Recent Trends in Corporate Governance in Japan

Introduction

Efforts to strengthen corporate governance in Japan have been gaining momentum in recent years. Amendments to the Companies Act of Japan (the “Companies Act”), which came into effect in March 2021 and included provisions for the mandatory appointment of outside directors for listed companies, represented a step forward in the development of “hard law” in corporate governance. The Corporate Governance Code (the “CG Code”), which constitutes “soft law” for listed companies, is also due to be revised this year to enhance the corporate governance standards of Japanese companies. Amongst other changes, the revised CG Code requires outside directors to comprise at least one-third of the board of companies listed on the Prime Market, which will be established as the equivalent of the current First Section of the Tokyo Stock Exchange (TSE) following the TSE’s market structuring that is expected to come into effect in April 2022.

The spread of COVID-19 in Japan, which has yet to be brought under control, has had a significant impact on corporate governance, changing the ways shareholders’ meetings are held. Among the measures proposed to mitigate the risks of infection, those relating to virtual shareholders’ meetings have garnered significant attention. In this regard, the relevant ministry, for purposes of enabling listed companies to hold virtual shareholders’ meetings, has promulgated the official stance that the Companies Act allows the conduct of certain types of virtual shareholders’ meetings.

Despite this, however, virtual-only shareholders’ meetings are still considered impermissible because the current Companies Act is generally understood as requiring a physical venue for shareholders’ meetings. In view of this, the bill for the amendment of the Act on Strengthening Industrial Competitiveness, a special legislation that enables companies to hold virtual-only shareholders’ meetings where certain conditions are met, has been submitted to the Diet for deliberation. This has been broadly welcomed. As shareholders’ meetings are foundational to the governance of companies, these developments have largely been hailed as an advancement of corporate governance in Japan. Another development is the rise of shareholder activism in Japan. Investors, both in and outside Japan, have demonstrated an increased willingness to engage with investee companies in Japan. This is reflected in the range of actions by investors, such as the convening of extraordinary general shareholders’ meetings and hostile takeovers, in response to shareholder proposals.

This article delves further into recent efforts to enhance corporate governance, changes in the format and conduct of shareholders’ meetings in response to the spread of COVID-19, and recent trends in shareholder behaviour.

Initiatives for the Enhancement of Corporate Governance

Amendments to the Companies Act

With a view to updating the rules on corporate governance in light of recent changes in socio-economic conditions, the Ministerial Ordinance for Partial Amendment of the Ordinance for Enforcement of the Companies Act (MCA) was promulgated on 27 November 2020, closely following the enactment of the Act for Partial Amendment of the Companies Act (ACA) on 4 December 2019. Both ACA and MCA came into effect on 1 March 2021. These constitute the first major partial revision of the Companies Act since 2014.

Mandatory appointment of outside directors

Before the latest amendments, more than 98% of all listed companies in Japan already had outside directors. For purposes of ensuring stronger corporate governance and creating a more reliable capital market environment in Japan, however, appointment of outside directors is now mandatory under the amended Companies Act for:

• companies with a board of company auditors that are obliged to submit annual securities reports (mainly public and large companies); and 
• companies with audit and supervisory committees.

This provides assurance to investors that certain types of listed companies in Japan will be subject to the supervision of outside directors.

Establishment of systems for appropriate determination of remuneration for directors

Commentators have highlighted the importance, from the perspective of corporate governance, of developing a system for determining appropriate remuneration and other terms of engagement in respect of directors, since terms of engagement have a strong correlation to directors’ incentives to duly execute their duties.

To increase the transparency of procedures for determining directors’ remuneration, the board of directors of a listed company will be required under the amended Companies Act to establish a policy on determining the remuneration for each of its directors, if the terms of remuneration for individual directors are not specifically addressed by the company’s articles of incorporation or by shareholders’ resolutions. Furthermore, under the amended Companies Act, the maximum number of the shares or share warrants that a listed company is permitted to grant to its directors as remuneration will be as determined by the company’s articles of incorporation, or through shareholders’ resolutions.

Additionally, the MCA has expanded the scope of information required to be disclosed in the business reports of public companies with regard to directors’ remuneration.

Revision of the CG Code

The CG Code, which forms part of the listing rules of the TSE, establishes the fundamental principles for effective corporate governance of listed companies in Japan, with the aim of achieving sustainable growth and the enhancement of corporate value over time. The CG code adopts the “Comply or Explain” approach under which listed companies are not obliged to comply with the principles stipulated in the CG Code, but are required, in cases where they have not complied with such principles, to explain their non-compliance. Despite its non-mandatory nature, however, the CG Code has significantly influenced the corporate governance of listed companies in Japan because such companies generally prefer to adopt the recommendations of the CG Code.

The CG Code was first revised in 2018, following its enactment in 2015, and a further revision was presented in April 2021 by a panel of experts established by the Financial Services Agency and the TSE. (The latest revisions are at the public consultation stage at the time of writing.) The following is a summary of the main principles introduced by the latest revisions.

• Principles promoting better performance of board functions – the revised CG Code provides specific guidance, including: disclosure of a skills matrix that describes the knowledge, experience, ability and other factors of each director; and engagement of independent outside directors with management experience.
• Principles encouraging diversity in the core members of a company – the revised CG Code provides specific guidance, including an explanation of key concepts, provision of diversity targets, and encouragement of disclosure of diversity status.
• Principles for the handling of sustainability issues – the revised CG Code provides specific guidance, including encouragement of the formulation and disclosure of basic policies on sustainability initiatives.
• Principles encouraging consideration of group governance status – the revised CG Code provides specific guidance primarily from the perspective of minority shareholder protection in listed subsidiaries.
• Principles promoting the reliability of audits and strengthening internal control and risk management – the revised CG Code provides specific guidance, including the establishment of systems requiring internal audit departments to report directly to the board of directors and the board of auditors.
• Principles strengthening the supervision of companies to be listed on the Prime Market – the revised CG Code provides specific guidance, including the appointment of such number of independent outside directors as to make up at least one-third of the board and the disclosure of climate change risks posed by a company’s operations.
• These amendments are scheduled to take effect in June 2021 (except for the last principle mentioned above, which will apply to companies that will be listed on the Prime Market from April 2022).

Changes in Format and Conduct of Shareholders’ Meetings in Response to COVID-19

Anti-infection measures in the administration of shareholders’ meetings

COVID-19 has resulted in significant changes to the conduct of shareholders’ meetings. To cope with the pandemic, companies have devised various ways to reduce physical gatherings of shareholders at meetings. At the same time, they are also implementing thorough measures to prevent the spread of infections at meeting venues.

Such measures include making recommendations for the exercise of voting rights in advance, requesting shareholders to refrain from visiting meeting venues, suspending the distribution of souvenirs, cancelling shareholder gatherings, restricting the number of shareholders allowed in meeting venues through prior designation and registration requirements and adopting virtual general shareholders’ meetings.

Virtual shareholders’ meeting

In contrast to conventional physical meetings, which directors and shareholders would typically attend in person, so-called virtual shareholders’ meetings have gained traction in the wake of the pandemic. A virtual shareholders’ meeting is a general shareholders’ meeting in which participation by shareholders are permitted via online chat, email, telephone conference, and videoconference systems, or other electronic or virtual means. The concept of virtual shareholders’ meetings also includes hybrid shareholders’ meetings, where shareholders are free to either attend meetings in-person or via electronic or virtual means. These meetings are described in more detail below.

Hybrid shareholders’ meeting

Hybrid shareholders’ meetings have been proposed and discussed in Japan since before the onset of COVID-19. These discussions culminated in an announcement by the Ministry of Economy, Trade and Industry (METI), in February 2020, of the “Guide to Implementing Hybrid Shareholders Meetings” (the “Implementation Guide”). The Implementation Guide is based on the recommendations of the “Study Group on Shareholders Meetings Procedures in the New Era”, which had considered the legal and practical issues in respect of hybrid shareholders’ meetings. Subsequently, as attention became increasingly focused on the use of the Implementation Guide as part of the measures for preventing the spread of COVID-19, the study group was reconvened by METI to formulate and publish “(Supplement) Case Studies” as a supplement for the Implementation Guide in February 2021, in order to further promote the use of hybrid shareholders’ meetings.

Hybrid shareholders’ meetings facilitate participation by shareholders who, by reason of their location, may find it difficult to attend meetings in person. Because of the COVID-19 situation, companies have also found it easier to persuade shareholders to opt for hybrid attendance in place of physical presence. As a result, an increasing number of companies are adopting this form of meeting.

It should be noted that there are two subsets of shareholders’ meetings under the concept of hybrid shareholders’ meetings:

“hybrid observer-type virtual shareholders’ meetings” (“Observer-type Meetings”); and

“hybrid attendance-type virtual shareholders’ meetings” (“Attendance-type Meetings”).

Observer-type meetings

An observer-type meeting is a meeting in which shareholders will not be considered in “attendance” in the legal sense, but which permits the use of electronic or virtual means for shareholders to observe meeting proceedings. As shareholders participating in observer-type meetings will not legally be deemed to be in “attendance”, meetings of this type generally do not give rise to procedural problems and are easy to adopt. Of the general shareholders’ meetings held in June 2020 by listed companies, more than 100 were observer-type meetings.

Attendance-type meeting

An attendance-type meeting, on the other hand, is a meeting that not only allows physical attendance by shareholders, but also permits attendance by shareholders in the legal sense by electronic or virtual means. Since virtual attendance is also considered legal attendance in meetings of this type, there is a need to consider how certain issues should be addressed, such as situations where attendance is disrupted as a result of communication or system failures, how shareholders who attend virtually should exercise their voting rights at the meeting, and how responses can be made to shareholder questions and motions. As attendance-type meetings present more issues as to implementation, less than ten of the general shareholders’ meeting held by listed companies in June 2020 were conducted in this format.

Virtual-only shareholders’ meeting

Virtual-only-type shareholders’ meetings are general meetings in which directors and shareholders are in attendance in the legal sense only by electronic or virtual means.

Currently, the Companies Act is generally understood as requiring a physical venue for shareholders’ meetings, and virtual-only shareholders’ meetings are therefore not permitted.

However, amid growing calls for virtual-only shareholders’ meetings as a result of COVID-19, the government has stated at its growth strategy meeting in December 2020 that a bill will be submitted to the 2021 ordinary Diet session to allow for the holding of virtual-only shareholders’ meetings under certain conditions, ahead of the 2021 shareholders’ meeting season. Accordingly, on 5 February 2021, the “Bill for Partial Revision of the Act on Strengthening Industrial Competitiveness” (amendment bill) was approved by the Cabinet, and submitted to the ordinary session of the Diet. However, the date of the enactment of the amendment bill is still unknown at the time of writing.

Recent Shareholder Trends

A series of reforms, including the introduction of the Stewardship Code in 2014, which requires institutional investors to fulfil certain stewardship responsibilities, and the aforementioned introduction of the CG Code in 2015, have ignited dialogues between listed companies and their shareholders. One notable aspect of this dialogue is the increased activism by shareholders, both in Japan and overseas. This trend has continued up to this day, and the rise in shareholder proposals is particularly noteworthy from the perspective of corporate governance. In the past, a substantial portion of shareholder proposals tended to relate to shareholder returns (such as requests for higher dividends and the sale of treasury shares) and governance issues (such as requests for the appointment of directors). However, proposals relating to shareholder returns saw a decline last year in light of the impact of COVID-19.

A hot topic in recent years has been the rise in activist calls for extraordinary general shareholders’ meetings and hostile takeovers, reflecting the growing sophistication in shareholder proposals. Notable examples include Oasis Management’s demand for an extraordinary general shareholders’ meeting to be held against Tokyo Dome (2020), Effissimo Capital Management’s demand for an extraordinary general shareholders’ meeting against Toshiba (2020), City Index Capital Management’s hostile takeover bid against Toshiba Machinery (2020), Strategic Capital’s hostile takeover bid against the Keihanshin Building (2020), and City Index Capital Management’s hostile takeover bid against Japan Asia Group (2021).

ESG-related shareholder proposals, which have been on an upswing worldwide, have also surfaced in Japan in recent years (such as the shareholder proposals at the Ordinary General Meeting of Mizuho Financial Holdings in June 2020), and are receiving close attention among industry watchers. As additional content related to ESG has been incorporated in the revised version of the CG Code, further developments in this area are anticipated in Japan.

By Yoshitaka Sakamoto, Tsunemichi Nakano, Michi Yamagami and Hideo Tsukamoto, Anderson Mori Tomotsune, Japan, a Transatlantic Law International Affiliated Firm. 

For further information or for any assistance please contact japanlabor@transatlanticlaw.com

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