The evolution of the monitoring board in Japan: how the board performs monitoring function in Japanese corporate governance

• DOI: https://doi.org/10.1108/CG-07-2018-0245
• Published date: 07 October 2019
• Pages: 999-1014
• Date: 07 October 2019
• Author: Kohei Miyamoto
• Subject Matter: Strategy,Corporate governance

The evolution of the monitoring board in

Japan: how the board performs

monitoring function in Japanese

corporate governance

Kohei Miyamoto

Abstract

Purpose –The purpose of this paper is to trace a legal evolution of the monitoring board and to reveal

what brought the evolution and what is expected to emerge. The paper points to unique

complementarities in Japanese corporate governance institutions and norms which will affect how the

monitoringboard performs its functions.

Design/Methodology/Approach –Analysis is based on texts on corporate governance legislations in

Japan from the revision of Commercial Code in 1950 to the revision of Companies Act in 2014. Other

sources include Tokyo Stock Exchange regulations, White Paper on Corporate Governance and other

academicliteratures on Japanese corporategovernance.

Findings –Changes of non-legal institutions and norms in Japanese corporate governance

necessitated legal reforms toward the monitoring board. Persisting institutionsand norms, in particular

lifetimeemployment, influences how the monitoringboard performs its functions in Japan.

Originality/Value –This paper explains how the evolutionof the monitoring board in Japan emerged

and what will cause different expected functions of the monitoring board in Japan and other

jurisdictions.

Keywords Board of directors, Corporate governance, Legislation

Paper type Research paper

1. Introduction

Whether systems of corporate governance in different economies are converging into a single

model has been the focus of academic research. Hansmann and Kraakman (2001) insisted

that the basic features of company law and corporate governance were converging on a

single American model: ultimate control by shareholders and directors’ duty to pro mote

shareholder interest. They also predicted convergence toward a one-tier board structure w ith

a majority of independent directors. The boards of directors with a majority of independent

directors are expected to monitor executives: the “monitoring board”. The monitoring board,

whichisaninventionofEisenberg (1976), has been developed in American corporate

governance since the 1970s. The prominent feature of the monitoring board is having

independent directors who monitor the management of companies to enhance compani es’

performance. Boards are, in particular, expected to evaluate the performance of the

executives and to appoint and dismiss them so as to improve the performance of companies.

The theory of the monitoring board has inspired the reforms of corporate governance in

Japan. The recent developments ofcompany law, such as introducing Company with Triple

Committees in 2002 and continuing the debate on mandatory appointment of outside/

Kohei Miyamoto is based at

the Faculty of Law, Chuo

University, Hachioji, Japan.

Received 27 July 2018

Revised 17 December 2018

24 February 2019

Accepted 24 March 2019

DOI 10.1108/CG-07-2018-0245 VOL. 19 NO. 5 2019, pp. 999-1014, ©Emerald Publishing Limited, ISSN 1472-0701 jCORPORATE GOVERNANCE jPAGE 999

independent directors, show a shift in policy towards the monitoring board. The shift

appears to show an evidence for the convergence of corporate governance as Hansmann

and Kraakman (2001) predicted. The increasing number of outside/independent directors

could support the evidence regarding thesuccess of transplanting the monitoring board.

However, how the board with outside/independent directors might function in Japanese

corporate governance context remains elusive. The theory of “legal transplants” predicts th at

transplanted legal rules often do not work as in origin countries. They may retain a formal

similarity with the original rules but be different in substance (Cohn, 2010;Siems, 2014).

Therefore, the focus should be on functional analysis. Any attempt to predict how

the monitoring board might function within Japanese corporate governance requires the

considering the whole structure of corporate governance. In particular, the success o f the post

war Japanese economy was supported by complementarities of non-legal institutions and

norms such as stable/cross shareholding, main bank system, lifetime employment and insider-

dominated board. Some of these institution and norms demised; others changed its form while

shrinking. According to the theory of legal transplants, we can predict that board might play

unique functions in Japan.

The purpose of this paper is three fold:

䊏to trace the reception of Eisenberg’s model of the monitoring board in Japan;

䊏to map out the legal changes intended to implement the monitoring board in J apan; and

䊏to identify some of the consequences of these changes for corporate governance in

Japan. It is structured as follows.

Section 2 reviews a number of changes in Japanese company law and evaluates the extent

to which they shift the legal model of the board in the direction of monitoring. It identifies

some of the key macroeconomic drivers of this change. Section 3 then looks at the wider

corporate governance system and the social, cultural and historical factors which influence

the ways in which boards discharge their responsibilities in practice. Section 4 shows how

the company law reforms have interacted with wider factors and will produce boards which

are sui generis, in some ways similar to the US monitoring board, whilst in others, very

different. Some of the implications of these findings for Japanese corporate governance

and the theory of legal transplants are tentativelyidentified in a brief conclusion in Section 5.

2. Changes in corporate governance in Japan

2.1 The monitoring board

The concept of the monitoring board was developed in the USA during 1970s. It was first

invented by Eisenberg (1976) and later accepted by American corporate governance practice.

According to Eisenberg, in the early 1970s, American economy experienced the major downfalls

of some companies such as Penn Central. At that time, company laws in most American

jurisdictions demanded that boards of directors manage companies’ business and set business

policies. However, in publicly held companies, boards performed neither of the functions. In

actual company practice, executives managed companies’ business and set business policies.

Boards in companies such as Penn Central did not perform these functions and could not

prevent the crisis that occurred. Following this observation and the acceptance of the fact that

boards could not be expected to perform the functions that the law demanded, Eisenberg

suggested the monitoring model. The model was invented as a means to change the legal model

of boards so that boards serve a role which is both important to companies and uniquely suited

for performance by the boards, rather than to rigidly apply their functions to the legal model.

Under the monitoring model, management and policy-making are functions of executives.

In contrast, the role of the monitoring board is “to hold the executives accountable for

adequate results” (Eisenberg, 1976). According to the model, what boards of directors

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