Japan Update: Recent Regulatory Changes and Trends in Japanese M&A

Amendments to the Foreign Exchange and Foreign Trade Act

In response to the increasing risks to the country’s economic security, the Japanese government has updated the foreign direct investment (FDI) regime on an ongoing basis since the second half of 2019.

As part of these efforts, revisions were also made to Japan’s Foreign Exchange and Foreign Trade Act (FEFTA) in 2019. Some of these changes have attracted investor attention, such as broadening the list of designated sectors in which foreign investors must file an FDI notification with the relevant regulatory authority before acquiring a Japanese entity.

“The threshold for triggering a pre-closing FDI notification when acquiring shares in listed Japanese companies has been lowered from 10% to 1%.”

Significantly, the threshold for triggering a pre-closing FDI notification when acquiring shares in listed Japanese companies has been lowered from 10% to 1%. Although exemptions from the new FEFTA requirements are available, public and private M&A transactions have both been affected.

The rise in pre-closing notifications from 518 in 2020 to 715 cases in 2021 hints at the need to factor in the required legal framework under the amended FEFTA when planning and scheduling inbound M&A transactions from now on.

What if exemptions apply?

In March 2021 Chinese tech company Tencent Holdings (“Tencent”) announced its investment in one of Japan’s largest mobile network operators, Rakuten Group Inc (“Rakuten”), without first notifying the relevant Japanese regulatory authorities as required by the amended FEFTA.

The announcement caught the attention of both the Japanese government and the US government because it was released right before a scheduled Japan–US summit. However, Tencent’s investment was not subject to any pre-closing notification under the Japanese FDI regime because the investment was structured in a manner that qualified it for exemption from this requirement.

Nonetheless, the Japanese government expressly stated its intention to monitor the investment to ensure Tencent’s compliance with the exemption criteria and Rakuten’s safeguarding of its sensitive business information.

New Legislation Addresses Concerns about Japan’s Economic Security

The trade dispute between China and the US, Russia’s invasion of Ukraine and continuing disruptions to the global economy from the COVID-19 pandemic – among other global developments – have all resulted in ongoing concerns about economic security in Japan.

These concerns have prompted the Japanese government to enact a new Economic Security Promotion Bill (“the Bill”), which is scheduled to come into force in stages from 2023.

The Bill aims to enhance Japan’s economic security by bolstering the legal framework surrounding the following four areas:

• supply chains for important goods and materials;
• safety and reliability of key infrastructures;
• systems that support the development of key technologies both in the public and private sectors; and
• prevention of sensitive invention data leakage during patent applications.

Details of the legal framework for these areas are still under discussion, but one of the Japanese government’s current priorities is strengthening the legal regime for the establishment of “key infrastructures”. The Bill defines these as any infrastructure relating to:

• electricity;
• gas;
• oil storage;
• water;
• railway;
• ground/air/marine transportation;
• airport operations;
• telecommunications;
• broadcasting;
• postal business;
• finance; and
• credit card payment systems.

The Bill will not introduce legal framework that directly restricts foreign investments into Japan or inbound M&A transactions. That being said, enforcing the Bill will directly or indirectly affect those industries and businesses it was designed to target. As such, close attention must be paid to how the Bill is implemented as this goes ahead.

Recent Trends in Merger Control

Merger filing analysis and “killer acquisitions”

Despite the ongoing COVID-19 pandemic, the recent volume of M&A transactions in Japan involving platformers, AI and other tech- or data-oriented business has grown.

Merger control is an important factor to consider in any proposed M&A transaction because no transaction can be completed without clearance from the relevant competition authority. However, there are concerns about the ability of conventional merger filing thresholds to capture M&A transactions in certain industries that are prone to competition issues.

The acquirer of a business in the tech- and data-oriented industries may be able to obtain sensitive nascent technologies, research results or big data that can prevent the target from being a competitor in the future. Conventional merger filing thresholds may not adequately address this. Facebook’s acquisition of WhatsApp is a well-known example of such “killer acquisitions”.

From this standpoint, a growing number of regulators worldwide are reviewing the adequacy of their merger filing requirements. Germany, Austria and South Korea have introduced or proposed new mandatory merger filing thresholds that are based on the value of M&A transactions.

Although mandatory filing thresholds exist under the framework of competition law in Japan, the Japan Fair Trade Commission (JFTC) is also authorised to review M&A transactions that are not subject to mandatory merger filing requirements. In 2021, for example, it reviewed Google’s acquisition of Fitbit even though the mandatory filing threshold was not met. The JFTC launched an investigation after the deal was announced and eventually issued clearance subject to certain behavioural remedies.

Following recent amendments to the merger control regime in Japan, the JFTC now recommends the parties involved in any potential concentration transaction hold voluntary consultations with the JFTC if the transaction has a local nexus and a deal value expected to exceed JPY40 billion.

Parties in an M&A transaction should therefore seek the advice of local counsel to avoid being caught flat-footed by incorrect assumptions that merger filing is irrelevant in Japan simply because the domestic turnover of the companies involved is insignificant.

Digital M&A and the theory of harm

In a merger review, market share is a widely accepted analysis indicator for the competitiveness of the companies involved. However, the JFTC will likely take a more proactive and comprehensive approach to evaluating the effects of a transaction on market competition as a result of recent revisions to the Japanese merger control regime.

The JFTC will also tailor its assessment of transactions on a case-by-case basis, depending on the facts of each case, to improve the efficacy of its reviews. This could help the JFTC to better examine cases where a transaction’s potential effects on competition may not be reflected by market share, but instead rest more with competitively sensitive data or IP.

“Debates about how best to analyse the way data or IP harms market competition are ongoing.”

Debates about how best to analyse the way data or IP harms market competition (the “theory of harm”) are ongoing. In the context of the digital platform market, the integration of LINE and Z Holdings and the acquisition of Slack by Salesforce are representative cases demonstrating the JFTC’s focus on the accumulation of data as a theory of harm. In its review of these cases, the JFTC examined the parties’ internal documents in great detail.

Based on this approach, the JFTC permitted the integration of LINE and Z Holdings – but only on the condition of certain behavioural remedy. This was because the JFTC could not rule out the possibility that sound competition in the relevant market will be harmed as a consequence of the volume, scope and frequency of data collection by the integrated entity.

The Outlook for 2022

The recent overhaul of the Japanese merger control means that the idea of the JFTC investigating M&A transactions that are not subject to the mandatory filing requirement is no longer merely theoretical. Simply analysing financial data – such as the domestic sales revenue, asset values and market shares of each entity involved in an M&A transaction – is therefore no longer sufficient for the merger filing analysis. Ideally, the parties should now also analyse the substance of a proposed transaction.

“Simply analysing financial data – such as the domestic sales revenue, asset values and market shares of each entity involved in an M&A transaction – is no longer sufficient for the merger filing analysis.”

It is more important than ever, then, that the transacting parties consult and work closely with local counsel right from the inception of an M&A transaction to ensure its successful completion.

By Anderson Mori Tomotsune, Japan, a Transatlantic Law International Affiliated Firm. Published in Chambers & Partners.

For further information or for any assistance please contact japan@transatlanticlaw.com

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