Although Japan basically has a civil law system, Supreme Court cases are considered binding on the decisions of other courts, and this shows some aspects of a common law system.
The Companies Act and the Commercial Registration Act govern the establishment and operation of enterprises in Japan. The Companies Act governs the type of company and how companies are operated. Meanwhile, the Commercial Registration Act governs the procedure for the establishment and registration of companies.
The Ministry of Justice is responsible for drafting and enforcing the Companies Act and the Commercial Registration Act. In practice, the Legal Affairs Bureau in each district in Japan, which is a subordinate organization of the Ministry of Justice, operates the procedures for the establishment and registration of companies.
The Legal Affairs Bureau has the authority to exclude company establishments that do not meet legal requirements. Under the Companies Act, if the court finds that the existence of a company should not be permitted, in order to secure the public interest under certain circumstances, the court may order the dissolution of the company, in response to a petition by the Minister of Justice, or from shareholders, members, creditors or any other interested parties. However, this system is rarely used and courts rarely approve the dissolution of a company.
In Japan, there are four (4) types of business structures under the Companies Act: (i) stock companies (Kabushiki-Kaisha (K.K.)); (ii) general partnership companies (Gomei-Kaisha); (iii) limited partnership companies (Goshi-Kaisha); and (ⅳ) limited liability companies (Godo-Kaisha). General partnership companies and limited partnership companies are rarely chosen in practice because equity participants bear unlimited rather than limited liability. On the other hand, stock companies and limited liability companies are similar insofar as the potential liability is limited to the assets contributed by equity participants.
There are no minimum capital requirements under the Companies Act.
All types of companies are established by way of the following process:
- Determining the profile of the company to be established (trade name, location of head office, business objectives, business year, amount of capital, share issue price, existence of provisions restricting transfer of shares, existence of board of directors, names of directors and representative directors, terms of directors, names of equity participants, and values of their investments);
- Drafting the articles of incorporation and determining the ultimate beneficial owner(s);
- Obtaining notarization of the company’s articles of incorporation by a Japanese notary and filing for the ultimate beneficial owner;
- Sending incorporation capital to the account of the incorporator, representative director or director at incorporation; and
- Applying to the Legal Affairs Bureau for registration of company establishment, and registering the company seal at the Legal Affairs Bureau
Japan has a normative system for establishing companies. Therefore, there are no substantive requirements involved and anyone can establish a company by completing the necessary procedures under the Companies Act and the Commercial Registration Act.
You can complete the company establishment procedures in a minimum of three (3) weeks for a stock company and two (2) weeks for a limited liability company. If you include the preparation period for preparing documents, you can generally complete the company establishment within approximately one (1) month.
When a foreign company conducts certain types of business, there is a requirement to file beforehand or after setting up the company under the Foreign Exchange and Foreign Trade Act. For example, companies must file if they are engaging in business related to national security and public safety, engaging in business affecting the public order and the smooth operation of Japan’s economy, or if the company’s owner has a specific nationality.
There are no legal restrictions on doing business through an agent.
Other ways to do business in Japan other than setting up a company are setting up a representative office and/or a branch office.
Representative offices are set up as locations for carrying out preparatory and supplemental tasks aimed at enabling foreign companies to engage in full-scale business operations in Japan. These offices may conduct market surveys, collect information, purchase goods and implement advertising efforts, but they are not permitted to engage in sales activities. Setting up a representative office does not require registration. A representative office cannot ordinarily open bank accounts or lease real estate in its own name. Therefore, when entering into agreements for such purposes, they must instead be signed by the head office of the foreign company or the representative at the representative office in an individual capacity.
Foreign companies wishing to engage in continuous transactions in Japan must register at least one of the following in Japan: (i) the appointment of a representative in Japan; (ii) the establishment of a Japanese branch office; (iii) the establishment of a Japanese corporation; or (iv) the establishment of a partnership. A branch office does not have its own legal corporate status. Therefore, the foreign company is responsible for any and all debts and credits generated by the activities of its Japanese branch office. However, a Japanese branch office is permitted to open bank accounts and lease real estate in its own name.
In many private companies, the board of directors and auditors monitor the conduct of representative directors. Directors and auditors are appointed by a shareholders meeting.
Specialist committees are recommended in the case that the company is a listed company. Such committees are recommended to cover nomination of officers and determination of compensation.
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Any person may be a director as long as there are no grounds for disqualification, such as the following:
- a corporation (only natural persons can be directors);
- a person who has been sentenced to a penalty for having violated the provisions of the Companies Act, the Financial Instruments and Exchange Act, or the Bankruptcy Act, etc.; or
- a person who has violated the provisions of laws and regulations other than the aforementioned company-related laws, has been sentenced to imprisonment or severer penalty and who has not completed the execution of the sentence or to whom the sentence still applies (excluding persons for whom the execution of the sentence has been suspended).
At a general meeting of shareholders attended by shareholders holding a majority of the voting rights of shareholders entitled to exercise their voting rights (where the articles of incorporation stipulate a ratio of one-third or more, that ratio or more), directors are elected or dismissed by the affirmative vote of a majority of the voting rights of such shareholders in attendance (where the articles of incorporation stipulate a higher ratio, that ratio or more).
The term of office of directors continues until the conclusion of the annual shareholders meeting for the last business year ending within two (2) years from the time of their election; provided, however, that this does not preclude the shortening of the term of the directors by the articles of incorporation or by a resolution of the shareholders meeting. If the company is a private company (excluding a company with an audit and supervisory committee and a company with nominating committee, etc.), the term of office may be extended by the articles of incorporation until the conclusion of the ordinary general meeting of shareholders relating to the last fiscal year ending within ten (10) years after the election.
Directors make decisions and execute business affairs on behalf of the company. Directors owe a duty of loyalty and a duty of care toward the company.
It is not common to limit the role of directors, and it is not possible to assert a limitation of the authority of the representative directors against a third party in good faith under companies Act.
The relationship between a director and a company is a contractual relationship under a mandate agreement. If directors have acted in bad faith or with gross negligence in performing their duties, they are liable to third parties for damages arising as a result thereof.
In addition to civil law liability, directors are civilly liable for the following under the Companies Act:
- A director who neglects their duties is liable to the stock company for damages arising as a result thereof; and
- A director who has acted in bad faith or with gross negligence in performing their duties is liable to third parties for damages arising as a result thereof.
In addition to criminal law liability, a director will be criminally liable under the Companies Act when they commit an act for the purpose of promoting such director’s own interests or the interests of a third party or inflicting damage on a stock company, in breach of the director’s duties and thereby causes financial damages to the relevant stock company.
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Shareholders are able to enjoy personal interest rights and common interest rights, among others.
The personal interest rights include the rights to claim dividends, residual assets, and share purchases based on certain circumstances.
The common interest rights include the right to participate in the company’s decision-making processes and to supervise the company’s activities. Examples of the right to participate in the company’s decision-making processes are voting rights, the right to seek an explanation about agenda items, and the right to convene shareholder meeting. Examples of the right to supervise the company’s activities are the right to raise suspicions about the company’s activities, the right to demand action to enforce liability against the company, and the right to inspect certain corporate documents.
Shareholders may bring claims against the company to exercise these rights. Some rights require shareholders to own a certain percentage of shareholding ratio, and to own their shares for a certain period.
Shareholders can elect directors by resolution at a general meeting of shareholders. If a director engages or is likely to engage in an act outside the scope of the purpose of a stock company, or engage in other acts in violation of the laws and regulations or the articles of incorporation, and the act is likely to cause damage to the company, then shareholders may demand that the relevant director cease the relevant act under certain conditions.
The legal duties/responsibilities of shareholders are limited to their contribution, and shareholders are not responsible for any amounts greater than such amount.
Shareholders are not responsible for any civil or criminal liabilities.
There is no pre-emption right under the Companies Act. By obtaining a resolution at a general meeting of shareholders (or a board of directors meeting in the case of a public company), the company can allocate new shares to specific persons without the need to obtain each existing shareholder’s consent.
If one wishes to have a pre-emption right, it is necessary to set forth such clause in a shareholder agreement or investment agreement.
There is no requirement under the Companies Act for companies to publicly disclose levels of shareholding and/or stake building. Only shareholders and creditors of the company are able to bring a claim for the disclosure of the shareholder registers.
On the other hand, listed companies must disclose their ten (10) leading shareholders under the Financial Instruments and Exchange Act and the rules of the relevant stock exchange.
The main route for obtaining working capital in Japan is fundraising by debt or equity.
When a company needs to borrow money, it can do so from a bank. There are many types of banks available, and one can choose between megabanks, regional banks, credit unions, and government banks depending on the purpose of the borrowing, the amount, and the interest rate. Companies also sometimes use corporate debt. The current financial situation in Japan sees lending interest rates offered by Japanese banks that are quite low in comparison to those seen in other countries. Therefore, fundraising by debt is an effective means in Japan.
When companies need to fundraise through equity, private companies are funded by venture capital funds or private equity funds, and listed companies are funded by specific investors or the capital market.
The main routes for the return of proceeds are dividends, distribution of residual assets after liquidation, and sale of shares. Dividends and distribution of residual assets after liquidation are subject to dividend taxation, and share sales are taxed upon the sale of the relevant shares. One should choose the method that is more advantageous from a tax perspective.
As mentioned in 2.4 above, foreign companies are required to file beforehand or after setting up a company under the Foreign Exchange and Foreign Trade Act when they conduct certain types of business.
Under the Foreign Exchange and Foreign Trade Act, foreign remittances and exchanges of foreign currencies and yen are free unless they fall under the category of payment or receipt of payment, or purchase or sale of foreign payment instruments (such as exchange of yen to dollars), which is subject to a permission system under the Act.
On the other hand, if a remittance from a foreign bank is received into a Japanese bank account, or if a remittance is made from Japan to a foreign bank account, an ex post facto report is required if the remittance amount exceeds the equivalent of 30 million yen.
Employees can influence corporate activities by forming labour unions, negotiating with the company, and reporting violations of labour laws to the Labor Standards Inspection Office.
It is not particularly possible for pensioners to influence the activities of a company, except in cases where the company is providing pension benefits on its own.
In addition to being able to collect debts through court procedures, creditors can also file for bankruptcy proceedings through court procedures, although this only applies if the company is insolvent.
Suppliers and other business partners often report to the Fair Trade Commission about unfair trade practices under the Act on Prohibition of Private Monopolization and Maintenance of Fair Trade, or violations of the Subcontract Act.
There are many activities in Japan which require that a license be obtained prior to commencing the activity. Japanese authorities closely monitor corporate activities and receive frequent reports from competitors. If a company’s business seems to require one or more licenses, it is important to research this issue with support from local legal advisors before commencing business.
Under the Companies Act, the board of directors is basically required to report company activity including financial statements to shareholders. Additionally, listed companies are subject to disclosure regulations under the Financial Instruments and Exchange Act and the guidelines of the relevant stock exchange.
The directors draft the business reports and financial statements of the company. While these reports are audited by financial auditors and financial auditors contribute to accurate reporting, directors (especially representative directors) are ultimately responsible for the disclosure and internal control systems to make accurate financial statements.
For listed companies, financial auditors audit the company, and only licensed accountants can be financial auditors. Needless to say, financial auditors play a major role in ensuring accurate reporting, and recent cases of accounting fraud at listed companies have often been discovered after being pointed out by accounting auditors. Once accounting fraud is discovered, in addition to amending the financial statements, financial auditors do not issue an opinion that the statements are appropriate until it is confirmed that measures are in place to prevent any recurrence of the fraud and that there are no problems with internal controls. Such practices contribute to more accurate reporting.
Under the Companies Act, while the board of directors is required to report company activity, including financial statements, to shareholders, shareholders cannot obtain sufficient information in certain cases, so it is important to consider appointing outside directors or observers of the board of directors.
Under the Companies Act, executive compensation is fixed by a resolution at a shareholder meeting or by the articles of incorporation.
When fixing the amount of executive compensation, companies can use a fixed amount method, a specific method for calculating the amount, or allocations of shares or share options as compensation.
It should be noted that there is a tendency in Japan to believe that compensation, even for executives, should be kept secret, and courts basically accept this practice. Therefore, it is normal practice that only the total amount of compensation for all of the directors is fixed by the shareholders meeting of a listed company. The specific amount of compensation for each executive is then decided by the board of directors or determined by a predetermined formula. Companies that place emphasis on governance tend to form a committee, including outside directors, to govern the procedure for determining compensation.
The above system is the basic framework for executive compensation, but for executives who receive remuneration of 100 million yen or more at listed companies, disclosure regulations under the Financial Instruments and Exchange Act require the disclosure of their individual remuneration.
In private companies, the owner of the company considers executive compensation based on executive performance.
In listed companies, executive compensation is determined at a general meeting of shareholders by combining fixed compensation, performance-based compensation, and share options, with consideration being given to the comments from the compensation committee. Traditionally, many listed companies in Japan have adopted compensation systems that are not significantly influenced by executive performance.
Especially for listed companies, the Japanese compensation system has low volatility based on performance, and it is conceivable that it does not match the compensation system desired by foreign executives. In such cases, consideration should be given to having separate remuneration systems for locals and foreigners.
In addition, many global companies establish a global compensation plan, as there are many cases where expats are subject to an excessive burden in terms of taxes and social insurance fees.
There is a Labor Contracts Act which sets forth a judicial system that regulates labour contracts, and administrative regulations such as the Labor Standards Act and the Industrial Safety and Health Act. The employment law regime in Japan is close to a common law system, and there are many supreme court, high court and district court cases that serve as leading case precedents in this area. As Japan’s labour law system is relatively complex, it is important to analyse government notifications and court cases to better understand it.
In Japan, the formation of labour unions is optional. Although company-based labour unions are common, any employees are free to form a labour union.
In addition to unions, there is also an employee representation system. Employee representatives are chosen by a majority of employees, and their role is to be a signatory to labour-management agreements entered into by the company to exempt the company from the application of the Labor Standards Act. For example, a labour-management agreement is required when a company requires employees to work overtime or when introducing a flexible working hours system.
There are two types of dismissal available: (i) dismissal based on the employee’s personal circumstances; and (ii) dismissal based on the company’s management circumstances (restructuring). Either type of dismissal is permissible only under very strict requirements, and restructuring is particularly demanding.
For dismissal based on the employee’s personal circumstances, objective, rational reasons and social relevance are required. Whether or not a dismissal is valid must be considered in light of past judicial precedents, and it is generally said that it is quite difficult to dismiss an employee unless the dismissal is due to embezzlement, fraudulent expenses, falsifying one’s background, or repeated disciplinary actions.
For dismissal based on restructuring, the following four (4) requirements must all be satisfied:
- Necessity for management
A pressing necessity for management can be objectively proven, such as being on the brink of financial collapse. - Efforts to avoid dismissal
The employer has made the utmost efforts to avoid dismissal, such as reallocation, external assignment, seeking voluntary retirement, decrease in wages, etc. - Rationality in selecting personnel for dismissal
The criteria for selection must be rational, such as length of service or age of worker, and are applied appropriately. - Agreement between labour and management
The employer has made the utmost efforts to gain consent from the workers after adequate discussion regarding the necessity, timing, method, scale of dismissal and criteria for personnel selection.
In Japan, workers are protected under a strict dismissal regime and are rarely fired, allowing them to enjoy stable employment. Moreover, as is the situation surrounding dismissals, it is also not easy to reduce wages.
In addition to the employment law that favours workers, other strengths of Japan include a high level of public safety and a positive living environment. The crime rate in Japan is decreasing year by year, and the whole family can live safely in Japan. Another attractive point is that the infrastructure and medical standards in Japan are among the best in the world, and the impact of inflation is among the lowest in the world, enabling workers to enjoy inexpensive, high-quality goods and services.
While Japan is known for stricter regulations on dismissals and wage reductions than other jurisdictions, it is also possible to reduce personnel costs by utilizing fixed-term employment, temporary labour, and outsourcing services, etc. Therefore, when starting a new business, it is important to ask your legal advisor for advice on which scheme to select, and it is advisable to hire local staff with experience in the human resources area to operate the business.
When foreign companies engage in business activities in Japan, corporation tax and consumption tax (VAT) are the main taxes they must pay. Both taxes have a filing tax return system and companies are required to withhold tax in certain transactions.
In addition to taxes, pensions and public health insurance are important in corporate activities in Japan. Companies not only have to withhold social insurance fees from their employees’ salaries, but are also obligated to pay social insurance fees themselves as part of the company’s burden.
When a company issues shares and its capital increases, the company must pay registration and license tax in proportion to the increased amount of capital at the time of commercial registration.
When a company distributes dividends or performs similar actions, tax is imposed on the recipient of the dividends (the company withholds tax from the dividends). The applicable tax rates differ depending on whether the recipient is a corporation or an individual.
When shareholders receive a capital gain from a share transaction, income tax is imposed on individual shareholders by separate taxation and corporation tax is imposed on corporate shareholders by comprehensive taxation.
The Japanese government provides various incentives for foreign companies. Except for in the greater Tokyo, Osaka, and Nagoya areas, there are tax incentives available if you set up a company, hire local workers and purchase real property. You can see the detailed menu of incentives on the Japan External Trade Organization (JETRO) website (https://www.jetro.go.jp/en/invest/support_programs/incentive/).
As mentioned in 9.1 above, companies not only have to withhold social insurance fees from their employees’ salaries, but they are also obligated to pay social insurance fees themselves as part of the company’s burden. It should be noted that social insurance fees in Japan have been growing for decades. In fact, the total percentage of social insurance fees borne by companies and individuals was around 25% in 2000, but increased to around 30% by 2023.
M&A transactions are primarily governed by the Companies Act. As long as the target is a private company, there are no general regulations governing M&A transactions. On the other hand, however, when targeting a listed company, there are disclosure regulations and guidelines from the perspective of protecting the shareholders of the listed company. The Ministry of Economy, Trade and Industry released its “Guidelines for Corporate Takeovers-Enhancing Corporate Value and Securing Shareholders’ Interests-“ on August31st 2023. M&A practices in Japan are basically conducted according to these guidelines.
Under the Act on Prohibition of Private Monopolization and Maintenance of Fair Trade, there are provisions that require filing with the Fair Trade Commission for merger control. It is necessary to determine whether filing is necessary from the perspective of the turnover threshold and market concentration of the merger parties.
The kinds of labour regulations which apply depend on the scheme of the relevant M&A transaction. For example, if selling and purchasing the shares of the target, there are no applicable labour law regulations. On the other hand, if one is engaging in M&A transactions through a business transfer, it is necessary to obtain consent from all of the employees. If an absorption-type company split is used, it is not necessary to obtain consent from the employees as long as they are to be succeeded in connection with the business in which the employees are engaged, but it is necessary to follow the applicable procedure stipulated in the Act on Succession to Labor Contracts Upon a Company Split.
Compared to other jurisdictions, there are no particular difficulties in engaging in M&A transactions in Japan. It is necessary to take note of whether the target company is engaging in business which requires licenses and permissions because in some cases there will be a requirement to obtain clearance before closing. Additionally, if a foreign company is involved, it will be necessary to file based on the Foreign Exchange and Foreign Trade Act for M&A transactions related to certain industries.
The Act on Prevention of Transfer of Criminal Proceeds (Act No. 22 of 2007) governs money laundering issues in Japan. In addition to those under the Companies Act and the Penal Code, there are also regulations regarding financial crimes such as insider-trading regulations and financial instrument trading regulations under the Financial Instruments and Exchange Act.
The Act on Prevention of Transfer of Criminal Proceeds and other financial crime legislation often target companies that primarily engage in financial transactions. Therefore, if a company will be engaging in a business that involves financial business, it is important to check the potential for financial crimes before commencing the business.
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Under the Companies Act, there is a company auditors system and financial auditors system. Company auditors mainly audit the company’s business operations and manage the financial auditors. Financial auditors mainly audit the financial statements of the company.
Company auditors and financial auditors are elected by a resolution at a shareholders meeting. Resolutions at shareholders meetings for the election of company auditors must be passed by the majority (if a higher proportion is provided for in the articles of incorporation, such higher proportion or more) of the votes of the shareholders present at the meeting where the shareholders holding the majority of the votes (if a proportion of one third or more is provided for in the articles of incorporation, such proportion or more) of the shareholders entitled to vote are present. Resolutions at shareholders meetings for the election of financial auditors must be passed by the majority of the votes of the shareholders present at the meeting where shareholders holding a majority of the votes of the shareholders entitled to vote are present.
Resolutions at shareholders meetings for the dismissal of company auditors must be passed by a majority of two thirds (if a higher proportion is provided for in the articles of incorporation, such higher proportion) or more of the votes of the shareholders present at the meeting where the shareholders holding a majority (if a proportion of one third or more is provided for in the articles of incorporation, such proportion or more) of the votes of the shareholders entitled to vote at relevant shareholders meeting are present. In these cases, companies are not precluded from providing, in addition to the relevant requirements for the resolutions, additional requirements in the articles of incorporation including those providing to the effect that the approval of a certain number or more of the shareholders is required.
Resolutions at shareholders meetings for the dismissal of financial auditors must be passed by a majority of the votes of the shareholders present at the meeting where the shareholders holding the majority of the votes of the shareholders entitled to vote are present.
The tenure of company auditors shall continue until the conclusion of the annual shareholders meeting for the last business year ending within four (4) years from the time of their election. The company can amend the articles of incorporation to extend the tenure until the conclusion of the annual shareholders meeting for the last business year ending within ten (10) years from the time of the election.
The tenure of financial auditors shall continue until the conclusion of the annual shareholders meeting for the last business year ending within one (1) year from the time of their election.
Under the Companies Act, the default rule requires that company auditors also audit business operations. However, a stock company which is not a public company (excluding a company with board of company auditors and a company with a financial auditor) may provide, in the articles of incorporation, that the scope of the audit by its company auditors is limited to an audit related to accounting.
For private companies, there are no rules or recommendations which cap the remuneration of an auditor as regards payment for the provision of non-audit services. On the other hand, stock exchange guidelines prohibit listed companies from electing to pay fees in a significant amount to outside officers.
Under the Companies Act, there is a statutory dissolution and liquidation process, which is a common process for the termination of a company’s activities.
If a company is insolvent, it cannot utilise the dissolution and liquidation process under the Companies Act. Companies must use the special liquidations process under the Companies Act with the creditor’s consent, or bankruptcy and rehabilitation proceedings under the procedures of applicable insolvency laws.
Compared to other jurisdictions, the corporate legal system in Japan is operated in a fairly stable manner. There are no plans to amend the law in the next 12 months in a way that would significantly impede activities by foreign companies.
It should be noted that, in light of recent economic security concerns, the Foreign Exchange and Foreign Trade Act has been revised and the government has expanded the types of industries that are required to perform filing. If a company fails to file, M&A transactions and company establishments are forced to be cancelled. It is also important to comply with the relevant procedures as they will be processed quickly and stably and will not hinder many businesses from expanding into Japan.
