“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).

“A New Dawn for Japanese Governance” by Frank Curtiss

Steady progress is indeed being made as a result of the efforts being made to improve corporate governance in Japan now that remarkable changes are  observed.  “Japan is the land of the rising sun, but as far as corporate governance is concerned, it has been more a land of false dawns over the past 15 years or so. However, some significant […]

Company Law Reform in Japan:  Losing its Mojo?

by Nicholas Benes

This year, Japan’s governance reform drive will either keep going, or run out of steam. Judging from the amendment of the Company Law that is now underway by an advisory council of the Ministry of Justice (MOJ), the latter is likely.

Strikingly absent is a clear over-arching vision of the most important themes that amendment of the Company Law should address now that the country has a corporate governance code. In other words, what is missing, that can only be addressed via the Company Law?

If the government were truly intent on bringing about behavioral change on the part of all Japanese boards and executives, it would focus on harmonizing key aspects of the confusing array of three different corporate governance models which listed companies can adopt, and moving towards a more consistent version of the “monitoring model” for governance that has become internationally accepted and is now embodied in its own corporate governance code.

To do this, it would change the law to enable boards to flexibly appoint capable (and legally accountable) senior executives from a much wider range of candidates than is currently possible. It would also establish rules that require boards to fulfill the independent supervisory and oversight roles envisioned for them under the corporate governance code, unaffected by managerial self-interest, if they wish to delegate wider authority to executives and pay them incentive compensation determined solely by the board.

What Correlates with Superior Corporate Performance? (Summary of Research)

BDTI and METRICAL conducted joint research regarding the governance structure/practices and related corporate actions that correlate with superior firm performance in Japan, and reported on the preliminary results at seminars hosted by BDTI on March 16th and by Goldman Sachs on April 4th. Our research is still underway, but the preliminary results are intriguing and provide useful guidance for the next stage of analysis.

BDTI and METRICAL believe that corporate governance is not functioning effectively unless it leads to superior strategy, fine-tuning of capital allocation and capital structure, and other value-creating corporate actions.  Therefore, in our research we have sought to identify the apparent linkages and correlations between board practice, key corporate actions, and value creation.

In Phase 1 of our analysis, we studied the TOPIX100 Index composite (large 100 companies) to see whether scores we assessed for each company’s nomination policy, training policy, compensation policy, board evaluation policy, and the % of independent directors significantly correlate with ROA and ROE.

A Study of Cross-Shareholding

Cross share holding is still a big issue in Japan, as the cancellation of shares and return on shareholders equity remain slower to improve. This report shows this evidence clearly, using analysis of 500 companies of core research universe as of August 2016. Average ROE and CG scores for 50 largest cross share holdings/sales companies were lower than those for overall 500 companies. A half of 50 companies are banks and those holdings have not really decreased for a year. Due to accountability to shareholders, companies should disclose cost/benefit on the holdings that put downward pressure on ROE by earning only dividends. Detail is shown as link below.

http://www.titlisgroup.com/mwbhpwp/wp-content/uploads/Cross-share-holdings20160905.pdf

Companies Improved CG Scores 09/2015-09-2016

Titlis updated companies in Japan improved CG scores from 09/2015-09/2016, following the previous posting of Attribution of change in CG score. Of 455 companies 7 companies removed takeover defense and many companies moved to improve board of directors at slower but steady pace. This is not enough but we should positively appreciate further effort in near future. Meantime share holding and share cancelation that would put positive pressure on return on shareholders’ equity have shown little improvement.

http://www.titlisgroup.com/mwbhpwp/wp-content/uploads/CGscore-improvement20161007sample1-2.pdf

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

“How Japanese Companies are Navigating the Corporate Governance Code” (Speech to CII)

Here is the short speech that I gave to the Fall 2016 Conference of the Council of Institutional Investors (CII),  on September 30, 2016.  On this video, my speech starts at the 36:00 minute point.   Below, I have reproduced the CII’s summary of my comments, and further below, the full text of my speech.

” Nick Benes, representative director for the Board Director Training Institute of Japan, said a sea change is underway in Japan in terms of companies beginning to comply with the Corporate Governance code, but there is still room for improvement. He reported that almost 80 percent of Japanese companies now have two or more independent directors and 40 percent of large companies have their own corporate governance guidelines, but beyond that, the reforms that companies say they have in place are lacking in substance. He estimated that 90 percent of firms say they comply, but have little evidence this is the case and few have actually changed their practices. Despite these setbacks, Benes said he remains optimistic that Japanese companies will move in the right direction because there is now broad awareness that “governance is good”. Additionally, disclosure has vastly improved and the number of votes opposing the re-election of directors is climbing. A video of this session is available here.

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Text of Speech (and Slides)

“In 2013, I was lucky enough to propose to key congressmen in Japan, that Japan should have a Corporate Governance Code.  I then advised them, and then the Financial Services Agency, about the content of the Code.

So I am very pleased to have this opportunity to summarize the progress that Japanese companies have made so far in implementing the principles of the Code, based on my activities as consultant, independent director, “directorship” trainer, and policy advocate.

My main message to Committee members is this:

1)    A sea change is underway in companies, the media, the government, and the public. Because Japan is a “shame-based” society, the vastly enhanced disclosure required by the Code has created a strong virtuous circle.

2)    These changes represent a very big opportunity for foreign investors, but only IF they study the Code and the disclosures in detail, and then leverage the Code’s principles so as to make specific requests for better governance practices to Japanese companies they invest in, while also brandishing the possibility of consequences – such as not re-electing senior executives, – if progress is not made.

Here are some highlights “from the trenches” about what is occurring in Japan: