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Business trends

Institutional investors squeeze Japan's insular boardrooms to open up

Pictet and Sumitomo Mitsui to veto decisions if third of board is not from outside

Japanese companies tend to have fewer external directors than foreign counterparts. (Photo by Akira Kodaka)

TOKYO -- With Japan's annual shareholders meetings season coming up later this month, institutional investors are ramping up pressure on companies to appoint more and better external directors who can improve corporate governance.

Japanese companies often promote their board members from within, which can undermine governance and weigh down earnings by preventing them from realizing their full potential. Investors will force them to bring in more independent voices by vowing to reject unsuitable appointments at shareholders meetings.

Pictet Asset Management (Japan) will reject top executive appointment proposals at companies where external directors make up less than a third of the board. Sumitomo Mitsui Trust Asset Management will vote against an entire slate of directors unless the one-third threshold is met but is granting a one-year grace period to companies with satisfactory return on equity. Their threshold only applies to companies with nominating or auditory committees, most of which are larger corporations.

Similarly, Mitsubishi UFJ Trust and Banking plans to urge companies to name at least three external directors on a board of 15 or more. It will vote down entire boards starting in April 2020, unless external directors make up one-third of the total.

JPMorgan Asset Management (Japan) has added new language to its voting guidelines stipulating that it would be ideal for external directors to make up the majority of corporate boards in the future.

These investors are pushing for more stringent standards than those in the Tokyo Stock Exchange's Corporate Governance Code. That document, updated in 2018, says only that "if a company believes it needs to appoint at least one-third of directors as independent directors based on a broad consideration of factors," it should do so.

Others are focusing more on the quality of external directors. U.S.-based BlackRock opposes the reappointment of external directors who attend less than 75% of board meetings, unless they provide a satisfactory explanation.

FIL Investments (Japan), the local arm of Fidelity Investments, does not consider a director to be fully independent if he comes from a second company that holds shares in the first as part of its corporate strategy.

Institutional investors hope that better oversight by external directors will boost governance and corporate earnings. Nearly half of Japan's companies with nominating or auditory committees fell short of the one-third mark in fiscal 2017.

Longtime company veterans tend to make up the bulk of Japan's executive teams, which critics say leads to lax governance, lower profits and scandals. In contrast, the boards of many U.S. companies are made up entirely of external directors, with the exception of the CEO.

A key challenge in Japan is the lack of viable options. In a survey published last year by the Ministry of Economy, Trade and Industry, just 20% of companies said they had no trouble finding external directors. Many of these directors also serve on multiple boards, or are academics and former bureaucrats without the necessary business background.

And companies with many external directors are not immune to scandals. Businesses face the task of effectively incorporating outside perspectives to their management.

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