A comparison of M&A laws: Japan

The pandemic and rise in geopolitical tensions have triggered significant developments in the regulation of M&A worldwide, and Japan is no exception. Prospective investors should pay attention to recent developments in two major areas of regulation on foreign direct investments (FDIs) and takeover defence measures in Japan.

FDI REGULATION

A key piece of legislation regulating FDIs that has been amended to address international developments is the Foreign Exchange and Foreign Trade Act (FEFTA). Although some of the activities are not expressly referred to as investments, among others, the FEFTA broadly regulates the following:

• Acquisition of 1% or more of the shares in a listed company in Japan;
• Acquisition of share(s) in unlisted companies in Japan from people who are not foreign investors;
• Affirmative votes on certain matters in a Japanese company under certain circumstances, such as a substantial change in the scope of business, and the appointment of a director or corporate auditor;
• Provision of loans to Japanese companies that exceed statutory thresholds; and
• Establishment of a branch, factory, or other business office in Japan.

Under the FEFTA, a foreign entity investing in Japan must submit an ex post facto report to the relevant government ministries via the Bank of Japan. However, if the target company (or any of its subsidiaries) is within certain business sectors prescribed by the FEFTA and related government ordinances (designated business sectors), the act requires the provision of prior notification to the relevant government ministries.

It should be noted that designated business sectors encompass not only traditional ones related to national security (e.g., telecommunications, nuclear power and others) but also covers tech-related industries, including software manufacturing and information processing. It is also noteworthy that the designated business sectors list is continually updated based on global developments around national and economic security.

Some sectors recently added to the list include pharmaceuticals or medical equipment-related businesses (in response to the global pandemic) in 2020, rare earth-related mining businesses (to ensure the stable supply of rare earths) in 2021, and several businesses in the supply chain of essential materials and products, such as semiconductors, industrial robotics and the like (in light of increasing concerns around supply chains and unsanctioned use of civilian technologies for military purposes) in 2023.

It is generally understood that these additions are designed to bring FDI regulation into alignment with the newly introduced Economic Security Promotion Act, which seeks to enhance Japan’s economic security, although it does not directly regulate FDIs in Japan.

The FEFTA provides exemptions from the prior notification requirement, but assessment of their applicability involves considerably complex and technical analysis and procedures. For example, exemptions from the prior notification requirement are not available in principle for investments in “core” designated business sectors that are particularly important and “sensitive”. This creates uncertainty for investors because authorities tend to pay greater attention and are more likely to closely scrutinise investments into core business sectors.

Regulators possibly may also continue to monitor investments that qualify for an exemption but are still considered sensitive. For instance, Tencent Holdings’ investment in Rakuten Group, Japan’s mobile network operator, was structured to qualify for exemption from prior notification to the regulatory authority, but the Japanese government subsequently announced its intention to keep surveilling the investment.

Where prior notification is required, the government ministries responsible for the relevant designated business sector will review a proposed transaction for a 30-day statutory period from the date on which the notification is formally accepted, and the transaction cannot be closed during this time. Proposed transactions deemed as problematic on grounds of national security or public order and safety will be subject to suspension or transaction restructuring.

Given the continued expansion of the designated business sectors list in the past few years, foreign investors need to be well advised to determine whether the prior notification requirement is applicable. For instance, a significant number of investments into tech startups have triggered a pre-closing review under the FEFTA. Further, it can sometimes be overlooked that FDIs under the FEFTA involve affirmative voting by foreign shareholders of the target and such votes may trigger the prior notification requirement.

Foreign investors should conduct careful checks in advance and work with experienced local counsel to come up with a systematic approach to navigate Japan’s FDI regulations and avoid inadvertent violation of the prior notification requirement, as well as streamlining the investment process.

TAKEOVER DEFENCE MEASURES

Takeover defence measures in Japan have undergone substantial changes in recent years. Since the mid-2000s, hundreds of listed companies have adopted so-called “advance warning” takeover defence measures where, typically, the board of directors of the target company is granted power in advance to allot share options without consideration to all the shareholders on exercise terms that are discriminatorily aimed solely at prospective hostile acquirers.

This defence requires the approval of shareholders ahead of time, in preparation for possible future hostile takeover attempts. However, partly due to the imposition of more stringent stewardship responsibilities on institutional investors and the exercise of their votes, the number of listed companies that have adopted such measures is declining. As of April 2023, only 269, or 6.8%, of all listed companies in Japan, have adopted advanced warning defensive measures against possible takeovers.

Against this backdrop, new forms of “emergency type” takeover defence measures have emerged, which are implemented only when companies are confronted with unanticipated hostile takeovers. Some prospective hostile acquirers have filed petitions for preliminary injunctions against such emergency defence measures, resulting in the accumulation of a body of significant judicial decisions in 2021 and 2022. Based on relevant court rulings to date, the judiciary seems generally to favour the will of shareholders, as demonstrated by the fact that all implementations of emergency type measures permitted by the courts have been approved by shareholders. But some uncertainties on the attitude of the courts towards emergency type measures remain. This can be seen in two contrasting recent cases.

The first case involves Tokyo Kikai Seisakusho (TKS) in 2021. The Supreme Court affirmed an earlier judgment of the Tokyo High Court dismissing a petition for a preliminary injunction against takeover defence measures taken by TKS against a prospective acquirer, which had amassed around 40% of the shares through on-market transactions. The high court emphasised that those takeover defence measures had been approved by TKS shareholders despite a “majority of minority” vote (i.e., a resolution passed at a general meeting by a majority of shareholders present who have no interest in the takeover, excluding the prospective acquirer and members of the company’s management).

The second case involves Mitsuboshi in 2022. The Supreme Court affirmed an earlier judgment of the Osaka High Court accepting a petition for a preliminary injunction against takeover defence measures that Mitsuboshi took against a prospective acquirer and parties acting in concert, who had amassed around 22% of the shares through on-market transactions. Mitsuboshi had sought (and obtained) the approval of its shareholders for a proposal to exercise the takeover countermeasures against not only the acquirer and its in-concert parties but also other shareholders who had voted in favour of the dismissal of Mitsuboshi’s directors at a previous shareholders’ meeting.

The courts seemed to have rendered different decisions in two similar cases, and it should be noted that the Mitsuboshi case differed from the TKS case.

More specifically, the court noted several points regarding the Mitsuboshi case. There were doubts about whether the shareholders’ approval of the countermeasure was genuinely valid because Mitsuboshi had declared that the countermeasures would apply to those shareholders who had voted against its directors, and shareholders may have felt coerced into voting in favour of the countermeasure. Mitsuboshi’s proposal for the hostile acquirer and its in-concert parties to be exempt from the countermeasures was impracticable and too restrictive on shareholders’ rights, and the takeover countermeasures seemed self-serving in terms of enabling the incumbent directors of Mitsuboshi to stay on.

As is the case with judicial decisions in general, the specific factual matrix and circumstances of each case have a direct bearing on its outcome. Accordingly, despite the body of rulings available (including the two cases discussed above), the judicial attitude towards hostile takeovers remains unclear.

Japan’s Ministry of Economy, Trade and Industry has also released a draft of its Guidelines for Corporate Takeovers in June 2023, which is expected to be finalised after the public comment process ends in August 2023. The guidelines seek to establish best practices and remove uncertainties, as well as encouraging acquisitions that are economically beneficial to society and promoting a fair and well-functioning M&A market. As part of these objectives, the guidelines also include a section on principles in takeover defence measures.

Anderson Mori & Tomotsune

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1-1-1 Otemachi, Chiyoda-ku

Tokyo 100 8136, Japan

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