Changes and H&R Block: Stories from the GCR Archives

DOJ sues to stop tax-preparation deal

Originally published 24 May 2011

US antitrust authorities are stepping in to stop tax-preparation company H&R Block from taking over rival tax service, TaxAct. The US Department of Justice’s Antitrust Division yesterday filed a federal lawsuit to block the $287 million deal.

The division says the deal would reduce the US market for tax-preparation software from three companies to two. Post-merger, H&R Block and current market leader, Intuit, would control as much as 90% of the market.

Christine Varney, assistant attorney general in charge of the division, says that the merger would “destroy the head-to-head competition” that exists between the two companies for electronic tax-preparation software that serves 40 million consumers annually.

Varney says TaxAct, currently the third-largest provider of tax-preparation software in the country, acts as a “maverick” in the market. Its free tax-preparation and filing service has led its competitors, including H&R Block, to offer a matching free service and lower prices, Varney says.

According to the lawsuit, several internal H&R Block documents indicated that the company saw the acquisition as a chance to eliminate a disruptive competitor. The company noted in documents that its plan was to buy TaxAct and “eliminate the brand to regain control of industry pricing and avoid further
price erosion”.

Says Varney: “We believe that these statements clearly reveal that TaxAct is a formidable competitor that is being acquired to thwart competition in the tax software market.”

In a statement, H&R Block says that both brands would continue to operate in the market, and that the synergies realised from the merger would create a more competitive industry.

“The DOJ today made a determination to stifle smart business growth,” says William Cobb, H&R Block’s president. “We’re especially disappointed with this decision knowing that the DOJ rejected guarantees that we would not raise TaxAct’s prices.”

The company says it is exploring its legal options.

One source, who declined to comment on the record because of client conflicts, says that the strategic planning documents mentioned in the lawsuit “were clearly a motivator for the challenge”.

The source says that the lawsuit could be seen as falling into a category of deals the DOJ has challenged in recent years, where a company purchases a competitor that is considered a maverick and innovator in an industry.

It remains unclear what that might indicate about the potential of a DOJ challenge to the AT&T/T-Mobile telecoms deal, which is under review by both the Antitrust Division and the Federal Communications Commission. T-Mobile has been labelled a maverick in the mobile telecoms industry because of the pricing and service plans it offers consumers.

The H&R Block challenge also continues a trend of intense merger control at the division, says James Fishkin, partner at Dechert in Washington, DC.

Since 1 April, the DOJ has challenged 10 mergers – more than the total it challenged in 2010. This includes a handful of consent decrees – such as the deals struck in the Google/ITA merger and Unilever/Alberto-Culver – as well as mergers that were abandoned in the face of a potential DOJ lawsuit.

Testimony at trial may favour H&R Block/TaxAct

By Ron Knox

Originally published 14 September 2011

A government witness on Friday laid out the case against H&R Block’s purchase of rival tax-preparation company TaxAct – but may have also given some credence to the companies’ argument in favour of the merger.

In a day-long stint on the witness stand, economist Frederic Warren-Boulton conceded that an increase in the price of tax-preparation software may cause up to a million customers to leave the two rival companies in favour of other tax-preparation options, including free services or in-person assistance with filing taxes.

The testimony came at the end of a lengthy day in which Warren-Boulton, a government witness, answered extensive questions both from DOJ prosecutors and defence attorneys fighting the government’s attempt to block the merger, according to a transcript of the trial provided to GCR.

The DOJ’s Antitrust Division sued to block the $287 million H&R Block/TaxAct deal in May, saying the merger would eliminate one of three companies that primarily compete in the digital do-it-yourself (DDIY) tax-­preparation market.

The government also claims that TaxAct was a maverick whose free tax-­preparation software helped push H&R Block and others to offer free products of their own.

The government’s lawsuit quoted from internal H&R Block documents indicating the company wanted to buy TaxAct to “eliminate the brand to regain control of industry pricing and avoid further price erosion”.

The trial began last week in the US District Court in Washington, DC.

Earlier in the day, Warren-Boulton, from Microeconomic Consulting & Research Associates, told the court how the deal could harm competition and potentially allow H&R Block to coordinate with its rivals in the market.

According to the transcript, Warren-Boulton told the court that new entrants to the market would not deter the potential anticompetitive effects of the merger.

Under questioning from Deputy Assistant Attorney General Joseph Wayland, Warren-Boulton called tax-preparation software a “trust product”. While the preparation software itself is easy and relatively cheap to produce, he said, smaller companies struggle to win over customers who have already chosen the brand of tax software they prefer to use.

Smaller tax software companies already have an incentive to expand if they could – the profit margins on the software itself is very high – but the “real problem is selling the stuff”, Warren-Boulton said.

“The little firms are just simply not going to respond to this merger by saying, great, let me get to the size of TaxAct in a short time period,” he told the court.

Warren-Boulton said that, although there are many small players in the market, the deal would essentially reduce the market for tax-preparation software from three to two. Were the merger to close, H&R Block and industry leader Intuit would control as much as 90% of the market. Although that does not necessarily mean the companies would do anything illegal, he said, that concentration would make it far easier for the companies to closely mirror their pricing and services.

Potential coordination would be even more likely after the elimination of TaxAct, a company Warren-Boulton described as a “tough competitor” that has been consistently innovative in the tax-preparation market.

For companies that offer paid tax-preparation software, such as H&R Block and Intuit, offering a free product can be expensive and cut into sales of its paid products. Without TaxAct in the market, he said, the two remaining companies would have an incentive to reduce or eliminate free products, and act in other ways that could raise prices or lower the quality of service to customers.

But under cross-examination from J Robert Robertson, partner at Hogan Lovells LLP and counsel to both companies, Warren-Boulton admitted that smaller tax-preparation companies that offered a free product could step into TaxAct’s place in the market, and put pressure on H&R Block and Intuit to keep prices and services intact.

“[Y]ou would not have to see one of the other firms suddenly becoming a TaxAct overnight in order to deter a price increase,” Warren-Boulton said.

What’s more, Warren-Boulton conceded that under some scenarios, customers may be willing to switch to other companies or other forms of tax preparation other than DDIY, if H&R Block or TaxAct were to begin charging for their free products.

In response to Robertson’s questions, Warren-Boulton said that in classic economics, when a company raises prices it typically loses customers.

Robertson asked whether the combined company could lose as many as a million customers if it raised prices. “That’s correct,” Warren-Boulton said.

The trial has continued this week with testimony from defence witnesses, including economist Christine Meyer from NERA Economic Consulting.

As H&R Block/TaxAct trial concludes, market definition remains at issue

By Ron Knox

Originally published 3 October 2011

After more than a week of trial, the US government’s case against a merger between tax-preparation companies H&R Block and TaxAct now rests in the hands of the court.

Observers say the question now is: which side succeeded in convincing the court that its definition of the tax-preparation market was correct?

Lawyers for the companies say the government has failed to make a case that the deal would harm competition, even after scores of depositions and millions of pages of documents.

In its closing brief, filed yesterday with the District Court in Washington, DC, a defence team from Hogan Lovells said the companies have proven at trial that their merger would actually benefit competition, leading to lower prices and better service.

Prosecutors struggled to define a relevant market and show how the deal would harm competition, defence counsel says. “It has theories,” counsel says of the government’s case, “but no evidence.”

The government maintains that the companies operate and compete in the DDIY tax-preparation market, where customers use software to complete and file their tax returns online. Under that market definition, the deal would severely hamper competition, the government argues, and would eliminate providers of free tax services from the industry.

The case

H&R Block made its offer for TaxAct’s parent company, 2SS Holdings, in October last year, agreeing to pay $287 million for the smaller, digital tax-preparation company.

The company said it planned to combine TaxAct, the third-largest DDIY service in the US, with its own “At Home” digital business that would continue to operate under the TaxAct name.

But in May the Antitrust Division sued to block the deal, saying the merger would eliminate competition and potentially raise prices for consumers.

In its lawsuit, the division identified the DDIY market as a unique one, and found that the deal would eliminate one of only three companies that primarily compete in that market. The division said that were the deal to close, H&R Block and market leader Intuit would handle nearly 90% of the DDIY tax returns filed in the country.

In its lawsuit, the government also claims that TaxAct was a maverick whose free tax-preparation software helped push H&R Block and others to offer free products of their own.

The government’s lawsuit quoted from internal H&R Block documents indicating the company wanted to buy TaxAct to “eliminate the brand to regain control of industry pricing and avoid further price erosion”.

The trial

After some legal wrangling, the government’s case against the merger went to trial two weeks ago. Since it began, the court has heard more than 20 depositions over nearly 10 days, including testimony from H&R Block’s chief executive, William Cobb, executives from rival tax-preparation services TaxSlayer and TaxHawk, and several expert witnesses.

From the beginning, the definition of the market proved crucial to each side.

The prosecution, led by Deputy Assistant Attorney General Joseph Wayland, offered evidence and witnesses to back its theory that both H&R Block and TaxAct operated in a distinct market for DDIY tax products.

In that market, the government alleged, the merger would eliminate significant competition and give H&R Block every incentive to raise prices and eliminate any free products.

But the company’s defence team, led by J Robert Robertson from Hogan Lovells, argued that the market is actually much larger – including in-person, assisted tax preparation and other services – and that the deal would not give the companies the power to raise prices without risking the loss of customers.

Early in the trial, government witness Frederick Warren-Boulton, from Microeconomic Consulting & Research Associates, told the court how the deal could harm competition and potentially allow H&R Block to coordinate with its rivals in the market.

According to the transcript, Warren-Boulton told the court that new entrants to the market would not deter the potential anticompetitive effects of the merger.

Under questioning from Wayland, Warren-Boulton called tax preparation software a “trust product”. While the preparation software itself is easy and relatively cheap to produce, he said, smaller companies struggle to win over customers who have already chosen the brand of tax software they prefer to use.

Smaller tax software companies already have an incentive to expand if they could – the profit margins on the software itself is very high – but the “real problem is selling the stuff”, Warren-Boulton said.

“The little firms are just simply not going to respond to this merger by saying, ‘great, let me get to the size of TaxAct in a short time period’,” he told the court.

But under cross-examination from Robertson, Warren-Boulton admitted that smaller tax preparation companies that offered a free product could step into TaxAct’s place in the market and put pressure on H&R Block and Intuit to keep prices and services intact.

“[You] would not have to see one of the other firms suddenly becoming a TaxAct overnight in order to deter a price increase,” Warren-Boulton said.

What’s more, Warren-Boulton conceded that under some scenarios, customers may be willing to switch to other companies or other forms of tax preparation rather than DDIY preparation, if H&R Block or TaxAct were to begin charging for their free products.

Later in the week, executives for TaxSlayer and TaxHawk, two smaller rivals, told the court that they believed that their products offered customers better prices – essentially, more options for filing free federal tax returns – and were poised to move into the market quickly should H&R Block or TaxAct begin charging for their free products.

Dane Kimber, an executive at TaxHawk, told the court that with the company’s current infrastructure, it could handle as much as seven times the amount of customer traffic it currently handles, should consumers choose to switch to the company from TaxAct or elsewhere.

“That being said, we view our company as agile and able to quickly react as well, and could put things in place – if we saw those trends coming – to handle even more than that,” Kimber said.

Closing briefs

Prosecutors now say that the trial record confirms what the government alleged in its complaint to block the deal: that H&R Block and TaxAct compete aggressively in the market for DDIY tax preparation and a merger between the two companies would ultimately hurt consumers.

In court documents filed yesterday, the government says the evidence for establishing the nature of the market and the competition within it is “overwhelming”.

As H&R Block and TaxAct contemplated the merger, they measured one another’s shares in the “digital market”, and justified the merger as a way of competing against their largest competitor in that market, prosecutors say.

The government says that at trial, the defendants’ witnesses tried to dismiss admissions demonstrating that the companies recognise and aggressively compete in a digital market by pointing to general statements about all forms of tax preparation.

“But these general statements frequently appear in the same documents in which defendants identify competitors in two distinct markets – assisted and digital – and make clear that competition in each of the markets is having little effect on the other,” the government says.

In its own closing brief, the defence says the government failed to prove that DDIY tax preparation was a separate, distinct market and that customers would be willing to pay more rather than switch to a different method of tax preparation, such as in-person, assisted preparation or free tax forms from the Internal Revenue Service.

Aside from not proving the market, defence lawyers say, the government’s case suffered from “a complete lack of evidence supporting its claims of anticompetitive effects”.

Robertson and the Hogan Lovells team called the government’s view of TaxAct as a maverick in the market “stale” and “outdated”, and said that the companies offered significant evidence that prices would not go up were the merger to close.

The case is now in the court’s hands. But, observers say, the case may not end at the district court.

Reaction

Win or lose, observers say the lasting impact of the case is debatable. At least at this stage. The framework of the case simply reinforces well-established case law in merger challenges that requires prosecutors to clearly define a product market in which a tie-up could harm competition, observers say. While the government’s revised Horizontal Merger Guidelines may suggest a stronger focus on a merger’s competitive effects and the economic formulas to prove those, market definition and shares are still preponderant in US case law.

And at this stage the H&R Block/TaxAct challenge appears to be a relatively straightforward challenge based on market definition, says William Blumenthal, partner at Clifford Chance in Washington, DC.

“At this stage, it looks like just another decision that will go in the win column or the loss column,” Blumenthal says. “And then they’ll move on.”

But if moving on entails an appeal to the circuit court, he says, the case would be far more likely to establish a precedent. “You never know at this stage what’s going to emerge as doctrinally important,” Blumenthal says.

For example, he says, the FTC’s challenge of the merger between supermarkets Whole Foods and Wild Oats was a relatively straightforward case based on market definition at a similar stage. It wasn’t until the case reached the appeals stage that it became more relevant to future merger challenges.

But Ian Conner, antitrust specialist at Kirkland & Ellis in Washington, DC, says the challenge should be a very important one for the DOJ. It is the first case the Antitrust Division has challenged since Oracle/Peoplesoft in 2004, he says, yet has not garnered the attention one might expect.

The case itself could have significant importance to the DOJ as it works to define markets where traditional bricks-and-mortar businesses meet their digital rivals, Conner says.

“As more industries move towards digital versions of themselves, the issue is only going to become more common,” he says.

Judge sides with DOJ market definition in H&R Block/TaxAct trial

By Ron Knox

Originally published 11 November 2011

The evidence presented during the H&R Block/TaxAct merger trial has convinced a federal judge that the tie-up would have led to an anticompetitive duopoly in the market for DDIY tax preparation capable of raising prices for customers.

In a decision handed down on 31 October but published yesterday, Judge Beryl Howell of the US District Court in Washington, DC, said the court was unconvinced by the companies’ argument that the market for tax-preparation services was much wider, and should include face-to-face tax preparation and other services.

Instead, Judge Howell found that the government’s proposed market definition was the right one. Under that definition, the court ruled, the merger would have created a company capable of colluding with its only remaining rival and harming competition.

Judge Howell wrote that the defendants failed to show evidence that rebuts the government’s assertion that the merger would result in anticompetitive effects.

“To the contrary, the totality of the evidence confirms that anticompetitive effects are a likely result of the merger, which would give H&R Block and [market leader] Intuit control over 90% of the market for DDIY tax-preparation products,” Judge Howell wrote in the decision.

The DOJ’s Antitrust Division sued to block the $287 million deal in May, claiming the tie-up would eliminate one of only three major companies in the market. The DOJ also claimed that TaxAct was a “maverick” in the market that pushed H&R Block and others to offer free tax-preparation services.

The government’s evidence included several internal TaxAct documents prosecutors say helped prove DDIY tax products was the proper market definition.

At trial, held in late September and early October, attorneys for the companies argued that the market should include multiple other types of tax-preparation services. Customers who were faced with a price increase from H&R Block or Intuit, they argued, would instead switch from a digital product to either face-to-face assisted services or manual tax preparation.

The documents the government cited as evidence of the smaller, digital-only market were “select, ‘out-of-context’ snippets”, defence counsel claimed, while the bulk of the companies’ internal documents supported a wider market definition.

The court on 31 October granted the government’s motion to block the merger through a permanent injunction. Citing those same internal TaxAct documents, Howell found the evidence established that TaxAct viewed digital products from Intuit and H&R Block as its primary competitors, and it closely monitored pricing and marketing among its digital rivals.

“These documents are strong evidence that [DDIY] is the relevant product market,” Judge Howell wrote in the decision.

J Robert Robertson, partner at Hogan Lovells and counsel to TaxAct, says that the companies disagree with the decision. “We believe the merger would have been good for consumers,” he says.

H&R Block drops TaxAct deal

By Ron Knox

Originally published 11 November 2011

US tax-preparation company H&R Block has agreed to drop its pursuit of rival TaxAct after the DOJ’s Antitrust Division won a permanent injunction against the merger late last month.

The decision, announced in a regulatory filing yesterday, ends any speculation as to whether the companies would appeal against the 31 October federal court decision that effectively blocked the $287 million deal.

The division had sued to stop the merger, saying the takeover would reduce the number of DDIY tax-preparation companies from three to two, and give the remaining companies the power to charge customers more for digital tax-preparation services.

In the ruling made public last week, district judge Beryl Howell agreed with the division’s argument that DDIY tax preparation was its own market. Judge Howell also found that internal company documents prepared prior to the merger agreement indicated the companies saw one another as head-to-head competitors, and that the merger would help the companies by eliminating that competition.

In yesterday’s filing, H&R Block says the companies mutually agreed to drop their merger plans and not appeal the district court ruling. H&R Block will not incur any early termination penalties as a result of the decision.

Bernard Nigro, at Fried Frank, says the court’s decision confirmed the importance of market definition in merger trials, even though the country’s revised merger guidelines shift the emphasis of merger challenges away from market definition and towards competitive effects.

“The opinion also shows how hard it is for parties to walk away from contemporaneous business documents,” Nigro says.

Paul Denis, partner at Dechert, says that from the government’s perspective “a win is always a positive development.”

But any possible “momentum” effect of the decision on future DOJ merger challenges remains unclear. Denis says that any momentum from the decision will likely be limited by the “merger to duopoly” nature of the H&R Block case, as well as the unique position of TaxAct as a maverick in the DDIY market.

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