Back to July 2019

In governance we trust

By Paul Mackintosh  
  • Asia
  • Global
  • Japan

Japanese pension funds provide hopeful signs of shift in Asia 

Proponents of corporate governance and responsible investing policies do not have to look far for solid numbers to back up their priorities. The Global Sustainable Investment Alliance’s Global Sustainable Investment Review 2018 released this April pegged sustainable investment assets in its core markets of Europe, North America, Japan, and Australasia at US$30.7 trillion at the beginning of 2018, a 34% increase in two years.

Meanwhile, McKinsey & Co estimated last November that global assets under management with money managers grew 11% year-on-year to a record high $88.5 trillion at the end of 2017.

A comparison of the two figures underscore the significant volume of sustainable assets. And given the kind of growth it’s had, the importance is only likely to grow.

According to Colum Bancroft, Hong Kong managing director at corporate governance specialist AlixPartners, the global movement in recent years towards embracing issues such as diversity, inclusion and sustainability is propelling the growth of sustainable assets.

He says this is driven both by regulatory requirements such as disclosure of gender pay gaps, and independent movements by businesses “to position themselves as being supportive of issues which are important to their customers”.

Steven Watson, equity portfolio manager and chairman of the China Group at Capital Group, says growing corporate governance concerns among investors are “part of the ongoing evolution of investing, and the investing world has moved closer to thinking about shareholders as owners of companies”.

“Pushing for good governance is a bit like taking care of the property that you own,” he says.

Gabriel Wilson-Otto, Asia Pacific head of stewardship at BNP Paribas Asset Management, notes that key developments differ significantly between countries. But generally, stakeholders worldwide are focused on gender diversity and the pay gap, executive compensation, board effectiveness and accountability, factoring into specifics such as board independence, skill set, and effective oversight, as well as related-party transactions, dual-share classes, and governance of climate risk.

Stephen Chan, a partner with law firm Dechert, points out that even in China, there has been a move to bring environmental, social and governance (ESG) reporting obligations up to Western levels. The China Securities Regulatory Commission’s latest corporate governance code makes environmental and social information reporting a general obligation for listed companies in the country.

The exact role which corporate governance plays in corporate thinking and strategy is a matter of debate, and probably differs in different markets and jurisdictions. Still, according to Mr. Bancroft, “there appears to be a broad consensus amongst investors and boards that these issues are important for the bottom line, as well as being seen to do ‘the right thing’”.

However, Mr. Watson cautions that investment firms still usually keep their investment decision-making functions separate from ESG evaluation processes.

“This typically means reviewing ESG issues only after the investments have been made. This way of layering ESG on after making an investment can be more of a public relations exercise,” he says.

Key stakeholders

Regulators, especially in Western jurisdictions, are one important constituency driving emphasis on corporate governance and responsible investing. Mr. Chan notes that Australia, Japan, Singapore, the UK and US have already implemented ESG reporting-related measures into their requirements for listed companies.

In Mr. Wilson-Otto’s view, governance reform is a multiple phenomenon “contributed to by many different stakeholders”. He lists regulators, investors, companies and shifting public expectations among the drivers. When and if these align, “it can help develop a self-reinforcing cycle of positive change”, he says.

According to Mr. Watson, Europe is now the most mature ESG market in the world. A consistent structural demand for ESG investment options in Europe since the 1990s is “driven largely by influential public pension funds, as well as more regulatory involvement relative to other regions of the world”, he says.

That suggests powerful institutional asset owners are the dominant partners with regulators in driving the shift towards responsible investing and corporate governance policies. “Regulators in the European Union are moving on a number of fronts in order to ensure that ESG makes a genuine societal contribution and is not simply a marketing or box-ticking exercise,” Mr. Watson says.

The US also shows a pattern that reflects priorities in that market. Citing figures on proxy access policies from the Global Sustainable Investment Review 2018, he notes that shareholders filed 295 proposals from 2016 to last year targeting companies that have used money for political purposes or paid lobbying organisations, especially those opposed to climate change policies.

By contrast, in Hong Kong, Mr. Chan says market regulators, including the Securities and Futures Commission and Hong Kong Exchanges and Clearing, are still the main drivers of change amid a relative dearth of shareholder activism. That’s because “the vast majority of Hong Kong listed companies [are] controlled by the founders or their families or at least dominated by significant stockholders”, he says.

The situation in Asia

According to Mr. Watson, Asia “remains near the dawn of ESG adoption compared with its European and North American peers”. But there are some hopeful signs of positive change. Japanese pension funds are one significant force in advancing ESG policies in their local market and in the region.

For example, he says Japan’s Government Pension Investment Fund (GPIF), the world’s largest pension fund, is actively working to encourage institutional investors to place greater emphasis on engagement, stewardship and ESG investments.

Revised corporate governance codes, coupled with new rules on listings and disclosure, have been important drivers of ESG-focused change in Asia, according to Mr. Wilson-Otto, He says investor stewardship codes in particular have encouraged more active proxy voting and engagement with companies on corporate governance issues, especially in Japan.

Hong Kong and Singapore also have relatively high regional corporate governance rankings. However, “questions should continue to be raised about the independence of boards of directors and their role in holding executives to account, particularly in companies where there is a strong founder or family influence”, Mr. Bancroft says.

And in Japan, he warns that continuing corporate scandals indicate that widespread reform is needed to prevent continued recurrences. Such scandals “can be a result of systematic misconduct”, he says.

Inculcating governance

The outside forces driving business towards better ESG policy and corporate governance are only one half of the story. Just as important is the internalisation of these norms into corporate cultures and business mindsets. Corporations should ideally be the leaders in governance, not reluctant foot-draggers dragooned into doing the right thing by outside pressure.

But it can be quite a challenge to shift companies to that viewpoint. “Embedding the company’s values, culture, and controls throughout the organisation requires significant attention, resources, and leadership,” Mr. Bancroft says. In order to succeed, companies need to make corporate governance a priority.

Unfortunately, many Asian companies are far short of that goal. Mr. Watson points out that many families in Asia have both listed and private entities and “it can be very hard for investors to determine how assets travel from one side to the other, or when a family sees an investment opportunity, what will the transfer value be”. He cautions that such companies can be sold below their net asset value “because they have not been managed in a way that allows their shares to fully reflect the value of the company”.

The pure compliance aspects of corporate governance may be easy to fulfil in themselves. But an internal change in mindset is a different story. “Changing corporate culture and practices can be an equal or greater challenge than revising formal governance frameworks or structures,” Mr. Wilson-Otto says.

According to Mr. Watson, achieving proper corporate governance requires full support and commitment, including from governments, regulators, industry groups, company management, boards of directors and investors. “There needs to be a collective effort in order for corporate governance to truly take off,” he says.