The United Kingdom’s Financial Conduct Authority wants to improve transparency around gender and ethnic diversity on company boards. The end-game of the three-month consultation that kicked off on July 28 could be updated listing rules requiring companies to disclose annually – on a “comply or explain” basis – whether they have met gender and ethnicity board targets.
The regulator wants investors to use the data to put greater pressure on companies to improve diversity and inclusion at the same time as putting pressure on companies themselves to self-improve.
Walking a mightily fine line, the consultation paper notes (with embedded subtleties that I admit are lost on me) that it is not proposing board-level targets but it is targeting in its consultation at least 40% of boards being made up of women (including those self-identifying as women); at least one senior board position (chair, chief executive officer, senior independent director or chief financial officer) being given to a woman (including those self-identifying as such); and at least one member of the board being from a non-white background.
“By focusing initial targets and reporting on gender and ethnicity, we do not wish to diminish the importance of representation of other groups and the barriers to progression and opportunity they may face,” the report also notes, maintaining its very carefully crafted (and generally rather woke) line to cover itself against claims of supporting specific segments of diversity against others in what has become an intensely political arena.
The agency wants companies to publish standardized gender and ethnicity data on board and management composition and said it may amend its disclosure guidance and transparency rules such that reporting requirements on board diversity policies consider wider characteristics including sexual orientation, disability and socio-economic background. Depending on feedback, the regulator wants to have any updated rules in place before the end of 2021. Rule changes will apply to UK companies and non-UK companies with equities listed on or trading on regulated UK markets.
Social and governance aspects have been much talked about but not much has been done to encourage, push or force companies to up their game on these aspects of ESG in support of equal opportunities. Greater transparency around issues of diversity will be useful to investors and market participants who want it. Current disclosure on diversity is poor, to say the least.
While the consultation is regulator-driven, the FCA points in its paper to academic studies that suggest greater diversity on boards may have positive effects both on governance and on corporate performance. “May have” sets the right tone here. I can’t claim to have read the academic literature on this topic, but my understanding is the results actually are mixed. The sell-side research I’ve seen on the subject has certainly fallen short of explaining how and/or why diversity drives outperformance, analysis instead tending to make flat observations and vague inferences.
Remember that at last year’s World Economic Forum in Davos, David Solomon said IPOs of US companies with a woman on the board have performed significantly better than those without. As I wrote in this column in February 2020, Goldman Sachs’s chairman and CEO said the firm would not take any company public in the United States or Europe unless it had at least one diverse board candidate (with a focus on women). That has increased to two this year.
At the time, I followed up with Goldman on the outperformance factor. To recap, the firm’s research apparently showed (I say apparently because they declined to send it to me) that US companies with one or more female board representatives saw a 44% average price performance improvement within one year of their IPOs. Against 13% for companies with no female board representation.
I was curious as to why Goldman thought those companies outperformed. Was it the very fact that having a woman on the board acted as a pull for ESG-minded investors so drove stock prices up on a simple demand dynamic? Or had Goldman distilled the essence of the specific impacts or influences created by female directors that wouldn't have been created by all-male boards and which led to better performance?
If greater diversity drives stock outperformance, why aren’t companies moving more quickly to make their boards and management ranks more diverse? Beyond, that is, the more general appeal of mirroring the constituencies they serve, be that customers, employees or wider society. Rather disappointingly, I was asked to consider the data points that Goldman pointed to as observational rather than a metric for investing.
Like many others, I would be genuinely interested to know if there are specific factors inherent in gender and ethnically diverse board decision making and/or managing risk and opportunity that drive outperformance. Except that it’s actually a red herring. The key issue here is supporting equal opportunities as a fundamentally core tenet of any and all corporate governance and putting in place formal programmes to improve it. Not because it leads to higher stock prices but because it’s the right thing to do.
Investors are definitely interested in allocating capital to reward diversity as a component of the increasingly dominant ESG narrative. But by the same token, they need to make sure they use the “comply or explain” function in the spirit in which it is intended and not impose blanket punitive measures on those who for any number of perfectly reasonable reasons might miss targets in a given year.
More does need to be done to support opportunities at work for those who feel excluded from advancement because of lack of diversity or diversity awareness. But (back to the FCA consultation), I’m not sure putting pressure on companies to fill quotas is the way to go. That way lies tokenism and box-ticking.
