M&A 101: What antitrust law means for mergers and acquisitions
This article is one in a four part series on Mergers and Acquisitions from PitchBook.
Paul Jin is a partner in Goodwin’s Antitrust + Competition practice. His antitrust expertise covers a broad spectrum of commercial transactions. His practice focuses on assessing transaction-related antitrust risk, negotiating terms of agreements, determining the applicability of merger clearance filing requirements in US and foreign jurisdictions, and advocating on behalf of clients before the FTC and DOJ in connection with informal inquiries, Second Requests, third-party subpoenas and conduct investigations.
We caught up with Jin to learn more about the basics of antitrust law for the third installment of PitchBook’s M&A 101 series. The interview below is edited for length and clarity.
PitchBook: We generally speak in generic terms like “antitrust” or “competition” laws in the US. But which statutes and institutions are actually involved in antitrust law?
Jin: The three main federal antitrust laws are the Sherman Antitrust Act, the Clayton Antitrust Act of 1914 and the Federal Trade Commission Act of 1914. The Sherman Act was enacted in 1890 and still remains the main statute that governs anticompetitive practices. The Clayton Act was subsequently enacted to bolster the antitrust regime by reaching potentially anti-competitive practices in their “incipiency,” perhaps most notably mergers and acquisitions. The Federal Trade Commission Act created the Federal Trade Commission and prohibits “unfair methods of competition” and “unfair or deceptive acts or practices.” These statutes have been amended over the years—most notably by the Hart-Scott-Rodino (HSR) Antitrust Improvements Act of 1976, which instituted a pre-merger notification system, and by the Robinson-Patman Act, which regulates certain pricing practices—and have a robust history of judicial interpretation. Each state also has similar antitrust or unfair practices statutes, although most will mirror the federal laws.
The FTC and the Antitrust Division of the Department of Justice (together referred to as the “Agencies”) are tasked with enforcing the US antitrust laws. This includes reviewing mergers and acquisitions, and the Agencies can bring suit in courts to enjoin illegal conduct, including suits to block transactions. The US statutes grant standing to private persons as well.
What kinds of business practices can come under scrutiny when a particular M&A transaction is reviewed?
The main antitrust issue during the review of an M&A transaction is whether the acquisition will substantially lessen competition. Since the antitrust laws include M&A activity in the scope of potentially anticompetitive conduct, a transaction can be banned just as, for example, two companies agreeing to fix prices would be prohibited. The HSR Act was designed to give the Agencies the ability to review certain mergers before they are completed, and it imposes procedural requirements that parties are required to follow before closing on those transactions. Importantly, the antitrust laws are not limited to pending mergers (even closed transactions can be deemed illegal and thus unwound), and mergers and acquisitions that are not subject to the HSR review process, or even ones that have been cleared during the process, can still be investigated or even declared illegal later.
At the risk of oversimplification, the Agencies will analyze how competition in the marketplace will change as a result of a transaction. Will the combined entity have market power? Can it sustain price increases? Can it slow innovation? How will other competitors react? How will consumers be harmed?
In addition to the substantive review of a transaction, the antitrust laws touch upon the submission of materials to the government, govern the timing of transactions and regulate the level of activity between parties during a transaction. This latter prong can be particularly problematic. Merging parties—especially if they are competitors—need to be careful about what information is shared during the diligence and integration planning phases of a transaction, as well as the amount of influence one company has on the other (for example, prohibitions the buyer may have on the seller’s ordinary course of business).
While the antitrust laws certainly understand that increased coordination during M&A activity is necessary and beneficial, this doesn’t mean that parties can coordinate all their behavior under the guise of a pending merger. Perceived violations can result in long and costly investigations, consent decrees that stipulate future conduct, monetary fines and even criminal sanctions. For example, failing to submit a required HSR notification form can lead to fines; transactions under HSR review are subject to waiting periods during which the parties cannot close; and egregious coordination, such as agreeing on what prices to charge customers, during integration activities can lead to prison sentences.
Note that during a review of a merger investigation, the Agencies can compel and will receive documents from the parties. Documents that bring to light non-merger related conduct that is prohibited under the antitrust laws can result in separate investigations and penalties.
A number of deals lately have thrust horizontal as opposed to vertical mergers into the headlines. Why have the former historically been more difficult to secure approval for, and why have latter proven easier? Why have vertical mergers come under greater scrutiny in the past few years?
In short, potential anticompetitive results are more obviously anticipated and detected in a horizontal merger between two competitors, where the “loss” of competition is direct, and pro-competitive efficiencies are more conceptualized and perhaps measurable in vertical transactions. Many of the theories of harm relating to vertical deals require a finding of market power, which is rare relative to situations where two competitors could combine to create a single entity with market power or eliminate a close competitor. Thus, vertical transactions have received less antitrust scrutiny over the years.
When reviewing a transaction, the Agencies can seek to resolve competitive concerns through structural remedies (for example, requiring divestitures of product lines or business units) or behavioral remedies (such as requiring companies to continue to do business with certain customers). One reason that vertical transactions may face more roadblocks now is that the current administration, especially the DOJ, has signaled a skepticism of behavioral remedies. In the last several years, the DOJ used behavioral remedies to allow vertical transactions to close. However, last year the DOJ signaled that behavioral remedies are disfavored because they often seek to supplant dynamic market processes and are difficult to enforce.
Now, any concerns that arise in a vertical transaction are more likely to be addressed with structural remedies. This results in the Agencies requiring stricter concessions in order to clear a transaction, which offers increasingly difficult decisions for merging parties, who now more often will face a decision to litigate against the government or abandon the transaction. The DOJ’s recent challenge of the AT&T-Time Warner transaction is evidence of the new approach; many antitrust experts believe the transaction would have cleared with minor behavioral remedies in the previous administration (similar to what happened in the Comcast/NBCU merger). If the Agencies maintain this trend, this is a significant change for companies considering vertical deals.
Getting a bit more into the weeds here: How is market concentration calculated, and how heavily does something like an HHI measurement factor into the review of a deal?
The determination of market concentration can be complicated. It’s not as simple as asking who else competes with a similar product, but a good starting place is to look at the parties’ revenues in overlapping product markets, and estimate the revenues for competitors as well as the overall market. One can already see how this can present an incomplete picture. What about alternative technologies? In-house capabilities? Potential entrants?
Also, there is no magic number for when a combined entity’s shares become problematic. Like many things in antitrust, the analysis depends on many factors. Certain industries can remain competitive with fewer players that have high shares, while others may require more fragmentation. The Herfindahl-Hirschman Index (HHI), which offers a mathematical formula to assess concentration, is one commonly cited measurement and can offer a starting place, but it’s not an end-all, and the Agencies are sophisticated enough to know that. To be sure, high market shares or HHI figures will often portend a deeper investigation by the government, but there’s more to the picture. Merging parties should be counseled to formulate—and document—an accurate picture of competitive dynamics, as well as benefits to consumers and efficiencies that will arise from a transaction.
What single factor more than any other will keep a transaction from securing antitrust clearance?
Companies should seek to understand how their customers will view a potential transaction. Favorable customer views may help on the margins, but negative reactions will almost certainly raise concerns at the Agencies, and cause deeper investigations and increase the likelihood of a challenge. Merging parties will face an uphill battle if customers are largely complaining about the transaction. This applies to consummated deals as well. Last year, the DOJ brought suit against Parker Hannifin after it had acquired CLARCOR. The parties had notified the government, observed the statutory waiting period and closed after the Agencies expressed no concerns with the transaction. Reportedly, customers of the parties complained, which initiated the DOJ’s investigation.
Due to the weight given to customers by the Agencies, companies should be aware that customers may use such leverage to gain concessions from the merging parties.
Another oft-cited factor in merger challenges is the existence of “bad documents”—for example, documents that say the merger will take away the only competitor or result in significant price increases. Companies will do well to maintain good document creation policies, especially during the consideration of a transaction.
Read the article at PitchBook here.
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