The Securities Litigation Review: Japan
i Sources of law
In general, in Japan, disputes between private parties that are brought to court, including disputes involving securities (as well as the issuer, and its officers and investors), are to be resolved in accordance with the Civil Code.2
Additionally, certain other laws provide specific remedies. Investors may seek damages from an issuer of securities and its officers based on Article 350 and Article 429, Paragraph 1 of the Companies Act.3 The Financial Instruments and Exchange Act4 (FIEA) also provides that an issuer and its officers may be liable when there is a misstatement or omission in the issuer's required disclosure documents (Article 18(1) and Article 21(1)). The FIEA sets forth, among others, the disclosure requirements for listed companies (e.g., annual securities reports), as well as the prohibitions on insider trading, and provides monetary penalties and criminal sanctions that can be imposed if violations occur.
The FIEA also provides licence requirements for the securities business. Financial instruments business operators, such as securities brokers who engage in intermediation for the purchase and sale of securities, must obtain the necessary licence to do so and have compliance obligations under the FIEA. The Financial Services Agency (FSA) has published detailed guidance regarding its supervision of such Operators in its 'Comprehensive Guidelines for Supervision of Financial Instruments Business Operators, etc'. Additionally, the Japan Securities Dealers Association (JSDA), a self-regulatory organisation, has issued the' JSDA Rules and Guidelines', with which securities brokers are required to comply. The stock exchanges in Japan, including the Tokyo Stock Exchange, the Osaka Securities Exchange and JASDAQ, have issued disclosure rules for listed companies.
A violation of the FIEA's rules or regulations can result in a criminal or administrative penalty or sanction. Also, activities that violate the FIEA's rules or regulations may be deemed illegal if the activities are between private parties. The Supreme Court has held that if a solicitation by a securities broker violates the suitability principle in a significant way, then that solicitation is illegal from a tort law perspective (Supreme Court Judgment, 14 July 2005).
ii Regulatory authorities
The FSA is responsible for the supervision and inspection of financial instruments business operators. The FSA has delegated the power (some of which are originally delegated by the Prime Minister) to conduct this supervision and inspection to local financial bureaus and the Securities and Exchange Surveillance Commission (SESC).
The SESC and local financial bureaus also conduct investigations of suspected market misconduct, including incidents where insider trading and market manipulation may have occurred, and inspect whether there are any false statements in disclosure documents (e.g., annual securities reports). Based on its investigations and those of the local financial bureaus, the SESC may recommend to the FSA (to be precise, to the Commissioner of the FSA) that orders imposing administrative monetary penalties be issued.
The SESC also has the authority to investigate criminal cases. If, following an investigation, the SESC determines that a criminal violation may have occurred, it may file an accusation with the public prosecutors. This generally will lead to the institution of criminal proceedings by the public prosecutors, in which a criminal trial is held where judges will determine the facts and issue a judgment, in accordance with the Code of Criminal Procedure.
Damage disputes and claims between private parties may also be resolved in litigation. If so, a trial will be held and the judge or judges hearing the case will determine the facts and render a decision. There is no jury trial in Japan.
Damage claims are often settled by private parties during the court proceedings, and before the court is called upon to issue its judgment.
iii Common securities claims
The SESC conducts inspections and interviews with traders and listed companies when it has reason to believe:
- unfair transactions have been or are being effected, including those involving potential insider trading or market manipulation; or
- a violation of the disclosure rules has occurred.
If the SESC identifies a violation, it will make a recommendation to the FSA Commissioner to issue an order imposing an administrative monetary penalty on the offending party. In 2019, 29 such recommendations were made in connection with unfair transactions, and six for violations of disclosure rules.
When the FSA Commissioner believes there is sufficient evidence of a violation, the FSA Commissioner then initiates an administrative trial procedure, which is held before examiners. During the trial procedure, the person to whom the administrative monetary penalty is to be issued (the respondent) must produce a written response and has the opportunity to make a statement of opinion and to submit evidentiary documents to defend against the alleged violation. After the trial procedure is completed, the trial examiners produce a draft decision, which is presented to the FSA Commissioner. Thereafter, the FSA Commissioner makes a decision with respect to the issuance of an administrative monetary penalty order. The respondent may then appeal the order to a court to seek a recession of the order, in accordance with the Administrative Case Litigation Act.
The SESC also investigates cases of suspected serious breaches of applicable laws, such as insider trading, market manipulation, and submission of false securities reports. If, as result of such an investigation, the SESC considers that a criminal violation has occurred, the SESC may file an accusation with public prosecutors. The public prosecutors will then determine whether criminal proceedings should be brought, and, if so, start the criminal trial procedure. In 2019, one accusation was filed in connection with an unfair transaction, and one for violation of the disclosure rules.
If a listed company makes false statements in its disclosure documents, investors who suffer damages may file a civil lawsuit against the listed company seeking a remedy for such damages. Typically, investors will analyse the facts and circumstances and select the appropriate defendants that will be the subject of their lawsuit. Under the FIEA, a plaintiff may seek damages from the issuer, its directors and internal corporate auditors, the securities company that underwrote the securities, or the certified public accountants or auditing firms who have certified that the financial statements do not contain any material misstatement or omitted to disclose material information, provided that certain requirements prescribed in the FIEA are satisfied (Articles 21 and 22 of the FIEA). Since the FIEA does not provide specific remedies for bringing damages claims against lawyers, in practice, it is difficult to file a lawsuit against lawyers in situations of alleged securities fraud.
Another typical type of securities litigation is a damages claim filed by investors against a financial instruments business operator (including securities brokers), alleging that the investors were harmed due to a violation of the disclosure or explanation obligation of, or insufficient (or lack of) consideration of the suitability of the investment for the investors by, the operator.
i Forms of action
The corporation that submits the specific documents available for public inspection (e.g., annual securities reports) can be liable to a person who acquires the corporation's securities if the document:
- contains any false statement with respect to material matters;
- omits a statement with respect to material matters that should be stated; or
- omits a statement of a material fact that is necessary to make the statement, in the light of the circumstances under which it was made, not misleading.5
There are recurring issues that are typically in dispute in securities claim lawsuits, such as whether the statement at issue (or the absence of such statement) is with respect to 'material matters' or did the issuing corporation have a wilful intent or act with negligence regarding such statement or omission (in which case, the corporation should not be liable for all or part of losses incurred).6
For example, in the Japan System Techniques case (Supreme Court Judgment, 9 July 2009), in considering the application of Article 350 of the Companies Act, the Court determined that there was no negligence by the corporation when one of its employees skilfully and secretly created a false document and, as a result, evaded the corporation's adequate systems for preventing any misstatement in its disclosure documents.
As to the scope of the damages, if an investor acquires the securities within one year prior to the day of the public announcement of the material misstatement or omission and continues to hold such securities as of the same date, damages will be presumed to be equal to the amount calculated by deducting the average market value of the securities during one month after the announcement date from the average market value during one month prior to that date. This is provided that the corporation will not be liable for all or any part of the loss if it can rebut and prove that such loss was caused by any reason other than the decline in the securities' value resulting from the statement or omission in the documents. When a corporation seeks to rely on this, the question of whether damages were caused by any other reason frequently becomes one of the major issues in the litigation.
The leading cases regarding the scope of damages are the Seibu Railway case (Supreme Court Judgment, 13 September 2011, which considered Article 709 of the Civil Code), and the Livedoor case (Supreme Court Judgment, 13 March 2012, which discussed Article 21-2 (5) of the FIEA; details of both are provided below).
In addition, if a corporation submits false documents, (1) the officers of the corporation at the time of submission of such documents, and (2) the certified public accountants or auditing firm that issued an audit certification that the documents do not contain any false statement or do not omit a required statement despite the existence of the false statement or omission of a required statement also can be liable for losses suffered by a purchaser of securities relating to such false statement or omission,7 provided that no such liability will apply if (1) the officers did not know of, or were not able to know of, the existence of the false statement or the omission of the required statement even if they exercised reasonable care, or (2) the certified public accountants or auditing firm did not provide their certification with wilful intent or negligently.
Again, whether this exclusion is applicable in a particular case also tends to be a major issue in securities litigation.
There is no class actions system under Japanese law. However, a litigation procedure in which a consumer action group – representing numerous, but unspecified consumers – can collectively seek injunctive relief (but not recovery of monetary damages) was introduced in October 2016 under the Consumer Contract Act.8 In seeking such injunctive relief, harmed consumers enjoy presumptions of negligence and damage causation that are applied to defendants. However, to utilise this procedure it must be brought by a qualified consumer organisation (a consumer action group) on behalf of such consumers. As of April 2018, there were only three such qualified consumer organisations certified and eligible to act in that capacity. Also, by being limited to seeking injunctive relief, collective recovery proceedings by a consumer action group cannot recover monetary damages under the FIEA. Consequently, this system has not been widely or practically used by investors claiming to have suffered securities losses caused by problematic conduct.
Certain lawyers advertise, through their websites, to individual plaintiffs who acquired securities issued by a corporation that has allegedly submitted false statements or made omissions.
Additionally, shareholders can bring derivative suits, in which the shareholders, on behalf of a stock corporation, commence litigation and demand damages suffered by the corporation against the officers, if such a claim is not brought against those officers by the corporation itself.9
Since the shareholders' derivative litigation was not established for the purpose of shareholders seeking compensation for damages they have suffered, this approach is not usually suitable for the purposes of securities litigation.
Finally, an investor who suffers damages in relation to their securities investment can bring litigation seeking a remedy for such damages against the financial instruments business operator that, the investor asserts, has not fulfilled its obligation to explain the investment or that has not properly, or has not at all, considered the suitability of the investment for the investor. Under the FIEA, a financial instruments business operator must act properly and should not act in a manner that results in, or could result in, a loss of investor protection, such as by soliciting an investor in an unsuitable manner in light of their knowledge, experience, assets, status or purpose for entering into a financial instruments agreement pursuant to which securities are acquired by such investor.10
In the Supreme Court judgment of 14 July 2005, the Court held that the acts of a senior officer at a securities firm who significantly violated the suitability principle by aggressively soliciting an investor to make obviously high-risk trades without considering the investor's intentions or situation could be regarded as illegal under the Civil Code, such that the investor could seek damages from the securities firm as vicarious liability based on tort under that law.
To file a securities claim, a plaintiff files a complaint with a court having competent jurisdiction. Usually, this is the district court with jurisdiction over the location where the defendant is physically located. Alternatively, however, since a securities litigation in most cases can be categorised as an action on a property right or as an action relating to a tort, a plaintiff can file its complaint with a district court that has jurisdiction over the plaintiff's address location, on the theory that defendant's performance obligation was owing at such location or the commission of a tort occurred at such location.11
Since there is no discovery procedure under Japanese law, both plaintiffs and defendants in securities litigations need to consider how to allege or prove their case and may be limited by the available evidence or sources.
In some cases, before instituting litigation, the securities holder intending to be a plaintiff will send the putative defendant corporation a content-certified mail that includes statements that it will be pursuing such litigation and inviting an opportunity to negotiate so as to seek to resolve the matter without resorting to the courts.
Even if the shareholders are likely to prevail on the merits in a securities litigation, there nonetheless remains the possibility that the judgment they can collect is insufficient from the viewpoint of the plaintiff, particularly if the judgment is awarded against individuals as officer-defendants, as individuals may not have sufficient resources to fully pay the judgment. In addition, even if such officer-defendants have insurance, carriers tend to resist paying on such claims by indicating to disclaimer clauses in the policy.
Taking this risk into the consideration, a court often will recommend that the parties seek to settle the matter. In some cases, such a settlement will be structured with an instalment payment process.
As to the terms of the settlement once litigation has started, the court may determine the appropriate terms to resolve the case, and such terms usually include stipulations of:
- the settlement amount to be paid to the plaintiff;
- the due date and method of such payment;
- mutual confirmation from each party that there is no other claim between them; and
- the responsibility for paying attorney's fees incurred.
If attorney's fees are determined to be part of a prevailing plaintiff's damages because such fees are attributable to the losing party's tort, then it is possible that some portion of plaintiff's judgment will include some amount to be used to pay its attorney. Usually, however, if the litigation is ultimately resolved by way of a settlement, the terms of the settlement invariably provide that each party bears its own attorney's fees.
iv Damages and remedies
In a securities litigation where damages caused by or arising from false documents submitted by a corporation are sought, whether or not, and if so the extent of, the decline in stock price is attributable to the false documents often becomes one of the major issues.
In the Seibu Railway case (Supreme Court Judgment, 13 September 2011, in which Article 709 of the Civil Code was discussed), the Supreme Court held that there is a reasonable likelihood that a person who acquired securities issued by a corporation that has issued an annual securities report and other required documents that contain false statements would not have purchased such securities if such false statements were not included in the documents, and so the amount of damages incurred by such investor should be calculated based on the difference between the amount paid to acquire the securities and the amount paid to sell the same securities, after deducting effects on the market price of such securities due to reasons other than the false statements (e.g., economic situation, market trends, business performance of the issuer). The Court also clarified that declines in market price resulting from market disorder when many stockholders have sold significant amounts of the securities of the defendant company when the false statements were publicised should not be deducted from the damages amount.
In the Livedoor case (Supreme Court Judgment, 13 March 2012), the Supreme Court held that all of the decline in the market price of securities that has a legally sufficient cause related to the misstatements should be regarded as the loss attributable to such securities due to misstatements when calculating the presumed amount of damages (Article 21-2 (5) of the FIEA). In this case, one of the causes relating to the misstatements also included declines in market price following the dismissal of the representative director of the defendant corporation and the resultant criminal investigation against him.
i Forms of action
The SESC conducts investigations of alleged market misconduct, reviews disclosure statements and investigates cases of suspected criminal activity.12 If the SESC determines that misconduct, such as insider trading or the publication of a disclosure document containing a false statement with respect to a material matter, has occurred, the SESC will make a recommendation to the FSA Commissioner as to whether an order to pay an administrative monetary penalty should be issued, and the recommended amount of the fine.
In a small number of cases, the SESC will refer possible criminal charges to the public prosecutor's office. After the administrative monetary penalty system was enacted in April 2005, in a larger number of cases, the issuance of an order to pay an administrative monetary penalty has been recommended.
When an order to pay an administrative monetary penalty is recommended, prior to the issuance of such an order, an administrative proceeding is held, thereby permitting the respondent to contest the matter. Alternatively, if the respondent submits a written answer acknowledging the violation and accepting the amount of the recommended administrative monetary penalty, then no such proceeding is convened.
Since the disclosure of insider information by corporate insiders and recommendations to purchase or sell securities by corporate insiders intending that other persons gain profits or prevent losses from such disclosure or recommendations became prohibited (in April 2014), recommendations for an administrative monetary penalty have been made against 24 people (through the end of March 2020).
If a financial instruments business operator engages in market misconduct such as by insider trading or market manipulation, the FSA may issue an order for business improvement or for business suspension.
As noted above, when an order to pay an administrative monetary penalty is recommended, an administrative proceeding is held, except in the case where the respondent submits a written answer acknowledging the violation and accepting the amount of the recommended administrative monetary penalty.
Article 183(1) of the FIEA imposes an obligation on a respondent to submit a written answer to the written decision to commence administrative hearing proceedings without delay when the respondent is served with a certified copy of this written decision.
Administrative hearing proceedings following the FSA Commissioner's decision to proceed against a respondent are, in principle, conducted by a panel comprised of three hearing examiners. These examiners only sit in Tokyo and have jurisdiction over all cases to impositions of administrative monetary penalties under the FIEA. Their hearings are open to the public.13 The respondent may take an action seeking to rescind an order of an administrative monetary penalty, but such action must be filed within 30 days following the issuance of the order.14
If it is necessary in the investigation of a criminal case, the SESC may effect an inspection in accordance with a warrant issued in advance by a judge.15 In addition to this compulsory investigation, cooperation at a voluntary hearing may be repeatedly required by the SESC.
Regarding criminal trials, the jurisdiction of the district courts is determined by the place where the crime was committed, the place where the domicile or the residence of the accused is located, or the place where the accused is at present.16
While a respondent may acknowledge the violation and the amount of the administrative monetary penalty following an SESC administrative investigation, such acknowledgement is not considered a settlement, as the respondent is sanctioned. Likewise, once criminal proceedings have been instituted, the resolution must proceed to judgment and there are no settlements in such cases.
iv Sentencing and liability
The administrative monetary penalty is determined as follows:
- for a purchase where insider trading occurred, the penalty equals the amount calculated by deducting (1) the aggregate purchase amount of the securities purchased from (2) the amount equal to the highest market price in the two weeks after the disclosure of the material fact that the offender knew and traded upon prior to disclosure multiplied by (3) the amount of the securities purchased;17
- for false statements or omissions with respect to a material matter, the higher of either (1) ¥6,000,000 or (2) the total market value of the outstanding securities specified by the Order for Enforcement of the Financial Instruments and Exchange Act issued by the issuer multiplied by 6/100,000;18, 19; and
- if a respondent that is the recipient of an administrative monetary penalty was also a respondent to another order in the past five years, then the current order is subject to an aggravated increase to 150 per cent.20 On the other hand, if the violator self-reports to the Prime Minister through the FSA Commissioner before an inspection or other investigation by the authorities, the amount of the administrative monetary penalty is reduced by half.21
The FIEA and relevant cabinet office ordinances provide details about calculation, aggravation, leniency and procedures for administrative monetary penalties.
The statutory criminal penalty is as follows:
- for a purchase where criminal insider trading occurred, imprisonment with work for up to five years, a fine of up to ¥5 million, or both,22 and the property obtained through the insider trading is subject to confiscation.23 A corporation whose representative, agent, employee, or other representative commits insider trading in its securities may be punished by a fine of up to ¥500 million;24 and
- for a false statement with respect to a material issue, imprisonment with work for up to 10 years, a fine of up to ¥10 million, or both, against an individual person.25 For a corporation whose representative, agent, employee, or other representative is found personally responsible for the violation, the individual may be punished by a fine of up to ¥700million.26
The actual criminal penalty imposed within the ranges permissible under the statute will depend upon whether the defendant has a criminal record, how strongly the defendant is socially criticised for the conduct, the extent to which its reputation has been injured, and other elements.27
As only four foreign companies are listed on the Tokyo Stock Exchange,28 judicial proceedings involving foreign issuers are rare in Japan.
The SESC is currently reinforcing its cooperation efforts with foreign regulatory authorities, such as the Monetary Authority of Singapore, the Financial Services Agency of the United Kingdom, and the Securities and Futures Commission of Hong Kong, to control cross-border market fraud activities and to properly enforce the laws against such activities.
Year in review
As discussed above, at the beginning in April 2014, the disclosure of insider information by corporate insiders became prohibited, as were recommendations to purchase or sell securities by corporate insiders intending that other persons gain profits or prevent losses from trades using such information or recommendation and effected prior to the information being made public.29 In some cases, orders to pay administrative monetary penalties have been issued.
On 12 February 2020, Nissan Motor Co, Ltd. (Nissan) filed a civil lawsuit against its former chairman, Carlos Ghosn, at the Yokohama District Court, seeking damages of ¥10 billion suffered because of Mr Ghosn's alleged fraudulent payments and incurred in connection with resultant internal investigation costs, and legal and regulatory costs.30 A subsequent press release states that Nissan continues to seek recovery of damages from him following his illegal flight from justice. Related to this, on 28 February 2020, the FSA issued an order to pay an administrative monetary penalty of ¥2,424,850,000 against Nissan based on false statements made in its annual securities reports with respect to Mr Ghosn's compensation. Nissan announced it acknowledged the violation and would pay that amount.31
Mr Ghosn and another Nissan director, Greg Kelly, were arrested and charged with making false statements in Nissan's annual securities reports; Nissan also was criminally indicted. Following Mr Ghosn's illegal bail jumping, the criminal case against Mr Kelly and Nissan commenced on 15 September 2020 at the Tokyo District Court.32 These related administrative and criminal matters with respect to charged violations of the FIEA's obligations to submit complete and accurate disclosure documents are perhaps the most widely publicised matters with respect to the FIEA. Mr Ghosn and Nissan also had to face and settle regulatory proceedings in other jurisdictions, such as the United States; it should be expected that the US and Japanese authorities will work together, and this experience may result in enhancing and strengthening cooperation between Japan's regulators and those abroad.
Article 21(1)(iv) of the FIEA provides that a financial instruments business operator or registered financial institution that concludes an original underwriting contract with an issuer for the public offering of its securities can have liability, in certain cases. Such liability will not exist if the financial instruments business operator did not know, and, with respect to portions of the relevant documents related to financial accounting matters, it could not have known even with the exercise of reasonable care, that the statement was false.33 On 22 December 2020, the Supreme Court issued its judgment relating to civil liability of Mizuho Investors Securities Co, Ltd., the lead managing underwriter in the initial public offering of FOI Corporation on the Mothers Market of the Tokyo Stock Exchange, in which the issuer was found to have engaged in financial window dressing. In its ruling, the Court said that the exclusion pursuant to Article 21(2)(iii) of the FIEA from liability for damages under Article 21(1)(iv) of the FIEA only applies when the underwriter researches and confirms the reliability of an audit (due diligence) after the underwriter becomes aware of information that causes it to have suspicions about the reliability of the audit by the independent auditor.
Outlook and conclusions
In addition to the continuing litigation involving Nissan and its former directors, other pending securities litigation is attracting interest and attention. In particular, shareholders of Toshiba Corporation have commenced lawsuits, alleging that the company engaged in financial window dressing that caused its securities to be overvalued and, when discovered, resulted in the shareholders suffering losses as the market price had declined. These suits have been filed before the Tokyo District Court and the Osaka District Court, among others. Hearings on these cases are expected to be held this year.34
1 Masakazu Iwakura is a senior partner, Kentaro Nakanishi and Sadao Maeda are partners and Sae Harada is an associate at TMI Associates.
2 Act No. 89 of 27 April 1896, as amended.
3 Act No. 86 of 26 July 2005, as amended.
4 Act No. 25 of 13 April 1948, as amended.
5 Article 21-2(1) of the FIEA.
6 Article 21(2) of the FIEA.
7 Articles 22 and 24-4, and Article 21(1)(i) and (iii) of the FIEA.
8 Articles 12 to 47 of the Consumer Contract Act.
9 Article 847 of the Companies Act.
10 Article 40(i) of the FIEA.
11 Articles 4(1) and 5(i) and (ix) of the Code of Civil Procedure.
13 Articles 180 and 182 of the FIEA.
14 Article 185-18 of the FIEA.
15 Article 211(1) of the FIEA
16 Article 2(1) of Code of Criminal Procedure.
17 Article 175(1)(ii) of the FIEA.
18 Article172-4(1) of the FIEA.
19 For a false statement in Quarterly Securities, Semiannual Securities, or Extraordinary Report, etc., this amount should be half.
20 Article 187(15) of the FIEA.
21 Article 187(14) of the FIEA.
22 Article 197-2(13) of the FIEA.
23 Article 198-2(1) of the FIEA.
24 Article 207(1)(ii) of the FIEA.
25 Article 197(1)(i) of the FIEA.
26 Article 207(1)(i) of the FIEA.
27 Decision by Tokyo High Court as of 3 February 2009 sentenced Yoshiaki Murakami to two years' imprisonment with work and imposed a fine of ¥3 million, provided, however, that these penalties were suspended for three years, and the fine was satisfied by collection of property with an equivalent value of ¥1,149,006,326. The decision also imposed a fine of ¥200 million on MAC Asset Management, the company represented by Mr Murakami.
29 Article 167-2 of the FIEA.
33 Article 21(2)(iii) of the FIEA.