ESG Comparative Guide -

1 Legal and enforcement framework

1.1 What regulatory regimes and codes of practice primarily govern environmental, social and governance (ESG) regulation and implementation in your jurisdiction?

Japan's ESG regulations and their implementation have developed independently, so the applicable provisions have different scopes and there is no unified ESG framework in place.

Japan has many environmental laws, including:

the Act on Promotion of Global Warming Countermeasures;
the Act on Rationalising Energy Use;
the Act on Waste Management and Public Cleaning; and
recycling regulations in various acts, including:
- the Act on the Promotion of the Effective Utilisation of Resources;
- the Act on the Promotion of Sorted Collection and Recycling of Containers and Packaging;
- the Act on the Promotion of Recycling of Small Waste Electrical and Electronic Equipment;
- the Act on the Recycling of End-of-Life Automobiles;
- the Construction Material Recycling Act; and
- the Act on the Promotion of Recycling and Related Activities for Treatment of Cyclical Food Resources

Social regulations include:

the Labour Standards Act, Article 5 of which prohibits forced labour and Article 56 of which prohibits child labour;
the Act on Equal Opportunity and Treatment between Men and Women in Employment, which prohibits discrimination based on sex; and
the Act on Comprehensively Advancing Labour Measures, Stabilising the Employment of Workers and Enriching Workers' Vocational Lives, which prohibits harassment in the workplace.

Although various guidelines have been published on business and human rights, most of them are an introduction to the regulations of Europe and the U.S. published by each ministry and organisation, and are not legally binding. Some of these guidelines include:

the National Action Plan on Business and Human Rights;
the Guidelines on Respecting Human Rights in Responsible Supply Chains;
the Reference Material on Practical Approaches for Business Enterprises to Respect Human Rights in Responsible Supply Chains; and
the Guidance on Human Rights Due Diligence.

As for governance regulations, relevant laws include:

the Companies Act;
the Financial Instruments and Exchange Act;
bribery regulations outlined in various acts;
the Act on the Protection of Personal Information; and
the Basic Act on Cybersecurity.

Although not legally binding, important soft codes include:

the Corporate Governance Code; and
the recommendations of the Task Force on Climate-Related Financial Disclosure (TCFD).

1.2 Is the ESG framework in your jurisdiction primarily based on hard (mandatory) law and regulation or soft (eg, 'comply or explain') codes of governance?

As outlined in question 1.1, the ESG framework in Japan is a combination of hard law and soft codes. Environmental issues are addressed in many acts; while social and governance issues are addressed in only a few acts, but guidance is provided in numerous soft codes.

With regard to business and human rights, Japan has guidelines that are not legally binding – in contrast to Europe, which has many hard laws on business and human rights.

1.3 Which bodies are responsible for implementing and enforcing the rules and codes that make up the ESG framework? What powers do they have?

As outlined in question 1.1, where a legally binding act applies, the government imposes penalties on violators. However, no specific government ministry is responsible for ESG strategy and each ministry publishes its own non-legally binding guidelines independently.

Companies listed on the Prime Market and the Standard Market of the Tokyo Stock Exchange are subject to 'comply or explain' regulations in relation to all rules of the Corporate Governance Code. If a listed company does not provide an explanation for non-compliance, the Tokyo Stock Exchange will impose sanctions such as a public announcement disclosing its name.

1.4 What is the regulators' general approach to ESG and the enforcement of the ESG framework in your jurisdiction?

As there is no specific government agency which is responsible for ESG strategy, the regulators' general approach to ESG is to decide whether to implement hard law or a soft code, depending on the priority of each regulation.

With regard to social regulations, other than those mentioned question 1.1, there are no other business and human rights acts and regulations; although acts and court decisions on harassment in the workplace have been issued. There are no legally binding acts or regulations regarding LGBTQ+ issues.

The Corporate Governance Code applies only to listed companies, which account for 0.11% of all companies in Japan; the remaining 99.89% of non-listed companies are not required to comply with the Corporate Governance Code, which follows a 'comply or explain' approach.

The Supplementary Principles of the Corporate Governance Code stipulate that the board should recognise that sustainability issues – such as combating climate change, respecting human rights, ensuring fair and appropriate treatment of the workforce, engaging in fair and reasonable transactions with suppliers and executing crisis management for natural disasters – are important management issues that can lead to earning opportunities as well as risk mitigation. Companies should also appropriately disclose their sustainability initiatives when disclosing their management strategies.

In Japan, the government often encourages companies to respond first in a non-binding manner, such as 'comply or explain', and then gradually imposes legally binding obligations.

Listed Japanese companies often follow non-binding soft codes, but this creates an unfair situation as unlisted companies are not required to follow soft codes unless there is a possibility of sanctions.

1.5 What private sector initiatives have been launched in your jurisdiction to complement the ESG framework?

The following initiatives have been launched in Japan, although none are legally binding:

The Tokyo Stock Exchange and Japan Exchange Regulation have released the Corporate Governance Code and related material;
The Japan Exchange Group, Inc, the Tokyo Stock Exchange and the Japan Federation of Bar Associations have released guidance to complement the ESG disclosure requirements;
The Government Pension Investment Fund provides survey results on ESG disclosure;
The Japan Exchange Group, Inc and the TCFD Consortium provide guidance and survey results on ESG disclosure under the TCFD; and
The Japan Business Federation and the Japan Textile Federation have launched initiatives regarding business and human rights practices.

2 Scope of application

2.1 Which entities are captured by the rules and codes that make up the principal elements of the ESG framework in your jurisdiction?

The entities captured by the rules or codes that make up the principal elements of the ESG framework in Japan vary depending on each rule or code.

For example:

the Act on Promotion of Global Warming Countermeasures regulates businesses that emit more than a certain amount of greenhouse gases;
the Act on Waste Management and Public Cleaning regulates businesses that engage in the collection, transportation and disposal of waste as their business; and
the Labour Standards Act regulates employers.

In terms of information disclosure, a new section entitled "Views and Initiatives Related to Sustainability" has been added to securities reports, requiring companies to provide information related to sustainability that has a material financial impact on them. However, only certain companies, such as listed companies, are required to submit securities reports.

In addition, although not legally binding, the following codes stipulate that ESG factors should be taken into account:

the Stewardship Code, a set of principles for institutional investors; and
the Corporate Governance Code, a set of principles for listed companies regarding corporate governance.

If a company intends to enhance its corporate value by disclosing that it takes ESG factors into account, it can disclose this information through sustainability reports or integrated reports; however, unlike securities reports, such disclosures are not legally required.

On the other hand, at the stage of investing in companies based on such disclosed information, various guidelines for ESG investment have been established in Japan and overseas. While these guidelines are not legally binding, they provide a basis for investment decisions and fundraisers, investors, financial institutions and so on are effectively required to follow them.

2.2 How are entities in your jurisdiction that are not subject to specific rules or codes implementing ESG?

Companies that wish to increase their stock price by enhancing their reputation with investors will:

disclose information about their ESG efforts, including non-financial information; and
implement ESG initiatives so that they have something to disclose.

In recent years, ESG initiatives have sometimes been contractually required as part of supply chain management. For example, clients may require in their contracts that only renewable energy be used in the supply chain for a particular commodity, and ESG initiatives to procure renewable energy are implemented so as not to breach contracts.

Where a company's insufficient ESG initiatives are reported in the media, there is a risk that its products may be boycotted and its social reputation may be negatively affected. ESG initiatives may also be encouraged with the aim of avoiding such reputational risk.

2.3 What are the principal ESG issues in your jurisdiction that are either part of the ESG framework or part of the implementation of ESG?

Climate change and carbon neutrality are key issues of concern in Japan. In January 2020, the World Economic Forum released its Global Risks Report 2020 in preparation for the Davos Forum in Switzerland. The report lists the top five most probable global risks and the top five most impactful global risks by year. According to the 2020 report, environmental risks overtook economic risks as the top global risks in around 2011. Since the conclusion of the United Nations Framework Convention on Climate Change (UNFCCC) in 1992, the Conference of the Parties to the UNFCCC has been held annually, and the Kyoto Protocol, the Paris Agreement and the Glasgow Climate Agreement have been adopted.

In October 2020, the Japanese government announced its intention to achieve carbon neutrality by 2050 and it is treating global warming as an urgent issue. In December 2020, the Green Growth Strategy Through Achieving Carbon Neutrality in 2050 was formulated. The Japanese government has set ambitious goals for 14 industries with high growth potential and will mobilise all available policy measures to achieve them.

In addition to climate change and carbon neutrality, the following are major ESG issues in Japan:

business and human rights;
diversity and inclusion; and
the low birth rate and an ageing society

Another aspect that is considered to be a common prerequisite for resolving ESG issues is corporate governance, including information disclosure and legal compliance.

3 Disclosure and transparency

3.1 What primary disclosure obligations relating to ESG apply in your jurisdiction?

Certain public companies (including listed companies) must disclose an annual securities report under the Financial Instruments and Exchange Act. The purpose of the report is to provide investors with the information they need to make investment decisions regarding the company. The report includes not only financial information but also non-financial information.

With regard to non-financial information, the disclosure requirements for management policies and the corporate governance that supports them have been enhanced; and from the fiscal year ending March 2023, new disclosure rules for information focused on ESG in annual securities reports have been introduced.

With the aim of providing investors with important sustainability information that allows for comparisons to be made with other companies for the purpose of investment decisions, a new section entitled "Sustainability-Related Philosophy and Initiatives" has been introduced, in which disclosure relating to four components is required:

governance;
strategy;
risk management; and
indicators and targets.

In addition, with regard to the disclosure of efforts regarding human capital and diversity, information on the following must be disclosed:

the company's human resources development policy;
its internal environment improvement policy;
the ratio of men to women in managerial positions;
the percentage of male childcare leave; and
differences in wages between men and women.

Currently, there are no standards for sustainability disclosure in Japan, but a project is underway at the Sustainability Standards Board of Japan (SSBJ) to:

develop Sustainability Disclosure Standards that incorporate all requirements of the International Financial Reporting Standards (IFRS) Sustainability Disclosure Standards (IFRS S1, "General Requirements for Disclosure of Sustainability-Related Financial Information" and IFRS S2, Climate-Related Disclosures"); and
add, where necessary, jurisdiction-specific options that the entity may choose to apply.

On 29 March 2024, the SSBJ announced the issuance of the exposure drafts of the Sustainability Disclosure Standards.

3.2 What voluntary ESG disclosures are also commonly made in your jurisdiction?

In Japan, there are no mandatory rules regarding ESG disclosure, except for those relating to annual securities reports (see question 3.1). However, given current trends in ESG investment, listed companies are actively disclosing ESG-related information through voluntary disclosure methods in response to social demands and Supplementary Principle 3-1-3 of the Corporate Governance Code: "Companies should appropriately disclose their initiatives on sustainability when disclosing their management strategies."

For example, many listed companies publish integrated reports and annual reports. These documents convey information about the company's value creation story to long-term investors. ESG information is disclosed as part of the company's story of creating value through efforts to address sustainability issues.

There are also examples of companies disclosing ESG information in:

sustainability reports;
environmental reports;
status updates on human rights initiatives; and
the 'sustainability initiatives' sections of their websites.

These documents are a response to social demands for the disclosure of the wide-ranging impact of corporate activities on society, the environment and economic activities. There is a tendency for information that is more detailed and wide ranging with a focus on ESG to be disclosed.

3.3 What role is played in this regard by (a) the board and (b) other corporate bodies and/or officers?

Generally, there are no rules requiring the determination and disclosure of the contents of annual securities reports and voluntary disclosure documents to be decided at a meeting of the board of directors. Therefore, with regard to disclosure, there is no general division of roles among each corporate body within the company.

While ESG information disclosure is the point at which the public becomes aware of ESG-related initiatives, it is also important to engage in efforts at all times prior to disclosure. As stated in Supplementary Principles 2-3-1 and 4-2-2 of the Corporate Governance Code:

the board of directors should deepen its consideration to proactively address sustainability issues; and
with the aim of improving corporate value over the medium to long term, companies should formulate basic policies regarding their own sustainability initiatives.

Specifically, while keeping disclosure as the trigger for public awareness in mind, the board of directors should:

create a company-wide structure, such as by establishing specialised committees and dedicated teams, including a sustainability committee;
develop an ESG initiative policy and specific management strategies/plans and risk management processes; and
set objective targets, key performance indicators and deadlines for achievement based on the initiative policy and monitor progress by requiring regular reporting to check in progress.

In some companies, some of these efforts may be delegated to a committee such as the sustainability committee.

On the other hand, the business execution division should:

implement specific management strategies/plans and risk management processes developed by the board of directors; and
collect and summarise information on the progress of the initiatives and status from each implementing division.

The information is organised according to the four components of:

governance;
strategy;
risk management; and
indicators and targets.

The contents are then finalised for disclosure.

3.4 What best practices should be considered in relation to ESG reporting and disclosure?

ESG information disclosure is meaningful because it provides a method to explain to stakeholders:

the ESG issues that a company faces; and
the policy, content and status of initiatives to address them.

develop a governance system;
identify important ESG issues;
incorporate important ESG issues into management strategies/plans and risk management processes;
execute their business in a way that addresses risks relating to ESG issues and realises profit opportunities;
monitor progress using indicators and targets; and
disclose the status of initiatives.

Some companies comply with international disclosure standards; and particularly in relation to climate change, many companies comply with the recommendations of the Task Force on Climate-Related Financial Disclosures (TCFD). In this regard:

the Ministry of the Environment has published the Practical Guide for Scenario Analysis in line with the 2022 TCFD recommendations;
the TCFD Consortium – a private organisation – has published:
- Guidance on Climate-Related Financial Disclosures 3.0;
- industry-specific guidance; and
- case studies; and
the Financial Services Agency has published cutting-edge disclosure examples regarding climate change, human capital, diversity and more in its Collection of Good Examples of Descriptive Information Disclosure.

4 Strategy and governance

4.1 How is ESG strategy typically designed and implemented in companies in your jurisdiction?

Companies must:

identify important ESG issues that they should address;
incorporate important ESG issues into management strategies, business plans and risk management processes; and
proceed with initiatives to address risks and realise profit opportunities.

First, from the perspective of ESG and sustainability, companies should identify risks and profit opportunities by relating them to their management strategy and business model. The magnitude of the specific business impact of these risks and profit opportunities should then be evaluated and important issues should be addressed on a priority basis ('materiality'). When evaluating materiality, companies should highlight the importance of:

the impact of ESG issues on corporate value; and
the impact of corporate activities on ESG issues.

Companies should go on to formulate their own sustainability initiative policy to address important ESG issues with the aim of increasing corporate value over the medium to long term. Based on this foundation, responses to important ESG issues should be:

reflected in specific management strategies, business plans and risk management processes; and
implemented in order to address risks and realise profit opportunities.

4.2 What role is played in this regard by (a) the board and (b) other corporate bodies and/or officers?

The board of directors should:

formulate a sustainability initiative policy as a company-wide standard that should be continually updated alongside ESG initiatives; and
develop specific management strategies, business plans and risk management processes based on the sustainability initiative policy to address important ESG issues.

In some companies, these efforts may be delegated to a committee such as the sustainability committee.

On the other hand, under the supervision of the sustainability committee, the business execution department should demonstrate strong leadership and proceed with initiatives to address risks relating to ESG issues and realise profit opportunities in accordance with the management strategies, business plans and risk management processes established by the board of directors.

4.3 What mechanisms are typically utilised to monitor the implementation of ESG strategy in your jurisdiction?

The board of directors monitors the company's implementation of ESG strategies, as it is responsible for overseeing the execution of business operations within the company.

The Stewardship Code (SSC), enacted in 2014, stipulates that: "[I]nstitutional investors should strive to share awareness and remedy problems through constructive 'purposeful dialogue' with portfolio companies." The Corporate Governance Code (CGC), enacted in 2015, stipulates that: "In order to contribute to sustainable growth and the increase of corporate value over the mid- to long-term, companies should engage in constructive dialogue with shareholders even outside general shareholder meetings." Subsequent revisions of the SSC and CGC include ESG factors, indicating that proactive and active responses to sustainability issues – including consideration of ESG factors – should be taken into account in the dialogue between shareholders and investors.

A system is gradually being established for directors to monitor the implementation of ESG strategy through the various forms of information disclosure described in question 3 and the dialogue with investors based thereon. If a company does not take measures with respect to such dialogue or if sufficient results are not achieved as a result of such dialogue, in an increasing number of cases further efforts are being made through shareholder proposals.

4.4 What role is played in this regard by (a) the board and (b) other corporate bodies and/or officers?

The board of directors oversees the overall conduct of the business and is thus responsible for monitoring:

whether ESG issues are being appropriately addressed by the company; and
whether they are linked to value creation.

The process of reporting to the board is also important to ensure that the board's monitoring is effective.

In establishing an internal system for ESG strategies, a system should be created that best fits the specific company based on its existing management and governance structure. The specific monitoring mechanism should also be tailored to the company's system for promoting its ESG strategy.

In Europe and the United States, sustainability committees are often established under the board of directors, which monitors management; while in Japan, they are often established under the management. In Japan, there seem to be concerns that if a sustainability committee operates under the board of directors, management will leave ESG-related issues to the committee; by establishing the committee under the management, it is expected that management will proactively address ESG issues together with the committee. On the other hand, some companies have established their sustainability committees under the board, with the function of:

evaluating and reviewing the status of ESG management; and
advising the board on the future direction of ESG management.

4.5 How is executive compensation typically aligned with ESG strategy in your jurisdiction?

In 2023, there was a significant increase in the adoption of ESG indicators in executive incentive compensation among Tokyo Stock Price Index TOPIX100 companies, with 72% adopting such incentives – a 10-point increase on the previous year. Remarkably, this rate surpassed that of US companies in the S&P 500 as of the previous year.

Of the specific ESG indicators tied to executive compensation, the predominant choice for TOPIX100 companies is greenhouse gas emissions. This is closely followed employee engagement, which is often measured through survey results conducted by external professional organisations. Most companies that have introduced or revised ESG indicators since 2023 are opting for new metrics based on employee engagement.

While in Europe and the United States, ESG indicators are commonly integrated into short-term incentives (STIs) such as annual bonuses, in Japan, they are commonly integrated into long-term incentives (LTIs) such as stock-based compensation.

In Japan, the weight given to ESG evaluation tends to be relatively higher – typically around 20% of either STIs or LTIs. Larger adjustments of approximately 40% are made for ESG weightings; while smaller adjustments of around ±10% are applied based on performance results.

4.6 What best practices should be considered in relation to the design and implementation of ESG strategy?

When establishing a system to address ESG issues:

an existing department may be tasked with this within the existing organisational structure; or
a new department may be established to take charge of ESG issues on a cross-organisational basis.

In either case, it is important to ensure that ESG issues are addressed on a company-wide basis, rather than independently by a department in charge of ESG issues.

The Guidelines for Investor and Company Engagement, which were revised in June 2021 in conjunction with the Corporate Governance Code, include a framework for the consideration and promotion of sustainability initiatives on a company-wide basis. The guidelines recommend the establishment of a sustainability committee under the board or under management, but leaves it to each company to decide how this committee should function. In Europe and the United States, such bodies often operate under the board; whereas in Japan, they often operate under the management. Although the reasons for this are not fully clear, it appears that:

ESG issues are considered at the management strategy and execution levels; and
the concept of proactively integrating ESG into management is becoming more widespread in Japan.

In any case, it is critical to establish an effective system that is appropriate for the company.

The Ito Review 3.0, published by the Ministry of Economy, Trade and Industry in August 2022, emphasises the importance of implementing sustainability transformation (SX) in order to respond to changes in society, including ESG issues. 'SX' refers to:

the 'synchronisation' of social sustainability and corporate sustainability; and
the management and business transformation necessary to achieve this.

'Sustainability of society' here refers to the enhancement of social sustainability, such as responses to climate change and human rights; while 'corporate sustainability' refers to the long-term provision that contributes to social sustainability and an improved corporate ability to generate funds for growth (earning power) over the long term and in a sustainable manner. In order to realise SX, various players in the investment chain (eg, companies, investors, clients) must engage in constructive and substantive dialogue on long-term corporate management. Companies are expected to make changes with a focus on ESG through such dialogue with investors and others. As a concrete practice, the Guidance for Collaborative Value Creation 2.0 provides a framework for stronger business management to achieve SX, effective information disclosure and constructive dialogue.

5 Financing

5.1 What is the general approach of lenders towards ESG in your jurisdiction? What internal and external information regarding a prospective borrower will they typically consider in this regard?

Lenders in Japan offer a variety of financing instruments, including:

green loans/bonds;
social loans/bonds;
sustainability loans/bonds;
sustainability-linked loans/bonds; and
transition loans/bonds.

The scope of the above financing instruments is ambiguous, as there are no clear requirements for each of them and some of them overlap. However, since various guidelines for these financing instruments have been issued, both domestically and internationally, providing a basic framework in this regard, it has become possible for financial institutions to provide financing instruments that rely on these guidelines.

ESG investments seem to be popular forms of corporate finance, in which the lender relies on the creditworthiness of the borrower to contribute funds to it. As such, internal and external information on the creditworthiness of the borrower is often taken into account.

On the other hand, there are cases in which:

project finance for renewable energy power generation projects is provided in the form of green loans; or
social bonds issued by funds are used to finance socially significant projects.

In such cases, the borrower or the issuer may be a fund or special purpose company rather than an operating company. In such cases, the lenders contribute funds to it relying not on the creditworthiness of the borrowers or the issuer, but on the project as a source of cash flow. Thus, internal and external information about the project will be important.

Lenders may offer ESG-related products not only for investment and financing purposes, but also at the preliminary stage of fundraising. For example, they may offer green deposits, in which deposits from customers are invested or financed only in businesses with green characteristics.

5.2 Are bonds/loans that are marketed as green bonds/loans, social bonds/loans, sustainability bonds/loans or similar a feature of the markets in your jurisdiction?

Bonds and loans that are marketed as green bonds/loans, social bonds/loans, sustainability bonds/loans or similar are becoming a feature of the Japanese markets. The amount of ESG investments issued in Japan grew from less than JPY 200 billion per year in 2016 to more than JPY 6.6 trillion per year in 2023 (www.jsda.or.jp/sdgs/hakkou.html).

Examples of green bonds and loans include:

the installation of renewable energy generation facilities; and
the construction of green buildings.

Examples of social bonds and loans include the construction of medical or educational facilities and highways. Examples of sustainability bonds and loans include the improvement of railroad facilities, such as the replacement of lighting in train cars with light-emitting diodes to save energy and the installation of wheelchair-accessible toilets in train cars to improve accessibility, which are deemed to fulfil both green and social project criteria.

In other examples, the number of sustainability-linked loans is increasing in Japan. In most cases, the borrower sets key performance indicators and sustainability performance targets (SPTs) against them. If the SPTs are achieved at a certain decision point, the spread is reduced; while if the SPTs are not achieved, the spread is increased. Since the achievement or non-achievement of the SPTs is a matter of great concern to lenders, borrowers are often required to submit a written report on the achievement or non-achievement of the SPTs which includes an evaluation by a third-party organisation.

5.3 What key developments have taken place in the structuring of these instruments in your jurisdiction?

In Japan, the Financial Services Agency established the Expert Committee on Sustainable Finance in December 2020, which:

positioned sustainable finance as "infrastructure supporting a sustainable economic and social system"; and
promoted discussions regarding various policies to promote sustainable finance in financial administration.

An 'ESG investment' is an investment that takes ESG factors into account. As no clear rules have been established, it is difficult to determine what constitutes an ESG investment and there have been concerns about greenwashing and other problems caused by arbitrary labelling. However, guidelines on ESG investment have been introduced in Japan and overseas which, although not legally binding, provide a basis for investment decisions, allowing fundraisers, investors and financial institutions to handle ESG investments by relying on them. The guidelines also require the disclosure of information so that greenwashing and other problems can be checked through the market.

In Japan, in addition to initiatives for decarbonisation projects – including green projects such as renewable energy power generation projects – it is important to support the transition towards decarbonisation, including energy conservation and fuel switching, mainly in industries with high greenhouse gas emissions, in order to achieve carbon neutrality by 2050. To support such transitions, there is growing interest in transition finance. For this reason, in addition to issuing guidelines, the Ministry of Economy, Trade and Industry has developed a roadmap for transition finance. The roadmap is expected to be referred to by:

companies when considering climate change countermeasures using transition finance; and
financial institutions when determining whether a company's strategies and initiatives for decarbonisation qualify as transition finance.

In order to achieve carbon neutrality by 2050, the Japanese government issued GX Economic Transition Bonds in February 2024. The GX Economic Transition Bonds are expected to be issued in the amount of JPY 20 trillion over 10 years and the funds raised will be invested in the development of:

next-generation energy-saving semiconductors;
fuel switching in manufacturing; and
other green projects.

5.4 What best practices should be considered in relation to ESG in the financing context?

In Japan, the Green Finance Portal operated by the Ministry of the Environment has published an ESG Regional Finance Practice Guide and disclosed the results of a survey of regional financial institutions on approaches to ESG regional finance. The ESG Regional Finance Practice Guide:

includes useful advice on specific roles, such as members of management of financial institutions and frontline staff members; and
is accompanied by a collection of case studies of past initiatives by each financial institution.

In addition, companies are increasingly describing their ESG initiatives as part of their information disclosure on their websites or in their annual securities reports, if they have submitted them.

Those seeking to engage in ESG investments can learn about the specific initiatives of each company by reviewing the ESG Regional Finance Practice Guide and the disclosure materials of each company. While what constitutes best practice will vary depending on the entity involved, examples from other companies in the same industry and related to similar projects are likely to be particularly instructive.

6 ESG activism

6.1 What role do institutional investors and other activist shareholders play in shaping ESG in your jurisdiction?

The Stewardship Code (SSC) and the Corporate Governance Code (CGC) stipulate that dialogue between companies and investors is one of the basic principles that listed companies should address. The revisions to these codes:

include a description of medium to long-term sustainability, including ESG factors; and
clarify that proactive and active responses to sustainability issues should be taken into account in shareholder engagement.

In response to this trend, institutional investors and activists are increasingly engaging in dialogue with companies on ESG issues and strategies.

Investors are increasingly requesting listed companies to disclose ESG information. In response, companies are preparing ESG-related reports (eg, integrated reports, sustainability reports, environmental reports) and utilising websites and other channels to disclose ESG information beyond such formal reports. This trend reflects growing investor interest in ESG factors and the importance of transparency in addressing sustainability concerns.

ESG-related shareholder proposals, once primarily initiated by non-governmental organisations (NGOs), are now gradually spreading to general investors as well. This shift reflects the growing global interest in ESG factors, which is prompting foreign institutional investors to support the proposals of such activists, with domestic investors following this trend. Consequently, companies are compelled to heighten their awareness and implementation of ESG management practices. This growing investor pressure underscores the importance of ESG considerations in corporate decision making and sustainability strategies.

6.2 How do activist shareholders typically seek to exert influence on corporations in your jurisdiction in relation to ESG?

The most popular method for inducing changes in corporate behaviour is through shareholder proposals. Unlike countries such as the United States, Japan lacks a system which allows shareholders to make advisory proposals to companies. Therefore, in many cases, efforts are made in the form of proposed amendments to the articles of incorporation. In Japan, the articles of incorporation can be described as a company's constitution and provisions in the articles can bind the company over the long term, potentially restricting management's freedom. Consequently, many institutional investors express concerns and exercise their voting rights against such proposals.

Some activists view shareholder proposals as a means to engage in dialogue with companies. In addition to shareholder proposals, activists:

engage in dialogue with companies, institutional investors and financial regulators;
conduct educational activities among the general public; and
advertise through newspapers, magazines, the Internet and other channels.

6.3 Which areas of ESG are shareholders currently focused on?

A proposal to change the articles of incorporation submitted by one environmental NGO to a major financial institution at a general shareholders' meeting in June 2020 attracted attention as Japan's first shareholder proposal on climate change. Since then, there have been several instances of climate change-related shareholder proposals being submitted, and ESG-related proposals have attracted a great deal of interest from environmental activists. Although such shareholder proposals are rarely adopted, they have persuaded many institutional investors – especially foreign institutional investors – and tend to receive a high number of affirmative votes, in contrast to traditional motion-type shareholder proposals.

Proposals concerning diversity in human resources are relatively common under the 'social' aspect of ESG. For instance, one investor submitted a proposal to amend a company's articles of incorporation to require investigations into sexual harassment, power harassment and similar where the company had perceived human resource management concerns. In another case, a shareholder submitted a proposal to amend the articles of incorporation to require gender diversity on the board of directors where the company had a male-only board.

6.4 Have there been any high-profile instances of ESG activism in recent years?

In 2023, three European institutional investors proposed that a major Japanese automobile manufacturer include in its articles of incorporation the disclosure of its lobbying activities regarding decarbonisation. These institutional investors had been in dialogue with the automaker for several years and one of them had submitted a shareholder proposal two years previously, but withdrew it after the automaker promised to publish a report on its lobbying activities. The manufacturer subsequently published a report on its lobbying activities, but the institutional investors were not satisfied with the content of the report, prompting them to submit the shareholder proposal.

The Government Pension Investment Fund (GPIF), recognised as the world's largest institutional investor, has embarked on the pioneering endeavour of conducting the world's first quantitative analysis of ESG investment impacts. This initiative involves two key analyses:

exploring the causal relationship between activities conducted by the GPIF's entrusted asset management firms, such as corporate dialogue, and enhanced corporate value; and
assessing the influence of the GPIF's ESG investments on corporate behaviour.

To mitigate confounding factors in investment returns beyond ESG, the GPIF proactively adjusted its investment targets and reduced sector biases ahead of the analysis. The survey is planned to take place over two years, with the aim of conducting as unbiased an analysis as possible. Given the scepticism surrounding ESG investments, there is an expectation that this survey may strengthen the theoretical basis for promoting such investments.

6.5 Is ESG activism increasing or decreasing in your jurisdiction? How and why?

The establishment and subsequent revisions of the SSC and CGC have led to increased dialogue between listed companies and shareholders, resulting in a rise in activist activities – not only in the ESG field but also across various sectors. In this context, there has been an increase in ESG activism in Japan – mainly from foreign activists due to the inclusion of ESG-related information in the revisions to the SSC and CGC and the growing attention being paid to ESG in other countries.

Where activists – especially those based overseas – have taken action, particularly in the form of shareholder proposals on issues concerning the environment or diversity in human resources, they are garnering increased support.

Domestic institutional investors in Japan have also incorporated ESG elements into their voting guidelines, influenced by:

revisions to the SSC; and
the promotion of ESG investment by the GPIF.

As a result, instances of ESG elements being included in the voting criteria of institutional investors have been on the rise.

Furthermore, ESG activism is expanding beyond NGOs to include general institutional investors.

7 Other stakeholders and rights holders

7.1 What role do stakeholders or rights holders (eg, employees, pensioners, creditors, customers, suppliers, and Indigenous communities) play in shaping ESG in your jurisdiction? What influence can they exert on a company?

Stakeholders and rights holders are influencing ESG in various ways, including the following:

Workers: Labour unions historically communicate and negotiate with companies regarding:
- working conditions, such as wage increases;
- harassment matters, such as sexual harassment or parental harassment; and
- working environments, such as safety and health issues in the workplace.
Recently, as such communications between workers and employers are reassessed as a form of stakeholder engagement, numerous companies position their communications with labour unions or workers as a form of ESG that is relatively easy to improve. Furthermore, workers also attempt to change the corporate culture by asserting their rights in court. On 11 July 2023, the Supreme Court ruled that a restriction imposed by the Ministry of Economy, Trade and Industry (METI) on a transgender employee's use of the women's restroom was illegal. Although the defendant in this case was METI, the ruling has also had a significant impact in the private sector.
Business partners: Following the progress of ESG initiatives, business partners – including suppliers – and members thereof, such as employees, are gradually becoming recognised as stakeholders of companies. Some companies engage in a dialogue with their business partners and have hotlines which allow them to report ESG incidents. To scrutinise and monitor business partners, some companies also have a code of conduct that business partners must follow. Most companies that have a code of conduct require their business partners to sign a written pledge to agree to the code or include a clause to this effect in their contracts.
Financial institutions and investors: Financial institutions exercise influence by implementing due diligence on target businesses with high ESG risk when, for example, making new or additional loans. They also monitor the circumstances of each business depending on ESG risks. Investors influence ESG-related decisions made by management as shareholders.

8 Trends and predictions

8.1 How would you describe the current ESG landscape and prevailing trends in your jurisdiction? Are any new developments anticipated in the next 12 months, including any proposed legislative reforms?

Recognition that ESG is a crucial management issue for companies is steadily increasing, especially among large companies. However, the key to ESG taking root in Japanese business practices is the degree to which it is accepted by small and medium-sized enterprises.

New ESG-related developments include the following:

Amendments to the Labour Standards Act and related rules: The items to be amended include the following, among others:
- the addition of a requirement that working conditions be clearly stated at the time of signing or renewing an employment contract;
- reform of the discretionary work system, which is a form of work in which wages are paid for hours previously determined between an employer and a worker, which are then considered to be the working hours;
- an increase in the legally mandated employment rate for persons with disabilities; and
- the application of overtime work limits in certain industries and occupations (eg, construction workers, drivers and doctors).
These amendments came into effect as of 1 April 2024.
Development of the National Action Plan on Business and Human Rights (2025-2030): The Japanese government developed a national action plan (2020-2025) in October 2020 and is currently renewing it. This document describes the action plan for the next five years. The date of publication of the new national action plan is still unknown but is expected to be disclosed in the latter half of 2024.
Amendments to the Act for Eliminating Discrimination against Persons with Disabilities: The provision of reasonable accommodation by businesses to persons with disabilities became mandatory from 1 April 2024.
Discussion regarding an extension of the effective period of the Act on the Promotion of Women's Active Engagement: This act is temporary and will expire on 31 March 2026. The government is discussing extending the expiration date of the law.
Amendments to the Act on Promotion of Global Warming Countermeasures: The amendments will:
- strengthen the implementation system for the Joint Crediting Mechanism;
- expand the regional decarbonisation promotion project system; and
- promote the reduction of greenhouse gas emissions in daily life and encourage people to:
- - choose products with low emissions throughout their lifecycle, from raw material procurement to disposal; and
  - change their lifestyles to lessen the impact on global warming.
The amended act is expected to become effective on 1 April 2025.

9 Tips and traps

9.1 What are your top tips for effective ESG implementation in your jurisdiction and what potential sticking points would you highlight?

Effective ESG implementation will advance if ESG compliance becomes essential to the survival of companies, such as through the introduction of:

penalties under laws and regulations; and
investor metrics that favour companies that implement ESG initiatives.

Listed companies follow soft codes such as the Corporate Governance Code, as failure to comply is also detrimental to their stock price.

To avoid mere superficial ESG implementation, one solution is to demonstrate the benefits to corporate value that flow from ESG initiatives. In 2023, the Government Pension Investment Fund (GPIF) commenced a two-year quantitative analysis study on the effects of ESG investments. The GPIF is a leader in ESG investments in Japan, with assets under management exceeding JPY 200 trillion at the end of FY 2022, of which JPY 12.5 trillion were allocated to ESG investments.

The GPIF's quantitative analysis will cover:

the impact of engagement with ESG indicators on corporate value;
the impact of ESG investments on corporate behaviour; and
the relationship between ESG factors, corporate value and improved return on investment.

Depending on the outcome of this analysis, ESG investments in Japan may increase and Japanese companies may adopt more effective ESG implementation.

To promote ESG investment, it is also important to extend incentives for effective ESG implementation to:

small and medium-sized enterprises, which account for 99.7% of all Japanese companies and employ about 70% of the Japanese workforce; and
non-listed companies, which account for 99.89% of all Japanese companies.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

Japan: ESG Comparative Guide