Public offerings update

Author: | Published: 18 Mar 2015
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Ken Miura and Nobuharu Onishi of Mori Hamada & Matsumoto outline two new restrictions on publicly-offered foreign investment funds in Japan

The Japan Securities Dealers Association (JSDA) recently introduced two additional selection criteria as restrictions on the portfolio management of foreign investment funds. The restrictions are applicable to foreign investment funds publicly offered in Japan. First, in relation to investment restrictions for derivative transactions, a formula for the amount calculated by the management company or the investment manager by a reasonable method (derivative transactions regulations); and second, investment restrictions for avoiding credit risk concentration (credit risk regulations).

Overview

In Japan, there are two major laws regulating foreign investment funds: the Financial Instruments and Exchange Act (FIEA) and the Law Concerning Investment Trusts and Investment Companies (Investment Fund Law).

The FIEA, formerly known as the Securities and Exchange Act, is one of the fundamental pieces of legislation regulating securities and financial business instruments and transactions in Japan. In terms of securities, the FIEA regulates primary and secondary capital markets, and generally requires registration before a public offering or a secondary distribution to the public of securities. Since units issued by an investment trust and shares issued by an investment company fall under the definition of securities for the purpose of the FIEA, they are regulated under the FIEA.

The Investment Fund Law governs investment funds generally, and regulates establishment and management of investment funds. It applies not only to domestic investment funds but also foreign investment funds whose securities are offered in Japan. In addition to the filing requirements under the FIEA, the Investment Fund Law also requires foreign investment funds to file a notification before an offer of securities for administration purposes.

Further, an industry group called the Japan Securities Dealers Association (JSDA), a self-regulatory organisation consisting of securities companies, has prescribed the Regulations Concerning Foreign Securities Transactions (JSDA Regulations), which prohibits a securities company from selling securities of a foreign investment fund that do not meet certain requirements (selection criteria). To make a public offering in Japan, a foreign investment fund needs to be structured so as to meet the selection criteria. Also, for the purpose of confirming whether the securities offered meet the selection criteria, a certain document to demonstrate this must be submitted to the JSDA by a member securities company of the JSDA.

In Japan, there are three different types of filing requirements, which may apply to foreign investment funds.

Regulatory framework of notification requirements

FIEA regulations

Under the FIEA, it is unlawful to make a public offering of securities unless an issuer of the securities has registered the public offering with the authorities. An issuer who intends to register the public offering of securities needs to file a securities registration statement (SRS) with the authorities. The FIEA, and its cabinet order and cabinet office regulations (collectively the Cabinet Order) specify forms and matters that need to be described in a securities registration statement, which include investment objectives, risk factors, and valuation methods. A Japanese lawyer representing a foreign investment fund drafts a securities registration statement with reference to an offering document such as an offering memorandum or offering circular and a constitutional document such as a trust deed or articles of incorporation. Since it takes a significant amount of time to translate an offering document and a constitutional document into Japanese, it usually takes several weeks to complete the entire filing process in Japan after an offering document and a constitutional document become finalised.

A securities registration statement must be filed with the authorities by 15 calendar days prior to the immediately preceeding day on which a public offering begins. During the period after filing but before a securities registration statement becomes effective (waiting period), it is unlawful to carry through an offer of any such security for the purpose of a sale or for delivery after a sale. In principle, a securities registration statement becomes effective 15 days after filing.

When an issuer submits a securities registration statement, the following documents must be attached to it: (i) trust deed or management regulations (in case of an investment trust) or articles of incorporation (in case of an investment company); (ii) copy of minutes of board meetings, authorising an issue of a security; (iii) incumbency certificate (a document certifying that a representative described in a securities registration statement is a person who duly has authority concerning an offer of securities); (iv) power of attorney (which is issued by the issuer of the securities in question to appoint the Japanese legal counsel for the purpose of filing the SRS); and (v) legal opinion and list of regulations mentioned in the legal opinion (a legal opinion issued by a legal professional stating that an offer of a security is legal, and listing relevant regulations).

Investment Fund Law Regulations

In addition to a filing requirement under the FIEA, the Investment Fund Law also requires an issuer of a foreign investment fund to file a notification concerning a foreign investment fund (FSA notification) with the Financial Services Agency of Japan (FSA). Unlike a securities registration statement to be filed under the FIEA, an FSA notification needs to be submitted not only in the case of a public offering but also in the case of a private placement. In contrast to a securities registration statement that is to be disclosed to the public via the internet, the FSA registration statement is not publicly disclosed.

Foreign Securities Transactions

Prior and existing selection criteria

The JSDA has prescribed the JSDA Regulations, which prohibit a securities company from selling a security of a foreign investment fund that does not meet certain selection criteria. The description of the prior and existing selection criteria as restrictions on the assets that a foreign investment trust may manage is as follows:

  • Limitation on short sales: the total current value of securities sold short should not exceed the total net assets;
  • Limitation on acquisition of stocks of same issuing company: more than 50% of the total number of voting rights of a single issuing company should not be acquired on behalf of all funds managed by a management company;
  • Maintaining clearness of valuation: if an investment is made in illiquid assets, (such as privately offered stocks, non-listed stocks, real estate), measures for maintaining clearness of valuation of such investment should be undertaken provided that this provision will not apply if it is clearly stated in the fund's investment policy that an investment in illiquidity assets will be made within 15% or less of the fund's asset value; and,
  • Prohibition of improper transactions: transactions that go against the protection of unit holders or hamper the appropriate management of the investment trust assets (such as a transaction conducted by a management company for the purpose of its own benefit or for the benefit of third parties) should be forbidden.

Newly-introduced selection criteria

In addition to the selection criteria described previously, the JSDA recently introduced the following two additional selection criteria as restrictions on portfolio management of foreign investment funds. First, in relation to investment restrictions for derivative transactions, a formula for the amount calculated by the management company or the investment manager by a reasonable method (derivative transactions regulations); and secondly, investment restrictions for avoiding credit risk concentration (credit risk regulations).

Under the derivative transactions regulations, investment funds may not engage in derivative transactions or other similar transactions if the amount calculated in advance by a so-called reasonable method determined by the management company or the investment manager will exceed the net asset value of the relevant investment funds.

For the purpose of the derivative transactions regulations, the following three types of calculation method will be considered as reasonable methods determined by the management company or the investment manager: (i) simplified method (managing and controlling the derivative transaction so that the expected principal of the transaction does not exceed the total net asset value); (ii) standardised approach (the method of managing and controlling the derivative transaction so that the risk weight, determined using as a reference the standardised approach for the market risk equivalent amount calculation method stays within 80% of the total net asset value); and (iii) internal ratings-based or VaR approach (managing and controlling the derivative transaction so that the risk weight stays within 80% of the total net asset value). In addition, calculation methods authorised under the EU Ucits (Undertakings for the Collective Investment of Transferable Securities) regulations would be deemed as reasonable methods determined by the management company or the investment manager.

If an investment fund has not not engaged in any derivative transactions or other similar transactions, a management company or an investment manager would not have to do anything in particular for the derivative transactions regulations in relation to such investment fund. On the other hand, if an investment fund engaged in derivative transactions or other similar transactions for the purpose of hedging, a management company or an investment manager would have to manage and control the derivative transaction or other similar transactions by way of one of the three calculation methods. In cases where an investment fund engaged in derivative transactions or other similar transactions not only for hedging purposes but for other purposes such as efficient portfolio management, the simplified method would not be available, and a management company would have to manage and control the transaction using the standardised or VaR approach (or Ucits-authorised methods).

It is not required to state, in constitutional documents (such as management regulations or a trust deed) and offering documents (such as a prospectus or an offering memorandum), which derivative transaction management and control method the investment trust adopts.

Under the credit risk regulations, an investment fund will be required to manage the assets so that equity exposure, bond exposure, and derivative exposure do not exceed 10% for any one exposure type or 20% for all three exposure types, as a ratio of the net asset value of the investment trust, in principle.

Equity exposure means the amount held by the investment trust against the issuer of the shares or units of shares of investment trusts and companies.

Authors

Ken Miura
Partner, Mori Hamada & Matsumoto
T:+81 3 6212 8303
F: +81 3 6212 8203
E: ken.miura@mhmjapan.com


Nobuharu Onishi
Partner, Mori Hamada & Matsumoto
T: +81 3 5220 1860
F: +81 3 5220 1760
E: nobuharu.onishi@mhmjapan.com

Mori Hamada & Matsumoto
Marunouchi Park Building
2-6-1 Marunouchi
Chiyoda-ku
Tokyo 100-8222
Japan
W: www.mhmjapan.com

Bond exposure means, in relation to securities (other than shares and units of shares of investment trusts and companies), monetary claims (other than claims arising due to transactions such as foreign exchange forward transactions, or derivative transactions), and Japanese silent partnership contribution interests, the amount held by the investment fund against the issuer.

Derivative exposure means claims arising due to transactions such as foreign exchange forward transactions, or derivative transactions.

If any such ratios are exceeded due to factors such as movements in prices, interest rates, currency, or the net asset value of the investment trust, the investment trust must make adjustments so that the ratio falls back within the prescribed limit within one month of the date on which such limit was exceeded. If it is difficult to make adjustments within one month using normal measures, the investment trust is required to evidence any difficulty and make such adjustment as promptly as possible.

The credit risk regulations became effective as of December 1 2014. However, transitional provisions will be in place for a period of five years for existing funds.

As with the derivative transactions regulations, it is not required to describe, in constitutional documents and offering documents, details of investment restrictions regarding the credit risk regulations.