Toshiba is widely expected to lose an upcoming shareholder vote on Effissimo Capital Management’s demand for an independent investigation into last year’s annual meeting. The outcome of a second proposal by U.S. activist Farallon Capital Management on Toshiba’s capital allocation policies is harder to gauge.

Both Institutional Shareholder Services and Glass Lewis recommended investors vote in favor of Effissimo’s proposal, while U.S. pension funds California State Teachers’ Retirement System (CalSTRS) and SBA Florida revealed early they will vote with the activist. Activist Insight Online understands that more than 20 investors reached out to Effissimo to talk about its proposal, and even domestic investors are unhappy with how Toshiba ran the investigation.

Last year, neither of the leading proxy advisers nor CalSTRS backed Effissimo in its proxy contest against Toshiba, according to Proxy Insight Online.

In a separate vote, Farallon advanced a proposal for the board to devise a clear capital allocation policy and put it to a shareholder vote. Farallon’s request came after Toshiba indicated it might pursue an acquisition strategy instead of returning capital to shareholders, although the company later backtracked by saying the market misunderstood.

“Given the lack of trust between Toshiba and its shareholders, we believe Toshiba should describe its full capital policy and ask shareholders to ratify that plan,” Farallon said in a presentation. CalSTRS and ISS are against Farallon’s proposal, while SBA and Glass Lewis support it.

Another test

The vote on March 18 is an important test for Japanese corporate governance, mostly because investors and watchers generally agree that Japan is making progress and Toshiba is not emblematic of current investor engagements in Japan. “Things are generally going in the right direction, and then you have this big black eye on the face of Japan that you should do something about,” Alicia Ogawa, an expert on Japanese corporate governance, said in an interview with Activist Insight Online.

Indeed, activist investors are increasingly successful in gaining board seats via settlements and proxy contests, showing changing attitudes towards activism from both corporations and domestic shareholders.

According to Activist Insight Online, activists gained 24 board seats at shareholder meetings in Japan in 2020, the highest number since at least 2014, when no seats were won. However, a complete absence of settlements last year held back the total number of seats gained. In 2019, activists gained 27 seats through votes and settlements, up from 20 in 2018.

The road to hell

The saga started last year, when Effissimo launched a proxy contest for two board seats in a test of the country’s newly adopted national security laws that some feared could be used to protect domestic companies from foreign activists. The vote ended in a narrow win for Toshiba, but reports surfaced later that some shareholders were pressured to support management or abstain from voting in order to avoid an embarrassing loss for CEO Nobuaki Kurumatani. Further revelations that some votes were not counted by Toshiba’s voting tabulator Sumitomo Mitsui Trust, which also has a banking relationship with Toshiba, raised additional questions over the fairness of the elections.

The incidents did not reflect well on Toshiba and its management, given the company’s long history of strategic blunders and accounting scandals, including the bankruptcy of its U.S. nuclear power plant in 2017 and an admission that it overstated profits in 2015. Indeed, a small accounting scandal last year at a Toshiba subsidiary and management’s weak response prompted Effissimo’s proxy contest in the first place.

When Toshiba once again tried to sweep its problems under the carpet with a narrow internal investigation of the vote that concluded it did not do anything wrong but could not speak for the conduct of third parties, most shareholders reacted with disappointment.

“It would have been much better for the management of Toshiba, if they agreed to do an independent investigation voluntarily,” Ogawa said.

Symbolic investigation

Even with a mandate given by shareholders, the independent investigators might have a hard time finding strong evidence of suppression of shareholders’ voting rights, given the lack of a legal mandate. It is hard to see why any alleged culpable party would voluntarily share information with the investigators. Many of those pressured are unlikely to go on the record, partly due to business-related risks.

Yet finding out the truth might be less important than making sure the investigation is credible. Effissimo has said that it is not seeking to overturn last year’s elections but rather to ensure something like this never happens again. “Failure to perform a thorough and independent investigation will set a harmful precedent for Toshiba and Japan as a whole,” Effissimo said in a presentation.

Kurumatani’s fate

Another possible repercussion is that the scandal will cost CEO Kurumatani his job at the next annual meeting in June. Activist insight Online understands Effissimo will not challenge the board this year, although other shareholders could yet do so. But there is a high likelihood Kurumatani will not get enough votes and the board could be forced to remove him. Last year, just 57% of votes cast on Kurumatani’s re-election were in his favor, with Effissimo abstaining.

This year has not been all bad for Kurumatani. He succeeded in moving Toshiba to the first tier of the Tokyo Stock Exchange, more than three years after it was demoted to the less prestigious second section in light of the accounting scandal. The reinstatement has led to share buying from index fund managers like BlackRock and Vanguard, which are typically more inclined to side with management. According to Proxy Insight Online, BlackRock backed dissidents only once in the 27 Japanese proxy contests covered since 2013.

Yet if Kurumatani is removed and the independent investigation proceeds smoothly, it will be another victory for shareholder activism and corporate governance in Japan.