Antitrust Agencies Won’t Tolerate “Gun-Jumping” QUALCOMM settled a suit charging that contract terms allowed it to control a target before the DOJ cleared the deal

Federal antitrust officials have reinforced their get-tough policy on M&A “gun-jumping,” again warning buyers not to take control of their targets before the government has cleared the deal on competition grounds. The message was delivered in a settlement between the U.S. Justice Department (DOJ) and communication technology firms QUALCOMM Inc. and Flarion Technologies Inc., which merged last January in a $600 million deal. The DOJ’s position was that key terms of the purchase agreement allowed QUALCOMM to dominate Flarion and restrained competition between them until the deal was green-lighted to close. QUALCOMM and Flarion paid $1.8 million to settle the case in April. The penalty could have been much higher if QUALCOMM hadn’t turned itself in, for reasons that have not been explained. On a broader basis, QUALCOMM’s experience reminds dealmakers of the tension-filled interim between reaching an agreement and closing a deal, especially for the large swath of middle-market transactions and all of the large deals that require DOJ or FTC reviews under the Hart-Scott-Rodino Act (HSR). Strategic and human resources advisers like merging partners to move fast on integration so they can accelerate recapture of value. Legal advisers recommend restraint while deals are analyzed by antitrust agencies, and they also want to craft contract language that protects buyers from miscues or abuses by target companies while federal reviews are underway in a process that may take several months. In the QUALCOMM case these interests seemed to collide. Paul Denis, a Partner in Dechert’s Washington office and a former antitrust regulator, says it’s “safe to have ordinary-course covenants” in purchase contracts. Basically, that means allowing targets to conduct normal business as usual and not moving on exceptional matters during the enforced waiting period unless the buyer agrees. Often, many steps beyond “ordinary course” – such as taking on new debt or changing the bylaws – are widely understood and not even specified. Overstepping its bounds But Denis says the restraints in the QUALCOMM/Flarion pact “go too far.” “The problem went well beyond the ordinary-course covenant and precluded Flarion from doing a number of things that were regarded as ordinary-course behavior without QUALCOMM’s approval,” he says. QUALCOMM tied up Flarion “beyond the ordinary course of business” in the view of Fred Lipman, a Partner at Blank Rome in Philadelphia. Precluding a target from certain actions will pass muster, if it’s reasonable, he says, but “it can’t interfere with competition.” “It can’t be so tight that it interferes with competition between the two firms,” he adds. Deal and antitrust lawyers say the QUALCOMM outcome is not particularly instructive on how to draft contract terms that simultaneously protect the acquirer and please regulators. But the result clearly shows what not do, they say. Gaining premature control Under the purchase agreement, Flarion could not, following the July 25 inking of the pact, take several actions without QUALCOMM’s okay. These included licensing intellectual property to third parties, signing deals involving payment of $75,000 or more a year or $200,000 in the aggregate, pitching business to existing or prospective customers, and extraordinary hiring of new employees. According to the DOJ, the power given to QUALCOMM represented a premature acquisition of Flarion in violation of HSR. Denis describes the limitation on seeking new business as the most restrictive provision. The case also surfaced another touchy dimension in acquirer/target relationships in that some buyers try to dictate operating decisions to the junior partners beyond what’s written in the contract. Federal regulators signaled that they will get tough on these de facto control practices as well. The government’s complaint, which was settled in the U.S. District Court for the District of Columbia, said Flarion “ceded control” of much of its operations to QUALCOMM. “In many instances, Flarion deferred to QUALCOMM on business decisions even when the merger agreement did not purport to oblige Flarion to do so,” the complaint read. The complaint alluded to smallish contract signings and other relatively minor decisions. QUALCOMM and Flarion signed their merger agreement July 25, 2005, and submitted the deal for review shortly thereafter. The DOJ made requests for additional information and finished the review December 23 after finding no competition problems. The deal closed last January 18. The DOJ was exercised mostly over QUALCOMM’s conduct through December 23 and traditionally has told dealmakers it will not tolerate de facto control over the target, even if the deal gets a clean bill on competition grounds. It could have levied fines of up to $11,000 a day – or about $3.3 million – but let QUALCOMM off easier because the company dropped the hammer on itself and loosened the restrictive terms in mid-October, about two months before the review was completed. The DOJ and the FTC presently require HSR filings for any deals in which the buyer pays $212.3 million or more and for some deals valued at a minimum of $53.1 million. The agencies adjust the thresholds periodically. As a result, many of the smaller mid-market deals are exempt from review. Exactly why QUALCOMM turned itself in is not clear. Some lawyers speculate that the deal’s antitrust counsel was not part of the original contract and advised, after reading the terms, that the company had crossed the line and should move preemptively. Cravath, Swaine & Moore was the antitrust firm in the deal. A call to a QUALCOMM spokeswoman was not returned. A “gun-jumping” controversy erupts every so often in M&A as buyers try to keep their targets in check without looking like they’re interfering with competition. In the last major case, the DOJ attacked Computer Associates International Inc., now known as CA Inc., in connection with its 1999 acquisition of Platinum Technology International Inc. The contract terms barred Platinum, without CA’s approval, from offering discounts of 20% or more, varying terms of contracts, offering consulting services over 30 days at a fixed price, and providing Y2K remediation services. According to the department’s complaint, CA was the “sole arbiter” on whether to grant exceptions to those restrictions, and the company installed a division vice president at Platinum headquarters to approve contracts with customers. Sending mixed messages? Ironically, the QUALCOMM/ Flarion case broke not long after federal officials had advised merger partners that they had no problems with their getting a head-start on post-merger integration planning while the HSR review is going on. (c) 2006 Mergers and Acquisitions Journal and SourceMedia, Inc. All Rights Reserved. http://www.majournal.com http://www.sourcemedia.com