Secondary offerings: Proceed with caution

Author: | Published: 1 Feb 2011
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Recent amendments to the Financial Instruments and Exchange Law (FIEL), in effect since April 1 2010, have drastically revised the regulations on the secondary offering of securities. The FIEL regulates the offering, issuance and sales of securities in Japan; under the FIEL, if a solicitation constitutes a secondary offering of securities, the seller generally may not solicit investors unless the issuer has filed a securities registration statement, and the seller must deliver a prospectus before or at the time of selling the securities to investors.

Before the amendments, the secondary offering of securities was simply defined as solicitations of the purchase of already-issued securities to "50 persons or more under uniform terms" and, thus, sellers generally did not have to consider the implications of a secondary offering as long as the securities were solicited to less than 50 persons.

Under this earlier definition of secondary offering, it was also possible to sell the securities to 50 or more persons without being categorised as a secondary offering, by slightly changing the sales price or other terms of the securities. Such sale was also not subject to any transfer or other restrictions which would usually be required for private placements for a primary offering.

In order to cope with this issue, the amendments to FIEL introduced a new definition of secondary offering of securities which is more complex and elaborately designed, and is more similar to the definition of the primary offering of securities. As a result, any sale of existing securities in Japan occurring outside the securities exchanges needs to be examined to determine whether it is a secondary offering of securities, and whether any exemptions are available under the specific circumstances.

Amended secondary-offering transactions

Under the amended FIEL, any solicitation and sale of already-issued securities in Japan may be considered as a secondary offering even if the securities are marketed to less than "50 persons" and in some cases, to even one person, because the requirement of "50 persons or more under uniform terms" was deleted from the definition of secondary offering.

However, at the same time, the amended FIEL expanded and elaborated on exemptions from the filing and disclosure requirements for certain sales which are otherwise subject to regulations on secondary offering.

Broadly speaking, there are three types of exemptions from the filing and disclosure requirements in a secondary offering: those related to (i) solicitation; (ii) private placements; and (iii) the secondary offering of foreign securities.

Solicitation exemptions

The amended FIEL has expanded the forms of solicitations which are exempted from the definition of solicitations which constitute a secondary offering. In addition to existing exemptions for the sales of listed securities in securities exchanges or through the PTS, there are several new exemptions, including the major exemptions described below.

One exemption is for off-market trading based on the market price of listed securities in Japan among financial instruments business operators (securities firms licensed in Japan) or professional investors as designated under the FIEL (so-called block trade).

Since professional investors generally include foreign entities, companies listed in Japan, and joint stock companies in Japan with stated capital, as far as a seller reasonably believes, of more than ¥500 million, this exemption can be a practical solution in some cases if the seller plans to sell listed securities in Japan.

For the purpose of exemptions (i) through (iii), financial institutions in Japan which are registered to conduct certain limited securities business (touroku kinyu kikan) – this includes most banks in Japan – are treated the same as financial instruments business operators.

Another exemption is for sales of foreign securities by foreign securities brokers to financial instruments business operators or qualified institutional investors (QIIs), or sales of foreign securities by financial instruments business operators or QIIs to other financial instruments business operators for resale.

Foreign securities include not only securities already issued in a foreign state but also securities already issued in Japan but of which solicitations have not been made in Japan. To qualify for the exemption, the foreign securities must not have been sold in a private placement and therefore not be subject to the transfer restriction imposed by the private placement requirements under the FIEL.

A foreign securities broker is a foreign securities company which is not licensed in Japan as a financial instruments business operator, banks or other financial institutions, but engages in the securities business in a foreign country pursuant to the laws and regulations of such country.

A foreign securities broker is not permitted to engage in securities-related business in Japan except for certain specifically licensed business and other limited business, including the sale of securities in accordance with this exemption. The sales of foreign securities by financial instruments business operators or QIIs to other financial instruments business operators must be reported to the Japan Securities Dealers Association.

A third exemption is for the sale of securities held by a seller other than insiders of the issuer or financial instruments business operators. Under this exemption, securities including foreign securities may be sold without being subject to the regulations of secondary offerings unless a seller is an insider, who is considered to easily have access to information of the issuer or financial instruments business operators.

Insiders include the issuer itself, its subsidiaries, its principal shareholders and their directors and officers. In addition, in order to use this exemption, the securities must not have been subject to transfer restrictions imposed by private placement requirements under the FIEL. In many cases where the seller is not an insider of the issuer as set out above, this exemption would be available and, therefore, practically useful. Sale of securities by an insider to another insider is also exempted from the definition of a secondary offering.

Private placement exemptions

The amended FIEL also has private placement exemptions which are subject to certain transfer restrictions depending on the category or number of offerees to be solicited with respect to each type of securities.

The two types of private placement exemptions commonly used are:

  1. private placement to QIIs (QII private placement), available if:
    1. solicitation is made only to QIIs as defined under the FIEL; and
    2. further transfers are restricted to QIIs;
  2. Private placement to a small number of offerees (small number private placement), available if:
    1. the number of offerees (not placees) in Japan is less than 50; and
    2. (i) any transfer of the securities is limited to persons who have acquired or purchased the same en bloc; or
    3. (ii) the number of offered securities is less than 50 and may not be further divided (but shares offered in a small number private placement are not subject to any transfer restriction).

In calculating the 50 offerees set forth in (a) above, the number of persons who were offered the same kind of securities within one month before the current offering must be aggregated under the integration rule. The requirements for the same kind are provided for with respect to each type of security: for example, bonds must have the same issuer, maturity date, interest rate, and denominated currency.

In addition, in the case of sales of foreign securities by financial instruments business operators, the total number of holders of the foreign securities as a result of the small number private placement may not exceed 1,000 and such number of holders must be reported to the Japan Securities Dealers Association.

Neither small number private placement nor QII private placement is available if an annual securities report is required to be filed with respect to the relevant securities, such as listed securities, because these securities are easily transferable.

Foreign securities secondary-offering exemptions

Under the amended FIEL, for a secondary offering by financial instruments business operators of securities issued abroad or issued in Japan of which no solicitations were made in Japan, a securities registration statement does not need to be filed even if such offering does not constitute a private placement or fall under an exemption described above, if the following conditions are satisfied (specific requirements may vary depending on the types of securities):

  1. information on the sales price of such foreign securities is easily available in Japan through the internet or other methods;
  2. such foreign securities are listed on a designated foreign exchange or continuously traded overseas; and
  3. the issuer's information (in Japanese or English) is publicly announced pursuant to regulations of a foreign exchange or applicable foreign law, as the case may be, and easily available through the internet or other methods.

For example, certain foreign government or municipal bonds are commonly traded using this exemption.

However, it should be noted that the secondary offering of foreign securities using this exemption must be conducted by financial instruments business operators licensed in Japan and, therefore, a foreign securities broker may not use this exemption.

Offshore transactions

In addition to the exemptions set out above, although there are no specific rules under the FIEL, as long as solicitations are made outside Japan, the solicitations will generally not be considered as solicitations of securities governed by the FIEL, regardless of the home jurisdiction of the issuer and, therefore, related marketing activities will not be regarded as secondary offering of securities. In some cases, it may not be easy to determine whether solicitations are made purely outside of Japan when a related party to the sale transaction is located in Japan.

Classification of secondary and primary

Among the exemptions set out above, generally speaking, the solicitation exemptions are the most favourable for sellers, because this route does not require any kind of transfer restrictions or disclosure obligations, and certain of the solicitation exemptions are available to foreign securities brokers. However, parties should be aware that these exemptions are available only in the case of already-issued securities.

In the case of primary offerings of newly-issued securities, the FIEL does not have corresponding exemptions; basically, only the private placement exemptions, which have more stringent requirements such as transfer restrictions, are available.

Therefore, the question of whether a security is newly-issued or already-issued is a vital point, in some cases, that should be carefully considered by all parties. For example, under the amended FIEL, a sale of existing securities by the issuer is considered as a solicitation of newly-issued securities.

As to foreign securities, the Financial Services Agency (FSA), the Japanese regulatory authority regulating the trade of securities, has presented its view that the marketing of securities before the issuance of the securities should be regarded as soliciting the acquisition of newly-issued securities in Japan.

Notwithstanding this view by the FSA, historically, even if the solicitation is made before the issuance of the securities by the issuer, the marketing of the relevant securities in Japan had been interpreted to be an offering of existing securities in practice, as long as the closing/settlement of sale of such securities are made in Japan at least one day after the closing/settlement of issuance of the same securities outside Japan (so-called one-day seasoning).

Be aware

Under the amended FIEL, the sales of any existing securities in Japan can potentially constitute secondary offering of securities but, at the same time, the exemptions from the filing and disclosure requirements have been expanded.

These changes have made it increasingly important for parties to verify the exemptions that are available for a transaction and to be aware of the requirements for using the exemptions by carefully considering the types of securities, sellers and other factual details concerning each transaction.

About the author

Shinichi Araki is a partner of Nagashima Ohno & Tsunematsu. His main practice areas are securities regulations and capital market transactions, involving Japanese and overseas issuers. He also advises on financial regulations, corporate restructurings and M&A. He is a graduate of University of Tokyo (LLB 1999) and Columbia Law School in New York (LLM 2007). He was admitted to the Japan bar in 2001. He also worked at Sullivan & Cromwell in New York from 2007 to 2008.

Contact information

Shinichi Araki
Nagashima Ohno & Tsunematsu

Kioicho Building, 3-12, Kioicho
Chiyoda-ku
Tokyo 102-0094, Japan

Tel: +81 3 3288 7000
Fax: +81 3 5213 7800
Web:www.noandt.com

About the author

Sosuke Kimura is an associate of Nagashima Ohno & Tsunematsu. His main practice areas are capital market transactions and banking regulations, including capital requirements for financial institutions. He is a graduate of Kyoto University (LLB 2006). He was admitted to the Japan bar in 2007.

Contact information

Sosuke Kimura
Nagashima Ohno & Tsunematsu

Kioicho Building, 3-12, Kioicho
Chiyoda-ku
Tokyo 102-0094, Japan

Tel: +81 3 3288 7000
Fax: +81 3 5213 7800
Web:www.noandt.com