About five years ago, we wrote about the phenomenon of Japanese bedrock manufacturing companies firing thousands of people. One after another, companies such as Matsushita, Nissan and others broke the bad news to employees aged 50 or over that their days were numbered. Among many others, we were stunned to witness that apparent death of a unique corporate culture that saw protecting the welfare of employees as being more important than making profits.
During that intense 18-month period of lay-offs, only Toyota and a few other cash-rich companies were able to keep the faith.

Of course the mass firings were just the tip of an iceberg’s worth of bad news. The fact was that long before people were losing their jobs, the companies involved were all under huge pressure to simply survive. Over the previous few years, they had cut costs to the bone and employee rosters were simply the last straw. For those remaining, base salaries, allowances, bonuses, and all-important overtime were either frozen or cut, and of course as a result nationwide consumer spending dropped dramatically.

Even as recently as 2004, we were still reading news reports that the average salary of a factory worker, before overtime, had a drop in average income of almost 2% over the same period a year earlier.

So it was with great interest that we read in the news this week, that Nippon Steel and JFE Steel have both decided to award their employees pay rises for the first time in 6 years. Not huge raises mind you, just a scant JPY1,500 extra a month for JFE employees, but nevertheless, with corresponding big ramp ups in overtime — a much more important source of extra cash to the average salaryman — the result is that regular employees are now starting to enjoy some of the trickle down from the profits that their companies have been making for 2-3 years now.

Perhaps in any other country, if the workers knew that their company had just made a consolidated profit increase of 41%, as Matsushita achieved in Q1 of this year, they would probably be talking about striking rather than meekly accepting the rather paltry JPY500 monthly base salary raise actually offered by the company. But then, with Matsushita hitting the news as being the best company in the country to work for (really), clearly Matsushita has managed to convince its unions that the company needs more economic breathing space before it can start sharing more of the profits with the staff. The message to the workers is, “We’re not out of the woods yet.”

Perhaps another reason why Matsushita’s and other companies’ workers are not complaining is because they get most of their windfall benefits from bonuses and overtime, not by base pay increases anyway. The Nippon Keidanren (The Japan Business Federation) announced recently that winter bonuses at major Japanese companies are expected to rise 2.75% to an average of JPY878,071 per worker, an all-time high since statistics were first kept back in 1959. This makes it the second year in a row for record bonuses, and the result is sure to be a strong increase in consumer spending over the coming 6-12 months.

Several other reasons why pay raises are becoming fewer and further between are to do with changing social circumstances. Firstly, the unions appear to be losing their ability to negotiate on an industry-wide basis, as some companies are doing a lot better than others. Just take a look at the recent differences in profit between highly profitable firms such as Canon and Toyota versus profit-challenged ones such as Sony and NEC. Thus, the members of Rengo, the umbrella organization of Japanese trade unions, are finding that they can’t go after sector-wide pay rise demands through holding street rallies in Kasumigaseki any more. Instead, they have to engage in cumbersome negotiations on a company-by-company base — something they really haven’t figured out how to do yet.

Secondly, as many as 60% of Japan’s major companies are already deep into their restructuring of pay scales, dropping seniority-based pay in favor of merit-based pay.
Merit-based pay is a relatively new phenomenon, really only taking root in the last 5 years in tandem with the wave of lay-offs. Given the origins of merit or performance-based pay, it is only natural that most people have thought of the whole system as a smoke screen to allow companies to cut their labor costs. While there may be an element of truth in that idea, the whole concept of pay for performance has nevertheless just been given a huge shot in the arm by the courts.

On June 22, the Tokyo High Court overruled a lower court decision and allowed a Kanagawa-based electronics
manufacturer to demote a number of employees who couldn’t perform to their respective salary levels. The company introduced its merit-based pay system in 2001, and caused a number of people aged between 44 and 53 to lose their management positions as well as to receive a pay drop of up to JPY75,000. We think such court rulings represent a fundamental change in thinking on salaries and pay negotiations. It also sets the foundation for even more radical changes over the next few years, as Japan seeks to find ways to become competitive again.

The Mizuho Research Institute says that the current wage increases, while small, when combined with bonuses and performance pay are expected to be significant enough to stimulate households to consume more. The think tank says that consumer spending may rise by 1% next fiscal year and that employers’ wage bills will increase by more than JPY8trn (US$67bn).

While the public’s focus is primarily on employee salaries, another mini-revolution is going on in the board room. Many companies pay their directors a flat monthly or yearly fee, regardless of whether they ever show up to board meetings or not. Recently, however, companies are looking to their boards to take on more responsiblity — particularly the executive directors. Namco Bandai Holdings just recently introduced stock options for their executive directors, to directly connect their wealth to the results of the company. The 8 internal directors will each receive around 2,100 shares, worth about JPY32.5m, and at the same time take a 20% decrease in base salary.

We suspect that if more companies used this kind of system for their top people, overall company results would improve considerably. Pay-for-performance is still a radical idea in Japan, but it is an idea whose time has come.