Discrimination, Legal Costs and Reputational Costs

Abstract

This study seeks to answer three related questions about costs of the mis-management of diversity: 1. What are the outcomes of lawsuits when firms are accused of racial or gender discrimination, including the legal costs when found guilty? 2. What are firms' stock price reactions to racial and gender discrimination lawsuits? 3. Do firms sued for racial or gender discrimination experience reputational losses; that is, do firms lose market value over and above the expected legal costs of the lawsuit? First, we analyze 1,240 racial or gender discrimination lawsuits and find that the damages paid by firms found liable in these lawsuits averaged $293,000 in the 10 years before the Civil Rights Act of 1991 (CRA91), and $1.0 million in the 10 years after CRA91. Gender discrimination lawsuits have a higher plaintiff verdict success rate than racial discrimination lawsuits. Regressions indicate that after controlling for other independent variables, the damages paid by firms in discrimination lawsuits are positively associated with size of firm, gender lawsuit (compared to race), and post-CRA91. Second, we find statistically significant negative price reactions to the announcement of gender discrimination lawsuits and private class action lawsuits, but not for racial discrimination lawsuits and EEOC lawsuits. Third, we estimate reputational costs of the lawsuit: the loss in the market value of the firm's equity when the lawsuit is announced less the predicted legal costs of the lawsuit. Our results imply that at least for publicly traded companies, discrimination charges can lead to both reputational and legal costs; and thus managers should be concerned with minimizing both. In addition, optimal public policy includes considering these nonlegal costs as part of the penalty to defendant firms in discrimination lawsuits.