Join us in reading Chapter 4 of the book, The Only Way to Survive for Japan, subtitled "Corporate governance is sure to save our country." This chapter provides a case study of Toshiba Digital Solutions Corporation, known worldwide as Toshiba, from the perspective of corporate governance.
In Chapter 4.1, the author examines the intentions and problems in Toshiba's handling of its third-party committee, its need for independence from management, and access to meaningful information. Moreover, what about its subsidiary, Westinghouse? What is a corporation's responsibility to its subsidiaries and to its own shareholders? Toshiba provides a case study to illustrate the real-life lessons.
Find all published chapters at 'The Only Way to Survive for Japan'
Read Chapter 4.1, the 24th segment of the book:
Toshiba’s Governance and Our Country’s Governance
Finally, Toshiba released its consolidated settlement of accounts for the fiscal year ending March 2015 and submitted its annual securities report. The consolidated settlement of accounts was delayed by about four months. Also, the annual securities report was submitted after two postponements, which is quite unusual.
However, this has not yet drawn the curtain on the scandal of "improper accounting" that had been unearthed by whistleblowing. It is like "A well has been dug, but where is the house on fire?" Much remains to be seen.
The report by a third-party committee, which investigated the matter, has not necessarily clarified the true cause. Even in Toshiba's subsequent report on the matter, the cause of the scandal has not been established.
The report revealed that its habitual practice of covering up the truth fettered sufficient external auditing. However, I doubt whether this scandal could have been prevented even if external auditing had been properly performed. If, however, proper external auditing had been performed, different measures might have been considered to address the issues.
Failings of the 'Banner Student'
In the first place, Toshiba, having adopted such an advanced system as a company with a nominating committee, etc, faster than any other company, was called "a banner student of corporate governance." But this scandal happened in the Toshiba corporation. It demonstrates too obviously that introducing corporate governance just for the sake of formality is a long way from establishing truly practical governance.
There are many companies increasingly trying to introduce independent outside directors. But independent outside directors need to have easy access to information from the company's auditors and audit committees in order to monitor the management team effectively. There is no other way but to have independent outside directors, company auditors, and financial auditors cooperate with each other to strengthen governance.
The Corporate Governance Code has come into force. And Toshiba's "improper accounting" was brought to light in the first year of corporate governance, which is regarded as the biggest wake-up call for Japan.
Now it is urgent for Japanese companies to seek and realize such governance fabrics that will work effectively in responding to their respective circumstances.
(The Asahi Shimbun dated September 2015)
Authority of Third-Party Committees
The credibility of third-party committees is being questioned.
A third-party committee is an organization, unique to Japan, which is set up when a corporate scandal occurs. It is entrusted to investigate and establish the causes of such scandals. The company delegates the investigation to a third party with professional knowledge and experience in the hope of securing the credibility of the investigation and thereby enabling it to recover trust.
To address Toshiba's scandal of improper accounting, which caused a sensation in 2015, a third-party committee composed of lawyers was established. The findings of their investigation were disclosed in a report at the end of July.
At the end of November 2015, this report was rated by a committee composed of volunteers set up for the purpose of assessing investigation results produced by third-party committees.
It was poorly rated. Three of the eight committee members assigned a rating of F (failure) to it. As one of the main reasons, they pointed out that the report gave no reasons why the previous management resorted to improper accounting in order to inflate profits.
Guidelines for Third-party Committees
Third-party committees, although they are expected to secure the credibility of the investigation of scandals, actually have a documented history of incredulity. A "cozy relationship" is suspected to exist between the management of a company that commissions the investigation and the third-party committee. Some cases were discovered where the third-party committee produced its investigation report catering to the intention of the management, which has been considered problematic.
In 2010, the Japan Federation of Bar Associations established guidelines for the purpose of securing trust in third-party committees. However, incredulity for third-party committees had not yet been eliminated. Toshiba's third-party committee did not necessarily follow these guidelines when producing the results of its investigations, and unfortunately, that might have resulted in extending the feeling of incredulity still further.
Nevertheless, the third-party committee has not completely lost its authority. It is the company itself that caused the scandal and suffers most through a loss of authority. Good medicine is an active, heated discussion and criticism, and the media can play a vital role in helping promote such good medicine.
(The Asahi Shimbun dated December 2015)
Toshiba and Institutional Investors
Westinghouse Electric Company LLC (WH), Toshiba's American subsidiary, filed with the federal bankruptcy court for protection under Chapter 11 of the United States Bankruptcy Code.
According to the statement of Toshiba's president at a press conference, WH's board made the decision "in consideration of its creditors and stakeholders."
I doubt that Toshiba successfully managed its subsidiary.
Some institutional investors suffered a huge loss on Toshiba's stock. Toshiba is a shareholder of WH, but at the same time, Toshiba also has its own shareholders. Therefore, Toshiba is obligated to manage its subsidiaries, while institutional investors are obligated to enhance the interests of their investee companies in line with the Stewardship Code.
As if on cue, at the end of March 2017, the revision to the Stewardship Code was debated at the Council of Experts of the Financial Services Agency. The Code is said to have facilitated institutional investors to grasp the nature of the business of their investee companies, but at the same time, some argue that it would cause conflicts of interest. They are concerned that institutional investors affiliated with financial groups do not exercise their voting rights appropriately, with consideration for the business relationships between their investee companies and parent companies.
Third-party Committees and the Stewardship Code
For the purpose of resolving this concern, the revision proposed some measures to improve the objectivity and transparency of the decision-making process for exercising voting rights. The establishment of a third-party committee and the full disclosure of information regarding the voting result for each agenda item are expected to facilitate objective judgment as to whether institutional investors sufficiently monitor the management of their investee companies. At the same time, there is a negative argument that if the institutional investor is too concerned about the full disclosure of information regarding the voting result for each agenda item, it may settle for a perfunctory dialogue with its investee companies.
The Code is non-compulsory. It is each institutional investor that should ask itself what principles it should employ to improve the corporate value of its investee companies. If the institutional investor is expected, through purposeful dialogue with a company, to properly monitor its management, we would not see a second Toshiba emerge in the future.
(The Asahi Shimbun dated April 2017)
Follow the book from Chapter 1, as it is published.
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Author: Shin Ushijima
