Due diligence

Legal due diligence

Describe the legal due diligence required in the context of a real estate business combination and any due diligence specific to a real estate business combination. What specialists are typically involved and at what point in the transaction are the various teams typically brought in?

Like other combinations or share-purchase transactions, in real estate acquisitions, lawyers, accountants and tax accountants conduct due diligence before the negotiation phase of the definitive share-purchase agreement. Further, a real estate-certified appraiser is often retained to value the real estate held by the target company.

Legal due diligence for real estate acquisitions typically covers only corporate organisation, governance, and debt and equity issues of the target, and conducts title searches, confirmation of the boundary status with adjacent land and other matters specific to real estate diligence matters.

Searches

How are title, lien, bankruptcy, litigation and tax searches typically conducted? On what levels are these searches typically run? What protection from bad title is available to buyers, and does this depend on the nature of the underlying asset?

Title searches are conducted by examining the real estate registry, which describes the history of title transfer from the original owner to the current owner as well as past and present liens over the property. Bankruptcy searches are carried out by checking the corporate registry where a bankruptcy would be recorded if it had occurred. Japan has no simple or convenient search system regarding litigation and tax searches, and, therefore, a buyer has to depend on its due diligence interviews of the target company and examining accounting records and other documents.

Apart from asset types of real estate, a buyer’s protection from bad title is limited, as insurance or legal opinions do not usually cover bad title. A buyer relies on the seller’s representation and its title search through examination of the real estate registry.

Representation and warranty insurance

Do sellers of non-public real estate businesses typically purchase representation and warranty insurance to cover post-closing liability?

No. R&W insurance is not common in Japan; neither sellers nor buyers tend to purchase it.

Review of business contracts

What are some of the primary agreements that the legal teams customarily review in the context of a real estate business combination, and does the scope vary with the structure of the transaction?

Although it varies depending on the purpose of the deal, a buyer’s legal team is usually tasked with examining lease agreements as a source of cash flow from tenants to the target company. Lease agreements in Japan rarely have a change-of-control clause on the owner’s side; even though majority ownership of the target company has changed, tenants in the usual cases do not have the right to terminate their leases. Nevertheless, the buyer’s counsel typically reviews the agreements to see if this clause exists.

Legal due diligence usually also covers other arrangements - such as utility and various service contracts, property management contracts and building management contracts - reviewing them for any change-of-control clause or any other termination or modification right arising from an acquisition transaction. If the buyer is interested in terminating leases or services agreements, such termination rights by the target company are confirmed through the due diligence process, although the ability to terminate leases, particularly with respect to residential leases, may be precluded by tenant protections afforded under Japanese law.