Executive training is badly needed in order for independent directors to perform their expected role
When I proposed to the LDP and the government in 2013 that Japan promulgate a corporate governance code, one of the most important principles that I advised should be included in it was a requirement for director and pre-director training. To anyone who has ever sat on an average Japanese board, the need for this is obvious. Without more training of both executives and external directors in Japan, it will continue to be very difficult for independent directors to perform the roles that are now expected of them. From personal experience, I know that it is simply not possible to convince engineers who do not understand finance that their company could very easily go bankrupt in two years.
Having come up through the ranks not as “general managers” but (frequently) via vertical silos, many Japanese executives do not possess a high or even a “modern” level of knowledge about finance, investment analysis, strategy, equity markets, or corporate governance best practice. They usually have excellent “genba” workplace experience and know their organization well, but most of them do not have MBAs and lack many key skill sets that senior executives and directors should have. Their knowledge is spotty and not at the level one would expect of large global corporations. (Please note that when I wrote the preceding sentence, in my mind I was not thinking English proficiency and international experience. If one includes that criteria, the magnitude of this problem is even larger.)
If the reforms that I and many others have got started here are to really have their expected impact, lots of new knowledge/perspectives, training, and internal discussion will be essential. The Board Director Training Institute of Japan (BDTI ) is honored to have supporters such as Baillie Gifford, Aberdeen Standard, Fidelity Management and Research, State Street, Misaki Capital, Hibiki Path Partners, ERS of Texas, Franklin Templeton, and Usonian Investments (and many others) who understand this instinctively. These institutions realize that while having a corporate governance code and a stewardship code is helpful, it is not possible to significantly change group behavior in large organizations without a lot of new learning and discussion. In some cases, BDTI’ s supporters have become “corporate members” so that they can offer to share their discount privileges with their portfolio companies.
Executive and director training is vastly under-utilized
When we established BDTI in 2009, I thought that in so-called “education-obsessed Japan” （教育熱心日本）the aforementioned realities would be broadly recognized, and that when the corporate governance code encouraged director training in 2014-2015, there would be a big surge in demand for BDTI’s director training programs, seminars, and e-Learning… and that because of the Stewardship Code, many domestic institutions would support BDTI’s mission. Neither has happened. There has been noticeable increase in demand for director training, but even so it has been underwhelming when one considers that there are approximately 3,800 exchange-listed companies in Japan and a very limited number of qualified providers of director training. The “surge” we have seen should be at least ten times larger.
Currently, only half of companies conduct any director training at all. Of the remaining half that do anything at all, at 50% of such firms the training is three hours or less in length. Most training focuses exclusively on corporate law, and therefore only rarely are important topics such as finance, corporate valuation, and governance best practices included. In such a custom-bound environment that lacks a tradition of external training in general, it is not realistic for institutional investors to expect that simply stressing the importance of the cost of capital and capital efficiency, or explaining concepts such as ROIC or DuPont analysis in engagement meetings with the head of IR, will have much of an impact. Surprisingly few managers will be able to put such techniques to practical use even if the IR head tries his best to pass on the gist of those conversations.
Why are companies (and even domestic institutional investors!) reluctant to adopt policies requiring replete executive education at all managerial levels, including director training, when the need is so obvious? There are many reasons that function as “obstacles” for this topic. If we can encourage Japanese companies to overcome these obstacles, then 70% of the battle will won, because once they have clear policies for “learning” and promotions in place, Japanese managers will do a diligent job of studying, and sincerely want to improve profits and growth at their companies.
The Internal Obstacles
Here is a partial list of the internal obstacles that are lurking in the background the instant an investor mentions executive and director training to a Japanese company.
- “Governance-related training? No one wants to try to ‘bell that cat’ by suggesting this to the CEO. We all know the President likes the comfortable status quo, in which he is “king” of his own castle.”
- “Our directors will fear that they may be implicitly admitting that their present governance practices may not be adequate.”
- “Senior people will have to help set an example. That amounts to senior people appearing to admit that they may not be fully qualified. Our seniors are not that humble. Both inside and outside directors think they themselves are already highly qualified, and will not want to spend time on this.”
- Directors think: “I am already a director. I do not need to go to school”.
- “We are used to our present practices and policies. We think they fit our company and we should not have to change them at the request of outsiders. Changing them causes stress, angst and internal disagreement. Some people fear that too much new (Western) thinking can be inherently dangerous, as too much analysis and practice rigor may disrupt our ability to achieve consensus by delaying decisions or basing them on subjective “philosophical” objectives.”
- Budgets for training are the easiest budget to cut. Non-OJT training, – training that is not at the genba – is often considered a boondoggle, not so serious. “I will let some one else propose that.” Actually, training at the senior level is often no one’s responsibility, because executives are assumed to be capable by virtue of the fact that they were promoted. (And in fact, since the bubble burst the level of non-OJT (i.e., off-site) training expense has plunged, to a level only about 20% of what it once was.)
- “I have not heard of many other Japanese companies that have adopted broad, high-level requirements for executive and director training. So why should we do so?”
- “Our engineers and sales heads will think, ‘this is all administrative stuff that we do not need to know’. They may resist and think it is a waste of time.” (In actual fact, I have found that such persons can actually be the best participants, because they are curious and do not start with preconceptions or unfounded pride that they “already know most of this material”.)
Basically, a brief mention by an investor about the importance of director training is almost worthless, because few managers are willing to take the political risk of running the idea up the corporate flagpole. Investors have to dig deeper and request more persuasively and directly, so that the topic cannot be avoided. And they need to stress that: a) companies must train executives before asking investors to approve them as “freshman” directors; and b) much executive training needs to start even earlier than that.
How to Overcome the Obstacles
I believe that actively encouraging companies to train their executives more is the single most cost-effective way to actually get them to improve profitability, growth and capital efficiency. Investors can use a number of “persuasive lines” and techniques to overcome the obstacles set forth above:
- Compare to global competition: “The best companies have replete training programs, from the manager level on up to the director level, because they strive for constant improvement – kaizen, as you say. Companies like Proctor & Gamble and JP Morgan do this… so we actively look for it as one of our investment criteria. I am sure you also constantly strive to improve, right? “
- Use praise to ease internal worries: “We realize that your senior executives and directors probably already know most of this stuff. But even so, we often see that directors can benefit from outside perspectives, and more importantly, if you set an example by receiving training yourselves, it will set a positive example and motivate your subordinates to study hard. You want to prepare your subordinates (部下) for their future roles, don’t you? They don’ t know as much as you, and the world is rapidly changing.”
- Ask about actual past results rather than proclaimed “policies”: “How many senior managers, executive officers and directors actually received training last year? Please let us know the details for each level of rank. What topics were covered, by how many persons in each rank, and how much time was spent in training per person at each level? Did the training cover core knowledge about finance, reading financial statements, and governance practice?” If the head of IR cannot give you a detailed answer, even later on, it means they are doing very little or nothing… and yet you are continuing to vote to elect their director candidates anyway. Let the company know that you have concluded they are doing little, since nothing indicates otherwise.
- Give the company a gentlemanly warning. Communicate to the company (orally, and in your engagement letters and proxy voting policies) that “if we cannot see that you have adopted replete programs for executive and director training within the next year or so, we will consider that fact when evaluating AGM resolutions for director election or re-election. In general, in the future we will not vote to approve directors (whether internal or external) unless we can confirm that they have either served on a board before (even a subsidiary) and/or that they have at least received substantial training about corporate law, securities law, finance, reading financial statements, and governance practice.”
- Write down the above communication. The head of IR needs “ammunition” that is in writing, with an investor’s name on it, in order have something concrete to show the board. Otherwise your message will likely not be communicated to the board because he or she will be afraid of being criticized.
- Ask the key question: “How do you expect to keep up with (global) competition if you do not train your managers and executives to have minimal necessary common skills… and hopefully, also leading-edge skills?
- Add training to your proxy voting policy. Use an “efficient engagement letter” such as this one, and warn companies in advance that you will not vote to elect or re-elect director candidates unless the company has a replete director and pre-director training policy, and can show that each candidate has received appropriate training or updates. Vote according to that policy.
- Become a corporate member of BDTI and offer to share discounts on BDTI’s “open to the public” courses with portfolio companies, so that they can try them out and become accustomed to the benefits of external training. The courses and seminars are already very inexpensive, so a 40% discount makes them even more inexpensive. Not many companies will take you up on your offer, but this can be a very useful filter to differentiate serious, diligent companies from those that are engaging with you from merely a PR perspective, and to communicate to them how serious you are on this topic. In most cases, the company may not accept the offer, but the offer will provoke and internal discussion that would not have occurred otherwise.
The voice of foreign investors is essential on this topic. This is because most domestic institutional investors never mention director training in discussions with portfolio companies, partly because their own institutions do not do very much executive and director training (“what if we are asked what we ourselves do?”), and partly because they fear senior people will somehow feel “insulted.”
This post is the personal opinion of Nicholas Benes and not that of any organization.