METI TO REVIEW SECURITY CRITERIA FOR FDI

UNCLAS SECTION 01 OF 03 TOKYO 000454

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E.O. 12958: N/A
TAGS: EINV ECON PARM JA
SUBJECT: METI TO REVIEW SECURITY CRITERIA FOR FDI


SENSITIVE BUT UNCLASSIFIED - PROTECT ACCORDINGLY


1. (SBU) SUMMARY: The Ministry of Economy, Trade and Industry (METI)
has established an outside study group to recommend possible
revisions to the law that governs those sectors in which foreign
direct investment (FDI) requires prior government notification and
approval. The study group's ideas will feed into METI
recommendations to the Ministry of Finance (MOF) regarding possible
future amendments to the law. The announcement of the study group
coincided with the issuance of a report by the Japan Business
Federation (Keidanren) calling for changes to Japan's existing M&A
legislation, including, inter alia, stricter review of proposed M&A
transactions on national security grounds. METI officials insist
the timing of the two announcements is coincidental. The
composition of the study group is sufficiently broad that we do not
believe it will recommend significant tightening of Japan's current
FDI rules. End Summary.

Study Group to Examine Rules Governing M&A Deals
-------------- ---


2. (U) On December 19, 2006, METI announced the formation of a
"Study Group on the International Investment Climate in a Globalized
Economy." The ministry's instructions to the 20-member panel were
to review the Foreign Exchange and Foreign Trade Control Law, (FEL)
from the viewpoint both of protecting technologies important to
national security as well as "clarifying problems with measures to
improve corporate value (i.e. M&A),while maintaining an equitable
international investment climate."


3. (U) Under Articles 26 and 27 of the FEL, foreign direct
investment - defined as acquisition of more than 10 percent of a
firm's listed stock by a foreign investor - in certain sectors
requires prior notification to the Minister of Finance and the
minister in charge of the specific industry. The ministers have
thirty days (extendable) to review the proposed transaction after
which they may approve, reject, or recommend changes to the deal.
The sectors in which FDI is subject to prior notification are:
aircraft manufacturing, nuclear power, lethal weaponry and
gunpowder, spacecraft and rocketry, electricity generation,
distribution of gas, heat or water, communications, broadcasting,
railroads, passenger transport, biological chemicals, guard
services, oil, leather, and air/maritime transport.


4. (SBU) The government has not updated the criteria governing the
notification process or the list of covered sectors since 1991,
although in that time there has been significant liberalization of
Japan's FDI regime. METI officials in the Trade Finance and
Economic Cooperation Bureau, which is overseeing the study group's
work, told us that Ministry officials want to be sure that the
coverage of Article 27 keeps pace with changes to Japan's FDI regime
and changes in the global security environment (e.g. development of
new technologies and materials and increasing concerns about
proliferation.) A January 4 Sankei newspaper article on the
formation of the study group described it as part of an effort to
prevent proliferation of technology that could be used in production
of WMD and linked the group's mandate to Japan's efforts to improve
its counter-terrorism laws.

No Weakening of Japan's Welcome to Inward FDI
--------------


5. (SBU) The minutes of the study group's first meeting in December
reflect some of these concerns, especially the worry that new
commercial technologies, especially those with dual-use
applications, could be outpacing Japan's regulatory regime. Some
members expressed concern about potential diversion of such
commercial technologies to military use and thought the government
needed to develop a regulatory system that reflected both the high

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level of Japanese technology and the increasing amount of inward
FDI. Other participants noted the growing use of "holding
companies" for investment purposes which made it difficult to
identify the party that has effective control over the investment.
METI officials also noted the concerns were not about investment
from Japan's close partners such as the United States but that some
business sectors worried that increased inward M&A by Chinese
companies could, over time, result in a drain of sensitive
technology.


6. (SBU) At the same time, according to the minutes, members of the
study group in their discussion emphasized the importance of
maintaining an open investment climate and the growing contribution
of FDI to Japan's economic growth. Others noted that FDI growth
last year had been below expectations so it was important that the
study group and the government avoid giving the impression that
Japan is turning its back on international investment flows. Other
members called for clarity in the regulations noting that
uncertainty about whether a particular sector was covered would by
itself have a discouraging effect on investment.


7. (SBU) METI officials as well as the chairman of the study group,
Waseda University Graduate School Professor Dr Shujiro Urata,
emphasized to us that the group's mandate did not signal a reversal
of the government's pro-FDI policies. A look at the composition of
the study group does not indicate any obvious protectionist bias in
the membership. Of the 20 members, eight are professors from
prominent economic or business faculties. Two others are lawyers
who are active in M&A deals. The remaining ten are business
executives from "blue-chip" firms as Mitsubishi Heavy Industries,
Canon, Toyota and JFE Steel Corporation including executives from
Sumitomo and Mitsubishi trading companies. METI officials involved
in selecting the study group's members told us they included
companies that both "like and dislike METI's regulatory regime."


8. (SBU) The Committee has already met twice and Urata expected it
would meet twice more before submitting an interim report to METI
Directors General of Trade and Economic Cooperation and Economic and
Industrial Policy in April this year. The group's report will
provide input into METI's formal recommendations to MOF on whether
and how to amend the FEL. If the cabinet agrees amendments are
needed, the earliest it could submit draft legislation to the Diet
would be during the 2008 regular session (January-July 2008).

No Connection to Keidanren's Recommendations
--------------


9. (U) The announcement of the study group coincided almost exactly
with the release by Keidanren of a report calling for further
amendments to Japan's M&A legislation. Among its recommendations,
Keidanren expressed concern over the "threat to Japan's economic
foundation or damage to national security from the outflow of
technology." It called for a review of the FEL to consider possible
changes to prior notification requirements and the expansion of the
scope of production and technologies subject to regulation, and
establishment of a process similar to that in the United States'
CFIUS process. Keidanren used similar arguments about the threat to
Japanese high technology firms in its recent public campaign for
strict rules to govern the triangular merger mechanism ostensibly
designed to facilitate M&A through cross-border stock swaps.


10. (SBU) Despite the coincidence of timing, METI officials
insisted that the study group was not a response to the Keidanren
report. In fact, they said, the establishment of the study group
had been planned since early 2006 in expectation of the
liberalization of M&A rules and full implementation of Japan's new
Company Law in May 2007. The officials opined that Article 27 and
its implementing regulations do not reflect changing geopolitical
circumstances in the region including changes in technology and the

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rapid emergence of the East Asia region not only as a destination
but also as a source of FDI.

SCHIEFFER