Asia restructuring and insolvency briefing - Japan

January 2009, Issue 8

Meeting

Contacts

Introduction

Welcome to the eighth of our weekly Asia debt restructuring and insolvency briefings - this note focuses on Japan and has been prepared with the kind assistance of the Japanese law firm, Mitsui Company.

This briefing complements our other publications on corporate restructuring and the sale or purchase of distressed assets.

What are the options for companies in financial difficulty in Japan?

There are several options for companies in financial difficulty in Japan. These include formal court-led restructuring proceedings (a civil rehabilitation under the Civil Rehabilitation Act and a corporate reorganisation under the Corporate Reorganisation Act), formal court-led winding-up proceedings (a special liquidation under the Companies Act and a bankruptcy under the Bankruptcy Act) and a negotiated arrangement between a company and its creditors.

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How does informal contractual debt restructuring work?

The aim of any informal contractual debt restructuring is to rearrange the debtor’s finances and to reconcile all interested parties so that the debtor is able to continue as a viable business. Informal negotiated arrangements are achieved by all the relevant parties unanimously agreeing a financial restructuring arrangement through a standstill agreement.

There is no formal guidance from the Japanese Financial Services Agency or other relevant supervisory authorities on the conduct of contractual debt restructurings although a study group concerning informal arrangements within the Japanese Bankers Association published non-binding guidelines on September 2001.

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What are the formal procedures if informal contractual arrangements cannot be agreed?

The formal court-led corporate restructurings for reorganization are a civil rehabilitation and a corporate reorganisation. The Civil Rehabilitation Act and the Corporate Reorganisation Act respectively set out the procedures for commencement of the proceedings, rehabilitation/reorganisation plan, judicial management and liquidation.

There is no segregated bankruptcy court in Japan although some district courts in major prefectures have a specialised division. The Court of First Instance hears applications in relation to both the Civil Rehabilitation Act and the Corporate Reorganisation Act and also petitions for winding-up under the Companies Act and the Bankruptcy Act.

A creditor is entitled to apply for civil rehabilitation proceedings against a company if grounds for the commencement of bankruptcy proceedings exist.

Any creditor who holds a claim that, in value, is equivalent to 10 per cent or more of the capital of a company and any shareholder who has 10 per cent or more of a company’s voting rights is entitled to apply for corporate reorganisation proceedings if grounds for commencement of bankruptcy proceedings exist.

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How are formal restructurings implemented?

Both civil rehabilitation and corporate reorganisation are court-led processes.

With regard to a civil rehabilitation, the company can apply to the Court of First Instance to summon a meeting of its creditors. The creditors are then provided with the proposed rehabilitation plan and any other relevant information so that they can make an informed decision whether to approve or reject the plan. If the plan is approved by (a) the majority of voting right holders who attended the creditors meeting or voted by post AND (b) such majority accounts for not less than half of total amount of voting rights, the court will make an order confirming the plan.

For a corporate reorganisation, the company applies to the Court of First Instance, and the court makes an order of commencement of reorganisation proceedings and appoints and supervises a reorganisation trustee. The trustee is vested with the exclusive right to carry out the company’s business and to administer and dispose of its property once the order is issued. The reorganisation trustee prepares a draft reorganisation plan and submits it to the court. The court summons a meeting of each class of the company’s creditors and if the proposed plan is approved by each class of its creditors (requirements for approval of the plan vary according to the class of the creditors), the court makes an order confirming the plan.

Once a civil rehabilitation or a corporate reorganisation plan is confirmed by the court it becomes binding on all the creditors, whether or not they voted in favour of it.

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How is a civil rehabilitation different from a corporate reorganisation?

The main differences between a civil rehabilitation and a corporate reorganisation are as follows:

  • a corporate reorganisation is only applied to a stock company while a civil rehabilitation can be applied to any individual and legal entity;
  • under reorganisation proceedings, the right to carry out the company’s business is vested exclusively in a trustee (i.e. the company’s management team is not permitted to continue to manage the company);
  • under reorganisation proceedings, the enforcement of any security interest that exists over a company’s property at the time of commencement of reorganisation proceedings is not permitted in principle in accordance with the confirmed plan; and
  • the requirements for approval of a proposed plan under reorganisation proceedings are more stringent than those under rehabilitation proceedings.

The corporate reorganisation route is most suitable for relatively large size stock companies. The number of corporate reorganisation cases was 19 in 2007 and 14 in 2006 while the number of civil rehabilitation cases was 654 in 2007 and 598 in 2006.

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What is the effect once a rehabilitation/reorganisation plan is binding?

Once the court sanctions a rehabilitation and/or reorganisation plan, the plan is binding on all creditors.

The rehabilitation plan must be implemented by the company (under the supervision of any appointed supervisor). The corporate reorganisation plan must be implemented by the company under the reorganisation trustee’s supervision.

As the enforcement of any security interest that exists on the company’s property at the time of commencement of reorganisation proceedings is not permitted, the ability of any secured creditor to exercise its security will be strictly limited.

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What happens if the restructuring is not successful?

If the restructuring is unsuccessful then the company will be wound up. There are two forms of compulsory winding-up in Japan: a special liquidation under the Companies Act and a bankruptcy under the Bankruptcy Act.

However if a stock company is still solvent, it may undertake a voluntary winding-up after the passing a shareholders’ resolution for dissolution.

In general, a voluntary winding-up is more informal and cost-effective than a compulsory winding-up. As special liquidation and bankruptcy are judicial proceedings, the court is active in its supervision of a compulsory winding-up compared to a voluntary winding-up.

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How is special liquidation started?

If a stock company is suspected of insolvency, the liquidators of the company must file a petition for the commencement of the special liquidation. Creditors, company auditors or shareholders of the stock company may also file a petition for the commencement of special liquidation.

If an order to commence special liquidation is issued by the court, the liquidation of the company will be subject to supervision by the court and the company shall perform its obligations to creditors (excluding general liens and other claims that have general priority) in proportion to the amount of their claims.

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How is bankruptcy started?

Bankruptcy proceedings are initiated by a petition to the Court of First Instance by the company or its creditors. When a creditor applies for bankruptcy proceedings, it needs to prove that it has a claim against the company and that the company is unable to pay its debts as they fall due. The court shall determine whether to make an order for the commencement of bankruptcy proceedings.

After the commencement of a special liquidation, if the court finds that there is no prospect of an agreement between the creditors, the court can make an order for the commencement of bankruptcy procedures.

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How is bankruptcy different from special liquidation?

Although bankruptcy and special liquidation are both court-led proceedings, the major differences between the two are:

  • the grounds for commencement of bankruptcy proceedings are that the company is unable to pay its debts (if the company suspends the payment, it is be presumed that the company is unable to pay its debts) or the company is insolvent (the status where the assets of the company are not sufficient to fully discharge its liabilities). However, a suspicion that the company is insolvent are sufficient grounds for commencing special liquidation; and
  • during under bankruptcy proceedings, the right to carry out the company's business and to administer and dispose of its property is vested exclusively in the trustee in bankruptcy who is appointed and supervised by the court. Under special liquidation proceedings, the liquidator and interested parties have discretion although the liquidation of the company shall be subject to supervision by the court.
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What does the liquidator/trustee do?

Once the special liquidation has started, the liquidator, who may already have been appointed in respect of any voluntary winding-up proceedings, continues to control the company’s property, dispose of the assets and pay the outstanding debts of the company under the supervision by the court and with the permission of the court in certain cases. The liquidator shall be a director of the company, unless otherwise provided by the articles of association or shareholders resolution.

Under bankruptcy proceedings, the trustee in bankruptcy appointed by the court replaces the company’s directors and takes control of the company’s property. The trustee’s main duties are to take charge of the business, dispose of the assets and pay the outstanding debts of the company in accordance with the Bankruptcy Act.

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Can the court issue a winding-up order for a non Japanese company?

As the Bankruptcy Act provides that a non Japanese company has the same status as a Japanese company with respect to bankruptcy proceedings, the court may issue a bankruptcy order for a foreign company. It should be noted however that a petition for commencement of bankruptcy proceedings may be filed only if the company has a business office or other office or property in Japan.

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