Diversity target setting: solution or distraction?

Summary: With non-financial disclosure requirements increasingly focusing on DEI, we ask whether the target setting which typically centres around demographic diversity at the board level helps or hinders the development of a culture of DEI. We discuss some upcoming regulation, the confusion between measures and targets, manifestation and ambition and how sometimes what you are measuring isn't what you think you are measuring.

Why this is important: For sustainability professionals, understanding the most effective way to develop and embed a DEI culture within a firm can enhance strategy and performance for the long term.

The big theme: A key facet of sustainability is getting the most constructive impact for society as a whole with the most appropriate resources that we have. That is often people. Those people can have different backgrounds, different ways of thinking and different starting points. With an equitable view point we can create a culture that includes these diverse viewpoints and skills for the benefit of all.

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DEI and disclosure regulation

DEI is an umbrella term that brings together three linked but distinct concepts: Diversity, equity and inclusion.

Diversity is the presence of a wide range of people with differences, including gender, gender identity, age, race, nationality, religion, ethnicity, sexual orientation, socioeconomic status, physical ability, or even political perspective.

Whilst diversity highlights how people differ, equity is about understanding that different groups of people face different challenges. Note that this differs from equality, which makes no assumptions about people's starting points. Equity is more focused on outcomes than inputs.

Inclusion is about creating the right culture and environment so that everyone, regardless of their differences - their diversity - feels that they belong and are valued. They are not prevented from striving to reach their potential.

There is a strong social case for fostering an inclusive work environment. Providing jobs, particularly in leadership positions, to underrepresented people can create a virtuous circle where role models are created and the workforce becomes more diverse over time. There is a social responsibility.

There is also a financial one. Alex Edmans, Caroline Flammer and Simon Glossner recently looked at DEI in a ECGI working paper and found that high DEI was positively associated with all but one of the eight measures of future profitability that they studied.

There are a growing number of disclosure standards that require companies to publish information on diversity, social matters and treatment of employees.

For example, the EU's Corporate Sustainability Reporting Directive (CSRD) which came into force at the beginning of 2023 builds on rules introduced by the Non-Financial Reporting Directive (NFRD) and seeks to shine a light on diversity on company boards.

Nasdaq's board diversity rules have an important deadline coming up at year end (we shall discuss that shortly).

But diversity in itself is not enough.

"...financial performance depends not only on hiring high-ability and cognitively diverse employees, but also fostering a culture of equity and inclusion that allows them to contribute their abilities and perspectives."

^{Diversity, Equity and Inclusion", ECGI Working Paper N 913/2023. © Alex Edmans, Caroline Flammer and Simon Glossner 2023}

In addition, many of the disclosure requirements are focused on the board or on senior management. In a recent article Alison Taylor (adjunct professor at NYU Stern School of Business) and Brian Harward (lead research scientist at Ethical Systems) commented that ...

Companies would not simply provide additional bonuses for meeting ‘human capital’ measures at the executive level and then hope these magically trickle down

^{Alison Taylor, Brian Harward, "Incentivising ESG: what does it really take?", SustainableViews}

There are some encouraging signs though. The UK Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA) have both issued consulting papers on proposals to introduce a new regulatory framework on Diversity and Inclusion in the financial sector. Their aim is to improve outcomes for consumers and markets by "reducing groupthink, support healthy work cultures, unlocking diverse talent and improving understanding of and provision for diverse consumer needs."

Their proposals include developing an evidence-based D&I strategy, owned by the board, setting targets for each of the board, senior leadership and the employee population as a whole and that those targets, alongside data collected on diversity performance are reported to the FCA/PRA and publicly disclosed.

The provocation of the title of this blog is focused on target setting. Solution or distraction? Let's explore that starting with a diversity rule that has a looming deadline.