Nasdaq Continues to Endorse Diversity in the Board Room

Nasdaq Inc.’s - a United States financial services company that operates stock exchanges -  proposed rules regarding diversity on boards of directors were approved by the Securities and Exchange Commission (“SEC”) on August 6, 2021. (SEC, SEC Release 34-92590). In order for a self-regulatory agency (an organization, such as Nasdaq, that provides standards for and regulates its own industry) to change a rule, it must file the proposed change with the SEC and seek approval. (17 CFR § 240.19b-4; Adam Hayes, Investopedia). Nasdaq filed two proposed rule changes with the SEC on December 1, 2020, which proposed changes were published in the Federal Register and underwent the standard review and comment process. (SEC, SEC Release 34-92590; SEC, Federal Register).

The first rule change addresses the requirement to have greater diversity in the board room for companies that are listed on the Nasdaq exchange. The new rule requires companies to have at least one member of the board of directors that self-identifies as female and at least one member of the board of directors that self-identifies as either an underrepresented minority (meaning an individual who self-identifies as Black or African American, Hispanic or Latinx, Asian, Native American or Alaska Native, Native Hawaiian or Pacific Islander, or two or more races or ethnicities) or as LGBTQ+ (meaning an individual who self-identifies as lesbian, gay, bisexual, transgender, or as a member of the queer community). (Michael Nagle, Bloomberg Law; SEC, SEC Release 34-92590). If a company does not comply with the diversity requirements, it must explain in its public disclosures filed with the SEC why it is not meeting the requirement. (SEC, SEC Release 34-92590). In the circumstance where the company has not met the diversity requirements, Nasdaq will notify the company of its deficiency and the company must either cure the deficiency at the later of its next annual shareholder meeting or 180 days after the event that created the deficiency; otherwise, the company will face delisting on the exchange. (SEC, SEC Release 34-92590). When a company is delisted, its stock can no longer trade on the Nasdaq exchange; however, the stock may trade in the over-the-counter bulletin board or the pink sheets. (Nasdaq, Rule 5801; Nasdaq, Rule 5830; Cory Janssen, Investopedia). Delisting often results in investors and other potential capital funding sources no longer viewing the company as trustworthy and causes a devaluation of the company’s stock, both of which can have negative consequences for any company that wishes to continue to successfully operate. (Cory Janssen, Investopedia).

The requirement to meet the new diversity objectives, phases in over a period of time. The majority of companies, meaning those listed on The Nasdaq Global Select Market, The Nasdaq Global Market, and The Nasdaq Capital Market, must have at least one diverse director by the later of two calendar years after the rule’s approval date or the date the company files its proxy statement for its annual shareholder meeting during the calendar year after the rule’s approval date. (Nasdaq, Rule 5605(f)). These same companies must meet the two diverse director requirements by the later of four calendar years after the rule’s approval date or the date the company files its proxy statement for its annual meeting during the calendar year occurring four years after the rule’s approval date. (Nasdaq, Rule 5605(f)).

In addition to requiring diversity on a company’s board, the rule also mandates that companies listed on the Nasdaq exchange to annually disclose their board diversity data in the form of a “Board Diversity Matrix.” The matrix disclosures require a non-foreign issuer to indicate the total number of directors (i) on the board; (ii)  who identify as female, male, or non-binary; (iii) who did not disclose a gender identification; (iv) who identify ethnicity and race (African American or Black, Alaskan Native or Native American, Asian, Hispanic or Latinx, Native Hawaiian or Pacific Islander, White, or two or more races or ethnicities) disaggregated from gender identity; (v) who identify as LGBTQ+; and (vi) who chose not to disclose race or ethnicity or whether they identify as LGBTQ+. (SEC, SEC Release 34-92590). Diversity disclosures by foreign-issuers are slightly modified to address the fact that some countries do not permit foreign issuers to make such disclosures. (SEC, SEC Release 34-92590). In particular, a foreign issuer’s matrix disclosures require the foreign-issuer to only indicate the total number of directors (i) on the board; (ii) who identify as female, male, or non-binary; (iii) who did not disclose a gender identification; (iv) who are an underrepresented individual in the issuer’s home country or jurisdiction; (v) who identify as LGBTQ+; and (vi) who chose not to disclose any demographic background. (Nasdaq, Rule 5606). Failure to provide the required Diversity Matrix information can also result in delisting after notice and an opportunity to cure such deficiency. (SEC, SEC Release 34-92590).

The requirement to provide the Diversity Matrix is effective on the later of one calendar year from the rule’s approval date or the date the company files its proxy statement for its annual meeting during the calendar year after the rule’s approval date. (Nasdaq, Rule 5605(f)).

In addition to accommodating foreign issuers, the new rule also recognizes that the board diversity requirement may be more difficult for certain companies to meet, such as newly listed companies or companies with smaller boards. (SEC, SEC Release 34-92590). A listed “Smaller Reporting Company,” defined in the Securities Exchange Act of 1934, as amended, must have at least two members on its board of directors who are diverse, including at least one of those directors who self-identifies as female within the identified time frames. (Nasdaq, Rule 5605(f)). The other diverse director can be one who either self-identifies as female, LGBTQ+, or as an underrepresented minority. Id. A listed company with a board that is comprised of five or less members must have at least one member who is diverse within the identified time frames. In the circumstance where a company had five board members before becoming subject to the new rule, it only has to meet the two diverse board members requirement when it becomes a board of six or more. (Nasdaq, Rule 5605(f)).

By implementing these new rules, Nasdaq has taken a step that other organizations, such as the SEC and the New York Stock Exchange, have not. The hope is that the new rules will “push companies to get more serious about not just recruiting qualified directors from underrepresented communities, but also push stragglers to disclose why they’re falling behind.” (Michael Nagle, Bloomberg Law). Additionally, the Board Diversity Matrix will create consistent disclosure across companies listed on Nasdaq and put shareholders and investors in a position to readily see how diversified a company’s board is across a number of metrics. Id. The new disclosure requirements will help those asset managers, such as BlackRock Inc., and proxy advisory firms, such as Glass, Lewis & Co., that have already pushed for more information regarding the composition of companies’ board of directors. (Michael Nagle, Bloomberg Law). The question remains: Will Nasdaq’s new rules convince the SEC and the NYSE to step into the board diversity arena with new rules of their own and thus push even more companies to be cognizant of their board’s composition, moving the ball forward on the need for greater diversity and representation in the board room?