Mergers in Japan: the legal options

In Japan, mergers seldom involve the establishment of a new entity. Most take the form of a merger by absorption. This is because the establishment of a new company requires the carrying out anew of many complex procedures.

In contrast, in a merger by absorption, which company survives is chosen on the basis of such matters as the approvals that the parties to the merger already have, and accounting and tax matters.

Cash mergers

A “cash merger” is a merger by absorption in which cash, rather than shares of the surviving company, is paid to the shareholders of the company that is dissolved.

Pursuant to the Company Law, which was passed in 2006, it has been possible to use cash, rather than shares, as consideration since May 2007. By this method, with the surviving company paying cash to the shareholders of the dissolved company, the 100% parent-subsidiary relationship between the surviving company and its current shareholders can be maintained.

Squeeze-outs

The term “squeeze out” means the forced elimination of minority shareholders. When company A absorbs company B in a merger, company A pays cash or shares in its parent company to the shareholders of company B, thus eliminating minority shareholders from the post-merger company A without their consent.

Once an acquiring company has secured the number of shares in the target company necessary to obtain control, it can thus continue the merger process without the consent of the remaining minority shareholders of the target company, and may drive them out.

Triangular mergers

A “triangular merger” is a merger in which the shares of the parent company are used as consideration. For example, when company B takes over target company C in a merger, shares of its parent company, A, are paid as consideration to the shareholders of company C, which has been absorbed.

Before 2007, consideration in mergers was limited to the shares of the surviving company. Triangular restructurings were not recognized. However, the Company Law has increased the number of types of consideration that may be used in mergers to include the shares of other companies.

Although the entry into force of the amended Company Law was postponed by one year due to fears that the number of hostile foreign takeovers would increase, the law finally recognized triangular restructurings on 1 May 2007, thereby facilitating cross-border restructurings.

Nonetheless, certain key conditions need to be satisfied in order to minimize tax and comply with disclosure rules.

To date, there has only been one example of an acquisition made by way of a triangular merger: the acquisition by Citigroup in 2007 of Nikko Cordial Securities by means of a triangular exchange of stock.

Exception from principle

In a triangular merger, the subsidiary first acquires shares of its parent and then issues them to the shareholders of the target company.

In principle, the Company Law prohibits subsidiaries from acquiring shares of their parents. As an exception, it permits a subsidiary to acquire shares of its parent for the purpose of carrying out a triangular merger. The number of shares it can acquire from its parent is restricted to the number that are to be used as payment, and those shares may be held until the merger becomes effective.

This kind of merger will require the execution of a merger contract, the advance disclosure of information, the approval of the merger contract, the carrying out of the procedure whereby shareholders opposed to the merger request the acquisition of their shares by the company, the procedure for the protection of creditors, and the procedure for the deposit of the written documents at the company after the merger has been completed.

Protection of shareholders

Shareholders who oppose the merger – whether because they feel it will result in a fundamental change in the nature of the company, or feel that it will negatively affect the value of the shares – may request that the company buy back their shares. This is the way in which the law ensures the protection of the capital invested by minority shareholders.

In order to allow shareholders sufficient time to request that their shares be acquired, the company must inform its shareholders of matters relating to the merger by way of a notice or announcement 20 days before the effective date of the merger. Shareholders may, between the 20th day before the effective date and the day immediately preceding the effective date of the merger, record the quantity and class of shares they want the company to buyback, and make a request for the company to buy them back.

If a buyback request is made, the company will be required to buy the shares back at a fair price. The buyback price should be negotiated between the parties. If they fail to agree a price within 30 days of the effective date of the merger, either the shareholder or the company may apply to a court to determine the price.

Protection of creditors

As the merger will also have a material impact on creditors, the parties to the merger will announce matters relating to the merger and individually inform the creditors that they are aware of.

A creditor that opposes the merger may make its opposition known by the specified deadline (i.e. within one month). If a creditor makes its opposition known by the deadline, the company must, in principle, repay it, provide corresponding security or place the cash or property to be used for repayment in the custody of a trust company.

In this manner, the creditors will also be repaid in the merger. In other words, at the time of the merger, sufficient money must be set aside for repayment purposes.

Hiroshige Nakagawa is a partner at Anderson Mori and Tomotsune and chief representative of its Beijing Office