Stewardship is not a new concept. The seminal 1992 Cadbury Report recommended that investors should disclose their policies on the use of their voting rights. This was drawn from the UK’s Institutional Shareholders’ Committee (ISC) Guidance, which encouraged company engagement and voting—cornerstone principles of stewardship codes today.
The 1998 Committee on Corporate Governance, chaired by Ronnie Hampel, recommended that “pension fund trustees should encourage fund managers to take a long view in managing their investments” and to make considered use of their votes.
This, together with the Cadbury recommendations, then served as the basis for a dedicated section on investor responsibilities in the 2003 Combined Code on Corporate Governance, which focused on dialogue with companies, governance disclosures and voting.
In the same year, the International Corporate Governance Network (ICGN) published a first Statement on Institutional Investor Responsibilities, now recognised as the ICGN Global Stewardship Principles (2016). This covered issues such as accountability and reporting to beneficiaries, voting practices and conflicts of interests.
Five years later, the financial crisis led to public criticism of the effectiveness of investors in being able to hold boards to account. The UK Treasury commissioned the Walker Review of Corporate Governance in the UK Banking Industry, which recommended “…a stewardship duty on institutional shareholders to play a more active role as owners of businesses”.
Then in 2010, the Financial Reporting Council (FRC) adopted the ISC Guidance as the UK Stewardship Code, and took responsibility to oversee a list of signatories. Under rules from the Financial Conduct Authority, asset managers are now required to disclose the “nature of their commitment to the code or alternative investment strategy”.
The principles of the code have not changed since 2010, though revisions were made to the guidance in 2012. The FRC will undertake a new code review later this year, which the ICGN expects will synchronise with EU Shareholder Rights Directive amendments.
Stewardship code adoption in Japan
In the UK, when the Stewardship Code was introduced in 2010, there was almost immediate acceptance of it by the investment community, because the concept of stewardship had really been socialised and understood over a long period of time.
In Japan’s case, the Stewardship Code came about from efforts to revitalise the economy—otherwise known as Abenomics after prime minister Shinzo Abe. The Financial Services Authority (FSA) was instructed to encourage investors to discharge their stewardship responsibilities to promote the sustainable growth of companies through constructive dialogue.
This led to public consultation and the introduction of the Principles for Responsible Institutional Investors in February 2014. The code is voluntary, although the Japan FSA expects signatories to disclose against the principles.
Today, there are 214 signatories to the Japan code, 46% (99) of which are foreign, 74% (159) are asset managers, 23% (48) are asset owners and 3% (7) are “other”.
There is still work to be done to encourage more corporate pension fund participation, but there is high adoption from the asset management side. The successful implementation is due to the efforts of the FSA and also the leadership shown by Japan’s largest asset owner, GPIF (Government Investment Pension Fund), to champion the benefits of stewardship.
Many foreign investors have also played a helpful role in enhancing the credibility of the code to encourage domestic investors to commit, and we are hopeful that more local pension funds will signify their commitment to the code in due course.
Changes to Japan guidance
The updated version of Japan’s Principles for Responsible Institutional Investors was published in May this year. The FSA did not change any of the actual principles but they did make some important amendments to the guidance.
Firstly, in terms of stewardship policies, Japan now requires asset owners to include reference to stewardship obligations in asset manager selection, appointment and contracts. This includes monitoring asset manager performance with self-evaluation.
For conflicts of interests, there was a call for more detailed policies to include how conflicts are mitigated, with an emphasis on the need for independent and unbiased oversight of voting decisions. This is particularly important in Japan given the high level of cross-shareholdings affecting many listed companies.
For monitoring, little has changed, but it should be noted that it can be quite difficult in Japan given the fragmented nature of governance-related reporting and, for global investors, a lack of English-language disclosure.
The clustering of AGMs in June also leads to a crunch on information-gathering, which can impact the ability of investors to qualitatively analyse investee company governance.
For engagement, there was a lot of focus on the role of index funds given their increasing influence over voting and engagement. Direct engagement with companies in Japan is important as it helps to offset the effects of cross-shareholdings, which can inhibit the influence of voting.
The FSA has encouraged banks and insurance companies to reduce their cross-shareholdings, which is having a positive effect, but will take some time and therefore engagement is important as an overlay.
More generally, Japan takes a fairly diplomatic approach to engagement compared with the UK, and the code calls for companies and investors to arrive at a mutual understanding in the event of disagreements. The UK’s approach deals more directly with the need for investors to specify how they might escalate engagement tactics in the event of failed dialogue.
With collaboration, Japan does not have a standalone principle like the UK but has included reference to collaboration in the guidance for Principle 4 on engagement. Prior to the Japan Code revision there was no mention of collaboration, so this is an important step forward in facilitating more global investor engagement.
There is still some nervousness among investors concerning the potential to be perceived as colluding in a negative way (for example, staging a hostile takeover) when in fact they wish to collaborate to improve the governance and sustainability of investee companies.
There are calls for further clarity to confirm that, as long as investors do not collude to vote in the same way on items related to the control and direction of the company (such as board elections), they will not breach rules regarding collective holding thresholds above which would trigger onerous reporting requirements.
For voting, Japan now calls for disclosure of voting records for each company by agenda item as well as by aggregate, and to explain their voting rationale. GPIF now requests that their managers disclose in this way. More “against” votes were cast on controversial issues this year compared with last year, and this experience is echoed in the UK.
In terms of reporting, culturally in Japan, and more generally in Asia, there is a formal approach to stewardship code compliance which has led to a degree of boilerplate disclosure. That said, regulators in both the UK and Japan have reported a tangible increase in the quality and quantity of stewardship disclosures.
In the UK’s case, the FRC delisted around 20 signatories who failed to improve their stewardship disclosures in July. This followed a new tiering process to show variation in the quality of reporting. More work however is needed on the assessment of actual company engagements, which are more difficult to evidence.
The Japan Code also has a standalone principle on the importance of human resource, which now includes reference to competence at the leadership level of investment firms to ensure that stewardship is fully integrated across the organisation.
Investors have until the end of November 2017 to revise and publish their terms of compliance.
Kerrie Waring is executive director of the International Corporate Governance Network (ICGN).