- Date: September 2, 2019
- Venue: Iino Hall
- Hosts: METI / RIETI
In recent years, it has been increasingly important for global companies to actively manage their portfolios and to ensure effective control of subsidiaries with the shrinkage of the domestic market due to various factors, including rapid changes in the industrial structure caused by the Fourth Industrial Revolution and the aging of society with a low birthrate. Against the backdrop of this challenge, the Corporate Governance Systems Study Group (CGS Study Group) at METI formulated and published the Practical Guidelines for Corporate Governance Systems (CGS Guidelines) in June 2019 after one and a half years of debate. At this symposium, Professor Hideaki Miyajima, who is a member of the CGS Study Group and who serves as the leader of RIETI's Frontier of Corporate Governance Analysis project, explained the results of his research on the topic. In addition, panelists with expert knowledge in this field, including researchers, practitioners, lawyers and administrators, held discussions on the role of corporate governance in increasing corporate value over the medium to long term and achieving sustainable growth. This is an excerpt from the symposium focusing on Professor Miyajima's presentation.
Global Companies' Group Governance: Toward Increasing Corporate Value
MIYAJIMA Hideaki (Faculty Fellow, RIETI / Professor, Faculty of Commerce, Waseda University / Executive Vice President, Waseda University / Adviser, Waseda Institute for Advanced Study)
Problems related to group governance
Since the 2000s, Japanese companies have made significant progress in shifting to group management. This comes against the backdrop of the globalization of Japanese companies and an increase in overseas group companies. However, Japanese companies' group governance has not necessarily achieved sufficient results. There are five major problems related to Japanese companies' group governance.
First, the profitability of Japanese global companies is low by global standards. Second, they are lagging behind in carrying out business reorganization, resulting in a decline in overall profitability. Third, large-scale mergers implemented through cross-border M&A activity have not always generated profit, with some companies reporting impairment losses. Fourth, in some recent cases, misconduct occurred due to inadequate internal controls, increasing reputational risk for parent companies. Fifth, friction between parent companies and subsidiaries and between controlling shareholders (parent companies) and minority shareholders have become conspicuous at some listed subsidiaries.
In order to seriously consider these problems, the Ministry of Economy, Trade and Industry (METI) has held meetings of the Corporate Governance System Study Group (CGS Study Group) since 2017, and the results of the meetings were presented in the form of the Practical Guidelines for Corporate Governance Systems (CGS Guidelines).
A question related to the design of a group structure
Regarding the design of a group structure, companies adopting a pure holding company structure have increased rapidly in recent years. However, which types of companies should choose a pure holding company structure and which types should choose a holding company structure while maintaining their status as operating companies is a critical question. Based on the existing theoretical and empirical research, the Guidelines propose that companies which need to rapidly restructure business portfolios or which can expect to achieve synergy effects on the financial front should choose a pure holding company structure, while companies which can expect to achieve synergy effects in terms of technology and product development are better suited to an operating holding company structure.
The Guidelines also propose four steps toward resolving other organizational issues for diversified businesses, i.e. the choice of establishing a subsidiary or a division within a legal entity. First, it is necessary to consider optimal governance for achieving synergy effects on the financial and operational fronts. Second, it is important to consider the merits of legal personality. Third, the optimal balance between decentralization (transfer of authority) and centralization (control by the head office) should be identified. Fourth, although Japanese companies are proceeding with the decentralization process, the systems of the parent company should be strengthened because some synergy effects will disappear after devolution, as various units become independent.
Problems related to business portfolio management
With respect to business portfolio management, the diversification trend is growing, but it is obvious that the profitability of Japanese companies is low by international standards. The more diverse and the larger Japanese companies have become, the less profitable they have become.
Therefore, the Guidelines recommend that companies identify their core businesses and they also point out the importance of identifying the "best owner" who is capable of unlocking the potential of individual businesses. The Guidelines also point to the need for the parent company to play the leading role and the need for outside directors to proactively involve themselves in optimizing the business portfolio.
Concerning the restructuring of business portfolios, it is essential to lay the financial foundation for the evaluation of business feasibility as infrastructure and it is also necessary to develop a system to determine optimal capital costs. The Guidelines emphasize the important role to be played by the chief executive officer (CEO) in the final implementation of this system.
A governance issue related to listed subsidiaries
Regarding governance of listed subsidiaries, the simultaneous listing of parent companies and subsidiaries has emerged as a major issue. Previously, in many cases, a listed subsidiary was established when the parent company carved out a business division. However, since the 2000s, it has become more common for a company taken over through an M&A to become a listed subsidiary. The kind of conflict of interest faced by listed subsidiaries differs depending on how they come into being.
The Guidelines propose the following three solutions. First, the raison d'etre and rationale for maintaining listed subsidiaries should be regularly reviewed and explained to shareholders because they are an unstable presence. Second, the regulations governing independent outside directors should be strengthened because such directors at subsidiaries must not be prejudiced in favor of the parent companies. Third, outside directors should account for at least one-third, or even a majority, of the board of directors of listed subsidiaries because they need to adopt a more rigorous governance system than ordinary listed companies.