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BOARD MEMO 2021

The new flavor of shareholder derivative actions – diversity litigation

Boris Feldman

Boris
Feldman

Partner, Silicon Valley

Doru Gavril

Doru
Gavril

Partner, Silicon Valley

In the summer of 2020, the boards of multiple large public companies were sued by shareholders because they had no African-American directors. The lawsuits are styled as shareholder derivative actions, ostensibly brought on behalf of the companies themselves, and seek hundreds of millions of dollars in damages and new corporate programs. 

Plaintiffs allege that directors breached their fiduciary duties under state law by failing to appoint black directors, whose service on boards plaintiffs argue is positively correlated with higher profits. Plaintiffs also claim that directors violated the federal securities laws by falsely touting their commitment to diversity in proxy statements.

While board diversity is both valuable and overdue, these lawsuits suffer from multiples deficiencies that arguably undermine diversity. Plaintiffs seek to usurp the traditional deference that state corporate law has afforded to the business judgment of directors, by adopting a narrow and rigid definition of diversity that fails to take into account gender, sexual orientation or even other races. Unsurprisingly, the lawsuits cannot identify any legal authority requiring directors to pursue a single definition of diversity; to the contrary, recent legislative developments, such as a new board diversity statute California enacted in September 2020, emphasize the many dimensions of diversity and allow boards a period of several years to comply with the new mandates. That such mandates did not exist until this year reinforces the conclusion that directors could not have breached an existing fiduciary duty. Plaintiffs’ federal law claims fare no better, failing to meet elementary pleading requirements such as identifying a materially false statement or showing that such a statement harmed the corporation.

Boards facing these new diversity mandates or simply seeking to enhance diversity should avoid the distraction of such lawsuits by focusing on well-articulated internal diversity goals, sustained outreach to talented candidates, and robust disclosures that clearly identify the company’s diversity initiatives (in addition to complying with the new human capital reporting requirements the SEC added to Regulation S-K in August 2020).

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