January 15 2010
The amended Trust Law, which was enacted in December 8 2006 and enforced from September 30 2007, introduced the security trust into Japanese law. In a security trust scheme, a borrower (ie, obligor) or third party entrusts collateral for a loan to a security trust, of which the lender is the beneficiary. As the collateral holder, the trustee manages the collateral and, if necessary, enforces the lender's security interest, in which case it distributes cash to the lender as the trust beneficiary.
Until the introduction of the amended law, civil law principles did not allow the creditor and the security interest holder to be separate entities. This caused a number of difficulties, particularly in the case of loans with multiple lenders represented by an agent bank and loan transactions in which one of the lenders changed (eg, syndicated loans). For example, when a lender in a syndicated loan transaction assigned its interest to another financial institution, the group of lenders had to take various steps, including measures in relation to the transfer of the security interest. However, the introduction of security trusts made it possible to separate the creditor from the security interest holder. As a result, individual lenders can assign their interest without affecting other lenders in the transaction.
Before the law was enacted, it was unclear whether lenders could establish a senior/subordinated relationship in regard to shared collateral. However, a security trust allows for the creation of a senior beneficial interest and a subordinated beneficial interest. Given these benefits, it is unsurprising that the security trust structure is starting to be used widely in Japan.
In the context of management buy-outs or leveraged buy-outs, in which syndicated loans are common, a security interest over the target's assets may be transferred to a trust bank to be held in trust in exchange for beneficial interests in the trust. The creation of security over various complex assets held by a target - and the management of that security - is a significant burden on financial institutions, particularly when a number of institutions are providing finance. Thus, it was common to create a security interest and leave it unregistered for ease of management. However, leaving such an interest unregistered creates the risk that a third party may perfect its own interest over the assets, leaving the financial backers unable to assert their rights under their security interest. Using a security trust and having the security managed together in trust significantly reduces the administrative difficulties and makes it more practical to register security interests.
There has also been an example of a security trusts being used in the context of asset-based lending transactions to secure interests in movable assets, accounts receivable and similar assets. This involves the borrower's inventory or accounts receivable being placed in trust. The financial institutions funding the borrower receive beneficial interests in the trust.
The enactment in 1999 of the Act on Special Provisions of the Civil Code in Relation to Requirements for the Perfection of Transfer of Movables and for the Assertion of Assignment of Claims facilitated the perfection of a security interest in receivables by means of registration of a public notice. When the law was amended in 2006, this also became possible in respect of security interests in movables.
These changes and the lengthy deflation in real estate prices have led to a steady rise in lending secured by accounts receivable and inventory. According to the Financial Services Agency, the balance of asset-based lending by regional financial institutions in Japan has increased twelvefold in the past three years. Borrowers increasingly prefer syndicated loans, rather than single lenders, and agreements for syndicated loans are generally more standardized than bilateral financing agreements, permitting easier sale of the loan receivables. However, unless a security trust is used, the lender must always be the security interest holder. Thus, if the loan receivables are transferred to another entity, the security interest therein must also be transferred, which interferes with the transferability or liquidity of the loan receivables. A security trust can remain the security interest holder despite a change in lender, which increases the liquidity of loans receivable in a syndicated loan.
The impact of the collapse of Lehman Brothers and the unsettled financial markets have made the enforcement of security interests particularly significant, with many receivables becoming uncollectable. Financial institutions providing financing to Japanese companies are looking for ways to create and manage security interests at the lowest cost. The security trust is an effective tool for doing precisely this, and the system is expected to be used increasingly for such transactions.
For further information on this topic please contact Hiroo Atsumi or Michiaki Hosoi at Atsumi & Partners by telephone (+81 3 5501 2111), fax (+81 3 5501 2211) or email (email@example.com or firstname.lastname@example.org).
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