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07 October 2022


Notes on a panel discussion at the Merger Market Japan M&A Forum (12th September 2022).

The discussion was framed by Jana Jevcakova, Head of International ESG at Morrow Sodali, who opened with an overview of key trends in the US, Europe and Australia, thus setting up her fellow panelists to drill down into Japanese issues. Yumiko Murakami, a General Partner at MPower Partners and former head of the OECD in Japan, highlighted the lack of labour mobility in Japan  holding back progress in the S of ESG, while Alicia Ogawa, the director of the Project on Japanese Corporate Governance and Stewardship at Columbia Business School and advisor to several activists, explained that Japan is lagging the rest of the world in implementing global best practices in ESG and that CEOs and board chairs need to take more accountability and be more open to hearing from outsiders. In the meantime, she predicts activism, especially aimed at smaller and medium-sized issuers will continue to grow as that is where there is huge value. Toshiki Imamura, Head of Responsible Investment at Nomura Asset Management believes corporate governance is progressing in Japan and explained that it is important for issuers to stay on top of the annually updated proxy voting policies of institutional investors.

Jana Jevcakova listed the following seven points as being important in the implementation of ESG practices around the world:

  1. Independence of Directors: The majority of boards in Europe, the US and Australia have a majority of independent directors. However, the US still has many examples of the CEO also being the board chair. Major issuers in Australia often have 70-80% of the board made up of independent directors, sometimes with the CEO being the only non-independent board member.
  2. Committees: The general standard is to have Audit and Risk committees made up by a majority of independent directors and always with an independent chair. In addition, Nominating and Remuneration committees are now standard. Governance and Sustainability committees are now common as required by specific sectors.
  3. Board Skills: US issuers have been under increasing pressure to demonstrate that directors have the relevant skills and experience to carry out the responsibilities of a director. In Australia, the UK and some other European countries it is standard to disclosure a board skills matrix
  4. Diversity: In Europe many jurisdictions mandate gender diversity of boards and executives. In the US there is an increasing percentage of female directors and in Australia all ASX-300 companies have achieved at least 30% of directors being female despite this not being mandated by law. Diversity goes beyond gender, and in the US some institutional shareholders will vote against the chair if there is no ethnic diversity of the board.
  5. Addressing Sustainability: Several corporate governance codes insist that issuers address in their disclosures emerging risks and opportunities related to climate change, human rights, cyber security and other non-financial risks. This is increasingly relevant as issuers incorporate ESG into their M&A strategies.
  6. Engagement: Pressure on directors, including independent directors, to engage with investors and other stakeholders.
  7. Executive Remuneration:  Although currently not mandated in Japan, disclosure is starting. In the US, Europe and Australia this has been in place for many years with Say On Pay resolutions. Singapore is currently discussing mandatory disclosure of executive and independent director remuneration.

Specific to the recent changes to the Japanese Corporate Governance Code which focus on sustainability and ESG reporting, diversity requirements, board functioning and independence, and administrative issues such as the availability of electronic voting and the production of English language reports, Alicia Ogawa pointed out that enforcement responsibility now lies with the Tokyo Stock Exchange. Eventually, adherence to these directives will be mandatory for an issuer to be listed on the Prime Market, even if the code itself remains as Comply or Explain. “The fact is that, in spite of regular updates to the Code, Japan is still far behind global best practices…… In Japan, only 223 of 3700 companies have a majority of independent directors on the board” says Ms. Ogawa who goes on to say that she believes the Code has become far too prescriptive and far too long at almost 40 pages, compared to the four pages of the original UK corporate governance code.

Ms. Ogawa believes that the CEO and board chair need to be more open to hearing from outsiders, such as shareholders and other stakeholders and that there needs to be a greater level of trust amongst executives, outside directors and shareholders. “If this level of trust and openness does not exist, then it does not matter what governance systems you have in place, they won’t work. Too many Japanese companies do not understand this, I feel.”

According to Ms. Ogawa, to focus on details, risks losing sight of the big issues such as weak investor stewardship, the persistence of cross-shareholdings, the dysfunctional IPO and TOB markets, the “over-boarding” of many outside directors, weak nominating committees, the conflict of interests at corporate pension funds, the lack of labour market liquidity and weak whistleblower protections.

Yumiko Murakami picked up on subject of the lack of labour market mobility and explained that the S in ESG is relatively new in Japan. A new government committee is looking to develop a framework of essential human capital-related disclosures.  Addressing the labour market issues in Japan Ms. Murakami said: “This is the area that will probably lead to fundamental and perhaps painful structural changes….. Quite frankly, in my mind, without addressing this labour market issue, I don’t think Japan Inc. can improve its S element of ESG.”

Encouragingly, she pointed out that the perception of ESG being the stick, not the carrot, of the stick-and-carrot is starting to change in the minds of some business leaders. This shift in mindset enables executives to see opportunities arising out of ESG. For example, the government’s push for issuers to disclosure wage differences according to gender can be seen as an opportunity for an issuer to use pay equity as a competitive advantage to attract skilled labour.

Toshiyuki Imamura of Nomura Asset Management believes that corporate governance is progressing in Japan and that issuers are going beyond just going through the motions and are now implementing measures of substance. Whereas the Japanese corporate governance code sets a minimum standard, institutional investors’ are adopting policies which are a little above these standards, and by doing so, are raising the bar for issuers while keeping the targets achievable. The key, according to Mr. Imamura, is for issuers to understand the usually annually updated ESG policies of institutional investors.

As the discussion moved on to decarbonization, Jana Jevcakova believes that Europe is leading the way as decarbonization is mandated by law and emphasized the importance of issuers setting targets – not just long-term targets looking out to 2050, but also short and medium-term targets. Investors need to see clear steps that the issuer will take to achieve these targets. It is essential that the board of directors take responsibility and not just delegate to management.

Finally, moving on to activism and other engaged investors and their role in changing the landscape of corporate governance in Japan, Alicia Ogawa pointed out that it is in fact largely certain Japanese investors who have been involved in the landmark cases – investors such as the Murakami family, Strategic Capital, 3D Partners, Effissimo and SBI. Large global activists, with the possible exception of Value Act, do not have dedicated teams looking at Japan but rather trade in and out occasionally. They deem the returns from targeting large issuers neither large enough nor certain enough. However, there are a large number of opportunities in small and medium-sized issuers which are cheaper and typically have fewer cross-shareholdings to act as a buffer against activists. Ms. Ogawa expects to see an increase in ESG activism, but for now the majority of the proposals from activists will continue to focus on the balance sheet, targeting dividend hikes and share buybacks. Mr. Imamura summed up his thoughts at the end of the discussion by saying: “The PBR (price-to-book ratio) of many Japanese companies is still below 1x, so I hope that top management of these companies tackle this issue and increase the market capitalization through corporate governance reform.”

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