Avoiding the “Gun Jumping” Trap in Mergers and Acquisitions
From the moment a merger agreement is signed, the parties are often eager to begin the process of integrating and consolidating their operations. But doing too much coordination before closing could constitute “gun jumping”—an offense that carries significant risk of fines and litigation. If the transaction must be reported under the Hart-Scott-Rodino (HSR) Act, coordination could violate the mandatory “waiting period” for reportable transactions. And if the parties are competitors, coordination before closing can violate the Sherman Act, the federal antitrust statute.
Background on HSR Act and Gun Jumping
Under the HSR Act, companies and individuals entering into transactions that meet certain thresholds must provide notification to the antitrust enforcement agencies (the Federal Trade Commission and Department of Justice). The parties must then observe a statutory waiting period—typically 30 days, but sometimes longer if the government requests additional information—during which the merging parties must continue to compete as independent entities and are prohibited from consummating the transaction.
“Gun jumping” in violation of the HSR Act occurs when the acquiring party engages in any conduct that confers “beneficial ownership” to the acquiring party before the expiration of the waiting period. This can occur because the deal closes too soon (i.e., before the HSR waiting period ends) or because the parties fail to provide a required HSR notification. It can also occur when the parties coordinate significant business decisions (including pricing or terms to be offered to customers), or share competitively sensitive information without appropriate safeguards, before the waiting period ends. Finally, the merger agreement itself can cause a “gun jumping” violation if it gives the buyer too much control over the target by allowing the buyer to control the target’s “ordinary course” transactions before the end of the waiting period. For example, in DOJ’s settlement with Qualcomm relating to its acquisition of Flarion, the DOJ found that restrictive provisions of Qualcomm’s merger agreement with Flarion gave Qualcomm beneficial ownership over Flarion because it allowed Qualcomm to veto some of Flarion’s routine licensing and contracting decisions.
The consequences of “gun jumping” can be significant. Fines for “gun jumping” can range up to $40,654 per day. In the case of Qualcomm/Flarion, the Justice Department imposed a $1.8 million penalty, which was reduced from the statutory maximum only because the parties voluntarily reported the violation and took measures to fix the problem. However, gun-jumping risks do not end at the expiration of the HSR waiting period. If the parties are competitors, too much coordination can result in liability under Section 1 of the Sherman Act, which prohibits agreements that unreasonably retrain trade. Sherman Act damages can quickly climb into the many millions of dollars. Under the Sherman Act, prevailing plaintiffs are entitled treble damages plus costs and attorney’s fees. In one gun jumping settlement in 2014, the DOJ imposed a penalty of $1.15 million reflecting disgorgement of “ill-gotten” profits associated with pre-merger coordination in violation of the Sherman Act, in addition to a $3.8 million penalty for violation of the HSR Act.
Recent Enforcement Action: Duke Energy
The DOJ’s settlement earlier this year with Duke Energy Corporation (Duke) demonstrates the degree to which antitrust enforcers actively pursue gun jumping violations. In January, Duke agreed to pay $600,000 to resolve allegations it acquired beneficial ownership of an electricity generating plant in Florida before the expiration of the HSR waiting period. DOJ alleged Duke acquired beneficial ownership by entering into a “tolling agreement” that gave Duke the ability to control the plant’s power output, arrange for the delivery of the power generated by the plant, and keep the profits and losses of the plant. According to the DOJ’s complaint, this arrangement allowed Duke to make “all competitively significant decisions” for the plant such that the plant “ceased to be an independent competitive presence in the market for generating electricity for Florida consumers.” In its press release about the settlement, DOJ emphasized it remains “vigilant” against gun jumping violations and will “take action when parties to a reportable transaction stop competing independently before the review period has ended.”
Permissible Pre-Merger Conduct
Although merging parties must take care to operate independently until closing, enforcement agencies recognize there are legitimate reasons for pre-merger coordination and information exchange, and for requiring buyer approval for certain seller activities. Permissible conduct generally includes:
Sharing information for the purposes of planning for post-closing integration and conducting pre-merger due diligence, provided safeguards are implemented to ensure information cannot be used to facilitate anti-competitive pre-merger coordination. Under some circumstances, the parties may need to set up “clean” teams to ensure employees involved in making competitive decisions cannot access the competitively sensitive due diligence materials of the other party.
Entering into merger agreements that require the buyer’s approval for actions by the target that do not occur in ordinary course. These non-ordinary course actions might include: payment of dividends or distributions by the target, revision of the target’s organizational documents, acquisition of other businesses, making large capital expenditures, or entering or exiting a line of business.