After the economic downturn that followed the sub-prime shock, there is an increasing need for management integration to strengthen the competitiveness of companies through acquisition and/or disposition of businesses to focus and strengthen their core business. M&A transactions to achieve such business needs are expected to increase.
Types of acquisition
Several legally distinct methods are available under Japanese law to transfer control over all or part of the business of a target company. The primary ones are: (i) share acquisition of a target company by the purchaser by way of a sale and purchase of existing shares and/or allotment of newly issued shares; (ii) business transfer, which transfers all or part of the business operations of the target company to the purchaser; (iii) merger which combines businesses of multiple entities into one company; (iv) corporate split which separates all or part of the business operations of one company, in order to transfer the same to a new or existing company by operation of law; (v) share exchange which creates a 100% ownership relationship between existing companies (ie. a company becomes a wholly-owned subsidiary of an existing company); and (vi) share transfer in which a newly incorporated company holds 100% of the shares of an exiting company. Methods (iii) to (vi) are organisational restructuring methods the effect and procedures of which are provided under Chapter Five of the Companies Act. Methods (i) through (vi) can be used in combination, such as by spinning off a certain division of a target company into its wholly-owned subsidiary by corporate split and then selling the shares in that subsidiary to the purchaser.
In order to decide which methods to use, the following points should be considered.
(1) Whether to obtain a control right or the assets or business directly
Share acquisition or share exchange is commonly used if the purchaser intends to obtain a control right over the target company. These methods will transfer the shares of the target company without changing the corporate status of the target company. The purchaser will acquire 100% ownership of the target company pursuant to a share exchange. If a share acquisition is undertaken, it is, by contrast, possible to obtain 100% or only a certain percentage of the shares of the target company. By acquiring shares, the purchaser may be able to control the target company through the exercise of voting rights at the shareholders' meeting.
Since the purchaser obtains control over the target company without changing the target company itself, any risks latent in the target company (including contingent liabilities) will be indirectly transferred to the purchaser. A complete legal due diligence enquiry is especially important to find out the scope and magnitude of such risks and to prepare appropriate protections against such risks.
On the other hand, business transfer and corporate split are commonly used if the purchaser intends to directly obtain the assets or businesses of the target company. The parties to the business transfer or corporate split may be able to agree on the scope of the assets or businesses to be transferred by specifying the assets, debts, agreements, and employees to be transferred. It is possible to carve out contingent liabilities or any particular risks by limiting the assets to be transferred, which is one of the major differences between these methods and the methods to obtain a control right over the target company. It should be noted, however, that certain liabilities such as tort liabilities cannot be excluded through the corporate split method. Therefore, if carving out liabilities is crucial to the transaction, the business transfer is the preferred method.
(2) Necessary procedure and timeline of the transaction
The approval procedures required by law for the above methods are different. Share acquisition, by way of purchasing existing shares, can be concluded by executing a sale-and-purchase agreement with existing shareholders. Business transfer and organisational restructuring require a special resolution of the shareholders' meeting (ie. two-thirds majority voting) in principle.
In addition to the above, the kind of procedure required to transfer the assets or the business will be an important factor affecting the timeline of the transaction.
If a business transfer is undertaken, since it is a procedure to transfer each of the selected assets, debts, agreements, and employees of the target company, it is necessary to go through the legally required processes related to such transfers in order to complete the business transfer. For example, in order to transfer any employee, it is necessary to obtain the employee's consent. Also, in order to transfer an agreement between the target company and a third party, the consent of the third party is necessary unless the third party specifically waives its right to consent in the agreement. Because of this requirement, executing a business transfer can be time consuming and impractical if there are many material agreements to be transferred. On the other hand, if the assets to be transferred are limited and it is easy to obtain consent from counterparties, this process would not be unduly burdensome.
If an organisational restructuring is undertaken, it is, in principle, not necessary to go through an individual transfer process because the assets and agreements will be transferred by operation of law, with the caveat that agreements sometimes have a change of control clause which entitles the counterparty to terminate the agreement upon the organisational restructuring. In order to protect creditors, it is principally necessary to undertake the legally required creditor protection process, including a public notice followed by an objection period of not less than one month during which creditors may request certain statutory protections. Therefore, if it is necessary to complete the transaction within one month, it would be difficult to use organisational restructuring.
In addition to the above, there may be other requirements to complete an M&A transaction, such as a process to protect employees in the case of a corporate split. In addition to the procedures required by the Companies Act, if the target company is a listed company, the requirements of the Financial Instruments and Exchange Act (the FIEA) may also apply, including conducting a tender-offer bid or submission of a securities registration statement, as described in more detail below. It may also be necessary to submit a report required under the Act on Prohibition of Private Monopolisation and Maintenance of Fair Trade (the AMA). These requirements will also impact the timeline of the transaction.
(3) Methods to combine multiple businesses
In order to combine multiple businesses, mergers and joint share transfers are commonly used.
Merger is a typical method to combine businesses of multiple companies into a single company. It is also possible for multiple companies to jointly conduct a share transfer; in this case, a new entity will be incorporated to become the parent which will hold the companies as wholly-owned subsidiaries. A joint share transfer is therefore a possible method for creating a holding company. Joint share transfers are useful when the parties intend to unite their businesses without changing the corporate status of their business entities; mergers are useful when the parties prefer combining the businesses completely.
(4) Consideration to be paid
Before the implementation of the Companies Act in 2007, allowable consideration for organisational restructuring was principally limited to shares of the succeeding company. However, under the Companies Act, it is presently possible to provide other types of property as consideration (including shares of other entities and cash), unless a new company is incorporated as a result of the organisational restructuring procedure.
As a result, by using cash as consideration for the organisational restructuring, it is possible to cash-out minority shareholders. In this regard, it should be noted that objecting minority shareholders who are to be cashed out can exercise a right to request the company to purchase their shares at a fair price. If a fair price cannot be agreed between the parties, the court has the authority to decide the price. There are no specific rules on how to decide a fair price, and the court has discretion. If the target company is a listed company, the fair price is generally based on a market price just before the announcement of the transaction. However, some courts have justified prices which included a premium over the market price.
Triangular mergers, triangular share exchanges and triangular corporate splits are also possible using shares of a parent company as consideration. These schemes require careful consideration of tax aspects and disclosure obligations. In addition, if the offered consideration is not easily liquidated such as shares not listed in Japan, the transaction would not be attractive especially for individual shareholders. Therefore, the number of M&A transactions using such schemes to date is limited.
Regulating the deals
M&A transactions relate not only to the Companies Act but also to general regulations affecting business, such as labour law, tax law, licensing and permission from governmental authorities, and industry specific laws. In this article, we focus on regulations related to the securities market, foreign exchange, and competition.
1. Securities market regulation
The FIEA is the basic law that regulates the securities market in Japan. Issues relating to the FIEA often arise with respect to M&A transactions that include a listed company.
(i) Large shareholding report
M&A transactions typically result in the change of a large shareholder. Large shareholdings have an impact on the management of the target company and may also impact supply and demand of the shares. Related information is therefore material for investors. Accordingly, a person who becomes an owner of more than 5% of the issued and outstanding shares (basically, including potential shares such as warrants) of a company, must submit a large shareholding report to the competent local Financial Bureau within five business days of the date of acquisition of the shares. If the shareholding ratio of any such large shareholder later increases or decreases by more than 1%, such change must also be reported within five business days. In the calculation of the applicable shareholding ratio, shares held by a person, or entity, with a certain relationship with the large shareholder are included.
This obligation will be reduced for institutional investors such as securities companies, banks, and insurance companies – if certain requirements are satisfied – due to the frequency of their share trading and the burden of continually submitting a large shareholding report; they are required to submit a large shareholding report twice a month in these circumstances.
Since a large shareholding report will be publicly disclosed, the obligation to submit a report is especially important when a purchaser intends to confidentially acquire a certain amount of shares before or during the M&A transaction.
(ii) Tender-offer bid (TOB)
The FIEA requires purchasers that intend to purchase shares above certain thresholds outside the market to undertake a TOB procedure to ensure the transparency and fairness of the securities market.
The thresholds that trigger the mandatory TOB procedure are highly detailed and require careful consideration on a case-by-case basis. The basic rules are: (i) if the purchaser's shareholding ratio would exceed one-third after the intended purchase of shares through off-market acquisitions (ie. outside any securities markets or through off-floor trading), the purchaser needs to undertake a TOB procedure; (ii) if the purchaser already holds a shareholding ratio of more than 50%, the TOB procedures are not required for the off-market acquisition so long as its shareholding ratio after the acquisition would not exceed two-thirds; (iii) notwithstanding (i) above, if the number of counterparties to any off-market acquisitions effected by the purchaser within 60 days is more than 10, and if the total shareholding ratio after the acquisition is above 5%, the TOB procedure is required.
In the calculation of the shareholding ratio, the shares held by a person who has a certain relationship with the purchaser (eg. a person who agrees to jointly acquire the shares or to jointly exercise voting rights, parent companies, subsidiaries and sister companies) are included.
It is possible to set a maximum amount and/or minimum amount of shares to be purchased by a purchaser through a TOB procedure. If the purchaser sets a minimum amount, and if the number of tendered shares under the TOB procedure is below such minimum amount, then the purchaser may decline from purchasing any tendered shares. If the purchaser sets a maximum amount and the number of tendered shares under the TOB procedure is above such maximum amount, then the purchaser is not required to purchase the shares above the maximum amount. However, if the targeted total shareholding ratio to be held by the purchaser, together with a person who has special relationship with the purchaser, would be two-thirds or more after the TOB procedure, then it is not possible to set a maximum amount. As a result, the purchaser would be required to purchase all the shares tendered during the TOB procedure.
The purchaser initiates the TOB procedure by making a public notice which specifies the purpose, price, period and number of shares to be purchased, among other things, and by submitting a TOB registration statement. The target company must express its opinion about the TOB within 10 business days from the public notice.
The TOB period during which shareholders of the target may tender shares must be, in principle, 20 business days or more, but no longer than 60 business days. If the initial TOB period set by the purchaser is shorter than 30 business days, the FIEA allows the target company to extend the TOB period to 30 business days.
The purchaser cannot withdraw the TOB after initiating it unless it indicates in the TOB registration statement in advance that it may withdraw the TOB upon the occurrence of certain events. Allowable events are prescribed in the FIEA and include restructuring of the target company such as by merger, commencement of insolvency proceeding, issuance of new shares, and the cases where certain defence measures have become definitive.
A purchaser may change the terms of its TOB subject to certain procedural requirements, so long as such change is favourable to the shareholders. However, the purchaser must not, in principle, change the terms of the offer unfavourably to the shareholder. Nonetheless, the purchaser may decrease the purchase price in accordance with the formula stipulated in the FIEA in the event of certain occurrences, such as a stock split or allotment of new shares by the target company.
(iii) Securities registration statement
If a target company makes an allotment of shares to a third party during an M&A transaction and such shares are of the same kind as the listed shares (eg. common shares), that allotment usually requires the target company to prepare and submit a securities registration statement.
A securities registration statement is also required to be submitted for organisational restructurings which satisfy certain requirements.
2. Regulation of investment from overseas
(i) Foreign Exchange and Foreign Trade Law (the FEFTA)
Investment from outside of Japan is regulated by the FEFTA. For example, inward investment such as an acquisition of shares in a Japanese company by a foreign investor is regulated by the FEFTA and, in principle, a post-facto report is required.
In addition, if an M&A transaction relates to sectors which are considered sensitive, such as aircraft, power supply, communications and broadcasting, 30-days notification is required prior to the transaction. The government will examine the notification and may order the investor to alter or abort the investment. Although the government never exercised this power during the more than 50-year period following the enactment of the FEFTA, it exercised this power in 2008 for the first time when a UK-based hedge fund tried to raise its stake in J-Power, a Japanese company that operated a wholesale electricity company and was building a plutonium thermal nuclear power plant.
(ii) Industry specific regulation
In addition to regulation by the FEFTA, industries such as telecommunications, broadcasting and airlines are regulated by industry specific regulations.
For example, the Civil Aeronautics Act stipulates that an entity cannot register its aircraft if one-third or more of the voting rights of the entity are held by foreigners or foreign entities. Therefore, if a foreign purchaser obtains one-third or more of the voting rights of a Japanese airline company, the airline company cannot continue its business.
3. Regulation regarding competition
Under the AMA, if a business combination, such as a share acquisition, a merger, a business transfer or another form of combination, satisfies a certain threshold, notification needs to be provided to the Japan Fair Trade Commission (the JFTC). Generally, the parties may not conclude the transaction until after the expiration of a 30-day waiting period (or a shorter period if permitted by the JFTC), which commences from the date of acceptance of the prior notification by the JFTC.
In addition, any M&A transaction could be reviewed by the JFTC if it were to consider that the transaction could result in a substantial restraint of competition in a particular field of trade, even if the transaction does not satisfy the thresholds for the notification obligation. Therefore, if a planned M&A transaction might substantially restrain competition in a particular field, it is necessary to carefully analyse the impact of the transaction on competition, and it may be useful to consult with the JFTC in advance in order to avoid the risk of the JFTC objecting to the transaction and starting an investigation after closing.
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About the author
Junichi Kondo is a partner at Anderson Mori & Tomotsune with broad experience in the area of corporate transactions, mergers and acquisitions, M&A-related financing and general corporate. His scope of experience also includes intellectual property. He is a graduate of Stanford Law School (JSM) and The University of Tokyo (LLB, 1998). He was admitted as a lawyer in Japan in 1994 and in New York in 2000. |
Contact information
Junichi Kondo
Anderson Mori & Tomotsune
Izumi Garden Tower 6-1, Roppongi 1-chome Minato-ku, Tokyo 106-6036 Japan
Tel: +81 3 6888 1000
Email:junichi.kondo@amt-law.com
Web: www.amt-law.com |
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About the author
Etsuko Hara is an associate at Anderson Mori & Tomotsune with broad experience in the area of corporate transactions, mergers and acquisitions, joint venture, financial transactions and general corporate. Her scope of experience also includes franchising and antitrust. She is a graduate of Columbia Law School (LLM) and The University of Tokyo (LLB, 1998). She was admitted as a lawyer in Japan in 2001 and in New York in 2007. |
Contact information
Etsuko Hara
Anderson Mori & Tomotsune
Izumi Garden Tower 6-1, Roppongi 1-chome Minato-ku, Tokyo 106-6036 Japan
Tel: +81 3 6888 1000
Email:etsuko.hara@amt-law.com
Web: www.amt-law.com |