On December 1, 2020, The Nasdaq Stock Market LLC (Nasdaq) filed a proposal with the Securities and Exchange Commission (SEC) to adopt listing rules that would enhance board diversity and transparency among companies listed on its exchange. The proposed rules would require Nasdaq-listed companies (other than exempt entities, as discussed below) to:
Nasdaq’s proposal is subject to review by the SEC and was published in the Federal Register on December 11, 2020. The proposal has also undergone a public comment process. The SEC has until March 11, 2021 to consider public comments received and determine whether to approve the proposed rules.
Diverse board representation
The proposed rules would require the boards of certain Nasdaq-listed companies to have at least two “Diverse” directors, including one director who self-identifies as a “Female” and at least one director who self-identifies as an “Underrepresented Minority” or as “LGBTQ+.”
The terms Diverse, Female, LGBTQ+ and Underrepresented Minority are defined as follows:
If the company does not have two Diverse directors, then the company must disclose why it does not. To the extent the board of a company does not meet the diversity objectives, the opportunity for the company to provide an explanation for not doing so is intended to provide both the company and investors with additional transparency.
Board diversity disclosure
The proposed rules would also require Nasdaq-listed companies, subject to certain exceptions, to annually disclose statistical information related to self-identified gender, race and self-identification as LGBTQ+ for each member of its board of directors. Companies would be required to make this disclosure using the following Board Diversity Matrix or a substantially similar format:
Companies would be required to provide this disclosure in their proxy statement or information statement for their annual shareholder meeting, or on their website. If the company chooses to disclose the information on its website, the company must also include a URL link to the disclosure through the Nasdaq Listing Center no later than 15 calendar days after the company’s annual shareholder meeting. Notably, the proposed diversity disclosure requirement is limited only to the boards of directors of Nasdaq-listed companies, and does not require disclosure of diversity metrics for management and staff.
After the first year of including the new required disclosure, all companies must disclose diversity statistics for the current year and year immediately prior using the Board Diversity Matrix or a substantially similar format.
Entities exempt from compliance with the proposed rules include: acquisition companies; asset-backed issuers and other passive issuers; cooperatives; limited partnerships; management investment companies; issuers of non-voting preferred securities, debt securities and derivative securities; and issuers of certain other securities listed under Nasdaq’s Rule 5700 Series.1
Nasdaq exempts “management investment companies” from certain of its corporate governance listing rules, including the proposed rules, based on the premise that funds “registered under the Investment Company Act of 1940 are already subject to a pervasive system of federal regulation in certain areas of corporate governance.” The current Nasdaq definition of “management investment companies” excludes business development companies (BDCs) because BDCs are not technically registered under the 1940 Act, even though BDCs are subject to almost all of the same corporate governance regulation under the 1940 Act as registered investment companies. Due to this distinction, BDCs would be subject to the requirements of the proposed rules. However, we are aware of some inconsistent interpretations of the potential applicability of the proposed rules to BDCs. We believe that BDCs should be included in the definition of “management investment companies” for purposes of all Nasdaq rules and are seeking an audience with Nasdaq representatives to discuss this issue.
Compliance requirements and timing
If the proposed rules are approved, listed companies must be in compliance based on the following timetable, beginning from the date that the SEC approves the proposed rules (Approval Date):
Phase-in period for newly listed issuers
Newly listed companies, so long as they were not previously subject to a substantially similar requirement of another national securities exchange, will be required to comply with the proposed rules by the later of (a) the compliance periods described above or (b) one year after the date of listing.
Foreign issuer compliance
Foreign Issuers (including Foreign Private Issuers) and Smaller Reporting Companies2 have more flexibility in how they may comply with the proposed rules. Both may satisfy proposed Rule 5605(f) requirements by having two Female directors (in lieu of one Female and one Underrepresented Minority or LGBTQ+ director). Foreign Issuers would be able to comply with the second Diverse director requirement with a director who meets a distinct definition of “diverse” based on where the company is located.3
Under the current Nasdaq proposal, if a company fails to comply with the proposed rules, it has until the latter of (i) its next annual shareholder meeting or (ii) 180 days from the event that caused the deficiency, to cure. The company can cure the deficiency either by nominating additional directors so that its board satisfies the diversity requirement or by providing the requisite disclosure via proxy statement, information statement or on the companies’ websites. If a company does not regain compliance within the applicable cure period, it will become subject to delisting.
Comparison to CA board diversity requirements
Nasdaq’s proposed rules come on the heels of various state measures that also aim to address corporate diversity. Notably, Nasdaq’s proposed rules differ from the rules mandated by California’s recently adopted diversity legislation in the following ways:
What comes next
Nasdaq’s proposal is subject to review by the SEC and was published in the Federal Register on December 11, 2020. The SEC has until March 11, 2021 to determine whether to approve the proposed rules.
While the new Nasdaq requirements resulting from the proposed rules would not become immediately effective upon SEC approval, Nasdaq-listed companies may consider starting to compile diversity statistics for their boards and reviewing Diverse candidates for director seats.
A copy of the proposed rules can be found here.
1 For more detail on each category of exempt entity, please refer to the applicable definitions in Nasdaq’s corporate governance listing rules, available here.
2 Nasdaq proposes to use the Smaller Reporting Company definition set forth in Rule 12b-2 of the Securities Exchange Act of 1934, meaning “an issuer that is not an investment company, an asset-backed issuer (as defined in § 229.1101 of this chapter), or a majority-owned subsidiary of a parent that is not a smaller reporting company and that: (1) Had a public float of less than $250 million; or (2) Had annual revenues of less than $100 million and either: (i) No public float; or (ii) A public float of less than $700 million.” See 17 C.F.R. § 240.12b-2.
3 For boards of Foreign Issuers, an individual can qualify as an “Underrepresented Minority” if they self-identify as an underrepresented individual based on national, racial, ethnic, indigenous, cultural, religious or linguistic identity in the company’s home country jurisdiction.