There’s a new paper from the Investor Responsibility Research Center (IRRC) and Institutional Shareholder Services on how shareholder activism affects board composition and refreshment, and at first glance it may seem perplexing. Investor activism, the paper concludes, does not promote gender and racial/ethnic diversity. But it does promote boardroom independence. Just those two sentences made questions start popping up in my head like the moles in Whack-A-Mole.
Question 1: How can this be, when so much shareholder activism is directly aimed at diversifying the gender and racial composition of boards?
Here’s how. Many investors, including Pax, have been engaging with companies for many years on many issues, including board diversity, using tools like engagement, proxy voting and shareholder proposals to bring attention and motivate value-enhancing action. In March, State Street and BlackRock—who together had around $7.5 trillion in assets at the time— announced they were undertaking initiatives to help increase the gender diversity of boards, joining other investors like Pax and asset owners like CalPERS, CalSTRS, New York State and City retirement plans in actively urging companies to diversify their boards.
The IRRC study focuses on a new kind of activist shareholder that typically comes from a hedge fund, targets only a few companies by taking significant positions in order to put their own nominees on board, and generally have a specific idea about how to improve shareholder returns. (This is not what Pax does).
That type of activism tends to work, according to McKinsey, at least in the short term. There is some concern over whether that sort of activism is effective in creating value over the longer term, and the literature doesn’t all point in one direction—in part because some of the academic work on the issue defines “long term” as one year. For the sake of clarity, I will now call the first type “active owners,” and the hedge fund type “investor activists.”
Question 2: So how is it that both kinds of investors—both active owners and investor activists—have such different impacts on board diversity?
The IRRC study notes that activist investors tend to decrease gender and racial/ethnic diversity on boards, though the boards of the companies do tend to be somewhat younger when they’re finished with them.
The active owners like Pax and CalPERS and Calvert – and now State Street and BlackRock – that use proxy votes to signal their non-approval of all-male boards, or who, like Pax, file shareholder resolutions aimed at making gender diversity part of every director search, have been successful in raising the gender diversity and to some extent the racial diversity of boards, though that success has been anything but rapid, and more progress is certainly needed. Board diversity has been rising, as the IRRC study notes, in the S&P 1500, with the proportion of boards with at least one woman on them rising from 72% in 2011 to 83% in 2015. In contrast, at companies targeted by activists, boards were less likely to have at least one woman director following a campaign than preceding one.
Both types of investors claim to be about enhancing value, and both can cite studies showing that their objectives are value-enhancing. The difference is in the tools: activist investors aim to put specific people on boards with the specific objective of changing company actions to increase payouts, and that can work—at least for a while. Active owners aim to create long-lasting conditions at companies that enhance value for the foreseeable future.
There are many ways to create value. For those of us who have been and remain active, engaged shareowners, there is a single belief when it comes to diversity: companies that are able to use the talents of the entire human race are more likely to succeed than companies that rely primarily on the white male demographic—which is about 12% of the world’s population. Do the arithmetic.