Do Corporate Law Reforms Increase Profitability?

The Japanese Context

Abstract

This article surveys the fundamental goals behind the Japanese Companies Act Reform and two new soft laws, the Corporate Governance Code and the Stewardship Code. Generally speaking, corporate governance could be classified as meeting one of two aims: compliance or efficiency. Japan’s incumbent cabinet has set efficiency – particularly increasing corporate income and fostering innovation – as the goal of corporate governance reforms. Efficiency can be paraphrased as increasing profit. Profit consists of income minus costs. Traditionally, corporate governance is designed to reduce costs, especially agency costs, e.g. by preventing managers from wasting corporate assets. Conversely, it was seen as common sense that only the market can increase income and prompt innovation. However, the Japanese reforms aim at achieving these latter results by tightening regulation.

This situation is completely different from corporate governance reform in EU countries. After the financial crisis of 2007, EU countries undertook corporate governance reforms to control, or prevent, the taking of too much risk. By contrast, Japanese corporate governance reform looks to promote risk taking. Thus, EU and Japan face in opposite directions.

This article considers five examples that help to illustrate the goal of Japan’s reform of corporate governance: (I) monitoring boards, (II) a new corporate organizational structure, (III) mandatory outside directors, (IV) individual director’s remuneration, and (V) the nominee director process. Of these five areas, the article argues that Japanese corporate law sees the use of monitoring boards as key to improving the quality of managers and increasing corporate income and innovation.

Japan’s efforts at reform face a question: Do corporate law reforms increase profitability? This is related to the question of whether corporate governance matters or not. The Japanese experiment entails unique challenges and features a variety of interesting aspects. Yet after the Carlos Ghosn scandal of November 2018, the notion that compliance is more important than increasing profit has become more powerful. Thus, this experiment might be abandoned before achieving any results.