“Efficient Engagement” in Japan: A Sample Engagement Letter

A while back I spent some time writing an engagement letter (in both English and Japanese) that I myself would use if I was the head of governance and proxy voting at an investing institution that held positions in more than a handful of Japanese companies, and did not have enough time to meet with all of them, say, six or more times a year so as to do detailed “engagement” mainly via face-to-face meetings.   This actually includes most institutional investors, when you think about it.  I thought it might be helpful for friends of mine.

It has always seemed to me that in order for engagement to be efficient, you need to write down in detail your suggestions for companies, and send it out to them as early as you can – giving them a year or more of lead time to put new practices in place, if that is what one hopes.   Otherwise, in Japan very much gets “lost in translation”, and even less will reach the board.  Many governance practices are new in Japan, and just referring to them verbally will usually not be sufficient to fully communicate.  (As the person who proposed Japan’s corporate governance code in order for effective “stewardship” to occur, and having sat on a number of boards,  I have done a lot of thinking about this topic.)

To me, therefore, “efficient engagement” means that: a) you will send a letter or letters to the company’s board, one that will be largely or wholly standardized; but b) you may meet, or may never meet with the company, as you choose. You do not have to have multiple meetings with multiple companies, which for most investing institutions would be a very inefficient way to “engage”, particularly if little is put in writing.

APEC Report: Corporate Governance Plus Market Development

In 2016,  Europacifica Consulting delivered the case study, Financial Services Sector Reform in Japan, for inclusion in the APEC Economic Policy Report, published in November 2016.

In the case study, we argued that corporate governance was a vital area of potential structural reform in PM Abe’s economic agenda, which at the time had yet to show clear results.  Since then, there have been clear signals of improvement in corporate Japan’s balance sheets and governance practices, as well as a rise in Return on Equity among many of Japan’s largest companies.

Signals of bona fide structural reform are comforting, but we underscore the importance of another of the report’s key arguments; that Koizumi-era reforms in the financial sector did not go far enough in engendering self-sustaining financial market reforms.  Both financial reform and investor education may go further to promote households’ move “from savings to investment”, in other words, a move toward greater household participation in financial markets.

The case study may be found in Annex A of the report.  The case study was also prepublished by Columbia University’s APEC Studies Center as well (link to report).

Japan’s Revised Stewardship Code Now Requires Disclosure of Voting Records, in Principle

The FSA has finalized its revision of the Stewardship Code. Perhaps the biggest change is that it now encourages signatories to disclose their voting records “for each investee company on a per-agenda basis”, something I proposed to the FSA in 2010 but was ignored. However as you can see below, this is a “comply or explain rule”, thus weakening it to some extent:

“Institutional investors should disclose voting records for each investee company on an individual agenda item basis. (If there is a reason to believe it inappropriate to disclose such company-specific voting records on an individual agenda item basis due to the specific circumstances of an investor, the investor should proactively explain the reason. Institutional investors should at a minimum aggregate the voting records into each major kind of proposal, and publicly disclose them.)”

”Japan’s Coming Shareholder Revolution” (written in 2001!)

Here is an article I wrote in 2001, about the topic in the title. It makes interesting reading some 15 years later. While I may have made correct call… obviously I was a bit too early! It has taken a lot more work, by many persons, for Japan to move as far as it has come in the past years…and the job is not done yet.

“Last month, the Life Insurance Association of Japan published a survey of 561 public companies and 122 institutional investors, focusing on corporate governance and investor relations practices. The results exploded some myths regarding the supposed lack of support for modern corporate governance concepts among institutional shareholders in Japan. Japanese investors are in effect saying: “We want transparency and clear accountability, independent outside directors on boards, and independent board committees.”

The very fact that the survey addressed these topics is a breath of fresh air. Japan’s institutional investor community is weighing in on the emerging debate over corporate governance. It is none too late. Although they should be the most directly motivated constituency, institutional shareholders had been conspicuously quiet. Like most of Japan’s institutional investors, insurance companies have feared a backlash if they took a stance opposed by certain senior executives and politicians. They feared imperiling governmental assistance with industry cleanup, as well as losing insurance and pension business from companies in which they hold stock.

Logic and hard realities are finally coming to the fore. And the investor community will become more vocal as competition heats up in the fund management industry. Investment advisor companies, known as (toshi komon ), compete on the basis of investment returns and prudent decision-making, and do not have other businesses that might fear adverse repercussions.

Japan’s Productivity Gap – Employment System Re-examined

Japan’s GDP per hours worked only amounts to just above 60 percent of the level in the US. In a rapidly ageing society, such a situation is no longer tenable. When the employment to population ratio declines, productivity needs to increase in order to preserve the level of welfare.

Compared to other nations, Japan’s adult population is highly educated. Investment in research and development is also among the highest and corporations have access to an abundant amount of financial capital. The low level of productivity can therefore not be explained by lack of skills, technology or capital. Rather, the available resources are simply not employed in the best possible way.

The deficiencies are being acknowledged by the Japanese government, which is pushing for a “productivity revolution”. Besides the classic approach of promoting new technologies and the recent support for start-ups also undertaken in other countries, the emphasis is on corporate governance reform, more flexible labour markets and a change in working practices (hataraki-kata kaikaku, 働き方改革).

FT: “Companies fail to buy into Japan’s stewardship code”

“Minuscule adoption of code a hit to Abe corporate governance efforts”

“…..Nicholas Benes, one of the architects of Japan’s corporate governance code and head of the Board Director Training Institute of Japan said: “In order for the stewardship code to function as it was intended and be effective as hoped for, the most important part of the ‘investment chain’ that needs to be signed up are the end asset owners — a large proportion of which are corporate pension funds … they are the ones that dictate policy to the fund managers that have signed the code”.

Unless the corporate pension funds — as the biggest customers of the asset managers — are actively demanding better stewardship, fund managers would inevitably cut corners on engagement and proxy voting, Mr Benes added…. ”

Attribution Analysis of Change in CG Scores 09/2015-09/2016

Titlis has updated corporate its governance ratings for 500 major public companies in Japan as of September 2016. The CG scores improved 3/100 pts from a year ago,  steadily but at a slower pace than expectations at the inception of Corporate Governance Code. According to the attribution analysis of the changes in CG scores for a year, the category (factor) of the Board of Directors was the largest contributor and the categories of Incentive of Remuneration, Takeover Defense, and Share Cancellation also inched up scores.

Cross-shareholdings should be considered the effect of share price plunges. The resolution of cross-share holding is extremely slow. We should keep eyes on enhancement of CG.
http://www.titlisgroup.com/mwbhpwp/wp-content/uploads/CGR-attribution20161008.pdf

”Do Institutional Investors Demand Public Disclosure?” by Stephen A. Karolyi and Andrew Bird

”Do institutional investors demand corporate disclosure? A central question in finance and accounting is whether corporate transparency benefits or hurts investors. This issue is complicated by the fact that information provision could affect groups of investors differentially. Public information may crowd out the private information advantage of some institutional investors; alternatively, investors, particularly those following more passive trading strategies, may not be information sensitive. However, even passive institutional investors may benefit from an increase in monitoring by other stakeholders following improved disclosure. Further, regardless of the preferences of institutional investors, whether or not they are able to affect corporate policy on this margin is unclear. This tradeoff is reflected in mixed empirical evidence on the relationship between institutional ownership and corporate disclosure.

To address this tradeoff faced by institutional investors, we analyze the revealed preference for corporate disclosure by institutional investors and the associated impact on the information content of corporate disclosure. Empirically, identifying a causal effect of institutional ownership on corporate disclosure policy is difficult because experimental settings and direct measures of corporate disclosure quantity and characteristics are scarce. We propose a two-part solution to these problems. First, we utilize exogenous changes in institutional ownership around Russell 2000 index reconstitutions in a regression discontinuity design to identify the effect of institutional ownership on corporate disclosure policy. Second, we directly measure the characteristics of corporate disclosure using a novel data set composed of all 8-K filings between 1996 and 2006.

VIDEO: Global Agenda Debate – ”Abenomics at the Crossroads”

”Nearly 4 years have passed since Japanese Prime Minister Shinzo Abe launched the series of economic policies, dubbed “Abenomics”. It is centered on “three arrows”: Bold monetary policy to end the deflation, Flexible fiscal spending to stimulate the economy through large-scale public works projects, and Growth strategy to nurture industries. Today, Abenomics is drawing both praise and criticism. Though the profits of TSE’s First Section-listed companies hit record high for 3 straight years, the economy is still suffering from low growth rate. The unemployment rate dropped as 1 million jobs were created, but inflation-adjusted wages remain low. With the increasing social security costs due to the aging and shrinking population, government debt is ballooning. Can Abenomics revive the Japanese economy? 5 experts from economics, politics and business attend a Global Agenda forum at The University of Tokyo to discuss how the world rates the policies and what it expects from them……”

”Can Abe’s third arrow reforms benefit investors?”

Although the “third arrow” in Japan still has mixed reviews, it can not be denied that with the shift to deliberate improved corporate governance, there is more shareholder involvement in Japanese companies.

In this article, Mr. Naoki Kamiyama of Nikko Asset Management, describes some of the positive changes that now benefiti nvestors.

Read full article here.

Source: FE Trustnet