Beware Of Business Fashions

Goldman Sachs has announced that is the board of directors of a company doesn’t include at least one woman then they, Goldman Sachs, will not be handling the IPO. A number of responses to this news are possible including “And about time too” if that’s what takes your fancy. However, as with all other such fashions that sweep society it is actually necessary to examine the contention before we decide that it is a good idea.

That is, should companies have a woman on the board? Or, more widely, should the board of directors be diverse as to race, gender, sexuality perhaps and all that good stuff? It is entirely obvious that we want to have diversity of experience and opinion, because that’s what the board is there for. But as the book “The Trouble With Diversity” pointed out – when discussing colleges – diversity of thought is not what people generally do mean when using that word, diversity.

The argument in favour of such an insistence upon diversity is that the female, or black say, viewpoint will be an aid to the decision making process of the company. It is, however, difficult to see this in action. For example, it is often noted that Twitter has a greater penetration into the population of people of colour – or, more accurately, the black American population which is why they say “Black Twitter”. More penetration than it does into the population not blessed with that extra melanin. Well, OK, this happens to be true.

Activists then go on to insist that this means that Twitter should – must! – hire more black people, so that the black experience is properly represented. So that, obviously, Twitter may tailor its product to black desires. This is logic that just doesn’t work. For we started by noting that Twitter already has greater market penetration among blacks than whites. That is, that the product already appeals more to people of colour. How could we possibly need more people of colour to guide its penetration of the black marketplace therefore?

Actually, from our basic facts here we should be arguing that Twitter needs more whites in order to work out how to appeal equally well to them.

The point is not what Twitter should do or not. Rather, to point out that logic is not always a strong point in thee claims about the desirability of diversity.

We can and should go on here and point out that the essence of the claim isn’t true either. That claim being that diversity increases profitability, that it is in the interests of the company – and us the stockholders – to have those of different races, genders and so on directing affairs. There are even studies which go on to prove this contention to greater or lesser levels of accuracy. OK, let us accept that there are. At a societal level we therefore need to do nothing. For if that diversity leads to greater profitability then profit seeking companies will ensure it happens naturally. No one need be forced to add women to the board because it will already be being done. And if it isn’t the moment you show the proof about that profitability then it will be.

At which point we have nations, Norway comes to mind, that insist, by law, that companies must have female representation on the board. That very insistence being proof that the greater profitability part cannot be true for if it were then why does anyone need to be forced?

So far so good but strict logic isn’t quite how the world does work. It being filled with people, people have opinions and not all opinions are backed up by that strict logic. And it is opinions which determine stock values as well. Thus we do have to take care to understand what those opinions are.

Clearly, we can do this the “wrong way” around if we so wish. Many people will not, for moral reasons, buy tobacco, or arms, stocks. Their absence from the market means that prices, for a given dividend payment or future profits stream, are lower. We can thus buy a bargain and it has long been true that portfolios of such “sin stocks” produce greater profits for investors. If the diversity of the board becomes one of these mantras which dominates the market then we could profit by being contrarian and actively look for such opportunities.

But let’s think about playing this straight. For some of these mantras, these fashions, both become dominant and are also worth doing in themselves anyway. We’ve thus got to have a method of deciding which are which? Which are like the sin companies where it becomes a market mispricing we can exploit and which are the sensible things that people really should be doing? And thus we buy into the companies that do them, not into those that don’t?

Sadly, the answer isn’t that the idea itself is sensible, in and of itself, it is instead how widespread the belief is. If the entire society insists that women on the board is a good idea then having women on the board is going to be a good idea for those who want to play by the rules. You might not get your IPO done by Goldmans if you don’t for example. This will also be true for not buying conflict minerals, for other forms of diversity in the workforce, for making sure that factories don’t collapse on third world workers and so on.

If these are the things which the wider society insists are good things then it’s that insistence that matters. Most companies are going to end up doing them because of it. We however need to have a different calculus here. Because sure, everyone likes good things but what about those sin stocks? That is, we’ve got to work out whether the thing being done is good merely because it’s fashionable or because it actually is good in and of itself. Not allowing the factory to collapse upon the workers is clearly a good thing in and of itself – quite apart from anything else who wants to have to pay to build a new one?

So, imagine, there’s this idea that every company must have a Heffalump. Doesn’t matter what one is here, it’s just an example. Our decision tree is that firstly we want to know whether it is in fact a good idea. Does having a Heffalump actually improve company performance? If so then fine, we should buy into those firms which have one in preference over those that don’t.

If it doesn’t in fact improve performance then we need to consider whether it’s a widely held insistence. Is it something that is guiding the investment decisions of a significant part of the market? Like those gambling and booze stocks. Or to be more up to date in fashion green sustainability? If it is something that’s guiding many people but it’s not in fact beneficial to the company doing it then we should be doing the opposite. For those that don’t do it will be cheaper by dint of being unfashionable. That’s great for us, we get to buy in on the cheap.

That is, we’ve got to be aware of these fads and fashions. But which way we jump depends upon whether we think the underlying claim about efficiency is valid. Invalid then we should buy into those who don’t, valid and into those that do.

As to whether having a woman on the board actually improves firm performance I don’t actually know. I can imagine it running either way. That historic misogyny still explains their absence could be true. But it might also be the same thing that causes that lack of female executive officers. Career breaks and so on do mean that the upper reaches of management are largely male. We can imagine that the same will be true of those who might be on the board of a major company. I don’t, as I say, know the specific answer here. My point though is that our underlying decision process remains the same. If female board representation is beneficial to firm performance then we should preferentially invest in those what have that presence. If it isn’t but the insistence is widespread then we should preferentially invest in those that don’t.