It’s time boards paid attention. Diversity, equity and inclusion issues could be material risks to your business.

Corporate boards and management seem to be finally waking up to the fact they must pay attention to a range of intangible risks – among them, environmental, social, governance and technology risks (ESGT – see Dialogue, Q2 2021). Within the social dimension, the most prominent risks include those relating to diversity, equity and inclusion (DEI). If they are to exercise more effective oversight on these crucial issues, boards need to rethink their approach to the two trends that are driving DEI risk, and put in place targeted metrics and oversight to give clear visibility of the risks their businesses face.

The Black Lives Matter and Me Too movements have made clear that consumers expect companies to take action for inclusion. According to a 2020 Edelman survey conducted in the wake of the George Floyd killing, 60% of consumers expect brands to take a stand for racial justice; 60% would boycott a brand based on its Black Lives Matter stance. Similarly, a prior survey by Cone Communications found that 70% of consumers expect brands to support social justice; 76% of Millennials conduct follow-up research to see if the company is authentic. Hypocrisy is quickly called out on social media.

So far, boards have primarily exercised oversight for inclusion transgressions by replacing the chief executive: “You could say there’s a cancel culture in the boardroom,” in the words of corporate governance advocate Nell Minnow. But this is to act after the damage has been done, when management could be distracted by a high-profile scandal and competitors might be gaining market share as the company takes a reputational hit.

Many boards and management have a capability gap when it comes to DEI in general, and inclusion in particular. Two key stakeholder trends point to the need for a greater understanding of DEI in strategy and for meaningful data on these issues. With an improved understanding, companies can provide management with better tools on DEI, and boards with better oversight metrics to gauge their DEI risk.

Two trends to watch

The first trend is the rise of hashtag activism, which empowers two key stakeholder groups: employees and consumers. Many executives were alerted to this trend when #MeToo changed the corporate world after 2017; since 2020, #BlackLivesMatter has reinforced this new normal and arguably shifted the balance of power even further.

In this environment, any tweet has the potential to go viral and cause reputational harm. Stanford researchers David Larcker and Brian Tayan found that scandals surrounding chief executives result in losses worth 3.1% of market capitalization over the three days when the story first breaks. Each disgruntled employee and incidence of bad behavior raises the likelihood of a Twitter backlash.

The second trend is changing consumer and employee expectations regarding company culture. In addition to consumers using their purchasing power to support companies that share their values, employees are choosing workplaces that prioritize inclusion. According to Deloitte, 57% of Gen Z say a positive workplace culture is a key factor when choosing an employer. Stated values are not enough: employees are looking for metrics, indicators and specific action plans.

These employees have large institutional investors on their side. Several, like State Street and BlackRock, have made it clear that stakeholders will no longer tolerate a passive or negligent approach to DEI issues.

An improved approach to DEI risk

In the face of these trends, boards and executive teams need to move beyond simply acknowledging DEI issues to being proactive in addressing them. Boards must ask themselves:

  • What does this renewed focus on inclusion mean for us as a board of directors? For our fiduciary responsibilities and our oversight of the company’s talent pool and succession planning?
  • How do we factor the risks and benefits of the impact of social media into business decision-making? Does the company’s management properly track social media related issues and risks, especially ESGT risks – and most especially inclusion risks?
  • How do we as a company avoid a social media fueled ‘takedown’ and instead build public opinion and social capital? Do we have a team – preferably cross-disciplinary – that is expert and able to search the horizon (or the deep crevices of the dark web and similarly opaque or obscured social media platforms) for early warnings?
  • Is ‘cancel culture’ random, or are there things our company can, and should, do to build a positive reputation for DEI?

Measurement and oversight

What, then, can boards do to prevent inclusion risk from playing out? Like any other business priority, it comes down to identifying key performance indicators (KPIs) and holding management accountable for improving them.

Step one is to engage the senior management team and reinforce the importance to the board of DEI as a key risk factor.

Step two is to identify metrics on DEI, in particular relating to harassment and retaliation. Diversio has open-sourced its academically validated Inclusion Framework, which provides six inclusion KPIs and 27 sub-metrics to guide boards and executives. This scorecard is a good start for any board.

Step three is to determine the severity of inclusion risk by comparing this data to a relevant peer set, looking at both workforce data and public perceptions. One way to determine the severity of inclusion risk is by using analytical tools which apply machine learning algorithms to identify key DEI pain points from employee feedback.

Step four is for management to report periodically on DEI risk and provide an associated plan of action. Ideally, this will include an accountability mechanism and be issued directly from the chief executive – perhaps even becoming part of the executive team’s performance metrics.

Navigating a new balance of power

The twin forces of social media and changing stakeholder expectations have raised the stakes for organizations when it comes to DEI risk. Boards that fail to act court the risk of major losses of reputation, business value and market share. On the bright side, DEI risks can be tracked and measured through data-driven indicators and ongoing accountability.

The benefits of a focus on DEI risk are significant, for companies, their stakeholders and shareholders, and for society as a whole.

Andrea Bonime-Blanc is founder and chief executive of GEC Risk Advisory. Laura McGee is founder and chief executive of Diversio.