Archive for April, 2011|Monthly archive page

Tokyo Electric Power and the disaster at Fukushima Daiichi

A great deal has been written about the cause and effect of the nuclear power station disaster at Fukushima Daiichi, which followed the Japanese tsunami and earthquake. No doubt more will be said in the future. But relatively little attention has been paid to the governance of the company behind the Fukushima plant. This case and commentary look at some aspects of the governance of the Tokyo Electric Power Company (TEPCO). The material comes from the second edition of Corporate Governance – principles, policies and practices due in 2012.

The TEPCO case study
In an unlikely outburst, Naoto Kan, the Japanese prime minister, shouted “What the hell is going on?” to executives of the Tokyo Electric Power Company (TEPCO) following Japan’s worst nuclear crisis at the Fukushima Daiichi nuclear power plant, after the tsunami and earthquake on 11 March 2011. Were the directors or the corporate governance systems and procedures at fault?

The company appeared to have a commitment to sound corporate governance. As it stated on its web site:
“At TEPCO, we have developed corporate governance policies and practices as one of the primary management issues for ensuring sustainable growth in our business and long-term shareholder value. We believe in strengthening mutual trust through interactive communication with our valued stakeholders, including shareholders and investors, customers, local communities, suppliers, employees and the public, so we can move forward toward solid future growth and development. Therefore, TEPCO considers enhancing corporate governance a critical task for management and is working to develop organizational structures and policies for legal and ethical compliance, appropriate and prompt decision making, effective and efficient business practices, and auditing and supervisory functions.”

The TEPCO web site explains the company’s corporate governance processes:
“The Board of Directors currently comprises 20 directors, including 2 outside directors. Also, TEPCO has seven auditors, including four outside auditors. The Board of Directors generally meets once a month and holds additional special meetings as necessary. Based on interactive discussion with objective outside directors, the Board establishes and promotes TEPCO’s business and oversees its directors’ performance. TEPCO has also established the Board of Managing Directors, which meets once a week in principle, and other formal bodies to implement efficient corporate management through appropriate and rapid decision making on key management issues, including those deliberated by the Board of Directors. In particular, we have established internal committees to deliberate, adjust and plan the direction of the whole Company across a range of key management concerns, including internal control, CSR and system security, as well as stable electricity supply.”

“For more appropriate and quicker decision making, TEPCO also has the Managing Directors Meeting generally held once a week and other formal bodies to efficiently implement key corporate management issues, including those to be discussed by the Board of Directors. In particular, the Board has inter-organizational committees such as the Internal Control Committee, CSR Committee, System Security Measures Committee and Supply and Demand Measures Conference to intensively discuss directions of key management issues across the entire company.”

But behind the reassuring corporate governance explanations on the TEPCO web site lay a different reality. The company’s opaque handling of the situation at the stricken plant was widely criticized. The extent of the danger was minimized and the full extent of the damage only gradually became apparent, as the risk severity level was gradually increased to rank alongside Chernobyl as a most severe nuclear accident.

The effects in Japan included damaged to fishing and agriculture through radio-activity in sea and soil, disruption in manufacturing as power supplies were rationed, and longer-term strategic concerns about the future of nuclear power generation. Around the world, the effects included slow-downs in production as supplies of parts from Japan dried up, concerns about the safety of Japanese produce, and serious questioning about the safety and strategic future of nuclear power.

TEPCO’s handling of the incident exposed failings in its risk management systems. The company had a history of safety violations: in 2002, it falsified safety test records and in 2007, following an earthquake, its Niigata nuclear plant had a fire and a leak of radioactive water, which were concealed.

In fact the board was dominated by inside directors, qualified by their seniority within the company. Out of the 20 directors, 18 were insiders, whilst of the two nominally outside directors one of them, Tomijirou Morita, was chairman of Dai-Ichi Life Insurance, which was connected financially with TEPCO. In 2008, Tsunehisa Katsumata, the company president at the time of the 2007 problem, was elevated to chairman, being replaced by Masataka Shimizu, another career-long TEPCO employee. TEPCO had never appointed a head from outside the company.

TEPCO commentary
At first glance, the web site seems to reflect a company strongly committed to sound corporate governance: ‘corporate governance policies and practices a primary issue’, ‘interactive communication with our valued stakeholders’, ‘corporate governance a critical task’. So how to account for the discrepancies between the company’s alleged concern for corporate governance and the catastrophic failure of its Fukushima reactors?

Some clues can be found in the web site explanation of the company’s corporate governance. Notice the emphasis on ‘management’: ‘corporate governance is a primary management issue,’ ‘corporate governance (is) a critical task for management.’ The directors seem to make no distinction between management and governance. Nor is that surprising, because they are the same people. 18 of the directors are executives at the top of the management hierarchy, and one of the two alleged outside directors is not independent.

The classical model of Japanese corporations and their keiretsu groups reflects the social cohesion within Japanese society, emphasising unity throughout the organization, non-adversarial relationships, lifetime employment, enterprise unions, personnel policies encouraging commitment, initiation into the corporate family, decision-making by consensus, cross-functional training, and with promotion based on loyalty and social compatibility as well as performance.

In the classical Japanese model, boards of directors tend to be large and are, in effect, the top layers of the management pyramid. People speak of being ‘promoted to the board’. The tendency for managers to progress through an organization on tenure rather than performance means that the mediocre can reach board level. A few of the directors might have served with associated companies, others might have been appointed to the company’s ranks on retirement, or even from amongst the industry’s government regulators (known as a amakaduri or “descent from heaven”).

But independent non-executive directors, in the Western sense, would be unusual, although the proportion is increasing. Many Japanese do not see the need for such intervention “from the outside.” Indeed, they have difficulty in understanding how outside directors operate. “How can outsiders possibly know enough about the company to make a contribution,” they question, “when the other directors have spent their lives working for the company? How can an outsider be sensitive to the corporate culture? They might even damage the harmony of the group.” A study by the Japanese Independent Directors Network, in November 2010, showed that of all the companies on the Nikkei 500 index, outside directors made up 13.5% of the board, women 0.9% and non- Japanese 0.17%.

TEPCO fits this model perfectly.

However, the classical model of Japanese corporate governance is coming under pressure. With the Japanese economy facing stagnation in the 1990s, traditional approaches to corporate governance were questioned. A corporate governance debate developed and the stakeholder, rather than shareholder, orientated corporate governance model came under scrutiny. Globalisation of markets and finance put further pressure on some companies. The paternalistic relationship between company and lifetime ‘salary-man’ slowly began to crumble.

Some companies came under pressure from institutional investors abroad. Company laws were redrafted to permit a more US style of corporate governance. But few firms have yet embraced them. Signs of movement included calls in 2008 by eight international investment funds for greater shareholder democracy, and a report from the Japanese Council for Economic and Fiscal Policy to the prime minister proposing that anti-take over defences be discouraged and the take-over of Japanese firms be made easier.

Perhaps the TEPCO experience will encourage further moves towards enhanced corporate governance.

Bob Tricker 20 April 2011