SEC Approves Nasdaq's Board Diversity Rules

The Securities and Exchange Commission (SEC) on August 6, 2021, approved the Nasdaq Stock Market's proposed listing rules regarding board diversity. Nasdaq's new rules require a Nasdaq-listed company to disclose self-identified board demographic data on an annual basis in a prescribed matrix format. A company also will be required to have at least two diverse directors within specified timeframes, or to provide an explanation for why it to does not meet this objective.

There are exceptions to the rules for certain companies, and the diversity objective rule is phased in over a period of years. In addition, the SEC approved Nasdaq's proposal to provide certain Nasdaq-listed companies with one year of complimentary access to certain board recruiting services in order to access board-ready diverse candidates.

Diversity Matrix - Annual Statistical Disclosure

The new rules require each Nasdaq-listed company to disclose annually its board-level diversity data in a standardized matrix based on the directors' self-identified gender, race, and LGBTQ+ status. If a director chooses not to self-identify, there is an "Undisclosed" category as well. After the first year providing the matrix, the rule requires disclosure for the current year and the immediately preceding year.

A Nasdaq-listed company must disclose the initial diversity matrix by August 8, 2022, either in its proxy statement or on its website. 

Board Diversity Rule - Comply or Explain

The new rules also will require each Nasdaq-listed company (with specified exceptions) to have, or explain why it does not have, at least two diverse board members, including at least one self-identified female and at least one who self-identifies as an underrepresented minority or LGBTQ+. The terms "underrepresented minority" and "LGBTQ+" are defined under Nasdaq rules. Nasdaq will not assess the substance of the company's explanation for not meeting the applicable diversity objective, but simply verifies that the company has provided one. Neither the failure to meet the diversity objective nor the substance of the company's explanation will be a basis for delisting. 

Slightly different criteria apply to specified types of companies. For a company with a board of directors of five or fewer members, the new rules require that it have, or explain why it does not have, one diverse board member. Foreign issuers can meet the diversity objective with two female directors, or with one female director and one director who is LGBTQ+ or is an underrepresented individual based on the country of the company's principal place of business. Smaller reporting companies can meet the diversity objective with two female directors, or with one female director and one director who is LGBTQ+ or an underrepresented minority.

In addition, special purpose acquisition companies, or SPACs are not required to provide disclosure under the new rules until their business combination.

Transition Period for Board Diversity Rules

Companies will have a transition period to meet the new diversity rules. The timeframes for transition are based on a company's listing tier:

Nasdaq Global Select Market or Nasdaq Global Market - one diverse director by August 7, 2023, and two diverse directors by August 6, 2025

Nasdaq Capital Market - one diverse director by August 7, 2023, and two diverse directors by August 6, 2026

Companies with five of fewer directors (regardless of listing tier) - one diverse director by August 7, 2023

If a company files its proxy statement or information statement (or for companies not filing a proxy statement, in its Form 10-K or 20-F) for the company's annual shareholder meeting in the calendar year for each of the respective dates mentioned above, then the company will have until the date it makes such filing to meet, or explain why it does not meet, the applicable diversity objective.

For example, if a company files its 2023 proxy or information statement (or its Form 10-K or 20-F) on or after August 7, 2023, then the company must have one diverse director, or explain its reasons for not doing so, by the time it files its 2023 proxy or information statement.

Like the board diversity matrix, the board diversity disclosure can be provided in the company's proxy statement or on the company's website.

In addition, the rule provides various phase-in periods for companies newly listing on Nasdaq based on the particular tier on which the company lists.

Board Recruiting Services

Nasdaq will offer "eligible companies" one year of complimentary access to a board recruiting service that provides access to a network of board-ready diverse candidates. An "eligible company" is a listed company that does not have at least one director who self-identifies as female and one director who self-identifies as an underrepresented minority or LGBTQ+. Different definitions apply to foreign issuers and smaller reporting companies. While this service is optional, it could help companies in complying with the board diversity objective.

What's Next

Based on demands by investors, proxy advisory firms, and regulators for greater board diversity and transparency, we believe there will be additional developments in this area. Companies not listed on Nasdaq may also be required to address board diversity as the SEC, state authorities, and proxy advisory firms focus on this area. Indeed, California already has adopted a similar rule applicable to public companies headquartered in California, and that law is currently the subject of a legal challenge. Likewise, there is one pending legal challenge to the SEC's approval of Nasdaq's new diversity rules.

Companies can take steps now to prepare for the new Nasdaq rules, investors' expectations, and other potential requirements, including:

• Schedule a governance committee meeting to cover developments in board diversity rules and investor and proxy advisory firm guidance in this area.
• In conjunction with counsel, determine the appropriate manner to solicit racial/ethnic and LGBTQ+ self-identifying information and establish internal controls and procedures in connection with the access and aggregation of this sensitive information.
• Determine whether the board diversity matrix will appear in the company's proxy statement or on the company's website by the 2022 deadline.
• Consider additional proxy disclosure regarding the company's policy on board diversity, e.g., intention to appoint diverse directors in the timeframes specified by the Nasdaq diversity objectives.

Attorneys in Ballard Spahr's Securities and Capital Markets Practice Group advise private and public companies through all stages of development and capital-raising activities, and help clients comply with public reporting, proxy, and disclosure obligations.