Does Adding Women to the Board Improve Company Performance?
California’s new law mandating female directors on company boards is intended to advance gender diversity and give women a bigger role in running firms. But will the law actually change how companies are run—and impact their balance sheets?
Wharton management professor Katherine Klein said she had “a mixed reaction” to the new law, which is the first of its kind in the U.S. “It’s good to have more women represented on boards for a variety of reasons,” she noted, adding that it is a positive move in advancing fairness to women and for women’s representation. “The mixed part comes from the research evidence regarding women on boards, [which says that] changing the gender composition of a board does nothing for company performance. It doesn’t make it better; it doesn’t make it worse. There’s rhetoric in the legislation that says companies are going to be better, perform better. When you look hard at the research evidence, there is no reason to believe that.”
But looking beyond earnings, does having more women make a difference in other ways? Annalisa Barrett, clinical professor of finance at the University of San Diego’s School of Business, noted that the legislation also makes reference to “evidence that shows that there are many aspects of business performance that do improve when there are diverse viewpoints around the boardroom table.”
The law requires all publicly traded companies based in California to have at least one woman on their boards by the end of 2019. By 2021, firms that have at least five members on their boards of directors will be required to have two or three that are female, depending on the total size of the board. Companies that don’t comply would face fines between $100,000 and $300,000. While some hope other states will follow suit with similar laws, others say the law could invite significant legal challenges, in part because it is intended to apply to all companies with headquarters in California even if they are incorporated elsewhere.
At last count, California had 761 publicly traded companies. Alphabet (Google’s parent firm), Facebook and Apple are among the prominent companies that would have to add at least one woman director by 2021, according to a Washington Post report. Others based in the state that already have three women directors include Walt Disney, Chevron, Oracle, HP and Twitter, the report added.
No Business Case
The bill cites a 2012 Credit Suisse report to show a correlation between women on boards and improved performance at companies. The six-year study covered 2,000 companies globally. Credit Suisse followed it up with a report that covered 3,000 companies. “We find clear evidence that companies with a higher proportion of women in decision-making roles continue to generate higher returns on equity, while running more conservative balance sheets,” the 2014 report said. “In fact, where women account for the majority in the top management, the businesses show superior sales growth, high cash flow returns on investments and lower leverage.”
Klein said “there are hundreds of studies” on gender diversity, and that it would not be a good idea to “cherry pick” findings to support a specific stance. “When you look at the meta analyses on these—which are statistically rigorous efforts—they essentially find zero relationship between the diversity and the gender diversity on the board and company performance. There is no business case for putting women on the board. There is no business case for putting men on the board. Gender has zero impact.”
Shaping Performance by Picking CEOs
Both Klein and Barrett agreed, however, that having more women on company boards gives them a bigger say in key decisions. These include selecting a CEO, and ensuring that the CEO “is achieving strategic goals, that the company has a culture that is inclusive and is positive and does not lead to making risky decisions—all of which can be reflected in the incentives plans and the pay packages,” Barrett said.
At the same time, “it’s important to understand that the CEO has a lot of influence on the board composition,” said Klein. “CEOs are either picking the people who are on their boards or they’re working closely with an independent board chair to pick people who are on the board.
“The causal direction goes both ways,” Klein continued. “[If] you’re an enlightened CEO, and you care about pay equity and about inclusion, you’re likely to get board members who care about those. But if you don’t care about these, you’re not going to be that keen on having [someone who values them] join the board.”
The role of the CEO in selecting board members has changed “most dramatically in the last decade or decade-and-a-half,” Barrett noted. “Institutional investors are pressuring companies to have board compositions that reflect a team that brings diverse backgrounds, experiences and expertise to the deliberations that come to the board level.” The institutional investors work toward those goals by conferring with the chairs of nominating and governance committees at their companies to ensure “robust processes” for identifying independent board candidates, she added.
History of Initiatives
A few European countries have similar laws requiring companies to have a minimum number of women on their boards. France, Iceland, Norway and Spain have quotas of 40 percent for women on boards, while Germany has a 30 percent requirement. In the U.S., too, several states including California and Pennsylvania have over the years passed resolutions urging publicly held companies to add more women to their boards. California passed such a resolution in 2013. Pennsylvania passed its resolution in 2017, which called upon both public and private companies to allocate at least 30 percent of their board seats for women. However, such resolutions are not legally enforceable.
In California, companies were slow to act after the resolution, and that prompted the latest bill, said Barrett. The 2013 resolution sought to have between one and three women directors on the boards of companies headquartered in the state. Barrett said a study she conducted found that in the three-year timeframe set by the resolution, only 20 percent of the companies headquartered in California had achieved those goals. That uninspiring outcome led the bill’s co-sponsor “to take the next step and move to binding legislation in a mandated format as opposed to voluntary.”
Barrett noted that the corporate community may have its reasons for not acting sooner on bringing greater women’s representation on boards. The issue may not have come up on their agendas, or the companies may have found it difficult to find suitable director candidates to bring the desired diversity, she said. “Although there is progress being made on getting more women in the boardroom, it’s extremely slow. So the progress towards gender equity in the boardroom would take many decades to achieve.”
A Case for Tracking Performance
Barrett noted that the sponsors of the California bill maintain that their bid to ensure gender diversity on company boards “is not at the exclusion of other aspects of diversity,” though that has been one of the criticisms it has faced. But tracking those other aspects of diversity on corporate boards is difficult because regulators like the Securities and Exchange Commission do not require disclosures on them. “They’re not required to tell us the gender of each of their directors,” she said. “The way we get the data is by reading biographies of the directors and looking for pronouns.” She added that “common sense” would show that boardroom discussions would benefit from any aspect of diversity, and that it would lead to decisions “that are in the best interest of the shareholders, the company and society.”
Klein suggested a compromise solution for companies that may not want to be legally forced to add more women directors to their board. In the least, they must share information on their diversity record, she said. “Give us the gender diversity of the board, the top management team, and of your managers overall. And tell us [about] your gender pay gap—the amount of money that the average woman makes in the company versus the average man.”
She added that public disclosures of such information could prompt companies to take corrective action, and pointed to legislation in the U.K. that requires reporting on gender pay gaps. “Not surprisingly, companies are embarrassed when they have whopping pay gaps. The act of mandating companies to share data is good for researchers, but also moves the needle on [corporate] practices [in addressing diversity issues].”
Iceland, for example, has passed legislation that requires companies to subject themselves to external audits to prove that they are complying with laws on gender diversity.
In the U.S, institutional investors could play a big role in addressing issues of diversity on corporate boards, said Barrett. She added that institutional investors have the requisite power because they hold about 70 percent of all the traded stock of publicly held U.S. companies.
The California law could face challenges on two fronts, according to Barrett. One is “the constitutionality of giving preference to one diverse group over another,” and the other relates to the distinction between where the companies are headquartered and where they are incorporated, she said. A large percentage of California companies are incorporated in Delaware, Maryland and Nevada, and only 8 percent of the companies in the Russell 3000 stock index are both headquartered and incorporated in California, she added.
The California Chamber of Commerce is among those that has opposed the new law. “We are concerned that the mandate … focuses only on gender [and] potentially elevates it as a priority over other aspects of diversity,” it said in a positon paper.