Avoiding antitrust entanglements on interlocking directors

July 2024  |  SPECIAL REPORT: MERGERS & ACQUISITIONS

Financier Worldwide Magazine

July 2024 Issue

Just over two years ago, Jonathan Kanter, assistant attorney general for the US Department of Justice’s (DOJ) Antitrust Division, signalled a change in US antitrust enforcement: the DOJ would begin vigorously enforcing section 8 of the Clayton Act – a seldom enforced law that bans individuals from serving simultaneously as an officer or director of competing corporations (subject to limited exceptions).

Mr Kanter noted the DOJ was “ramping up efforts to identify violations” and would “break up interlocking directorates” (a common term for behaviour prohibited by section 8).

Two years on, Mr Kanter has been true to his word. The DOJ has launched numerous investigations, causing 15 directors at 12 companies to step down from company boards. His counterparts at the Federal Trade Commission (FTC) have followed suit in ramping up enforcement against interlocking directors.

In August 2023, the FTC brought its first formal section 8 enforcement action in over 40 years, with continued activity even in recent weeks by pursuing aggressive remedies targeted at a potential director in Exxon’s $60bn acquisition of Pioneer Resources under section 5 of the FTC Act, a statute that gives the FTC power to challenge unfair methods of competition, including interlocking directors.

With the antitrust agencies taking such an aggressive approach on interlocking directors, companies and investors need to know how to avoid these entanglements, lest they lose their directors or their director appointment rights, or their deals get delayed even when they seem to pose no (or limited) other antitrust concerns.

Background

Section 8 of the Clayton Act prohibits an individual from serving as an officer or director with two corporations where “elimination of competition by agreement between (the corporations) would constitute a violation of any of the antitrust laws”.

There is an exception where competitive sales between corporations are de minimis – i.e., no more than 2 or 4 percent of a corporation’s total sales depending on the circumstances. An interlock can be indirect, such as when the same private equity firm appoints different representatives to sit on the boards of competing companies. The remedy for a violation is removal of the overlapping director or officer and private plaintiffs may seek monetary damages.

Section 5 of the FTC Act is not specific to interlocking directors and does not contain any explicit ‘de minimis’ exemptions. When enforcing section 5 of the FTC Act, there is no guarantee the FTC would follow the exemptions set out in section 8 of the Clayton Act.

Industry scope

The antitrust agencies’ recent, public enforcement against interlocking directors has been in the following industries: air freight, automotive parts, insurance, IT security, oil and natural gas production, online education services, social networks, software, space infrastructure and video distribution.

As evidenced by the broad set of industries, the DOJ and FTC are not limiting their enforcement. At the same time, the DOJ and FTC are currently focusing on antitrust enforcement of the technology sector as evidenced by the recently filed cases against Google, Apple and Amazon. This focus on the technology sector has spread to interlocking director enforcement. For instance, among the DOJ’s announced enforcement actions, interlocks in software or online applications represent four of the 10 investigations.

Likewise, the DOJ and FTC have been scouring the private equity (PE) sector for antitrust violations, which has led to more interlocking director investigations tied to private equity firms. The DOJ has investigated and forced directors affiliated with Apollo, Prosus and Thoma Bravo to relinquish board positions.

Expansive interpretations

The vigorous enforcement of section 8 coincides with an expansive view of the law from the current antitrust enforcers. By its text, section 8 is only applicable to interlocks between “corporations”. Interlocks involving non-corporate entities, like limited partnerships and limited liability companies, are not mentioned.

Despite this, the FTC recently pursued a section 8 enforcement action involving an interlock between a corporation (EQT Corp.) and a non-corporate entity (Quantum LP). In her statement on the matter, Lina Khan, chair of the FTC, noted: it is “clear that section 8 applies to businesses even if they are structured as limited partnerships or LLCs”. The DOJ presumably has a similar view.

The main justification for applying section 8 to non-corporate entities is that when the Clayton Act was written in 1914, non-corporate entities were not commonplace. As a result, “corporations” in section 8 could be a stand-in for any commercial entity. But this expansive view ignores more recent history.

In 1990 (when, unlike 1914, LPs and LLCs were commonplace), Congress significantly amended section 8, but it declined to clarify the text to clearly include non-corporate entities. As a result, the scope of section 8 with respect to non-corporate entities is unclear (despite Ms Khan’s comments to the contrary). The antitrust agencies’ willingness to nevertheless vigorously enforce the law against non-corporate entities exemplifies the agencies’ recent aggressive approach.

SEC statements

Before the recent ramp up in enforcement, the DOJ and FTC interlocking director enforcement would occasionally arise in the context of transactions reported in the Hart-Scott-Rodino (HSR) Act merger review process. The agencies would also investigate very high-profile interlocks – for example Google and Apple in 2009.

Unlike this mostly reactive approach, the agencies today are proactively identifying potential illegal interlocks. One method the agencies are likely using to identify targets for investigations is review of company disclosures of competitors, like those often seen in Securities and Exchange Commission (SEC) 10-Ks.

Two recent enforcement actions exemplify why we suspect public disclosures are central to the agencies’ identification of targets for interlocking director enforcement. These actions involved companies that were not close competitors, at least from public appearances, but where the SEC statements of one company nevertheless identified the other company as a competitor.

For instance, in its 2021 10-K filing, Nextdoor – a social network geared toward neighbourhood events and recommending local service providers – stated that it competed with companies that “provide a variety of internet products, services, content, and online advertising”. It named Pinterest – the image-sharing social media site – as an example alongside other households names in social media (Facebook, Alphabet, Snap and Twitter).

Although it is true that both Pinterest and Nextdoor sell online advertising, the two have highly differentiated end uses. It is not clear the two are truly ‘competitors’ (in an antitrust or economic sense) or that their competitive sales exceed the section 8 exemptions. Nevertheless, likely emboldened by the acknowledgement of competition in Nextdoor’s 10-K, the DOJ investigated an interlock between Pinterest and Nextdoor. In August 2023, two Pinterest directors resigned from the Nextdoor board after a DOJ investigation.

In 2022, there was a similar story with Definitive Healthcare and ZoomInfo, both commercial intelligence companies. In its 2022 10-K, Definitive Healthcare identified ZoomInfo as an example of a type of company it competes with, but also noted it operates in a “highly fragmented market”. Beyond ZoomInfo, Definitive Healthcare identified 12 additional alternatives by name, including several alternatives (like Definitive Healthcare and unlike ZoomInfo) focused on the healthcare sector.

Despite seeming differentiation between Definitive Healthcare and ZoomInfo, the DOJ investigated the companies for a director interlock. In late 2022, following a DOJ investigation, a ZoomInfo director resigned from Definitive Healthcare’s board. The mention of ZoomInfo in Definitive Healthcare’s 10-K likely contributed to the DOJ launching its investigation.

Delayed deals

Transactions that raise possible interlocking director issues are facing lengthy delays because of agency investigations. For instance, the FTC’s investigation of section 8 issues related to EQT’s acquisition of assets from Quantum delayed deal closing by nearly a year. This was after the FTC required the parties to sign a consent decree preventing Quantum from taking certain board seats and limiting information sharing.

The DOJ also delayed a transaction when it investigated an interlock between Atlas Air and Sun Country Air resulting from an Apollo-led acquisition of Atlas Air. The transaction was first announced in August 2022. It finally closed on 17 March 2023, just eight days after a DOJ press release claiming credit for Apollo relinquishing its board seats with Sun Country Air.

Finally, as recently as 2 May 2024, in connection with Exxon’s $60bn merger with Pioneer Resources, the FTC took action to prevent the chief executive of Pioneer Resources from becoming a director of, or consultant to, Exxon, while otherwise allowing the merger to go through. The FTC action was based on the Pioneer chief executive’s alleged communications with OPEC and other companies in the industry, as well as his position as a director with The Williams Companies, which operates natural gas assets that arguably overlap with Exxon’s operations.

The deal was first announced in October 2023. In a rare event for a merger involving upstream oil and gas producers, in December 2023, the FTC issued a ‘second request’, a broad government subpoena that typically results in months of delay and millions in legal fees to build a response. The potential interlock with the Pioneer chief executive was likely a leading motivation for the second request given it was the primary condition for the merger’s clearance.

As a result, a potential interlock of a single director likely contributed to investigation costs in the millions and months of delay on a $60bn merger. This aggressive approach by the FTC reflects the extent to which the antitrust agencies will rely on a perceived interlock to investigate (and delay) a transaction.

Preventative measures

The enforcement actions above are cautionary tales for all companies regarding their interlocking directorate compliance and especially for parties considering investments and acquisitions conferring board seats, or transactions with entities whose executives have board seats at other companies.

Experienced antitrust counsel can review and flag possible interlocking directorate risks, along with competition risks, to avoid unnecessary delays in closing. Preventative measures include: (i) thoroughly vetting potential directors and officers for possible interlocks with competitors, including review of public statements and SEC filings; (ii) requesting due diligence materials on the affiliations of the officers and directors of target entities in transactions; (iii) reviewing the public statements and SEC filings of target entities; (iv) analysing competitive overlaps using recent DOJ and FTC enforcement actions as a guide to determine whether the prohibition on interlocking directorates might be triggered even if the parties are not close competitors; and (v) evaluating whether potential interlocks fall within the exceptions to section 8.

Conclusion

Two years on, antitrust enforcers’ new enforcement approach to interlocking directors has had real impact. Several directors have stepped down from boards, many companies have been swept into investigations and deals have been delayed.

Enforcement has been broad, covering many industries and involving many pairs of companies for whom antitrust issues among them is not readily apparent. With the right preparation and diligence, however, companies can avoid these entanglements and ensure that deals are not unnecessarily delayed by these avoidable issues.

 

Matthew Adler and John Taladay are partners at Baker Botts LLP. Mr Adler can be contacted on +1 (202) 639 1315 or by email: matthew.adler@bakerbotts.com. Mr Taladay can be contacted on +1 (202) 639 7909 or by email: john.taladay@bakerbotts.com.

© Financier Worldwide

BY

Matthew Adler and John Taladay

Baker Botts LLP

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