The Securities and Exchange Commission (“SEC”) approved Nasdaq Inc.’s new listing rule aimed at improving diversity on corporate boards. The new listing rule proposes that companies listed on the Nasdaq stock exchange must include women, racial minorities and LGBT individuals on their boards. Specifically, the rule requires listed companies to have at least one woman on their board, in addition to a director who is a racial minority or one who self-identifies as lesbian, gay, bisexual transgender or queer. Nasdaq states the purpose of the rule is to demonstrate that with proper disclosures and clear goals, companies and investors can make capitalism more inclusive by making more opportunities for more people through a market driven solution. Companies that don’t comply with this rule will have to justify their decision to remain listed on Nasdaq. The new listing rule could impact nearly 3,000 companies who are currently not in compliance with the rule. Nasdaq found in a review in late 2020 that more than three-quarters of its listed companies wouldn’t have met its proposed requirements. Therefore a vast majority of Nasdaq listed companies must change their corporate boards in order to remain listed on the exchange. Such a broad sweeping change will require boards to be cognizant of the various steps necessary to recruit and appoint diverse board members. 

The new listing rule, has no doubt been controversial, drawing public statements and commentary from the SEC, high profile Senate Republicans, and conservative groups. SEC Chairman Gary Gensler said in a statement that the rule will allow investors to gain a better understanding of how Nasdaq listed companies approach board diversity, while allowing companies to have flexibility to make decisions that focus on their shareholders. Some conservative groups, Republican commissioners and Republican Senators have criticized the rule. They believe the rule is overreaching and improperly promotes progressive social ideologies. They also believe that the rule could drag the SEC, into legal disputes over discrimination, as the SEC is an adjudicating body for delisting decisions. The CEO of Nasdaq has countered this notion by, citing many studies that have indicated that a more diverse board, leads to stronger corporate governance and financial performance. Lawyers for Nasdaq have also argued against the claim that the new listing rule, is a sexist and racist quota system, because the rule allows for companies to provide a written explanation for why they are unable to meet diversity targets, thus allowing companies who are non-compliant with the rule to remain listed. Nasdaq wants to ensure that the new listing rule does not improperly delist companies. After reviewing commentary on their new listing rule, Nasdaq created an exception for small companies to comply with the rule. Small listed companies with five or fewer directors can satisfy the rule with one director from a diverse background instead of two. These exceptions show Nasdaq’s flexibility and understanding that companies may have challenges in appointing two diverse board members.

With the new rule being approved by the SEC, corporate boards need to have a strong pipeline of diverse candidates to ensure they are able to appoint and retain diverse board members. If boards are unable to fill vacancies in accordance with the listing rule, they should work closely with counsel to articulate why they are unable to comply. Finally, they should stay up to date with potential litigation that may weaken or strengthen the new rule.