Why diversity should matter to investors

A wave of diversity and inclusion (D&I) is rippling across corporate culture.

As someone that leads a lot of D&I activity in our office, I hear the praises but also the complaints. Too many of these comments miss why diversity is such an important focus for executives, boards of directors and investors.

Why do companies care? The common view is that bosses want to improve culture and community values in their offices, while giving employees a good feeling and positive reinforcement.

However, as important as it is for companies to have a good corporate culture and retain employees, another big reason is that diversity is being attributed to having a material impact on companies’ financial performance and their shareholder value.

The evidence

Consulting firm McKinsey & Company has been a leader in researching the subject. Its 2018 report, Delivering through Diversity, suggested greater diversity across genders and ethnicity was strongly correlated to higher profitability and value creation. A diverse company can help attract top talent, improve customer propositions and develop better decision-making methodology.

The Harvard Business Review provides a similar distinction in that diverse company management teams are also better performing. In a 2016 article, Why Diverse Teams are Smarter, studies were highlighted that show large cap companies with at least one woman on their board generated a higher return on equity (a measure of profitability) and net income growth (the rate of profit growth) compared to those companies that had no gender diversity.

Offhand, I can think of a few instances where I see how the diversity story could play out in a companies’ success, or how a lack of it could contribute to risky behavior and financial losses. 

Social media companies are currently facing challenges in monitoring their platforms from bots and hate speech. You can argue a lack of diversity of thought and experience within these companies impairs their ability to recognise and manage these conflicts. Not having the cultural awareness to be proactive and acute in handling these challenges could increase a company’s risk of fines, loss of customers, and, ultimately, its profits.

Examples of diversity in action

Another situation that comes to mind are when companies inadvertently create an insensitive ad campaign and then end up in headlines and face possible boycotts. Additionally there are the wasted funds on ads that have to be pulled.

Maybe having robust diversity and a platform for employees to share their experiences and insights could mitigate risk, while also providing opportunities for growth investing?

There is a need for global companies serving diverse communities to have the cultural insight to provide relevant valued services and products, while avoiding penalties that could cause headline risks and profit losses.

As such, diversity is becoming a bigger focus in investment reports. Fund managers and analysts are using a company’s diversity statistics and programmes to improve inclusiveness as a measure of their success to grow and contribute positive returns to their portfolio.

There is also evidence of diversity of thought and experience improving fund management performance. For example, HFRI Women index, which represents hedge funds run by women, outperformed the broader benchmark of hedge fund managers over a five-year period between 2012 and 2017.

Morningstar research provides a similar analysis. It found that when looking at funds based solely on the gender of the management team, performance of all-female fund teams had outperformed mixed-gender and men-only teams. Of course, because that’s happened before doesn’t mean it will happen again.

It is also not surprising we are also seeing this lead to a shift in the type of person who works in the financial industry.