Corporate Governance Code in Japan

As one of the measures of the Japan Revitalization Strategy approved by the Cabinet, the Corporate Governance Code was issued on June 1, 2015, a joint effort of the Financial Service Agency and the Tokyo Stock Exchange (TSE). Accordingly, TSE’s listing rules and regulations were revised. Japan’s initiatives for the corporate governance system have significantly accelerated in recent years.

1. Purpose
The Corporate Governance Code will contribute to the development and success of companies, investors and the Japanese economy as a whole through individual companies’ self-motivated actions. The goal is to achieve sustainable growth and increase corporate value over the mid-to-long-term through transparent, fair, timely and decisive decision-making by companies, with due attention to the needs and perspectives of shareholders as well as customers, employees and local communities.

2. Governance Structures Under Corporate Law
The corporate governance structure in Japan has been unique and different from the rest of the world for a long time. Under Japanese Corporate Law, three alternative structures are provided. The chart shows the typical structure employed by most companies in Japan. Statutory auditors are elected and play a major role in overseeing the board of directors and executive officers. The majority of board members are elected from the internal executives. For this reason, the board could not function well as a supervisory board of executive officers.

3. Two Major Changes
The code does not adopt a rule-based approach, but rather a principle-based, comply-or-explain approach in order to provide flexibility for corporations under different situations. The listed companies shall be required to explain the reason for non-compliance with the code. The major changes are:

Effective Use of Independent Directors
Independent directors should fulfill their roles and responsibilities with the aim of contributing to the sustainable growth of companies and increasing corporate value over the mid-to-long-term. Companies should therefore appoint at least two independent directors that sufficiently have such qualities.

Choice of External Auditors
Accounting auditor candidates should be evaluated, chose and proposed by the board of statutory auditors (kansayakukai).

The majority of companies have been adopting the Code and reporting the details in their Governance Reports.

This is good news. The recent Olympus and Toshiba scandals have been widely reported, highlighting governance issues. I believe the core of governance lies in who elects and dismisses a CEO and how. In Japan, most CEOs are not annually evaluated on their performance by the boards, and the boards are not taking the initiative to elect and dismiss CEOs. The role of independent external board members should be to ensure that the best CEO is running the corporation. tj

The complete article can be found in Issue #278 of the Tokyo Journal. Click here to order from Amazon.