202203.31
0
  1. 1. Introduction
  2. The share delivery system is a newly created reorganization scheme under the Companies Act. This law partially came into effect in March 2021 as a revision to the Companies Act. This law established the share delivery system, and the corresponding amendments to the tax law were included in the 2021 tax reform.

    In this advisory column, we would like to review the key points regarding the share delivery system in terms of corporate law, taxation, and accounting.

  3. 2. A Background of the Establishment of the Share Delivery System
  4. Prior to the application of the share delivery system, when a joint stock company were to acquire another joint stock company for shares instead of money, it had to choose between two options: share exchange and investment in kind.

    However, a share exchange can only be used to make a company a wholly owned subsidiary and cannot be used in cases where control of the company will be acquired but not 100% of its equity. In addition, generally, a survey conducted by an inspector is required for an investment in kind, and in some cases, the directors may need to compensate for the value of the assets. In addition, depending on the exchange ratio, a special resolution of a general shareholders meeting may be required, which can be a hurdle for companies that wish to reorganize in a flexible manner.

    In light of this, the share delivery system was established as a scheme that is not subject to the above-mentioned restrictions.

  5. 3. About Share Delivery
  6. In the case of a share delivery, the parent company (Company A) would acquire the shares of its subsidiary Company B from the shareholders of Company B and provides Company A’s shares as compensation. Under the Companies Act, the “delivery” of shares includes the issuance of new shares as well as the disposal of treasury stock, so it is possible to deliver treasury stock. Another important point is that a part of the compensation can be in cash.

    Although share delivery expands the options for M&A methods, there are some points to keep in mind as follows:

    • Only joint stock companies are covered; equity companies or foreign companies are not
    • Subject to the case where the percentage of voting rights owned in one’s own calculation would exceed half of the total percentage and cannot be adopted if one does not intend to obtain a majority of the voting rights.
    • Cannot be applied to the purchase of additional shares of a subsidiary that has already acquired a majority of the voting rights, since a company that already holds a majority of the voting rights cannot be the subject of a stock grant.
    • A portion of compensation may be in cash, but no more than 80% of the compensation must be stock to defer gains or losses on stock transfers for tax purposes (see details below).
    • No delivery of any shares of Company A, the parent company, is allowed.
    • Since the Companies Act determines whether a subsidiary is controlled by a company based on the ratio of voting rights, it is possible for a company that is determined to be a subsidiary based on the effective control standard to be a stock issuance subsidiary for accounting purposes (see the next section for accounting treatment considerations in this case).
    • A company that has already acquired a majority of the voting rights cannot become a stock delivery subsidiary, but it is possible if the companies are siblings, as follows


    ※PHD:Parent Holding Company

    The effective control standard is a criterion that determines whether a company is included in the scope of subsidiaries based on whether it can materially influence the financial, operating, or other policies of other companies through some other factor than voting rights.

  7. 4. Accounting Points for Share Delivery
  8. Although a share delivery system has been newly established under the Companies Act, there are currently no revisions to accounting standards to accompany this change. Therefore, the new system will be processed in accordance with the current accounting standards, mainly the “Accounting Standard for Business Combination.” The share delivery is treated as a reorganization act, the same as a share exchange, and will be treated in the same manner as a share exchange.

    The basic journal entry pattern is shown in a simplified example.

    ≪Example 1≫ Simple share delivery in exchange for shares and cash

    【Company A’s journal entries on an individual basis】
    Company B’s shares 1,000 / Capital 1,000

    【Company B’s journal entries on an individual basis】
    None.

    【Company A’s consolidated journal entry】
    Assets 100 / Valuation difference 100
    Net assets 1,000 / Company B’s shares 1,000
    Valuation difference 100 / Minority interest 165
    Goodwill 65

    ≪Example 2≫ Share delivery with subsidiaries over which control is acquired for accounting purposes

    【Prerequisite】
    Company A’s voting rights in Company B are 45%, but the company is determined to be a subsidiary for accounting purposes under the effective control standard. Company A delivers shares to Company B, resulting in a controlling relationship as shown in the diagram above.

    【Company A’s journal entries on an individual basis】
    Company B’s shares 600 / Capital 600

    【Company B’s journal entries on an individual basis】
    None.

    【Company A’s consolidated journal entry】
    (Consolidation of equity held prior to the share delivery)
    Assets 100 / Valuation difference 100
    Net assets 1,000 / Company B’s shares 550
    Valuation difference 100 / Minority interest 605
    Goodwill 55

    (Transactions with minority shareholders resulting from share delivery)
    Minority interest 440/ Company B’s shares 600
    Capital surplus 160

    If, as in Example 2, the company was determined to be a subsidiary only for accounting purposes, the transaction is treated as an additional acquisition, so no gain or loss on the exchange is recognized, and the difference, if any, is recognized as capital surplus.

  9. Taxation Measures Related to the Share Delivery System
  10. In conjunction with the revision of the Companies Act, the tax reform of fiscal year 2021 included an item related to stock issuance called “deferral of gains or losses on stock transfers”. Since the Share Delivery System was originally established to promote M&A, it is designed to avoid taxation hurdles.

    This measure defers taxation on gains or losses arising from the transfer of shares of the target company when shareholders of the target company transfer their shares in the target company and receive shares of the target company under the share delivery system. The compensation may be made partly in cash, but the condition for deferral is that the value of the shares must be at least 80% of the value of the assets transferred as compensation. The amount of gain or loss on the transfer is calculated based on the date of delivery of the shares.

    It is assumed that share delivery will be implemented in various cases in the future, and practical issues are likely to arise, so it is necessary to continue to pay attention to trends such as Q&A by the National Tax Agency.

  11. Conclusion
  12. Until now, M&A transactions in Japan have mainly been based on cash compensation. However, from a global perspective, equity or mixed compensation is more common. The establishment of the share delivery system in Japan has made it easier for small and medium-sized companies and startups with limited capital to pursue aggressive management strategies for corporate growth. In addition, unlike cash-only compensation, share delivery is expected to result in the creation of innovation since shareholders of the target company will remain involved by continuing to hold shares of the acquired company.

    This is a significant step forward for a problem where there have been few options for share value under the Japanese legal system, and we hope that it will lead to the creation of positive growth and innovation for many companies in the future.