Can a Business Be Sold as a Going Concern in a Japanese Bankruptcy?

When a company in Japan enters formal bankruptcy proceedings (破産手続 - hasan tetsuzuki), it is undergoing a liquidation process. The primary goal of the court-appointed bankruptcy trustee (破産管財人 - hasan kanzainin) is to collect the debtor's assets, convert them into cash, and distribute the proceeds to creditors according to their legal priorities. While this often involves selling assets individually (piecemeal sale), Japanese bankruptcy law also allows for the possibility of selling an entire business, or a distinct operational part of it, as a "going concern." This is known as a "business transfer" or "business譲渡" (jigyō jōto).

This approach, sometimes referred to as a "liquidation-type business transfer" (清算型事業譲渡 - seisan-gata jigyō jōto) in the bankruptcy context, can offer significant advantages over piecemeal liquidation, both for maximizing creditor returns and for preserving viable economic activity.

What is a "Business Transfer" (Jigyō Jōto) in Japanese Bankruptcy?

A business transfer in a Japanese bankruptcy involves the sale of an integrated set of business assets and operations as a functional unit. This can include:

• Tangible Assets: Machinery, equipment, inventory, real estate (if part of the operational unit).
• Intangible Assets: Customer lists, trade names (if transferable), know-how, intellectual property rights, and potentially goodwill (営業権 - eigyōken, or のれん - noren).
• Potentially, Contracts and Employees: Though, as discussed below, their transfer is not automatic and requires specific consents.

Unlike business transfers in restructuring proceedings like Civil Rehabilitation (民事再生 - minji saisei) or Corporate Reorganization (会社更生 - kaisha kōsei), where the primary aim might be the rehabilitation of the debtor company itself, a business transfer in bankruptcy liquidation serves different core purposes:

1. Maximizing Value for Creditors: Selling a business as a going concern can often achieve a significantly higher price than selling off its components individually. The sum of the parts as an operating unit (with goodwill, established processes, etc.) may be worth more than the sum of the parts sold separately.
2. Preserving Viable Business Operations: Even though the bankrupt legal entity is being liquidated, a viable business unit within it can continue to operate under new ownership, preserving economic activity.
3. Retaining Employment: While not automatic, a business transfer offers the possibility for some or all employees associated with the transferred business unit to be offered employment by the purchaser, thus mitigating job losses.
4. Ensuring Continuity for Customers and Suppliers: Where a business provides essential goods or services, its sale as a going concern can ensure continuity for customers and maintain valuable supply chain relationships.

The Bankruptcy Trustee's Role and Decision-Making

The decision to pursue a business transfer rests with the bankruptcy trustee, subject to court approval.

• Identifying Viable Business Units: The trustee must first conduct a thorough assessment of the bankrupt company's operations to identify any divisions, product lines, or segments that might be viable and attractive to potential purchasers as a standalone business.
• Valuation (事業価値の評価 - Jigyō Kachi no Hyōka): Accurately valuing the business unit as a going concern is critical. This may involve engaging professional business appraisers or M&A advisors. The valuation will consider not just the tangible assets but also the potential earning capacity, goodwill, and market position of the unit.
• Cost-Benefit Analysis: The trustee must compare the anticipated proceeds from a business transfer (net of any costs associated with temporarily maintaining operations to facilitate the sale) against the likely outcome of a piecemeal liquidation of the same assets. The transfer will only be pursued if it is expected to yield a better net result for the bankruptcy estate.
• Finding a Purchaser: Identifying and attracting suitable purchasers often needs to be done quickly, as the value of a going concern can deteriorate rapidly in a bankruptcy environment. Potential buyers might include competitors, companies in related industries, private equity firms, or, occasionally, a new entity formed by the former management and/or employees (a form of Management Buyout - MBO, or Employee Buyout - EBO), though such insider-related transactions are subject to intense scrutiny for fairness and arm's-length terms.

The Business Transfer Process in Bankruptcy

Successfully executing a business transfer within a bankruptcy proceeding involves several key steps:

1. Preliminary Steps and Marketing

• Once a potentially transferable business unit is identified, the trustee (often with the help of advisors) will prepare an information package for prospective buyers.
• Marketing is typically done confidentially at first to avoid disrupting any limited ongoing operations, alarming employees unnecessarily, or causing a loss of customer confidence. The trustee will balance the need for confidentiality with the need to reach a sufficient pool of potential bidders.

2. Negotiation and Due Diligence

• Interested parties will usually be required to sign non-disclosure agreements (NDAs) before receiving detailed information.
• Prospective purchasers conduct due diligence, which is often expedited in a bankruptcy context. The scope of due diligence will cover financials, operations, key contracts, employee matters, and legal compliance of the target business unit.
• The trustee negotiates the terms of a Business Transfer Agreement (事業譲渡契約書 - jigyō jōto keiyakusho) with the selected buyer. Key terms include:
  • A precise definition of the assets and business operations being transferred.
  • The purchase price and payment terms.
  • The proposed treatment of employees associated with the transferred business.
  • The handling of key contracts necessary for the business's operation.
  • Representations, warranties (though often limited in bankruptcy sales), and closing conditions.

3. Handling of Liabilities

• General Principle: "Assets-Only" Transfer: A crucial characteristic of business transfers in a Japanese liquidation bankruptcy is that they are overwhelmingly structured as "assets-only" sales. This means the purchaser acquires the specified assets and the operational business unit but does not assume the pre-existing debts and liabilities of the bankrupt company. Those liabilities remain with the bankrupt estate and are addressed through the claims filing and distribution process.
• Assumption of Specific Liabilities: In rare instances, a purchaser might agree to assume certain specific liabilities directly related to the acquired business (e.g., future warranty obligations for products if it benefits the continuity), but this would be explicitly negotiated and must be clearly beneficial to the estate (e.g., by increasing the overall purchase price by more than the liability assumed).

4. Transfer of Employees (従業員の承継 - Jūgyōin no Shōkei)

• No Automatic Transfer of Employment: Unlike some jurisdictions where employees might automatically transfer with a business under certain conditions (e.g., TUPE in Europe), employment contracts do not automatically transfer to the buyer in a business transfer under Japanese law.
• Individual Employee Consent Required: For employees to move to the new owner, a two-step process is typically involved:
  1. The employment contracts with the bankrupt company are terminated (usually by dismissal by the trustee, with appropriate notice or payment in lieu).
  2. The purchaser then makes offers of new employment to those employees they wish to retain.
     Each employee must individually consent to the new employment terms with the purchaser.
• Trustee's and Purchaser's Roles: The trustee manages the termination of employment from the bankrupt entity. The purchaser decides which employees to offer new positions and on what terms. Labor law considerations, such as notice periods for dismissal and non-discrimination, remain important.

5. Transfer of Contracts (契約の承継 - Keiyaku no Shōkei)

• No Unilateral Assignment by Trustee: The bankruptcy trustee cannot unilaterally assign the bankrupt company's ongoing contracts (e.g., supply agreements, customer contracts, leases, license agreements) to the purchaser as part of the business transfer.
• Counterparty Consent Generally Required: The assignment of a party's status and obligations under a contract (地位の譲渡 - chii no jōto) generally requires the consent of the other original contracting party (as per Article 539-2 of the Civil Code).
• Practical Approach: The purchaser will identify the contracts essential for the continued operation of the acquired business. They will then need to either:
  • Negotiate new contracts directly with those counterparties.
  • Seek the consent of those counterparties for the assignment of the existing contracts from the bankrupt estate to themselves.
    The trustee may play a role in facilitating these discussions, but the ultimate decision rests with the counterparties. This can be a complex and time-consuming part of the process.

6. Court Permission (裁判所の許可 - Saibansho no Kyoka)

The transfer of a business, or a substantial part of its assets that effectively constitutes a business unit, by a bankruptcy trustee requires the permission of the bankruptcy court (Bankruptcy Act, Article 78, Paragraph 2, Item 4).

• The trustee files a formal application with the court. This application will typically include:
  • The draft Business Transfer Agreement.
  • Valuation reports or other evidence supporting the proposed sale price.
  • A detailed explanation of why the business transfer is in the best interests of the bankruptcy estate and its creditors (e.g., demonstrating that it is likely to yield a higher financial return than a piecemeal liquidation).
  • Information on the process used to find and select the purchaser.
• The court reviews the application to ensure the transaction is fair, reasonable, transparent, and commercially sound. The court's primary concern is protecting the interests of the creditors.

7. Closing the Transaction

Once court permission is obtained and all other conditions precedent in the Business Transfer Agreement are satisfied, the transaction closes. This involves:

• Formal execution of all transfer documents.
• Conveyance of the specified assets to the purchaser.
• Payment of the purchase price by the buyer to the bankruptcy trustee for the benefit of the estate.

Benefits of a Business Transfer in Bankruptcy

When successfully executed, a business transfer in bankruptcy can offer several advantages:

• Potentially Higher Recovery for Creditors: The "going concern value," which may include goodwill, established customer relationships, an assembled (though re-hired) workforce, and operational synergies, can often result in a higher sale price than the sum of individual asset values.
• Preservation of Business Operations and Know-How: Viable economic units can continue to operate, preventing the complete loss of valuable business infrastructure and specialized knowledge.
• Retention of Employment: It provides an opportunity for at least some employees to secure new employment with the purchaser, mitigating the social impact of the bankruptcy.
• Continuity for Stakeholders: Customers may continue to receive products or services, and suppliers may retain a business partner, albeit under new ownership.

Challenges and Considerations

Despite the potential benefits, business transfers in bankruptcy are not without challenges:

• Speed and Timing: Bankruptcy often imposes tight timelines. Finding a suitable buyer, conducting due diligence, negotiating a complex agreement, and obtaining court approval quickly can be very demanding.
• Valuation Complexity: Accurately valuing a distressed business as a going concern, especially one in bankruptcy, is inherently difficult.
• Maintaining Operations: If the business unit needs to be kept operational (even on a limited basis) to preserve its going-concern value pending a sale, the trustee may face operational and funding challenges.
• Employee Issues: Managing the process of employee dismissals by the estate and potential re-hiring by the purchaser requires careful handling and compliance with labor laws.
• Contractual Consents: Obtaining the necessary consents from numerous counterparties for the transfer of key contracts can be a significant hurdle and may not always be successful.
• Due Diligence Limitations: Buyers in a bankruptcy sale often have less time and access for comprehensive due diligence than in a typical M&A transaction, increasing their risk.
• "Cherry-Picking" by Buyer: Buyers will naturally want to acquire the most valuable assets and contracts while leaving behind less desirable ones and liabilities. The trustee must negotiate to ensure the overall deal remains beneficial for the estate.

Tax Implications

• Consumption Tax: The sale of taxable business assets (e.g., buildings, equipment, inventory, but not land) by the trustee is generally subject to Japanese consumption tax.
• Corporate Income Tax: Any profit realized by the bankruptcy estate from the sale of the business contributes to the estate's income and may be subject to corporate income tax. However, in many bankruptcy cases, the bankrupt company has significant accumulated tax losses (including potentially "expired tax losses" that can be revived for use by bankrupt corporations with no prospect of shareholder distributions) that can offset such gains, often resulting in no actual corporate income tax liability for the estate.

Conclusion

While Japanese bankruptcy is fundamentally a liquidation process aimed at winding up an insolvent entity, the option of a "liquidation-type" business transfer (seisan-gata jigyō jōto) provides a valuable strategic alternative to piecemeal asset sales. When a distinct part of the bankrupt company's operations remains viable and possesses going-concern value, a business transfer orchestrated by the bankruptcy trustee and approved by the court can maximize returns for creditors, preserve valuable economic activity, and offer continued employment opportunities. Successfully executing such a transfer in the dynamic and often challenging environment of bankruptcy requires considerable skill, diligence, and commercial acumen on the part of the trustee.