On July 7, 2011, the Federal Trade Commission, with the
concurrence of the U.S. Department of Justice, jointly announced
significant changes to the Hart Scott Rodino (HSR) Premerger
Notification Program. The changes, which are included in amendments
to the HSR Premerger Notification Rules, the Premerger Notification
and Report Form, and its Instructions (collectively, the
Amendments), will likely go into effect by mid- August 2011. They
will have a significant effect on private equity firms, hedge fund
managers and other investment firms that manage investments in
multiple funds or other investment vehicles. Other changes will
affect all HSR filers by requiring them to include additional
information in their HSR Premerger Notification and Report Forms
(the Notification Form). The full text of the FTC's
announcement, the Amendments and the FTC's explanation of the
changes being made can be found here.
OVERVIEW
While many changes to the HSR program are included in the
Amendments, three are quite important and are the subject of this
Advisory. The first reflects a concern by the FTC that the current
HSR Rules do not require an Acquiring Person to disclose
competitive holdings of related entities that are not treated as
part of the Acquiring Person itself under the HSR Rules. For
example, under the current Rules, a private equity fund acquiring a
widget maker need not disclose in its HSR filing that one of its
sister funds, with which it shares a common manager, owns a
competing widget manufacturer. The Amendments remedy this concern
by creating the concept of an "Associate" and requiring
the disclosure of the competitive holdings of an Acquiring
Person's Associates.
The second significant change involves documents that must be
submitted with the HSR filing. Until now, both the Acquired and
Acquiring Person were required to submit "4(c)" documents
in response to Item 4(c) of the Notification Form. Such documents
generally contain information concerning the market in which the
parties compete and the competitive implications of the
transaction. The FTC has concluded that there is
"competition-related content" in other materials that are
not being produced in response to Item 4(c). Accordingly, it has
added Item 4(d) to the Notification Form to capture this additional
content.
The third significant change involves the reporting of sales of
goods manufactured by the parties overseas, but sold in or into the
United States. Previously, the parties did not need to report the
manufacturing NAICS codes for the sale of these goods.1
Under the new Amendments, they will. For firms with significant
foreign manufacturing operations, this will represent a significant
change to their HSR filings.
As explained in greater detail below, the Amendments impose
substantial new reporting obligations on investment firms with
large portfolios held in multiple investment funds. Satisfying
these obligations will require significantly more time and effort
than is required by the current HSR regime. Accordingly, investment
firms with significant portfolios may wish to consider creating HSR
"shelf filings" now and establish other disclosure
controls so that they are not delayed in executing time-sensitive
acquisitions after the Amendments go into effect. They may also
wish to negotiate longer deadlines in their acquisition agreements
for making HSR filings.
1. Capturing Information of Competitive Holdings by
Associates
To ensure that it learns when an Acquiring Person is linked to
another firm that owns a business or assets that compete with the
target being acquired, the FTC created the concept of
"Associate" and required that Acquiring Persons disclose
certain information about their Associates in Items 6 and 7 of the
Notification Form.
A. Associates
The FTC created the concept of "Associate" by adding a
new Section 801.1(d)(2) to the HSR Coverage Rules. The definition
is exceptionally broad, but it only applies to Acquiring Persons,
not Acquired Persons. Under a simplified description of the
definition, a person or entity who manages the operations or
investment decisions of an acquiring entity is a "managing
entity." The managing entity, anyone who controls or is
controlled by the managing entity (essentially its parents or
subsidiaries, direct or indirect), and any entity whose operations
or investments are "managed" by the managing entity are
"Associates" of the Acquiring Person. In addition, to the
extent the Acquiring Person itself manages the operations or
investment decisions of another entity, that entity is also an
"Associate." Thus, if an investment fund shares a common
investment manager with other funds, the manager and all of the
funds served by the manager are Associates. If an investment fund
has separate investment managers for its funds, but the managers
are commonly owned, the managers, and all the funds they manage,
are also Associates. The same analysis applies to general partners
of limited partnerships.
In effect, the concept of Associate will, in many if not most
situations, bring all the funds in a fund family into the HSR
process. As a practical matter, each fund making an acquisition
will need to look at its structure and relationships with general
partners and investment managers to determine who its Associates
are. This will be a fact-intensive exercise for each acquiring firm
that will have to be done at the beginning of the HSR preparation
process, or earlier, before information for the filing is
collected.
B. Item 6 of the Notification Form
The Associate concept is put into effect in new additions to
Items 6 and 7 of the Notification Form, where specific information
pertaining to Associates is required. The Amendments create a new
Item 6(c)(ii) to the Notification Form, which need only be
completed by the Acquiring Person. This new section requires the
Acquiring Person to report certain minority holdings for each of
its Associates, where those holdings represent a competitive
overlap with the business or assets being acquired in the
transaction. In essence, the Acquiring Person now has to report the
same information about its Associates' minority holdings that
it has to report for itself. Specifically, the Acquiring Person
must report whether any of its Associates hold an ownership
interest between 5% and 50% in the acquired entity itself. In
addition, it must report for each Associate any ownership interests
between 5% and 50% in other firms that derive revenue from the same
six-digit Industry NAICS code as the acquired entity (a "NAICS
Code Overlap"). This will enable the FTC staff to identify
where an acquisition will create a competitive overlap with the
Acquiring Person's Associates as well as the Acquiring Person
itself.2
The FTC recognizes that the Acquiring Person may not have access to
detailed information concerning sales made by firms in which its
Associates have minority interests as small as 5%. Indeed, it is
possible that for Associates who are separated by two or three
degrees from the Acquiring Person, it may not know their minority
holdings at all. Accordingly the Amendments provide that, in
completing Item 6(c)(ii), the Acquiring Entity may: a) base its
answer on knowledge or belief; b) list firms that are in the same
industry as opposed to those with revenues in the same NAICS codes
if that information is unavailable; or c) simply list all entities
in which its affiliates own 5% to 50% of the equity irrespective of
NAICS Code Overlaps.
C. Item 7 of the Notification Form
The Amendments also extend Item 7 of the Notification Form to
the Acquiring Person's Associates. Currently, parties making
HSR filings must disclose NAICS Code Overlaps between the Acquiring
Person and the Acquired Entity or assets. In addition, the parties
must disclose certain information about the entities involved in
the overlap. Under the Amendments, the Acquiring Person must now
provide Item 7 information for its Associates as well.
Specifically, it must identify: 1) the six-digit NAICS Codes in
which the Acquiring Person or any of its Associates have a NAICS
Code Overlap with the Acquired Entity or assets; 2) the names of
each Acquiring Person or Associates, and if different, the entities
they control that derive revenues from the overlapping codes; and
3) certain geographic information concerning the markets in which
those entities sell their products or services.
The combined effect of the changes described above is to provide
the FTC and DOJ with a far broader view of the competitive
implications of an acquisition. Whereas before the Amendments, the
antitrust enforcement agencies did not see the competitive holdings
of sister funds or other Associates, now they will. This may result
in an increased number of preliminary investigations of
acquisitions by private equity firms and fund managers who own
large portfolios of business assets through multiple ownership
vehicles. It may also draw some Associates into investigations
arising from transactions in which they have no vested stake. It
will certainly result in increased time and effort required to
prepare HSR filings. For firms that make many acquisitions and
operate multiple funds, it may be advisable to maintain a filing
that has up-to-date information concerning the firm's
"Associates." It may also be advisable to negotiate
longer deadlines for HSR filings in acquisition agreements.
2. Expanding the Categories of Competitively Significant
Documents That Must Be Included with the HSR Filing
The new Amendments also expand the category of documents concerning
competition that must be submitted with the HSR Notification Form.
Currently, documents addressing competition, competitors, markets,
market shares, sales growth, or product or geographic expansion
that were prepared by or for officers or directors of the parties
in connection with the transaction, need be produced. These are the
traditional "4(c)" documents that must be produced in
response to Item 4(c) of the Notification Form. The Amendments add
a new Item 4(d) to the Notification Form that expands the
categories of documents containing "competitive
information" that must now be produced. While many
practitioners previously produced as 4(c) material some of the
materials now covered by 4(d), the Amendments add other materials
that were traditionally not covered by Item 4(c).
Item 4(d) is significant in several respects. First, unlike Item
4(c) it is not limited to documents prepared in connection with the
"acquisition." Instead, in two of its subsections, Item
4(d) covers documents "that specifically relate to the sale of
the acquired entity(s) or assets" whether or not prepared in
connection with the actual acquisition being notified. Second, two
of the new subsections require the parties to search for and
produce documents prepared "up to one year before the date of
[the HSR] filing." Third, in at least one situation, Item 4(d)
requires the production of gratuitously prepared materials by third
parties that the filing parties did not seek or request. The
specifics follow.
A. Confidential Information Memoranda
New Item 4(d)(i) of the Notification Form requires both filing parties to include "Confidential Information Memoranda" (CIMs) or, in the absence of such a document, "any documents(s) given to any officer(s) or director(s) of the buyer meant to serve the function of a Confidential Information Memorandum." These materials are often provided as 4(c) documents when they relate to the actual transaction being notified. Item 4(d)(i), however, jettisons the 4(c) limitation and requires that CIMs be provided even if they were created for another transaction or possible transaction, provided they "relate to the sale of the acquired entity(s) or assets."
B. Documents Prepared by Third Party Advisors
New Item 4(d)(ii) explicitly requires that documents prepared by "investment bankers, consultants or other third party advisors ("third party advisors")" that contain 4(c) material be submitted with the HSR notification. These materials were also historically filed as 4(c) documents when they related to the actual transaction being notified. Item 4(d)(ii), however, expands the obligation in two material respects. First, it is not limited to the transaction. Like Item 4(d)(i), it covers any materials related to the sale of the acquired entity(s) or assets. Second, the obligation to provide documents under Item 4(d)(ii) is not limited to documents created by third party advisors actually retained by the parties. In explaining its rational for adding 4(d)(ii) to the Notification Form, the FTC explicitly stated that it wanted to capture competition-related information in "'pitch books,' which are 'developed by investment banking firms for the purpose of seeking an engagement.' These materials are sometimes also known informally as 'bankers' books.'" Thus, unsolicited materials by third party advisors seeking business from the parties are now potentially subject to filing with the HSR, even if the advisor is never retained.
C. Documents Concerning Synergies and Efficiencies
Finally, the Amendments add a new Item 4(d)(iii) to the Notification Form. This addition requires that materials "evaluating or analyzing synergies and/or efficiencies prepared by or for any officer(s) or director(s) . . . for the purpose of evaluating or analyzing the acquisition" be included in the HSR filing. These materials were not required by Item 4(c).
3. Inclusion of Revenue Data for Products Manufactured Abroad
Item 5 of the Notification Form currently requires the filing parties to list U.S. sales broken down by NAICS code for the last fiscal year and a base year, which is 2002. The Amendments eliminate the need to report sales for the base year. However, they expand reporting obligations by requiring that revenues generated by the manufacture of goods outside of the United States be reported in Item 5 where those goods are sold into the United States at the wholesale or retail level or are sold directly to U.S. consumers. Currently, sales of foreign manufactured products need not be reported by their 10-digit NAICS manufacturing codes. To the extent they are sold in the United States, those sales are reported under wholesaling or retailing codes. Under the Amendments, such sales will now be reported under the appropriate 10-digit manufacturing codes. Since such sales may be made at internal transfer prices (from the filing party's foreign factory to its U.S distributor) rather than at its wholesale or retail prices in the United States, the change in reporting will almost certainly change the amounts reported in Item 5 and will likely require filing parties to examine different accounting records to obtain the required information.
CONCLUSION
In sum, the Amendments represent a significant change and potentially increased burden on parties—especially Acquiring Persons—making HSR filings. Parties who are active in the M&A markets would be well advised to consider preparing an HSR "shelf filing" well before their next acquisition, in order to avoid the significant work and delay that the Amendments may create for those making their first filings under the new reporting regime.
Footnotes
1. NAICS codes are designations given to narrowly defined
categories of economic activity under the North American Industry
Classification System.
2. Existing Item 6(c) to the HSR Notification Form has now been
redesignated Item 6(c)(i). Previously, it required the Acquiring
Person to list all entities in which it held minority interests of
5% to 50%. That Item has now been modified only to require
disclosure of minority holdings that have NAICS Code Overlaps with
the acquired entity or assets.
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.