Corporations with Social Aims in the Japanese Legal System

Abstract

In Japan, there is no specific legislation for “benefit corporations” or “social enterprises,” and the concepts of those entities are not necessarily widely known. This does not mean that Japanese industry and society do not accept the idea of businesses with social aims. On the contrary, Japanese for-profit corporations have a tradition of conducting business with social aims, and there are various nonprofit corporation schemes that can be used when one incorporates businesses with social aims. In the author’s view, existing entities are succeeding in their efforts to engage in social business at least to a certain extent, and the necessity of the new structure has not been necessarily recognized. At the same time, existing entities are not perfectly suited for engaging in businesses with social aims. Speaking of share corporations, it is difficult for customers or investors to distinguish share corporations which surely pursue their social aims from others. Continued observation is needed on whether these businesses will grow by utilizing existing entities or new specific legal infrastructures will be introduced in the future.

The author appreciates the financial support from the Japan Society for Promotion of Science (Project No. 20H01436).

1 Overview: Corporations with Social Aims in Japan

1.1 Tradition of Businesses with Social Aims

An important distinction of a so-called “benefit corporation” is that it has not only a profit-gaining purpose but also a social mission that it pursues through its business activities.

Different from many countries discussed in this book, in Japan there is no specific legislation for “benefit corporations” or “social enterprises.” In fact, the concepts of “benefit corporation” and “social enterprise” are not widely known to the Japanese at all.

This does not mean, however, that businesses with social aims are not popular or widely spread in Japan. On the contrary, Japanese for-profit business corporations have a tradition of business with social aims in at least two ways.¹ First, it is widely acknowledged that Japanese corporations have been generally adopted an employee-oriented approach² in which most corporate directors are former employees and are sometimes “regarded as representatives of all the company’s employees.”³ Second, Japanese business corporations have found great significance in contributing to society. This idea is represented, for example, in the well-known Japanese management philosophy sampo yoshi, which means “to benefit all three parties.” This word has its origin in the practices of merchants in the Edo and Meiji periods, and the three parties concerned are sellers, buyers, and society.⁴ Noticeably, according to the 2015 research initiated by the Japanese Cabinet Office (hereinafter the “2015 Cabinet Office research”) that targeted small-medium “for-profit” business corporations in the service industry (real estate, restaurants, hotels, medical service, welfare service, education, etc.), 62.5% of companies surveyed found the question of whether the main business purpose was to solve social issues rather than pursuing profits to be either “very well applicable” (17.6%) or “applicable” (44.9%).⁵

1.2 Entities Used to Engage in Businesses with Social Aims

Japanese corporations are engaging in business with social aims using both the forms of for-profit and nonprofit entities, which can be used to engage in social businesses (see Table 1). Among them, a share corporation (kabushiki gaisha), a general incorporated association (ippan shadan houjin), and an NPO corporation (NPO houjin) are likely options. Details of these entities will be explained in Sects. 3 and 4 below. In 2009, to raise awareness on social and community businesses, the Ministry of Economy, Trade and Industry (hereinafter “METI”) selected and announced 55 leading organizations engaging in business with aims to solve issues of society or community.⁶ Many of these 55 organizations are incorporated as share corporations or NPO corporations. The list of 55 included only one general incorporated association, most likely because this type of association was introduced only after the legal reform in 2006.

Table 1 Characteristics of entities used to engage in businesses with social aims

1.3 Some Data on Businesses with Social Aims in Japan

In 2008, METI published a report (hereinafter the “2008 METI report”)⁷ that defined “social business” as an organization with the following three elements: (i) its mission is to address social issues to be solved; (ii) it continuously engages in business activities to pursue the mission; and (iii) it creates new social value. This report estimated that in 2008 there were 8000 social businesses in Japan, employing 32,000 people. As to the type of legal entities, the report showed that 46.7% of Japan’s social businesses were NPO corporations and 20.5% were for-profit corporations including share corporations.⁸ According to this report, areas frequently engaged in by social businesses were “activation of the community,” counting for 60.7%, followed by “health, medication, and welfare” (24.5%), “education and development of human resources” (23.0%), “environment” (21.4%), “development of industry” (19.7%), “support of child care” (17.5%), and “support of disabilities, elderly people, and homeless” (17.5%).

The 2015 Cabinet Office research, mentioned in Sect. 1.2 above, defined “social enterprise” with criteria including: (i) it addresses social issues by engaging in business activities; (ii) the main business purpose is to solve social issues rather than pursuing profits, and less than 50% of its profit is distributed; and (iii) profit from its business activities occupy not less than 50% of its profit. This report estimated that there were approximately 200,000 social enterprises in Japan, 187,000 of which were small-medium sized for-profit corporations and 18,000 were nonprofit corporation.⁹ Although the report provided valuable data, it should be noted that the actual number of so-called “social enterprises” may likely be much smaller, considering the criteria the report adopted. In Japan, it is not rare for companies to claim that they are addressing social issues; therefore, many business companies meet first criterion above. Further, it is common for family-managed companies in Japan to pay their family member in the form of remuneration as directors and not to make any distribution; therefore, many family-managed companies meet second criterion above, even if they are not using their profit for the purpose of social aims.

This report estimated that areas frequently engaged in by social enterprises were “health, medical care, welfare” (26,000 companies), “safety of community” (25,000), “environment” (23,000), “job training and support of employment” (23,000), “cultivation of children” (20,000), and “development of communities” (19,000).

1.4 Status of Discussions on Whether to Introduce Specific Legislation for Benefit Corporations

There are two characteristics regarding the status of discussions on benefit corporations in Japan. First, as mentioned at the beginning of this chapter, the concept of the benefit corporation has not attracted strong attention from industry or from academia. While the Cabinet Office and METI have been conducting some research and there are some academic works that refer to the benefit corporations in the United States or the community interest companies in the United Kingdom, they were sporadic movement. Most recently, the Japanese cabinet mentioned “[t]he government will consider the need for a new legal system as a new form of public private partnership” referring to benefit corporations of overseas. The discussion has just begun and continued observation is needed.¹⁰

Second, METI, which seems to be continuingly interested in benefit corporations or social enterprises, appears to focus on supports and revitalizations of the local depopulated community particularly in and since its 2016 report.¹¹ This is reflected in the fact that METI often called a potential new type of entity as a “local management corporation” or “LM (local management) corporation.”

1.5 Why Has the Benefit Corporation Structure Been Largely Overlooked in Japan?

Answering the question of why the benefit corporation structure has been largely overlooked in Japan is difficult as there is very little literature or discussion on the issue. The impression of the author through conversations with legal practitioners and academics is that they are not convinced that the new structure is necessary to engage in social businesses in Japan.¹² This opinion is understandable, because in Japan, with the tradition of business with social aims and with additional options to use other nonprofit entities, companies can engage in business with social aims with little disturbance even without a formal benefit corporation structure.

Still, one might counterargue that existing entities are not perfectly suited for engaging in businesses with social aims. The rest of this chapter provides an explanation of options used to engage in social businesses in Japan, while paying special attention to potential inconvenience caused by using each entity.

2 For-Profit Corporations or Nonprofit Corporations?

Below, this paper discusses the available options for businesses with social objectives in Japan, where there are no specific legal entities for benefit corporations.

Before providing the details of each entity, this part briefly describes the difference between for-profit corporations and nonprofit corporations based on Henry Hansmann’s famous work.

The definitive characteristic of nonprofit corporations is that they are prohibited from distributing money to their members (nondistribution constraint).¹³ The nondistribution constraint limits the means of financing: nonprofit corporations cannot raise money by issuing shares to shareholders who expect to receive a distribution. This makes it difficult for nonprofit corporations to obtain sufficient funds to work on a large-scale.

At the same time, however, the fact that they are subject to the nondistribution constraint can attract customers and donors. Customers do not have to be skeptical on the reduced quality of goods or services due to the excessive distribution of the corporation’s money to members. Customers feel more comfortable that they will receive goods or services commensurate with the amount that will be paid. In the same way, donors do not have to be skeptical that the money paid will be distributed to members rather than being used to address social issues.¹⁴

The advantages and disadvantages of using for-profit corporations are the reverse of those of nonprofit corporations. That is to say, the main advantage of using for-profit corporations is that the corporation can raise money by issuing shares that enable corporations to work on a large-scale. A disadvantage of using for-profit corporations as entities to engage in businesses with social purposes is that donors and customers might feel uncomfortable about paying money to the corporation because they might be afraid that the money will be distributed to shareholders and will not be used to address social problems.¹⁵

Below, this chapter provides some details of four entities that can be used to engage in social businesses in Japan (see Table 1).¹⁶ Among them, a share corporation is a type of for-profit corporation. A general incorporated association, a public interest incorporated association, and an NPO corporation are nonprofit corporations.

3 Share Corporations Used As a Vehicle to Engage in Businesses with Social Aims

3.1 Social Enterprises Incorporated As Share Corporations

Considering that the stakeholder-oriented view has been accepted in Japan,¹⁷ one might choose to organize a social business as a share corporation (kabushiki gaisha).

One example of a business with a social mission that is incorporated as a share corporation is AsMama Inc.,¹⁸ which operates a “childcare sharing” Internet service that connects parents who require childcare and person who can provide the childcare. The company uses the revenue generated by the company’s other business (marketing support business) to operate the childcare sharing service. By doing so, the company avoids taking fees from users of the childcare sharing services. The hourly childcare fee, as little as 500 yen, is paid directly from the parents requiring childcare to the person providing the care.¹⁹

In 2015, Japan Venture Philanthropy Fund (hereinafter “JVPF”),²⁰ a fund providing financial and management support to organizations with social aims, jointly operated by Nippon Foundation²¹ and Social Investment Partners,²² invested a total of 30 million yen in AsMama Inc. via a convertible bond structure.²³ The convertible bond agreement included a characteristic provision considering the fact that AsMama Inc. is a share corporation, which, theoretically speaking, may prioritize profits over the pursuit of its social mission. The parties agreed on the convertible bond agreement which provided that the obligation to redeem the bond shall be accelerated and become immediately due, if AsMama Inc. loses its social mission.²⁴

3.2 Legal Issues When Share Corporations Engage in Social Business

When one organizes a business with social aims in the form of a share corporation, there are some important legal issues to be analyzed.

3.2.1 “Ultra Vires”? The Yahata-Seitetsu Case (1970)

The first issue is whether share corporations, which are supposed to pursue the interests of shareholders and maximize the value of shareholders, have the capacity to undertake actions that pursue social objectives rather than profit. Are these actions “ultra vires” and void?

The Yahata-Seitetsu case (1970) is one of the most famous cases on this point. Yahata-Seitetsu Corporation, a large steel manufacturing company, donated to the Liberal Democratic Party. One shareholder brought a lawsuit and claimed that making donations to a political party was beyond the corporation’s purpose.

The Japanese Supreme Court held as follows.

Yahata-Seitetsu Case (1970) [a part on ultra vires]

“A Corporation has as its primary purpose the operation of a business that earns profit. Toward that end, it should focus on those activities that directly help it accomplish the purposes described in its charter. Like humans, however, companies are social beings, constituent parts of the national and local community. With that social context comes social responsibility. Even if a given action appears to lack a connection to the purposes stated in a firm’s charter, if society expects the firm to take those actions then it has the legal capacity to do so.” ²⁵

It can be said that, in Yahata-Seitetsu case, the Supreme Court allowed companies to engage in a broad range of activities.

Attention must be paid to the fact that the Yahata-Seitetsu case involved making a “political” donation. On political donation, people tend to have diverse and even polarized ideas on whether they should donate anything, and if so, to which party. One of the reasons the shareholder brought a lawsuit in the Yahata-Seitetsu case may have been because it was a political donation. In fact, after the Yahata-Seitetsu case, there were other cases on donations and most concerned “political” donations. In one case in 1996, the Japanese Supreme Court said that a political donation made by a tax accountant association was ultra vires.²⁶

Today, at least except for political donations, it is understood that share corporations are given wide capacity and the cases would be quite rare where activities of share corporations are recognized as ultra vires in Japan.

3.2.2 Fiduciary Duty of Directors

The second legal issue, which certainly relates to the first issue, is whether a director of share corporations who prioritizes social objectives over making a profit breaches a director’s fiduciary duty.

In the Yahata-Seitetsu case (1970), the claimant shareholder, in addition to the “ultra vires” issue, claimed that the directors breached their duty as directors. However, the Supreme Court’s opinion, in saying that the directors had not breached their duty of loyalty, seemed to offer a wide range of discretion to directors.

Yahata-Seitetsu Case (1970) [a part on a director’s duty of loyalty]

“When deciding the amount and other details of a company’s potential political donation, directors should reasonably consider a wide range of matters. They should, for example, consider the company’s scale, its performance, its social and financial situation, and the identity of the potential recipient. If they donate an amount that unreasonably exceeds the appropriate scale, they breach their duty of loyalty as directors.” ²⁷

Another element gives directors of share corporations a wide range of discretion: the “business judgment rule,” which has been recognized and established through many cases in Japan. In the United States, the business judgment rule is understood as a judicial standard that protects directors’ business judgments from the strict fairness review. Although the structure of the Japanese business judgment rule is different from its U.S. counterpart, the application of the Japanese business judgment rule reduces the probability that directors will be held liable, because the criteria of the Japanese business judgment rule are quite lenient, that is, “unless the process or content of the decision-making is extremely unreasonable, a director who does this does not breach his duty of care as a prudent manager”²⁸ (underlined by the author) according to the opinion of the Supreme Court in 2010. Although this case did not concern activities with social aims, one can expect that directors would also be given a wide range of discretion in these matters as well.

3.2.3 Is It Possible to Distinguish Share Corporations Which Surely Pursue Their Social Aims from Others?

So far, we have seen that share corporations are in practice allowed to engage in businesses with social aims, at least to some extent. It should be noted, however, that it is difficult for customers or investors to distinguish share corporations which surely pursue their social aims from others. Some of the reasons are that share corporations are not required to make a disclosure as to social activities, that there is no established standard for an assessment of whether a company has achieved its social goals, and that there is no mechanism which restrict share corporations from distributing “all” its profits to shareholders.²⁹

In other words, the inconvenience when using share corporations to engage in a business with social aims is that the corporation cannot demonstrate to society, customers, or investors that it is surely committed to social aims.³⁰ Theoretically speaking, this issue can be addressed by providing provisions in specific agreements. For example, AsMama Inc.’s convertible bond agreements, mentioned in Sect. 3.1 above, included a provision that if AsMama Inc.’s business loses its social mission, the obligation to redeem the bond shall be accelerated and become immediately due. As you may notice, however, providing a specific provision is troublesome and it is not realistic for individual and small customers or investors to address the problem in this way. Therefore, if there are many customers or investors who want to buy goods from or invest in a corporation which surely commits to social aims, the introduction of new benefit-corporation-type entities seems beneficial.

4 Nonprofit Corporations Used As a Vehicle to Engage in Business with Social Aims

4.1 Overview of Types of Nonprofit Corporations in Japan

Another vehicle for engaging in business with social objectives is a nonprofit corporation. As explained in Sect. 2 above, the definitive characteristic of nonprofit corporations is that they are prohibited from distributing money to their members (nondistribution constraint). They can earn profits but are generally prohibited from distributing them.³¹

In Japan, there are various legal entities under the umbrella of nonprofit corporations. This section examines the legal structure and characteristics of three entities which can be utilized as corporations engaging in businesses with social aims: general incorporated associations, public interest incorporated associations, and NPO corporations (see Tables 1 and 2).³²

Table 2 Numbers of each type of nonprofit corporations

Two groups of nonprofit corporations exist in Japan.³³ One covers those entities incorporated under the General Corporation Act,³⁴ and the other covers entities incorporated under the NPO Corporation Act.³⁵

General incorporated associations (ippan shadan houjin) are incorporated under the General Corporation Act. When a general incorporated association applies for additional authorization under the Authorization Act³⁶ and is authorized, it becomes a public interest incorporated association (koueki shadan houjin) and obtain better tax treatment. All that is required to set up a general incorporated association is to enter it at a registry. If one wants to obtain additional authorization as a public interest incorporated association, it is required to meet strict criteria, explained in Sect. 4.3 below.

On the other hand, NPO corporations (tokutei hieiri katsudou houjin) are established under the NPO Corporation Act.

4.2 General Incorporated Associations Used As a Vehicle to Engage in Businesses with Social Aims

4.2.1 Advantages of a General Incorporated Association As a Vehicle to Engage in Social Business

A general incorporated association is a good option for incorporating business with social aims for the following reasons:

First, the activities of general incorporated associations are not subject to any restriction. As explained later in Sects. 4.3 and 4.4 below, businesses conducted by public interest incorporated associations must fall into one of the 22 designated types of businesses, and activities conducted by NPO corporations must fall into the designated 19 types of activities. For example, if a corporation plans to manage a restaurant and actively employ people with disabilities, it is not clear if the activities fall under the designated businesses or activities. To be sure, there is a type of business defined as “business to support persons having the will to work and seeking the opportunity of employment” in the Authorization Act, and there is another type of activity, “activities for supporting the development of vocational skills or the expansion of employment opportunities” in the NPO Corporation Act. However, these categories seem to be prepared mainly for job training services or employment agency services. If the restaurant pursues both business goals and the social aim of actively employing disabled people, the authorities may evaluate the company’s primary business or activity as running a restaurant, and that employing people with a disability is only an accompanying one. On the other hand, the activities of a general incorporated association are not subject to any restriction; therefore, they could incorporate their restaurant as a general incorporated association.

Second, the incorporation procedure of a general incorporated association is simple and quick. One can incorporate a general incorporated association by registering the corporation at the registry.

Third, the costs entailed in maintaining a corporation are light. While an NPO corporation requires at least ten members,³⁷ a general incorporated association only needs one. Also, general incorporated associations are not supervised or monitored by governmental authorities, while public interest incorporated associations and NPO corporations are under the supervision by governmental agency or competent authority. While monitoring and supervision might improve the governance and the transparency of the corporations, they might become burden to the corporation. To avoid cumbersome disclosure and monitoring, some may choose entities without supervision.

4.2.2 Possible Inconvenience of a General Incorporated Association

There is at least one inconvenience in using a general incorporated association as a vehicle to engage in social business.

General incorporated associations are prohibited from distributing money to members while they continue to exist. Also, they cannot provide in the articles of incorporation that the money left will be distributed to members. There is, however, a way to make distribution to its members. When they dissolve, they are allowed to distribute any remaining money to members with the resolution at a members meeting.³⁸ It is possible to have a provision in the articles of incorporation that the money left will be, for example, donated to meet a social purpose. The articles of incorporation, however, can be freely modified with the approval of a members meeting anytime.

The reason the General Corporation Act adopted the rule, which allows general incorporated associations to make distribution when they dissolve, is that, as the types of activities of general incorporated associations are not restricted, the scheme can also be utilized by mutual benefit associations, such as university alumni. Therefore, the distribution of any money left is allowed for general incorporated associations.

This rule might make donors or customers of general incorporated associations feel uncomfortable. As explained in Sect. 2 above, the advantage of a nonprofit corporation is that it is subject to the nondistribution constraint which might attract customers and donors. In the case of the restaurant mentioned above, customers who would like to support a socially minded business might choose the restaurant because they believe that at least some part of their money will be paid as remuneration to people with disabilities. However, due to the rule that allows it to distribute money to its members when it dissolves, customers cannot be confident that the money they pay will provide this type of support, and the restaurant might not be able to attract these customers. This fact might reduce the attractiveness of general incorporated associations as a vehicle for running a social business.

4.3 Public Interest Incorporated Associations Used As a Vehicle to Engage in Businesses with Social Aims

A public interest incorporated association is a type of “fully-equipped” nonprofit corporation, and once authorized as a public interest incorporated association, it receives tax benefits, including those offered to donors and to the corporation itself. At the same time, and perhaps because they get tax benefits, the criteria for obtaining public interest incorporated association status are demanding, and after they are authorized, they must keep meeting those strict criteria.

First, the principal objective must be operating the “business for public interest purposes,” and the businesses must fall into any of the 22 categories of businesses listed in the Authorization Act.³⁹ For example, the Japanese Soroban Association, which conducts soroban qualification exams and provides education to soroban instructors,⁴⁰ is a public interest incorporated association, and its “business for public interest purposes” falls into the “education and sports” category. Second, with respect to the “business for public interest purposes,” the revenue is expected to not exceed the amount compensating the reasonable costs of its operations.⁴¹ Third, the costs of implementing the “business for public interest purposes” is expected to exceed 50% of the total cost.⁴²

After general incorporated associations are successfully authorized as public interest incorporated associations, they must keep meeting the criteria above and must submit detailed documents demonstrating that they meet the criteria every year to the governmental agency that continually monitor the association.

Considering these burdensome requirements, at least for those engaged in medium to small size businesses, a public interest incorporated association is not the best option for engaging in businesses with social aims.

4.4 NPO Corporations Used As a Vehicle to Engage in Businesses with Social Aims

The system of NPO corporations is well known, because the NPO Act was enacted in 1998, long before the General Corporation Act and the Authorization Act was enacted in 2006.

To organize an NPO corporation, it is necessary to obtain authentication by the competent authority. It is said that obtaining the authentication is not difficult.⁴³ After a corporation obtains authentication, the authority keeps supervising the NPO corporation. To obtain authentication, a corporation must meet the requirements including that the primary purpose of the corporation is to engage in nonprofit activities that fall in any of the 19 categories specified in the NPO Corporation Act.⁴⁴ For example, Coaches⁴⁵ is an NPO corporation that provides physical exercises to elderly people to maintain their health, and according to its articles of incorporation, its activities fall into several categories including “activities for enhancing healthcare, medical care, and welfare.”

One advantage for a business with social objectives to organize as an NPO corporation rather than a share corporation or general incorporated association is that NPO corporations can demonstrate that they are perpetually committed to their stated specific social purposes. It is important to note that the purposes of share corporations and general incorporated associations included in the articles of incorporations can be modified only by a shareholders/members meeting. Share corporations and general incorporated associations therefore cannot guarantee that they will perpetually pursue their stated specific social aims. In contrast, an NPO corporation cannot change its purposes without the authentication by the competent authority,⁴⁶ and it is therefore unlikely that its purposes will change significantly.

The NPO corporations, however, are not perfectly suited for engaging in businesses with social aims. To obtain the authentication as an NPO corporation, the activities must fall in any of the 19 categories specified in the NPO Corporation Act. Also, as with other nonprofit corporations, the NPO corporations are subject to the nondistribution constraint. Therefore, they cannot get funding through issuing shares, and this makes it difficult for them to obtain sufficient funds to work on a large-scale.⁴⁷

5 Conclusions and Agendas for the Future

In Japan, there is no specific legislation for “benefit corporations” or “social enterprises,” and the concepts of those entities are not necessarily widely known. This does not mean, however, that Japanese industry and society do not accept the idea of businesses with social aims or that there are few businesses with social objectives in Japan. On the contrary, Japanese for-profit corporations have a tradition of conducting business with social aims, and there are various nonprofit corporation schemes that can be used when one incorporates businesses with social aims. The leading candidates as an entity are share corporations, general incorporated associations, and NPO corporations. As a result, companies can engage in business with social aims with little disturbance even without a formal benefit corporation structure. In the author’s view, the reasons why the idea of “benefit corporation” does not receive much focus include that existing entities are succeeding in their efforts to engage in social business at least to a certain extent, and that the necessity of the new structure has not been necessarily recognized.

At the same time, as explained in this chapter, existing entities are not perfectly suited for engaging in businesses with social aims. It is difficult for a share corporation to demonstrate that it is surely committed to social aims to its customers and investors. Nonprofit corporations cannot get funding through issuing shares, and this makes it difficult for them to obtain sufficient funds to work on a large-scale.

Continued observation is needed on whether these businesses will grow by using existing entities or new specific legal infrastructures will be introduced in the future.