Blog: Ninth Circuit allows challenge to California board gender diversity statute to go forward

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In Meland v. Padilla, a shareholder of a publicly traded company filed suit in federal district court seeking a declaratory judgment that SB 826, California’s board gender diversity statute, was unconstitutional under the equal protection provisions of the 14th Amendment.  In April 2020, a federal judge dismissed that legal challenge on the basis of lack of standing. On Monday, a three-judge panel of the 9th Circuit reversed that decision, allowing the case, now called Meland v. Weber, to go forward.  The Court held that, because the plaintiff “plausibly alleged that SB 826 requires or encourages him to discriminate on the basis of sex, he has adequately alleged that he has standing to challenge SB 826’s constitutionality.”

Background. As you may recall, SB 826 requires that public companies (defined as corporations listed on major U.S. stock exchanges) that have principal executive offices located in California, no matter where they are incorporated, include, as then-Governor Jerry Brown phrased it, a “representative number” of women on their boards of directors. Under the law, each public company was required to have a minimum of one woman on its board of directors by the close of 2019. That minimum increases to two by December 31, 2021, if the corporation has five directors, and to three women directors if the corporation has six or more directors. The statute also requires that the office of the California Secretary of State post on its website reports on the status of compliance with the law. Under the statute, the Secretary may impose fines for violations, ranging from $100,000 to $300,000 per violation.  To date, the Secretary has neither adopted regulations regarding fines or imposed fines for violations.

Even proponents of the California law recognized the possibility of “equal protection” claims and other legal challenges—when Governor Jerry Brown signed the bill into law, he acknowledged that “serious legal concerns” had been raised. (See this PubCo post.) And many expected a flood of legal challenges to frustrate efforts to implement the bill. Nevertheless, California’s businesses appear to have accepted the requirements of the legal mandate—perhaps also feeling the pressure from large asset managers such as BlackRock and State Street—and have not filed suit.

However, two complaints were filed. The first, Crest v. Alex Padilla (as amended), filed by three California citizens and taxpayers in California State Court in 2019, was framed as a “taxpayer suit” that sought to enjoin Padilla, the then-California Secretary of State, from expending taxpayer funds and taxpayer-financed resources to enforce or implement the statute, claiming violations of the equal protection provisions of the California constitution.  (See this PubCo post.) (Note that a similar taxpayer suit has been filed against AB 979, the California statute patterned largely on SB 826, that mandates board representation of “underrepresented communities.” See this PubCo post.)

In the District Court. In the second case—the one under discussion here—Meland v. Padilla, now called Meland v. Weber (substituting in the new California Secretary of State as defendant), a shareholder of a publicly held corporation that is incorporated in Delaware and headquartered in California filed a complaint in November 2019 in the U.S. District Court for the Eastern District of California.  The complaint sought a declaratory judgment that the statute was unconstitutional under the 14th Amendment because it required shareholders to discriminate on the basis of sex when exercising their voting rights. The complaint alleged that the plaintiff was injured as a shareholder, separate from any injury to the corporation, as he would be prohibited from voting as he desired. The plaintiff also claimed that the statute is a sex-based classification that violates the equal protection provisions of the 14th Amendment because it “facially discriminates on the basis of sex” and “serves no important government interest.” The plaintiff also sought a permanent injunction preventing implementation and enforcement of the statute.  At the time the complaint was filed, the company had an all-male board and, the plaintiff asserted in the complaint, was required under the statute “to add a female member by the end of 2019 and two more female board members by the end of 2021 or face fines for failing to comply with the Woman Quota.” At the December 2019 annual shareholder meeting, the company’s shareholders elected a female director to fill a vacant board seat.

In support of its motion to dismiss, California argued, among other things, that the plaintiff lacked standing:

“Because SB 826 does not govern Plaintiff’s rights as a voting shareholder, Plaintiff cannot allege any direct injury to himself from the law, as distinct from injury to the corporation. He also does not meet prudential requirements for shareholder standing because, under principles of constitutional and corporate law, a shareholder lacks authority to sue for injury to the corporation. And even if he could properly allege injury derivative of the corporation, Plaintiff’s claims would fail because he cannot allege a cognizable ‘injury in fact’ to the corporation. Any harm incurred if the corporation failed to comply with the law, and if the corporation incurred a fine for such failure, is both too attenuated and too speculative to satisfy Article III standing requirements.”

California also argued that even if the plaintiff had standing, the case would fail as unripe, and may be moot; the plaintiff could not show that the company failed to comply with the statute or suffered a fine because, in fact, the company was in compliance. Without standing or a ripe claim, California contended, there was no federal jurisdiction. 

The District Court agreed and dismissed the case for lack of standing. The District Court found that none of the provisions of SB 826 affected the plaintiff’s 14th amendment rights to an extent sufficient to establish standing under Article III. While the plaintiff had argued that he had standing because the statute was compelling him, as a shareholder, to vote in a way that perpetuated sex-based discrimination, the District Court concluded that SB 826 “places a requirement and a possible penalty on publicly held corporations, but Plaintiff is not a publicly held corporation. He is a shareholder. And that is a distinction with a difference.”  In addition, the District Court reasoned, the plaintiff is not being forced to vote for any particular director: “notwithstanding SB 826, Plaintiff, as a shareholder, can vote in shareholder elections as he pleases. If, at future shareholder meetings, Plaintiff prefers a male board member nominee, there is nothing in SB 826 preventing him from casting a vote in favor of that nominee.” The plaintiff, the District Court also concluded, was not affected in any “personal or individual way.” Nor was the injury more than hypothetical.  The plaintiff had alleged that the company would be fined because it did not have a woman on its board; now, however, the company did have a woman on the board and would not be fined, at least for the foreseeable future.  As a result, even if there were an injury to the plaintiff, it was only a hypothetical one. The District Court also held that the plaintiff did not have prudential standing. Only the company faced fines under SB 826; the impact on the plaintiff was “merely incidental.”  According to the District Court, shareholders can have standing if their voting rights have “legitimately been impaired,” for example, when they have been denied the right to vote on certain matters altogether, but, as discussed above, the District Court did not find that to be the case here.  The plaintiff appealed. (See this PubCo post.)

In the 9th Circuit. In the 9th Circuit, the three-judge panel reviewed the case de novo, construing all material allegations of fact in the complaint in favor of the plaintiff. As framed by the Court, the key question was “whether Meland has adequately alleged that he has Article III standing to challenge the constitutionality of SB 826.” The single element at issue was whether “the plaintiff has suffered ‘an injury in fact.’… An injury in fact is ‘an invasion of a legally protected interest which is (a) concrete and particularized and (b) actual or imminent, not conjectural or hypothetical.’” In addition, standing under Article III requires that the “injury in fact must ‘affect the plaintiff in a personal and individual way,’…that is beyond ‘the psychological consequence presumably produced by observation of conduct with which one disagrees’…. Although this means that an ‘abstract, generalized grievance’ is insufficient to confer standing, …a person may suffer a concrete, personalized injury stemming from noneconomic harm….”

“Consistent with these standing principles,” the Court observed, “we have long held that ‘[a] person required by the government to discriminate by ethnicity or sex against others has standing to challenge the validity of the requirement, even though the government does not discriminate against him.’” That is the case, the Court said, “‘even if the beneficiaries [of the discrimination] are members of groups whose fortunes we would like to advance.’”  Accordingly, the Court concluded, if the plaintiff has plausibly alleged that SB 826 “requires or encourages” him to discriminate on the basis of sex, “then he has suffered a concrete personal injury sufficient to confer Article III standing.”

The District Court had concluded that the plaintiff had not suffered a “concrete, personal injury” because the “object” of SB 826 was the corporation, not its shareholders. The 9th Circuit panel disagreed, concluding that shareholders are certainly one of the objects of SB 826. In determining the “object” of a statute, the courts “consider the purpose of the government enactment and its practical effect.”  Here, the Court said, because shareholders elect directors, “for SB 826 to have any effect at all—it must therefore compel shareholders to act. Accordingly, the California Legislature necessarily intended for SB 826 to require (or at least encourage) shareholders to vote in a manner that would achieve this goal.” To California’s contention that nothing in SB 826 requires any individual shareholder to vote for a female nominee, the Court again disagreed, reasoning that SB 826 necessarily “requires or encourages” shareholders to vote for female directors because, otherwise, the shareholder “would contribute to the risk of putting the corporation in violation of state law and exposing it to sanctions.”  If that were not the expectation of the Legislature, “SB 826 could not achieve its goal of reaching gender parity.” After all, why would the Legislature enact “coercive” legislation, but then assert “that these rules are not meant to change [any shareholder’s] immediate behavior enough to confer standing”? (Note that the Court viewed as “unsupported by the pleadings” at this stage California’s contention that “SB 826 does not require Meland to make a discriminatory decision because board candidates are typically nominated by [the company’s] nominating committee, and the committee will ensure that the slate of candidates complies with SB 826.” Whether that contention reemerges at a later stage to any effect remains to be seen.)

California’s argument that, because the law does not impose monetary sanctions directly on shareholders, it does not require shareholders to discriminate also failed to impress the Court:  a “law may require or encourage action whether or not it imposes a monetary sanction for noncompliance.” Monetary sanctions on a corporation could be coercive to shareholders because they can affect a shareholder’s ownership interest. There is also the potential pressure of public shaming, the Court contended.

In the end, the Court concluded that Meland’s allegations were adequate to confer standing: as a shareholder, Meland is “subject to the coercive effect of SB 826. In order to keep [the company] in compliance with California law and avoid potential monetary sanctions (and alleged public shaming), Meland has alleged that he is required or encouraged to make discriminatory decisions in voting for board members.”

The Court next turned to the issue of prudential standing. California had argued that dismissal was proper because, under state law, the plaintiff’s claim was actually a derivative shareholder claim, and he lacked “prudential standing as a matter of federal law.” According to the Court, under “the Supreme Court’s prudential standing rule, a ‘plaintiff generally must assert his own legal rights and interests, and cannot rest his claim to relief on the legal rights or interests of third parties.’” Instead, shareholders can assert the claims of corporations only derivatively. Whether an action is “direct” or “derivative” is determined under the law of the state of incorporation. Under Delaware law, an action is “direct,” not “derivative,” if the shareholder shows that his injury is not dependent on an injury to the corporation.  On that basis, the Court concluded that Meland’s claim was direct because he had asserted his own rights—an allegation of a personal injury to him as a result of an unconstitutional law. His complaint did not allege an injury to the corporation, the Court observed. As a result, the Court concluded, prudential standing was not a concern.

The Court next addressed California’s argument that the case was unripe and moot.  The Court again disagreed. Meland’s injury was continuing and not hypothetical, the Court said; his alleged injury was his being subject to a law that requires or encourages him to discriminate on the basis of sex, an injury that is ongoing in that it continues through each annual election of directors. That injury could be remedied by a ruling of the Court. In addition, just because the company was now in compliance did not render the case moot—in the absence of relief from the Court, the plaintiff would continue to suffer the alleged violation of his rights at each election.

Accordingly, the Court reversed the decision of the District Court, concluding that the plaintiff does have standing.  As a result, we have certainly not heard the end of this case.

[View source.]

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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