Chapter 1.5 Governance of Corporations: 'Plowing the Field and Forgetting the Seeds'

Join us in reading this book, The Only Way to Survive for Japan, subtitled "Corporate governance is sure to save our country." Although this book mainly focuses on corporate governance, it broadly covers outside contributors and governance as a whole. Peppered with real-life examples of successes and failures, the book is also a primer on the rules and cautions of corporate governance in Japan.

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Read the fifth part of Chapter 1:

Listing of a Parent Company and Its Subsidiary and Independent Outside Directors

ASKUL Corporation is devoid of independent outside directors now. It happened as a result of the exercise of voting rights by Yahoo Japan Corporation and PLUS Corporation, which together hold a majority of ASKUL’s shares.

In the general shareholders meeting of ASKUL on the second of August, 2019, Yahoo and PLUS voted not only against the reelection of the former president, Mr Shōichirō Iwata, but also against the reelection of the three independent outside directors; as such, ASKUL, although it is a listed company, is now without any independent outside directors.

Companies which do not have any independent outside directors comprise only 0.3% of all the companies listed on the First Section of the Tokyo Stock Exchange as of 2019. Considering this fact, it can be said that any company devoid of independent outside directors is in an anomalous situation.

"The Practical Guidelines for Corporate Governance Systems" released by the Ministry of Economy, Trade and Industry in June provide that the independent outside directors of a listed subsidiary:

should be appointed and selected in consideration of how much and how far such independent outside directors, being completely independent of the parent company, are able to serve the enhancement of corporate value of the listed subsidiary, while simultaneously paying attention to the protection of the interests of ordinary shareholders.

Minority Shareholders

The independent outside directors of a subsidiary are also responsible for protecting the interests of minority shareholders of the subsidiary. It may well be so. The minority shareholders should have no reason to tolerate the behavior of any company that acts as if it holds 100% of the stock of their company when, in fact, it does not.

Only because Yahoo was against the reelection of the independent outside directors, ASKUL allowed the circumstance to happen where no independent outside directors exist. This kind of corporate action is likely to cause serious problems in the corporate governance of a listed subsidiary; and, therefore, it should be prevented. Actually, 90% of the minority shareholders of ASKUL were for the reelection of the independent outside directors.

Whether due and sufficient consideration is being paid to the interests of minority shareholders is an indispensable yardstick for the determination of investments. This clearly explains that regulations with legal force are required in Japan governing how much the parent company can be involved in the affairs of its listed subsidiary. This deficiency should not be left unaddressed. The court’s determination is strongly desired sometime soon.

(The Asahi Shimbun dated August 2019)

The Resignation of Mr Saikawa and Outside Directors

Mr Hiroto Saikawa resigned as the president/CEO of Nissan as of September 16, 2019. It was a de facto removal from office. Mr Saikawa is alleged to have passed over the misconduct of Carlos Ghosn, the defendant. In the general shareholders meeting held in June, Mr Saikawa was the only director who received 78% of the affirmative votes, whereas the other candidates for directors received more than 88% of the affirmative votes. Furthermore, after it was revealed that Nippon Life Insurance Company, a major shareholder, was also against his reelection, Nissan disclosed the fact that Mr Saikawa had got hold of unduly high compensation by means of Stock Appreciation Rights (SARs).

The internal research showed that Mr Saikawa had had no involvement in the misconduct, and Mr Saikawa himself had no intention to resign at first. Then, what brought him to resign?

The scandal of Defendant Ghosn has caused Nissan to transition to a company with a nominating committee, and the number of independent outside directors has been determined to be more than half of Nissan’s board. The board of directors commenced deliberation after sending Mr Saikawa outside the board meeting. Following that, a part of the outside directors instantly raised their voices for his resignation and when he was called back to the board meeting, the board demanded that Mr Saikawa immediately resign.

Outside Parties to Governance Fulfilling Their Roles

This incident demonstrates that the outside directors had contributed to removing the top executive, thereby fulfilling their role. There was another important thing behind the scenes. It is the fact that the media had made influential movements. Immediately after it was reported that the audit committee would not demand his resignation, the media continuously reported that Mr Saikawa had conveyed to the company his intention to resign. It seems that such press reports had great influence on the development of the board meeting including the outside directors. I figure that the outside directors themselves had harbored fear that they might be accused by the institutional investors of their passivity.

Now all the necessary members of the cast are beginning to assemble: the board of directors, outside directors, institutional investors and media. Corporate governance will be proceeding with such players sincerely carrying out their own roles in the future.

(The Asahi Shimbun dated October 2019)

Promotion of Practicality of Outside Directors

In December 2019, the revised Companies Act came into existence, containing compulsory employment of outside directors. But now that the Corporate Governance Code is here to stay, it is quite questionable whether it serves any other particular purpose.

What should be solved urgently now is how to clarify the role of outside directors and promote their practicality. The report released by the third-party committee of Suruga Bank, involved in illegal loans, may be read as outside directors should keep the attitude of "ignorance is bliss." But keeping such an attitude is getting us nowhere. What should be done?

Keeping Outside Directors Up to Speed

Outside directors should be informed of what is happening in-house. Bring the information to outside directors in front of their eyes. To create such a structure that will not allow any outside director to claim that they have been out of touch. Once they become aware of something, they cannot escape from it but will be held accountable for it.

Another important factor here should be an office of the board of directors. The office of the board of directors should be so structured as to enable outside directors to have access to any and all necessary information in a timely manner, and any company devoid of such structure should be branded as an organization where its governance fails to function. If the nature and circumstances of the office is included in dialogue between the board and investors as an imperative, the investors will be able to find out whether the top executive is forthcoming with information, and if otherwise, the investors should vote against his/her reelection. Things will drastically improve before long.

Selecting Helpful Outside Directors

What we must pay attention to is what outside directors can do in selecting a successor to the top executive. The bottom line is it is difficult for a company to leave the election of a successor to the outside directors in normal times. If only the outside directors are relied on in choosing the top executive of a company which forms a complicated information network, it would bring more harm than good. As is already happening in reality, the outside directors are practically supposed to oversee the process of selecting the succeeding president by the present president, and that is what they have to do and that suffices.

An office of the board of directors is also expected to help outside directors to perform proper supervision. If the office of the board of directors fails to give information to outside directors and respond to questions from outside directors swiftly and honestly, it is like "Hotoke tsukutte tamashii irezu." (仏造って魂入れず) Literally, When you have made a statue of Buddha, if you do not put a soul into it, it is no better than a mere piece of wood or stone. It may be close to the proverb, "Plowing the field and forgetting the seeds."

Furthermore, a scheme to appraise how well the office functions is needed. I am sure that the expertise and perceptiveness of outside directors would be utilized in such an appraisal system, too.

(The Asahi Shimbun dated March 2020)

Not Formality but Practicality is All That Matters

It has been a long time since corporate governance has been considered to be a matter of practicality.

The practicality of corporate governance outweighs the formality. It is beyond a matter of course, but in reality, we must make this obviously clear to people at large, which manifests the current circumstances where Japanese corporations are placed.

Japanese corporations, but for some exceptions, are urged to deepen efforts to increase profits and raise their stock prices. Thus far, their omission has partly contributed to the development of the lost three decades.

The problem lies with top executives. It is only the top executive that has the power to increase profits and raise the stock price. The ability and competence of a top executive are objectively measured only by how much he/she has contributed to generating profits and to raising the stock price in the medium-to long-term. Top executives are also held responsible for employment. I take off my hat to many top executives who are pressed to make tough decisions day-to-day during the corona pandemic.

Then, what are outside directors doing? Are they performing proper monitoring of and giving adequate and useful advice to the top executives? Much to my dismay, they, though not always, generally do not live up to what they are supposed to do.

I figure that it is because either the outside directors are less committed to improving profits and raising the stock price, or they do not consider themselves to be chosen by the shareholders.

Choosing Outside Directors Who Do Their Job

It may well be so. It is still the top executive of a company who actually chooses its outside directors; and this is true of a majority of Japanese corporations. Their reelection is in the hands of the top executive. Communities also turn a blind eye to outside directors who hold on to "ignorance is bliss."

Something should be done to change it. As Robert Reich says, "An economy should exist for the people who inhabit it, not the other way around." People are employed by their companies and they provide labor in return, and then they rely on their pensions for their livelihoods after retirement. In order to ensure this series of proceedings, institutional investors keep tabs on the management of corporations in line with the Stewardship Code. It is stakeholder capitalism.

There is a sign of change looming, for the transfer of controlling rights seems to have actually begun through the market. It is the power of the market that can force a de facto resignation of the top executive who has failed to fulfill the request to improve the management. This movement is likely to be promoted more and more in the future. As a result, the profits of Japanese corporations will increase and their stock prices will go up. It is the market bolstered by ESG (Environmental, Social, Governance) and SDGs (Sustainable Development Goals).

Corporate governance exists to help such cycle run smoothly. The shareholders of many listed companies are institutional investors, and they are working for pension recipients. Capitalism can produce a virtuous cycle.

(The Kihou Corporate Governance dated December 2020)

Follow the book from Chapter 1, as it is published.