Canada: Merger Review

This chapter sets out the structure and practice for assessing merger review under the Canadian Competition Act. Similar to other competition regimes, the fundamental framework of analysis centres around whether a merger would, or is likely to, result in a substantial prevention or lessening of competition (SPLC) that would prevent merger clearance. We also discuss the enforcement approach taken to merger review by the Competition Bureau (Bureau). Lastly, the chapter examines issues related to challenges by the commissioner of competition (commissioner) and potential remedies when issues arise.

Recent amendments to the Competition Act1 have introduced a new merger review process, including a US-style second request process. The substantive review of mergers, however, remains essentially unchanged in Canada.

The Bureau has jurisdiction to review a broad variety of transactions and commercial arrangements as ‘mergers’. Specifically, section 91 of the Competition Act defines a merger as ‘the acquisition or establishment, direct or indirect, by one or more persons, whether by purchase or lease of shares or assets, by amalgamation or by combination or otherwise, of control over or significant interest in the whole or part of a business of a competitor, supplier, customer or other person.’ If it is found that a merger prevents or lessens, or is likely to prevent or lessen, competition substantially, the Competition Tribunal (Tribunal) may grant an application seeking remedies including dissolving or blocking the merger or ordering the divestiture or rescission of all or part of the acquired business.

In the course of its review to determine whether a transaction will likely result in a SPLC, the Bureau obtains its analytical information from several sources. It will receive information when the merging parties file notification forms and advance ruling certificate (ARC) requests (for more information on pre-merger notifications and ARC requests, please see the chapter ‘Canada: Merger Notifications’). The Bureau will also obtain further information, as needed, through the second request process (ie, through a ‘supplementary information request’ (SIR), also further described at ‘Canada: Merger Notifications’). In addition to the above, the Bureau also has additional tools at its disposal to obtain information when needed. For example, section 11 orders permit the commissioner to seek a court order to compel a party to provide documents and information.2 It will be interesting to see how the Bureau will approach the use of section 11 orders and the new SIRs going forward as these have the potential to greatly overlap.

In reviewing all the information that it has collected from the parties, its own records, competitors, market sources, experts and other third parties, the Bureau must determine whether a proposed merger will result in a SPLC. As noted in the Bureau’s Merger Enforcement Guidelines (MEGs),3 which provide merging parties general guidance on the Bureau’s analytical approach to merger review, a SPLC ‘results only from mergers that are likely to create, maintain or enhance the ability of the merged entity, unilaterally or in coordination with other firms, to exercise market power.’ In Superior Propane, the Tribunal noted that ‘what is necessary is evidence that a merger will create or enhance market power which (...) is ‘the ability to profitably influence price, quality, variety, service, advertising, innovation or other dimensions of competition’.4 See below for a discussion of the factors considered by the Bureau in determining the existence of a SPLC.

The anti-competitive threshold

As mentioned above, the MEGs also define a substantial prevention or lessening of competition as one which ‘results only from mergers that are likely to create, maintain or enhance the ability of the merged entity, unilaterally or in coordination with other firms, to exercise market power.’5 While market power can generally be assessed through the prism of either the seller or buyer, in the context of mergers, it is market power by the seller, defined as the ability of a single firm or group of firms to profitably maintain prices above the competitive level for a significant period of time, which is the most relevant to the Bureau’s analysis.6

The substantial prevention or lessening of competition will occur, as noted above, when the merged entity, unilaterally or in coordination with other firms, is able to sustain higher prices than would exist in the absence of the merger by diminishing existing competition or by hindering the development of future competition. In the latter scenario, the Bureau will typically examine the type, scope and timing of the potential entry or expansion by either one of the merging parties. To this end, when reviewing a merger, the Bureau may treat the transaction as a ‘prevent’ case when the acquirer, the target or a potential competitor has entry or expansion plans that are shelved due to the merger.7 Examples of mergers that may result in the prevention of competition include an acquisition that prevents expansion into new geographic markets, the pro-competitive effects of new capacity, the introduction of new products or involves the acquisition of an increasingly vigorous competitor or potential entrant.

Another factor considered by the Bureau in its assessment of whether there will be a substantial prevention or lessening of competition is whether the merged entity will have an ability to materially influence price. It will look at the likely magnitude, scope and duration of any anticipated price increase that may result from the merger.

Market definition

Typically, the first step in the Bureau’s review of a merger is to define the relevant market(s) in which the merging parties operate.8 The underlying rationale is to identify a group of buyers that may face increased market power as a result of the proposed merger. In doing so, the Bureau is essentially trying to define the smallest group of products, including at least one product of the merging parties, and the smallest geographic area in which a hypothetical monopolist9 can impose and maintain a 5 per cent price increase for a period generally longer than one year. Two key components of determining the relevant market(s) are the definition of product; and geographic markets.

Product market definition revolves around the characteristics of the products and buyers’ ability or willingness to switch from one product to another in a significant manner in response to relative price changes.10 In determining which products, if any, are close substitutes, the Bureau will look at functional indicators such as end use, physical and technical characteristics, price relationships and relative price levels, as well as potential switching costs incurred by buyers.11 However, it is possible that products that may be functional substitutes may entail high switching costs and thus not be close substitutes from the buyer’s perspective. For example, if the cost of switching to a close substitute is higher than the hypothetical monopolist’s 5 per cent price increase, switching cost alone may be a determining factor discouraging a buyer from switching products. Additionally, the Bureau may give consideration to indirect evidence of substitutability which may include evidence from market participants.

Geographic market definition, on the other hand, focuses on the buyers’ ability or willingness to switch, in response to changes in relative prices, their purchases from one geographic location to another. As in the case of product market definition, the Bureau will rely on functional indicators in determining whether geographic areas are considered to be close substitutes. The MEGs provides examples of such indicators, including specific characteristics of the product, switching costs, transportation costs, price relationships and relative price levels, shipment patterns and conditions regarding foreign competition. Several price and non-price factors can affect a buyer’s ability or willingness to consider distant options.12 For example, non-price factors may include fragility or perishability of the relevant product, convenience, frequency of delivery and the reliability of service or delivery. Again, as in the case of product market definition, high switching costs incurred by buyers may also discourage substitution between geographic areas.

Market share and concentration

The next step of the analysis involves the identification of participants in the relevant markets in order to determine whether significant vigorous competitors will remain in the market(s) post-merger. Although pursuant to subsection 92(2), evidence of market shares or concentration are not determinative, the first step in the SPLC analysis involves determining the participants and remaining competitors’ market shares and concentration levels to initially establish the potential significance of the impact of the merger on the market. Generally, participants include competitors who are current sellers of the relevant products but can include those potential competitors that could readily and profitably sell into the relevant markets without making significant sunk investments within a one year period. This response is often referred to as a ‘supply response’.

Typically, the analysis will focus on two sets of competitors who can potentially be part of a supply response. The first are sellers who are not currently supplying the relevant market and are able to profitably direct sales to the relevant market in the event of a 5 per cent price increase. In its assessment, the Bureau will, for example, examine factors such as switching costs, seller’s ability to reposition its products or extend product line and applicable intellectual property rights. The second set of participants are foreign sellers and the Bureau will look at the existence of tariffs, import quotas or export constraints, domestic ownership restrictions and whether the industry is susceptible to supply interruptions from abroad.

Having identified participants in the relevant market, the Bureau will then calculate their respective market shares and will often rely on metrics that include dollar sales, unit sales, capacity or, in certain natural resource industries, reserves. In selecting the appropriate metric, the Bureau will attempt to identify the best indicators of sellers’ future competitive significance.

Determining market share or concentration only provides a part of the larger picture. They require context and while market share or concentration may be high in a given case, it will not, in itself, be a sufficient basis to justify a finding that a merger is likely to prevent or lessen competition substantially. Nevertheless, they may serve as warning signs and lead to a more in-depth analysis of the merger by Bureau officials. In order to avoid needlessly delaying mergers by investigating every single transaction, the Bureau has outlined certain thresholds to identify mergers that are unlikely to have anti-competitive consequences. Typically, the commissioner will not challenge a merger on the basis of a concern related to the unilateral exercise of market power when the post-merger share of the merged entity is less than 35 per cent. Similarly, in the case of a concern related to a coordinated exercise of market power, if the post-merger share accounted for by the four largest firms in the market would be less than 65 per cent, or if the post-merger market share of the merged entity would be less than 10 per cent, the commissioner will typically not challenge the proposed merger.

These thresholds are not absolute benchmarks guaranteeing merger approval and should be viewed with some caution. Conversely, mergers that exceed these thresholds are not automatically viewed as being anti-competitive. In these cases, the Bureau will simply deepen its analysis and examine other factors to determine whether the merger in question will result in a substantial lessening or prevention of competition. In practice, many mergers where post-merger share exceeds 35 per cent are not ultimately challenged by the commissioner.

In addition to determining market share and concentration, the Bureau will examine their distribution across competitors and the extent to which market shares have varied over a significant period of time. Finally, the Bureau will also take into consideration the nature of the market and the impact of forthcoming change and innovation on the stability of existing market shares.

Anti-competitive effects

If the market share and concentration thresholds are exceeded or if the Bureau has information suggesting that there may be a substantial lessening or prevention of competition as a result of the merger, it will conduct a competitive effects analysis. This analysis typically focuses on unilateral and coordinated effects.

In a market with many sellers offering comparable products, a firm may be limited in its ability to profitably raise prices as buyers may be tempted to switch to substitute products. However, there may be situations where a firm will be able exercise unilateral market power irrespective of how its competitors respond. In markets with differentiated products, a post-merger price increase may be profitable because a price increase by one of the merging parties will divert demand toward the other merging party. In markets where firms are distinguished based on capacity, a price increase is likely to be profitable in circumstances where the seller offering close substitutes has insufficient capacity to absorb the demand that would normally be diverted from the merged entity.

A merger may result in coordinated effects when a group of firms can profitably coordinate its behaviour. This usually occurs when individual firms can adjust their conduct in response to one another. Such behaviour can involve tacit or express understandings on price, service levels, allocation of customers or territories, or any other aspect of competition.13 Typically, the Bureau’s analysis will, for example, include whether market conditions will likely permit coordinated behaviour to be sustainable post-merger, whether firms can detect and monitor deviations from coordinated efforts and how the merger changes the competitive dynamic in the market.

SPLC factors

If the Bureau determines that the above-noted market share and concentration thresholds are met or exceeded or when other information suggests that a merger may result in a SPLC, it will undertake a competitive effects analysis of the merger based on factors listed at section 93 of the Competition Act. Section 93 provides a non-exhaustive list of factors that may be considered in assessing whether a proposed merger will result in a SPLC. These are briefly summarised below.

• The extent to which foreign products or foreign competitors provide or are likely to provide effective competition to the businesses of the merging parties. The Bureau will examine the presence and viability of foreign competition to counter increased market power of the merged entity.
• Whether one of the merging firms can be characterised as a ‘failing firm’. The Bureau will consider whether one of the merging entities would fail if the merger were not to occur. A firm is considered to be failing if it is or is likely to become insolvent, to initiate voluntary bankruptcy proceedings or to be petitioned into bankruptcy or receivership. Before concluding that a merger involving a failing firm is not likely to result in a SPLC, the Bureau will look at other alternatives, including acquisition by a competitively preferable purchaser, retrenchment/restructuring and liquidation.14
• The extent to which acceptable substitutes for products supplied by the parties to the merger or proposed merger are or are likely to be available. Consideration will be given to the availability of products that are in the same geographic market as those supplied by the merging parties and whether consumers have other means of supply.
• The existence of barriers to entry and the effect of the transaction on such barriers. In assessing whether entry by a potential competitor is effective or not, the Bureau will take a closer look at whether entry is likely, timely and sufficient in scale and scope. Its analysis will also take into consideration barriers that may affect the likelihood, timeliness and sufficiency of entry.15 These barriers may include regulatory impediments, significant sunk costs and other entry-deterring factors.
• Whether there will be effective competition remaining after the merger. The Bureau will attempt to ascertain whether the collective influence of all sources of competition in the market will be able to act as a constraining factor against the exercise of market power by the merged entity acting unilaterally or in coordination with other market participants.
• The likelihood of whether the merger or proposed merger will eliminate a vigorous and effective competitor. A firm that is a vigorous and effective competitor often plays an important role in pressuring other firms to extend the limits of competition toward new frontiers. The competitive attributes of the acquired firm are assessed to determine whether the merger will likely result in the removal of a vigorous and effective competitor.
• The nature and extent of change and innovation in a relevant market. The Bureau examines change and innovation in relation to: distribution, service, sales, marketing, packaging, buyer tastes, purchase patterns, firm structure, the regulatory environment and the economy as a whole.
• The countervailing market power of buyers. In circumstances where credible options are available to buyers, buyer concentration can prevent a price increase and make it difficult for sellers to exercise market power. Typically, a buyer will have such ability if it can, for example, switch to other sellers in a reasonable amount of time or the promise of substantial orders can induce the expansion of an existing seller or sponsor entry by a potential seller, or both. In such a scenario, the Bureau will be interested in assessing whether one or more buyers have such a countervailing power enabling it to constrain the exercise of market power.

Efficiency exception

Subsection 96(1) of the Competition Act creates a trade-off framework whereby efficiency gains that will result from the merger are balanced against the anti-competitive effects that may be its direct result. As part of the trade-off analysis, the Bureau will be interested in seeing the nature, magnitude and likelihood of efficiency gains and whether such gains are greater than and offset the anti-competitive effects resulting from the merger.

The first step of the trade-off analysis consists of valuating all efficiency claims. When looking at gains, the Bureau will pay close attention to gains in productive efficiency (eg, savings associated with integrating new activities within the firm or product, plant level and multi-plant level savings in both variable and fixed costs) as well as gains in dynamic efficiency (eg, the optimal introduction of new products or the improvement of product quality and service).

The second step of the trade-off analysis consists of balancing the efficiency gains against ‘the effects of any prevention or lessening of competition that will result or is likely to result from the merger or proposed merger’.16 This entails the Bureau looking at all relevant price and non-price effects, including negative effects on allocative, productive, and dynamic efficiencies; redistributive effects; and effects on service, quality and product choice. Further, the Bureau may also consider price and non-price effects in interrelated markets.

Challenges

If the Bureau finds that the merger or proposed merger is likely to result in a SPLC in one or more relevant markets, the Bureau may apply to the Tribunal to challenge it or negotiate remedies with the merging parties in order to resolve the competition concerns by consent.

In circumstances where the commissioner is of the view that more time is needed to adequately analyse the competitive impact of a proposed merger, she may seek the agreement of the merging parties to delay the closing of the transaction. Alternatively, the commissioner may seek an interim injunction from the Tribunal pursuant to section 100 of the Competition Act. Section 100 interim injunctions can be obtained for a period of 30 days and may be extended for an additional 30 days.

Following recent amendments to the Competition Act, the new Canadian merger review regime establishes an initial waiting period of 30 days following which the parties can close their transaction provided that the Bureau has not exercised its discretion to extend the waiting period by issuing a SIR. Upon the issuance of a SIR, the waiting period is suspended until a complete response has been submitted by the merging parties. Once the response to the SIR is submitted, a new 30-day period begins to run and the parties may close their transaction following its expiry. With the Bureau now having the power to possibly ‘stop the clock’ by issuing a SIR to seek additional information, it is likely that section 100 orders may become less relevant going forward than they were in the past as a tool to provide the Bureau with additional time to review a merger.

If, following its review, the Bureau is of the view that the transaction would lead to a SPLC, and the commissioner and merging parties are unable to reach a settlement, it is open to the commissioner to challenge the proposed transaction pursuant to section 92 of the Competition Act. This is invariably followed by the commissioner bringing an application for an injunction under section 104, which may proceed on a contested or consensual basis. It is noteworthy that unlike a section 100 injunction, a section 104 injunction is only available where the commissioner has made an application to the Tribunal pursuant to section 92 on the basis that the proposed transaction would result in a SPLC. To obtain such an order from the Tribunal, the commissioner must establish that there is a serious issue to be tried; that irreparable harm would be caused to the applicant if the injunctive relief is not granted; and that the balance of convenience favours the granting of the order.

Remedies

As noted above, where the Bureau is concerned a merger or proposed merger is likely to result in a SPLC in one or more relevant markets, it will attempt, where possible, to negotiate a remedy with the parties concerned.17 While the Bureau has at its disposal a wide range of structural and behavioural remedies, it generally favours the former because, on balance, they are more effective than the latter.18 To this end, the Bureau has published an Information Bulletin on Merger Remedies in Canada19 which provides its current policy on merger remedies, general guidance on the objectives for remedial actions as well as general principles it applies when it seeks, designs and implements remedies.

Typically, structural remedies will involve the divestiture of asset(s) rather than the outright prohibition or dissolution of the merger. The assets chosen for divestitures must be both viable and sufficient to eliminate a SPLC, the divestiture must occur in a timely manner, and the buyer must be independent and have both the ability and intention to be an effective competitor in the relevant market. Other structural remedies include ‘hold-separate provisions’ and ‘maintenance provisions’.

The Bureau may also seek quasi-structural remedies. What this means is that while it may allow a merged entity to retain ownership of the assets acquired in the merger, certain actions may have structural implications for the marketplace (eg, removal of anti-competitive contract terms, granting non-discriminatory access rights to networks and licensing intellectual property).

Although the Bureau rarely seeks behavioural remedies on a standalone basis, it may seek combination remedies. Combination remedies would see a structural divestiture combined with other relief that is behavioural in nature. Common examples include:

• short-term supply arrangements for the buyer of the assets to be divested, at a price defined to approximate direct costs;
• the provision of technical assistance to help a buyer or licensee train employees in complex technologies, especially for those technologies related to intellectual property;
• a waiver by the merged entity of restrictive contract terms that lock-in customers for long periods of time; and
• codes of conduct, which can be readily monitored and expeditiously enforced by a third party (eg, through binding arbitration procedures).

The merger review regime is substantially similar to that found in other jurisdictions, such as the EU and US, and focuses on many of the same key issues and questions. However, while the Bureau has a long history of merger enforcement, it will be interesting to see how their approach evolves over the coming years with the recent amendments to the merger review process.

Notes

1 Competition Act, RSC 1985, c C-34 as amended (hereinafter Competition Act).

2 Section 11 orders allow the commissioner to obtain information from persons who have or are likely to have information that is relevant to a matter under inquiry pursuant to section 10 of the Competition Act. In Commissioner of Competition v Labatt Brewing Co Ltd et al, 2007 Comp Trib 9 (Competition Trib); affirmed 2008 FCA 22 (FCA), the commissioner brought a section 100 application on the basis that more time was needed to review the information provided by industry participants pursuant to section 11 of the Competition Act. Ultimately, the commissioner failed to adduce sufficient evidence to establish that the Tribunal’s remedial powers would be substantially impaired in the absence of an interim order. As a result, the Tribunal dismissed the commissioner’s application.

3 Merger Enforcement Guidelines, Competition Bureau, September 2004.

4 Canada (Commissioner of Competition) v Superior Propane Inc [2000] CCTD No. 15 at 258.

5 MEGs, supra note 3 at 2.1.

6 Ibid. at 2.3.

7 Ibid. at 2.11.

8 Ibid. at 3.1.

9 The hypothetical monopolist approach seeks to identify relevant markets by asking, with regard to each product of the merging firms, whether a profit-maximising hypothetical monopolist of that product would be able to profitably impose a small but significant no-transitory price increase (SSNIP).

10 Canada (Commissioner of Competition) v Superior Propane Inc [2000] CCTD No. 15 at 49.

11 Merger Enforcement Guidelines, supra note 3 at paragraph 3.15.

12 Ibid. at 3.22.

13 Ibid. at 5.18

14 Canada (Director of Investigation and Research) v Air Canada (1989), 27 CPR (3d) 476 (Comp Trib); Canada (Director of Investigation and Research) v Air Canada (1993), 49 CPR (3d) 7 (Comp Trib).

15 Canada (Director of Investigation and Research) v Laidlaw Waste Systems Ltd (1992), 40 CPR (3d) 289 (Comp Trib) at 331.

16 Merger Enforcement Guidelines, supra note 3 at paragraph 8.18.

17 In Canada (Director of Investigation and Research) v Southam Inc [1997] 1 SCR 748 at ¶85, the court outlined the standard for achieving an acceptable remedy in the following terms: ‘the appropriate remedy for a substantial lessening of competition is to restore competition to the point at which it can no longer be said to be substantially less than it was before the merger.?This is the test that the Tribunal has applied in consent cases.’

18 Canada (Commissioner of Competition) v Canadian Waste Services Holding Inc, [2001] CCTD No. 32, 15 CPR (4th) 5 (Comp Trib) at ¶110.

19 Information Bulletin on Merger Remedies in Canada, Competition Bureau, 22 September 2006.