Restructuring Your Japanese Subsidiary's Board: What are the Legal Checkpoints for Reducing Directors?

In today's dynamic global business environment, multinational corporations frequently reassess the governance structures of their foreign subsidiaries to enhance efficiency, streamline decision-making, and reduce operational costs. For companies with Japanese subsidiaries, one common consideration is the reduction in the number of directors. While Japanese corporate law offers considerable flexibility in board composition, navigating the legal and procedural landscape is crucial for a smooth transition. This article outlines the key legal checkpoints and considerations when planning to reduce the number of directors in a Japanese company (Kabushiki Kaisha or K.K.).

1. Understanding the Current Governance Framework: The Starting Point

Before initiating any changes to the board structure, a thorough understanding of the subsidiary's current governance framework is paramount. This involves a meticulous review of two core documents:

• Articles of Incorporation (定款 - Teikan): This foundational document of the company often contains specific provisions regarding the number of directors, the existence of a board of directors, and rules governing director appointments and terms. Any plan to reduce directors must align with or appropriately amend these articles.
• Certificate of Registered Matters (登記事項証明書 - Toki Jiko Shomeisho): This official document, obtained from the Legal Affairs Bureau, provides current information on registered corporate matters, including the names of directors and whether the company is registered as a "company with a board of directors" (取締役会設置会社 - torishimariyakukai setchi gaisha) or a "company without a board of directors" (取締役会非設置会社 - torishimariyakukai hi-setchi gaisha).

The distinction between these two types of companies is fundamental because it dictates different rules for the minimum number of directors, decision-making processes, and the powers of shareholders.

2. The Legal Framework for the Number of Directors

Japanese Companies Act (会社法 - Kaishaho) sets forth baseline requirements for the number of directors:

• Company with a Board of Directors: Must have three or more directors. The board itself is a decision-making body responsible for overseeing the execution of business.
• Company without a Board of Directors: Can operate with one or more directors. In such companies, individual directors (or a majority if multiple directors exist) typically make business execution decisions, and the shareholders' meeting holds broader powers.

Crucially, many companies, through their Articles of Incorporation, stipulate a specific range (e.g., "not less than X directors and not more than Y directors") or a fixed number of directors. If the planned reduction in directors would result in a number below the minimum or above the maximum (if increasing) stipulated in the Articles, an amendment to the Articles of Incorporation will be necessary. Amending the Articles of Incorporation generally requires a special resolution at a general meeting of shareholders. A special resolution typically requires the attendance of shareholders holding a majority of the voting rights and approval by two-thirds of the voting rights present.

3. Procedural Steps for Reducing Director Numbers

The process for reducing the number of directors typically involves decisions at both the director/board level and the shareholder level.

• Internal Decision-Making to Propose the Change:
  • For a company with a board of directors, the board must pass a resolution to convene a general shareholders' meeting and to propose the agenda items related to the director reduction (e.g., non-reappointment of certain directors, amendment of the Articles of Incorporation regarding the number of directors). It's important to ensure that a majority of the board supports this proposal before formally initiating the process.
  • For a company without a board of directors, the decision to convene a shareholders' meeting and set the agenda is made by the directors (if there are multiple directors, by a majority vote, unless the Articles of Incorporation provide otherwise).
• Shareholder Approval:
  • Non-Reappointment: The most straightforward method, if timing allows, is to not reappoint directors whose terms are expiring. Directors in Japanese companies are elected for a term (discussed below), and shareholders decide on their reappointment at the end of each term.
  • Dismissal (解任 - Kainin): Directors can also be dismissed mid-term by a shareholder resolution. However, dismissing a director without "justifiable grounds" (正当な理由 - seito na riyu) can lead to claims for damages by the dismissed director. This topic involves distinct legal considerations beyond the scope of this article's primary focus on planned reductions.
  • Amending the Articles of Incorporation: If the reduction necessitates a change in the stipulated number of directors in the Articles, this amendment requires a special shareholder resolution, as mentioned earlier.

4. Director Term Considerations: Strategic Timing

The term of office for directors is a critical factor when planning board restructuring.

• Standard Term: Under the Companies Act, the term of office for directors (except for those in a company with a nomination committee, etc., or a company with an audit and supervisory committee) is, in principle, until the conclusion of the ordinary general shareholders' meeting for the last fiscal year ending within two years from the time of their election. This term can be shortened by a provision in the Articles of Incorporation or by a resolution at a shareholders' meeting.
• Extended Term for Non-Public Companies: For non-public companies (companies whose shares are all subject to transfer restrictions), the Articles of Incorporation can extend the director's term up to ten years.

When a company is considering a phased approach to board restructuring—for example, reducing the number of directors from five to three initially, with a future plan to move to a single-director structure—the existing directors' terms become highly relevant. If the current terms are long (e.g., five years as per the case example in the source document ), and a further reduction is planned before these terms expire, the company might face the more complex scenario of mid-term dismissals or needing to secure voluntary resignations. Therefore, if a reduction is part of a broader, evolving governance strategy, it might be prudent to consider aligning director terms (potentially shortening them at the next election cycle) to facilitate future changes more smoothly. This requires careful review of the current Articles of Incorporation regarding director terms.

5. Transitioning to a Single-Director Company: Pros and Cons

For non-public companies, the option to operate with a single director is legally permissible, provided the company does not have a board of directors (which, by definition, requires at least three directors). This structure can offer benefits such as highly agile decision-making and reduced administrative costs associated with board meetings and director remuneration. However, several critical questions must be addressed before adopting such a lean governance model:

• Sufficiency of Oversight and Deliberation: Is the company at a stage where the checks and balances provided by multiple directors deliberating on key issues are no longer essential?
• Director Capacity: Can a single individual realistically and effectively manage all aspects of the business and make all critical judgments, considering the company's size, complexity, and operational scope?
• Concentration of Responsibility and Risk: Is it appropriate for one individual to bear the entirety of management responsibility, both internally towards the company and externally towards third parties?
• Continuity Risk: What happens if the sole director becomes incapacitated due to illness, accident, or other unforeseen circumstances? The operational paralysis could be severe. Contingency plans, such as identifying potential successors or establishing clear protocols for such events, become even more critical.

6. Governance in a Company Without a Board of Directors (取締役会非設置会社)

Opting to reduce directors to fewer than three necessitates the abolition of the board of directors (if one currently exists). This shift significantly alters the company's governance dynamics:

• Absence of Mandatory Supervisory Organs (in principle): A company without a board is not statutorily required to have a statutory auditor (監査役 - kansayaku), an audit and supervisory committee, or a nomination committee, etc., unless its Articles of Incorporation specifically provide for them. It also cannot establish a board of statutory auditors (監査役会 - kansayakukai). If it chooses not to have a statutory auditor, it generally cannot appoint an accounting auditor (会計監査人 - kaikei kansanin) either.
• Enhanced Powers of the General Shareholders' Meeting: Unlike in a company with a board (where shareholder resolutions are generally limited to matters stipulated by law or the Articles), in a company without a board, the general shareholders' meeting can, in principle, resolve any matter concerning the company. This includes, for example, approving a director's competitive transactions or conflict-of-interest transactions, and making decisions regarding transfer-restricted shares, which would otherwise be board matters in a company with a board. This shift means shareholders, potentially including the parent company, will have more direct involvement in a wider range of decisions.
• Execution of Business Operations:
  • In a company with a board, the board appoints a representative director(s) (代表取締役 - daihyo torishimariyaku) who executes the company's business.
  • In a company without a board, if there is only one director, that director naturally executes the business and represents the company. If there are multiple directors, each director has the authority to execute the company's business. However, decisions regarding the execution of business are typically made by a majority of the directors, unless the Articles of Incorporation stipulate otherwise (e.g., assigning specific roles or requiring unanimity for certain matters).
  • It's important to note that even if these multiple directors in a company without a board meet to make decisions, this decision-making forum is not a "board of directors" as legally defined by the Companies Act. Consequently, such meetings are not subject to the formal convocation procedures (e.g., notice periods, written notices) mandated for statutory board meetings (such as those under Article 366 of the Companies Act). This offers greater operational flexibility but also requires clear internal understanding and potentially well-defined internal rules if multiple directors are retained.

7. Practical Summary and Key Considerations

When considering a reduction in the number of directors for a Japanese subsidiary, the following checklist summarizes key action points derived from the legal framework:

• Verify Current Governance: Confirm the existing structure (presence of a board, number of directors) through the Articles of Incorporation and Certificate of Registered Matters.
• Review Articles of Incorporation: Check provisions regarding the number of directors, director terms, and any specific rules for amending these.
• Assess Shareholder/Board Consensus: Determine if the necessary support for shareholder resolutions (ordinary or special) and any required board resolutions can be obtained.
• Align with Director Terms: Consider current director terms and how they impact the timing and method of reduction (non-reappointment vs. dismissal).
• Evaluate Single-Director Implications: If moving to a sole director, thoroughly analyze the operational, responsibility, and continuity risks.
• Understand Governance Shifts: If abolishing the board, be prepared for the expanded role of the shareholders' meeting and changes in how business execution decisions are made.
• Plan Procedural Execution: Meticulously plan all necessary steps, including drafting resolutions, convening meetings, and making necessary registrations, adhering to all statutory timelines.

Conclusion

Reducing the number of directors in a Japanese subsidiary can be a strategic move to optimize governance and operational efficiency. However, it requires careful navigation of the Japanese Companies Act and the company's own Articles of Incorporation. A thorough understanding of the current structure, careful consideration of director terms, a clear grasp of the implications of operating without a board (if applicable), and meticulous adherence to procedural requirements are all essential for a successful and legally sound restructuring of the board. Proactive legal counsel and strategic planning can help ensure that these changes achieve their intended benefits while minimizing potential risks.