4 Things Japan Needs to Do to Improve its Business Climate
Japan has been rolling out corporate governance reforms over the past three years. Both the Corporate Governance Code, which applies to company boards, and the Stewardship Code, for institutional investors, are designed to raise governance standards in a country with deep-rooted societal issues that hinder domestic and international economic performance. But a number of issues are slowing full acceptance of the reforms that need to be addressed.
When Prime Minister Shinzo Abe instituted Japan’s Stewardship Code in February 2014, followed by the Corporate Governance Code in June 2015, his intention was for both to work in concert with his three-point economic policy dubbed “Abenomics.” The first two points consist of fiscal stimulus and monetary easing.
But integration of the non-binding codes within Japan’s business sector has been met with some resistance. Following the institution of the Corporate Code, for instance, companies that hold their Annual General Meeting in June 2015 were required to submit governance reports by December of that year. A total of 2,485 companies submitted, with 1,858 of those listed in the first and second tier section of the Tokyo Stock Exchange. Yet only 216 (11.6%) of those agreed to all of the Code’s proposed principles. The remaining 1,642 companies (88.4%) took advantage of a provision that allows them to provide explanation for non-compliance.
Despite being internationally focused, some Japanese companies still operate with a domestic mindset that can influence the corporate environment and company culture. Ways of working set deep within Japanese business tradition have seen Japan create major multinational organizations, renowned for their technical expertise and their pioneering attitude to expansion and innovation. These traditions are often challenged by the push for global standards and often the tried and tested ways of doing business are valued above transparency. Factoring in the loyalty Japanese employees have for their companies where they have historically assumed to have the security of lifetime employment juxtaposed with unrealistic performance goals, the new Corporate Governance Code functions more like a loose set of guidelines rather than something to adhere to.
Without doubt Japan’s corporate governance profile has improved over the past year and companies are addressing the changes expected of them. But to achieve more robust success in the global market, Japan will have to address four core issues:
Reshape Board Structure and Add Diversity
In the past, the qualifications of some board members have been questionable, with some having little to no business experience or dubious credentials. To expand perspectives that could benefit a board, Japanese companies need to bring in outside directors who are not only knowledgeable, but truly independent. To better diversify, more seats should be made available to outsiders who can bring new ideas to the table and are not subject to the same protocols that internal directors can often face. If Japan wants to look inward for board members, there should also be a concentrated effort to identify qualified women. Currently women hold only 3.1% of board seats among Japan’s 30 largest companies, which is a sizable distance from the 30% Prime Minister Abe proposed by 2020.
Increase Transparency and Grant the Press Freedom
Global media has continually been a force in investigating and reporting questionable business practices and can play a vital role in corporate governance policy by encouraging politicians to take a position in corporate affairs, or by publicly shaming companies for poor corporate practice affecting reform. Unfortunately, a State Secrecy Law passed in late 2013 and backed by Prime Minister Abe has made it nearly impossible for Japanese media to report malpractice without the threat of a five-year prison sentence for leaking state secrets. That, combined with the fact that most media outlets’ income depends on revenues from advertisements, contributes to a censored press afraid to speak out against the hand that feeds them.
Ban or Eliminate Cross-shareholding
Although cross-shareholding is seen as a friendly way to strengthen business relations, the practice of companies holding shares in one another remains an issue. Efforts have been made to make cross-shareholding more transparent to the public. In fact, the Corporate Governance Code requires companies to disclose policies on cross-shareholdings and the exercise of voting rights.
However, due to the concern that activist investors are becoming more vocal, many firms are reluctant to part with their friendly shareholdings for the sake of self-preservation. Progress has been made nonetheless. Japan’s three largest banks, Mizuho, Sumitomo Mitsui and Mitsubishi UFJ Financial Group, have all accelerated targets to sell their cross-shareholdings. Hopefully this will set a precedent for corporate governance that other institutions will adopt.
Overhaul Out-of-Date Corporate Culture
Most of the above issues stem from a societal and historical context. Many successful business giants in Japan were established before World War II, so attempts at massive reform often fall short in the face of traditional values, structure and practice. Maintaining the status quo and preserving harmony are paramount in Japanese society, but they can become a hindrance to encouraging change.
It was reported that one of the biggest problems within some Japanese corporations was a corporate culture that demanded its employees hit unrealistic sales targets. These targets would sometimes be announced just prior to the end of the fiscal quarter or year, putting added pressure on divisions to produce fraudulent records. Instances such as these demonstrate that when the line between loyalty and obedience becomes blurred, and when societal and business expectations are not separate, issues are sometimes overlooked.
If Corporate Governance Codes are going to be effective in Japan there will need to be a shift in the way companies conduct their business. So far, the progress Japan has achieved with its new corporate governance policies is promising, but it will need to continue and be lead by those very traditional institutions which created the building blocks of one of the world’s largest economies.