In a stark reminder that the US antitrust agencies continue to take illegal premerger coordination—commonly known as "gun jumping"—very seriously, two producers of medium density fiberboard (MDF) agreed to pay nearly $5 million in civil penalties and disgorgement for violations of the Hart-Scott-Rodino (HSR) Act and Section 1 of the Sherman Act. The two defendants, Flakeboard America Limited and SierraPine, allegedly coordinated on the closure of a SierraPine MDF mill during the Department of Justice's (DOJ) review of the proposed transaction between the companies. The complaint filed on November 7, 2014 and the DOJ's accompanying papers are significant for other merging parties because they contain descriptions of pre-closing conduct that the DOJ is likely to view as prohibited and conduct that it is likely to view as permitted.
Legal Background
Merging parties are subject to two primary antitrust limitations
on their ability to coordinate premerger conduct. First, the HSR
Act requires parties to acquisitions of voting securities or assets
that meet certain thresholds to remain independent economic actors
while the government investigates the transaction's potential
anticompetitive effects. Specifically, the act prohibits an
acquiring person from obtaining beneficial ownership of the voting
securities or assets before the end of the HSR waiting period. As a
practical matter, this means that an acquirer cannot exercise any
control over the ordinary course activities of the seller until the
waiting period has expired. The HSR Act imposes civil penalties for
violations of up to $16,000 per day.
Second, Section 1 of the Sherman Act prohibits agreements that
unreasonably restrain trade. Certain types of agreements, including
agreements between competitors to restrict output or allocate
customers, are considered per se unreasonable, and
therefore illegal under Section 1. Section 1 applies to merging
parties prior to consummation of their transaction regardless of
whether the transaction is reportable under the HSR Act.
Complaint and Settlement
This matter arose out of Flakeboard's agreement to acquire
three mills from SierraPine, including an operating mill in
Springfield, Oregon. Although Flakeboard wanted the Springfield
mill, it did not want the mill to continue operating. That was
presumably because Flakeboard could serve the mill's customers
from Flakeboard's other facilities. However, Flakeboard did not
want to manage the shutdown or absorb the reputational harm of
announcing the Springfield mill shutdown itself. Thus, the parties
agreed and put in the purchase agreement that SierraPine would shut
down the mill before the transaction closed. The DOJ complaint
alleges that, before the proposed acquisition, SierraPine had no
plans to close the Springfield mill.
According to the complaint, the defendants originally expected that
SierraPine would shut down the Springfield mill after the
HSR waiting period expired, but before the transaction
closed. However, a labor dispute at the mill shortly after the
transaction was announced led Flakeboard and SierraPine to agree to
an earlier closure, months before the expiration of the HSR waiting
period. The parties also acted together to move customers from the
Springfield mill to Flakeboard. SierraPine provided to Flakeboard
detailed information about individual customers of the mill, which
Flakeboard provided to its sales force. SierraPine delayed the
closure announcement until Flakeboard's sales force was ready
to contact the Springfield mill's customers. SierraPine did not
use its remaining plant to compete for the Springfield mill's
business, and instead directed those customers to Flakeboard.
Eventually, the defendants abandoned their transaction in light of
DOJ concerns that it would substantially lessen MDF competition.
The deal's abandonment, however, did not prevent the DOJ from
bringing claims against the parties for their pre-closing conduct.
The DOJ's complaint alleges that the coordination to close the
Springfield plant, when there was no assurance that the transaction
would be consummated, constituted an agreement between competitors
to allocate customers and reduce output, and thus was per
se illegal under Section 1 of the Sherman Act. Further,
through its coordination on the closure of the plant and transfer
of customers, Flakeboard exercised operational control and
beneficial ownership over SierraPine, thus violating the HSR
Act.
The $4.95 million settlement includes $3.8 million in civil fines
under the HSR Act. The defendants avoided the maximum fine, which
would have been more than $7 million, by cooperating with the
DOJ's investigation of their premerger coordination. To remedy
the Sherman Act Section 1 violation, the DOJ required Flakeboard to
disgorge $1.15 million in profits it received from former
Springfield mill customers. The settlement places certain
restrictions on Flakeboard and SierraPine in future transactions,
regardless of whether the transaction is subject to the HSR
Act.
Lessons from the Case
The settlement's limitations on the defendants' future
conduct provides helpful guidance regarding pre-closing conduct
that the DOJ is likely to regard as permissible or
prohibited.
Permissible Pre-Closing Conduct and Transaction Agreement
Provisions
- Agreement provisions requiring the seller to continue operating in the ordinary course of business.
- Agreement provisions prohibiting the seller from taking actions that would cause a material adverse change in the value of the to-be-acquired business or assets.
- Conducting "reasonable and customary due diligence" where the information sought is "reasonably related to a party's understanding of future earnings and prospects." Information exchanges should occur under a non-disclosure agreement that limits the use of the information to due diligence purposes, and prohibits disclosure of the information to any person who is directly responsible for marketing, pricing or sales of any products in which the two companies compete.
- Entering into a buyer/seller relationship with each other if that relationship would be lawful in the absence of the planned acquisition.
Prohibited Pre-Closing Conduct
- Agreements that would affect product price or output, or allocate customers, while a transaction is pending.
- Disclosing competitively sensitive information without adequate protections against its improper use.
The DOJ did recognize that in certain circumstances an agreement
to close a seller's production facility may be legal. However,
this remains a gray area, particularly where the facility makes
products that compete with those of the buyer.
The Flakeboard settlement is a reminder that parties involved in
mergers and acquisitions must continue to compete independently
while the government completes its investigation of the
transaction. Merging parties should consider putting protective
measures in place to ensure that any joint activity during the HSR
waiting period does not cross the line into illegal gun jumping.
This is not only good practice from a legal perspective, but is
also a prudent business course because it recognizes the risk that
the transaction might not close and the parties will continue to
operate as separate companies.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.