From diversity to dividend: increasing women on corporate boards

From diversity to dividend: increasing women on corporate boards

The role of a company board of directors is to act in the best interests of its shareholders. As investors, we vote to approve board members of our portfolio holdings. We take this responsibility seriously. First and foremost, we believe it is critical for board members to be independent in order to ensure objective decision making and avoid conflicts of interest. A board should be empowered to effectively carry out its duties, such as selecting a CEO and approving management’s strategy.

We believe board members should have deep experience as well as knowledge of the company and the ecosystem in which it operates. Also, a diverse group by age, gender, and ethnicity can bring a broader array of perspectives and thus further improve the impact a board can have on company performance. Yet these important posts are still dominated by white men, mainly in their 60s, who represent the status quo. In this paper, we focus on ways to increase the number of qualified female leaders on corporate boards.

Opportunities for women to serve on corporate boards

The percentage of director seats held by women continued to increase in 2022 (despite a brief dip during Covid), hitting a record 24.5% of the 2,811 constituents of the MSCI All Country World Index (ACWI). Almost all of the companies in developed markets in Europe, Middle East, and Asia had one woman on their boards¹.

While progress has been made, the percentage of women on boards is still far below that of women in the workforce or in society. Large global companies have not been expected to nominate women to their boards of directors at a one-for-one match with male directors (so-called parity) for decades, according to the index provider MSCI. However, in our view, there are benefits to having women on boards, such as contributing their unique life experiences and perspectives.

How to pick up the pace? We believe there are two approaches: One is to force change through lawmaking. The other way is through active engagement where institutional investors like us work with companies to increase gender diversity.

New EU regulation seeks gender balance on company boards

On the lawmaking front, regulation concerning gender diversity is already on the rise. While it took a decade of debate, the European Union passed a law last year, the Women on Boards Directive, which says that large, listed companies must have a minimum of 40% female non-executive board members by June 2026, or 33% female representation in executive and non-executive directorships. The EU regulations provide a framework for the transparent search and subsequent filling of board seats and grant member states the authority to impose “dissuasive” penalties for non-compliance². The EU follows Norway, the first country to have such a law, which it passed in December 2005. The Nordic country is also now exploring an extension of its Gender Balance Law; under the new directive, large and midsize private companies would have the same gender quota³. We are engaging with our portfolio holdings and actively discussing their compliance status in this area.

Emerging markets have also joined the diversity effort. For example, Malaysia introduced a 30%-female-director recommendation in its code on corporate governance in 2017. The Malaysian stock exchange introduced a hard rule on female board directors, and in January 2022, the Exchange announced the requirement for public limited companies (PLCs) with a market capitalization of RM2 billion as of 31 December 2021 to appoint at least one woman to their boards by 1 September 2022. For the remaining PLCs, compliance with this requirement was necessary by 1 June 2023. India also strengthened its gender-diversity requirements in 2020 to include an independent female director at the top 1,000 companies based on market cap. Similar regulations around gender diversity on boards came into effect in Korea in August 2022.

We have been encouraging our portfolio companies to add women to their board rosters, through direct engagement and our proxy voting policies. We have written about our efforts in our Turning Stones Blog, and in our stewardship reports. In part due to our engagement, Hong Kong-based Techtronic Industries, which makes power tools, added a female director to its board in 2021 and a second one was added in 2022. Similarly, OBIC, a Japanese IT company, added a female director in 2023.

But change has been painfully slow. Many companies push back that they simply cannot find enough qualified female board members. This is in large part due to historical preference and the notion that former CFOs and CEOs represent ideal qualifications. If that is how the talent pool is defined, then it is a mathematical reality that few women are part of that talent pool. Currently, only 5.8% of the constituents of the MSCI ACWI Index are female-led (CEO led). The percentage among retired CEOs is even lower than that. Also, those in the CFO position ranged from about 14% (developed) and 20% (emerging) depending on the market⁴.

We imagine that as companies scramble to be compliant with the new rules about board diversity, there will be significant demand for former female CEOs and CFOs to add to their boards. This may lead to overboarding of women, which is far from an ideal outcome if the goal is to create an effective board. We would vote against an overextension of duty regardless of who has taken the board seat.

Expanding talent pools

The solution? We believe that expanding the meaning of “qualified” to recognize that there’s an abundance of talent in the market requires a change in recruitment mindset. Myopic thinking may overlook credible candidates who may play a critical role in representing shareholders with relevant ideas, skills, and capabilities.

Some female directors are already recruited from nonprofits, academia, and the public sector. But there are other talent pools to consider. One overlooked pool may be former female leadership at the unit level. Unit operators have been groomed for prime time by having all the operational, governance, and risk management experience of the business in subsidiary operations – while still developing relationships with the parent’s board and sometimes investors. There is some evidence that this is happening. While most directors come from the CEO/CFO ranks, other corporate leadership skills are increasingly valued: 33% have experience as division/subsidiary/functional leaders, an increase from 21% ten years ago, according to a Harvard study⁵.

Female human resource executives could also be excellent considerations. We believe it is a mistake to think of HR leaders as administrative rather than strategic thinkers. When there is a change of a CEO, an important job for the board is to find the right person to lead the company. HR executives are experts at recruiting. They also play an important role in developing talent, solidifying corporate culture, and setting compensation and incentives — all strategic issues board members grapple with.

Recruitment efforts for filling board seats primarily target a narrow set of executive experiences and demographics. Better strategies will reconsider the standards for operational or business experience and instead single out capable candidates from subsidiary companies or human resource functions. We believe both of these options will bring valuable accomplishments and know-how to these important posts and bring more women into the fold.

1. https://www.msci.com/documents/10199/36771346/Women_on_Boards_Progress_Report_2022.pdf
2. https://www.europarl.europa.eu/news/en/press-room/20221118IPR55706/parliament-approves-landmark-rules-to-boost-gender-equality-on-corporate-boards
3. https://www.reuters.com/business/wider-diversity-push-norway-proposes-40-gender-quota-large-unlisted-firms-2022-12-12/
4. https://www.msci.com/documents/10199/36771346/Women_on_Boards_Progress_Report_2022.pdf
5. https://corpgov.law.harvard.edu/2021/11/13/2021-u-s-board-index/