After years of modest increases, a recent Willis Towers Watson analysis of CEO compensation in Japan and four other countries has found a significant increase in total compensation paid to CEOs in Japan — a 20.5% increase in fiscal year 2019 compared with 2018 — which was driven by a significant expansion of long-term incentives (LTIs). While Japanese CEOs continue to be compensated at notably lower levels than top executives in the U.S. and Europe, the structure of compensation plans in Japan, which in fiscal year 2019 was composed of 29% LTIs (up from 21% in fiscal year 2018), are starting to mirror those of European companies that place a heavy emphasis on performance-linked pay.
This shift toward using incentive-based pay may mark a major turn in Japanese compensation practices when compared with practices that were common in 2015 when the Japanese Corporate Governance Code was first introduced.
The structure of compensation plans in Japan is starting to place a heavy emphasis on performance-linked pay.
The analysis examined publicly available CEO pay data for 429 large companies in Japan, France, Germany, the U.K. and the U.S. that each had more than JPY 1 (approximately USD 10 billion) in sales revenue in fiscal year 2019.
Figure 1 compares total compensation paid to large company CEOs across the five countries, while Figure 2 compares the mix of pay elements. Figure 3 provides a historical view of median CEO compensation over the most recent five years for each country included in the study. Finally, Figure 4 similarly compares the historical typical pay mix for CEOs for the same period.
CEO pay data was compiled by Willis Towers Watson’s Global Executive Compensation Analysis team from an analysis of public disclosures. Details of the analysis approach and basis of representation are as follows:
LTIs reflect the grant date expected value (accounting value) of awards made in the relevant year. Annual incentives reflect paid amounts.
Currency exchange rates are based on 2019 average TTM rates (USD 1 = JPY 109.05; GBP 1 = JPY 139.26; EUR 1 = JPY 122.07).
Sumio Morita, Senior Director, Head of Rewards Business, Japan
According to the results of this Willis Towers Watson analysis, the total compensation of Japanese CEOs increased 20.5% year on year in fiscal year 2019. This growth rate is significantly higher than the 3.3% increase observed in fiscal year 2018. It should also be noted that the effects of COVID-19 on the data are minimal, as data is derived from reporting periods that closed prior to March 2020, when the impact of COVID-19 on corporate performance was not yet being reflected in the financial reporting of companies or executive compensation.
The higher total CEO compensation in Japan is largely due to the increasing use of performance-based compensation and stock-based LTI plans.
The higher total compensation of Japanese CEOs in fiscal year 2019 is largely due to the increasing use of performance-based compensation and stock-based LTI plans. LTIs have become more commonplace in Japan over the past few years and the upward trend observed in this analysis is due to the expanded weight of LTIs within executive pay packages. In addition, higher annual incentive (bonus) payouts have also played a part in the increased level of total compensation for top executives in Japan.
CEO pay in the U.S. and Europe has remained relatively stagnant.
While the compensation of the Japanese CEO has been on an upward trajectory in recent years, CEO pay in the U.S. and Europe has remained relatively stagnant. Pay levels in fiscal year 2019 for CEOs at U.S. and German companies remained on par with the prior year and total pay of French CEOs increased a mere 2.3%. The exception was the U.K., where CEO compensation was 6.9% higher in fiscal year 2019 when compared with the prior fiscal year. While there was a clear distinction in the growth of CEO pay in Japan compared with the U.S. and Europe, the trend of U.S. and European companies paying their CEOs significantly higher amounts in total compensation than in Japan remains unchanged.
Since the introduction of the Japanese Corporate Governance Code in 2015, the way Japanese companies link performance to compensation has changed considerably. In fiscal year 2019, variable compensation made up 60% of total CEO pay in Japan. When broken down, LTIs now account for 29% of the total compensation paid to the top executives of Japanese companies (21% in fiscal year 2018). In terms of the overall pay mix and the proportion of pay that makes up performance-linked compensation, Japanese companies are inching toward similar structures adopted by European companies. This trend is a result of larger Japanese companies successfully achieving goals set out in the Japanese Corporate Governance Code, including tying pay with performance and increasing the focus placed on equity compensation.
Furthermore, the number of companies paying especially high levels of compensation continues to increase with 18 of the companies under analysis compensating their CEOs with at least JPY 300 million in fiscal year 2019 (15 companies in fiscal year 2018). Furthermore, 13 companies paid their top executive more than JPY 400 million in fiscal year 2019 (as compared with 11 companies in fiscal year 2018), reflecting the increasing number of companies paying their CEOs at levels more comparable with their European counterparts.
The results of this year’s analysis represent a transitional phase in the evolution of executive compensation in Japan. The first phase was characterised by the expanding use of performance-based compensation and market pressure to implement LTIs as a part of pay mixes. Currently there is a transition into the next phase that will be centered on monitoring and verifying the effectiveness of these new pay structures and improving HR and performance management systems as needed. Concurrently, companies can no longer simply manage their businesses in a conventional way, especially with the growing emphasis on environmental, social and governance (or ESG) and the effects of COVID-19 taking hold.
Companies must start defining how they will sustainably achieve and improve corporate value in the mid to long term. Furthermore, multiple stakeholders — including shareholders, employees and customers/clients — will seek for companies to explain and disclose their approach to achieving value, thereby appropriately and effectively meeting their accountability to stakeholders.
Executive compensation serves as a very visible vehicle for communicating how companies are meeting the expectations of accountability.
Executive compensation serves as a very visible vehicle for communicating how companies are meeting these expectations of accountability. To that end, the oversight of compensation practices by non-executive directors and compensation committees will take on an even greater and more visible role going forward. Now more than ever, there is an increasing expectation for compensation committees to have substantive discussions on how to align compensation with the new management styles being adopted by companies to thereby maximise corporate value over the mid to long term.
This article is adapted from a Japanese language press release dated July 29, 2020
