TL;DR - The 2018 revision, finalised on 1 June 2018, was the first time the phrase "cost of capital" appeared in Japanese listing soft law (Principle 5.2). - Cross-shareholdings (Principle 1.4), CEO succession (Supplementary Principle 4.1.3), and corporate-pension stewardship (Principle 2.6) were rewritten or newly added — a pivot from form to substance. - The revision was accompanied by a brand-new supplementary document, the Guidelines for Investor and Company Engagement, designed to give the Stewardship Code and the CG Code a shared dialogue agenda.
The Follow-up Council takes over
By 2018 the drafting body had changed. The original Council of Experts that produced the 2015 Code was replaced by a standing successor body — the Council of Experts Concerning the Follow-up of Japan's Stewardship Code and Japan's Corporate Governance Code, universally called the "Follow-up Council". The Follow-up Council is the joint creation of the FSA and the TSE, and its institutional remit is the single most important thing to understand about post-2015 Japanese governance reform: it owns both Codes, and revises them in coordinated phases.
That institutional design — captured in the 2015 revision of the Japan Revitalization Strategy as "the two wheels of a cart" — meant the 2018 revision could not be looked at in isolation. The Code revision was accompanied by a brand-new supplementary document, the Guidelines for Investor and Company Engagement (commonly the "Engagement Guidelines"), which set out the dialogue agenda the FSA expected stewardship-active investors and listed companies to share. The Code revision moved the issuer-side floor; the Engagement Guidelines moved the investor-side floor; both rotated together.
Sidebar — Why 2018? The Council of Experts that wrote the 2015 Code had been deliberately under-prescriptive on substance — the political compact was "let issuers find their footing first". By 2018 the FSA judged that the form had been adopted (independent-director ratios were up, CG Reports were being filed) but the substance was lagging. The 2018 revision was therefore framed as a "deepening, not a widening" of the Code — bringing capital-efficiency, cross-shareholdings, succession and asset-owners into the comply-or-explain net for the first time.
The four substantive shifts
The 2018 revision did not change the 5+30+38 architecture in dramatic numerical terms (a handful of Supplementary Principles were added or rewritten). What changed was the substance of four specific provisions. The diff below shows the four headline shifts side by side.
| Topic | 2015 Code (what was there) | 2018 Code (what was added or rewritten) |
|---|---|---|
| Cost of capital | No reference to "cost of capital" anywhere in the Code. Principle 5.2 spoke generally about "business strategy and business plan". | Principle 5.2 rewritten to state: "When formulating and announcing business strategies and business plans, companies should… identify their cost of capital and present targets for profitability and capital efficiency." First-ever appearance of "cost of capital" in Japanese comply-or-explain soft law. |
| Cross-shareholdings | Principle 1.4 required disclosure of a "policy" on cross-shareholdings and annual examination by the board of the rationale for holdings. No reduction policy required, no transactional behaviour rule. | Principle 1.4 expanded: companies must disclose a policy on cross-shareholdings including their reduction policy; the board must verify annually that the mid- to long-term economic rationale and the risk-return profile of each material holding actually exceed the cost of capital. New Supplementary Principle 1.4.1 prohibits issuers from impeding sales by counterparties — explicitly, they must not "hint at a reduction in business transactions" when a cross-holder signals an intention to sell. |
| CEO succession | Supplementary Principle 4.1.3 existed but was a single short sentence on developing successors; in practice succession remained the incumbent's prerogative. | Supplementary Principle 4.1.3 rewritten: "the board should appropriately oversee the planning of succession to the CEO and other top executives… based on the company's business strategy and the desired profile of the CEO, while ensuring that sufficient time and resources are spent on developing successor candidates." Succession became an explicit boardroom obligation. |
| Asset owners (corporate pensions) | No reference to corporate pension funds. | Principle 2.6 newly added: "Companies should recognize that the management of corporate pension funds is critical… and take and disclose measures, such as appropriate qualified personnel, to improve the investment-management expertise of their corporate pension plans." First time the stewardship loop was closed at the asset-owner level. |
The cost-of-capital change is the one that historians will remember. Until 2018, "cost of capital" was a phrase you might hear in a CFO's strategic-planning room but not one you would see in a comply-or-explain disclosure. After 2018, every TSE 1st/2nd Section issuer was on the record either confirming they had identified their cost of capital and set capital-efficiency targets against it — or explaining why they had not. The line that connects 2018 Principle 5.2 to the March 2023 TSE request ("Action to Implement Management Conscious of Cost of Capital and Stock Price", covered in Theme 4) is a direct one.
What the Code said about cost of capital
"When formulating and announcing business strategies and business plans, companies should give an accurate explanation of their earnings plans, capital policies and the like, while also identifying their cost of capital." — Japan's Corporate Governance Code (2018), Principle 5.2
And on cross-shareholdings:
"When the board has examined the cross-shareholdings, it should disclose the policy on reducing cross-shareholdings… The board should annually assess whether or not to hold each individual cross-shareholding, specifically examining whether the purpose is appropriate and whether the benefits and risks from each holding cover the company's cost of capital." — Japan's Corporate Governance Code (2018), Principle 1.4
That second pull-quote does something the 2015 version did not: it explicitly chains the cross-shareholding test to cost of capital. The same number — the discount rate the company has just been required to identify under Principle 5.2 — becomes the hurdle that each individual cross-holding has to clear, annually, at the board.
The Engagement Guidelines
The Engagement Guidelines published alongside the 2018 Code revision are not part of the Code, but they are inseparable from it in practice. They are a short document — roughly five pages — that lists the topics the FSA expects engagement between issuers and stewardship-active investors to cover. The five themes are: management strategy and capital policy; board independence and composition; nomination and succession; remuneration; and dialogue with shareholders.
Sidebar — Why "Guidelines" not "Code"? The Engagement Guidelines were deliberately published outside the Code, with no comply-or-explain mechanism, because their target audience is both issuers and investors. A comply-or-explain regime cannot bind the buy side; a guideline can be a shared standard.
Tighter expectations on board composition
Two further changes deserve attention. Principle 4.8 was strengthened: companies were now expected to "make efforts to appoint at least one-third independent directors where necessary based on a broad consideration of factors such as the industry, company size, business characteristics, organizational structure, and circumstances surrounding the company". The 2015 hard floor of two remained, but the soft-target of one-third became a comply-or-explain expectation for the first time.
Supplementary Principle 4.10.1 added that companies should establish independent nomination and remuneration advisory committees, with a majority of independent directors, where the board itself was not already majority-independent. This was the policy lever that, more than any other, pushed the Japanese listed-company population toward formal voluntary committees.
How the market responded
The TSE's compliance data — captured in the White Paper on Corporate Governance series and in the interim brief of February 2019 — showed the friction in real time. As of 31 December 2018, 18.1% of TSE 1st Section companies claimed full compliance with all Code Principles, and 85.3% claimed compliance with at least 90% of the Principles. But compliance dropped by more than 10 percentage points on the revised principles — meaning that more than one in ten 1st Section issuers needed to switch from "comply" to "explain" on at least one of the newly tightened items. That was, by design, the friction the FSA wanted to create.
What this means for IR
- Anchor every cost-of-capital reference to Principle 5.2. When you discuss WACC, ROIC, or equity spread with investors, name the comply-or-explain origin. It signals that your disclosure is structurally connected to the Code, not a marketing add-on.
- Treat your cross-shareholdings narrative as the most-scrutinised page of your CG Report. Both Principle 1.4 and Supplementary Principle 1.4.1 are intensely engaged-on by domestic stewardship investors. Disclose the reduction policy, the annual board verification, and any sale activity from the period — in that order.
- Document CEO succession formally, even if no transition is imminent. Supplementary Principle 4.1.3 expects the board to own the plan. A short paragraph in Section II of the CG Report describing the board's review cadence, the criteria, and the role of the nomination advisory committee is the minimum strong-practice baseline.
- Know what your corporate pension fund is doing. Principle 2.6 may feel like a backwater for the IR desk, but it is the obligation an institutional investor will most easily test you on: "Has your pension fund signed the Stewardship Code? Who is the qualified investment officer?". An IR rep who knows the answer outperforms one who does not.
- Read the Engagement Guidelines alongside the Code. They are the shared agenda the FSA expects engagement to follow. They are also short enough to keep on a desk reference card.
Sources & further reading
- FSA — Publication of the Revision of the Corporate Governance Code and Establishment of Guidelines for Investor and Company Engagement (Mar 2018): https://www.fsa.go.jp/en/news/2018/follow-up/20180330-1.html
- FSA — Revised Code text (Jun 2018 PDF): https://www.fsa.go.jp/en/news/2018/follow-up/20180330-1/01.pdf
- FSA — Guidelines for Investor and Company Engagement: https://www.fsa.go.jp/en/news/2018/follow-up/20180601.html
- FSA — Follow-up Council landing: https://www.fsa.go.jp/en/refer/councils/follow-up/index.html
- JPX — How Listed Companies Have Addressed Japan's Corporate Governance Code (as of 31 Dec 2018): https://www.jpx.co.jp/english/news/1020/20190221-01.html
Cross-references
Next in this theme: Post 2.3 — The 2021 Revision: Prime, sustainability, diversity.
Related posts in other themes: - Post 4.1 — PBR < 1 Is Not a Target — It's a Verdict (where the cost-of-capital language seeded in 2018 became the centrepiece of TSE policy in 2023) - Post 4.2 — WACC, ROIC, Equity Spread (the vocabulary mandated by Principle 5.2) - Post 5.2 — The End-Game of Cross-Shareholdings (the long arc from 2018 Principle 1.4 to per-stock verification)