Identifying a Suitable Divestiture Buyer and Related Issues
At the outset of a transaction, horizontal overlaps or vertical integration between the merging parties can lead to the conclusion that divestitures are likely to be necessary to resolve competition concerns. In such cases, finding a buyer for the divested business is critical in ensuring the viability of the transaction. Certain issues related to finding a divestiture buyer are relatively obvious (e.g., the buyer chosen to acquire the divested business should not create its own competition concerns). Other issues are less obvious, but have become an increasingly important part of the process for selecting a divestiture buyer. Antitrust agencies around the world are increasingly focused on a prospective buyer’s capabilities (e.g., financial resources and industry experience) to ensure that the divestiture will ‘effectively preserve competition’, which is ‘key to the whole question of an antitrust remedy’. If the divestiture buyer does not have the resources or experience that will enable it to ‘step into the shoes’ of the seller, the remedy will likely be deemed inadequate, regardless of the scope of the divestiture the seller is prepared to put on the table.
Although identification of a divestiture buyer has always been a substantial issue in the merger clearance process, the importance of the buyer suitability analysis has grown. The following four recent examples from the United States illustrate this point.
- First, in 2017, the US Federal Trade Commission (FTC) published a report analysing the ‘success’ or ‘failure’ of merger-related divestitures in the 2006–2012 time period (the 2017 FTC Study). The FTC identified a number of issues warranting closer scrutiny, including the attributes of divestiture buyers. For example, the FTC called for close scrutiny of the buyer’s:
- financial resources, including plans for financing the acquisition;
- business plans for running the acquired business;
- need for back-office and other corporate infrastructure support from the seller;
- need for transition service agreements and supply agreements with the seller; and
- level of knowledge and experience relevant to running the acquired business, including the amount of due diligence conducted by the buyer. In short, given the desire to avoid failed divestitures, parties to a transaction should expect rigorous examination of a divestiture buyer’s ability to effectively preserve competition.
- Second, while divestiture of an ‘existing business’ entity has been a preference of US antitrust agencies for several years, the agencies have become much stricter in calling for divestiture of a complete, ‘stand-alone’ business entity. This preference appears to flow from a conclusion of the 2017 FTC Study that divestiture of an ‘ongoing business’ is more likely to ‘succeed’ than a divestiture of a package of assets. The nature of a divestiture transaction, however, will often vary depending on the buyer. While a financial buyer might have an interest in acquiring a complete, stand-alone business entity, a strategic buyer might already have substantial resources with which to run the acquired business, and prefer an asset acquisition that does not include redundant infrastructure. Early identification of suitable buyers is thus important for two separate reasons: (1) the scope and nature of the divestiture transaction will change depending on the identity of the buyer; and (2) the seller and buyer must be prepared to explain to authorities early in the process how the divestiture transaction accords with the strong preference for divestiture of an ongoing business.
- Third, in connection with the acquisition of Baker Hughes Inc by General Electric Co (GE), GE agreed to a global divestiture of its Water & Process Technologies business to SUEZ SA. In late 2017, GE informed the Antitrust Division of the US Department of Justice (DOJ) that it was not able to complete the global divestiture of that business to SUEZ because licensing, regulatory and other legal issues stood in the way of a full transfer in certain jurisdictions. The DOJ required GE to pay what amounted to daily fines until the divestitures are completed, and the DOJ stated that it considered the delay a significant issue because the DOJ agreed to the remedy on the understanding that ‘the buyer of the divestiture assets will step seamlessly into the shoes of one of the merging parties and preserve the competition that otherwise would be lost due to the merger.’ In matters subsequent to GE/SUEZ, the DOJ has focused on the ability of the buyer to quickly assume full control of a divested business on a global basis – both in terms of the buyer’s existing regulatory approvals and its ability to obtain other required regulatory approvals quickly and efficiently. And, in the recent case of Bayer AG’s acquisition of Monsanto, the DOJ allowed the Bayer/Monsanto transaction to close but required the companies to be held separate until global divestitures to BASF SE are completed. This potential sea change is a direct result of the DOJ’s experience with GE/SUEZ, and divestiture sellers should carefully scrutinise the ability of potential buyers to quickly assume control of a global divestiture business – both to persuade authorities that the buyer is suitable and to ensure that the seller does not suffer adverse consequences to the main transaction.
- Finally, in the Competitive Impact Statement filed in connection with Bayer/Monsanto, the DOJ looked carefully at the divestiture buyer’s ‘existing portfolio’ of products to evaluate: (1) preservation of portfolio-level competition (referred to as ‘integrated competition’); and (2) maintenance of cross-portfolio ‘scope efficiencies’ that might impact R&D and future investments by the divestiture buyer. This recent development suggests that the divestiture buyer’s existing assets and business can play a critical role in the substantive remedy analysis when innovation or portfolio-level competition is a concern. In cases of this nature, the buyer’s existing resources and capabilities are relevant to far more than the buyer’s competence. In these cases, the buyer’s resources and capabilities inform whether it can effectively preserve competition at an enterprise level, regardless of its competence to continue a particular divested business line.
As these points demonstrate, the ability to persuade US antitrust agencies that a particular divestiture buyer is suitable cannot be taken for granted, especially in the case of global divestitures or divestitures intended to remedy complex competition concerns. Finding a suitable divestiture buyer should not be an afterthought; that process should start early in the life cycle of a proposed transaction to: (1) ensure that there is a viable remedy for competition concerns arising from the transaction (e.g., as part of a preliminary risk assessment); and (2) ensure that there is adequate time to plan for and execute the divestiture transaction based on the particular requirements of potential buyers. This chapter analyses several issues that should be considered in this process.
Identifying suitable buyers
A standard antitrust risk analysis should generally include a preliminary conclusion about the scope of any divestitures that might be required to address competition concerns resulting from the transaction. In some instances, the need for divestitures may be an open question, but in other instances it will be apparent that some divestitures will be required to get the transaction cleared. It is less common for this early analysis to include evaluation of potential divestiture buyers and conclusions about the set of buyers that would be viewed by antitrust agencies as capable of preserving competition. In transactions that present substantial competition concerns, however, it is risky to proceed on the assumption that a buyer will eventually materialise (e.g., if the seller is forced into a divestiture on a ‘fire sale’ basis).
US antitrust agencies are increasingly scrutinising the suitability of the divestiture buyer proposed by the parties, and they will not approve a divestiture unless they are persuaded that the divestiture buyer can effectively ‘step into the shoes’ of the seller as a long-term, viable competitor. US antitrust agencies also frequently remind the parties to a transaction that a potential divestiture buyer’s interests are not necessarily aligned with those of the agency – for example, a private equity firm might be willing to pay a substantial amount of money for a business that can be run profitably in run-off mode, but that might not preserve competition in the long run.
The universe of suitable divestiture buyers could be quite limited, depending on the specific issues in the case, so the parties to a transaction should identify a set of buyers that might be acceptable to competition authorities early on. Factors that should be considered by the seller and its counsel are explored further below. None of these factors should necessarily disqualify a potential buyer; rather, all of the factors should be balanced as part of an overall assessment of the risks posed by different potential buyers.
The seller should avoid creating new competition concerns
In evaluating prospective divestiture buyers, the seller should seek to identify buyers that would not create new competition concerns (i.e., new horizontal overlaps or vertical integration with potential anticompetitive effects). While creation of new horizontal overlaps or vertical integration should not disqualify a potential buyer, review of the proposed divestiture by antitrust agencies will be longer and more complicated if they need to consider new competition issues or consider further divestitures that are triggered by the initial divestiture. If there is no suitable divestiture buyer that produces no new competition issues (or very limited ones), the divestiture seller will need to analyse the scope of further divestitures that might be required and assess the availability of suitable buyers for that new divestiture package.
In analysing horizontal or vertical issues created by a divestiture, it is helpful to consider whether the divestiture package can be divided among more than one suitable buyer in terms of geography or business segment. Whether such a division of the divestiture package is acceptable to antitrust agencies will depend on the circumstances of each case. In some cases, it might be natural to split the divestiture package into pieces (e.g., the Asia-Pacific branch and the North America branch of a particular business operate as distinct, economically viable business lines). In such a case, the seller could identify one set of suitable buyers able to preserve competition in the Asia-Pacific region (likely based on the views of the relevant competition authorities in the region), and another set of suitable buyers able to preserve competition in North America (based on the views of competition authorities in the United States, Canada and Mexico). By splitting the divestiture package in two, the seller might be able to avoid overlaps that would have arisen if the Asia-Pacific and North America businesses both went to one company. A seller might also benefit from dividing the divestiture package if the aggregate purchase price from more than one buyer is expected to be substantially higher than what the seller could get from a single buyer.
In other situations, splitting a divestiture package into pieces may be a difficult sell to authorities; for example, the split might involve a complex division of tangible and intangible assets among the divestiture businesses, or the business in one region might provide important support to the business in another region. In such cases, it might not be viable to divest anything less than the entire global business. Sellers and their counsel should be particularly sensitive to comments from antitrust agencies that reflect scepticism about the desirability of dividing a divestiture business based on geographic regions or product lines (e.g., comments concerning the importance of ‘global scope and scale’ or the perceived ‘complexity’ of a proposed divestiture). If it is important that the divestiture package remains together as one global business, the pool of qualified buyers will likely be more limited because of an increased probability of creating new horizontal or vertical issues, and because the buyer will need to have the financial resources and infrastructure needed to assume control of a global business.
If the seller concludes that the divestiture will likely need to consist of an entire global business, the seller should evaluate all of the antitrust approvals from national competition authorities that will be required to effectuate the divestiture with regard to each possible buyer. This is important because the divestiture seller and buyer could encounter conflicting substantive views from different competition authorities in the divestiture buyer approval process. As one example, the parties might find themselves in a situation in which the United States has required a global divestiture, but that global divestiture creates a horizontal overlap in a foreign jurisdiction. As a second example, the parties could find themselves in a situation where the divestiture creates a global overlap, but the competition authorities in different jurisdictions have different degrees of concern about that overlap. Such issues will inevitably increase the length and complexity of the merger clearance process, so they should be considered in the initial evaluation of potential buyers – the simpler the divestiture seller can make the transaction, the better. In situations where a complexity cannot be avoided, the parties should identify remedy conflicts as early as possible. The parties do not want to find themselves in a catch-22, where one authority is procedurally ‘locked in’ to a particular remedy that another jurisdiction cannot accept.
Separately, the divestiture seller should consider any history of alleged or sanctioned coordinated conduct between either merging party and a potential divestiture buyer. If there has been a prior antitrust investigation or sanction concerning collusion between these parties, they will face scrutiny from antitrust agencies about whether they can be trusted to aggressively compete with one another after the divestiture, especially if the divestiture will require ongoing service or supply arrangements between the parties, which antitrust agencies might view as ‘ongoing entanglements’. More generally, even if there is no specific history of coordinated conduct between the divestiture seller and divestiture buyer, the divestiture seller should at least be aware of any allegations of coordinated conduct in the relevant industry that could be raised by antitrust agencies and factor that possibility into the overall screening of potential buyers. As with the two issues discussed above (i.e., creation of new horizontal and vertical issues, and foreign merger clearance complexity), the presence of historical coordination issues should not be considered a disqualifying factor, but needs to be part of the overall risk analysis when looking at potential divestiture buyers.
The seller should carefully evaluate the buyer’s capabilities
In evaluating potential divestiture buyers, the seller should also consider the buyer’s existing resources and experience. Competition authorities will ultimately be evaluating these same issues, and they ‘must be certain that the purchaser has the incentive to use the divestiture assets to compete in the relevant market’ and must ‘ensure that the purchaser has sufficient acumen, experience, and financial capability to compete effectively in the market over the long term’. At a minimum, the seller should consider a potential divestiture buyer’s:
- financial resources;
- employee base and experience, and expertise in the relevant industry;
- facilities and other tangible assets;
- intellectual property rights and other intangible assets;
- existing or pipeline products that are complementary to the divestiture business; and
- regulatory approvals relevant to the divestiture industry.
Each of these factors will not necessarily be relevant in every case, but the seller and its counsel should evaluate them all in light of the particular circumstances presented. For example, if the divestiture consists of a stand-alone gravel business in Minnesota, the only relevant question might be whether the purchaser has sufficient financial resources and a satisfactory business plan to continue its operation. In contrast, if the primary concern is innovation competition, it might be necessary to find a buyer that meets all of the criteria and has a demonstrated history of innovation in the relevant industry.
Five more points warrant specific mention.
First, the financial resources of the divestiture buyer will be relevant in almost every case. Cases of divestiture ‘failure’ have made US antitrust agencies particularly sensitive to this issue. For example, when Hertz Corp acquired Dollar Thrifty Automotive Group Inc in 2013, the FTC required Hertz to divest its Advantage Rent A Car business (with a fleet of 24,000 vehicles) to Simply Wheelz LLC, a wholly owned subsidiary of Franchise Services of North America. Simply Wheelz filed for bankruptcy a few months after the divestiture was completed, in part because of financial hardships imposed by the divestiture agreement itself, and Simply Wheelz ended up selling certain divestiture assets back to Hertz. Similarly, when Albertsons LLC and Safeway Inc merged in 2014, they sold 168 supermarkets to Haggen Holdings LLC (Haggen) as part of a settlement with the FTC. One year later, Haggen filed for bankruptcy, and many of the 168 supermarkets would have closed had they not been sold back to the combined Albertsons/Safeway. After these experiences, a divestiture seller should expect US antitrust agencies to scrutinise closely the divestiture buyer’s financial resources and specific financing arrangements for the acquisition. The buyer’s ‘deep pockets’ (e.g., access to funding from a large private equity fund), however, will not be dispositive on this issue. US authorities are increasingly interested in reviewing a proposed buyer’s business plan for the divestiture business. Thus, in evaluating potential divestiture buyers, the seller should consider both the buyer’s general financial resources to acquire and support the business and its ability to put together a long-term business plan that will be compelling to competition regulators.
Second, the back-office operations or general corporate infrastructure available to the divestiture buyer will be relevant in almost all cases. Regardless of the nature of the divestiture business, it very likely will require some form of back-office operations or general corporate infrastructure; for example, payroll, accounting, human resources, customer order systems, information technology systems, general office space, and maintenance and security personnel. If the seller is divesting a true stand-alone business entity with all of the related back-office support and general corporate infrastructure, the existing resources of the buyer will be far less relevant. For example, if the stand-alone gravel business in Minnesota, discussed above, is sold to a private equity buyer along with all of the business’s corporate infrastructure, it would not matter whether that buyer has existing back-office operations. In many cases, however, the divestiture business will not include back-office operations or general corporate infrastructure because the divestiture business is part of a larger corporate structure. In those cases, the seller should evaluate whether the potential divestiture buyer has existing back-office operations or infrastructure that the divestiture business can be ‘plugged into’. If not, the seller will need to consider: (1) transferring some of its own back-office operations and infrastructure resources to the divestiture buyer; or (2) identifying third-party solutions that can be used to provide similar support. While this issue should not disqualify a potential divestiture buyer, the seller should carefully evaluate the relative capabilities of different potential divestiture buyers based on their existing back-office operations and general corporate infrastructure. The parties will need to persuasively explain to competition agencies how the divestiture business will receive such general corporate support when it is ‘unplugged’ from the seller’s organisation.
The divestiture seller should carefully evaluate the existing capabilities of each potential divestiture buyer to determine the nature and extent of transition services, supply and tolling agreements that the buyer might request to run the divestiture business. Although US antitrust agencies have mixed views concerning such agreements – on the one hand, they can be viewed as ongoing ‘entanglements’ and on the other hand, they help the divestiture buyer compete more effectively – they are likely to accept any transition services, supply and tolling agreements the divestiture buyer says are necessary for it to operate the divestiture business on day one. Also, the divestiture seller should expect to provide the goods and services called for by such agreements at no more than variable cost. Given such unattractive financial terms, the seller should carefully evaluate the likely requirements of each potential divestiture buyer – some buyers will require a lot of support, while others will require very little, and there is no benefit to the divestiture seller in devoting resources to providing such support while making no profit in doing so.
Third, a divestiture buyer’s experience and expertise relevant to running the divestiture business is likely to be an issue in every case. Even in the extreme example of the stand-alone gravel business in Minnesota, it is unlikely that the divestiture seller will be transferring its most senior executives to the divestiture buyer, and they are often those with the longest tenure and greatest knowledge of the relevant industry. While relevant experience and expertise will typically go to the divestiture buyer as employees transfer to run the divestiture business, the antitrust agencies will still be interested in whether the buyer has the executive-level team needed to guide the business over the long term. In the case of a strategic buyer that is in the same industry as the divestiture business (or an adjacent industry), executive expertise generally should not be a concern. The concern would arise only when the divestiture buyer has no prior experience in the relevant industry (or an adjacent industry), such as a financial buyer that would be entering an entirely new business. A purely financial buyer can make itself more attractive by recruiting relevant executive talent – for example, a retired CEO or other senior executive of a company that competes with the divestiture seller. In evaluating potential buyers, a seller and its counsel should question buyers (especially financial buyers) about how they plan to address the issue of industry experience and expertise.
Fourth, in a highly regulated industry such as pharmaceuticals or industrial chemicals, a buyer’s existing licences, registrations and permits relevant to the divestiture business – or its ability to obtain such required government approvals quickly – should feature prominently in a seller’s analysis of potential buyers, especially in light of the DOJ’s recent experience with GE/SUEZ. A divestiture seller in a regulated industry should first analyse all of the regulatory approvals relevant to the divestiture business (e.g., production site, active ingredient, formulation registrations with the US Environmental Protection Agency or the US Food & Drug Administration), and any other government approvals required to run the divestiture business (e.g., site licences or environmental permits). The seller and its counsel should then evaluate which of those government approvals can be transferred to a divestiture buyer, and if the approval can be transferred, what qualifications the buyer must have for a transfer to be approved. This work can then be used to identify a set of potential buyers that could realistically take control of the divestiture business quickly and efficiently.
There will likely not be any existing buyer that already has all approvals necessary to run the divestiture business or to which all of the seller’s approvals can be transferred. In those cases, the parties can arrange transition service and reverse transition service agreements that will allow the buyer to operate under approvals held in the seller’s name until the buyer can obtain its own approvals. The antitrust agencies, however, will expect the divestiture buyer to work hard to obtain its own approvals quickly. If a proposed buyer does not have prior experience and demonstrable success in obtaining similar approvals in the relevant industry, it should be prepared to explain, on a country-by-country basis, how it expects to obtain the approvals required to take control of the divestiture business. If a divestiture buyer cannot formulate such a detailed plan, this will be a significant issue that the seller should take into account because the authorities will be highly sceptical that the buyer is suitable, especially following GE/SUEZ.
Moreover, the divestiture seller is at substantial risk itself if the divestiture buyer experiences any delay in obtaining the government approvals required to take control of the divestiture business. Although GE was subject to what amounted to a daily fine until the divestitures were completed, the merging parties in Bayer/Monsanto have suffered the fall-out from the DOJ’s bad experience in GE/SUEZ. The Hold Separate Stipulation and Order in Bayer/Monsanto allowed Bayer and Monsanto to close their transaction, but Bayer is required to hold all of Monsanto separate until the required global divestitures are completed. While the divestiture timing issue in Bayer/Monsanto is caused by review of the divestiture package by foreign competition regulators, rather than the need for the divestiture buyer to obtain registrations, permits and licences, there is good reason to expect US antitrust agencies to adopt a similar approach when confronted with another regulatory situation analogous to GE/SUEZ. Accordingly, in evaluating divestiture buyers in regulated industries, the seller should consider the buyer’s existing government approvals and ability to obtain such approvals quickly and efficiently for two reasons: (1) it speaks to the suitability of the buyer; and (2) it protects the seller from suffering adverse consequences if the divestiture buyer cannot take control of the divestiture business in a timely manner.
Finally, in cases raising complex competition concerns (e.g., innovation competition or portfolio-level competition), the divestiture seller should carefully scrutinise a potential divestiture buyer’s existing product portfolio and pipeline of R&D projects, as well as the buyer’s history of innovation in the relevant industry. In these complex cases, the authorities will need to be persuaded not only that the buyer will maintain the competitiveness of a particular divested business, but that the buyer can ‘step into the shoes’ of the seller in terms of maintaining enterprise-level competition. If the buyer is not able to do so, the authority will reject the remedy proposal even if it technically resolves all horizontal overlaps between the merging firms. For example, in April 2015, Applied Materials Inc and Tokyo Electron Ltd abandoned their plans to merge because their divestiture proposal failed to resolve the DOJ’s innovation competition concerns. The parties were the largest and second-largest providers of non-lithography semiconductor manufacturing equipment, and they had offered to divest overlapping tool lines to the Innovation Network Corporation of Japan (INCJ), a public–private partnership supervised by the Ministry of Economy, Trade and Industry of Japan, which would provide capital and managerial support to the divested businesses. The DOJ, however, was primarily concerned with head-to-head innovation competition between the merging parties for development of equipment to be used in producing next-generation semiconductors, and DOJ was not persuaded that INCJ had the incentives and abilities to continue that innovation competition, even with a complete divestiture of all overlapping business lines between the merging parties.
In contrast to Applied Materials/Tokyo Electron, the DOJ recently approved a significant divestiture to BASF SE (BASF) in connection with Bayer’s acquisition of Monsanto, where the DOJ’s primary concern was the preservation of innovation and portfolio-level enterprise competition that existed between Bayer and Monsanto in the crop science business. In its competitive impact statement, the DOJ noted that:
- ‘BASF already has extensive agricultural experience’;
- ‘[c]ombining the businesses and assets being divested with BASF’s existing portfolio will allow it to become an integrated player and an effective industry competitor . . .’; and
- the divestiture of complementary assets, in light of BASF’s existing portfolio, will give BASF ‘scale and scope benefits to the divested GM seeds and trait business’, will ‘preserve the scope efficiencies that Bayer enjoys today’ and will ‘preserve BASF’s incentives to pursue [Bayer’s] innovations’.
In Bayer/Monsanto, BASF was a perfect divestiture buyer: ‘BASF already has extensive agricultural experience, but it lacks a seeds and traits business.’ While BASF had all of the capabilities needed to continue enterprise-level competition, BASF did not have assets that would have created significant new competition problems resulting from horizontal overlaps on a more granular level. While the ideal purchaser might not be available in every situation, a divestiture seller in a transaction raising complex competition concerns should seek as much as possible to strike the right balance between competing interests (i.e., balance a buyer’s relevant industry experience with potential new competition concerns created by the buyer’s existing business).
As the examples above demonstrate, the selection of a suitable divestiture buyer can be difficult in cases involving enterprise-level competition. While the analysis of this issue is dependent on the facts of a given case, there are at least three guiding principles to consider: (1) the degree to which the seller can plausibly argue that the divestiture buyer has sufficient resources available to continue investment in acquired R&D projects based on resources generated by complementary acquired businesses or existing complementary businesses; (2) the degree to which the seller can demonstrate the buyer has a history of significant R&D investment in the same industry as the divestiture business; and (3) the degree to which the buyer has a set of existing products that, together with the acquired assets, could fairly be viewed as a broad-based portfolio. None of these are easy questions, but in transactions that are likely to raise such issues, the seller and its counsel should engage in a rigorous analysis early in the life cycle of the transaction.
The seller should still conduct an auction
Despite the substantive considerations outlined above, the divestiture seller should still consider holding a robust auction to avoid a ‘fire sale’ to an unnecessarily restricted set of bidders. Even if there is one obviously superior candidate, it is usually a bad idea to let that buyer think it has no competition in the divestiture process. Thus, the factors outlined above should not be used as disqualifiers (or definitive selectors); rather, the factors should be used to assess the relative risk associated with potential buyers. While certain candidates might obviously be unacceptable, in most cases relative antitrust risk will be only one consideration in selecting the buyer. To avoid a situation where the pool of auction participants is unnecessarily restricted, the seller might consider consulting competition authorities for their input only after final offers are submitted. The views of the authorities could then be one of several factors used in selecting a buyer, but the timing of the authority’s views would not unnecessarily restrict the seller from running a competitive auction (e.g., if the agencies express a strong preference for only one buyer).
Choosing transaction mechanics
Once a set of potentially suitable buyers is identified, the seller should consider how the identity of the ultimate buyer will impact the transaction mechanics (i.e., whether the transaction proceeds as an asset sale or a sale of a complete, stand-alone business entity). While a private equity buyer might be interested in buying a stand-alone business entity, complete with back-office operations and corporate infrastructure, in most cases the buyer will be interested in taking something less than a complete, stand-alone business entity because the buyer already has redundant resources it can use to run the divestiture business. The set of assets the divestiture buyer wants to take, of course, will depend on what the divestiture buyer already has. Thus, in evaluating potential buyers, the seller should consider the assets available to the buyer in the context of what the overall divestiture transaction will look like.
This issue has become more prominent because of the strong preference of US authorities for divestiture of an entire ongoing business or existing business entity. With respect to the concept of an ongoing business, the FTC explained the following in the 2017 FTC Study:
Most of the packages of assets labeled as ‘on-going businesses’ had not, however, actually been operated as autonomous businesses before the divestiture; nevertheless, they were characterized this way because the market share attributed to the assets could be transferred immediately and potentially for the long-term. A buyer could buy and be operational the next day, selling to all of the same customers.
While a complete analysis of this issue is beyond the scope of this chapter, the DOJ appears to be departing from the FTC’s explanation in recent mergers – instead, the DOJ has adopted a more literal interpretation of ‘existing business’ entity. For example, in at least one recent case, the DOJ has taken the position that unless the seller divests a literal stand-alone business entity (i.e., through a sale of shares in the relevant legal entity or entities), the divestiture should be viewed as an asset sale that warrants close scrutiny. The impact of this position on divestiture sellers is that the seller needs to evaluate at an early stage how it can structure a divestiture to a strategic buyer – the scope of which will depend on the particular assets and personnel already available to the buyer – in a way that will be palatable to the antitrust agencies.
We have three suggestions for how a seller might handle this issue.
First, the seller should define the divestiture business in broad terms (e.g., the global business or researching, developing, manufacturing and selling XYZ industrial chemical), and start with the premise that the divestiture will include all tangible and intangible assets used in the XYZ chemical business and all employees supporting the XYZ chemical business. From that starting point, the seller should evaluate what can be taken out of the transaction scope because of a particular buyer’s existing resources. For example, if a particular buyer is already involved in the manufacture and sale of industrial chemicals, the buyer might have no interest in purchasing additional equipment that is used to manufacture or formulate industrial chemicals. Instead of taking that equipment from the divestiture seller (which the divestiture seller might prefer to keep for other non-divested businesses in any event), the divestiture buyer might want to transition the XYZ chemical into its existing production line. Similarly on the human resources side, the buyer might already have a global industrial chemical R&D organisation, into which it can easily onboard R&D for the XYZ chemical without a need for additional R&D employees from the divestiture seller. The simpler human resources examples, of course, are where the buyer already has a payroll or accounting department and does not need the seller’s back-office operations or where the buyer already has ‘C-Suite’ executives with relevant industry experience and thus does not need the seller’s executives.
Although these scenarios might seem intuitive, they can be very difficult to explain if antitrust agencies adhere strictly to the concept that the only appropriate divestiture is a stand-alone business entity that will be ‘plug and play’ for any divestiture buyer. The divestiture seller and potential buyer should start early in the process to prepare a plan to explain the proposed divestiture to the antitrust agencies. More specifically, the divestiture seller should catalogue all of the assets used in the divestiture business and all of the human resources supporting the divestiture business, and note all such resources that will not be included in the divestiture package because of the resources already available to a particular buyer. Then, for each excluded item, the potential buyer should explain how it intends to account for each excluded asset or employee with existing resources. While this process might seem cumbersome, it will speed up the process of explaining why a particular collection of assets should be viewed as a complete, stand-alone business. Ultimately, the divestiture buyer will need to explain to the antitrust agencies why it agreed to exclude certain assets and personnel so the exclusions will not be perceived as attempts by the seller to retain assets or personnel to the detriment of the divestiture business. To strengthen that presentation by the buyer, the divestiture seller should ensure that the buyer has access to information about all of the assets used in the divestiture business and all of the personnel supporting the divestiture business so the buyer can persuade the antitrust agencies that it has made fully informed decisions.
Defining the assets that will be excluded from the divestiture of a complete ‘ongoing business’ in light of the particular resources of the buyer can be a time-consuming exercise, and the complexity of the process will vary depending on the identity of the buyer. The seller should therefore consider early on what the divestiture transaction mechanics might look like depending on the divestiture buyer selected. In this process, the divestiture seller and its counsel also should consider the threshold issue of whether the proposed asset package is too minimal to be accepted by US antitrust agencies, even if that package might be what a potential buyer would want or accept. For example, when Office Depot and Staples attempted to merge, the parties offered a divestiture of a substantial customer contracts to office supply wholesalers, but did not offer to transfer substantial additional tangible or intangible assets or to provide substantial transitional or other support to the buyers. The merging parties then argued that the amount of business provided by the transferred contracts was enough for the divestiture buyer to compete at the same level as the merging parties. The FTC rejected this proposed remedy and successfully sued to enjoin the transaction. While there were other competition concerns in Office Depot/Staples, it can be viewed as a case where the remedy put on the table was simply too ‘bare bones’ to be taken seriously by the FTC, even if the divestiture buyer was willing to take only the contracts and nothing more. In short, divestiture sellers and their counsel need to take a realistic look at whether the asset package assembled for a particular buyer can plausibly be held out as a viable, ongoing business.
Second, if US authorities might view the divestiture transaction as an asset sale, the divestiture seller should consider the safety measures it might be required to include in the transaction documents, which depend on the buyer’s experience in the relevant industry. For example, in Bayer/Monsanto, BASF did not previously have a seeds and traits business, and the DOJ required that Bayer give BASF three safety measures in connection with divestiture of Bayer’s seeds and traits business: (1) the DOJ required Bayer to provide a comprehensive asset sufficiency warranty that the divested assets were sufficient to maintain the viability and competitiveness of the divested businesses; (2) the DOJ required that Bayer provide a one-year asset look-back right to BASF, under which BASF could request additional Bayer assets used in the divested businesses if they were reasonably necessary to the competitiveness of the divested businesses; and (3) the DOJ required that Bayer give BASF the right to request further information about employees who supported the divested business and the right to hire any such employees for one year after closing. It is difficult to tell whether these requirements will become the ‘new normal’ in any deal the US antitrust agencies deem an asset sale, or if they are instead specific to unique issues presented by the Bayer/Monsanto transaction. Whatever the case may be, a divestiture seller in an asset sale should consider proactively providing certain safety measures to the buyer to ease the remedy review process, especially if the buyer will be entering a business area in which it did not previously participate. These safety measures can be key in persuading antitrust agencies to accept a proposed remedy that they might otherwise deem a risky asset sale.
Consistent with the concept of providing such safety measures, the divestiture seller would be well-advised as a general matter that divestiture transaction documents will not necessarily resemble the product of hardball commercial negotiations in normal circumstances. Indeed, the FTC has said it will closely scrutinise the due diligence process to assess whether the divestiture buyer had adequate time and resources to analyse the divestiture transaction. And, as noted above, the antitrust agencies will take a close look at transaction documents to ensure that they do not unfairly impinge upon the buyer’s financial ability to continue operating the divestiture business over the long term. Regardless of the identity of the divestiture buyer – whether a private equity firm or the seller’s strongest competitor – the seller’s goal should be to obtain the best commercial result possible, consistent with the divestiture buyer being put in a position to fully and effectively replace the seller’s competitive presence in the marketplace. To that end, the divestiture seller should avoid provisions that are adverse to the divestiture buyer, even if the seller might try to include such provisions in transaction documents under normal circumstances.
Third, under the right circumstances, a divestiture seller might consider packaging assets into a stand-alone legal entity that could be transferred to a buyer pursuant to a relatively simple share purchase and sale agreement. This approach would satisfy the preference of US authorities for a clean and simple divestiture of a stand-alone business entity, and could be appropriate in those situations where the seller can reasonably predict the set of assets that buyers would want as part of the divestiture package. While this approach could be accused of elevating form over substance, there are several ways in which it is not merely a matter of form.
- The new legal entity would own all of the assets and employ all of the personnel significant to its business – for example, the XYZ industrial chemical business. Support provided to the new legal entity could be clearly defined through standard intercompany contracts within the corporate organisation (e.g., accounting and payroll support or general tolling support). The benefit of this approach is that the parties could clearly explain to the antitrust agencies the set of assets being transferred, and also explain easily how existing intercompany arrangements can be replaced by similar arrangements within the buyer’s corporate organisation, similar arrangements with a third-party service provider or transition service agreements between the buyer and seller until an independent solution can be implemented.
- If the new legal entity is set up sufficiently in advance, it could be used to run the divested business for a period of several months while the investigation of the main transaction proceeds. The seller could use that history to demonstrate that the entity holds the assets necessary to maintain the competitiveness and viability of the divested business, with general support provided by the larger corporate organisation that will be replaced fully by the buyer. This could substantially reduce doubts about whether the ‘right’ collection of assets is included.
- If the new legal entity is set up in advance, the seller could also apply for registrations, permits or licences that the new legal entity might require, or apply for transfer of existing approvals to the new entity. In regulated industries, this could eliminate some of the complexity associated with transfer of the business. Many government approvals that cannot be transferred outright from one entity to another will remain fully valid if the buyer instead acquires an existing legal entity that has its own registration, licence or permit.
- Finally, the structure of the divestiture transaction would be much less complex. If set up correctly, the divestiture transaction itself would be the sale of all shares in the new legal entity to the divestiture buyer. This could both simplify investigations by competition authorities and simplify negotiation of a consent decree with the DOJ or FTC because the definition of the divestiture business would be coextensive with the new legal entity.
It remains to be seen if the literal interpretation of ‘existing business’ entity by US antitrust agencies will persist, but as long as it does, a divestiture seller should evaluate how the existing resources of a potential divestiture buyer will affect the structure of the divestiture transaction and how the divestiture seller and buyer might best explain the proposed divestiture consistent with the stated preference for divestiture of an ‘existing business’ entity. Given the potential complexity of this process, and the amount of time it can consume, the divestiture seller should start the process as soon as possible when evaluating potentially suitable divestiture buyers.
Once suitable divestiture buyers have been identified and appropriate transaction mechanics have been considered, it is equally important to consider timing: when to identify a buyer and seek approval of the divestiture from competition authorities. Broadly speaking, there are two approaches: ‘fix-it-first’ and ‘wait-and-see’.
Under a fix-it-first approach, the divestiture seller will attempt to assemble a divestiture package that addresses all competition concerns with the main transaction, and then identify a buyer for that divestiture package. Typically, the seller and buyer will execute transaction documents that: (1) are conditioned on approval of the main transaction; (2) are conditioned on approval of the divestiture buyer by competition authorities; and (3) allow flexibility to alter the scope of the divestiture package based on feedback from competition authorities. If a fix-it-first approach is adopted, it is critical to maintain flexibility in each of these elements because the reviewing authorities have not yet provided feedback on the scope of the remedy they will require or the suitability of the proposed buyer. Separately, if there is a risk that a new horizontal or vertical issue could arise from sale of the divestiture business to the fix-it-first buyer, it is important that the transaction documents put appropriate antitrust-related divestiture obligations on the divestiture buyer. It is pointless for the divestiture seller to design an effective remedy package and identify an appropriate buyer, if only to later discover that the divestiture buyer is not willing to move forward with the transaction because of an additional divestiture that will be required from its own business.
The main risk associated with the fix-it-first approach is that it requires a prediction about the scope of the ultimate divestiture package and the acceptability of the chosen buyer. If feedback from competition regulators is obtained only very late in the process, it is possible that integration planning activities will have occurred that make changes difficult or impossible (e.g., applications for certain registration or permit transfers are already submitted on the basis of certain assumptions). Similarly, in global divestitures, if competition regulators provide feedback at different time points, the divestiture seller could find itself shooting at a moving target, and perhaps facing inconsistent instructions. A separate, but related risk, is that a competition authority might take offence at the fix-it-first approach, which could delay review of the transaction or create hostility. This risk can be managed, however, by assuring relevant competition regulators that the divestiture transaction can be changed, and the initial deal struck with the divestiture buyer should be seen as a proactive effort to start the process. Overall, it is important that no irreversible steps be taken to execute on a fix-it-first remedy until all relevant competition regulators have provided their views. While the fix-it-first approach should approximate the likely divestiture as closely as possible, it should not kill the transaction by cementing in place a remedy that might not be acceptable to the authorities.
The main benefit associated with a fix-it-first approach is that a concrete remedy proposal can be offered to the competition regulators, making it clear that crafting a remedy is indeed feasible. Moreover, from a US litigation perspective, the parties will enjoy a favourable position under Arch Coal and related cases. Those cases explain that if a concrete remedy proposal is provided early enough in the antitrust agency’s investigation, the antitrust agency will need to carry its initial litigation burden with respect to the main transaction taking into account the remedy that was presented by the parties. In contrast, if the parties wait to enter into a transaction with a divestiture buyer, the antitrust agency will be able to argue that the court should not consider any proposed remedy because it is not certain to occur. In transactions that raise substantial competition issues, where litigation is at least a possibility, the parties may be well-served to adopt a fix-it-first approach.
Of course, adopting a fix-it-first approach may very well delay review of the main transaction. The antitrust agencies will almost certainly want to investigate the remedy, including a detailed investigation of the divestiture buyer. The parties should be prepared for: (1) civil investigative demands seeking documents, interrogatory responses and depositions designed to investigate the capabilities of the divestiture buyer; (2) requests for detailed business plans from the divestiture buyer for the divestiture business; and (3) meetings between executives of the divestiture buyer and the antitrust agency as part of the investigation of the main transaction. Even if the parties to the main transaction have substantially complied with a Second Request, the DOJ or FTC can issue civil investigative demands to investigate additional issues, including the proposed divestiture purchaser. These additional investigations will extend the timeline for approval of the main transaction. Whether that delay is acceptable can be considered after a weighing up of the costs and benefits associated with the fix-it-first approach, as described above.
The alternative to the fix-it-first approach is to ‘wait-and-see’ whether the antitrust agency requires a divestiture. The obvious disadvantages to this situation are: (1) an extremely tight timeline to hold an auction and identify a suitable buyer for the divested business; and (2) heavy involvement by competition regulators in the mechanics of the auction and negotiation of the transaction documents. In these circumstances, the fire sale nature of the process will be obvious to the potential buyers – as will the involvements of the antitrust agency in the process as referee – and that could lead to substantial value leakage.
Moreover, the wait-and-see approach could lead to substantial delays in integration of the parties to the main transaction if the case involves global divestitures. Traditionally, the parties to the main transaction have been permitted to integrate pursuant to a stipulation and order pending entry of a consent decree by the court, while the divestiture business is held separate until it is transferred to a suitable buyer. While there is no reason to expect this process to change in relatively simple cases (e.g., sale of a stand-alone gravel business in Minnesota), there are signs that the traditional approach is changing in the case of complicated international transactions.
As described above, following the DOJ’s experience with GE/SUEZ, it required Bayer to hold all of Monsanto separate until all required divestitures to BASF are completed. This represents a potential sea change that could make a fix-it-first approach strongly preferable in transactions likely to require global divestitures subject to review by numerous national competition authorities. Under a fix-it-first approach, the divestiture buyer is identified early in the review process, and the parties can work to ensure that the divestiture buyer has all regulatory approvals (both antitrust and non-antitrust) around the world lined up to take control of the divestiture businesses before the closing of the main transaction, or at least soon after. This will ensure that the parties to the main transaction are not left in a hold separate while these approvals, which are specific to the particular divestiture purchaser, are obtained.
As with the identification of suitable divestiture buyers and the selection of an appropriate structure for the divestiture transaction, the timing for identifying a divestiture buyer will depend on the specifics of a given transaction. In relatively complex cases, a divestiture seller should strongly consider a fix-it-first approach given potential timing problems created by a wait-and-see approach. In less complex cases, a divestiture seller might have more leeway to choose between the two approaches, but as described above, there are still substantial benefits to pursuing a fix-it-first approach in terms of the substantive presentation of the antitrust agencies.
While the scope of a divestiture package has traditionally received significant attention when analysing the antitrust risk presented by a proposed transaction, the analysis of suitable divestiture buyers has received relatively less. US antitrust agencies, however, have recently emphasised that they will scrutinise both the scope of divestiture and the capabilities of proposed divestiture buyers as part of their overall analysis of whether to accept a proposed remedy. This development places new importance on identifying a suitable divestiture buyer and putting in place a structure for the divestiture transaction that makes it clear that the particular divestiture buyer has what it needs to run the divested business in a viable manner. By following the guidelines suggested above, divestiture sellers can better position themselves to manage antitrust risk and, hopefully, speed the process of getting their divestiture package and divestiture buyer approved by competition agencies.
1 Steven L Holley and Dustin F Guzior are partners at Sullivan & Cromwell LLP.
2 Antitrust Division Merger Remedies Manual at 3 (September 2020) (available at www.justice.gov/atr/page/file/1312416/download) (‘Preserving competition is the key to the whole question of an antitrust remedy, and preserving competition is the only appropriate goal with respect to crafting merger remedies.’) (internal citations omitted) (the Merger Remedies Manual).
3 FTC’s Merger Remedies 2006–2012: A Report of the Bureaus of Competition and Economics (January 2017) (available at www.ftc.gov/reports/ftcs-merger-remedies-2006-2012-report-bureaus-compe…) (the 2017 FTC Study).
4 Merger Remedies Manual at 8 (‘To best achieve the goal of preserving the competition that would have been lost as a result of the merger, the Division has a preference for requiring the divestiture of an existing standalone business, because it has demonstrated success competing in the relevant market.’).
5 2017 FTC Study at 21–23, 32.
6 Justice Department Requires General Electric Company to Make Incentive Payments to Encourage Completion of Divestitures Agreed to as a Condition of Baker Hughes Merger (17 October 2017) (available at www.justice.gov/opa/pr/justice-department-requires-general-electric-com…).
7 Competitive Impact Statement, United States v. Bayer AG et al, No. 18-cv-01241-JEB, at 18–20 (DDC 29 May 2018) (Doc 3) (available at www.justice.gov/atr/case-document/file/1066681/download) (the Bayer Competitive Impact Statement).
8 ‘Identification of an upfront buyer is particularly important in cases where the Division determines that there are likely to be few acceptable and interested buyers who will effectively preserve competition in the relevant market post-divestiture. For example, upfront buyers are particularly important in cases in which: (1) parties seek to divest assets comprising less than a stand-alone, ongoing business; (2) the assets are susceptible to deterioration pending divestiture (and a hold separate order will not minimize the interim harm); (3) the parties propose to divest primarily intellectual property or other limited assets; or (4) the business is so specialized there are likely to be few acceptable buyers.’ Merger Remedies Manual at 22.
9 ‘Parties proposing to divest a standalone business should be prepared to show that the business to be divested includes all of the components necessary to operate such business, that it operates or has in the recent past operated as a standalone business, and that it can be sold to a divestiture buyer who will be able to preserve competition. Where an existing business lacks these characteristics, additional assets from the merging firms will need to be included in the divestiture package.’ Merger Remedies Manual at 9.
10 The Division has stated, however, that there may be circumstances in which a private equity purchaser would be able to effectively preserve competition, so financial buyers need not be ruled out categorically. Merger Remedies Manual at 24.
11 ‘First, divestiture of the assets to the proposed purchaser must not itself cause competitive harm.’ Merger Remedies Manual at 23. On 30 June 2020, the DOJ and FTC released the Vertical Merger Guidelines, which describe issues the agencies are likely to consider in assessing potential competitive effects of a non-horizontal merger. Those Guidelines should be taken into consideration when evaluating whether a potential divestiture buyer would create new competition problems that might need to be addressed separately.
12 A real-world example of such a split is the split of slots, gates and ground facilities at key airports when US Airways and American Airlines made divestitures to JetBlue, Southwest and Virgin. Justice Department Requires US Airways and American Airlines to Divest Facilities (12 November 2013) (available at www.justice.gov/opa/pr/justice-department-requires-us-airways-and-ameri…); ‘Reagan National routes, after the US Airways-American Airlines merger’ (15 May 2014) (available at www.washingtonpost.com/lifestyle/travel/reagan-national-routes-after-th…).
13 ‘Division attorneys and economists reviewing fix-it-first remedies will carefully screen the proposed divestiture for any relationships between the seller and the purchaser, since the parties have, in essence, self-selected the purchaser.’ Merger Remedies Manual at 18.
14 ‘Second, the Division must be certain that the purchaser has the incentive to use the divestiture assets to compete in the relevant market.’ Merger Remedies Manual at 23.
15 ‘Third, the Division will evaluate the “fitness” of the proposed purchaser to ensure that the purchaser has sufficient acumen, experience, and financial capability to compete effectively in the market over the long term.’ Merger Remedies Manual at 24.
16 FAQ About Merger Consent Order Provisions (available at www.ftc.gov/tips-advice/competition-guidance/guide-antitrust-laws/merge…).
17 The ‘third-party solution’ approach recently was closely scrutinised by DOJ in connection with Bayer’s acquisition of Monsanto. The Proposed Final Judgment in that case requires Bayer to make fairly burdensome representations and commitments in connection with back-office and corporate infrastructure services to be provided by a third-party, Tata Consultancy Services. Proposed Final Judgment, United States v. Bayer AG et al, No. 18-cv-01241-JEB, (DDC 29 May 2018) (Doc 2-2 at Section IV(H)(2)) (available at www.justice.gov/atr/case-document/file/1066676/download).
18 Agency Decision-Making in Merger Cases, Organisation for Economic Cooperation and Development (17 November 2016) at 4 (available at www.ftc.gov/system/files/attachments/us-submissions-oecd-2010-present-o…) (the OECD Report).
19 ‘It must be demonstrated to the Division’s sole satisfaction that the purchaser has the managerial, operational, technical and financial capability to compete effectively with the divestiture assets.’ Merger Remedies Manual at 24.
20 See Proposed Final Judgment, United States v. Bayer AG et al, No. 18-cv-01241-JEB, (DDC 29 May 2018) (Doc 2-2 at Section IV(L)) (available at www.justice.gov/atr/case-document/file/1066676/download).
21 In addressing the GE/SUEZ issue, the DOJ noted: ‘To ensure that competition is preserved, merging companies must commit to completing the required divestiture in a timely fashion and, in return, they are allowed to consummate their merger before the divestiture is finalized. In this case, GE signed a Hold Separate Stipulation and Order in which it agreed to make a prompt, complete divestiture and was allowed to consummate its merger with Baker Hughes on July 3. However, GE is now unable to comply with the timing it committed to in its original settlement with the Department.’ Justice Department Requires General Electric Company to Make Incentive Payments to Encourage Completion of Divestitures Agreed to as a Condition of Baker Hughes Merger (17 October 2017) (available at www.justice.gov/opa/pr/justice-department-requires-general-electric-com…).
22 Stipulation and Order, United States v. Bayer AG et al, No. 18-cv-01241-JEB, (DDC 29 May 2018) (Doc 2-1 at Section VII) (available at www.justice.gov/atr/case-document/file/1066666/download).
23 OECD Report at 4.
24 Bayer Competitive Impact Statement at 18–23.
25 id. at 18 (emphasis added).
26 2017 FTC Study at 12; Merger Remedies Manual at 8–9.
27 2017 FTC Study at 3, n. 8.
28 See Bayer Competitive Impact Statement at 16.
29 OECD Report at 5.
30 See Proposed Final Judgment, United States v. Bayer AG et al, No. 18-cv-01241-JEB, (DDC 29 May 2018) (Doc 2-2 at Sections IV(E) and IV(F)).
31 2017 FTC Study at 25, 34.
32 FTC v. Arch Coal Inc, No. 04-0534 (JDB), Mem Op at 6–8 (DDC 7 July 2004).
33 See David Gelfand and Leah Brannon, ‘A Primer on Litigating the Fix’, 31 Antitrust 10, 10 (2016) (available at http://awa2017.concurrences.com/IMG/pdf/3._d._gelfand_and_l._brannon_-_…).
34 Antitrust Division Manual, Fifth Edition, III-46 (available at www.justice.gov/atr/file/761141/download) (‘CIDs can also be served on parties to supplement the second request, although obtaining timely production of material so requested may prove problematic.’).