Who gains from corporate governance in Japan?


Every time I turn on the TV news it seems there is someone from Toshiba apologizing. At least the last one was for something normal — posting massive losses, a great improvement over their 2015 mea culpa for years of dodgy accounting.

When that scandal broke, Western journalists plied me for pithy quotes about what it meant for Japanese corporate governance, but “Nothing” was the only thing that came to mind. If they had asked “Why do corporate scandals happen?” I could have at least answered with the joke about why dogs lick themselves: “Because they can.”

Despite generating pleasingly iconic apologies with lots of ritualistic bowing, I doubt Japanese corporate scandals themselves are particularly “cultural.” German corporate governance wasn’t a hot topic when Volkswagen got busted for fiddling emissions tests. Corporate fraud seems to happen in different places for different, highly contextual reasons. The real challenge is to understand that context.

Toshiba’s 2015 scandal did come at a time when Japanese corporate governance was in the news a lot, with the Tokyo Stock Exchange having just adopted a new Corporate Governance Code for listed companies. The code is supposed to ensure better corporate performance through more independent directors, more women on boards and formal training for board members.

Having watched my friend Nick Benes, co-founder of The Board Director Training Institute, spend years advocating for corporate governance reform in Japan while going largely unrecognized as the initial proponent of the code, its adoption seems a positive development on a number of levels. But could it have saved Toshiba from needing to apologize or prevented other corporate scandals in the past? We cannot know, but even hypothetical answers require thinking in positional terms: Who benefits from corporate fraud and who is harmed when it results in public scandals? This in turn requires thinking about for whose benefit companies should be managed in the first place.

The code seems oddly unclear on this point, speaking broadly of various “stakeholders.” Benes suggests that the code’s inclusion of a section stressing that “the rights of shareholders” are worthy of management attention before the section on “other stakeholders” is significant. That said, the Company Act is less ambiguous in clearly mandating that corporations should be run for the benefit of shareholders and no one else. But so what? Reality is different from law, and maybe the code just acknowledges that.

Shareholders: Worth caring about?

I often ask students, “Why should management care about shareholders?” Invariably one of them answers, “Because they invested in the company.” This answer is actually wrong, if we are talking about publicly listed corporations. Their shareholders invest not in the company itself but its shares, a subtle but important difference.

Buying shares from an anonymous stranger on a stock exchange may be an investment, but it brings no new value directly into the company itself. Any particular share might change hands dozens of times daily and be the progeny of a public offering that took place decades ago. Moreover, public company shareholders include fickle speculators: foreign hedge funds, day traders or heartless robotic algorithms incapable of caring about the company as a (legal) person, its business or its management. So why should management care about them?

One answer might be “because shareholders own the company.” A basic problem is that for this answer to be true in practice requires more abstract thought than most managers are probably capable of any given day. If you rent your home, when was the last time you spent any time thinking about its owner?

Moreover, the answer may not be as true as you think: Some governance gurus claim shareholders can’t own companies because they are just abstract, legally-made-up fictions (like ownership, money and marriage). In their view, companies are just a web of contractual relationships in which shareholders are just one of many “stakeholders,” whose ranks include employees, customers, vendors, lenders and other denizens of the firm and its business.

Japan has long been held out as exemplifying “stakeholder capitalism,” with management supposedly deftly balancing the interests of various stakeholder groups. The code acknowledges as much, referring repeatedly to “long-term corporate value” without defining it, or indicating how managers should prioritize stakeholders, or the degree to which they can sacrifice shareholder interests to benefit other stakeholders.

Another answer might be that shareholders can fire poorly performing management or even agree to sell the firm in the market for corporate control created by public share ownership. This may be true in theory, but it would be perfectly rational for managers to abhor this type of uncertainty and seek to avoid it. And perhaps this is why many Japanese companies still have cross-shareholdings with customers, vendors and other business partners — stakeholders — that function as mutual pacts to vote in favor of the status quo at each other’s annual meetings.

Stakeholder capitalism does mean Japanese public companies are likely to have additional business relationships with some shareholders. It may thus be quite irrational to expect management to treat these shareholders the same as some foreign fund that loaded up on shares six months ago but may disappear tomorrow if the price hits a certain target. Shareholder equality may be a principle of corporate law, but so what? In theory the criminal justice system should give due process to accused pedophiles, but who really wants to see one getting freed on technicalities?

In 2015, Orix Corp. co-founder Yoshihiko Miyauchi was quoted as saying management should protect companies from “stupid (institutional) shareholders” who demand dividends, buy-backs or short-term results. This illustrative comment may reflect a perfectly sensible view of shareholders for management to have, particularly those interested in a wider range of stakeholders. It also completely reverses the role of corporate governance, which is traditionally about protecting shareholders from stupid or clever self-interested managers who seek more benefits for themselves, their underlings and other more immediate stakeholders.

Many ways to milk the eternal cow

Perhaps it helps to remember why we have corporations in the first place: to free business from the terrible unpredictability of human death by allowing imaginary immortal creatures to own property and sign contracts. But even if you allow a safe full of gold bars to be legally owned by something that doesn’t exist in the real world, you still have to keep it from being looted by people who do.

Business is about storing and ultimately extracting value from corporations, and different stakeholders can do this in different ways. Corporate governance is about controlling that process, but that means it is not just about the ties between shareholders and management.

Consider, for example, estimates that 70 percent of all Japanese firms are in the red. Some may be poorly run or unlucky, but many may be family-run small or medium-size companies from which owners can extract value through means other than shareholdings. Why generate taxable profits to pay yourself taxable dividends when you can put your family on the payroll, take a company trip to Guam, and generally try to put as many living expenses as you can through your company using pre-tax money as the authorities will let you?

Things are more complicated for large public companies, but the basic dynamic remains that employees, lenders, suppliers and other stakeholders can extract value from companies outside of whatever shareholding relationship they might also happen to have. A Japanese company with extensive cross-shareholdings has a network of actual or potential business ties that most foreign firms cannot replicate with a local subsidiary.

Their proximity to the metaphorical safe full of gold often puts employees in the best position to both extract value from corporations and prevent such extraction from taking place. Similarly, Japanese corporate boards still dominated by members who rose through the ranks through thickets of factionalism and competing internal interests are likely to have both a deep understanding of employee wants and needs but also insights into how they can misbehave.

Lackadaisical returns (to investors) often fuel speculation that shareholders in Japan should be treated better. Yet Japanese shareholders have far stronger formal legal rights than those of a company invested in, say, Delaware. Kyocera founder Kazuo Inamori espouses the view that firms should focus on making employees happy rather than shareholders. Maybe he’s right in that whatever increase in value a company experiences is likely due to hard work by employees rather than passive shareholders.

Firm guiding hand of government

In fact, it is probably futile to talk about corporate governance in Japan without also talking about employment law first. Dan Puchniak at the National University of Singapore has gone so far to suggest that Japanese companies are safe investments not because of corporate law but due to the lifetime employment system. They thus have an interest in preserving long-term corporate value, coincidentally the mantra of the Corporate Governance Code. If this includes conservative management, piling up capital for a rainy day and various other behaviors that annoy short-term investors, all the while avoiding decisions that favor a particular group of stakeholders, so be it. It also means Japanese corporate fraud is often oddly benign in terms of intent, motivated by a desire to help the company avoid shame rather than enriching insiders.

Yet when talking about lifetime employment, it is easy to forget it exists through government policies and regulations. Thus, much Japanese corporate governance may be plain old governance: government using companies to keep the economy going and effectively functioning as part of the social welfare system for a large chunk of the population. Government has arguably long been one of the most significant yet least mentioned stakeholders in the Japanese system. Now, with exchange-traded fund purchases by the Bank of Japan and national pension fund reportedly making the government the largest shareholder of 1 in 4 Japan-listed firms, it almost seems as if we are approaching a singularity: corporate governance by the government, for the government, so that it can stimulate the economy, avoid default, pay your pension and subsidize your medical insurance.

And with Toshiba shareholders to vote on divesting its memory business later this month, a recent Gendai Business story saw an unnamed trade ministry official opining on why the firm could only survive as an elevator company, and how Apple would be a preferred buyer for its strategic businesses. Stakeholder indeed.

So perhaps managers need to channel the spooky kid from the movie “The Sixth Sense” and start seeing shareholders everywhere, because that is probably closer to social reality. The trade-off should be more candor about the myriad ways in which government and corporations interact. My two bits on corporate governance in Japan are that the most meaningful thing that could be done about it would be mandatory disclosure of all amakudari employment of ex-bureaucrats by public firms (including as “advisers” and “consultants”). They are as close to the safe full of gold as anyone.

Colin P.A. Jones is a professor at Doshisha Law School in Kyoto. The views expressed are those of the author alone. Your comments: community@japantimes.co.jp