United States: Sex Discrimination Class Actions and Merit-Based Compensation: Is Your System at Risk?

Over the past few years, the plaintiffs’ bar has developed a potentially powerful theory of sex discrimination which has particular significance for merit-based compensation systems. In numerous class actions predicated on this theory, employers across diverse industries -- retail, financial services, higher education -- have paid significant sums for apparent gender disparities in pay and promotions within their ranks. For example, Merrill Lynch recently settled a sex discrimination class action for an amount reportedly in excess of $100 million.¹ In 1997, Home Depot paid out $87.5 million,² and in 2002, American Express Financial Advisers, Inc., agreed to pay $31 million³ Morgan Stanley⁴ and Wal-Mart⁵ are presently fending off similar claims. The Wal-Mart suit, if certified, will constitute the largest sex discrimination class action in history, with hundreds of millions of dollars at stake.

The new theory (which we call the "unconscious discrimination" theory) constitutes a formidable plaintiffs’ tool, because it permits discrimination cases to succeed largely based on numbers. Numbers-based approaches tend to favor plaintiffs, because they obviate the need for evidence of discriminatory intent, which once was the hallmark of such cases. Further, most statistical analyses comparing men and women reveal that men still possess significant advantages in the workplace. It is well known, for example, that many occupations tend to be segregated by gender (e.g., nurses, welders),⁶ that occupations in which women predominate tend to be less well paid,⁷ that within occupations women are clustered at the lower levels of the hierarchy,⁸ and that women overall earn 72 percent of what men earn (the so-called "gender wage gap").9 Less clear are the reasons for such discrepancies, and who -- if anyone -- may be liable for them.

Economists have tended to analyze such gender disparities in terms of two broad categories: "supply-side" explanations, which focus on the preferences and qualifications that men and women bring to the labor market, and "demand-side" explanations, specifically, labor market (i.e., employer) discrimination. "Supply-side" explanations include so-called "pre-labor market" or societal discrimination; for example, the social influences that might cause a woman to become a secretary rather than an attorney, thus adversely affecting her earning power. In contrast, "demand-side" explanations focus on employer discrimination, where similarly situated men and women are treated differently because of gender.¹⁰

A class action lawsuit generally involves a complicated quest to untangle the respective contributions of these various influences. Through expert analyses and testimony, the parties attempt to persuade a judge or jury as to whether gender differences exist, and if they do, whether they are attributable to the employer. The analytical tool of choice is a form of statistical inquiry called a multiple regression analysis. It attempts to estimate how much of the variation in salary among employees is attributable to "legitimate" factors such as seniority, job type, degree level, degree field, years since graduation, and so forth, and how much is attributable to gender. Multiple regression analysis does not measure discrimination, however. It measures instead how much of the variation in men’s and women’s pay is attributable to the non-gender factors that are available in the data. What isn’t attributable to the available "legitimate" factors gets assigned to gender by default. Plaintiffs then argue that all of the differences assigned to gender are the result of discrimination by the employer.

In litigating class claims, plaintiffs generally minimize the number of factors used in the regression. For example, they may ignore factors outside the workplace (e.g., total work-related experience) and attempt to discredit certain factors within the workplace, claiming that anything under the control of the employer, such as job assignment, level within the organization, or performance rating, is potentially tainted by discrimination and therefore should not be included. By reducing the number of factors used in the analysis, plaintiffs increase the differences attributable to gender. Employers, in contrast, try to include as many salary-related variables as possible, which has the effect of reducing, if not eliminating, disparities.1¹ From the employer’s perspective, however, the analysis is complicated by the fact that its data rarely capture all relevant factors (the "missing variable" problem). For example, women, on average, have less labor market experience than men (because they are more likely to take time out of the labor force to raise children), an important "supply-side" factor to which economists attribute at least some of the gender pay gap.¹² Other "supply-side" factors which economists believe affect women’s pay compared to men’s include the time employed in a particular job, work interruptions, and the timing of past work experience.¹³ Since such factors are rarely available in the employer’s computerized data, and thus not includable in the regression analysis, it can be difficult to know whether employer discrimination or missing variables are at work. As noted, however, unexplained discrepancies are deemed by default to be the result of discrimination. In sum, if plaintiffs can focus just on the numbers, without having to show more, they often have the advantage.

Plaintiffs’ new theory of unconscious discrimination provides an additional tool in this supply-side/demand-side debate, by offering a basis for attributing disparities to employer discrimination rather than to supply-side factors. In simplest terms, the theory posits that male managers making subjective judgments with inadequate guidance will favor other males, even if not deliberately or consciously so.¹⁴ Instead of intentional discrimination, the path to the jury becomes unconscious discrimination.

More specifically, the theory proposes that: (1) stereotyping is a universal, cognitive process; (2) it can lead to gender bias; (3) gender bias is especially likely where (a) evaluation processes are subjective and discretionary, and (b) are made in a male-dominated environment; and (4) while there are policies and procedures which can minimize gender bias, without such policies, unconscious bias is likely to occur.¹⁵ In propounding this theory, plaintiffs invoke stereotyping literature, a body of research within the field of social psychology, and they retain social psychologists or sociologists as expert witnesses on the subject. At trial, the plaintiffs’ expert reviews the employer’s performance review forms, for example, finds them to be subjective (as virtually all performance evaluations are), states that the employer has compounded the problem through inadequate guidance and review, and concludes that this is likely the cause of any gender differences in pay decisions based on these performance reviews.

The unconscious discrimination theory is significant because it makes discrimination cases much easier to prove. First, it lowers the plaintiffs’ burden of proof by permitting discrimination claims based on the cumulative decisions of many different managers to be brought as a disparate impact claim rather than a disparate treatment claim. Disparate treatment claims require proof that the employer deliberately treated women less favorably than men because of their sex. That is, disparate treatment traditionally requires proof of discriminatory intent, i.e., that sex was a motivating factor of the adverse treatment.¹⁶ Moreover, in the class context, plaintiffs must prove that intentional discrimination was the employer’s "standard operating procedure." In contrast, a disparate impact claim requires no proof of discriminatory intent. The employer’s intentions may be wholly benign, but they are not relevant to the analysis. Instead, claims based on disparate impact are proved by showing that the employer engaged in a neutral employment practice which has a "significant disproportionate adverse impact" upon members of the class.¹⁷ Because it does not require proof of discriminatory intent, disparate impact claims typically are easier to prove than disparate treatment claims.¹⁸

Second, the unconscious discrimination theory also makes it easier to prove unlawful discrimination even in the disparate impact context, by obviating plaintiff’s need to identify a particular employment practice which is causally related to observed disparities. Traditionally, plaintiffs pursuing disparate impact claims were required to identify the particular practice alleged to have caused a disparity. For example, early disparate impact cases challenged practices such as height and weight standards, or paper and pencil tests. Plaintiffs could prevail where they could show that such devices disparately affected women (e.g., women on average are shorter than men) and were not justified by "business necessity." Under the unconscious discrimination theory, however, plaintiffs need identify nothing more specific than the employer’s general decision-making process. Moreover, plaintiffs can rely on the theory to satisfy the causation requirement, because it provides a mechanism to get from subjective decision-making to gender-biased results. Finally, the theory presents challenges to employers who seek to defend subjective performance appraisal processes, because it is difficult if not impossible to "validate" subjective practices.¹⁹

So what is one to do? As explained in what follows, the most effective way to guard against these claims is to disseminate clear statements of policy against discrimination; review materials used to assess performance and determine compensation to ensure they are job-related and that managers’ necessarily subjective judgments are constrained by training, written standards, and review; and utilize workforce analyses, under the protection of attorney-client privilege, to ensure that significant differences in pay do not go undetected and unexamined until the expert discovery stage of a class action.

Anti-Discrimination Policies. It goes without saying that all employers should (and most employers do) have prominent policies prohibiting sex discrimination. What might be added is that employers should also ensure that managers are held accountable for compliance with these policies. Further, management training focused on discrimination and diversity can also help create a corporate culture in which even unconscious discrimination may be less likely to occur.

Performance Management Practices. Since the unconscious discrimination theory asserts that "overly subjective" personnel systems permit discrimination, employers seeking to prevent such claims should carefully review their performance management policies. Unfortunately, there is little science regarding the features of a performance management system which render it either susceptible or resistant to discrimination. There are, however, "best practices" which are endorsed by the field of industrial psychology. Conceptually, these practices fall into two broad categories: (1) whether the system measures behaviors important to successful job performance (job-relatedness), and (2) whether the system contains adequate procedural controls. Whether the system is adequately job-related entails assessing whether performance criteria are based on an analysis of the job, ²⁰whether performance criteria and rating scales are well defined, and whether behavioral information is used in the definitions (so-called "behavioral-anchoring.").²¹ Whether there are adequate procedural controls involves answering questions such as the following: does the system provide for adequate sources of information about performance? For example, is the immediate supervisor involved in evaluating performance, and does he or she possess specific information about performance? Are there multiple sources of input? Does the employee have an opportunity for input? Are the raters trained in use of the appraisal instrument, including accurate observation of employee job behaviors, how to make ratings that are free from bias, and how to ensure uniform application of performance standards across employees? Are performance standards communicated in writing to employees? Are there clear instructions on how to assess the various performance factors? Do supervisors provide feedback of appraisal results to employees? Are formal appeal procedures in place? Is there a system for review of appraisal results by higher level managers?

In sum, written, job-related standards to guide subjective decisions are considered a "best practice" for reducing the likelihood of unconscious discrimination.

Pay Equity Analyses. An employer also can undertake to monitor its pay for equity issues. Such studies, usually conducted by statisticians or labor economists, entail analyzing the employer’s aggregate pay to determine whether statistically significant gender disparities exist. This is done through the same type of multiple regression analysis used in the litigation of such cases. As noted above, the analysis is complicated by the fact that the employer’s data rarely capture all relevant factors (the "missing variable" problem), and thus, where disparities exist, it can be difficult to know whether employer discrimination or missing variables are at work. Accordingly, if an employer’s pay equity analysis reveals unexplained disparities, the employer must take a closer look at the specific decisions at issue to determine whether the differences are defensible. If they are not, the employer must take steps to remedy them.

While pay equity studies ultimately are the most effective way to detect and eradicate disparities, employers can be hoisted on the petard of such studies, especially if disparities are revealed but not corrected. In such a case, the employer may unwittingly create a roadmap for plaintiffs, because the studies, once undertaken, can be used to provide evidence of discriminatory intent in the event that disparities go uncorrected.²²

Ironically, however, the elimination of found disparities also creates legal risks. For example, an across-the-board salary increase to women without adequate justification may violate Title VII, under a reverse discrimination theory. Accordingly, employers are advised to undertake such studies only with the assistance of outside counsel. Experienced counsel can make sure that the studies are performed pursuant to correct legal standards,²³ and can help the employer determine whether remedial action is appropriate. Finally, because there is no "self-critical analysis" privilege in California, ²⁴ employers should retain outside counsel to direct such studies in such a way so as to bring them within the confidentiality of the attorney-client privilege.

Merit-based pay has become the predominant tool in today’s competitive business environment. Many employers have adopted systems which seek to rank employees or otherwise link pay to performance. While such performance management practices are perfectly legal, employers who adopt them should be mindful of the attendant risk of class action sex discrimination claims. Employers interested in ameliorating this risk through preventive measures are advised to seek the counsel of an attorney with expertise in this complex area.

Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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