Legal Framework for Hostile Takeovers and Defense Measures in Japanese Corporate Law

In recent years, the environment surrounding corporate control in Japan’s capital markets has undergone significant changes. Hostile takeovers, or ‘unsolicited acquisitions,’ which were once rare occurrences without the consent of the target company’s management, are becoming more prominent. In such a climate, understanding the legal measures a company can take to protect its value, namely takeover defense strategies, has become not just a topic for a select group of experts but a fundamental part of corporate governance. The purpose of takeover defense strategies is not merely to protect the positions of the management team; rather, their essence lies in functioning as a crucial means for the board of directors to maintain and enhance the long-term corporate value for the benefit of all shareholders. The rules in this field are not static. Particularly, the framework is constantly updated by significant precedents set by Japanese courts and government guidelines, such as the ‘Guidelines on M&A’ published by the Ministry of Economy, Trade and Industry in 2023. As a result, companies are entering an era where they are required to prepare to protect themselves while also sincerely responding to legitimate acquisition proposals—a dynamic and complex stance. This article provides a detailed explanation from a professional perspective on the legal structure of hostile takeover defense strategies based on Japanese Corporate Law, the main methods, and the important precedents and recent trends that determine their acceptability.

Basic Principles of Defense Measures Against Hostile Takeovers Under Japanese Corporate Law

Japanese Corporate Law does not contain articles that directly regulate defense measures against takeovers. The authority of the board of directors to implement such measures derives from their fundamental legal duties to the company. Specifically, directors are obligated to perform their duties with the care of a good manager (duty of due care) based on the contract of mandate with the company. This is due to the application of Article 644 of the Japanese Civil Code through Article 330 of the Japanese Corporate Law . Additionally, Article 355 of the Japanese Corporate Law stipulates the duty of directors to comply with laws, the company’s articles of incorporation, and resolutions of the shareholders’ meeting, and to faithfully execute their duties for the benefit of the company (duty of loyalty) .

Based on these duties, Japanese courts and regulatory authorities have established two guiding principles for assessing the legality of takeover defense measures.

First is the “Principle of Corporate Value and Common Interests of Shareholders.” According to this principle, any defense measure must aim to secure or enhance the intrinsic value of the company, that is, the corporate value, and the common interests of all shareholders derived from it . Defense measures primarily aimed at maintaining the management’s position are not justified . This principle played a central role in the Supreme Court’s decision in the Bulldog Sauce case and in the guidelines issued by the Ministry of Economy, Trade and Industry .

Second is the “Principle of Shareholder Intent.” The change of control in a company is one of the most critical matters for the shareholders, who are the owners of the company. Therefore, the idea is that the final decision should be left to the shareholders . This principle provides the basis for courts to recognize strong legitimacy in defense measures supported by the shareholders’ intent (usually through a resolution at the shareholders’ meeting), based on clear and sufficient information .

There is an inherent tension between these two principles. The board of directors, based on their duty of due care, may determine that a certain takeover offer, even if it provides a short-term premium, could undermine the long-term value of the company. On the other hand, some shareholders may prioritize short-term gains and view the board’s resistance as self-preservation. The Japanese judiciary, especially following the Bulldog Sauce case, has shown a way to resolve this tension. It is an approach that does not involve the court directly intervening in the board’s management decisions, but rather emphasizes whether the board’s assertion of “protecting corporate value” is approved by the “shareholder intent” as evidenced by an overwhelming majority at the shareholders’ meeting. In other words, the “Principle of Shareholder Intent” functions as the main mechanism to ensure the legitimacy of the “Principle of Corporate Value and Common Interests of Shareholders.” This has shifted the main battleground from the courtroom to the shareholders’ meeting.

Preemptive Defense Measures: Preparing in Advance

Preemptive defense measures refer to preventive actions that are implemented before a specific takeover threat materializes. These are primarily introduced through amendments to the articles of incorporation, which require a special resolution at the shareholders’ meeting.

One such measure is the “golden share” (veto-right attached class of shares). These are special types of shares that carry veto rights over significant corporate matters such as mergers or the appointment and dismissal of directors. To function effectively as a defense measure, it is necessary for these shares to be held not by the management team themselves but by a third party who is friendly and stable towards the management.

Another measure is the “supermajority clause,” also introduced through an amendment to the articles of incorporation. This raises the threshold of approval needed for critical resolutions, such as the dismissal of directors, from the usual simple majority to an extremely high level, such as 90%. This significantly increases the cost of share acquisition necessary for a buyer to establish substantial control, thereby dampening their acquisition appetite.

Alongside these methods, the most common and sophisticated preemptive defense measure in Japan is the “advance warning system,” commonly known as the “poison pill,” which will be detailed next.

In-Depth Explanation of Preemptive Defense Measures (Poison Pills) Under Japanese Corporate Law

Preemptive defense measures, commonly known as poison pills, are the most widely adopted defense mechanism under the current Japanese legal system to deter hostile takeovers.

The core mechanism is based on the ‘gratis allotment of share options’ under Articles 277 to 279 of the Japanese Companies Act. A company, with prior approval from the shareholders’ meeting, implements a plan to grant share options at no cost in the event of certain specified occurrences. These share options allow existing shareholders to acquire new shares at a price significantly more favorable than the market price. The most critical feature of this plan is the ‘discriminatory exercise condition,’ which excludes hostile acquirers and their affiliates from exercising these rights. Once the defense measure is triggered, all shareholders except the acquirer can exercise this right, leading to an explosive increase in the total number of issued shares. As a result, the acquirer’s shareholding ratio is significantly diluted, requiring much more additional funding than initially anticipated to complete the takeover, effectively forcing them to abandon the acquisition.

Many poison pills in Japan are designed as ‘advance warning types.’ When introducing the defense measure, a company will disclose a set of rules. Typically, these rules define the act of acquiring a certain percentage of the company’s shares (for example, 20%) as the ‘trigger event.’ The rules require the acquirer to provide sufficient information, such as the purpose of the acquisition, sources of funds, and post-acquisition management plans, and secure a reasonable period (for example, 60 to 90 days) for the board of directors to evaluate this information. If the acquirer does not follow these procedures, the board of directors can activate the poison pill. Conversely, if the acquirer complies, the board will assess the proposal, express an opinion to the shareholders, and leave the final decision to them.

To prevent arbitrary activation by management and ensure the fairness of the procedures, most defense measures involve the establishment of an ‘independent committee.’ This committee consists of members independent from management, such as external directors, external auditors, and outside experts. Its role is to objectively assess whether the acquirer has complied with the rules and whether the activation of countermeasures aligns with the joint interests of the shareholders, and to advise the board of directors accordingly. The board is expected to respect the judgment of this independent committee to the greatest extent possible.

The strategic value of this defense measure lies in its function as a powerful deterrent. Moreover, in the event of an acquisition proposal, it provides the board of directors with time and leverage for negotiation, allowing them to extract more favorable terms or seek a friendly acquirer (white knight). However, it is always accompanied by the risk of being perceived by institutional investors as a relaxation of management discipline, potentially negatively affecting the stock price, and the risk of litigation seeking to stop the issuance of new share options by the acquirer or dissenting shareholders.

The essential function of Japan’s poison pills lies not so much in the financial effect of share dilution but in the ‘process’ it enforces. The advance warning framework is a sophisticated governance mechanism designed to correct information asymmetry and enforce structured dialogue. The strength of hostile acquirers often lies in their ability to quickly acquire shares in the market, but poison pills neutralize this surprise attack. If the acquirer continues to buy shares without following the set rules, the board of directors can activate legally justified countermeasures. This forces the acquirer to either engage in dialogue following the established procedures or abandon the acquisition. This process shifts the debate over the merits of the acquisition from a mere financial transaction to one that questions the long-term value and management strategy of the company. The presence of an independent committee lends objectivity and fairness to this process, making it difficult for courts to overturn the board’s decisions. Therefore, the greatest value of poison pills lies in controlling the flow of time and information, creating a situation where shareholders can make their final decision based on a well-informed and fair discussion, rather than under pressure to make a hasty judgment.

Contingency-Based Defense Measures: Direct Response to Threats

Third-Party Allotment of New Shares

Contingency-based defense measures are countermeasures that are urgently deployed after a hostile takeover bid becomes public. A prime example is the “third-party allotment of new shares.” This method involves a company issuing new shares and allocating them to a friendly third party, known as a “white knight,” to dilute the shareholding ratio of the hostile bidder. However, this method is legally very risky. Article 210 of the Japanese Companies Act stipulates that shareholders can request an injunction against the issuance of new shares if it is conducted in a “significantly unfair manner.” Courts tend to rule such issuances as illegal if the “primary purpose” is not legitimate fundraising but rather to maintain the current management’s control. The Nippon Broadcasting case demonstrated that the hurdle to justify such an issuance is extremely high. Furthermore, when issuing new shares at a “particularly favorable issue price,” a special resolution of the shareholders’ meeting is required under Article 199, Paragraph 3 of the Japanese Companies Act.

Crown Jewel Defense

The “crown jewel” is also one of the contingency-based defense measures. It involves a target company selling or contracting to sell its most valuable business or assets (the crown jewels) to a third party, thereby reducing the attractiveness of the company to the acquirer and dampening their desire to take over. If this act constitutes a “transfer of significant business,” a special resolution of the shareholders’ meeting is required under the Japanese Companies Act. Moreover, such asset sales carry the significant risk of being seen as intentionally destroying corporate value, potentially leading to directors being held accountable for breaching their duty of care.

Repurchase of Treasury Shares

The “repurchase of treasury shares” is also used as a defense measure. By using its own funds to buy back its shares from the market, a company can reduce the number of floating shares available for acquisition by the bidder and expect to increase the share price. This procedure is strictly defined under Article 155 and subsequent articles of the Japanese Companies Act. The company must set a limit for the repurchase of treasury shares (such as the number of shares and total amount) in advance by a resolution of the shareholders’ meeting (Japanese Companies Act Article 156), and must adhere to “capital source regulations” that only allow repurchases within the range of distributable profits to maintain the company’s financial foundation and protect creditors (Japanese Companies Act Article 461).

Risks of Contingency-Based Defense Measures

The significant legal and fiduciary risks associated with these contingency-based defense measures make their implementation rare in Japan, which has led to the widespread adoption of regularly approved poison pills as a major factor. Contingency measures are reactive decisions made by the board of directors under extreme pressure. Third-party allotment of new shares to a white knight is a direct manipulation of control that courts view with great skepticism, and as the Nippon Broadcasting case showed, the board of directors bears a heavy burden of proof to demonstrate that the acquirer is “abusive.” The crown jewel defense appears to be an act that violates the duty of care by actively damaging the company’s value. Undertaking these actions without prior shareholder consent exposes directors to personal legal liability. In contrast, regularly approved poison pills provide the board of directors with a weapon that has been pre-approved. This shareholder approval serves as a strong shield, indicating that the board’s defensive stance aligns with “shareholder will.” Thus, the Japanese legal system strongly incentivizes companies to build preventive governance structures from normal times rather than reacting in a crisis.

Acceptability of Takeover Defense Measures as Seen Through Japanese Legal Precedents

Two landmark legal precedents have defined the framework for takeover defense measures under Japanese corporate law.

The Nippon Broadcasting System Incident (2005)

This case began when the board of directors of Nippon Broadcasting System, without convening a shareholders’ meeting, decided to issue a large number of share warrants to Fuji Television, which had a friendly relationship with the company, in response to a hostile takeover bid by Livedoor Co., Ltd.

The Tokyo High Court granted Livedoor’s petition for a provisional injunction to stop the issuance, establishing a framework for judgment that even the issuance of share warrants, if its “primary purpose” is to maintain and secure control for specific shareholders, constitutes an “unfairly prejudicial issuance” and is illegal. The court stated that such issuances aimed at maintaining control are not permissible unless there is proof of “special circumstances,” such as the acquirer being an “abusive buyer” who would improperly dispose of the company’s assets. In this case, the court found insufficient evidence to label Livedoor as such an abusive buyer.

The significance of this ruling lies in its substantial limitation on the board of directors’ ability to use third-party allotments as a defense measure in emergencies. The preservation of management’s position is not a legitimate purpose, and to justify defense measures, the target company must meet the high threshold of concretely proving the acquirer’s abusiveness.

The Bulldog Sauce Case (2007)

Facing a stock purchase by the American investment fund Steel Partners, Bulldog Sauce convened a shareholders’ meeting and obtained approval to activate a poison pill-type takeover defense measure. This measure involved allocating share warrants to all shareholders for free, while denying the right to exercise them to Steel Partners (deemed ineligible) and instead having the company buy back those warrants for cash. Steel Partners sued to stop the issuance, claiming it violated the principle of shareholder equality as stipulated in Article 109 of the Japanese Companies Act.

Ultimately, the Supreme Court of Japan deemed this defense measure lawful. The ruling laid the foundation for the practice of takeover defenses in Japan. The Supreme Court stated that the principle of shareholder equality is not absolute and that discriminatory treatment within a reasonable range is permissible to prevent a specific shareholder from acquiring control if it would harm the “corporate value and the common interests of the shareholders.” The court held that it is ultimately up to the shareholders themselves, the owners of the company, to decide whether the acquirer poses such a threat. The court emphasized the fact that the defense measure was approved by an overwhelming majority of 83.4% at a shareholders’ meeting where Steel Partners had the opportunity to participate in the discussion. The court indicated that this clear “shareholder intent” should be respected. Furthermore, since Steel Partners was to be paid fair cash compensation for the share warrants, the measure was not deemed to lack “appropriateness.”

This Supreme Court decision endorsed the legality of poison pills, even those with discriminatory content, as long as they are based on clear and overwhelming support from shareholders. This established the “principle of shareholder intent” as the key for the board of directors to implement strong defense measures.

Comparison of Key Defensive Measures Against Takeovers

Comparing the strategic personalityistics of the main defensive measures against takeovers that we have discussed so far, we can organize them as shown in the table below. This comparison clarifies the timing of implementation, mechanisms, legal requirements, and inherent risks of each method, serving as a guideline for companies to consider the optimal strategy according to their own situation.

Recent Trends: METI’s “Guidelines for M&A Transactions” and the Rise of Shareholder Activism in Japan

The environment surrounding Mergers and Acquisitions (M&A) in Japan is entering a new phase, influenced by two major currents.

The first current is the “Guidelines for M&A Transactions” published by the Ministry of Economy, Trade and Industry (METI) in August 2023. These guidelines are considered the new code of conduct for M&A practices in Japan. Notably, they intentionally rephrase “hostile takeovers” as “non-consensual acquisitions” and “defensive measures against takeovers” as “policies and countermeasures for responding to acquisitions.” This reflects a policy intention to reframe corporate acquisitions not merely as threats but as legitimate means for industrial reorganization and enhancing corporate value. The guidelines emphasize the board of directors’ obligation to give “sincere consideration” to genuine acquisition proposals and clearly state that using defensive measures to unduly delay the examination of proposals is not permissible. They impose a logical and persuasive explanation responsibility on boards that reject acquisition proposals, potentially harming corporate value, thereby strengthening the position of acquirers making sincere proposals.

The second current is the rise of shareholder activism, known as “vocal shareholders.” Activist activities are no longer exceptional but have become a mainstream force in Japan’s capital markets. Activists argue that defensive measures like poison pills unjustly protect management, depress share prices, and deprive shareholders of the opportunity to receive acquisition premiums, actively making shareholder proposals for their abolition. Against this backdrop of pressure from activists and recommendations against such measures by proxy advisory firms, the number of Japanese companies adopting defensive measures is indeed on the decline.

These two currents are putting Japanese corporate boards in a “pincer movement.” On one hand, the government (METI) is pressuring them to engage constructively with acquisition proposers, while on the other, shareholder activists are pushing to remove the very defensive measures that could serve as a bargaining chip in such dialogues. This strategic dilemma is fundamentally changing the nature of defensive measures. Their role as permanent “fortresses” is fading, transforming into temporary “negotiating shields” that must continually justify their necessity to shareholders. What is now required of boards is not merely to “defend,” but to consistently demonstrate to shareholders the creation of superior long-term corporate value that makes any acquisition premium unattractive. This is the new paradigm of Japanese corporate governance.

Summary

The legal and strategic environment surrounding hostile takeovers and defense measures under Japanese Corporate Law is extremely dynamic and complex, shaped by the accumulation of case law, the formulation of government guidelines, and the changing dynamics of the capital markets. While adhering to the fundamental principle of protecting corporate value and the joint interests of shareholders, it is essential for modern corporate managers to respect shareholders’ intentions and take effective countermeasures within the legally permissible range. Navigating this field appropriately requires up-to-date legal practice and profound expertise.

Monolith Law Office has extensive practical experience in this theme, serving numerous clients within Japan. We have provided practical legal advice in all phases, from designing and implementing defense measures against takeovers to responding to activist demands and engaging with specific takeover proposals. Our firm employs several English-speaking attorneys with foreign legal qualifications, enabling us to offer smooth and sophisticated legal support to international clients without the barriers of language or legal systems. In this complex and rapidly changing field, we are fully prepared to protect and enhance our clients’ corporate value.