“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 to enable 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 need to have to have many meetings with multiple companies, which for most investing institutions would be a very inefficient way to “engage”, particularly if little is ever put in writing.

In the new corporate governance environment in Japan, if you do this by following “rules of engagement” that are reflected in the letter – mainly, referring to practices mentioned in the corporate governance code – , this will not brand you as an activist whose name will appear on informal blacklists of investing institutions that certain companies refuse to meet.

The Most Important Part

The most important lines in the letter are these, in the conclusion:

“Most of the practices described in this letter are not particularly costly or difficult to put in place, but we realize that adopting and implementing them cannot be done overnight. Therefore, in order to give you enough time, we plan to monitor your company’s progress over the course of the next year. We would respectfully ask that you publicly disclose the details of your firm’s effective governance practices – including those practices set forth in this letter -, and the actions that are resulting from them-, in your corporate governance guidelines and other documents. Based on that disclosure, we would like to undertake further constructive engagement with your firm. In the event that that we do not see substantial progress, we may have to consider voting against the re-election of senior executives

The last line, in italics, is the part that gets underlined when it is circulated to members of the board and discussed with senior executives. Although it reflects your “gentlemanly, reasonable” understanding that realistically it may take a year or more to make “substantial progress”, it shows the company a timeline and a “stick” – the possibility that you will vote against the re-election of senior executives.

This is the line that puts communication “ammunition” in the hands of the General Manager in charge of IR, in two ways: 1) first, by setting forth detailed expectations about specific practices, in writing as opposed to his own unclear notes from a face-to-face meeting; and 2) second, by giving him a line to refer to when he shows it to the board–one that he knows will grab their attention. With this letter, the heads of IR, General Affairs or other departments can clearly answer the question that gets shot back at them whenever they suggest new practices: “who, precisely, among our shareholders is asking for that? And what exactly do they want us to do?“ Rather than referring to their scribbled notes about verbal comments made at meetings with investors, they can show this letter.

Getting the CEO’s Attention

This message, especially if it comes from other shareholders, is what gets the attention of the CEO. Now that companies must publicly disclose the exact voting results at each AGM, it is embarrassing to the CEO if the percentage of shareholders approving his re-election is less than 90%. Especially if this number falls less than 85% or 80%, the implication is that he has done a bad job, and the chances that the low support percentage will be reported in articles in the media is high. Japanese executives hate this sort of negative press, which sticks out like a sore thumb in a nation where there normally is not much public criticism of executives.

The Sample Engagement Letter

The example letter that I wrote is set forth below. I also have a Japanese version of this.

“[All members of the Board of Directors]
[All kansayaku, [as relevant]]
[General Manager, Investor Relations ]

Dear Sir/Madam,

We send our best regards, and hope that your business is going well.

As you may know, [institution name] is a long-term investor based in_____], and currently holds _____, or approximately ___% of your company’s issued and outstanding shares. We have been an investor since___[date]____ .

As a signatory of Japan’s Stewardship Code owing fiduciary duties to our beneficiaries, we take seriously our responsibilities with respect to stewardship, including engagement and proxy voting. Therefore, we are now writing letters like this to many of our portfolio companies in Japan, to explain our thinking regarding corporate governance, which is essentially the same as the thinking underlying Japan’s Corporate Governance Code (the “CGC”). We also wish to make some suggestions as to how your firm might in increase its value. By writing well in advance of the next AGM season, we hope to give your company ample time to take account of our views. If your company has already implemented some or all of these suggestions, we are appreciative, and ask for your understanding.

This letter is organized in three sections, as follows.

  1. Generic Matters
  2. Specific Action Suggestions
  3. Conclusion

1. Generic Matters

Accurate and Detailed Disclosure

In keeping with the Japanese government’s concept of the CGC and the Stewardship Code as “two carts of a wheel”, we expect each of our portfolio companies to provide accurate and robust disclosure about their governance practices, in order that we can fulfill our stewardship duties.

We look forward to receiving full public disclosure regarding the details of all of the subjects for which proactive disclosure are required to be included in “corporate governance reports” submitted to the TSE, such as your policies and thinking with regard to nominations, compensation, director training, engagement, “policy” (cross, etc.) shareholdings, related party transactions, and other matters. All disclosure should be robust and substantive, rather than formalistic, vague or “cookie-cutter” in nature.

In addition to these items, as you know the CGC also mentions many specific governance practices which are considered to be “best practice” in developed markets elsewhere in the world. Examples would be the use of a lead independent director, appropriate compensation that is linked to long-term performance, succession planning, executive sessions, the use of committees, and director training both before and after appointment. These are sometimes mentioned with slightly vague wording that could be interpreted to set them forth as mere “examples”. However, inasmuch as they are set forth in the CGC, from our point of view they should adopted, in keeping with the spirit of the CGC. Unless all such specific practices have been adopted to the extent possible, we think that a company cannot be considered fully “compliant” with the CGC.

In keeping with the CGC’s “comply-or-explain”, disclosure-oriented approach, we will expect detailed disclosure regarding the manner in which your company has actually complied with such practices, and if it has not complied, an explanation of the reason(s) why, and of the practices that it uses instead in order to address the particular governance issue at hand.

Moreover, where disclosure about “policies”, “thinking” or “practices” is required by the CGC, we will judge that your company in fact has an official “policy” about that particular matter only if that policy is written down in corporate governance guidelines or a memo that you reveal to the public, and if such disclosure clearly sets forth that the policy has been approved by the board, specifies the department or person that is responsible, and requires reporting about the status of implementation to the board, as appropriate. Briefly summarizing such “policies” in a TSE corporate governance Report will not be sufficient to demonstrate to us that they actually exist elsewhere in such manner as to dependably ensure their effective implementation. To facilitate efficient implementation and deepen understanding internally among board members and employees, we strongly suggest to our portfolio companies that they create, approve, and disclose their own detailed corporate governance guidelines.

Last, we would like to formally request that you make available English versions of all important disclosure documents on a timely basis. Kindly please provide us with English translations of your firm’s convocation notice materials, “yuho” financial reports, TSE corporate governance reports, voluntarily adopted corporate governance guidelines, and proxy voting results.

Nominations Policy

We believe that policy, criteria, and procedures regarding nominations of board members are exceedingly important because they determine the quality and capabilities of not only the next board, but all future boards. (Please note that when we write “board members”, we mean to refer to all kansayaku as well as all directors.)

We will look for the following practices, among others:

  • A committee of the board is responsible for conducting a broad-based search process and recommending candidates for internal and external director and kansayaku positions, including persons who the board plans to appoint as CEO and CFO. The committee is composed of independent outside directors. The committee’s process explicitly includes the evaluation of the current senior executives’ recent performance. The number of times that the committee met during the year, the number of candidates that were closely considered and interviewed, whether it used external advisors, and its other principal activities, are disclosed.
  • There is a concrete description of the search and recommendation procedures that apply to all members of the board and shikkou yakuin executive officers, and which are used to select candidates from a broad pool, based on specific criteria for skills, knowledge, experience, and diversity that are linked to the company’s needs and future strategy, e.g. using a forward-looking “needs matrix” or “skills matrix” that is disclosed to the extent practical.
  • The criteria being sought (or required before appointment) also reflect basic knowledge about topics that all directors should have, such as corporate governance practice, corporate and securities law, and finance and accounting. Evaluations of both individual performance and corporate performance are also integral parts of the recommendation process.
  • The reasons and logic for appointing or re-appointing each board member are clearly disclosed, with direct linkage and references to the company’s concrete circumstances and strategic needs. Merely pointing out that each person’s resume appears in the proxy materials is not sufficient. For executive directors, disclosure clarifies why that person is needed as a director, and what contribution he or she is expected to make, based on the company’s medium/long-term strategy and KPIs. For other directors, disclosure clarifies the specific areas in which contributions are expected, and the type of contribution.

Director Training Policy

Like nominations, director training policy is important because it will determine the quality of all future boards. It is for that reason that it appears as a principle in the CGC. High-quality director (and pre-director) training leads to an effective nominations process.  Furthermore, because many Japanese board members are executives or former executives, it is very easy for companies to provide director training prior to their nomination, and such training is also a very good opportunity to cultivate core management skills and new perspectives.

We expect the following practices with regard to director training and executive education. Please note that in general the persons who should receive training include not only all directors and kansayaku on the company’s board and its major subsidiaries, but also all “executives” such as shikkou yakuin, or persons similar to them.

  • The company arranges regular directorship-related training programs for all directors, statutory auditors, and executive officers. In our opinion, such programs are especially useful in the case of shikkou yakuin, in order to prepare them as candidates who may be appointed as directors in the future
  • The subject matter for all basic “required” training and “refresher” programs is disclosed, and includes basic knowledge that all directors should have (and usually need to reinforce) regarding corporate governance practice, corporate and securities law, finance and accounting, as well as emerging new topics and case studies. The policy requires all persons to take an initial course covering basic knowledge, but also includes periodic additional training to reinforce that knowledge, update it, and deepen understanding. The company utilizes external professionals and programs.
  • The number of persons (including shikkou yakuin) who received training each year, their positions, the types of topics covered, and the unit that is responsible for executing the firm’s director training policy according to that policy, are disclosed. The company encourages board members and executives to attend external seminars and programs at their own discretion, has a clear policy to reimburse all costs in such cases, and discloses the number of persons who have availed themselves of such opportunities.
  • There is an organized “orientation” program that is required for all new directors, regarding the company, its strategy, and its governance/compliance practices and related matters. “Internally-promoted” directors also attend this program, so as to assist with the orientation of external appointees as well as receive necessary induction and new perspectives themselves.

No embarrassment whatever should arise from the fact that board members or future possible candidates receive training. There is no such a thing a “perfect” director, kansayaku, or executive. Therefore, it is extremely important that knowledge and skills that are most essential for such persons be cultivated and strengthened – and that perspectives and experience be shared – at an early stage. To the contrary, embarrassment should arise when a training policy for this purpose does not exist.

Compensation Policy

A company’s policy regarding the compensation of all of its board members and senior executives (including shikko yakuin) is vitally important because it sets incentives for optimal decision-making and risk-taking. We will look for well-designed long-term incentives that motivate long-term value creation, and detailed disclosure that allows us to confirm the following:

  • The goals and logic of the compensation policy, including: (a) an explicit articulation of how compensation variability, timing/vesting, and structures are linked to the realization of the company’s medium/long-term strategy and KPIs; and (b) an explanation of the reasons for the mix, proportions, and variability of the different types of compensation, including base salary, bonuses, all types of stock-related or long-term incentives, benefits, and customary post-retirement positions.
  • The methods (formulas, metrics, and targets) used in calculating the amount of each type of compensation for different categories of directors and executives, and for the CEO and other executives, including: (a) how much total compensation varies between individual persons in the same cohort (e.g. at the same “seniority” level in terms of years of service), and between different cohorts; and (b) the proportionate role that group vs. individual performance evaluations play in the process of calculating the amount of each type of compensation for each individual.
  • How the compensation policy encourages appropriate risk-taking and entrepreneurial thinking that are justified by the range of expected returns but discourages excessive risk-taking, or inappropriate or illegal actions that may later come to light, for instance through the use of vesting and “claw-back” provisions.
  • The existence of a committee of the board that is responsible for continuously refining the major outlines of the compensation policy, and supervising important evaluation and compensation decisions. The number of times that the committee met during the year, its composition, its defined role and authorities, the results of is decisions, and other details about its activities, are disclosed. We believe that the compensation committee should not include non-independent directors or current or former executives as its members. (However, of course the committee is expected to invite senior executives to attend as often as needed to obtain their full input and perspectives.)

Independent Directors

In order to ensure the objective evaluation, selection and compensation of executives, and other forms of effective monitoring, we concur with the CGC that “full utilization” of a sufficient number of independent directors is essential. Analysis of companies in Japan so far indicates that as the percentage of independent directors nears or exceeds 50%, one observes significant and desirable changes in Japanese companies relative to other companies, such as the active use of fully independent committees as noted above, and a more robust growth strategy. We strongly encourage our portfolio companies to engage in a broad search for high-quality independent directors, so as to move towards (or maintain) this level of participation by independent directors.  

2. Specific Action Suggestions

“Generic” governance policies and practices are of limited benefit if they do not continuously translate into concrete actions that enhance profitability, shareholder value, sustainability, and trust from markets and stakeholders. Such concrete actions include refining strategy, business models, and the allocation of capital; investing boldly but wisely in business expansion and personnel; divesting non-core assets; setting KPIs and holding executives accountable to them; returning capital to investors when it is not needed, and similar matters.

In the case of your company, in particular we would respectfully suggest that you consider the following actions. We will be monitoring how you address these issues, and the effectiveness of the steps you take.

[ Some examples that are common for many companies appear below. Investors should customize this section to a large extent, focusing on what they consider to be the most important topics.]

  • [Setting forth clear financial and nonfinancial KPIs for the strategy, including ROIC and similar measures that can be compared to the cost of capital]
  • [Disinvesting early from low-margin business lines that are in decline, as _____, and ______ appear to be]
  • [As appropriate, focusing your firm’s strategy on growing the business lines where it appears to have clear competitive advantage, as ______ and ____ appear to be]
  • [Identifying and reducing “excess cash” or other unnecessary assets such as real estate and shareholdings, and shifting capital policy from a “dividend payout %” model to a more dynamic and flexible “stock buyback and cancellation” model ]
  • [Registering with the electronic proxy voting platform]
  • [Producing English-language versions of the convocation notice, all official financial reports, and CG Report, on a timely basis]
  • [Holding the AGM in July so as to avoid the “AGM clustering” period, as this is now possible under the tax rules]
  • [Regularly sharing feedback from investors with all members of the board, and allowing significant investors to meet with the CEO and (separately) with a person appointed as lead independent director ]


Most of the practices described in this letter are not particularly costly or difficult to put in place, but we realize that adopting and implementing them cannot be done overnight. Therefore, in order to give you enough time, we plan to monitor your company’s progress over the course of the next [year]. We would respectfully ask that you publicly disclose the details of your firm’s effective governance practices – including those practices set forth in this letter, and the actions that are resulting from them– in your corporate governance guidelines and other documents. Based on that disclosure, we would like to undertake further constructive engagement with your firm. In the event that we do not see substantial progress, we may have to consider voting against the re-election of the senior executives.

If you should have any questions about the contents of this letter, or if anything is unclear, please feel free to contact us at any time.”


Posted by Nicholas Benes, in his individual capacity and not representing any organization.