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Another Change in the Far East: Potential Impact on Japan M&A through DPJ Administration

January 1, 0001

 

Until this month, the Japanese diet had been controlled by the Liberal Democratic Party (the "LDP") for more than a half century. In the House of Representative election held on August 30, 2009, the Democratic Party of Japan (the "DPJ") gained control of the House and will become the ruling party for the first time in its history. The DPJ, led by Yukio Hatoyama, will form a new cabinet and Hatoyama is expected to become the next Prime Minister of Japan.

While the details of their policies are not yet clear, the DPJ is expected to bring a breath of fresh air into the regulatory, financial and economic environment. What this may mean for Japan's M&A environment can be inferred from the DPJ's "INDEX 2009"[*1] and "Manifesto"[*2] issued in July 2009. In a nutshell, Unlike the LDP, the DPJ is positioned to introduce tighter regulation of large corporations and is expected to provide more support for small- and mid-sized enterprises. While the details are unclear, the DPJ's proposed action plans are expected to have a significant impact on public and private M&A transactions.

Public Companies Act

The "Public Companies Act" is a centerpiece of their plan for large corporations. It will be a special law applying to public companies intended to tighten existing regulations regarding disclosure and financial auditing in order to ensure healthy corporate governance. INDEX 2009 states that "... public companies are required to be responsible for various stakeholders including investors, customers, employees and communities", but does not explain whether additional disclosure and more rigorous financial auditing would suffice. Tsutomu Okubo, a DPJ member of the House of Councilors, said in a recent interview that the DPJ intends to introduce a new law requiring at least one-third of public companies' board members to be composed of independent directors and giving employees at least 1 representative on the board of auditors [*3]. This may (or may not) improve Japan's systems of corporate governance. However, as it is still unclear who the "stakeholders" will be and what responsibility the members of board of directors will owe to each group of such stakeholders, this idea needs careful consideration -- otherwise, the law could easily discourage investments (especially from outside Japan) because shareholder interests may not be the first priority for a board of directors depending on the definition of the "stakeholders". Okubo also suggested that the DPJ intends to prohibit listing of a majority-owned subsidiary of a listed company, which is fairly common in Japan today, in order to protect minority shareholder interests. If implemented, this may trigger a wave of going private transactions and share sell-offs by parent companies. The discussion of this Public Companies Act is expected to take 2 to 3 years and should be closely watched.

Securities Market and Financial Instrument and Exchange Surveillance Commission

The DPJ intends to introduce robust monitoring and control regulations over the financial market and public companies in order to protect investors. It proposes to reform the existing Securities and Exchange Surveillance Commission and rename it the "Financial Instrument and Exchange Surveillance Commission". The Financial Instrument and Exchange Surveillance Commission will independently monitor securities trading and have broad authority to monitor the market to ensure that people's savings will be safely used for investments and encourage a market which "will not be disturbed by professional speculators".

Small & Mid-sized Enterprises

While the DPJ's plans may tighten regulation of public companies and the securities market, it is expected to provide increased support for small- and mid-sized enterprises.

The corporation tax is currently 18% for small and mid-sized enterprises, and the DPJ proposes to reduce it to 11%. Various subsidy systems will be introduced to support entrepreneurial ventures and spun-off companies from large corporations. The DPJ also plans to quintuple the budget for R&D activities of small and mid-size enterprises. In addition, the DPJ proposes to enact a new "Law for Facilitating Local Financing" mandating financial institutions to disclose information concerning their contributions to local communities and the status of their loans to small and mid-sized enterprises.

These plans would not only help existing enterprises survive, but also encourage new start-ups and stimulate small- to mid-size M&A activities. We should note, however, that large investments through capital injection may push small- and mid-sized enterprises outside of the statutory capitalization limitations, rendering them unqualified for the tax deduction. Accordingly, careful structuring of any M&A deal would be necessary.

Government Support on Environmental Technology

The DPJ has set a goal to increase the share of renewable energy up to 10% of total use of energy by 2020 through promotion of and fostering research and development of technology for fuel cells, solar photovoltaic energy, superconducting and biomass energy. With government support, these industries are expected to grow and may become the next "hot industry" for investment.

Conclusion

Unlike the LDP, the DPJ is positioned to introduce tighter regulation of large corporations and is expected to provide more support for small- and mid-sized enterprises. While the details are unclear, the DPJ's proposed action plans are expected to have a significant impact on public and private M&A transactions. No one knows how differently a DPJ cabinet will function and how well it can form an active and stable investment environment for domestic and foreign investors. Japan's political scene has just experienced historic turnover, but the real changes affecting our business environment have yet to occur.


*1: See INDEX 2009 dated July 23, 2009 available at http://www.dpj.or.jp/policy/manifesto/seisaku2009/img/INDEX2009.pdf (Japanese only).
*2: See 2009 DPJ Manifest dated July 27, 2009 available at http://www.dpj.or.jp/english/manifesto/manifesto2009.pdf.
*3: Interview conducted by Reuters on September 2, 2009 available at http://www.reuters.com/article/topNews/idUSTRE5812OV20090902.