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Corporate leadership

i Board structure and practicesStructure and composition of the board

Japanese companies generally use a one-tier board structure. Under the Companies Act, although a company may choose not to have a board of directors, the typical form of management structure is a company with a board of directors, where the board has decision-making authority. In a company without a board of directors, while there is no board, unless otherwise provided in the company's articles of incorporation (articles), a majority of the directors will decide business matters on behalf of the company. As compared with a company with a board of directors, however, shareholders of a company without a board have broader decision-making authority, such as the ability to approve certain competitive activities or to approve activities that result in conflicts of interest of directors.

A company with a board of directors is required to have three or more directors. A company without a board, on the other hand, is required to have only one or more directors. A company with committees must also have a board, and therefore it is required to have three or more directors. A company with an audit committee is required to have a board as well, and therefore to have three or more directors. In addition, in a company with an audit committee, the audit committee must have more than three directors as members, and the majority of them must be outside directors. In Japan, no director is required to be a representative of the employees of the company.

Legal responsibilities of the board

Except for a company with committees, a company with a board of directors generally must have a corporate auditor. In a company with a corporate auditor and a board of directors, the board has decision-making authority over the management of the company, and representative directors and other executive directors are responsible for executing the company management decisions. The corporate auditor generally audits the execution of duties by directors, with a view to compliance with law.

In a company with committees, while the board may have decision-making authority over the management of the company, it usually delegates substantial portions of this authority to executive officers, and representative executive officers are responsible for executing the company management decisions. Accordingly, for example, executive officers may be delegated the authority to decide on the acquisition of important assets, incurrence of significant debt, appointment of important employees and establishment of important organisational changes, while those are items that would be determined by a board of directors in a company with a corporate auditor. The board of a company with committees would then, inter alia, determine the agendas of shareholders' meetings, approve competitive activities and activities that result in conflicts of interests of directors, and appoint committee members. The audit committee audits the execution of duties by directors with a view not only to compliance with the applicable laws, but also the appropriate performance of their duties.

In a company with an audit committee, the core role of the board of directors is to set the basic management policy, develop the internal control system, and supervise the execution of business by other directors, including representative directors and other executive directors. Although important business decisions, such as disposing of or acquiring important assets, are required to be made by the board of directors, its shareholders can, through the company's articles, enable the board to delegate these decisions to representative directors or other executive directors. In addition, if the majority of the board is held by outside directors, the board can delegate these decisions to representative directors or other executive directors.

Delegation of responsibilities

In a company with a corporate auditor and a board of directors (which is typical of Japanese companies), the board often delegates decisions on certain matters regarding day-to-day operations to individual directors, such as representative directors or other executive directors. However, the board may not delegate certain important company matters to individual directors, including:

  1. disposing of or acquiring important assets;
  2. incurring significant debts;
  3. electing or dismissing important employees, including managers;
  4. issuing shares at a fair price; and
  5. approving audited financial statements.

In a company with committees, the nominating, audit and compensation committees each have their own authority under the Companies Act and cannot further delegate substantial parts of their responsibilities. Apart from the committees' responsibilities, the board has sole decision-making authority over the management of the company with respect to certain matters, which include basic management policy; matters necessary for the execution of the audit committee's duties; and if there are two or more executive officers, matters relating to the interrelationship between executive officers.

Similarly, in a company with an audit committee, the audit committee has its own authority and cannot further delegate a substantial part of its responsibility. Apart from the audit committee's responsibility, the board has sole decision-making authority over the management of the company with respect to certain matters, which include basic management policy; and matters necessary for the execution of the audit committee's duties.

A board of directors in a company with committees often delegates decision-making authority over the management of the company to the executive officers (as described above). The board may not, however, delegate certain important matters (in addition to the above-mentioned matters) to executive officers (or to individual directors, because each individual director in a company with committees generally does not have decision-making authority), including:

  1. approval of share transfers (if the company is a closed company);
  2. holding of shareholders' meetings;
  3. appointment or removal of committee members;
  4. election or dismissal of executive officers; and
  5. determining the contents of agreements for mergers, demergers or share exchanges.

As stated above, in a company with an audit committee, although important business decisions such as disposing of or acquiring important assets are required to be made by the board of directors, its shareholders can, through the articles, enable the board to delegate these decisions to representative directors or other executive directors. If the majority of the board is held by outside directors, the board can also delegate these decisions to representative directors or other executive directors.

In Japan, normally the board appoints the CEO or its equivalent from among its representative directors (in the cases of a company with a corporate auditor and a board of directors, and a company with an audit committee) or representative executive officers (in the case of a company with committees). Generally, the CEO will chair the board meeting, and will perform the role of chair of the board in this sense.

Remuneration of directors

In a company with a corporate auditor and a board of directors, the aggregate amount of remuneration of all directors is determined at a shareholders' meeting (if not provided in the articles), and the board determines the remuneration of each director within the parameters of this aggregate amount. The same would apply to a company with an audit committee. In addition, in a company with an audit committee, the audit committee is given the power to express its view on the election, dismissal, resignation and compensation of other directors at the shareholders' meeting so that the shareholders can make an informed decision on these matters.

On the other hand, in a company with committees, the compensation committee determines the remuneration of each director in accordance with the remuneration policy prescribed by the committee (therefore, shareholders' approval is not required).

An open company (i.e., a company, typically listed, whose articles do not require, as a feature of all or part of its shares, the company's approval for any transfer of those shares, whether it is a company with a corporate auditor, a company with an audit committee or a company with committees) must disclose the aggregate remuneration of all of its directors, corporate auditors and executive officers to its shareholders in its business report. In addition, a listed company must disclose the following information in its securities report: the amount of remuneration and a breakdown by type of payment (e.g., salary, bonus, stock option or retirement payment) for each director, corporate auditor and executive officer if his or her remuneration for the relevant fiscal year is ¥100 million or more (out of 2,421 companies listed as of 3 July 2018, there were 538 directors, corporate auditors or executive officers who received ¥100 million or more as remuneration for the fiscal year ending March 2018); and an explanation of the company's policies for remuneration of directors, corporate auditors and executive officers, and how remuneration is determined if these policies are put in place (e.g., as set forth above, 'remuneration for a director consists of fixed compensation and a bonus, with the fixed portion determined based on the position of the individual and the bonus determined based on the performance of the company and the individual').

The Code stipulates that, in addition to making information disclosure in compliance with relevant laws and regulations, listed companies should disclose and proactively provide information regarding their boards' policies and procedures for determining the remuneration of senior management and directors to enhance transparency and fairness in decision-making and ensure effective corporate governance.

Board and company practice in takeovers

Listed companies in Japan generally use a 'precaution-type anti-takeover measure', whereby a company announces a takeover process rule but does not issue any securities at first. Although there are many variations of this measure, generally a company announces in advance a certain takeover process rule to the effect that a takeover bidder must provide sufficient information to a board of directors about the bidder and the terms of its bid before the beginning of its takeover, and the bidder refrains from purchasing the shares of the company unless the board of the company completes its analysis of the terms of the bid (but the analysis by the board must be completed within a certain period, such as 60 days). If these procedures are respected by the bidder, the board will not implement anti-takeover measures, but where the board decides that the value of the company would be damaged, or maximising value would be difficult under the takeover (including if the bidder does not comply with the procedures), usually based on analysis by a third-party committee, certain anti-takeover measures may be implemented, typically the issuance of share purchase warrants free of charge to all shareholders that cannot be exercised by the bidder.

In Japan, the Bull-Dog Sauce case was the first case where actual share purchase warrants were issued to shareholders as an anti-takeover measure. In this case, the Supreme Court of Japan found that the decision regarding whether control by a specific shareholder would harm the value of the company or damage the common interests of shareholders should be ultimately determined by the shareholders who hold its corporate value, and that if, at a shareholders' meeting, the shareholders decide that the takeover would harm the value of the company or damage the common interests of the shareholders, that decision should be respected. In this case, because the issuance of share purchase warrants was approved by more than 80 per cent of the voting rights, the Supreme Court found that the issuance was valid.

Since this case, we have seen fewer attempts at hostile acquisition. In addition, a tender offer regulation under the FIEL was amended in 2007 to the effect that the offeror must disclose more information prior to the tender offer, and that the target company has the right to issue a questionnaire to the offeror. As a result, the total number of listed companies that have adopted anti-takeover measures has slightly decreased for 10 consecutive years (from 570 companies at the end of July 2008 to 387 companies at the end of November 2018).

ii DirectorsAppointment, nomination, term of office

Directors are elected by a resolution at a shareholders' meeting. In a company with a corporate auditor and a board of directors, the board generally nominates directors to two-year terms of office (maximum; however, in a closed company, the term of office may be extended until the conclusion of the annual shareholders' meeting for the past fiscal year, which ends 10 years after the time of its election). On the other hand, in a company with committees, the nominating committee nominates directors with one-year terms of office (maximum). Further, in a company with an audit committee, a director who is a member of the audit committee must be nominated separately from the other directors, and the statutory maximum term of office for a director who is a member of an audit committee is two years, while for other directors it is one year.

Directors can be dismissed at any time by a resolution at a shareholders' meeting. Directors can seek damages for dismissal from the company if they are dismissed without justifiable grounds.

Liability of directors

Generally, directors must perform their duties with the duty of care of a prudent manager in compliance with all laws and regulations, and the articles and resolutions of shareholders' meetings, in a loyal manner.

In addition to the foregoing, in Japan the business judgement rule is applied when considering whether a certain decision of a director complies with the director's duty of care as a prudent manager to the company. Under the business judgement rule in Japan, even if a director has made a certain decision that has resulted in damage to the company, the director is, in principle, deemed to have complied with his or her duty of care of a prudent manager, unless the director made important and careless mistakes in the recognition of facts, or the process and content of the director's decision-making is particularly unreasonable or improper as determined by a management expert. Nevertheless, Japanese courts are not likely to apply the business judgement rule in cases where it can be shown that the director has a conflict of interest.

Recently, in the Apamanshop case, the business judgement rule was affirmed by the Supreme Court. In this case, Apamanshop Holdings bought out the subsidiary's minority shareholders at a price per share higher than that set forth in the valuation report to make the subsidiary its wholly owned subsidiary. The Court cited the business judgement rule in finding that the directors of Apamanshop Holdings did not breach their duty of care, because a smooth purchase of the minority shareholders' shares was beneficial in maintaining good relationships with Apamanshop's member shops who were shareholders of Apamanshop, the corporate value of the subsidiary after the restructuring was expected to increase and the decision-making process employed by Apamanshop's directors (i.e., the management committee convened to discuss the purchase and a legal opinion was obtained) was not found to be unreasonable.

Role and involvement of outside directors

Outside directors are defined under the Companies Act as directors who are not serving and who have not previously (generally for the past 10 years) served as executive directors, executive officers or employees (including managers) of the relevant company or any of its subsidiaries, its parent companies or its sibling companies. In a company with committees, a majority of the members of each committee must be outside directors, with each committee required to consist of at least three members. In a company with an audit committee, the audit committee must have more than three directors as members, and the majority of them must be outside directors. On the other hand, in a company with a corporate auditor and a board of directors, there are no such outside director requirements concerning board composition.

The TSE requires listed companies to have one or more independent directors or corporate auditors (see Section I). Therefore, it is considered that, for example, persons who work for a company's parent company or its business partner, or consultants who receive significant fees from a company, cannot be independent directors or corporate auditors of the company. Further, on 5 February 2014, after submission of the Company Act reform bill (which states that if a large public company that is required under the FIEL to submit a securities report does not have an outside director, it must explain the reason why in its business report and at its annual shareholders' meeting), the TSE announced a revision to the SLRs that requests that listed companies make efforts to elect at least one independent director (see Section I).

The Code stipulates that if the organisational structure of a company is either that of a company with a corporate auditor and a board of directors, or a company with an audit committee, and independent directors do not constitute a majority of the board, to strengthen the independence, objectivity and accountability of board functions in matters of nomination and remuneration of the senior management and directors, the company should seek appropriate involvement and advice from independent directors in the consideration of such important matters as nominations and remuneration by establishing independent advisory committees under the board, such as an optional nomination committee and an optional remuneration committee, to which independent directors make significant contributions.

Legal duties and best practice for directors

The legal duties of outside directors are generally the same as those of other directors or executive officers. Where provided for in a company's articles, however, the company may contractually limit the liability (to the company) of its outside directors who are not aware of the wrongdoing and not grossly negligent in performing their duties to the extent of the larger of both an amount determined in advance, within the range provided in the articles, and an amount equal to double his or her annual remuneration.

Outside directors generally should review the performance of management, conflict of interest issues, the process and propriety of management decisions and general compliance, and work to improve the corporate culture. Although other directors should take on these roles as well, outside directors are expected to do so more effectively because of their objective position.

Recently, many companies in Japan have organised third-party committees to audit or review conflict of interest issues, such as management buyout transactions, internal investigations and anti-takeover measures, and an outside director is often included as a member of the committee.

In a company with a corporate auditor and a board of directors, a company with committees or a company with an audit committee, if a director intends to carry out any transactions involving a conflict of interest, approval must be obtained at a board meeting in which that director may not participate. At the board meeting, the potentially conflicted director must disclose material facts about the transaction. After the transaction, the director must also report material facts about the transaction to the board without delay.

In addition, in a company with an audit committee, an ex ante approval by the audit committee of a self-dealing transaction between a director and the company has the effect of switching the burden of proof regarding the violation of a director's duty from the director to the plaintiff shareholders.

iii Auditors

In a company with a corporate auditor, the corporate auditor audits the execution of the directors' duties, including preparation of financial statements. If a company has a board of corporate auditors, the company is required to have three or more company auditors, and half or more of them must be outside company auditors. To ensure the independence of the corporate auditor, its term of office must continue until the conclusion of the annual shareholders' meeting for the last fiscal year, which ends within four years of the time of its election (in a closed company, the term of office may be extended until the conclusion of the annual shareholders' meeting for the last fiscal year, which ends within 10 years of the time of its election). On the other hand, a company with committees does not have a corporate auditor. Instead, the audit committee, which consists of directors whose terms of office are one year (maximum), audits the execution of directors' duties, including preparation of financial statements (see Section II). Similarly, a company with an audit committee does not have a corporate auditor. In a company with an audit committee, which consists of directors whose terms of office are two years (maximum), the audit committee is responsible for auditing the execution of directors' duties, including preparation of financial statements.

In addition, a large company (i.e., a company with either stated capital in the balance sheet at the end of the most recent fiscal year of ¥500 million or more, or total liabilities as of the end of its most recent fiscal year of ¥20 billion or more) and a company with committees are required to have an accounting auditor, which must be either a certified public accountant or an audit firm. An accounting auditor's terms of office must continue until the conclusion of the annual shareholders' meeting for the last fiscal year, which ends within one year of the time of their election.

To ensure the independence of corporate auditors, the following are given the power to determine the contents of proposals regarding the election and dismissal of accounting auditors to be submitted to a shareholders' meeting: a corporate auditor or a board of corporate auditors in a company with a corporate auditor, an audit committee in a company with committees, and an audit committee in a company with an audit committee.