The Journal The Authority on Global Business in Japan

At the end of last year, a prominent Japanese automotive manufacturer raised a scandal relating to its CEO’s remuneration. This scandal was widely known due to the amount of media coverage it received. This article focuses on the topic of Corporate Governance (CG), instead of misstate­ments in the Annual Security Report submitted to the Financial Services Agency (FSA) in Japan and aggravated breach of trust.

Optional Remuneration Committee

If a company has made the choice to be a company with a board of auditors, Japanese Corporate Governance Code Supplementary Principles paragraph 4.10.1 states that the company should establish an independent optional remunera­tion committee and should seek appropriate involve­ment and advice from independent directors. If the company in question had established this optional remuneration committee, they might have avoided scandals such as those currently in the news.

The following table shows the number of listed companies that have adopted the optional remuneration committee as of January 5, 2018.

Why Is It a Problem?

Deciding one’s own remuneration may give rise to irrational cash-out flow. However, the issues are not limited to reducing a company’s property. From the viewpoint of CG, a company should consider “separation of business execution and over­sight of the management,” “ROE,” and the “P/B Ratio.”

If a managing director, such as a CEO, is able to decide the amount of their own remuneration—instead of this being done by a committee—an effective supervisory function may not work appropriately. As a result of inefficient business administration by a managing director, it might be hard to expect to improve ROE or the P/B Ratio from a medium- and long-term perspective.

The FSA analyzed the ROE and P/B Ratio of Japanese companies which have improved after setting the CG Code in 2015. It categorized the Japanese companies based on the results of ROE and the P/B Ratio, and reported the features of each category as follows:

 

Separation Matters

The most important thing for “separation of business execution and oversight of the management” is whether a managing director is able to evaluate themself objectively, or a managing director is able to supervise oneself, including decisions of one’s own promotion or remuneration. If managing directors have the ability to evaluate themselves objectively, it does not cause a problem. It is becoming a common perception that a managing director should focus on the business challenges, such as improvement of ROE or the P/B Ratio, rather than issues which are easy to resolve by setting rules or mechanisms, such as deciding remuneration.

Do Not Miss!

The FSA announced a new disclosure rule on Annual Security Reports for the year ending March 31, 2019, to enhance informa­tion how to decide directors’ remuneration. The new rule requires to disclose a proportion of performance-based remunera­tion to the total amount, and index of performance-based remuneration. n