I support workplace diversity not only on ethical grounds, but because it can be a source of competitive advantage. Diversity enhances communication across a broader customer base, expands the pool of qualified job candidates, and provides access to information that would otherwise be unavailable.[1]
But data suggests getting those benefits isn’t easy or guaranteed. After looking at all the relatively recent studies I could find that compared firm financial performance to diversity, I have to agree with one (diverse) scientific team that concluded, “empirical research has found inconsistent results, indicating that diversity can be either good or bad for businesses.”[2]
Wait, wait… before you run off fuming, hear them out. Diversity is not the problem; prejudice is.
If the company does not train managers how to recruit qualified minority contributors; take steps to prepare the way for diverse workers; change its culture to become more inclusive; and so on, prejudice can cause conflict and loss of workers. All of the above, good and bad, translate into financial costs. By not addressing the costs, we diversity advocates open ourselves to accusations of covering them up.
What prompted my search points to another problem, which is use of bad evidence. Specifically, the most-cited source at recent events I attended is a McKinsey & Company report, Delivering through Diversity. McKinsey compared financial performance of 663 firms in 10 countries to their top management diversity. Presenters said it talked about diverse companies, which is not true. The report did find that the top 25% of companies in executive racial diversity within their national industry groups had 33% higher profitability than bottom-quartile companies, and 21% higher if gender diverse. But these were just single-year correlations. The report itself states, “It is theoretically possible that the better financial outperformance enables companies to achieve greater levels of diversity.”[3] Any CEO who doesn’t want to invest in inclusion can point to that line and dismiss the whole report.
McKinsey’s poor methodology sent me looking for better data. It exists, but all of the studies add in a lot of “ifs.” I think it vital to note that only one datum in all of these studies linked diversity to lower performance. In both this and earlier research I did on diversity at the team level, it became clear that at worst, diversity does not reduce performance on average. That suggests the costs of diversifying at least pay for themselves while giving a company other benefits, which might take longer to show up on the bottom line.
But averages hide important details. For example, Australian researchers compared gender diversity of entire firms to their financial performance two and five years later. This is a better test of whether diversity caused improvements. Overall, the relationship was positive after five years, but the trend had not yet emerged at two years. The effect was minimal in manufacturing companies, much higher in services. Furthermore, there was an inverted-U shape, with the maximum positive impact in services occurring around a 70(M)/30(F) ratio, after which it began to drop off slightly with more diversity.[4] Higher levels of diversity may make the majority feel more threatened, creating more conflict.
Another study compared diversity of top management teams at 115 large firms. Gender diversity was not correlated to “market share gain” or share value, but there was a mild positive link for racial diversity. The study determined the relationships were more pronounced in fast-growing markets and companies that were aggressive competitors. Yet again there was an inverted-U shape. Higher levels of racial diversity correlated with more competitive actions up to a relatively high level, and then dropped some with more diversity.[5]
In 147 German companies, higher firm-wide age diversity was related to more age discrimination and lower firm performance. Only if top managers had positive impressions of age diversity, and/or HR had diversity policies, were discrimination and performance unaffected by age diversity.[6]
Proving diversity causes better performance is difficult in part because you have to account for other possible explanations. One research team chose a “same-sex domestic partnership benefit (SSDP)” as the diversity metric. They said attitudes toward homosexuality tend to reflect general tolerance, and crucially, SSDPs were not legally required in the U.S. at the time (2013).[7] The researchers allowed for factors that made it harder or easier for a company to adopt SSDPs: Firms that were larger, had better finances, or were located in more progressive regions of the U.S. were more likely to adopt, so the study matched companies by those factors.
This measure provided one other advantage. We don’t have many studies using firm-wide data because most companies refuse to provide it. As a case in point, the public companies in this study mostly refused to answer questions about SSDPs. But they had told the Human Rights Campaign, which thus had a database including when the policy was adopted.
Stock returns of the adopters were an average of 54% higher over the five years after adoption compared to the entire sample (adopters and nonadopters). Comparing matched firms likely to adopt based on the factors mentioned earlier, adopters had even larger returns. This suggests it was the adoption of inclusive policies that caused the advantage. As a portfolio, the sampled firms would have been in “the 95th percentile of all professionally managed funds in the United States” in 2006, the study concluded.[8]
To the point about firm-wide diversity, when another scientist surveyed HR departments at U.S. banks, only 16% responded about that. Measuring “worker productivity” as net income per employee, and “firm performance” as return on equity, he found no link between workplace diversity and performance after controlling for various factors like firm size. On average, neither gender nor racial diversity were linked to either measure.
When the bank researcher added in how fast a bank’s assets were growing, a pattern emerged: The faster a company’s growth, the stronger the link between racial diversity and higher productivity.[9] I’m not saying inclusion is more important if your company is growing. My point is that many factors impact how much and how soon diversity increases financial performance.
That management professor, Orlando Richard of the Univ. of Texas-Dallas, has been especially active on this topic. Four years later (2004) he and a team compared diversity at all management levels to the same performance measures from the previous study. They also measured how “entrepreneurial” the bank was, defined as willing to innovate and take risks. They surveyed 153 banks and the results again were neutral. Racial/gender diversity in management was not related to performance, and adding in factors like being entrepreneurial provided no clear pattern. All other direct correlations showed no relationships.
Richard’s team, too, found inverted U-shaped patterns, this time for both racial and gender diversity in high-innovation companies. Performance and management diversity were more linked at moderate levels of gender diversity than at lower and higher ones.[10]
In 2015, another team led by Richard looked at 2002 data from responses for Fortune’s “50 Best Companies for Minorities” list regarding supplier diversity. They pointed out “AT&T claimed that $11 billion in revenue was linked to supplier diversity through sales enablement and direct revenue generation.” Diversity was measured by whether the supplier was mostly owned by minorities. The study determined that supplier diversity helped when the company had a lot of money, and had no impact when it didn’t.
A different team did something similar, comparing the “DiversityInc Top 50 Companies for Diversity” list to 44 firms not on the list but matched by market value and industry. (A few had to be used twice as matches.) Diverse firms were more profitable every year from the year before their listing to five years later. For the 42 diverse companies that were public, investing in their stocks and reinvesting dividends would have provided a 24.8% greater return than the S&P 500.
That team summarized the costs and benefits of diversity this way:
A diverse network of employees and suppliers will be the right people when it brings new information and voices into the strategy dialogue, produces creative decisions, links the firm with its customers, enables the firm to attract and retain talented employees, and/or enhances the firm’s reputation. However, diversity has many potential costs, including difficulty of communication between groups in the workforce, lower group cohesion, higher employee turnover, low levels of cooperation, and resentment among groups. The costs of diversity are more likely to outweigh the benefits when diversity is seen as a program, rather than as an organizational commitment that will produce superior business results.[11]
I’ll give Dr. Richard’s team the final words: “Given the irreversible trend towards more racial and gender diversity in organizations, it behooves managers to develop organizational capabilities that maximize the benefits of diverse human capital and ultimately strive for a ‘sustainable diversity advantage.’”[12]
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[1] Stanley F. Slater, Robert A. Weigand, and Thomas J. Zwirlein, ‘The Business Case for Commitment to Diversity’, Business Horizons, 51.3 (2008), 201–9 <https://doi.org/10.1016/j.bushor.2008.01.003>.
[2] Muhammad Ali, Carol T. Kulik, and Isabel Metz, ‘The Gender Diversity–Performance Relationship in Services and Manufacturing Organizations’, The International Journal of Human Resource Management, 22.7 (2011), 1464–85 <https://doi.org/10.1080/09585192.2011.561961>.
[3] Vivian Hunt and others, Delivering through Diversity (McKinsey & Company, 2018).
[4] Ali, Kulik, and Metz.
[5] Goce Andrevski and others, ‘Racial Diversity and Firm Performance: The Mediating Role of Competitive Intensity’, Journal of Management, 40.3 (2014), 820–44 <https://doi.org/10.1177/0149206311424318>.
[6] Florian Kunze, Stephan Boehm, and Heike Bruch, ‘Organizational Performance Consequences of Age Diversity: Inspecting the Role of Diversity-Friendly HR Policies and Top Managers’ Negative Age Stereotypes: Age Diversity and Company Performance’, Journal of Management Studies, 50.3 (2013), 413–42 <https://doi.org/10.1111/joms.12016>.
[7] Feng Li and Venky Nagar, ‘Diversity and Performance’, Management Science, 59.3 (2013), 529–44 <https://doi.org/10.1287/mnsc.1120.1548>.
[8] Li and Nagar.
[9] Orlando C Richard, ‘Racial Diversity, Business Strategy, and Firm Performance: A Resource-Based View’, The Academy of Management Journal, 43.2 (2000), 15.
[10] Orlando C Richard, Tim Barnett, and Sean Dwyer, ‘Cultural Diversity in Management, Firm Performance, and the Moderating Role of Entrepreneurial Orientation Dimensions’, 2004, 13.
[11] Slater, Weigand, and Zwirlein.
[12] Richard, Barnett, and Dwyer.