This country-specific Q&A gives an overview of mergers and acquisition law, the transaction environment and process as well as any special situations that may occur in Japan.
It also covers market sectors, regulatory authorities, due diligence, deal protection, public disclosure, governing law, director duties and key influencing factors influencing M&A activity over the next two years.
This Q&A is part of the global guide to Mergers & Acquisitions. For a full list of jurisdictional Mergers & Acquisitions Q&As visit http://www.inhouselawyer.co.uk/index.php/practice-areas/mergers-acquisitions/
What are the key rules/laws relevant to M&A and who are the key regulatory authorities?
The key laws applicable to M&A in Japan are:
- The Companies Act;
- The Financial Instruments and Exchange Act (FIEA);
- The Act on Prohibition of Private Monopolization and Maintenance of Fair Trade; and
- The Foreign Exchange and Foreign Trade Act.
The Financial Services Agency, the Japan Fair Trade Commission and the Ministry of Finance are the key regulatory authorities.
What is the current state of the market?
The overall number of M&A transactions in Japan has been steadily increasing since 2012. Growth in outbound M&A (In-Out) has been particularly strong, hitting a record high in terms of both transaction numbers and volume in 2015. In 2016, M&A activity remains strong, but Japanese companies appear to have become somewhat more cautious towards outbound M&A, perhaps due to uncertainty over the world economy. Meanwhile, there has been a substantial increase in inbound M&A (Out-In) in 2016, including cases such as the acquisition of Supercell by Tencent, a Chinese IT company, and the acquisition of Sharp Corporation by Hon Hai Precision Industry, a Taiwanese electronics manufacturer.
Which market sectors have been particularly active recently?
Looking at the domestic M&A (In-In) market, activity reflects the realignment taking place in various industries in Japan. In particular, consolidation appears to be taking place among Japanese listed companies in the retail, oil, food and beverage, and financial industries. In outbound M&A, major Japanese insurance companies have recently been particularly active in large-scale acquisitions of foreign insurance firms. Investment in various technology venture companies has also been particularly popular recently.
What do you believe will be the three most significant factors influencing M&A activity over the next 2 years?
We believe that the following three factors will significantly influence M&A activity in Japan over the next few years:
Corporate governance reforms aimed at improving capital efficiency
The Japanese government has implemented corporate governance reforms as part of its so-called ‘Abenomics’ economic policies. It is hoped that these reforms will improve capital efficiency among Japanese companies. This, coupled with the recent tendency among Japanese companies to retain large reserves of surplus funds, will probably lead companies to sell unprofitable businesses and acquire profitable ones.
Maturity of the domestic market
With a declining population and a continuing recession, the upward trend in domestic M&A activity is likely to slow and, as a result, more and more Japanese companies will be looking to expand overseas by acquiring foreign businesses.
The state of the world and domestic economy
One of the biggest factors affecting M&A activity over the next few years will be the fragile situation in the world and domestic economies, including interest rates and the extensive fluctuations in the Japanese yen exchange rates against other major currencies.
What are the key means of effecting a merger?
There are two main types of merger in Japan: (i) consolidation-type merger, where all the assets, rights and obligations of the companies being merged are acquired by a newly incorporated acquisition company (the pre-existing companies being dissolved); and (ii) absorption-type merger, where the surviving company acquires all assets, rights and obligations of the company absorbed by the merger. Consolidation-type mergers are rare because the procedures tend to be burdensome when compared to those for absorption-type mergers, not least of which are obtaining new government licenses and approvals and, if the merged companies in a consolidation-type merger are both listed, listing of the newly incorporated acquisition company. Even with an absorption-type merger, the parties must follow statutory procedures, including obtaining approval at shareholders’ meetings, executing a merger agreement and giving public notices.
What information relating to a target company will be publicly available and to what extent is a target company obliged to disclose diligence related information to a potential acquirer?
Regardless of whether a target company is listed company or private company, under the Companies Act information publicly available through the commercial registry, or public notices of the target company includes:
- Registered name
- Date of incorporation
- Business purpose
- Total number of authorized shares
- Total number of issued shares
- Amount of capital
- Restrictions on share transfer
- Composition of management bodies
- Names of the directors and company auditors
- Balance sheet
- Income statement (if the company has an issued capital of JPY 500 million or more, or its aggregate liabilities are JPY 20 billion or more)
In the case of a listed company, the following information is also publicly available through the securities reports required to be filed under the FIEA, or timely disclosure requirements under stock exchange regulations:
- Overview of the company, including its history, structure of its business and status of its affiliates and employees
- Operating and financial review and prospects
- Equipment and facilities
- Other company information, including regarding shares, bonds, major shareholders and corporate governance
- Financial information
Annual securities reports, quarterly (or semi-annual) reports
- Changes in the company’s major shareholders
- Stock exchange, stock transfer, company split, merger and business transfer, etc.
- Information that is likely to impact investors’ investment decisions
Timely disclosure rules
As a rule, a target company is not obliged to disclose due diligence related information to a potential acquirer, though it can be illegal to disclose false information.
To what level of detail is due diligence customarily undertaken?
Due diligence is undertaken from the perspective of business, legal, accounting and tax, etc. In the case of legal due diligence, a potential acquirer customarily aims to obtain information regarding, for example, whether or not (i) the target company has the necessary assets, intellectual property rights, licenses and approvals in order to conduct its current or anticipated business, (ii) the M&A transaction might be grounds for breach of contract, termination or acceleration, (iii) there are any contingent liabilities, (iv) there will be any business restrictions or disadvantages after the completion of the M&A transaction, and (v) there are any material violations of law.
It should be noted that long-form due diligence questionnaires in the style used in the US and UK are not common for Japanese domestic M&A; a foreign company seeking to acquire a Japanese private company should therefore take advice before submitting such a request to the seller.
What are the key decision-making organs of a target company and what approval rights do shareholders have?
The decision making organs of a Japanese company are usually the representative director, the board and the shareholders; although the representative director has wide-ranging authority to act on behalf of a company, major decisions, such a sale of a substantial part of its business or the shares in a subsidiary would require board, and sometimes shareholder approval.
In the case of share transfers, shareholders of a target company do not usually have approval rights, though the approval of the shareholders or the board of the target company is sometimes required by the company’s articles; this would still be the case even if the company is wholly-owned by the seller. If board approval is required, it should be noted that the directors of the target company have fiduciary duties to the company and it cannot be assumed that board approval will be given, even if the seller is the controlling shareholder of the target. The articles of the target company need to be checked at an early stage for any such restriction; it is sometimes prudent to revise the articles to remove the consent restrictions.
In most cases, a business transfer (i.e. the transfer of all or a substantial part of the target’s business), and certain technical procedures which are sometimes used for M&A deals must be approved by a super majority shareholders’ resolution (affirmative votes of at least two-thirds of shareholders) at a shareholders' meeting of the target company; this does not apply if at least 90% of the issued shares of the target company are held by another (parent) company.
What are the duties of the directors and controlling shareholders of a target company?
Directors of a target company owe what is known as a duty of care of a prudent manager (zenkanchui gimu) and duty of loyalty (chujitsu gimu) to the company under the Companies Act. These general principles guide the process of determining the duties of directors, but courts tend to afford directors a great degree of discretion in relation to business judgment decisions, tending to find that directors have breached these duties only when the decision making process and the decision itself are substantially irrational.
A common example of a duty in relation to an M&A transaction involves directors of a company who are personally involved in a management buy-out (MBO) being required to pursue transfer of the company from the shareholders at a fair purchase price which reflects the fair value of the company. There are no clear rules, however, requiring directors of a target company to pursue the best value reasonably available for the shareholders to the extent of the Revlon Rule, for example.
Under Japanese laws, there are no clear statutes or legal precedents regarding the duties of controlling shareholders of a target company.
Do employees/other stakeholders have any specific approval, consultation or other rights?
The rights of employees of a target company depend on the form of M&A. In a share transfer or merger, the employees do not have any special rights. However, in the case of a business transfer (jigyo jouto), employees of a target company selected to be transferred to the acquirer may refuse their transfer. In the case of a company split (kaisha bunkatsu), employees working for the business division that is to be transferred to the acquirer have consultation rights and, depending on their role within the target company, some employees will also have specific approval or refusal rights over their transfer to the acquirer.
Shareholders of a target company do not have any specific individual approval, consultation or other rights. However, in the case of a merger shareholder approval at a general shareholder meeting is required.
What regulatory/third party approvals are required and what waiting periods do these impose, if any?
The Antimonopoly Act requires prior notice of an M&A transaction to the Japan Fair Trade Commission, and a waiting period of 30 days or more if the size of a target company and/or an acquiring company are bigger than certain limits prescribed under the Antimonopoly Act. Special prior notice to the Bank of Japan is also required in the case of an acquisition by a foreign company of a company in certain industries specified under the Foreign Exchange and Foreign Trade Act, and will be subject to a 30-day waiting period.
To what degree is conditionality an accepted market feature on acquisitions?
Financing out clauses and material adverse change clauses are accepted elements of acquisitions in the Japanese market. Whether these conditions end up in the transaction documents depends on the deal. Buyers also often make deals conditional on there being no breach of representations and warranties or covenants.
What steps can an acquirer of a target company take to secure deal exclusivity?
Generally speaking, exclusivity cannot be secured until an exclusivity clause is set out in a written agreement. At the initial stages, the parties start negotiations with a Non-Disclosure Agreement, but this does not usually contain an exclusivity clause. After some negotiation (before or after completion of due diligence), the parties will usually execute a Letter of Intent (LOI) or Memorandum of Understanding (MOU), under which the potential acquirer may be given an exclusive right to negotiate with the potential seller. Usually, the duration of the exclusivity is from 60 to 90 days, but depends on the size and complexity of the deal. Upon execution of a final agreement, the LOI or MOU expires, and with it the exclusive right of the potential buyer, but by this stage the seller is usually fully committed to completing the deal.
What other deal protection and costs coverage mechanisms are most frequently used by acquirers?
In Japan, other than exclusive negotiation rights before the execution of the final agreement, deal protections are not frequently used by acquirers. However, in the case of public tender offers, acquirers commonly first enter into an agreement with some large shareholders under which these shareholders agree to sell their shares to the acquirer upon receiving the tender offer.
Penalty clauses are known to be added to final agreements as a cost coverage mechanism.
Which forms of consideration are most commonly used?
Cash is the most commonly used form of consideration for all types of acquisitions, followed by shares of the acquirer in the case of listed companies. Shares of the acquirer’s parent company are sometimes used, but this is less common. Other forms of consideration are rare.
At what stages of an acquisition is public disclosure required (whether acquiring a target company as a whole or a minority stake)?
If a party to the transaction is a listed company, the company is subject to timely disclosure rules of the exchange. In Japan, these are standardized under the Japan Exchange Group, whose timely disclosure rules require listed companies to disclose when its management organ has decided to pursue the M&A and the proposed M&A constitutes important information with respect to the investment decisions of its investors. There is some ambiguity in this wording, but listed companies are generally considered to be required to make disclosure on entering into a legally binding memorandum of understanding to pursue the M&A.
Are there any circumstances where a minimum price may be set for the shares in a target company?
There are no regulations regarding the purchase price of shares in a target company, including for public tender offers.
Is it possible for target companies to provide financial assistance?
Unlike some other jurisdictions, Japan does not have any so-called financial assistance regulations, which means that target companies are not specifically prohibited by law or regulation from providing financial assistance such as security rights or a guarantee to the buyer for the acquisition.
However, if there are still minority shareholders of the target company remaining at the time of the first step of the acquisition when financing is made, as is often the case in two-step acquisitions, financial assistance would be considered to be for the benefit of the majority shareholders only, which would raise the issue of breach of duty of care/duty of loyalty of the directors of the target company.
Therefore, in practice, unless the minority shareholders consent to the financial assistance, a target company would commonly only give such financial assistance after the second step of the acquisition (the squeeze-out) has been completed.
Which governing law is customarily used on acquisitions?
When the target company is a Japanese company, it is common for Japanese law to be designated as the governing law of the share purchase agreement. While it is possible for the parties to choose a foreign law as the governing law, it is very rare in practice, and there are limitations on such choice of law anyway, as Japanese law (Companies Act) will govern certain matters related to the share transfer such as the effectiveness of the transfer of shares of the company issuing share certificates, even if the parties agree otherwise in the share purchase agreement.
What public-facing documentation is it necessary for a buyer to produce in connection with the acquisition of a listed company?
When a buyer acquires more than 5% of the shares of a listed company in Japan, a substantial shareholding report must be submitted to the Kanto Local Financial Bureau, which becomes publically available through the EDINET (Electronic Disclosure for Investors’ Network) system, pursuant to the FIEA. The buyer also has to submit a change of position report every time the buyer's shareholding ratio is increased or decreased by more than 1% thereafter.
In addition, when a buyer acquires shares of a company which is obligated to file an annual securities report pursuant to the FIEA (including a listed company) by tender-offer, the buyer needs to produce various public-facing documents. Firstly, the buyer must submit a Tender-Offer Statement to the Kanto Local Financial Bureau on the date it issued the Public Notice of the Commencement of the Tender Offer pursuant to the FIEA. The Tender-Offer Statement must include the terms and conditions of the tender-offer and information regarding the tender-offeror/target company, etc. The buyer also needs to disclose the results of the tender-offer (such as number of the tendered-shares) on the day following the last day of the offer period, by electronic public notice or in a daily newspaper. On the same date as the disclosure of the results of the tender-offer, the buyer must also submit the Tender-Offer Report to the Kanto Local Financial Bureau.
What formalities are required in order to document a transfer of shares, including any local transfer taxes or duties?
The transfer of shares in a private company is typically documented under a share purchase agreement. A tender-offer is required in the case of a transfer of a substantial amount of shares in a listed company, which requires a Tender Offer Statement and other documents to be prepared. It is also common in a tender offer for the tender-offeror and major shareholders to enter into an agreement regarding acceptance of the tender-offer.
In addition to an agreement between the parties on the transfer of shares, in the case of the transfer of shares in a company that issues share certificates, the share certificates themselves must be delivered in order for the transfer to be effective. In the case of a listed company, its shares are managed under the book-entry system of the Japan Securities Depository Center, Inc. (JASDEC), so in order to be effective the transfer needs to be recorded in the account of the transferee pursuant to the Act on Book-entry of Company Bonds, Shares, etc.
Furthermore, in order for a buyer to assert shareholder rights against the company after the transfer of shares, the transfer must be listed or recorded in the shareholder registry.
Share transfer does not trigger stamp duty.
Are hostile acquisitions a common feature?
There have been periods in the past when activist funds and other funds actively attempted a number of hostile acquisitions, but they are not currently a common feature in Japan. We are only aware of a handful of deals where the acquisition was successfully closed but the target company has continued to object the acquisition right up to the completion of the deal.
What protections do directors of a target company have against a hostile approach?
There several advanced protections that companies can introduce in ordinary times in order to ward off any potential hostile takeover. The most common of these are called “prior-warning” defence measures, which have been introduced by hundreds of listed companies in Japan. When a company introduces a prior-warning measure, it sets and publicly announces the rules that must be followed by a buyer to acquire more than a certain percentage of the target company's shares, and the concrete defence measures that will be triggered by a future hostile bid, such as shareholder rights plans that entitle all shareholders, except for the hostile acquirer, to acquire additional shares, effectively diluting the ownership of the buyer.
There are many other protection measures used after a fight for control of the company has commenced, including: (i) white knight defence, (ii) issuance of shares/share options to a third party who is friendly to the company, (iii) so-called “crown jewel” defence, (iv) increase of dividends, and so on.
Are there circumstances where a buyer may have to make a mandatory or compulsory offer for a target company?
Under the FIEA, as a general rule a tender-offer is mandatory on the following occasions: (i) if the buyer acquires shares off-market and the shareholding ratio immediately after the acquisition (hereinafter “Target Ratio”) is more than 5% (unless the Target Ratio is less than 1/3 and the buyer acquires shares from no more than ten persons within 61 days); (ii) if the buyer acquires shares off-market and the Target Ratio is more than 1/3; (iii) if the buyer’s shareholding ratio before the acquisition is more than 50% and the Target Ratio is less than 2/3 (unless the buyer acquires shares from no more than ten persons within a 61-day period); and (iv) if the Target Ratio is not less than 2/3 (in which case the buyer must solicit shareholders of all types of shares of the target companies and shall purchase all shares tendered by shareholders).
If an acquirer does not obtain full control of a target company, what rights do minority shareholders enjoy?
In the case of a share transfer, if a buyer acquires most but not all of the shares of the target company and the remaining minority shareholders are not squeezed-out, in principal an appraisal right is not given to such remaining minority shareholders who object to the change of a majority shareholders under the Companies Act, unlike a merger and other organizational restructuring. The remaining shareholder who wants to make an exit from the company can (i) simply sell their shares to a third party (on or off-market), or (ii) (in the case of shares with a restriction on transfer and the company rejects the proposed transfer to a third party) demand the company purchase the shares at a price agreed between the company and that remaining shareholder (if the parties cannot reach an agreement on the purchase price, the court will determine a price upon request by any of the parties).
Is a mechanism available to compulsorily acquire minority stakes?
Traditionally, the primary mechanism to compulsorily acquire minority stakes and cash-out minority shareholders was using “Shares Subject to Class-Wide Call”, but this is a time-consuming and complicated approach because it is always necessary for the target company to pass a shareholders resolution in order to amend the articles of incorporation to allow shares of common stock to be subject to the call provision under a Class-Wide Call, only after which the shares can be acquired. It also should be noted that in Japan, cash mergers and other corporate restructuring for cash are not used in practice because of the negative tax treatment of the target company.
A 2014 amendment to the Companies Act enabled buyers who have acquired more than 90% of the target's voting rights to require other shareholders to sell it their shares if the board of directors of the target company approve the sale. While the shareholding ratio requirement is stricter than for Shares Subject to Class-Wide Call, a shareholders’ meeting resolution is not required in this case, which can accelerate the squeeze-out process.
If the buyer holds less than 90% of the target company's voting rights, share consolidation can still achieve a squeeze-out of the remaining minority shareholders. In this method, the outstanding shares of the target company are reduced enough to make the shares held by minority shareholders fractional shares which can be extinguished by cash purchase pursuant to the Companies Act. The 2014 amendment to the Companies Act gave objecting shareholders an appraisal right, which made this method much more practical than before.