Litigate or arbitrate?

What to do when business marriages go bad between foreign companies and Japanese partners

Text by David McNeill

It all seems a long time ago. In 2011, Michael Woodford, the first non-Japanese president and CEO of Olympus, triggered a scandal that eventually revealed a $1.7 billion accounting hole at the company. The revelation toppled Olympus’s top executives and wiped 75% off its share price. The ripples fan out still.

Last December, a group of more than 60 offshore institutional investors won ¥4 billion in damages from Olympus for losses sustained in the scandal and subsequent share-price collapse. Before that, in 2015, another group of Olympus investors were awarded ¥11 billion. Those settlements, however, were reached in very different ways.

DRRT, the US-based securities litigation firm that handled the 2015 deal opted for arbitration in a bid to avoid a drawn-out legal dispute. The group whose case concluded in December chose to be represented by Atsumi & Sakai, a Tokyo law firm that fought for them in the courts, eventually settling in the Tokyo District Court. The results crystalise a key issue for many companies: whether to litigate or arbitrate.

Falling out in business is messy and expensive. Multimillion-dollar spats between investors and companies — often across borders — or between firms and states, are on the rise. All sides are increasingly trying to hedge risks by drafting dispute avoidance clauses. These agreements set up mechanisms for solving problems before they reach the “divorce” courts.

Commercial arbitration can be faster, cheaper and more private than warring in a courtroom. Among the most popular providers of arbitration services is the International Chamber of Commerce in Paris. And arbitration in Singapore and Hong Kong has proven to be a lucrative business. By contrast, the Japan Commercial Arbitration Association handles just 15 to 25 new cases a year. Japanese lawyers don’t even take arbitration on the bar exam, says Michael Mroczek of Okuno & Partners, a Tokyo law firm. In Europe, it is standard.

“Japan is really behind the eight-ball,” states Bonnie L Dixon, a partner at Atsumi & Sakai. “It has no real history of arbitration.” For years, she points out, foreign lawyers were not allowed to represent clients in local disputes with Japanese companies. “No foreign lawyer was going to recommend use of Japanese commercial arbitration rules; they went to Singapore, Hong Kong or Paris.”

Globalisation has forced changes. It has been a bumper few years for outbound mergers and acquisitions by Japanese companies, bringing plenty of work for contract lawyers — and the potential for painful breakups. Last year, for example, Suzuki Motor Corporation paid undisclosed damages to Germany’s Volkswagen AG to dissolve their partnership via arbitration.

Many of Japan’s blue-chip giants, including Toshiba and Mitsubishi, are already involved in potentially costly cross-border litigation. Mitsubishi and Mitsui are among foreign investors suing the Spanish government for allegedly reneging on investment terms concerning the country’s push for green energy. The 2019 Rugby World Cup and the Tokyo Olympic and Paralympic Games the following year will also bring thousands of tie-ups and licensing deals.

“We view cross-border litigation as a growing field,” concludes Dixon. Many Japan-based firms, including her own, are beefing up their arbitration departments. Even in cases involving foreign probes into cartels or malpractice — such as the massive US recall of airbags made by Japanese company Takata — lawyers in Tokyo are being called in to help with subpoenas and complex legal claims.

“When disputes arise, there are good reasons to avoid the courts,” says Mroczek. “I believe there is a lot of potential [for arbitration] in Japan.”

Japanese companies don’t like to wash their dirty linen in public, and arbitration agreements often include confidentiality clauses, he adds.

The language can be stipulated in advance, avoiding the need to translate reams of documents into Japanese. Arbitral discussions are often more focused, too, while complex court cases in Japan can drag on for months, or even years.

Still, warns Mroczek, arbitration is not always the cheapest option — 85% of arbitration costs are lawyers’ fees. The choice of arbitrator is also important.

“Depending on the case, it could be a professor, a lawyer — perhaps an architect in disputes involving construction, for example,” notes Mroczek. And all resolutions depend on a contractual foundation, so “you have to have arbitration clauses in business contracts.”

That lesson — building in protections before the fur starts flying — is being learned in Japan, says Nicholas Lingard, head of international arbitration for Asia at the law firm Freshfields Bruckhaus Deringer.

“Japanese companies are waking up to their rights under investment protection treaties,” he says. And, increasingly, his firm is being asked for counseling by Japanese companies doing foreign deals: “How do you set up for dispute avoidance? What dispute recognition do we need? — that sort of thing.”

This demand will grow. Had it come to fruition, the Trans-Pacific Partnership (TPP) deal — a giant US-led free trade pact that Japan saw as key to countering China’s growing economic clout — would have changed the business and legal landscape between Japan and the rest of the world, says Lingard. “We had done a lot of work with Japan’s Ministry of Foreign Affairs on TPP — on how to protect investors in Japan and the US.”

President Donald Trump has killed off the deal, but an era of complex bilateral negotiations looms.

Japan’s corporate governance revolution — partly inspired by the Olympus scandal — will also lead to more demand for services in litigation and arbitration, predicts Dixon. Since the government introduced a corporate governance code in 2015, over 2,000 firms listed on the Tokyo Stock Exchange say they are mostly in compliance — having fulfilled requirements such as disclosing cross-shareholding, and having two or more outside directors on the board. That brings more international scrutiny into the once opaque activities of Japanese boardrooms.

“People are focused on this in a way they weren’t 10 years ago,” says Dixon.  •