On April 1, 2022, a Superior Court judge in Los Angeles struck down California's landmark legislation requiring representation of "underrepresented communities" on the boards of publicly held companies based in California. The law, known as Assembly Bill (AB) 979 and set forth in California Corporations Code §301.4, defines underrepresented communities as certain racial, ethnic, or LGBT (lesbian, gay, bisexual, or transgender) groups. In a lawsuit alleging that AB 979 violated the state's constitution, the judge held that the legislation violated the equal protection clause of the California Constitution on its face, entitling plaintiffs to an injunction preventing the use of taxpayer funds to implement the measure.
California's Board Diversity Laws
California Governor Gavin Newsom signed AB 979 into law on September 30, 2020, as discussed in our prior alert. The legislation requires companies with their principal executive offices in California to have at least one director from an underrepresented community on their board by December 31, 2021 and additional underrepresented community directors by December 31, 2022, as specified in the legislation.
ASB 979 followed similar California legislation in Senate Bill (SB) 826, which was enacted in 2018 and mandates gender diversity on the boards of publicly held companies based in California, as further discussed in this client alert.
Challenge to AB 979
Shortly after AB 979 was signed, conservative legal advocacy group Judicial Watch filed a lawsuit in the Superior Court of the State of California for the County of Los Angeles on behalf of taxpayers challenging the measure. See Crest v. Padilla, LA Super. Ct. Case No. 20STCV37513 (Sept. 30, 2020).
The complaint argued that AB 979 established quotas and thereby violated the state's constitutional equal protection clause by making distinctions based on race and ethnicity without a compelling state interest. The lawsuit sought to permanently enjoin the California Secretary of State from using taxpayer-financed resources to enforce the law. The lawsuit also sought a judgment declaring AB 979 to be an unlawful violation of the California constitution.
In defending AB 979, California argued that the measure did not discriminate and that boards with diverse representation perform better than other boards and serve a broader societal benefit. The state maintained that it has a compelling interest in facilitating such performance because its large pension plans (California Public Employees' Retirement System (CalPERS) and California State Teachers' Retirement System (CalSTRS)) invest heavily in public companies. The state also argued that there is a compelling interest in remedying past discrimination on corporate boards in favor of white males.
Ruling on AB 979
On March 14, 2022, Los Angeles Superior Court Judge Terry Green heard oral argument on opposing motions for summary judgement in the case.
On April 1, 2022, Judge Green issued his ruling, granting summary judgment to the taxpayer plaintiffs and denying summary judgement to California.
Judge Green held that AB 979 violated the equal protection clause of the California Constitution on its face in that it treats similarly situated individuals such as potential corporate board members differently based on their "membership in certain listed racial, sexual orientation, and gender identity groups." Judge Green stated that California had not put forth a compelling justification for the different treatment. The broader public interest did not "fit the bill" and, although correcting past discrimination in a "specific arena" can be a compelling reason, the corporate board room was not such an arena as it was too broad and encompassed all industries and parts of the country. He noted that even if the board room was a specific arena, there had not been put forth convincing evidence to prove discrimination. As such, he held that plaintiffs were entitled to an injunction prohibiting the state from using taxpayer funds to implement AB 979.
Similar Challenge to California Gender Diversity Law Pending
Judicial Watch filed a similar lawsuit on behalf of taxpayers with respect to SB 826, California's board gender diversity statute. See Crest et. al. v. Padilla, LA Super. Ct. Case No. 19STCV27561 (2019). This case went to trial on December 1, 2021 and is awaiting decision.
Stay Tuned
While the Superior Court's ruling on AB 979 is notable, it is not clear how the state of California will respond to the Superior Court's ruling, especially given the pending challenge to its gender diversity statute. An appeal or subsequent legislative efforts are both possible. As such, we recommend that companies based in California continue to monitor developments in these cases.
The annual board diversity reports required by AB 979 and SB 826 are available here.
Nasdaq Reminder
Despite the Superior Court's ruling on AB 979, companies listed on the Nasdaq Stock Market (Nasdaq) will be required under new Nasdaq Rule 5606 to annually disclose, as early as this year, aggregated statistical information about the board's self-identified gender and racial characteristics and LGBTQ+ status and, subject to transition periods and certain exceptions, to have (or explain why they do not have) at least two diverse directors. Unlike AB 979, Nasdaq Rule 5606 does not require any minimum number of diverse directors and mandates disclosure only, as further discussed in this client alert.
For more information on the California diversity provisions, the Nasdaq diversity rule or any related matter, please contact any member of Wilson Sonsini's public company representation or corporate governance litigation practices.
