On November 7, 2014, the Department of Justice’s Antitrust Division announced that it obtained a $5 million settlement with Flakeboard America Limited; its parent companies, Celulosa Arauco y Constitución S.A. and Inversiones Angelini y Compañía Limitada; and SierraPine for illegal pre-merger coordination in violation of the antitrust laws and of the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (“HSR Act”). The action underscores the Antitrust Division’s resolve to vigorously scrutinize the conduct of merging parties prior to consummation of the transaction.
Law Regarding Pre-Merger Coordination
There is a lot of excitement when companies plan a merger. Company executives do not want to lose any time because there is pressure to integrate and achieve the synergies of combining operations as soon as possible. Merging parties, however, must temper that enthusiasm, otherwise, they risk not only losing the transaction, but also being punished by the Antitrust Division.
All parties to transactions that meet certain jurisdictional thresholds are required to file premerger notifications with the Federal Trade Commission (the “FTC”) and Antitrust Division. The premerger notification filing triggers a mandatory waiting period under the HSR Act, which is normally 30 days. A “gun-jumping” violation of the HSR Act occurs when a buyer attempts to exercise “beneficial ownership” or operational control over a seller’s business prior to expiration of the HSR waiting period. Gun-jumping increasingly draws the scrutiny of the Antitrust Division and the FTC and, in several cases, has lead to significant monetary penalties.
When merging companies “jump the gun” and prematurely coordinate their activities, they are subject to antitrust exposure under two different theories: first, a collusive agreement that violates Section 1 of the Sherman Act, 15 U.S.C. § 1; second, a transfer of beneficial ownership that violates Section 7A of the Clayton Act, 15 U.S.C. 18a (“Section 7A” or “Hart-Scott-Rodino Act” or “HSR Act”). A threshold question under both theories is whether the two parties are separate entities.
Most importantly, the parties to a transaction must ensure that they do not inadvertently run afoul of the prohibitions on price fixing and market and/or customer allocations under Section 1 of the Sherman Act. Violations of Section 1 can be treated harshly, with multi-million dollar criminal fines and jail sentences, as well as with treble damages awards and injunctions. Fortunately, it is comparatively easy to avoid violations of this type. The parties to the merger discussions must simply keep in mind that they remain independent firms until after the transaction is consummated. They must continue to compete, just as they did before the negotiations began.
In addition to potential violations of Section 1 of the Sherman Act, merging parties must try not to violate the HSR Act. Indeed, the HSR Act requires that the merging parties observe a mandatory waiting period before proceeding with the transaction. If the government determines that a transaction violates the antitrust laws, it may seek to block that transaction before the waiting period expires. Each party is subject to a maximum civil penalty of $16,000 per day for each day they violate the HSR Act.
The federal antitrust agencies consider it a violation of these requirements if the parties “jump the gun”, and the acquiring company begins to exercise control over the operations of the acquired company, or begins to enjoy “the benefits of ownership”, before the end of the HSR waiting period.
DOJ’s Views Regarding Proposed Merger and Alleged Illegal Activity
On September 30, 2014, Flakeboard and SierraPine abandoned their proposed acquisition. Reportedly, the Antitrust Division forced the parties to abandon the transaction after it expressed concerns about the transaction’s likely anticompetitive effects in the production of medium-density fiberboard (“MDF”). MDF is a manufactured wood product widely used in furniture, kitchen cabinets, and decorative mouldings.
The Antitrust Division’s October 1, 2014 press release provided some details regarding its reasoning for challenging the deal on the substance. Flakeboard and SierraPine are two of only four significant suppliers of MDF to the West Coast. Both companies operate MDF mills in Oregon—Flakeboard in Eugene; SierraPine in Medford—and the nearest competing mill is several hundred miles away. For many customers, Flakeboard and SierraPine are each other’s closest seller of MDF. The proposed merger would have given the combined firm a fifty eight percent (58%) market share for the thicker and denser grades of MDF that Flakeboard and SierraPine sell on the West Coast. Accordingly, the Antitrust Division had substantive concerns that the transaction likely would have substantially lessened competition in the market for the production of MDF sold to customers in the West Coast states of California, Oregon, and Washington. An increase in the price of MDF would likely have resulted in significant harm to MDF consumers on the West Coast.
Here, the Antitrust Division was concerned that the acquisition would have eliminated significant head-to-head competition between Flakeboard and SierraPine. In addition, the Antitrust Division was concerned that if Flakeboard obtained control over SierraPine’s MDF mill, Flakeboard would have been in a better position to raise prices by restricting the amount of MDF available to the West Coast. In addition, the Antitrust Division was concerned that the acquisition would have enhanced the risk of coordination between Flakeboard and its few remaining rivals on output and prices of MDF on the West Coast.
While the Antitrust Division was successful in forcing the parties to abandon their transaction, the Antitrust Division was not done with the merging parties. On November 7, 2014, the Antitrust Division filed a civil antitrust complaint alleging violations of the HSR Act (Section 7A of the Clayton Act) and Section 1 of the Sherman Act along with a settlement agreement that resolves the lawsuit in U.S. District Court for the Northern District of California.
According to the complaint, before the proposed acquisition, SierraPine operated particleboard mills in Springfield, Oregon, and Martell, California, that competed directly with Flakeboard’s particleboard mill in Albany, Oregon. Particleboard is an unfinished wood product that is widely used in countertops, shelving, low-end furniture, and other finished products. The Springfield and Martell mills were included in the proposed acquisition along with a third SierraPine mill that produced MDF. The complaint alleges that after announcing the proposed acquisition on Jan. 14, 2014, and before the expiration of the HSR Act’s mandatory premerger waiting period, Flakeboard, Arauco, and SierraPine illegally coordinated to close SierraPine’s particleboard mill in Springfield, Oregon, and move the mill’s customers to Flakeboard.
The Antitrust Division alleges that this coordination led to the permanent shutdown of the Springfield mill on March 13, 2014, and enabled Flakeboard to secure a significant number of Springfield’s customers for its Albany mill. The Antitrust Division alleges that defendants’ conduct constituted an illegal agreement to restrain trade in violation of Section 1 of the Sherman Act, and prematurely transferred operational control, and therefore beneficial ownership, of SierraPine’s business to Flakeboard in violation of the HSR Act.
The complaint alleges that the defendants’ HSR Act violation occurred from January 17, 2014, when Flakeboard and SierraPine began coordinating on the closure of the Springfield mill, until the expiration of the waiting period on Aug. 27, 2014. The Antitrust Division also notes that the companies voluntarily provided it with evidence of their unlawful premerger conduct. Because the companies cooperated with the investigation, the Antitrust Division significantly reduced the maximum HSR penalty to $3.8 million. The Antitrust Division also explained that the $1.15 million in disgorgement was a reasonable approximation of the ill-gotten profit Flakeboard received as a result of the parties’ coordination to close Springfield and move the mill’s customers to Flakeboard. In addition to the civil penalties, both Flakeboard and SierraPine must establish antitrust compliance programs.
The Antitrust Division’s action underscores the federal antitrust authorities’ considerable concern about the transfer of beneficial ownership and control prior to the expiration of the HSR waiting period. The purpose of the HSR Act and the waiting period, in particular, is to give the government notice so that it has an adequate opportunity to investigate proposed mergers and take action before companies actually combine their operations. Accordingly, companies should avoid any appearance of combining their operations, by restricting the flow of confidential competitive information between them and making sure that independent business decisions are not coordinated prior to the expiration of the waiting period.
The HSR waiting period keeps the parties separate, thereby preserving their status as independent economic actors during an antitrust investigation. Consistent with this purpose, an acquiring person may not, after signing a merger agreement, exercise operational or management control of the to-be-acquired person’s business until the waiting period has expired.
The Antitrust Division’s fines against the merging parties for illegally jumping the gun serves as a reminder that pre-consummation coordinated behavior during the pendency of an antitrust investigation is risky. The potential for violating Section 7A of the Clayton Act during this critical pre-consummation time period is heightened because the merging parties already are actively engaged in information exchanges as part of the merger negotiations and the required due diligence preceding the acquisition. Additionally, if the acquisition involves competitors, certain information about the other party may be of significant competitive value–whether or not the transaction is consummated. The DOJ keeps a vigilant eye on the pre-consummation activities of merging parties in order to ensure free, unfettered competition for every industry at all times, including during planned acquisitions. The rules are clear, not only as a matter of theory, but also because the Antitrust Division consistently takes action against this sort of conduct.
Companies involved in merger discussions must observe certain antitrust guidelines during their merger negotiations, and until the transaction is actually consummated to avoid “gun jumping”. The key point to keep in mind is that until the transaction is closed, the parties to the discussions remain independent companies. While certain pre-closing due-diligence and transition activities are perfectly appropriate, other activities may raise questions under the antitrust laws. The antitrust risks are particularly acute if the parties to the discussions are competitors. Under these circumstances, until the closing, the parties should be particularly careful to avoid reaching agreements or exchanging competitively sensitive information in any way that might undermine the vigor of competition between them.
Here, the alleged conduct of closing a plant and allocating customers during the antitrust investigation of a merger that raises substantive issues was clearly anticompetitive. As a result, the Antitrust Division required the companies to pay substantial civil penalties for violating the HSR Act and Flakeboard is forced to pay back its ill gotten gain for violating the antitrust laws. Accordingly, companies proposing to merge must remain separate and independent until closing.