Japan’s Corporate Governance Conundrum, and How Investors Can Solve it

Out of more than 700 defined-benefit corporate pension plans in Japan, only five non-financial corporate pension plans have signed the SC. Second, a major portion of Japan’s asset owners are the companies themselves, in the form of direct “policy holdings” of the shares issued by other companies. Japan’s dual walls of “conflicted pension governance” and “allegiant shareholders” need to be torn down. Here is how it can be done.

How to Demolish Japan’s Wall of Yes-Man Allegiant Shareholders

By Nicholas Benes

The short story: it will not be so hard if institutional shareholders really want to topple it, and use the technique suggested here. But first, the background.



Background

This is still the biggest defect of Japan’s equity market, and recent reforms have only made a small dent in it. At the average listed company, between 35% and 50% of the stock is owned by such holders if one includes not only firms in “cross-shareholding” relationships but also firms that unilaterally hold stock in order to win business; most holdings by
banks and insurance companies; and parent companies, subsidiaries, and affiliates. Consistent with this estimate, when Japanese listed companies were asked, “what percent of your shareholders can you count to support management?” in late 2017, fully more than two-thirds of companies responded with numbers in the 30-60% range.

These “policy holdings” by “stable shareholders” represent a massive misallocation of capital that is being put at risk largely for the purpose of protecting executive teams at other companies. In 1967, Japan’s one of Japan’s most venerated managers and the founder of Panasonic, Konosuke Matsushita, minced no words in noting his concern about the then-recent rise of “stable” cross-shareholdings in these words: “If this situation continues, I think it is in no way desirable, because of the risk that once again a maldistribution of capital in our country will occur. I believe that this is not a sign of progress in capitalism; rather, it should be considered as a sign that we are moving backwards.”

Public Comment to the METI Fair M&A Study Group (by Nicholas Benes)

As the person who initially proposed the Corporate Governance Code to the LDP in 2013 and 2014, I am well aware of its limitations in various areas. For this reason, I am very pleased that Fair M&A Study Group have decided that its discussions should cover not only MBOs, but also ”cases which are likewise significantly affected by the issues of conflict of interest and information asymmetry”[1], including “cases of acquisition of a controlled company by its controlling shareholder.”[2]

This indeed an important mission, because these topics include virtually all types of M&A transactions and the public statements of executives and boards with regard to them. For many years in the post-war era, the failure of the government and the JPX/TSE to set forth clear bright-line rules that facilitate a fair, robust M&A market in Japan has stunted productivity, dynamism and growth in the Japanese economy.

“Linkage Between Corporate Governance and Value Creation” (METRICAL/BDTI) – Update as of January, 2019

Our joint research – “Linkage Between Corporate Governance and Value Creation” – between BDTI and METRICAL has been updated as of January 31. The most important inferences are summarized below.

(1) Correlations: Board Practices
and Performance

Significant correlation between board practices and performance continues.

(a) ROE: Nominations Committee existence, the number of female directors and percentage of INEDs show a significant positive correlation.

(b) Tobins Q: Nominations Committee, retired top management “advisors” (ex-CEO “advisors”), and percentage of INEDs show significant positive correlation.

(c) ROA (actual): Compensation Committee existence (negative correlation), Incentive Compensation Plan disclosure, and retired top management (ex-CEO) serving as advisors show significant correlation.

松下幸之助の言葉

今から40年前、50年前に松下幸之助が語ったコーポレートガバナンスとスチュワードシップの考えが、今注目されています。昨年月刊誌『Voice』で松下幸之助の「株式の大衆化で新たな繁栄を」と題する文章が紹介されました。 同氏の『実践経営哲学』からの引用と併せて紹介します。

曰く、株式会社は、社長や重役のものではなく、 株主のものであると同時に、社会の「公器」でもある。 決算期ごとに株主総会で業績を報告し、業績が良いモノは 株主から称賛とねぎらいの言葉を頂戴する。 充分な成果が上がらなかった時には、 謹んでお叱りを被る。これが、本来の姿であり、 株主は経営者の御主人である事を決して忘れてはならない。 株主は短期的な売買姿勢をとらず、むしろ「主人公」として毅然とした態度を保つ事が大事である。 単に株式を保有して配当を受け取るだけでなく、株主としての権威、見識をもって 経営者を叱咤激励する事も望ましい。(BDTIによる要約。以下は各出典本文から引用。)

Amended, Detailed Public Comment by Nicholas Benes to JPX re: “Review of the TSE Cash Equity Market Structure”

NOTE:  This public comment supersedes and replaces the one that I, Nicholas Benes, submitted on January 12, 2019)

As the person who initially proposed the Corporate Governance Code to the LDP in 2013 and 2014, and suggested a number of principles in it, I am well aware of its limitations in various areas and the fact that Japan has not yet attained the quality level for an equity market that is expected by global investors. In this sense I am very pleased that the JPX has decided to review its equity market structure and related standards.

Challenges and Realities

This indeed an important mission, for which is it essential to recognize and discuss the impact of a number of challenges that Japan faces in improving governance, efficiency, and trustworthiness of its equity capital markets. These challenges include:

Damages Estimation- How Much Will Nissan Have to Pay to Investors?

Mr. Ghosn’s criminal cases are ongoing. But the criminal cases alone will not put a close to this entire ordeal. It is a matter of time for Nissan to face civil cases filed by investors. Due to Mr. Ghosn’s understated compensation, it is anticipated that a considerable amount of assets will flow out of Nissan. The largest part of this outflow will be accounted for the damages claimed by and awarded to investors in civil lawsuits. What amount of assets will flow out of Nissan? This memo is an attempt to estimate the probable size of these damages.

How Many Shares are Actually Held by “Allegiant Shareholders [1]”?

By Ken Hokugo[2]
Director, Head of Corporate Governance, Pension Fund Association
Director, The Board Director Training Institute of Japan

There has always been confusion surrounding this topic.  From the point of view of those who want to help foreign investors understand the realities of the Japanese market, the most troubling number that is thrown about is the seemingly magic number of “10% or less”.   This number is frequently referred to by the media, with the source given as being the reports by a certain analyst at a research institute that is affiliated with a prominent securities firm.

Quite often, we encounter foreign investors who casually believe this widely-touted number of “10% or less” and therefore are not concerned very much (if at all) with the issue of “cross-shareholdings”  in Japan, in light of recent improvements in Japan’s corporate governance.  Needless to say, it takes a lot of energy to convince such investors that the reality of the Japanese market is different.  In this post, I am not trying to scare foreign investors away from Japan’s stock markets, but rather trying to encourage them to invest based on an accurate understanding of the situation in the context of history, culture, and the overall current environment.

Three Years of Policy Advocacy Worked! Now Five Non-Financial Corporate Pension Funds in Japan Have Signed the Stewardship Code

I was very pleased to see in the FSA’s updated list of signatories to the Stewardship Code, that Mitsubishi Corporation’s pension fund recently signed on.  This makes five major non-financial corporate pension funds that have signed the S.C.:  Secom, Panasonic, NTT, Eisai, and now Mitsubishi Corporation. Secom had signed from the start, but the others came after I urged the Prime Minister on this topic, and then the Minister of Health, Labour and Welfare (MHLW, in charge of corporate pensions), then wrote a proposal for a change of the regulations by MHLW…. which resulted in a joint study group between MHLW, the Pension Fund Association, pension experts, and the FSA (as observer) for the express purpose of encouraging pension funds to sign the S.C.

https://www.fsa.go.jp/en/refer/councils/stewardship/20181115/en_list_02.pdf 

This major progress for Japan, and these companies should be commended. There is an extreme disconnect between the way in which Japanese companies claim to care about their employees (and often do! ) but so far, have not seemed to care about the assets (retirement funds) of those same employees.  This is especially so when one considers that corporate pensions in Japan have no government guarantee, so as the company veers towards bankruptcy it first forces employees to agree to a big cut in benefits (a la JAL), and if it goes bankrupt and the pension is underfunded….well, “it is what it is”.

If anyone is interested, here is the “comply and explain” proposal that I submitted to the MHLW.
https://bdti.or.jp/2016/08/20/pengovrprop/ 

Nicholas Benes
Representative Director, BDTI

Japan CG Top20 Stock Performance: Gap with Market Indices Widens (August 2018)

CG Top 20 stocks continued solid performance in August

August stock prices have continued low trading volume. Topix and JPX400 indices tumbled in the middle of the month, but recovered toward the month end. Meanwhile, CG Top 20 prices also recovered their losses toward the end of the month. The gap between CG quality stocks and the market indices is widening. The stock price charts for in the indices and the composite of CG top 20 companies are shown in the following link.