Carlos Ghosn, Nissan, and the need for stronger corporate governance in Japan – Robert Pozen

MIT Sloan Senior Lecturer Robert Pozen

Robert Pozen, Senior Lecturer, MIT Sloan School of Management

From Harvard Business Review

Carlos Ghosn was widely recognized as a hero in Japan for turning around Nissan when it was on the brink of bankruptcy in 1999. Things couldn’t look more different today. Ghosn was recently arrested for financial misconduct, fired from his position as Nissan’s board chairman, and criticized by Nissan’s Japanese CEO for accumulating too much power.  Without Ghosn, the Nissan-Renault alliance is likely to falter — leaving two small auto manufacturers without competitive economies of scale.

Ghosn’s swift downfall comes as a result of a Japanese criminal case against him for causing Nissan to make incomplete securities disclosures about his deferred compensation. These disclosure problems are rooted in the company’s weak governance procedures, and they offer a lesson to investors in Japan’s other listed companies about the need for much stronger governance protections than those brought about by recent Japanese reforms.

The heart of the legal controversy is whether Nissan violated Japan’s securities laws by not including Ghosn’s deferred compensation in its annual reports over the last eight years. Under Ghosn’s deferred compensation arrangement, he would receive substantial payments from Nissan after his retirement – the equivalent of $44 million. Such payments were not taxable when this arrangement was made, but would become taxable when Ghosn actually received them.

Since 2009, all Japanese listed companies have been required to disclose in their annual reports an executive’s compensation if it exceeded 100 million yen – the equivalent of $800,000.  This rule was pushed through by the new head of Japan’s Financial Services Agency, an outspoken critic of the high pay awarded to corporate executives.

According to this Agency, executive compensation includes retirement bonuses, which must be disclosed once they are fixed in amount.  But a lawyer for Greg Kelly, a former Nissan executive who consulted outside experts about Ghosn’s deferred compensation arrangements, said that his client believed that the payments due to Ghosn were not “fixed” in amount and therefore were not disclosable.

Nevertheless, an article in the Nikkei Asian Review stated that Japanese prosecutors had obtained internal Nissan documents allegedly showing that the amounts of the deferred payments to Ghosn were fixed and therefore subject to disclosure. If these documents in fact exist, they raise fundamental questions about the company’s role in any securities violation and the failure of its governance procedures.

These questions should be of concern to all investors in Japanese listed companies, as many Japanese public companies have explored strategies for reducing the amount of CEO pay included in their annual reports. As one accountant based in Japan during 2010, explained, “there was a big rush of inquiries about schemes that might be used either to split out salaries or defer part of it.”

If Nissan’s internal documents show that Ghosn’s deferred compensation was “fixed” in amount, why didn’t the Chief Financial Officer include these payments in its annual reports for eight years? Didn’t Nissan have internal controls designed to assure the accuracy and completeness of its public disclosures? And didn’t Nissan’s independent auditors check the disclosures in its annual report against the compensation records for its highest paid executive?

Let’s start with the last question. The independent auditor of Nissan was the Japanese affiliate of Ernst &Young, which served as the external auditor of two Japanese companies recently involved in major accounting fraud – Olympus and Toshiba.  Nissan does not have an audit committee, which would be required to appoint its independent auditor and reviews its audit procedures under the laws of most advanced industrial countries. Instead, the independent auditor is effectively chosen by the company’s chairman, subject to board approval. As a result, when making close calls on the company’s financial reports, that auditor may be too deferential to Nissan management.

Read the full post at Harvard Business Review.

Robert Pozen is currently a Senior Lecturer at MIT Sloan School of Management. 


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