally, she cautioned that the SEC staff are “watching this space very closely and are poised to act through the filing review process, enforcement and further rulemaking if necessary to achieve the optimal disclosures for investors and the markets.” White also discussed sustainability disclosure.  (See this PubCo post.)

Posted by Cydney Posner