The Japanese "Factory Foundation" (Kojo Zaidan) system, created under the Factory Mortgage Act (Act No. 54 of 1905), allows a diverse collection of a factory's assets—land, buildings, machinery, equipment, and even intangible rights—to be legally bundled into a single entity treated as one piece of immovable property. This unified entity can then be mortgaged. A core feature designed to protect the integrity and value of this consolidated collateral is the imposition of significant restrictions on the disposal or separate encumbrance of its individual constituent assets (sosei bukken). Understanding these "hands-off" rules is crucial for factory owners, lenders, and any third parties dealing with assets that might be part of such a foundation.

The Rationale: Preserving the Foundation's Unity and Value

The primary purpose of a Factory Foundation is to create a comprehensive and stable object of security for lenders. If the individual components of the foundation could be freely sold, separately mortgaged, or attached by other creditors, the value and coherence of the foundation as a single collateral unit would be quickly undermined. The restrictions on disposition are therefore designed to:

1. Maintain the Integrity of the Collateral: Ensure that the package of assets initially designated and registered as the Factory Foundation remains intact.
2. Protect Mortgagee Security: Safeguard the interests of creditors who have extended financing based on the value of the entire foundation as an operational whole.
3. Prevent Piecemeal Dismantling: Avoid a situation where the factory’s operational capacity is eroded through the separate sale or seizure of its essential components.

These restrictions apply in two main phases: during the process of establishing the foundation, and after it has been legally created through registration.

Phase 1: Restrictions During the Establishment of the Factory Foundation (Before its Formal Registration)

Once a factory owner applies for the ownership preservation registration (shoyuken hozon toki) that formally creates the Factory Foundation, and certain preliminary steps are taken by the registry office, the assets designated to become part of the foundation become subject to initial disposition restrictions. This phase aims to "freeze" the designated assets, preventing the applicant from dealing with them in a way that could frustrate the pending establishment of the foundation.

A. For Constituent Assets with Existing Registration Systems (e.g., Land, Buildings, Industrial Property Rights)

• The Article 23 Notation: When an application to create a Factory Foundation is filed, Article 23 of the Factory Mortgage Act requires the registry office (or other relevant registration authorities like the Patent Office, upon notification) to make a notation in the individual public registers of these assets (e.g., the Land Register, Patent Register). This notation states that an application has been filed for the asset to become part of a Factory Foundation.
• Prohibition on Voluntary Disposition (Article 29, FMA): Once this Article 23 notation is made, Article 29 of the Act generally prohibits the owner from voluntarily transferring (e.g., selling, gifting) the asset or making it the object of rights other than ownership (e.g., creating new, separate mortgages or pledges on that individual asset). Any such attempted disposition undertaken after the notation is typically considered void or ineffective against the subsequently formed foundation and its mortgagees.
• Status of Attachments and Other Involuntary Encumbrances (Articles 30 & 31, FMA):
  • Despite the Article 23 notation, it is still generally possible for creditors to levy an attachment (sashiosae), provisional attachment (kari-sashiosae), or provisional disposition (kari-shobun) against these individual registered assets, and for such actions to be recorded in their respective registers.
  • However, Article 30 stipulates that if such an attachment leads to an auction process, the sale (permission for sale) cannot be finalized while the Factory Foundation application is still pending and its ownership preservation registration has not yet become effective (or has not been rejected).
  • Furthermore, if the Factory Foundation is successfully established and a mortgage is registered upon it, Article 31 provides that these attachments or provisional dispositions that were registered after the Article 23 notation (signaling the asset's dedication to the foundation) will lose their effect against the foundation's mortgagee. The registry office is then empowered to cancel these now-ineffective registrations (Article 37, FMA).

B. For Unregistered Movable Constituent Assets (e.g., Most Machinery and Equipment)

• The Article 24 Public Notice: For movable assets that do not have their own specific registration system (which includes the majority of factory machinery and equipment), Article 24 of the Factory Mortgage Act mandates a public notice procedure. When the application for foundation establishment is filed, the registry office publishes a notice in the Official Gazette (Kanpo). This notice informs the public that these specified movables are intended to become part of a Factory Foundation and invites any third parties who claim rights over them (e.g., undisclosed ownership, existing pledges) to declare such rights within a set period (typically 1 to 3 months).
• Prohibition on Voluntary Disposition (Article 33, Paragraph 1, FMA): After this public notice has been made, Article 33, Paragraph 1, generally prohibits the owner from transferring these movables or making them the object of rights other than ownership. Similar to registered assets, such attempted dispositions are usually considered void.
• Status of Attachments (Article 33, Paragraphs 2 & 3, FMA):
  • Creditors can still attempt to attach these movables even after the public notice.
  • However, enforcement of such attachments (e.g., sale) may be stayed while the foundation's establishment is pending (Article 33, Paragraph 2, applying Article 30).
  • Crucially, if the Factory Foundation is successfully established and a mortgage is registered upon it, any attachments or provisional dispositions levied on these movables after the Article 24 public notice will lose their effect (Article 33, Paragraph 3).

These Phase 1 restrictions are designed to ensure that the pool of assets intended for the foundation remains intact and unencumbered by new, conflicting voluntary acts of the owner during the often lengthy process of foundation registration.

Phase 2: Restrictions After the Factory Foundation is Legally Established

Once the Factory Foundation's ownership preservation is successfully registered, the foundation legally exists as a single unit of immovable property. At this stage, the restrictions on disposing of its constituent assets become even more stringent, primarily governed by Article 13, Paragraph 2 of the Factory Mortgage Act.

This pivotal provision states:
"Assets belonging to a factory foundation cannot be transferred, nor be made the object of rights other than ownership, nor be the object of attachment, provisional attachment, or provisional disposition; provided, however, that this shall not apply to leasing performed with the consent of the mortgagee(s)."

Let's break down these prohibitions:

1. No Separate Transfer: Individual components of the registered Factory Foundation—whether land, buildings, or specific machinery listed in its inventory—cannot be independently sold, gifted, or otherwise transferred by the foundation owner. If the ownership of the factory operation is to change hands, it must be done by transferring the entire Factory Foundation as a single legal entity.
2. No Separate Encumbrance with Rights Other Than Ownership: Individual constituent assets cannot be separately mortgaged, pledged, or subjected to other security interests or rights (like a servitude created after foundation establishment) by the foundation owner. The only mortgage that can encumber these assets (as part of the whole) is a mortgage over the Factory Foundation itself.
3. No Separate Attachment, Provisional Attachment, or Provisional Disposition: General creditors of the Factory Foundation owner cannot levy execution (attachment, etc.) against individual assets within the foundation. Their claims must be pursued against assets of the owner that are outside the foundation, or, in very specific and limited circumstances (usually if the foundation itself is unmortgaged, which is rare given the six-month rule for mortgaging a new foundation), potentially against the foundation as a whole through procedures applicable to immovables.

The clear intent of Article 13(2) is to preserve the foundation as an indivisible collateral unit, safeguarding the security of those who have lent against it.

The Exception: Leasing with Mortgagee Consent

Article 13, Paragraph 2, includes an important proviso: leasing is permissible if performed with the consent of the mortgagee(s) of the Factory Foundation. This also aligns with Article 14, Paragraph 2, which states the foundation itself (as a whole) can be leased with such consent. This allows for some operational flexibility (e.g., leasing out the entire factory operation) while ensuring that the interests of the primary secured creditors are protected through their right to consent. It generally does not envision the standalone leasing of individual machines from the foundation without this broader context and consent.

Perfection of Disposition Restrictions Against Third Parties

For these stringent restrictions on disposition to be effective against third parties (i.e., for third parties to be legally bound by them), they must be made public:

• For Registered Constituent Assets (Land, Buildings, IP Rights, etc.): As mentioned in the context of establishing a factory foundation, Article 34 of the Factory Mortgage Act mandates that once an asset is incorporated into a registered foundation, a notation is made in that asset's individual, pre-existing public register (e.g., Land Register, Patent Register). This notation states that the asset "belongs to Factory Foundation Registration No. X" (kojo zaidan ni zokushita). This publicly recorded link alerts anyone searching the title of an individual asset that it is part of a Factory Foundation and therefore subject to the disposition restrictions of Article 13(2).
• For Unregistered Movable Constituent Assets (Machinery, Equipment): These assets do not have their own individual public registers. Their inclusion in the registered Factory Foundation Inventory (Kojo Zaidan Mokuroku), which is an integral and public part of the Factory Foundation Register, serves as the public notice that they are components of the foundation and subject to its disposition rules. The initial public notice procedure under Article 24 during the foundation's establishment also helps to establish the foundation's claim over these movables against prior undisclosed rights.

Consequences of Attempted Violations

Any attempted transfer or encumbrance of a constituent asset in violation of these statutory restrictions is generally considered void and legally ineffective. If, through error, a prohibited transaction concerning a constituent asset were to be recorded, it would likely be subject to cancellation upon challenge by the foundation's mortgagee or other interested parties. The strength of these restrictions is a key feature that makes the Factory Foundation an attractive security device for lenders.

Permissible Actions and Maintaining Flexibility

While the restrictions are strict, they do not render the factory's assets entirely static. The Factory Mortgage Act allows for:

1. Transfer of the Entire Factory Foundation: The foundation, as a single legal immovable, can be sold or otherwise transferred. The new owner then acquires the entire bundle of constituent assets, subject to any existing mortgage on the foundation.
2. Mortgaging the Entire Factory Foundation: This is, in fact, the primary purpose for which a foundation is created.
3. Formal Separation of Assets from the Foundation: Assets can be removed or separated from the Factory Foundation. This is not an informal act but requires a formal "registration of change to the Factory Foundation Inventory" (kojo zaidan mokuroku no kiroku no henko toki). Crucially, if the foundation is mortgaged, Article 15 of the Act generally requires the consent of the mortgagee(s) for such separation. Once an asset is formally separated through this registered procedure, it is no longer part of the foundation and ceases to be subject to these specific disposition restrictions (though it might become subject to other claims or require separate security if it was released from the foundation mortgage).

Conclusion

The restrictions on the disposal of individual assets included in a Japanese Factory Foundation are a fundamental element of this specialized collateral system. They are stringent and designed to maintain the foundation's integrity as a unified security object, thereby protecting the interests of creditors who have relied on its comprehensive value. While these "hands-off" rules limit the factory owner's ability to deal freely with individual components, they are precisely what give the Factory Foundation its strength as a robust security mechanism. Mechanisms for formally amending the foundation's composition, typically requiring mortgagee consent, provide a controlled means of managing changes to the asset pool while preserving the underlying security. Any party dealing with a Japanese factory or its assets must be acutely aware of the potential existence of a Factory Foundation and the significant legal constraints it imposes on its constituent parts.