FTC takes aim at vertical mergers as antitrust enforcement agencies work to amend federal merger guidelines

June 2022 | EXPERT BRIEFING | MERGERS & ACQUISITIONS

financierworldwide.com

The Federal Trade Commission (FTC) and the Department of Justice (DOJ) are currently in the process of revising the federal merger guidelines, an effort that Lina Khan, chair of the FTC, says is necessary in response to “increasing levels of consolidation across the economy” that she attributes to “decades of mergers” across a wide range of industries. The agencies are reportedly debating whether or not to continue with the traditional approach of publishing separate guidelines governing horizontal and non-horizontal (or vertical) transactions, or instead adopt one set of guidelines covering the range of possible transaction structures.

While there has been no date set for publication of the revised guidelines, the FTC has already shown – by its unilateral decision to withdraw its approval of the ‘2020 DOJ/FTC Vertical Merger Guidelines’ (2020 VMGs) just over a year after their publication and by a series of recent challenges to high profile vertical transactions – that it is willing to pursue a significant overhaul of the traditional approach to analysing the competitive effects of non-horizontal transactions.

A joint statement in support of the withdrawal of the 2020 VMGs published in September 2021 by Ms Khan, Rebecca Kelly Slaughter, a commissioner at the FTC, and Rohit Chopra, then-commissioner at the FTC, attributed their decision to “certain flawed provisions” in the guidelines, specifically the “purported procompetitive benefits (i.e., efficiencies) of vertical mergers, especially its treatment of the elimination of double marginalisation (EDM)”. More recently, Ms Slaughter expressed support for publishing one set of guidelines covering both horizontal and non-horizontal transactions, noting that it is rare to see transactions that are exclusively vertical (i.e., a combination of firms or assets at different stages of the same supply chain) that do not involve some horizontal component.

At the American Bar Association (ABA) Antitrust Law Spring Meeting in April 2022, Ms Khan said that vertical merger enforcement is a “priority” for the agency, a statement supported by several significant FTC challenges of vertical transactions over the past year. In March 2021, the FTC voted four to zero to block Illumina’s $7.1bn proposed acquisition of Grail, a maker of non-invasive, early detection liquid biopsy tests that use DNA sequencing to screen for certain cancers. The FTC claims that since Illumina “is the only provider of DNA sequencing that is a viable option” for Grail’s products, the acquisition would “diminish innovation in the US market for multi-cancer early detection (MCED) tests in the United States”. Illumina argues that the merger is the fastest way to make the MCED test broadly available and affordable to the public. Closing arguments for the FTC’s administrative court challenge to the acquisition have been set for 8 June 2022.

In December 2021, the FTC voted four to zero to block US chip supplier Nvidia Corp.’s $40bn acquisition of UK chip designer provider Arm Ltd, “to prevent a chip conglomerate from stifling the innovation pipeline for next-generation technologies”. Arm creates and licenses its Arm processor technology to other technology companies, including Nvidia. According to the FTC, these companies “rely on Arm Processor Technology to make computer chips that power a wide range of modern computing devices”, including smartphones, autonomous vehicles and large data centre computers. The FTC alleged in its complaint that the acquisition would allow Nvidia to control a “critical input that currently enables competitors to compete vigorously with Nvidia”, resulting in reduced product quality and innovation, and higher prices and less choice. On 7 February 2022, Nvidia announced that it was terminating the proposed transaction because of “significant regulatory challenges”.

Shortly after filing its challenge to the Nvidia/Arm deal, in January 2022 the FTC voted four to zero to block Lockheed Martin Corporation’s proposed $4.4bn acquisition of Aeroject Rocketdyne Holdings, Inc. As in its Nvidia/Arm complaint, the FTC alleged that the proposed deal would give Lockheed “control over critical propulsion inputs” produced by Aerojet and also used by Lockheed’s rivals. On 13 February 2022, Lockheed announced that it had terminated the proposed acquisition in light of the FTC’s complaint, but reasserted that the deal “would have benefitted the entire industry through greater efficiency, speed and significant cost reductions for the US government”.

It is significant that, in a little over a year, the FTC has challenged three multi-billion-dollar vertical transactions. This is a dramatic increase over past enforcement levels – over the past 20 years, the FTC had averaged around one enforcement action per year involving a merger that had any vertical component. In addition, the FTC and the DOJ have been public about the fact that they are actively considering publishing consolidated horizontal and non-horizontal merger guidelines for the first time. In a January 2022 ‘Request for Information on Merger Enforcement’, the agencies queried whether the guidelines’ traditional distinctions between horizontal and vertical mergers should be “revisited in light of recent economic trends in the modern economy” and whether the guidelines should “address all mergers in a common framework that covers all market relationships relevant to competition”.

With the possibility that the revised guidelines will eliminate the distinction between horizontal and non-horizontal mergers, it is prudent to take the FTC leadership’s recent public comments concerning a “new approach to merger review” as applying to vertical, as well as horizontal, transactions. At the ABA Spring Meeting, Holly Vedova, director of the FTC Bureau of Competition, warned that the FTC is “not in the business of accepting weak or uncertain settlements” and advised parties to “propose meaningful structural relief” instead of behavioural remedies. Merging parties should recognise that enforcers are increasingly willing to challenge mergers in court and are unlikely to accept traditional remedies – whether the merger is vertical or horizontal in nature.

With respect to the revised guidelines, Ms Slaughter – in addition to reiterating that she supports publishing one set of guidelines governing both horizontal and non-horizontal transactions – recently said that she thinks the “use of presumptions is really valuable”, and that, to be effective, the guidelines should provide “clarity, reliability and transparency”. If the FTC successfully creates a presumption that certain vertical mergers are anticompetitive, it will be much more likely to challenge such mergers and will have a much easier path to winning injunctions in court to stop them. Ms Slaughter also said that she would like to see the revised merger guidelines place less emphasis on the procompetitive benefits and efficiencies in vertical-style transactions.

This echoes what Ms Slaughter, Ms Khan and Mr Chopra articulated in their September 2021 ‘Statement on the Withdrawal of the Vertical Merger Guidelines’, which called the VMGs’ reliance on EDM “theoretically and factually misplaced”, and argued that “empirical evidence suggests that we should be highly sceptical that EDM will even be realised – let alone passed on to end-users”. In fact, in all three of the FTC’s recent challenges of vertical transactions, the FTC has rejected a defence of EDM, arguing that the parties were unable to demonstrate that a reduction in margin would offset the likely harm of the acquisition.

The FTC’s repeated rejection of EDM as a procompetitive effect in its recent vertical merger challenges – even before this rejection is potentially codified into the revised merger guidelines – should serve as a warning to parties considering using this defence to support a vertical transaction. In short, vertical mergers are in the antitrust crosshairs, and companies considering such transactions should carefully consider the antitrust risk as they negotiate their merger agreements.

Logan Breed is a partner and Jill Ottenberg is a knowledge lawyer at Hogan Lovells. Mr Breed can be contacted on +1 (202) 637 6407 or by email: logan.breed@hoganlovells.com. Ms Ottenberg can be contacted on +1 (202) 637 5436 or by email: jill.ottenberg@hoganlovells.com.

Logan Breed and Jill Ottenberg

Hogan Lovells