Satoshi Ogishi
Naoki Otani

I. General


A. Overview

In Japan the procedures for dealing with insolvency are set forth in several codes including: the Bankruptcy Code (""Hasan-ho""); the Corporate Reorganization Code (""Kaisha Kosei-ho""); the Civil Reconstruction Law (""Minjisaisei-ho""); and the Commercial Code (""Sho-ho"") (hereinafter collectively referred to as the ""Insolvency Laws""). The following is a summary of the types of judicial procedures which are available under the Insolvency Laws.

- Rehabilitation Procedure:
    - Corporate Reorganization under the Corporate Reorganization Code (Kaisha Kousei)
    - This procedure is only available to corporations and is suitable for large size corporations.

    - Corporate Settlement under the Commercial Code (Kaisha Seiri)
    - This procedure is only available to corporations and is suitable for middle or small size corporations.

    - Civil Reconstruction under the Civil Reconstruction Law (Minji Saisei)
    - This procedure is available to both corporations and individuals.

- Liquidation Procedures:
    - Liquidation under the Bankruptcy Code (Hasan)
    - This procedure is available to both corporations and individuals.

    - Special Liquidation under the Commercial Code (Tokubetsu Seisan)
    - This procedure is available only to corporations.

Among the above five procedures, Corporate Settlement under the Commercial Code (Kaisha Seiri) requires the consent of all the creditors and is not often used. Special Liquidation under the Commercial Code (Tokubetsu Seisan) is a special procedure moved from ordinary liquidation proceedings wherein not all debts are likely to be honored in the liquidation proceedings. This memorandum explains the major insolvency procedures, i.e.: Corporate Reorganization (Kaisha Kousei), Civil Reconstruction (Minji Saisei) and Liquidation under the Bankruptcy Code (Hasan).


B. Features of each procedures

Corporate Reorganization (Kaisha Kousei) is a rehabilitation procedure conducted by a court appointed administrator. The claims and rights of the interested parties (including unsecured creditors, secured creditors, employees, shareholders and other interested parties) are strictly restricted under the Corporation Reorganization Code. This procedure is relatively strict and in general takes a long time to complete. However, the reconstruction of the insolvent corporation is often successful under this procedure and the reliability of this procedure is comparatively high.

Civil Reconstruction (Minji Saisei) is the first real debtor-in-possession type rehabilitation procedure in Japan and became effective in April 2000. It is not as restrictive as the procedure under the Corporation Reorganization Code. While there exist some exceptions, the claims and rights of secured creditors may be exercised out of the Civil Reconstruction procedures. It does not take as long to complete as Corporate Reorganization.

Liquidation under the Bankruptcy Code is the most commonly used legal insolvency procedure in Japan. The Bankruptcy Code only provides for liquidation, and does not provide for rehabilitation or reorganization. Liquidation under the Bankruptcy Code involves either voluntary or compulsory liquidation of an insolvent company.



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II. Corporate Reorganization under the Corporation Reorganization Code


A. Commencement of Proceedings

An application can be made if (i) there is a risk that a debtor will become bankrupt or (ii) a debtor cannot repay its indebtedness without bringing about substantial difficulties in continuing its business. In general, the applicant will be the debtor, and creditors holding credit that is one tenths (1/10) or more of debtor?fs paid-in capital or shareholders holding one tenths (1/10) or more of voting rights of the debtor is also permitted to file an application only in situation (i) above.


B. From Application to Order of Commencement

Upon filing of the petition, the court will normally issue a temporary order for preservation of the company's assets and appoints an interim administrator to manage the business of the company pending official commencement of the proceedings of Corporate Reorganization. A practicing attorney is virtually always appointed as the interim administrator and he/she generally succeeds to the position of full administrator after adjudication is issued.


C. Adjudication for Commencement of Corporate Reorganization

If the court decides to commence the proceedings of Corporate Reorganization, an written order to that effect will be issued, and a number of administrators will be appointed. One administrator is a practicing attorney and the remaining administrator(s) are business persons. The former management is never allowed to continue to manage the company during the course of reorganization proceedings.

The commencement of reorganization causes, the following legal effects arise:

(a) Transfer of Corporate Authority
All power to operate and manage the company is transferred to the administrator(s).

(b) Restriction of Payment
The payment of creditor's claims by the company is generally restricted, with small exceptions. All previous court restrictions on payments made between the time of the filing of the application and the ruling to commence reorganization cease to be effective upon commencement of reorganization and are replaced by the statutory restriction of payment provisions of the Corporate Reorganization Code.


D. Administration of Corporate Reorganization

1. Role of the Administrator

Immediately after the commencement of reorganization proceedings, the administrator(s) are required to determine the current value of the company's assets at the time of the commencement of reorganization. The administrator(s) have the power to retroactively avoid any contract, agreement or act which provided unfair or preferential treatment to any creditor or interested party and was entered into within the period set forth in the Corporate Reorganization Code. However, such right of avoidance only continues during the two years period immediately after the commencement of reorganization.

2. Interested Parties' Meeting

Meetings of Interested Parties are ordered by the court, and are attended by the reorganization administrator, representatives of the debtor company, unsecured creditors, secured creditors, shareholders and other interested parties. (Guarantors are not the included on the list of parties to be invited.) Notice is sent to all interested parties known to the administrators or the company. In principle, such meetings are held three times, with the first meeting convened within two months from the adjudication date. At the first meeting, the administrator reports on the following issues (Names and addresses of unsecured and secured creditors are not disclosed at this stage.):

    * Reason for filing for corporate reorganization
    * Current managerial and financial status of the company
    * Progress of the proceedings
    * Summary of cause and contents of the unsecured and secured claims

At the meeting, interested parties are able to state their views with regard to business and management of the assets of the company.


E. Notification and Recognition of Reorganization Claims

1. Notification

Creditors must file their claims with the court within the time limits set by the court. Failure to fulfill these requirements may result in the loss of the claim. The court must notify known creditors of the time limit and any important changes during the reorganization proceedings.

2. Kind of Claims

General unsecured creditors' claims which have arisen against the company prior to the commencement of the reorganization proceedings are considered reorganization claims (""Kosei Saiken"").

General preferential claims (""Yusen Saiken"") under the Civil Code or other claims with priority have superiority over reorganization claims. An example of the general preferential claims are employees' wages, funeral expenses, and supplies of daily necessities.

Claims for services rendered or obligations incurred during the period after an adjudication of corporate reorganization (""Kyoeki Saiken"") have superiority over preferred claims.

Certain claims such as interest accruing after an adjudication of corporate reorganization (""Retsugo Saiken"") will be deferred in favor of other reorganization claims .


F. Treatment of Security Interests

In the case of corporate reorganization, unlike normal bankruptcy proceedings, secured creditors may not use its right to foreclose on its collateral but must instead, submit any claims to the court. Such claims are called ""Kosei Tanpo-ken"". Failure by a secured creditor to submit its claim within the time limit designated by the court results in a loss of such claim. In order to assert a Kosei Tanpo-ken, it must be properly pleaded by a secured creditor. The administrator must then appraise the value of a security interest.

All of the parties that hold security interests over the assets of the debtor may only exercise their security right through the corporate reorganization procedure according to the reorganization plan. It is normal that the appraised value of security interest will be paid 100% upon adoption of the reorganization plan.


G. Reclamation Rights

Under the Corporate Reorganization Code the true owner of property possessed by the debtor company can reclaim (""Torimodoshi Ken"") it from the administrator. Accordingly, if title of goods sold to the debtor company is retained by the seller, it may be entitled to exercise this Reclamation Rights against the administrator. The timing of title transfer is essential to determine whether such property can be reclaimed from the administrator.


H. Reorganization Plan

The administrator is responsible for drafting the reorganization plan and presenting it to the court within a period determined by the court.

The reorganization plan should include (i) sources of payment to creditors, (ii) a repayment plan, schedule and method of the payment and (iii) a disposal plan for unexpected excessive profit. The plan must be fair, equitable and attainable.

Upon presentation of the reorganization plan to the court, the court will schedule a second interested parties' meeting to review the reorganization plan. The administrator reports to the interested parties on developments with respect to the reorganization proceedings and reorganization plan. The interested parties may provide their opinions. They are also entitled to file a petition for the amendment of the plan. Should the court accept the petition and order the amendment, another interested parties' meeting will be held to review the proposed amendments to the plan.

The final (usually the third) creditors meeting is held to resolve any remaining issues relating to the reorganization plan. Three groups of interested parties (unsecured creditors, secured creditors, and shareholders) are separately involved and each group's affirmative resolution is required to adopt the plan. However, shareholders approval is not required if the value of net assets of the company was negative, which are normal in many cases.

Approval of the plan requires the affirmative vote of two-thirds of the unsecured creditors. For secured creditors, a majority of three-fourths is required to approve the repayment term. The affirmative vote of four-fifths of the secured creditors is required if the plan includes reduction of the claims or changes other than to the schedule for the repayment term. The plan is effective upon the court's approval.


I. Conclusion of Reorganization Proceedings

When the reorganization plan is adopted, the administrator executes it. When the reorganization plan is completely executed or it is likely to be executed in the future, the court adjudicates that the reorganization proceedings are terminated. If the plan cannot be reasonably executed, the administrator or any interested party may petition to have the plan changed.

When the plan is not presented or adopted in a timely manner, or the court finds that reorganization is unlikely, the court is required to adjudicate the termination of the reorganization proceedings. In such case, the proceedings will be converted to the bankruptcy proceedings. The administrator may also choose to liquidate the company in the reorganization proceedings. In such case, the administrator will present a liquidation plan to the court.



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III. Civil Reconstruction under the Civil Reconstruction Code


A. Commencement of Proceedings

An application can be made if (i) there is a risk that a debtor will become bankrupt or (ii) a debtor cannot repay its indebtedness without bringing about substantial difficulties in continuing its business. In general, the applicant will be the debtor, and creditors of the debtor is also permitted to file an application only in situation (i) above.


B. From Application to Order of Commencement

When an application for civil reconstruction is filed, the court will almost always issue a temporary order to suspend payments by the applicant, appoint a supervisor (""Kantokuin"") and designate the kinds of transactions and activities of the debtor which may not be conducted without the prior consent of the supervisor.

Prior to the commencement of civil reconstruction, if the court deems it necessary, the court can issue (but not usual) an order to suspend (i) any other insolvency proceeding to which the debtor is then subject (excluding any corporate reorganization proceeding), (ii) a specific enforcement procedure (excluding foreclosure of collateral) (""Enforcement Procedure"") or (iii) other legal or administrative proceedings.

In addition to the suspension order specified above, the court may also issue a comprehensive suspension order which suspends all the Enforcement Procedures then existing against the debtor, if the court judges that a specific suspension is not sufficient to achieve the reconstruction of the debtor. In practice, however, it is highly unlikely that the court will issue such a comprehensive suspension order in normal cases.


C. Adjudication for Commencement of Civil Reconstruction

The court usually determines to commence the civil reconstruction process within one month after the application is filed. If the debtor meets any of the criteria specified in items (i) and (ii) of Section II.A. above, the court will issue an order for commencement of the process of civil reconstruction unless it is apparent that a cause for dismissal exists. Causes for dismissal include that the application was filed for undue purposes or that there is no likelihood the Plan for Reconstruction will be approved by the creditors.

The commencement of reconstruction causes, the following legal effects:

(a) Certain Corporate Authority be subject to Consent of Supervisor
While the current management continues to manage the daily business of the company, if the company intends to do something outside of daily business, such as disposition of important assets of the company or financing transactions, it must receive prior consent from the supervisors.

(b) Restriction of Payment.
Same as under the Corporation Reorganization Code (described in Section II.C.(b).


D. Administration of Civil Reconstruction

A key feature of the Civil Reconstruction is that the directors and managers of the debtor, in general, will not be changed before or after the order of commencement of the civil reconstruction process.

If the court deems it necessary, the court may appoint a supervisor (Kantokuin) and designate the kinds of transactions and activities of the debtor which may not be conducted without the prior consent of the supervisor. As noted before, it is customary that such supervisor be appointed immediately after the application for civil reconstruction is filed with the court.

If the method of administration or disposition of the assets of the debtor by the debtor is not appropriate or the court recognizes a strong necessity to appoint a trustee (kanzainin), the court may appoint a trustee. The powers of the trustee are similar to those of a reorganization trustee appointed under the Japanese Corporate Reorganization Code, in that the trustee assumes the power to manage the business and assets of the debtor.

Other than the appointment of a supervisor or a trustee, the court may designate certain activities as activities that may not be conducted by the debtor without the prior approval of the court.

Please note that only a court-appointed supervisor (kantokuin) or trustee (kanzainin) is entitled to exercise the right of avoidance (hininken) under the Civil Reconstruction Code. In this regard, in the event that substantial fraudulent transactions to be subject to the right of avoidance exist, it would be necessary, in general, to appoint a trustee or a supervisor in order to ensure the fairness of the civil reconstruction process.


E. Notification and Recognition of Claims

Similar to those for the Corporation Reorganization Code (described in Section I E. above). With respect to the kind of claims, general unsecured creditors' claims which have arisen against the company prior to the commencement of the reorganization proceedings are considered reconstruction claims (""Saisei Saiken"").


F. Right of Separation (""Betsujo-Ken"") and Treatment of Security Interests

Holders of a special lien, right of pledge, mortgage or commercial lien will be vested with a preferred security right and are allowed to exercise their security rights outside of the reconstruction procedure.

Under the Civil Reconstruction Code, the treatment of security interests in collateral is the same as that under the Bankruptcy Code, which means that a holder of a security interest can foreclose the collateral without being affected by the civil reconstruction process. However, if the court judges that the suspension of a specific foreclosure of collateral is in the general interest of creditors and would not cause unfair damage to the security holders who initiate such foreclosure, the court may issue an order to suspend the foreclosure. 

In addition to the suspension of a specific foreclosure of collateral, the Civil Reconstruction Code has introduced a new system called a ""demand for extinguishment of security interest."" Under this system, a security interest that has been created on assets indispensable for continuing the business of the debtor, such a security interest can be extinguished by paying the fair value of such assets to the security holders upon the approval of the court.


G. Reconstruction Plan

1. Reconstruction Plan

In contrast to the corporate reorganization procedure under which a reorganization plan must be approved by security holders and unsecured creditors (and shareholders) a civil reconstruction only requires the approval by the unsecured creditors (in which security holders participate with regard to the amount of claims which will not be covered by the security interest). In addition, if the liabilities of the debtor exceed its assets, a decrease of the paid-in capital of the debtor can be included in a plan of reconstruction and be completed without the approval of the shareholders' meeting.

A reconstruction plan may contain provisions modifying the rights of Saisei-Saiken, i.e. the claims of general unsecured creditors. The substance of modification must be equal as among the Saisei-Saiken creditors, although differential treatment will be allowed with the consent of those Saisei-Saiken creditors who are disadvantaged by such treatment, or if equity among the Saisei-Saiken creditors will not be impaired, such as where special treatment can be provided in the reconstruction plan (e.g., special treatment provided for small amount Saisei-Saiken claims). Where a grace period is to be given, it must be ten years or less.

2. Adoption of Reconstruction Plan

A proposed reconstruction plan may be adopted by the majority vote of the Saisei-Saiken creditors present at the Saisei-Saiken creditors' general meeting who hold Saisei-Saiken claims representing 50% or more of the total amount of Saisei-Saiken claims.

Upon adoption of a proposed reconstruction plan, the court will render a ruling of approval or disapproval of the reconstruction plan. When a court ruling of approval of the reconstruction plan becomes final and irrevocable, all of the notified Saisei-Saiken claims and other Saisei-Saiken claims admitted by the debtor will be modified in accordance with the provisions of the reconstruction plan. With respect to those claims which have not, for unavoidable reasons, been notified as Saisei-Saiken claims, the relevant rights will also be modified. The debtor will be released, as a general rule, from all unknown Saisei-Saiken claims other than the aforesaid. The modification of rights under the reconstruction plan will not affect any rights or claims to those who are liable to Saisei-Saiken claims jointly with the debtor (such as guarantors) or collateral properties provided by anyone other than the debtor.



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IV. Liquidation under Bankruptcy Code

A. Commencement of Proceedings

An application can be made if (i) the debtor is unable to pay its debts generally or (ii) the liability of the debtor exceeds the value of the assets of debtor. Suspension of payment by the debtor shall be considered that the is unable to pay its debts generally. An application for bankruptcy proceedings can be made not only by the debtor but also by creditors against the debtor.


B. From Application to Adjudication of Bankruptcy

Upon petition for bankruptcy proceedings, the court may order any of the measures as described above in the other two procedures to be taken to preserve the estate as same as above two procedures, but which is very rare.


C. Adjudication of Bankruptcy

When a petition for bankruptcy is judged to be proper, the court issues a written adjudication of bankruptcy ordering the commencement of bankruptcy proceedings. At that time, the court appoints a bankruptcy administrator, and determines the period for reporting claims, sets a date for the first meeting of creditors, and establishes a date for the investigation of related claims.

An adjudication of bankruptcy causes, the following legal effects:

(a) Effect on the Debtor's Assets.
All assets in the debtor's estate at the time of the bankruptcy adjudication become the property of the bankruptcy estate. The administrator of the bankruptcy estate has the right of management and disposition of the estate.

(b) Restriction of Payment
Same as under the Corporation Reorganization Code (described in Section II.C.(b)).


D. Administration of Bankruptcy 

1. Appointment of Administrator

The administrator is generally a practicing attorney. The administrator takes immediate possession of the debtor's assets (with the exception of assets which are exempt from the estate), administering and managing the bankruptcy estate until the final distribution of assets. Upon receiving permission from the court or the supervisory committee as described below, the administrator may convert all such assets into cash and deposit such in an appropriate bank.

2. Supervisor (""Kansa-Iin"")

In unusually complicated cases, the court may recommend that a supervisor be appointed by the creditors. The supervisor, which is responsible for supervising various aspects of the pending bankruptcy proceedings, is authorized to demand that the administrator provide information related to the estate and bankruptcy proceedings. However, it has not been the practice to appoint such supervisor even in unusually complicated cases.


E. Notification and Recognition of Claims

Same as under the Civil Reconstruction(described in Section III.E. above).


F. Right of Separation (""Betsujo-Ken"") and Treatment of Security Interests

Holders of a special lien, right of pledge, mortgage or commercial lien will be vested with a preferred security right and are allowed to exercise their security rights outside of the bnkruptcy procedure. A holder of a security interest can foreclose the collateral without being affected by the bankruptcy procedure.

Under Bankruptcy Code, the treatment of security interests in collateral is the same as that under the Civil Reconstruction Code, which means that a holder of a security interest can foreclose the collateral without being affected by the bankruptcy process. Furthermore, because the bankruptcy procedure is a liquidation procedure, the court, unlike the Civil Reconstruction Procedure, has no power to suspend a specific foreclosure of collateral by secured creditors.


G. Conclusion of Bankruptcy Proceedings

1. Distributions

Once all of the estate's assets have been converted into cash, the administrator makes a final distribution of the proceeds to the creditors on a pro rata basis. The administrator may also make an intermediate distribution to the creditors at any point during the proceedings if it is determined that sufficient funds are available. Before making any distribution, however, the administrator is required to prepare a distribution list which must be approved by the court. In most cases the liquidation ratio (unsecured claims to distributions) is less than 10 percent.

2. Administrator's Report

After making the final distribution, the administrator requests the court to set a date for the final creditors' meeting, at which time the administrator submits a final accounting report. After this meeting, the court orders the conclusion of the bankruptcy proceedings and gives public notice of such order.

3. Discharge

Although there is no statutory definition of discharge, it is generally interpreted to mean the release of a debtor from all debts that were or might have been proven in the bankruptcy proceedings. In Japan, discharge is not automatic; the debtor must apply for discharge. An application can be made at any time prior to the conclusion of the bankruptcy proceedings. However, where it is found that the debtor has committed acts of fraud or perjury, etc., the court may refuse the application. Even after receiving a discharge from the court, there is a 10-year probation period during which rigid restrictions are placed on the debtor's commercial activities.