European Union And Competition Law Update

FINANCIAL SERVICES SECTOR

The two developments reported in this issue underline the importance that the competition authorities attach to transparency, consumer switching ability and the possibility of market entry as sources of increased competition in financial services markets.

Commission issues Green Paper on retail financial services

This need to facilitate switching and crossborder service provision is emphasised in the European Commission’s Green Paper on Retail Financial Services, published on 2 May. The Green Paper builds on the results of the Commission’s sector inquiry into retail banking and its interim report on business insurance. The Green Paper focuses on the need to enhance consumer welfare and remove cross-border barriers in this sector. It highlights the modest current cross-border activity, wide variation in prices, restricted product diversity and choice. The Commission’s aim is to ensure properly regulated open markets which meet consumers’ needs, offer choice, value and quality. It wishes to lower prices, enhance consumer confidence and empower consumers. Although there is little to object to in these aims, the steps that will be taken in order to achieve them are less clear and are still the subject of further consultation.

CC reports on Northern Ireland current accounts

On 15 May, the UK Competition Commission issued its final report and orders following its 2-year inquiry into the market for current account services in Northern Ireland. In addition to a fairly predictable order to increase transparency in relation to charging structures (interest rates, charges and deductions), and improvements to the switching process to ensure that customers who switch banks do not incur costs in doing so, the CC ordered banks to offer a chargefree and interest-free overdraft facility to new customers for at least three months, provided that the customer would be eligible for such a facility under the bank’s usual credit scoring policy. Where the customer is not eligible for such an overdraft or does not wish to have one, banks must guarantee to refund the customer any charges and interest which are incurred within a minimum period of three months after the new personal account is opened and which arise from failures in the switching process (regardless of whether charges and interest were the result of an error by the new bank). The new measures will come into force in Northern Ireland next year to coincide with likely changes throughout the UK resulting from the current review of the Banking Code by the Banking Code Standards Board (BCSB) and the introduction of the Consumer Credit Act 2006.

UTILITIES SECTOR

Following the European Commission’s selection of full separation of ownership of energy transmission networks from other activities in the sector, as the preferred remedy for a number of the ills identified in its sector inquiry report, unbundling has been debated further at a political level, but meanwhile the Commission is pushing ahead with individual investigations which may have the same outcome.

Energy unbundling – state of play

The European Parliament Committee on Industry, Research and Energy voted on 18 June in favour of unbundling as the most effective tool to promote competition in energy markets. The Plenary Session of the European Parliament will vote on the issue in mid-July and is likely to follow the Committee’s lead.

In contrast, a majority of EU Member States appear to oppose ownership unbundling, although a compromise solution, under which the energy suppliers could retain ownership of the gas and electricity networks, with the networks being operated by new independent companies, has been proposed in order to satisfy the objections of countries such as Germany and France. Eight countries (Denmark, Spain, the Netherlands, Belgium, Sweden, Finland, Romania and the UK) have lobbied the European Commission, urging it to continue with its unbundling proposals.

Commission initiates proceedings against RWE and ENI, alleging obstruction of market access

On 11 May, the Commission announced that it had sent statements of objections to ENI and RWE, initiating proceedings against them for alleged breaches of Article 82. The Commission launched a number of investigations into the conduct of energy suppliers across Europe in 2006, and has been identifying priority cases to establish precedents for the various issues that it wishes to tackle. RWE and ENI are now the first two cases to be taken forward to the next stage. The Commission’s case against RWE concerns prices charged for access to gas networks operated by RWE TSO, and allegations of inflation of RWE TSO’s costs, maintenance of an artificial network fragmentation and failure to release transportation capacity to allow customer switching. The Commission alleges that these practices create additional barriers to entry into the regional wholesale gas supply market in RWE’s core grid area in North Rhine-Westphalia, protecting RWE’s dominant natural gas supply business and resulting in market foreclosure, principally by raising rivals’ costs, to the detriment of consumers. The Commission accuses ENI of capacity hoarding and strategic underinvestment in the transmission system, leading to the foreclosure of competitors and harm for competition and customers in supply markets in Italy. The Commission sees the allegation of strategic underinvestment in particular as a new departure in its enforcement of Article 82. The Competition Commissioner, Neelie Kroes, has expressed her readiness to order unbundling in cases such as this if it proves necessary, so it is conceivable that unbundling will be ordered in individual cases rather more quickly than whatever flavour of sector-wide unbundling results from the current political process.

MERGERS

The cases reported in this issue raise a number of themes, including the competition treatment of investments by private equity firms, and investigations into narrowly-defined and small markets.

HgCapital abandons proposed crash test dummy acquisition

The rise of private equity firms, and their increasing interest in driving consolidation of the industry sectors in which they invest, mean that they are becoming more likely to encounter overlaps between their acquisition or investment targets and their existing portfolio companies. These overlaps will be treated in the same way as overlaps in transactions involving trade buyers, and in some cases can spell the end of acquisition plans. A good example of this was Hg Capital’s proposed acquisition of Denton, a manufacturer of crash test dummies (or anthropomorphic testing devices, to give them their correct name). HgCapital already controlled Denton’s principal rival, FTSS, and the European Commission concluded that this would create a quasi-monopoly on the world-wide market. In addition to this horizontal issue, the Commission was concerned that the operation would allowed the combined entity to deny its competitors access to inputs and to information on the market for virtual dummies, which are computer-simulated representations of dummies. Similar foreclosure concerns had also been raised by market participants in the field of data acquisition systems, which are used to collect data on the response of dummies during crash tests. The parties abandoned the proposed transaction and on 14 June, the Commission announced that it had closed its merger investigation.

Treatment of minority stakes

Private equity firms often acquire minority stakes in their portfolio companies, rather than acquire them outright. It is often overlooked that the acquisition of a minority shareholding may trigger a merger review in the same way as the acquisition of 100% of the share capital. Although not a private equity-driven transaction, BSkyB’s acquisition of a 17.9% stake in ITV illustrates this point very clearly. The OFT advised that there were competition grounds for investigating the merger, since BSkyB would have material influence over ITV. The OFT concluded that on the basis of attendance at general meetings of ITV’s shareholders, BSkyB would have sufficient votes to block special resolutions, since attendance figures ranged between 63% and 70%. It was ITV’s largest shareholder, other shareholdings were fragmented and it was part of ITV’s governance policy to consult its largest shareholder. BSkyB also had significant trade experience. Should BSkyB obtain ITV board representation, that influence would be further enhanced. The OFT considered that the acquisition would reduce competition in the market for all TV. It would also reduce the prospects of ITV moving into the market for pay-TV services. It would also reduce competition in the acquisition of premium sports rights and in TV advertising, where the parties were a "must have" proposition for advertisers. On 24 May, the Secretary of State for Trade and Industry accordingly referred the transaction to the Competition Commission on both competition and public interest grounds, incidentally making this the first exercise of the Secretary of State’s powers to make such referrals on public interest grounds since the Enterprise Act entered into force in 2003.

Commission blocks Ryanair’s proposed acquisition of Aer Lingus

On a similar theme, the Commission’s prohibition of the proposed Ryanair/Aer Lingus on 27 June leaves outstanding the treatment of Ryanair’s residual minority stake in its competitor. Ryanair and Aer Lingus are the largest airlines offering shorthaul flights to and from Ireland, and are each other’s main competitors on these routes. On flights to and from Dublin, the merged entity would have accounted for around 80%of all intra-European traffic. In line with its approach in previous airline merger cases, the Commission analysed the effects of the merger on the individual routes on which both companies’ activities overlapped. The Commission’s investigation indicated that Aer Lingus and Ryanair compete directly with each other on 35 routes to and from Ireland. On 22 of these routes, the merger would have created a monopoly. On the remaining routes, Aer Lingus and Ryanair were each other’s closest competitors, and the merger would have significantly reduced consumer choice, with the merged entity holding market shares of over 60%.

An outstanding issue is Ryanair’s residual stake of 25.2%in Aer Lingus, which does not confer control for the purposes of the EU merger rules and is accordingly not the subject of a divestment order by the Commission. Interestingly, however, the minority stake would have triggered the lower UK Enterprise Act test of material influence. The Commission may nevertheless investigate, under Article 81, whether the stake might act as a conduit for the transit of commercially sensitive information from Aer Lingus to Ryanair. This will depend on whether Ryanair is likely to enjoy higher levels of information than other minority shareholders.

Narrowly-defined and small markets

Over the past few years, there has been a tendency for the OFT and Competition Commission to define product and in particular geographic markets rather more narrowly than previously. Focus on the extent of competition within narrow radii around each party’s outlets has become a regular feature of merger investigations. This is demonstrated very clearly in the case of Tesco’s acquisition of a store in Slough. In April this year the OFT announced that it had decided to refer the completed acquisition by Tesco of a one-stop grocery store formerly owned by the Co-op to the Competition Commission for further examination. Tesco had offered divestiture undertakings in the hope of avoiding a reference, but the OFT concluded that the prospective purchasers identified by Tesco would not necessarily impose a competitive constraint since they lacked demonstrable experience and the requisite finance to exercise a competitive restraint on Tesco’s retail operations in Slough. The Competition Commission will consider both the appropriate market definition (having regard to its work in the groceries sector enquiry) and what would have been the competitive position had the acquisition of the Co-op store not occurred. At present, the Competition Commission believes that markets are extremely local, with only those stores located within a 15 minute drive-time radius offering a competitive constraint. This would increase Tesco’s power locally and mean that any disposal will have to be to a credible competitor (probably one of the multiples such as Asda, Sainsbury’s, Morrisons or Waitrose).

Another case involving narrow markets is that of the acquisition by G4S Cash services (UK) Ltd of Abbotshurst Group PLC and its subsidiary, Security Plus Ltd. The OFT referred this acquisition to the Competition Commission on 18 May. The OFT took the view that the removal of Security Plus as a highly competitive provider of cash in transit services could be expected to result in an increase in price and/or a reduction in quality of the provision of those services to local customers and to those national customers who choose regional contractors for their requirements in the Midlands and the North of England. The OFT rejected the parties’ submission that Brinks and the Post Office would act as a significant competitive constraint, since their expansion was regarded as insufficient in terms of likelihood, time and/or scope. The parties subsequently abandoned the acquisition.

The Office of Fair Trading is also consulting on revised guidance on the so-called ‘markets of insufficient importance’ or ‘de minimis’ exception in merger cases – cases which it is not required to refer to the Competition Commission. The OFT’s current interpretation of the rules is that mergers that may give give rise to a substantial lessening of competition must be referred to the Competition Commission unless the value of the market concerned is less than the public cost of conducting a reference – approximately £400,000. The consequence over the past few years has been that a number of mergers involving niche markets have been referred to the Competition Commission, and then promptly abandoned because of the cost to the parties of dealing with the reference.

This new guidance indicates that mergers in markets worth £10 million or less may be considered insufficiently important in terms of consumer welfare to warrant a referral to the Competition Commission. However, since the OFT considers that consumer harm can still arise in cases below the new threshold, the OFT proposes that the exception will not apply where:

• market concentration is very high and entry prospects are low, making substantial consumer harm likely;

• there is evidence of coordination - such as price-fixing - between competitors in one or more of the markets in question;

• a reference would have important precedent value for business, or

• a substantial proportion of the likely detriment is suffered by vulnerable consumers.

This is a fairly comprehensive list of carveouts, and the first in particular is necessarily likely to apply in a significant proportion of cases that would be referred – because if it were not the case, there would be no reason to refer. It therefore remains to be seen whether the new policy, if adopted, will give rise to a substantial reduction in the number of cases referred to the Competition Commission.

CARTELS

Cartel investigations, a priority for both the OFT and the European Commission, continue apace.

Criminal investigation into alleged marine hoses cartel

The OFT, in coordination with the US Department of Justice and the European Commission, has conducted dawn raids, using its criminal powers under the Enterprise Act, to investigate a possible cartel in the market for marine hoses used to transfer oil. For the first time, the OFT searched a home. At the same time, US officials arrested a number of executives of alleged cartel members at a trade fair in the US. John Fingleton, Chief Executive of the OFT, stressed the degree of cross-border cooperation required in such an investigation. Simultaneous investigations by competition authorities across the world have been a feature of cartel enforcement for some years, but this is the first time that the OFT has joined in using its criminal powers, marking a new phase in its enforcement practice.

BA provides for fuel surcharge claims

BA announced on 18 May that it had made a £350m provision in its accounts for possible competition law fines and civil claims arising from its participation in alleged price-fixing relating to fuel surcharges. BA is being investigated in the USA, Europe, Australia and Canada. It is not clear whether the provision will be adequate. It is also possible that claimants will regard the provision as a green light for civil litigation. At the same time, BA has provided for fuel costs in its accounts in a manner suggesting that it has not passed on these costs to passengers in the form of higher fuel surcharges, perhaps in an effort to fend off any such claims.

Double jeopardy

The dismissal by the European Court of Justice on 10 May of SGL Carbon’s appeal from a judgment of the Court of First Instance has increased the exposure of cartelists to possible fines imposed by international regulators. The European Court held that the principle of "double jeopardy" does not require the European Commission to take into account fines imposed by non-EU member states, in this case the US authorities, when setting its fines. Businesses involved in international cartels must increasingly reckon on multiple fines for the same offence in different jurisdictions.

SOs for alleged cartelists in paraffin wax and chloroprene rubber

The European Commission has announced that it has sent a Statement of Objections to a number of companies active in the manufacture of paraffin waxes which are mainly used for making candles, alleging participation in a cartel.

The Commission has also issued a Statement of Objections to a number of undertakings active in the chloroprene rubber market, alleging the existence of a cartel. Chloroprene rubber is a synthetic rubber mainly used for the production of technical rubber parts (cables, hoses, v-belts, power transmission and belts), for adhesives in the shoe and furniture industry (soles, heels and coated fabrics) and as latex for the production of diving equipment, bitumen modifications and inner soles of shoes.

PROCUREMENT

The two procurement cases reported in this issue emphasise the fact that the specific procurement directives do not tell the whole story. It is increasingly necessary to look to the underlying general principles of EU law – whether on transparency in setting technical specifications or time limits for bringing challenges to award procedures.

ECJ rules on the assessment of technical standards and the scope for a contracting authority to obtain supplies following suspension of the procurement process

On 14 June, the ECJ handed down its judgment on a reference from the Greek courts on the assessment of technical standards and on the extent to which a contracting authority may procure supplies during the relevant safeguard procedure. The case relates to a challenge byMedipac to the technical assessment by Heraklion hospital of Medipac’s tender for the supply of various surgical sutures. The OJEU notice specified that the sutures must be certified in accordance with the European Pharmacopoeia and must bear the CE marking, but imposed no further technical requirements. The contract award was to be on the basis of lowest price. Medipac submitted a tender but it was rejected by the hospital, on the grounds that the products (although bearing the CE marking) did not meet the technical specifications for the contract. Medipac challenged this decision in the Greek courts, which in turn referred several questions to the ECJ on the interpretation of the procurement rules.

As a preliminary point, the ECJ noted that the contract value fell below the relevant threshold in the directive, and there was therefore no requirement to comply with the directive. However, the questions posed by the Greek courts were still relevant, because in accordance with now well-established case-law of the ECJ, contracts below the thresholds are still governed by general principles of EU law. Based on the principles of equal treatment and transparency, the ECJ held that as the only technical requirement was that the suture bore the CE marking, the authority was precluded from rejecting the tender if it carried this mark. The certification process under the medical devices directive contained its own safeguard procedure which must be invoked by the contracting authority if it had reason to believe the suture did not in fact meet that technical standard. Pending the suspension resulting from invocation of the safeguard mechanism, the ECJ noted that the objective of public health constitutes a derogation from the principle of free movement of goods, provided that the measure is proportionate. Consequently, in a situation of urgency, a hospital would be entitled to take interim measures required to procure supplies necessary for its operation provided the interim measures were proportionate.

This case emphasises the need to ensure firstly that relevant technical specifications are compatible with the various directives on technical standards, and secondly that they are spelt out clearly in contract notices and other tender documentation.

Advocate-General Sharpston upholds legitimacy of imposing time-limits to bringing a challenge in procurement process

In an opinion delivered on 7 June, Advocate- General Sharpston confirmed the validity of imposing time-limits in national law to bringing a challenge to a procurement process "provided that the time-limit does not render the exercise of that right virtually impossible or excessively difficult". This recognises the need to maintain a balance between the rights of an individual and the wider public interest, including the principle of legal certainty. In assessing the date from which a time-limit should begin to run, the AG suggested that the standard should be when a "reasonably well-informed and normally diligent tenderer" would have become aware of the ground of challenge. This is a question of fact to be determined in each case. It is often tempting for potential contractors to wait until the close of the award process before mounting a challenge, but they risk being held to be out of time if they do not challenge any irregularity promptly after it becomes apparent.

OTHER

A number of cases in the transport sector illustrate the scope for quite different outcomes according to whether a case is considered by the regulators or the courts.

Conflicting treatment of alleged predation in two bus cases

On 15 May, the OFT announced that it had sent a statement of objections to the Cardiff Bus Company, alleging that it is dominant in the provision of bus services in the Welsh capital and that it has engaged in predatory pricing in breach of the Chapter II prohibition of the Competition Act 1998. The OFT alleges that between April 2004 and February 2005, the Cardiff Bus Company offered its bus services in Cardiff at a loss after a rival, 2Travel plc, entered the market.

This provisional finding appears to be entirely irreconcilable with the judgment of the High Court on 15 June in a claim by Chester City Council against Arriva, again alleging an abuse of a dominant position through threats of predatory behaviour directed at driving the claimant’s subsidiary, Chester City Transport, out of the market for the provision of bus services within the city of Chester. Under the Transport Act 1985, which privatised much of the local bus market, public service vehicle operators could obtain authorisation to commence or cease providing local bus services with relative ease. Markets were therefore contestable. The judge accepted the evidence of Arriva’s expert that the market was that of bus services within Chester City and, crucially because of supply-side substitutability, or the ability of bus operators based outside Chester to drive to the city in order to provide services there, within a thirty minute drive-time radius of it. On this basis Arriva only had a 31% market share, insufficient to establish dominance. The expert had also argued that should the court conclude that the market was the more circumscribed one suggested by Chester City Council, Arriva’s market share (53%) would in any event not confer dominance due to the lack of barriers to entry. The judge agreed that, given the features of this market (low entry barriers and ample opportunity for supply-side substitution), even a market share presumptively indicative of dominance would not confer market power.

The Chester case represents a potentially significant development. It has always been an article of faith for the OFT that bus market definitions are route-specific and the court’s conclusions on ease of entry will make it difficult for the OFT to enforce the Chapter II prohibition in this sector. At the same time, the judgment is an interesting illustration of the High Court’s increasing confidence in dealing with complex issues of market definition and dominance – a confidence that the courts need to demonstrate if a genuine private enforcement culture is to emerge.

Trains

Also involving Arriva, but at the opposite end of the pricing spectrum, Arriva Trains Wales has increased the cost of off-peak train travel in Wales by between 25% and 34% through the abolition of off-peak super saver return tickets. Arriva Trains Wales provides all local and regional train services in Wales. In a separate move, South West Trains is increasing off-peak fares by 20% on services to Waterloo. South West Trains is only increasing fares on those routes into London where it is the sole franchisee. These price rises have attracted only a passive response from the Office of Rail Regulation, the body tasked with enforcing competition law in the rail sector. The reason for the latter’s approach is the somewhat flawed nature of rail privatisation. Even if the franchisees are dominant on their particular routes (and Competition Commission cases suggest that they may be), excessive price cases are hard to substantiate. A structural remedy would be to introduce more franchisees (and hence more competition) on the relevant routes, something the Department for Transport (the rail sector’s funder) is reluctant to do.

Packaging recycling and mandatory licensing

On 24th May 2007 the Court of First Instance gave its judgment in the Grüne Punkt ("Green Dot") case (Case T-151/01). In 1991 a German packaging waste law was introduced which required manufacturers and distributors to take back and recover used sales packaging from final consumers. These obligations could be met either by a self-managed solution operated by the suppliers or an exemption system. The exemption system involved manufacturers and distributors participating in an exemption scheme where their packaging was marked as recyclable. The exemption system was the default system where manufacturers were unwilling or unable to operate a self-managed solution. Der Grüne Punkt – Duales System Deutschland GmbH ("DSD") was the only undertaking operating a Germany-wide exemption system. DSD entered into a standard agreement with manufacturers whereby the green dot logo was attached to their packaging which was then recovered under the DSD exemption system. The licence fee charged by DSD to manufacturers was calculated by reference to the weight and nature of the packaging to which its logo was applied, irrespective of whether DSD and its local operators provided the recovery service.

The Commission concluded that DSD, as the only undertaking operating a Germany-wide exemption system approved by all the regional authorities, was in a dominant position. It was unrealistic to expect a rival exemption system to emerge. The manner in which the licence fee was charged prevented manufacturers from operating self-recovery solutions. Since the licence fee would be charged once the green dot logo was attached to packaging, irrespective of who undertook its recovery, there would be a double charge if an alternative service provider was used, and there was therefore no incentive for the manufacturer to undertake recovery itself. DSD appealed, arguing that the decision amounted to the grant of a compulsory indefinite trade mark licence for no fee and that this was disproportionate. The CFI held that there was no mandatory licensing obligation, merely an obligation to charge fees which were proportionate to the service provided. The case is unusual in a number of respects. Firstly it is unusual for the Commission to tackle excessive pricing. Secondly, whilst the trade mark owner argued that the remedy ordered was a mandatory licensing obligation, the Commission and Court adopted the approach that there was a foreclosing abuse of dominance through licensing at excessive charges which gave rise to an abusive de facto exclusivity.

STATE AID

New commission guidance

On 11 June 2007, the EC Commission published an explanatory memorandum on a draft of a proposed General Block Exemption Regulation for state aid, http://ec.europa.eu/comm/competition/state_ aid/reform/final_memorandum_gber.pdf) which it published for consultation in April 2007. The consultation on the General Block Exemption ended on 3 June 2007. A further draft Block Exemption should be published in the Official Journal for consultation in late summer or early autumn this year, with a view to its adoption in spring 2008.

The memorandum provides an overview of the draft Block Exemption and explains the content of the first "horizontal" part of the draft, which sets out common definitions and procedural requirements applicable to all types of aid within the scope of the Block Exemption and sets out the individual notification thresholds. It then reviews the second "substantive" part of the draft Block Exemption, which sets out the detailed substantive conditions relating to all types of aid covered by the Block Exemption (including regional investment and employment, SME investment, environmental protection, consultancy and SME participation in fairs, risk capital, R&D, training and aid for disadvantaged and disabled workers). The Block Exemption is intended to create a simple and more userfriendly measure with consistent definitions and procedures. It encompasses risk capital and environmental aid for the first time (these are not covered by current block exemptions).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.