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Another California Board Diversity Statute Struck Down in Court: Appeal to Be Filed

For the second time this spring, a California statute designed to promote diversity in corporate boardrooms was blocked by a state judge. On May 13, 2022, in Crest v. Padilla I (Los Angeles Superior Court Case No. 19STCV27561) (Crest), Los Angeles Superior Court Judge Maureen Duffy-Lewis ruled that California Corporations Code Section 301.3 (SB 826), which requires publicly listed corporations in California to have women on their boards, violates the Equal Protection Clause of California’s Constitution. California Secretary of State Shirley N. Weber has since announced plans to appeal the decision, stating that “SB 826 was passed not to remove men from the boardroom, but simply to make room for highly qualified women who have been excluded from the corporate board selection process for decades.”

Enacted in 2018, SB 826 (also known as Women on Boards) was the result of a seven-year campaign, according to one of the lead advocates for the legislation, Betsy Berkhemer-Credaire, CEO of 50/50 Women on Boards. The law requires public corporations based in California (regardless of where incorporated) with a board of five members to have at least two women directors and that those with boards of six or more directors to have at least three women.

“As a result of the law, which has been in effect for three years since January 2019, more than 2,000 new board seats are now held by women in CA, bringing the percentage of board seats to 32.5%, higher than any other state,” Berkhemer-Credaire told us, calling the effects of SB 826 “profound.”

But, she said, opposition to the measure was “fierce” and, not long after it went into effect, a group of taxpayers sued. Judge Duffy-Lewis’ verdict in Crest mirrored the outcome of another lawsuit, Crest v. Padilla II  brought by the same plaintiffs challenging the constitutionality of AB 979, a state law requiring corporate boards of companies headquartered in California to have at least one member from an unrepresented community.

Gender Equity Does Not Qualify as a Compelling State Interest

In Crest, the plaintiffs argued that SB 826’s requirement that corporate boards include women violated California’s Equal Protection Clause which prohibits discrimination based on sex in public employment, education, or contracting by treating “two or more ‘similarly situated’ groups in an unequal manner.” The plaintiffs requested judgment declaring any expenditures of taxpayer funds to enforce SB 826 illegal and entry of an injunction permanently prohibiting the Secretary of State from spending taxpayer funds to implement the law.

Applying the “strict scrutiny” test to assess the constitutionality of SB 826, the court found that the state failed to prove: (1) a compelling state interest to enforce the law; (2) that the law is necessary; and (3) that the law is narrowly tailored, or only as broad as necessary to effectuate its goals. The court rejected the government’s argument that eliminating and remedying discrimination in director selection on corporate boards is a compelling governmental interest. Relying on established case law, the court ruled that remedying societal discrimination and generalized non-specific allegations of discrimination is not a governmental interest. The court found that the state had failed to show that law’s use of gender-based classification was necessary to improve the state economy, improve opportunities for women in the workplace, or to protect California taxpayers, public employees, pensions, and retirees.

In finding insufficient evidence of the need for the remedial action, i.e., a specific problem to be solved by the law, the court found that the imbalance between men and women on corporate boards was primarily due to reasons other than discrimination, such as lack of open board seats, women’s networking issues, and boards’ preference for choosing CEOs to fill open positions.  The court found that the state could present no “specific evidence of actual, unlawful discrimination against any specific women by any specific corporation,” but rather that the state’s evidence demonstrated that the Legislature’s purpose in enacting the law “was gender-balancing, not remedying discrimination.”  The court noted that the text of SB 826 contains no reference to discrimination or remedying discrimination.   Accordingly, Judge Duffy-Lewis declared that the statute lacked the compelling state interest required to justify a law that expressly relies on a “suspect classification” and thus failed under the “strict scrutiny” test. The court further found that the state could not show that the statute is necessary or narrowly tailored, as required under the Equal Protection Clause of California’s Constitution, because there was no evidence that the Legislature had considered gender-neutral alternatives to remedy specific, purposeful, or intentional unlawful discrimination against women by private sector corporations in the selection of board members or that gender-neutral alternatives were not available.

Appeal Planned

In announcing her decision to appeal the court’s decision, Weber stated that the verdict “ignores critical and substantial evidence of discrimination against women in the director selection process and fails to acknowledge the realities that women face when attempting to access corporate boards.” The deadline for appeal is 60 days after entry of judgment. As of now, the appeal countdown has not started because entry of judgment is still pending.

What Now?

For now, California may not enforce either SB 826 or AB 979. Irrespective of the courts’ decisions, many corporations remain interested in increasing the diversity of their boards, and investors and other stakeholders may be expected to continue to put pressure on public companies to increase their boards’ diversity. Of note, Nasdaq’s Board Diversity Rule requires Nasdaq-listed companies to disclose director diversity statistics beginning in August 2022, and those companies must either have, or explain why they do not have, at least two “diverse directors,” which includes at least one self-identified female director and at least one director who self-identifies as an “underrepresented minority” or as LGBTQ+.

Given this trend, companies should continue to consider the composition of their boards. If the appeal fails (or ultimately is not pursued), California corporations may expect legislators to go back to the drawing board to draft new legislation that will pass the strict scrutiny test. Berhkemer-Credaire and other supporters, however, remain optimistic that on appeal, the law will be held as properly addressing long-standing systemic discrimination against women and constitutionally sound. For now, we await the appeal, and will provide updates as things progress.