JAPAN Law and Practice Contributed by: Reid Monroe-Sheridan, Takahito Fujii, Haruya Suzuki, Yutaro Ito and Tomohiro Oshige, southgate
options a much more accessible tool for start- ups. 5.4 Implementation In VC financings in Japan, the valuation of the company is typically negotiated such that the dilution from a new or expanded option pool is shared among the existing stockholders as well as the new investors. This contrasts with the USA, where the new investors typically do not bear the burden of any dilution from the option pool. This difference may be due to the Japanese legal system. In Japan, until recently stock options could only be issued within one year following the board resolution approving their issuance, so it was not possible to create an option pool in the same manner as is commonly done in the USA. However, with the changes to the law in 2024, it will now be possible to establish an option pool in Japan, albeit subject to certain procedures. This development could lead to the establishment of market practices more closely aligned with those of the USA, such as a refreshed option pool for each financing round and the adoption of a pre- money valuation approach to VC investments. Preferred stockholders have priority over com - mon stockholders in the case of both actual liquidations and deemed liquidations, such as M&A exits. While pari passu liquidation prefer - ence among classes of preferred shares is not uncommon, it is more common for subsequent classes of preferred shares to have priority over earlier classes. In most cases, preferred stock - holders’ liquidation preferences are uncapped and participating, meaning that, after receiving their preference, each of the preferred stock - 6. Exits 6.1 Investor Exit Rights
holders receives its pro rata share of the liquida - tion proceeds available to common stockholders as if its shares had converted to common stock. Japan does not have an active secondary-share transfer market. Although there are no statutory restrictions on the resale of unlisted securities, it is almost always the case that transfers of shares in privately held companies require approval of the board of directors or the shareholders (if a company does not have a board of directors). In Japanese start-ups, rights of first refusal and co- sale provisions are common and, in most cases, bind all major shareholders, including both com - mon and preferred holders. For these reasons, investors in Japanese start- ups rarely sell their shares prior to an exit despite the lack of statutory restrictions on the sale of shares of private companies. Investors who wish to sell their shares typically do so in a sale to oth - er investors as part of a subsequent financing. 6.2 IPO Exits Japanese start-ups have traditionally favoured IPO exits due to the widespread perception that a start-up that exits through M&A has failed. Many founders and traditional VC investors aspire to a listing, and thus the number of IPO exits far outnumber M&A exits. However, M&A exits have been increasing in recent years as a result of pressure from investors (primarily those from overseas) who want to see a quick return on their investment, the slower IPO market in Japan, and the fact that many successful start- ups in other markets are exiting by M&A. The typical successful IPO outcome for start- ups is to list their shares on the Growth Market of the Tokyo Stock Exchange while raising capital via an issuance of new shares.
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