AAG Christine Varney appeared today before the Judiciary Committee to speak about the McCarran-Ferguson exemption to the antitrust laws. The exemption benefits the insurance industry and permits anticompetitive conduct short of boycott, coercion, or intimidation, such as price fixing and market allocations, within the “business of insurance” if it is regulated (however imperfectly) by state law. Varney’s prepared remarks are up on the DOJ webpage. Here are some quotes:

The Department is generally opposed to exemptions from the antitrust laws, whether they be industry-specific or general, in the absence of a strong showing of a compelling need. The antitrust laws reflect our society’s belief that competition enhances consumer welfare and promotes our economic and political freedoms. Exceptions from that policy should be–and fortunately are–relatively rare. Those who advocate the creation of a new antitrust exemption, or the preservation of a longstanding exemption such as that contained in the McCarran-Ferguson Act, rightfully bear a heavy burden in justifying the exemption.

…

There are strong indications that possible justifications for the broad insurance antitrust exemption in the McCarran-Ferguson Act when it was enacted in 1945 are no longer valid today. To the extent that the exemption was designed to enable the states to continue to regulate the business of insurance, it is no longer necessary. The “state action” defense, which had been announced by the Supreme Court in Parker v. Brown in 1943, but was undeveloped in 1945 when the McCarran-Ferguson Act was enacted, has now been the subject of many Supreme Court opinions. This defense allows a state effectively to immunize what the antitrust laws otherwise may proscribe by clearly articulating and affirmatively expressing a policy to displace competition, and by actively supervising any private conduct that might be involved.

Moreover, the application of the antitrust laws to potentially procompetitive collective activity has become far more sophisticated during the 62 years since the McCarran-Ferguson Act was enacted. Some forms of joint activity that might have been prohibited under earlier, more restrictive doctrines are now clearly permissible, or at very least analyzed under a rule of reason that takes appropriate account of the circumstances and efficient operation of a particular industry. Thus, there is far less reason for concern that overly restrictive antitrust rulings would impair the insurance industry’s efficiency.

In sum, the Department of Justice generally supports the idea of repealing antitrust exemptions. However, we take no position as to how and when Congress should address this issue. In conjunction with the Administration’s efforts to strengthen insurance regulation and states’ role in setting and enforcing policies, the Department supports efforts to bring more competition to the health insurance marketplace that lower costs, expand choice, and improve quality for families, businesses, and government. …

Those points are all well-taken but one wishes the Department could have brought itself to not only “generally” support the repeal of antitrust exemptions, but to specifically recommend the repeal of McCarran-Ferguson, which is one of the broadest exemptions to federal antitrust laws on the books.

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Today at the Georgetown Law Global Antitrust Enforcement Symposium, the Chair of the Federal Trade Commission, Jon Leibowitz, announced that DOJ’s Antitrust Division and the FTC will undertake a revision of the 1992 Merger Guidelines. A series of workshops is scheduled to determine whether the Guidelines need revision, and what the revisions should be. The joint press release is here and here.  Leibowitz, in his remarks introducing Philip Low of the EU Commission’s DG Comp, listed who at DOJ and FTC will spearhead the initiative:

From the FTC side we have Rich Feinstein, Director of the Bureau of Competition, Joe Farrell, Director of the Bureau of Economics, and Howard Shelanski, Deputy Director for Antitrust in the Bureau of Economics. … From the Antitrust Division we have Deputy Assistant Attorneys General Molly Boast, Carl Shapiro, and Phil Weiser.

Also at the Symposium, AAG Christine Varney delivered remarks during lunch. She said that efforts will be focused on three areas: market definition (including, for example, the issue whether the Guidelines need to be revised to make clear that the location of customers is the relevant consideration for determining geographic market), market concentration, and competitive effect. On market concentration, Varney pointed out that the disparity between the Guidelines’ HHI thresholds and agency practice leads to confusion, a lack of predictability, and vitiates the agencies broader goal of transparency. (Varney’s speech at the International Bar Association’s meeting on transparency and procedural fairness is here.) Varney also said that, unless the workshops and public comments tell the agencies otherwise, the plan is to leave the basic structure of the Guidelines in place, for instance the hypothetical-monopolist test or the three-part test for market entry. The text of the Varney’s speech has already been posted on the DOJ webpage.

In response to a question by Jim Rill (under whose leadership the 1992 Guidelines were issued), Varney said that “market definition is here to stay.” The question is pertinent since both Carl Shapiro and Joseph Farrell appeared as panelists at the Symposium. Shapiro in particular spoke to the “upward price pressure” test he and Farrel have developed to permit a direct inquiry into competitive effects without (upfront) market definition in unilateral effects cases in differentiated products markets. Bob Willig, always a treat to listen to at events, described UPP as a “beautiful idea” that may be the next big thing, and even suggested considering it in coordinated effects cases (which surprised me). He also voiced the concern that if UPP were to be used by the agencies to assess mergers, the parties would need to be prepared to conduct analyses early on, such as diversion analysis, natural experiments, and economic regressions, before a Second Request would issue. But given Varney’s comment and the fact that the FTC got chided by Judge Brown in Whole Foods for not treating market definition as the central and foremost issue (when the FTC finally made unilateral effects arguments on appeal), I doubt UPP will be more than a wrinkle in merger analysis even during Shapiro’s tenure at the DOJ.

But there is definitely movement. The question of the market definition’s centrality also came up in Varney’s remarks on the upcoming Guidelines workshops. Varney said that three areas of competitive effects would be of particular interest: unilateral effects in differentiated-products markets (not surprising, since unilateral effects are given a bare-bones treatment in the Guidelines), price discrimination to vulnerable customers, and finally “more direct types of evidence” to consider. On the last point, Varney said:

Third, we are interested in your views on the use of more direct evidence that is not strictly based on inferences drawn from increases in market concentration. There are several categories of such evidence worth exploring: (1) evidence of the actual, post-merger competitive effects of consummated mergers, (2) evidence of “natural experiments” obtained by looking across different geographic markets, time periods, customer categories, or similar product markets; (3) evidence of the firms’ post-merger plans; (4) evidence of customer views of post-merger competition; (5) historical evidence of actual head-to-head competition between the merging firms; and (6) historical evidence of actual or attempted coordination in the industry. Although the Agencies routinely rely heavily on these kinds of evidence to assess competitive effects, the Guidelines address their relevance only in passing and only secondarily, after the relevant market is defined and concentration in that market is measured. Courts also regularly rely on this type of evidence in assessing competitive effects. We are interested in views on whether we should adjust the Guidelines to address explicitly what kinds of direct evidence are pertinent and how they should be weighed.

Notice that UPP is absent from the list.

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One of the effects of the Supreme Court’s recent LinkLine decision was to extend the reach of Trinko. Trinko dealt with the relation of regulation (in the telecomm industry) and antitrust. The decision proceeded in three steps:

1. The 1996 Telecommunications Act declares the antitrust laws to be applicable.
2. The claim in Trinko, which concerned non-price terms in the resale of telecomm services under a duty to deal flowing from the 1996 Act, was a novel claim that would have extended the reach of the antitrust laws (specifically §2 Sherman Act).
3. Because of the dangers of false positives inherent in antitrust enforcement, and because of the presence of an regulatory scheme designed to prevent and sanction antitrust violations, §2 should not be extended to reach the claims in Trinko, absent an antitrust duty to deal.

The Ninth Circuit, in its Linkline decision, which was overruled by the Supreme Court, used this structure of the Trinko decision to argue that Trinko should not preclude Linkline’s price-squeeze claim, since the price squeeze was not an extension of the antitrust laws (having been established since Alcoa), and because the regulatory scheme in Linkline did not (effectively) address antitrust violations.

But in the opinion of the court in Linkline, Chief Justice Roberts writes that Trinko

… makes clear that if a firm has no antitrust duty to deal with its competitors at wholesale, it certainly has no duty to deal under terms and conditions that the rivals find commercially advantageous. … The nub of the complaint in both Trinko and [Linkline] are identical—the plaintiffs alleged that the defendants (upstream monopolists) abused their power in the wholesale market to prevent rival firms from competing effectively in the retail market. Trinko holds that such claims are not cognizable under the Sherman Act in the absence of an antitrust duty to deal.

This re-interpretation extends Trinko in significant ways. First, the specific application to the telecommunications industry and its regulatory scheme is gone; Trinko á la Linkline is broadly applicable to any vertically-integrated upstream monopolist. Second, the holding is no longer confined to an extension of the antitrust laws, but reaches all of §2 (hence the possibility of a slippery slope, as Hanno pointed out). Finally, the prensence and effectiveness of a regulatory scheme, which provides a regulatory duty to deal and which may or may not address abuses of market power, has been taken out of the equation: the only thing that matters now is the absence of an antitrust duty to deal. And we know from Trinko that antitrust duties to deal probably don’t exist except perhaps under Aspen Skiing, that is in the case of prior business relationships discontinued for no good reason other than exclusion of a rival.

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In a new amendment to Korea’s Monopoly Regulation and Fair Trade Law, Korea will abolish the 30-day waiting period that previously applied to pre-closing merger notification. While the parties may therefore file as soon or late after the triggering event (such as the signing of a definitive agreement) as they like, the reportable transaction may not close before it is cleared by the the KFTC. The amendments will go in effect in about 3 months.

HT to Kim & Chang.

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As the NY Times reported last week, the Treasury Department has agreed to take a 30 to 40 percent stake in Citigroup; the acquired securities will be voting common stock. Following up on my recent posts about HSR reportability, Jon Baker  raised this interesting question:

If the US Government owns a substantial equity stake in one bank and then acquires a substantial equity stake in a competing bank, would it have to file HSR notification (assuming that a private firm in the same situtaiton would be required to file)?

Let me start by saying that the fact of a substantive overlap (a stake in another bank is already held by the acquiror), does not affect HSR reportability, which turns solely on whether there has been an acquisition (of sufficient size) between persons (of sufficient size), to which no exemptions apply. HSR reportability uses formal criteria that are linked only indirectly to the question under Section 7: will the acquisition substantially lessen competition?

So, what are the exemptions that apply to acquisitions of voting securities by governments? There are three:

The first, §7A(c)(4), exempts “transfers to or from a Federal agency or a state or political subdivision thereof.” If the Treasury Department, which is officially an “executive agency” of the U.S., will acquire the voting securities directly, the acquisition is exempt from HSR reportability. That is the easy part of the answer about the federal bank bailout.

The second exemption is buried in the Rules’ definition of “entity.” Rule 801.1(a)(2) defines “entity” as just about everything,

Provided, however, That the term “entity” shall not include any foreign state, foreign government, or agency thereof (other than a corporation engaged in commerce), nor the United States, any of the States thereof, or any political subdivision or agency of either (other than a corporation engaged in commerce).

It’s a backward way of exempting acquisitions by governments, states, or the US: If the entity whose assets or voting securities are being acquired, or who is acquiring assets or voting securities, isn’t an “entity,” then whoever ultimately controls the non-entity can’t be a person. (Person means the ultimate parent entity and all entities which it controls directly or indirectly, 801.1(a)(1); more on this in my HSR Primer posts.) No entity, no acquiring or acquired person, no acquisition, no filing obligation.

The definition in 801.1(a)(2) raises a few questions, some of which have come up in the FTC’s informal interpretations. What exactly are “political subdivisions or agencies of either” the U.S. or the States? Are agencies of subdivisions of States, such as the agency of a municipality, not “entities”? What about multistate agencies, such as the Port Authority of New York and New Jersey? The correct answer is that the exemption should apply, as Axinn, Fogg, Stoll, Prager, Nisa point out in §6.09[4] of their treatise.

The question that is harder to answer is what “engaged in commerce” means. (Note the drafting oversight that restricts the exception from the exemption to corporations – a State-owned LLC or other unincorporated entity engaged in commerce is not an “entity,” a State-owned corporation engaged in commerce is.) Engaged in “commerce” must mean something other than interstate commerce, which is defined in 801.1(l), with reference to the statutory jurisdictional grants under the Commerce Clause. The definition of “entity” in the Rules, however, distinguishes between governmental and commercial activities. The first example that springs to mind here at The Antitrust Review is the Hofbräuhaus in Munich, which is owned by the State of Bavaria (did you know that brewing wheat beer or “Weissbier” was a ducal privilege and that the Hofbräuhaus held the monopoly on brewing it for over 200 years? Antitrust is everywhere). The subtext behind the definition of “commercial” for purposes of exempting government corporations from HSR reportability should be the state-action doctrine, as formulated in Parker v. Brown and Midcal. That line of cases shows that we are reluctant to exempt state and city governments from antitrust scurtiny.

There is a third exemption for acquisitions by governments, 802.52. It applies only to foreign governments, and I won’t go into any detail here. But note that foreign states, governments, and their agencies (other than a corporation engaged in commerce) also are not “entities” under the Rules, so that 802.52 only becomes relevant for corporations engaged in commerce whose ultimate parent entity is a foreign state, government, or agency.

The answer to the original question about the bank bailout is that HSR will most likely not apply. But if the banks are corporations engaged in commercial activity, they will be “entities” under the Rules and HSR potentially applies as long as the acquisition isn’t a “transfer to or from a Federal agency or a State or a political subdivision thereof” (in other words, unless the statutory exemption of §7A(c)(2) applies, which the Rules cannot abrogate). HSR reportability of course does not affect the bailout’s legality under §7 Clayton Act one way or another.

Here is a summary for the graphically inclined:

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In the last post of this series, I posed a challenge: to find the UPE, or ultimate parent entity, and acquired person in a hypothetical.  To find the answer, three steps are necessary:

1. Identify the acquired entity, that is (1) the enitity whose assets are being acquired, or (2) issuer whose voting securities are being acquired, or (3) the unincorporated entity whose membership interests are being acquired.
2. Trace the chain of control up, using the definitions for control for corporations, unincorporated entities, and trusts, until the entity is reached which itself is not controlled by another entity. That is the UPE. (Individuals are never controlled, and therefore always UPEs.)
3. Trace the control down from the UPE (or UPEs) until all controlled entities are identified. They are the entities “included” in the person. The person is the UPE plus all entities controlled by it, directly or indirectly, 801.1(a)(1). Without finding all entities included in the acquired or acquiring person, the size-of-person test cannot be applied.

Remember 801.1(c)(8): A person holds all assets and voting securities held by the entities included within it; in addition to its own holding, an entity holds all assets and voting securities held by the entities which it controls directly or indirectly.

In the hypothetical the acquired entity is H Inc. It is the corporation whose voting securities are being acquired. Tracing the chain of control up, you’ll find three UPEs (marked with UPE crowns): Mrs. Z, Mr Z, and A Inc.

click to enlarge

Some explanations:

• Mrs. Z and Mr Z are both UPEs, even though neither of them individually meets the definition of control for corporations (holing 50%+ voting securities of H Inc, or having the right to appoint 50%+ of directors). The reason is that the holdings of spouses (and their minor children) are aggregated under Rule 801.1(c)(2).  Mrs. Z and Mr Z are therefore treated as if they were each holding 55% of H Inc’s voting security, which is enough to give them control. Since individuals can’t be controlled by another entity, they are each a UPE and will have to file as acquired persons. Only one notification form is required for spouses, however, 803.2(a).
• F LLC controls H Inc because it has the right to appoint 50% directors (even though it holds less than 50% voting securities).
• Mr Y does not control F LLC: While he has the right to appoint the entire management board of F LLC, for HSR purposes unincorporated entities are “controlled” only by entities with a right to 50% of profits or assets upon dissolution. This distinguishes the treatment of unincorporated entites from that of corporations.
• Instead F LLC is controlled only by E Inc., which has a right to 99% of F LLC’s profits or assets upon dissolution.
• But who controls E Inc? There is no single entity that either holds 50%+ of E Inc’s voting securities or has a right to appoint 50%+ of directors. The four shareholders of E Inc are Mr Y (1% voting securities or vs), B Inc (29% vs), C Inc (30% vs), and D Inc (40% vs). B and C are controlled by A Inc, their sole shareholder, and D Inc is controlled by both C Inc and L Inc (each 50% vs). This means that A Inc. indirectly controls E Inc., since A Inc, through B, C, and D controls a total of 99% of the voting securities of E Inc. Even though E Inc at first blush looks like it is controlled by no other single entity, it is indirectly controlled by A Inc. (L Inc does not indirectly control E Inc, even though it controls D Inc, since D Inc has only a 40% stake in E Inc.)
• Finally, at the top, A Inc. is a UPE because it is not controlled by anyone else: Mrs. X 25% stake is insufficient, as will be the stakes of all the public shareholders included in the 75% public float.

Once the UPEs have been identified the next step follows: tracing control down until all controlled entities have been identified. The following graph shows the analysis for A Inc only. (The other two UPE’s, Mrs. Z and Mr Z, each control H Inc, I Inc, and J Inc.)

click to enlarge

The only additional explanation required here concerns G GP, the general partner entity of G LP (G GP is some unincorporated entity, like an LLC). G GP is controlled by E Inc, which has the right to 51% of G GP’s profits or assets upon dissolution. But G GP does not control G LP for HSR purposes, even though in practical terms G GP will make all business decisions of G LP, as its general partner. The Rules’ definitions of control are rigid and formalistic:  G GP determines the competitive behavior of G LP, but only profits and assets upon dissolution are considered HSR control. Since 99% of those rights rest with the dispersed limited partners, no one controls G LP. (This is a common situation for investment funds organized as limited partnerships, or other unincorporated entities where governance rights and economic rights are divorced from each other.)

In closing it’s important to emphasize that control is not exclusive under HSR. An entity may be controlled by more than one other entity. For example, a corporation may have a 50%+ shareholder but another person who may appoint the majority of directors.  In fact, a corporation may be controlled by a maximum of 4 entities (ignoring spouses as shareholders):

• The first holding 50% voting securities,
• The second holding the other 50% voting securities,
• The third having the contractual right to appoint 50% of the board of directors, and
• The fourth having the contractual right to appoint the other 50% of the board.

An unincorporated entity can also be controlled by a maximum of 4 entities:

• The first having the right to 50% profits,
• The second the right to the other 50% profits,
• The third having the right to 50% assets upon dissolution, and
• The fourth the right to the other 50% assets upon dissolution.

(The right to assets upon dissolution refers to the residual distribution after all claims and preferences have been resolved; if the rights are not clear, determine control of an unincorporated entity as if it were being dissolved now.)

The next post in this series will deal with unincorporated entities in more detail, answering the question whether they are “assets” or “voting securities” under §7A.

Previous posts: §7 and HSR. The Basic Test. Parsing Acquisitions. Getting to the Person.

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The FTC’s petition for certiorari has been denied by the Supreme Court. The FTC’s petition had been unusual in that the DoJ did not join in seeking review by the Supreme Court. Here is what we’ve previously said about the Rambus cert petition.

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UPDATE (2/5/09): The FTC has suspended the adjudicative proceedings against Whole Foods further until March 6th. Find the order here. 

The FTC has agreed to stay its Part III administrative proceedings against Whole Foods for 5 days to permit settlement discussion. At issue in the administrative proceedings is the legality under Section 7 Clayton Act of the acquisition Wild Oats by Whole Foods Markets, a merger that was consummated in Fall of 2007 after the FTC had lost its preliminary injunction motion in the D.C. district court (a decision that has since been reversed and remanded by the D.C. Circuit Court of Appeals). As the Global Competition Review reports ($):

“We’re going to roll our sleeves up and look very hard at what Whole Foods has to propose,” says David Wales, acting chief of the FTC’s bureau of comptition. Jim Sud, executive vice president of growth and development for Whole Foods, says the company “welcomes this opportunity to hold constructive discussions directly with the commissioners as well as the FTC’s attorneys.”

The FTC’s order is here. In it the FTC granted the 5-day suspension but denied Whole Foods motion to treat the motion as non-public. (The FTC has not made the terms of the proposed consent agreement public, however.) The order states:

With regard to Respondent’s request for non-public treatment of its motion and attachments thereto, pursuant to Rule 3.25(b), Respondent’s proposed Agreement Containing Consent Order and proposed Decision and Order will not be placed on the public record unless and until accepted by the Commission. We can discern no good reason, however, for according non-public treatment to Respondent’s motion and other attachments. There is a strong presumption that the public has a right to know what is happening in the Commission’s litigation, and Respondent has made no showing to justify keeping these materials off the public record.

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In a very brief opinion, the DC Circuit Court of Appeals rejected Whole Food’s petition for a writ of mandamus to stop the FTC from pursuing administrative proceedings against Whole Foods. The claim was that the FTC had violated Whole Food’s constitutional rights by pursuing expedited Part III proceedings against Whole Foods on the grounds that the Whole Foods-Wild Oats merger in late 2007 violated Section 7 Clayton Act. The opinion is here.

Whole Foods now finds itself before Adminstrative Judge Chappell in the Part III proceedings and in federal litigation before Judge Jackson in the preliminary injunction litigation (on remand and limited to a weighing of the equities).

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The Wall Street Journal reports that Christine Varney (currently a partner at Hogan & Hartson, and a former member of the FTC), has been picked as Assistant Attorney General, to head the DoJ Antitrust Division.

WASHINGTON — President Obama is expected to name a new antitrust enforcement team shortly, signaling stiffer merger-review standards and more cases against dominant companies that use market power to raise prices. The White House is expected to nominate Christine Varney, a former Federal Trade Commission member and Internet-law expert, as Justice Department antitrust chief, people briefed on the move said. Jon Leibowitz, a current FTC member, is the leading candidate for commission chairman, but the decision isn’t final, these people said.

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The last post left off by listing the three steps required to parse an acquisition for HSR purposes: (1) Identify all acquisitions in the transaction, (2) eliminate the non-reportable ones, and (3) find the acquiring and acquired persons. It’s that last step this post is about.

The Rules provide a set of nestled definitions that lay out how you get from the the acquisition to the person. This involves an up-down movement through the corporate hierarchy of entities. Starting with the entity that acquires or is being acquired (remember this means the entity which holds the assets being acquired or the issuer whose voting securities are being acquired), you follow the chain of control up until you reach the peak, or ultimate parent entity (UPE), which is an entity that itself isn’t being controlled in HSR terms.

An entity is virtually anything, including individuals and any sort of business entity, except U.S., state, and foreign governments or their subdivisions or agencies (801.1(a)(2) – check this only if you come across something weird). Once the UPE is reached, every entity controlled by the UPE, directly or indirectly, is included in the person (801.1(a)(1)). That’s the down movement. The real work is determining control, which differs from what one might expect in important ways (801.1(b)). Here is a chart showing the nestled definitions:

click chart to enlarge

Corporations can be controlled in two ways: Either holding 50% or more of the outstanding voting securities, 801.1(b)(1)(i), or having the contractual power to appoint 50% or more of the directors, 801.1(b)(2). (To hold means to have beneficial ownership, direclty or indirectly.) Unincorporated entities, like partnerships or LLCs, can only be controlled in one way: Having a right to 50% or more of profits or assets upon dissolution, 801.1(b)(1)(ii). The right to appoint a management board or a similar governing body of an unincorporated entity does not give control over the entity for HSR purposes. That’s a point where HSR diverges from what one would expect if control were defined as the actual ability to affect competitive decisions (as it should for §7 purposes). In fact, a subjective test of control was originally proposed for HSR but ultimately rejected in favor of an imperfect but clear-cut rule. The same reasoning led the FTC to  look to profits/assets-upon-dissolution only when the treatment of unincorporated entities was revised in 2005.

In addition to these rules about control, there are few attribution rules, for example: [1] The holdings of a spouse are attributed to the other spouse. [2] A trust is usually controlled by the trustee(s), unless it isn’t (for example, because the trust is revocable), 801.1(c)(3)-(5). And [3] a person holds all assets or voting securities held by entities included within it—that is another way of expressing the down movement of including everything that the UPE controls, directly or indirectly, within the person.

So here is a little challenge: The graph below shows a corporate structure chart. The voting securities of H Inc. held by F LLC are being acquired. Who is the UPE? What is included in the acquired person?  To answer those to questions, it’s first necessary to identify the UPE in the up movement, tracing lines of control. Then, in a down movement, everything controlled by the UPE is swept into the acquired person. Find the answers in the next post.

click chart to enlarge

Previous posts: §7 and HSR. The Basic Test. Parsing Acquisitions.

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Before continuing this series of posts about the Hart-Scott-Rodino Antitrust Improvements Act (HSR), here are some links to useful materials. The most basic materials are the HSR statute, §7A Clayton Act (15 USC 18a), and the rules implementing HSR: Coverage Rules (16 CFR 801), Exemption Rules (16 CFR 802), and Transmittal Rules (16 CFR 803). You will need both statute and rules to follow along with these HSR Primer posts. The FTC’s Premerger Notification Office provides much helpful material, including links to the statute and rules, as well as to the Statement of Basis and Purpose and formal interpretations, here. The form and instructions can be found here. There are also useful introductory guides (using unadjusted thresholds), a searchable data base of informal interpretations, and a FAQ. As a reminder, these HSR Primer posts are eclectic and make no pretense to provide a complete guide to HSR reportability. 

Parsing Acquisitions. The world according to HSR is flat. It is two-dimensional in two important respects:

• There are only Acquired Persons and Acquiring Persons. Every transaction is broken down into binary acquisitions with (one or more) Acquiring Persons and (one or more) Acquired Persons. (The topic of this post.)
• There are only voting securities and assets. Yes, even though the Rules now deal with interests in unincorporated entities. (This will be the topic of a future post.)

This binary view of acquisitions goes back to the magic language of §7A, and it means that within the transaction, each acquisition must be identified, and for each the acquired and acquiring person, before the  jurisdicitonal SOT and SOP can be applied. While the Rules identify entities (within persons) and issuers, the question of where an acquisition is located, and therefore the question of reportability, turns exclusively on the acquired and acquiring person. These terms are not identical with “buyer,” “seller,” “target,” or “parent” that corporate agreements might identify. In a second step, those acquisitions that will not lead to reportability can be eliminated. To see how this works, here are a series of basic situations.

Assets for cash. The most basic situation is an asset purchase, in which the Acquiring Person acquires assets (say a factory) from the Acquired Person for $350 million in cash. There are two acquisitions: the first of the factory (assets), and then of cash. Rule 801.2(e) make clear that both these acquisitions must be analyzed separately:

Whenever voting securities or assets are to be acquired from an acquiring (!) person in connection with an acquisition, the acquisition of voting securities or assets shall be separately subject to the act.

Once the acquisitions have been identified, the second step is to eliminate acquisitions that will not lead to reportability. The most important instance is that the payment of cash for voting securities or assets is not a reportable acquisition. The Rules make this point by stating that “cash shall not be considered an asset of the person from which it is acquired,” 801.21(a), with the effect that in the example above, there is only one acquisition: that of the factory (assets of Acquired Person).

Voting securities for cash. The second basic situation is a stock purchase, in which Acquiring Person acquires stock of Target from Acquired Person for cash. (As in the previous example, the cash paid as consideration is not considered an asset of the person from which it is acquired, and thus won’t lead to a reportable acquisition.) The important point is that Target is not the acquired person, even though it is the entity that is being bought. The reason is Target is controlled by Acquired Person, and that for HSR “Person” means ultimate parent entity—another delightful HSR construct that will be topic of a separate post. For now it’s sufficient to note Rule 801.2(b):

… the person(s) within which the entity whose assets or voting securities are being acquired [here: Target] is included, is an acquired person.

To be “included within” means controlled by in HSR.

Voting securities for voting securities. The next example shows the simplest case in which the binary view of acquisitions leads to breaking up a transaction into two acquisitions:

Here, A acquires the voting securities of Target from B in a stock-for-stock deal. B receives newly-issued voting securities in A as consideration. Again, there are two potential acquisitions, but since this time both acquisitions are of voting securities, 801.21(a) doesn’t apply. The result is that there are indeed two reportable acquisitions. A is the Acquiring Person with respect to the voting securities of Target, but the Acquired Person with respect to its own newly-issued voting securities. Conversely, B is the Acquired Person with respect to Target’s voting securities, but the Acquiring Person with respect to A’s voting securities. Rule 801.2(c) states:

For purposes of the act and these rules, a person may be an acquiring person and an acquired person with respect to separate acquisitions which comprise a single transaction.

And yes, in this situation, A and B would file just one form each as both acquired and acquiring persons (watch out for items 5-8, which require only a limited response from acquired persons).

To understand the complicated terms of acquisition, acquiring and acquired person under HSR, it’s helpful to consider the starting point: enforcement of §7 Clayton Act, which aims at acquisitions that lessen competition. For example, the transfer of cash is competitively neutral, and shouldn’t be the reportable, which explains 801.21(a). (The SBP says that “cash generally lacks competitive significance.”) Similarly, looking not to buyers or sellers or similar corporate terms, but—through the construct of acquiring and acquired persons—at who currently and after the transaction will control the assets or voting securities goes to the competitively-relevant question of how the transaction will affect the ability to make competitive decisions (such as raising prices). Who will make competitive decisions before and after the transaction? is a fun question to ask, but only an imperfect proxy for determining HSR reportability.

Voting securities beat assets. The indirect concern with control also explains the rule that voting securities are never assets, even though an investment in a company is certainly an asset for bookkeeping purposes. Rule 801.21(b) states:

Neither voting or nonvoting securities nor obligations referred to in section 7A(c)(2) [things likes bonds and mortgages] shall be considered assets of another person from which they are acquired.

This rule means that in terms of parsing acquisitions, voting securities beat assets, because the voting securities that are being acquired are considered to be acquired from the person in which the entity whose voting securities are being acquired is included (801.2(b)). That, incidentally, is the sort of sentence only long exposure to HSR can lead one to write or understand. So here is a graph to explain it:

Mr. X sells his minority stake in Issuer to Acquiring Person. He doesn’t have to file HSR (because he doesn’t control Issuer, or, in HSRish, because Issuer is not an entity included within him). But Issuer’s parent, Acquired Person, does have to file. (To make sure Acquired Person knows about the sale and its filing obligation, Acquiring Person would have to give Acquired Person notice in these situations, see 801.30(a)(5), 803.5(a).) If the minority stake were treated as an asset of Mr. X, Mr. X himself would be the acquiring person (and UPE), Issuer wouldn’t be included in the acquiring person (since Mr. X doesn’t control Issuer), and the potential competitive significance of the acquisition would not be apparent in the filing. That’s why voting securities are never asset.

To sum up, these are steps required to parse a transaction into HSR-relevant acquisitions. Once this work is done, the jurisdictional tests can be applied.

1. Identify all acquisitions of voting securities or assets [or interests in unincorporated entities].
2. Eliminate those acquisitions that won’t lead to reportability, such as cash. (There are others, like contributions to newly-formed subsidiaries, intraperson transfers, or certain aspects of joint venture transactions.)
3. Identify the acquiring and acquired persons for each remaining acquisition by finding UPEs. That’ll be the topic of the next post.

Previous posts: HSR and §7. The Basic Test.

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Continuing my series of posts about the Hart-Scott-Rodino Act, here is a discussion of the basic test of reportability under HSR.

§7A Clayton Act contains this magic language:

Except as exempted, no person shall acquire, directly or indirectly, any voting securities or assets of any other person, unless both persons file notification and the waiting period has expired, if [the commerce, size-of-transaction, and size-of-person tests are met].

The following is a graphic representation of this relatively simple structure.

The graph shows the basic steps in the analysis: (1) Acquistion of voting securities or assets, (2) Size of Transaction test (SOT), (3) Size of Person test (SOP), and (4) Exemptions. SOT and SOP require an application of the annually-adjusted jurisdictional thresholds (and I’ll post about them in more detail in the future). The basic structure shows that SOT and SOP are linked in such a way that SOP only applies to “medium” size transaction, and is inapplicable if the size of the transaction is either equal to or less than the lowest threshold (of currently $63.1 million) or exceeds the largest threshold (of currently $252.3 million).

The problem with applying this basic structure in determining reportability is that the actual tests are trivial, but the steps required to arrive at a point where the tests can be applied is difficult. HSR terms such as acquisition, acquiring and acquired person, voting securities, or assets are loaded; the rules to determine the size of a transaction are complicated and often require parsing through insanely convoluted aggregation rules to determine what must be included. The different issues also don’t always appear at a logically consistent point in the analysis. For example, the acquisition of debt bonds is not reportable, but is that because bonds aren’t “voting securities or assets” or because bonds are exempted under §7A(c)(2), or both? As a result, reportability is more akin to a complex web than to a flow chart. Sometime it makes sense to start with the SOT, sometimes an exemption is the best starting point (like §7A(c)(3)/802.30, intraperson transfers). Still, it is helpful to recall that there is a basic structure that underlies the analysis.

There is one test I don’t suggest you waste time on, and that I didn’t give equal space in the graph above: the commerce test of §7A(a)(1). It is so broad as to apply virtually always (if you have seen an acquisition of more than $50 million that doesn’t meet the commerce test, please drop a line). HSR applies not only to persons engaged in commerce (which means interstate commerce or foreign commerce, see §12 Clayton Act or §4 FTC Act, alternatively referenced in Rule 801.1(l)), but also to persons engaged in activities affecting commerce. This is stretching the Commerce Clause to its limits. There is no court guidance an what a person might look like that isn’t engaged in interstate commerce, but that affects it. HSR’s commerce test is also broader than other such tests in antitrust law: the Sherman Act requires that the prohibited activity affect commerce, Robinson-Pattman that the “sale” be in commerce, and §7 Clayton Act at least requires that both persons must be engaged in commerce or activities affecting commerce. Under HSR it is sufficient that either acquiring or acquired person, or any entity included in them, are so engaged, as §7A(a)(1) and Rule 801.3 make clear. The HSR commerce test wasn’t exactly designed to restrict the Act’s applicability, and the following graph showing the structure of the HSR commerce test is the last time I’ll mention it.

Previous post: HSR and §7

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The Supreme Court on December 8th heard oral arguments in Pacific Bell v. Linkline. Here is a link to the transcript of the oral arguments, although you can take a short cut and read a summary here. There is also an comprehensive analysis of the case in the Antitrust Source, by Aryeh Friedman and Joyce Choi, Supreme Court Weighs Survival of Price Squeeze Claims (pdf).  I have posted some thoughts about Linkline previously, and in response to the oral argument, wanted to add a point about lawful monopolies and regulation.

In the oral argument, Deanne Maynard (Assistant to the Solicitor General), made this point for the government:

If a retail level rival can state a Section 2 claim against a vertically-integrated company by alleging nothing more than a margin-based price squeeze, one of two outcomes will result: Either the vertically-integrated company will have to raise its retail prices to its consumers; or it will be forced to share the benefits of its lawful monopoly with its rivals by lowering its wholesale price. Either outcome is inconsistent with this Court’s antitrust jurisprudence.

The issue with this argument is that it glosses over the role of regulation. Certainly it is a cherished feature of US antitrust law, that the lawful monopolist may profit from its lawful monopoly as long as it does not engage in anticompetitive conduct to maintain the monopoly. The classic formulation in Grinnell for the lawful monopoly is one achieved by “growth or development as a consequence of a superior product, business acumen, or historic accident.” I don’t see statutory grant of a monopoly in that list.

Of course that doesn’t mean that the de facto monopoly resulting from ILEC status is unlawful. But it does suggest that it is too simple to equate monopolies resulting from statutory grants with monopolies from superior products or business acumen. This is particularly salient when the statutory grant is fashioned to encourage competition (albeit mostly unsuccessfully so) and explicitly declares the antitrust laws to be applicable, as the Telecommunications Act does. Linkline is a case of incomplete and probably ineffective regulation. The regulation is incomplete because it affects only the wholesale level and it is probably ineffective because it does not appear to take into account the retail price charged by the vertically-integrated monopolist. In this situation, the Solicitor General’s position seems more fit for unregulated industries than the telecommunications industry. Would it actually be a problem if the ILECs were forced to “share the benefits” of their statutory monopoly with rivals, when the Telecommunications Act explicitly seeks to foster competition? Such “sharing” wouldn’t be penalizing a company for having a superior product or business acumen.

(I am assuming that Linkline’s factual allegations are true, since the case came before the Supreme Court on interlocutory appeal from the 12(b)(6) motion to dismiss for failure to state a claim.)

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As an interesting holiday present, the FTC on December 23, 2008 announced higher civil penalties, including penalties for the violation of the premerger notification requirement under the Hart-Scott-Rodino Act. From previously $11,000 per day of violation, the penalties were raised to $16,000 per day. The press release is here.

UPDATE: I had a typo in the new penalty amount: It’s $16,000. Thanks for the tip!

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