Setting up and operating a joint venture

Structure

Are there any particular drivers in your jurisdiction that will determine how a joint venture is structured?

Under Japanese accounting standards, regarding the financial statements of the subsidiaries (including in a joint venture company), basically, more than 50 per cent of the shares that are held by the parent company shall be consolidated in the parent company’s financial statements (note that some auditors would take another view depending on the provisions under the joint venture agreement). Any shares of more than 20 per cent, but not over 50 per cent, shall be partially reflected in the parent company’s consolidated balance sheet, pursuant to its shareholding ratio. Since the consolidated financial statements are disclosed to the public in the case of listed companies, and may affect the value of the company’s own shares in the market, Japanese listed companies often decide their shareholding ratio in the joint venture company according to the accounting treatment they prefer.

Tax considerations

When establishing a joint venture, what tax considerations arise for the joint venture parties and the joint venture entity? How can tax charges be lawfully mitigated?

Unlike with LLCs in the United States, there is no pass-through tax treatment in Japan if a joint venture vehicle is a corporation.

Asset contribution restriction

Are there any restrictions on the contribution of assets to a joint venture entity?

Yes, there are restrictions. To avoid inappropriate valuation of the contributed assets, confirmation by an inspector appointed by a court is required, which may prevent the timely and cost-efficient incorporation of a joint venture company.

However, there are exceptions in cases where:

  • the assets contributed do not exceed ¥5 million;
  • the assets contributed are publicly traded securities and the valuation under the contribution procedure is less than the ‘fair market price’ set pursuant to the regulations; and
  • certification has been obtained stating that the valuation under the contribution procedure is fair by a qualified expert (eg, a lawyer or accountant).

If a contribution in kind is for the issuance of new shares by an existing joint venture company, exceptions also include in cases where: (i) shares issued to a person making a contribution in kind are not more than 10 per cent of the entire shares issued; and (ii) assets to be contributed as a monetary claim to the company and the valuation under the contribution procedure are not more than the value stated as debt in the company’s financial statements.

These technical requirements may be avoided (i) by incorporating the joint venture company in cash; and (ii) by using such cash proceeds, purchasing necessary assets from a partner.

Interaction between constitution and agreement

What is the interaction between the constitution of the joint venture entity and the agreement between the joint venture parties?

The constitution (ie, the articles) of the joint venture needs to be certified by the notary public as of the incorporation of the company (this is not required for the amendment of the articles after the incorporation). To have the articles certified by the notary without difficulties, the articles used for the joint venture entity in Japan tend to be quite simple and standardised, and unique and detailed provisions are often stated in the joint venture agreement.

Should a discrepancy arise between the provisions of the articles and the joint venture agreement, the articles take precedence (eg, all actions in violation of the articles are not valid) and a joint venture partner is entitled to damages and other civil relief on the grounds of breach of the contract, pursuant to the joint venture agreement with another joint venture partner.

In Japan, articles are neither registered nor disclosed to the public, but certain basic matters included in the articles need to be registered in the corporate registration and disclosed to the public. Shareholders and creditors of the company are entitled to check and copy the articles.

Party interaction

How may the joint venture parties interact with the joint venture entity? Are there any restrictions?

Under Japanese competition law, a joint venture partner and the joint venture company need to compete with each other; therefore, they must not share sensitive information, except when a majority of the shares of the joint venture company are held by a joint venture partner and the joint venture company and the majority partner are regarded as ‘equivalent as one corporation’. In this case, the restrictions applicable between competitors will not be applied. According to a document issued by the Japanese Fair Trade Commission (JFTC), circumstances where a parent company and its subsidiary are regarded as ‘equivalent as one corporation’ are stated as exceptional, and are strictly limited; equivalence will be decided by taking into consideration:

  • the shareholding ratio;
  • the financial situation of the parent company’s directors;
  • the involvement of a parent company in a subsidiary’s financial situation and business policy; and
  • any transaction between a parent and subsidiary or sister companies.

However, practically, if a partner holds more than 50 per cent shares of the joint venture company, they are generally regarded as the same corporation group and are not subject to anticompetition regulations.

Regarding interaction between a joint venture company and a minority joint venture partner, or between joint venture partners, anticompetition rules are applicable. However, rather than applying the same strict rules for the interaction among competitors, a report regarding business alliance and competition rules published by the JFTC in 2002 mentions that it will consider the pro-competitive effects and anticompetitive effects in the case of business alliances (which includes joint venture arrangements). It appears that the JFTC takes the position that, although strict anticompetition rules should be applied to matters not relating to joint ventures, anticompetition rules may be eased in matters concerning joint ventures.

Exercising control

How may the joint venture parties exercise control over the joint venture entity’s decision-making?

The general resolution of a shareholders’ meeting is passed by majority voting rights of the shareholders present (ie, the minimum number of present shareholders required to constitute a majority of votes). In the case of a company with a board of directors, reserved matters for a shareholders’ meeting are matters listed in the Company Act and the articles. Statutory reserved matters are the following:

  • basic corporate matters, such as the amendment of articles;
  • appointment and removal of a director and other officers;
  • financial matters, such as approval of annual financial statements;
  • material matters for shareholders’ interests, such as a disposal of profit; and
  • a conflict of interests between directors.

Matters such as the amendment of articles, merger of the company or decrease of register capital must be passed by a special resolution (ie, passed by two-thirds of present shareholders’ votes).

There are some situations under which a larger percentage of affirmative votes is required at the shareholders’ meeting. If a company that issues only freely traded shares (ie, shares that can be transferred without the consent of the board of directors or a shareholders’ meeting) intends to amend the constitution to have restricted shares, such amendment will be approved by a majority of the shareholders and two-thirds of the voting rights of the shareholders present. Also, a company with restricted shares may treat each shareholder differently as to, for example, dividends or voting rights; however, if it intends to adopt this arrangement, approval by three-quarters of all voting rights and a majority of all shareholders’ votes is required.

Generally, as the statutory protection of a minority shareholder is not sufficient for a joint venture arrangement, reserved matters and information rights for a minority shareholder are usually provided in the joint venture agreement.

Governance issues

What are the most common governance issues that arise in connection with joint ventures? How are these dealt with?

The most common governance issue in Japan, and indeed in many other countries, is maintaining a balance between the majority partner’s control and minority partner’s protection without causing too many deadlock situations.

An issue unique to Japan is that each representative director (rather than every director, if a representative director is selected) has unlimited statutory authority to represent the company and internal limitation of authority cannot be claimed by a bona fide third party. Because in many Japanese joint venture companies a director nominated by the foreign company is a non-resident of Japan, the foreign partner tends to be concerned about the activities of the representative director nominated by the Japanese partner. In practice, the foreign partner has to rely on the contractual restriction over the authority of the representative directors.

Nominee directors

With an incorporated joint venture, what controls exist in your jurisdiction in relation to nominee directors? How should a nominee director balance the potentially conflicting interests of the joint venture company and the appointing shareholder?

There is no specific rule regarding nominee directors under Japanese law. In practice, nominee directors tend to represent the interests of the nominator and act pursuant to the nominator’s instruction.

Under the Company Act, a director owes fiduciary duty to a company; thus, there is a potential conflict of interest, just like in many other countries. However, if carried out in accordance with the instruction of the nominators, the nominee directors’ actions are generally regarded as being in the best interests of the joint venture company, as the best interests of the joint venture company could be achieved through the carefully negotiated balance of power provided in the joint venture agreement. That being said, if there is clearly a conflict of interest (eg, a director of a joint venture company is negotiating a contract with a nominator partner), the director shall disclose the details and obtain approval of the board of directors. Even if such approval is obtained, the director could owe personal liability for any loss of the company, owing to its breach of fiduciary duty, which can be waived by approval of all shareholders. Thus, in the case of a transaction between a joint venture partner and a joint venture company that is not conducted at arm’s length, the approval of all shareholders is recommended.

Competition law

What competition law considerations are engaged by the formation and operation of the joint venture? Is approval needed?

Merger control filing on the acquisition of shares is required if, among others, the acquirer’s turnover in Japan is more than ¥20 billion and the target’s turnover in Japan is more than ¥5 billion in its respective last financial statements. Therefore, if the joint venture company is newly established, no filing is required. As to the operation of a joint venture company, see question 9.

Provision of services

What are the key considerations in your jurisdiction in structuring the provision of services to the joint venture entity by joint venture parties?

It depends on the service agreement entered into after the negotiation between the joint venture company and a joint venture partner, but one must be careful about the tax implications.

Employment rights

What impact do statutory employment rights have in joint ventures?

In Japan, many of the key employees working for a joint venture company are seconded (but not transferred) from a joint venture partner. This is because, among others, to transfer its employee to a joint venture company, the consent of the employee and execution of a new employment contract is necessary, whereas, in the case of a secondment, if an existing employment agreement or other employment regulations state that the employer may order secondment to the employee, the consent of the employee is not necessary and an employee can be seconded pursuant to the clauses under the existing contracts so long as the working condition is not materially changed. Also, in the case of a secondment, there is no need to change large parts of the social security arrangement or pension arrangement.

In the case of an employee’s transfer, all statutory obligations under labour law (eg, filing of relevant documents to the labour authority, due management of the employee working time) must be fulfilled by the joint venture company. In the case of secondment, although there is no explicit rule under the regulations, it is generally understood that such responsibilities shall be fulfilled either by a joint venture partner or joint venture company, the scope of which varies case by case and depending on the authority and responsibilities agreed between the joint venture partner, the joint venture company and the seconded employee.

Also, in the case of an employee’s transfer, the rights and obligations under the employment contracts must be adhered to by the joint venture company. In the case of secondment, rights and obligations related to the provision of services are fulfilled by the joint venture company and those that are not related to the provision of services are fulfilled by the joint venture partner. It is generally considered that a joint venture partner has the right to undertake disciplinary procedures against an employee, but other such rights and dismissals can only be exercised by the joint venture company. Often, the joint venture partner pays a salary to the seconded employee and reimburses the joint venture company.

Intellectual property rights

How are intellectual property rights generally dealt with on the creation, operation and termination of a joint venture in your jurisdiction?

Typically, both parties will jointly own intellectual property (IP) rights for co-invented IP and one party will own the IP rights if it is the sole inventor of the IP, even if it is licensed to a joint venture company. Although, in some cases, a joint venture company can own IPs invented under the activities of the joint venture, a party contributing its technology may prefer to own any newly created IP if it is mainly based on its own technology. This is because a typical joint venture is a collaboration of different types of technology provided by each party.

Additionally, a joint venture partner usually prefers to utilise or further develop new IP based on invented IP in its own area of business. However, it depends on the role of each party and varies case by case. In any case, it is advisable that ownership of the IP that is newly created in a joint venture company is clearly detailed in the joint venture agreement in advance; partners should not simply rely on the interpretation of the law.