Board Diversity And Proxy Fraud
Earlier this week, the Securities and Exchange Commission staff added two new Compliance and Disclosure Interpretations dealing with disclosures of self-identified diversity characteristics under Items 401(e) and 407(c)(2)(vi). Both C&DIs pose the same question: "What disclosure of self-identified diversity characteristics is required under Item 401 or, with respect to nominees, under Item 407?". In part, the staff answers:
"To the extent a board or nominating committee in determining the specific experience, qualifications, attributes, or skills of an individual for board membership has considered the self-identified diversity characteristics referred to above (e.g., race, gender, ethnicity, religion, nationality, disability, sexual orientation, or cultural background) of an individual who has consented to the company's disclosure of those characteristics, we would expect that the company's discussion required by Item 401 would include, but not necessarily be limited to, identifying those characteristics and how they were considered."
See C&DI Questions 116.11 and 133.13 (added Feb. 6, 2019).
Also earlier this week, Senator Bob Menendez issued a press release announcing his intention to introduce legislation that would require public companies to disclose specific information related to the racial, gender, and ethnic makeup of corporate boards and senior management. The imposition of such a disclosure mandate leads to several questions. For example, will a public company be required to make an independent assessment of the racial, gender or ethnic composition of its board? Will a board candidate be required (either de jure or de facto) to self-identify race, gender, and ethnicity? How will race, gender and ethnicity be defined and by whom?
Then there is the question of liability. Suppose a company is permitted to rely on a director's self-identification, a director self-identifies as a member of a particularly race, but that self-identification is not supported by objective evidence (e.g., a DNA test). Would that self-identification be actionable as a false and misleading statement? One might argue that self-identification of diversity characteristics is inherently and entirely subjective, thus as long as the director's belief is sincerely held the director's self-identification can never be false. However, it might be argued that self-identification is an opinion that should properly be evaluated under the standards adopted by the United States Supreme Court in Omnicare, Inc. v. Laborers Dist. Council Const. Indus. Pension Fund, 135 S. Ct. 1318 (2015), a case involving liability under Section 11 of the Securities Act. If it is determined that a director's diversity characteristics were falsely stated, the question remains whether that diversity characteristic is material as defined by the Supreme Court in TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438 (1976).