Drafting a correct merger filing in India for CCI approval – Part III (non-compete clause)

6.6 In case the agreements/ other documents relating to the combination contain a non-compete clause or the parties to the combination have executed/ or propose to execute a non-competition agreement, in relation to the combination, the following details must be provided:

6.6.1 Scope, including: (i) the enterprises covered by the non-compete provision; and (ii) period; geographic scope and the products/ services covered under the non-compete clauses.

6.6.2 Justification for the non-compete provisions covering each of the elements as mentioned above.

Practice followed

Execution of contracts with post-termination exclusivity clauses could be questioned by CCI as being restrictive and exclusionary if: (a) the term of such clauses exceeds a reasonable period; (b) the subject matter of exclusivity is extremely wide; and (c) the geographical scope of exclusivity is extremely wide.

As a general practice, duration of post-termination exclusivity or non-compete for more than 3 years (unless it can be justified on an objective basis) has not been looked upon favourably by the CCI because as per CCI such a practice leads to market foreclosure.

The CCI has sought behavioural commitments in - Orchid Chemicals and Pharmaceuticals Limited/Hospira Healthcare India Private Limited:[1]

The transaction in this case related to the pharmaceutical sector and the non-compete obligation as entered into between the parties is set out below:

·        

•  the product scope of the non-compete extended to the target enterprise and the promoter of the target enterprise in relation to certain business activities relating to the business division that was transferred, i.e. research, development and testing of injectable formulations of certain kinds of active pharmaceutical ingredients; and
•  the time period of non-competition extended to 5 years on the target enterprise and 8 years on the promoter.

As a justification for the same the parties to the Hospira-Orchid combination review contended that the incorporation of such non-compete clauses was a standard industry practice, which was ‘generally considered necessary for the effective implementation of the proposed combination and allows the acquirer to obtain full value from the acquired assets’.

Being questioned by the CCI, the parties suggested certain modifications in the Hospira-Orchid matter by offering to reduce the time period to four years in relation to the domestic market in India and removed certain R&D restrictions, which were accepted by the CCI

CCI in its order noted:

“non compete obligations, if deemed necessary to be incorporated, should be reasonable particularly in respect of (a) the duration over which such restraint is enforceable; and (b) the business activities, geographical areas and person(s) subject to such restraint, so as to ensure that such obligations do not result in an appreciable adverse effect on competition.”

While reviewing the combination notification, CCI may ask for the agreement to be submitted to it for review.

In view of the CCI, the non-compete clause should only cover those products which are being currently developed, manufactured or sold by the target entities; and thus acquirer was issued notice to provide a justification for the above non-compete clauses. The blanket restrictions as to scope (time period and the products covered) are generally questioned by CCI and are not favourably seen.

Guidance Notes

The justification for the length/ scope of the non-compete agreement may be provided by taking into account, inter alia, the following factors:

• Time taken by a new entrant to gain at least 5% in the relevant market
• Nature of the industry
• Time required for obtaining regulatory approvals in the industry and the gestation period specific to the sector
• Any other transaction with specific details

The above are very rough and very broad guidelines for determining/ assessing the AAEC of such non-compete clauses in the agreements. Therefore, it will be expedient for the parties to carefully draft the non-competition agreement and carefully conduct its due diligence while ascertaining the scope and nature of the industry involved and the non-compete sought.

---

[1]       (C-2012/09/79).

Drafting a correct merger filing in India for CCI approval – Part II (Market Size, Market Concentration)

In furtherance of my earlier piece on defining relevant market, another important factor for determining and accessing the appreciable adverse effect on competition (AAEC) due to the proposed combination is market concentration.  I have made an attempt to discuss the issues faced by the practitioners and the parties to the combination while dealing with this issue below.

8.3 – Provide an estimate indicating the relevant source and the basis of estimate of the total size of the market, in terms of value of sales (in Rs) and volume (units),  of identical/ substitutes/ similar products or services produced/ distributed/ supplied in India.

8.4 – Provide details with regard to the sales in value (in Rs) and volume (units) along with an estimate of the market share of each of the parties to the combination for identical/ substitutes/ similar products or services produced/ distributed/ supplied in India. In case of a group, same information should be given for all the enterprises of the group.

Introduction

Key aggregation indicators used in assessing market structure and concentration include market shares, concentration ratios and Herfidahl-Hirschman Index.  Data on market shares may be collected from a number of sources including trade associations, customers or suppliers and market research report.

For most competition authorities, including the Competition Commission of India (CCI) market shares are the starting point of the merger review. They are indicative of the past market success of the firms who are entering into a combination and their rival firms. CCI looks are the pre-combination market share and the post-combination market share for its analysis of market structure. In case, the post-merger market share is same as or any increase in market share is insignificant, there are very few horizontal overlaps and vertical relationship, then CCI will take relatively less time in clearing the combination transaction.

Typically, market share denotes percentage of total sales (or some other measure) of the product or services to be held by the merging firms and each of their rivals in the relevant market.

Herfidahl-Hirschman Index (HHI)

HHI is calculated by summing the squares of the market shares of all the firms active in the market.  Both the absolute level of the HHI and the change in HHI as a result of merger can provide an indication of whether a merger is likely to raise competition concerns.

It may so happen that the entire market share (because not all players market share is known) is not known. In that event, it would be appropriate to calculate delta of HHI (i.e., difference between HHI pre and post-merger).  Delta is also calculated as 2ab, where a and b denotes the market share of the respective firms.

CCI has not come out with any guidance as to the absolute HHI and delta HHI, which provides for a safe harbour to the parties to combination for assessment as under the Competition Act and Combination Regulations.

CCI guidance note

CCI in its guidance note has provided a format which is required to be filled and submitted by the parties to combination with the CCI. According to CCI, the market share figures should preferably be based on the reports available in public domain and/or prepared by the independent third parties. The parties are required to properly place on records the source of the information. In the event the public reports etc., are not available then the parties should submit its internal estimated (and these internal estimates should be backed by some solid rationale and full methodology of calculation should also be submitted to the CCI). The parties may also submit their working papers and draft notes before the CCI for its consideration.

Orders by CCI

Simply on the basis of market shares of the parties of the relevant product, CCI has on two occasions asked the parties to divest the assets of one of the parties to the transaction.[1]

Reasons of the decision

·         The combined market share of the Parties post combination for the relevant products mentioned above is very high/ substantial resulting in near monopoly. The Parties post combination is likely to face more or less no competition from the competitors/ only one significant competitor remains in the relevant market.

·         The remaining players have negligible market share and thus may not be in a position to exert significant competitive constraints on the merged entities.

·         Because of the combination, number of players of the relevant product will be reduced to two and in some cases, giving near monopoly to the Parties.

·         The proposed combination will eliminate a significant competitor and is likely to have an AAEC in the relevant market.

In case the post-merger scenario leads to a monopoly situation, then, CCI may ask for divestment of certain assets. Parties should clearly determine such possibilities while undertaking the competition law assessment and the due diligence process i.e., time period before even notifying to the CCI.

Other remarks

Determination of market share and concentration in itself will not lead to a conclusion that the combination transaction has any AAEC. A detailed analysis of other market factors and of theories of unilateral and/ or coordinated effects is always required for determining and concluding any AAEC.

Parties often submit Upward Pricing Pressure analysis before the CCI for ascertaining the market concentration.

---

[1] Sun Pharmaceutical Industries Limited /Ranbaxy Laboratories Ltd (C-2014/05/170); Holcim Limited/ Lafarge SA (C-2014/07/190)

Challenging a merger filing before the CCI during Phase I review stage

With more than 340 merger filings before the Competition Commission of India (CCI), so far we have not seen any opposition of the merger/ combination transaction by any third party, challenging the merger on grounds of appreciable adverse effect on competition (AAEC) in India. 

However, many transactional lawyers are now witnessing a trend recently where third parties are looking to challenge or block the transaction and are now willing to try CCI as one more medium for blocking the deal. Often, there are parties, who wants to block a merger but are not privy to information filed by the parties to the combination transaction and are not sure what could be their best argument, which could persuade the CCI to look or delve into the matter more deeply.

It may be noted that during the phase I review, Combination Regulations does not provide for a provision, where an aggrieved third party can approach the CCI and challenge the combination. 

Under the Combination Regulations, the onus is on CCI to ask for any additional information from any other enterprise, if it deems necessary for review of AAEC due to the combination transaction.

Here are some ideas of these genuine parties, who propose of block the transaction on grounds of AAEC:

First, file a right to information (RTI) application to the CCI for challenging and obtaining the materials and more information about the transaction of which the combination filing have been made to the CCI. While filing RTI application, RTI Act, 2005 provisions are required to be taken into considered.

Second, file a preliminary objection before the CCI asking to stop the combination transaction to be stopped as it may have AAEC and may impact your business. The basic information on the combination may be obtained from the 500 words summary submitted by the parties of the combination transaction. While filing the preliminary objection, the parties may also like to obtain the combination filings/ notification submitted with the CCI.

CCI may on both cases say ‘no’ and may also refuse to share any information with the challenging applicant. In that event, the challenging applicant may approach the High Court in a writ petition case and try to obtain the material / documents submitted by the parties to the transaction and try to block the combination transaction or delay the transaction.

Another situation to challenge the combination transaction is when the matter goes to Phase II i.e., when the CCI asks for public comments, while analysing the transaction and its AAEC.