Executive summary
Most people know that the U.S. Hart-Scott-Rodino Antitrust Improvement Act of 1976 (HSR) applies to large M&A transactions. However, private client lawyers must understand that it could also apply to high-net-worth individuals and certain entities and structures used in wealth planning (collectively, "HNW persons"). This Alert is designed to summarize the rules applicable to them in a manner suitable for them.
First, HSR filing rules apply to HNW persons and corporations if the tests are met (see below).
Second, in HSR filing rules for HSR purposes, the term "acquisition" is very broadly defined and applies to individuals not only in active open-market acquisitions but also in acquisitions, investments, and compensation like stock dividends, warrant exercises, restricted stock grants, vesting of RSUs, contributions to other entities in exchange for interests therein and secondary acquisitions (an acquisition of or investment in one entity that holds non-controlling voting interests in another entity.) If you meet the three tests below, you cannot complete the acquisition or investment or receive the compensation until you file and get HSR clearance.
Third, the complex HSR rules make it easy for HNW persons to miss mandatory HSR filings because they may not even know the unique requirements.
The penalty for ignoring a mandatory HSR filing could be up to $51,744 per day in 2024. Bill Gates, John Malone, Barry Diller, and Brian Roberts are just a few who paid six-digit fines for repeated failures to make mandatory HSR filings.
Remember that HSR applies even when there is not the slightest anti-competitive issue.
What tests trigger HSR exposure?
The three tests that trigger an HSR filing are two "size-of-person" tests and a "size-of-transaction" test, with numbers adjusted annually based on changes in the GNP. For 2024, the tests are:
- Size-of-Person:
a. A person on one side of the transaction must have at least $23.9 million in sales or assets;
b. A person on the other side must have sales or assets of at least $239 million and
- Size-of-Transaction: must be greater than $119.5 million.
NOTE:The "size-of-transaction" is measured by the total amount of voting securities the issuer holds after the transaction, not the actual transaction value.
The HSR Act covers acquisitions of voting securities and partnership interests, and LLCs confer control and assets that meet these tests. This report focuses on acquisitions that a high-net-worth individual is likely to make.
HSR applies to passive acquisitions
Here's a quick example. Suppose you are a corporate executive receiving your company's voting security dividends. You currently have $115 million of the company's voting securities, and the company plans to give you just $5 million more. You wrongly assume this is far below the HSR "size-of-transaction" test of $119.5 million.
But here's the correct analysis: Your personal assets obviously exceed $23.9 million. Let's assume the company issuing the stock dividends has sales or assets of $239 million or more. If that's the case, then all three HSR tests are met, and an HSR filing is necessary. This is because the "size-of-transaction" for HSR purposes is not $5 million (the actual transaction value). It is $120 million (or the total amount of voting securities you will have in the target after the transaction). You need to file and obtain HSR clearance before you receive the shares.
Additional cautions about the "size-of-transaction"
As we saw, the "size-of-transaction" is not the transaction size at all. It is the total holdings of voting securities you will have in the issuing company after the transaction. But there are at least two more complications:
- The "size-of-transaction" requires you to combine holdings of spouses and minor children. If they own voting securities in the issuing company, even if they bought it with their own money, you need to combine their holdings with yours to calculate the "size-of-transaction" correctly.
- The "size-of-transaction" test covers all the direct or indirect voting securities the acquirer owns or controls. You need to combine the value of stock you hold plus anything in the same issuer held by any entity you control, directly or indirectly. A well-known example involved a high net-worth individual who controlled an investment company. He bought a small amount of voting securities in his name. But he also controlled an investment fund that held voting securities in the same company. The two holdings, combined, pushed him over the HSR filing threshold. He did not file, and the FTC fined him several hundred thousand dollars.
NOTE: "Control," for corporations, means owning 50%+ of the outstanding voting securities or having the present contractual right to appoint 50%+ of the directors. "Control" for partnerships or LLCs (or equivalent non-corporate entities) means having the right to 50%+ of the profits or the right to 50%+ of the assets on dissolution.
Exemptions
There are exemptions to HSR filing requirements. The following are likely to apply to executive compensation transactions. However, the FTC carefully monitors exemption claims and has begun legal proceedings when it believes the exemption was not properly claimed.
- Control. If you already control a company (50%+), you can buy as much of its remaining interests as you want without filing. "Control" (defined above) means 50%. Unlike securities laws, "Control" is not the right to manage. If you are the CEO, you may not "control" the company for HSR purposes.
- Exception for LLC interests: HSR does not apply to the acquisition of LLC interests unless you cross the 50% (control) line.
- Up to 10% for "Investment Only." You can acquire up to 10% of a company's voting securities without an HSR filing if it is for "investment only." This means you are not an officer or director of the target and have no present intention of trying to manage the company or influence its operations. Note that your SEC filings, if any, need to be consistent, so be cautious if you file an SEC Schedule 13D.
- Five-Year Period to Reach Next Filing Level. If you make an HSR filing and complete that transaction within one year, you can acquire more voting securities up to – but not crossing -- the next filing threshold without making a new filing. The next thresholds after the $119.5 million threshold are $239 million, $1.195 billion, 25% (if that exceeds $2.390 billion), or 50% (which means control).
What to do if you failed to file
If you need to file an HSR but haven't, you should make a "corrective filing" as soon as possible.
In practice, the FTC waives the first violation penalty when the person did not know about the filing obligation. But the condition of the settlement with the FTC is that the individual promises to set up a reliable HSR compliance system for the future. "Reliable" means one that never fails. If you inadvertently miss a second filing, you will be fined.
The FTC believes that lack of awareness of the HSR rules, "even if true, is grossly negligent." While the FTC doesn't insist on the statutory fine of $51,744 per day, it frequently imposes six—or seven-digit fines and has recently collected fines exceeding $1 million for failures to file.
Checklist
To sum up, you need to consider an HSR filing if you are getting voting securities by any means, including passive acquisitions, investments and compensation, and:
- Your net worth is at least $23.9 million;
- The issuing company's sales or assets are at least $239 million.
- Your total holdings will exceed $119.5 million of voting securities in the issuing company after the transaction, or you will cross another threshold, such as $239 million or 50% (acquisition of control).
- Your holdings include your own, plus the holdings of all the companies and other entities you control in the same issuer, plus those of your spouse and your minor children.
- When you're valuing the stock you already own, the value is today's market price, not what you paid for it.
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.