Aside from his many other accomplishments, Abe’s move to reform corporate governance within Japan was particularly well received by the global investment community, providing much-needed stability to investors across the world. His tragic death will not mark the end of the positive transformation he set in motion.
Abe’s successors have already signalled their intent to extend the former prime minister’s popular market reforms, a clear cause for optimism around the country’s investment outlook. Below, we highlight several positive governance developments likely to support the region over the long term.
Boosting board independence
One of the major issues corporate Japan has grappled with over recent decades has been the lack of external and independent oversight at the board level. However, this has changed significantly over the past several years.
Looking at companies listed on the prime market of the Tokyo Stock Exchange – the market with the strictest standards – the percentage of businesses with boards composed of at least one-third independent external directors rose from 6.4% in 2014 to 58.8% in 2020, and this figure is expected to improve further. The Corporate Governance Code previously stated senior management teams should feature at least two outside directors, but this was changed to ‘at least one-third for companies listed on the prime market’ in the 2021 revision.
The Japanese government has been pursuing this corporate governance reform policy since 2013 and has been bearing fruit. Looking forward, the newly appointed independent directors will start discussions that take into account all stakeholders, including shareholders. This is a new phase where we will start to see substantive management enhancements like companies focusing more on core businesses, management teams that enhance synergies across the companies and overall better receptiveness to shareholder cooperation.
Driving gender diversity
Another ongoing governance challenge Japan faces relates to the nation’s relative lag in addressing gender diversity. According to an Organisation for Economic Co-operation and Development survey, the percentage of female board members in Japan’s 50 largest companies sits at 12.6% – far behind the more than 30% visible across European countries. The figure declines further to 7.5% when all listed companies are considered – and this total remained flat at 1% until 2013.
Recent progress has been strongly influenced by governance reforms, but another key factor is the increasing amount of female human capital available at a senior level. The Equal Employment Opportunity Law, which prohibits gender discrimination with respect to recruitment, hiring, promotion, training and job assignment, was enacted in Japan in 1986, and those who graduated from college at the age of 22 that year are now 58 years old. With the average age of directors in Japan sitting at 59.5, from this point on, the pool of female human capital at a director level should become broader.
In addition, women are increasingly becoming senior managers of companies with long histories. For example, former Toshiba-affiliated electric wire company Showa Electric Wire Holdings, founded in 1936, installed President Takayo Hasegawa in office in 2018. Since then, the company has become a model case, accelerating the development of business related to renewable energy and electric vehicles and improving corporate performance.
Cross-shareholdings, another feature of the Japanese business environment, are also set to change notably over the coming years. The situation where one publicly-traded company holds a significant number of shares of another publicly-traded company is considered to be unreasonable in terms of both management discipline and capital efficiency.
While many companies retain cross-shareholdings due to past circumstances, some of our investees are already aware of the problem and are reducing cross-shareholdings by selling their shares. This is positive in two ways. First, governance will improve, and second, the sale brings in cash. If the proceeds from the sale can be used strategically, a company with a large number of cross-shareholdings can be seen as having investment resources other than profits.
For example, Tokio Marine Holdings holds approximately ¥2trn in cross-shareholdings. The company plans to sell these shares at a rate of ¥100bn per year and use the proceeds for mergers and acquisitions, as well as share buybacks. The company’s net income is in the ¥200-400bn range, so ¥100bn in sales proceeds would be significant.
Tokio Marine Holdings has continued to grow, acquiring overseas insurance companies and enjoying the risk reduction benefits of diversifying its insurance underwriting. This is a good case for eliminating cross-shareholdings, and we will engage so that other companies follow its example, improving governance and profitability in Japan as a whole.
Yu Shimizu is the fund manager of SPARX Japan Equity Sustainable All Cap UCITs fund at SPARX Asset Management