Antitrust Implications of Non-Compete Terms in M&A Transactions

Taras V. Dumych, Mykhailo S. Razuvaiev

On 26 January 2016 the Ukrainian Parliament took a long-awaited and significant step to improve the legal framework on merger control and adopted the Act amending the On Protection of Economic Competition Act of Ukraine (the CompetitionAct). The Act will come into force on 18 May 2016.

By introducing a two-tier jurisdictional test and a simplified review process, as well as raising the turnover/assets thresholds, the Act will considerably decrease the regulatory burden on undertakings and shorten the merger control review process. Foreign-to-foreign transactions are expected to benefit from the overhaul. The Act can be considered as an important move to improve the overall image of Ukrainian merger clearance practices, which up till now have been considered as one of the most difficult in the world and as a bottleneck for cross-border M&A transactions.

However, some important issues were left behind the scenes. In particular, the new Act does not, unfortunately, address the issue of non-compete terms in M&A and other commercial transactions. Thus, the purpose of this article is to analyze the current legal regime applicable to non-compete arrangements in M&A transactions and to propose a policy solution which could satisfy both the intentions of parties as well as the requirements of the Competition Act that is currently in force.

Non-compete arrangements: EU vs. Ukrainian regulatory framework

Non-compete clauses in commercial contractual terms, such as the ones often used in M&A transactions, are typically designed to protect the purchaser and its investments against competition from the vendor. The non-compete clause helps the purchaser to achieve the purposes of the transaction and to obtain the full value of the transferred business and assets, which generally include both physical and intangible assets, such as goodwill.

Usually, a standard non-compete clause provides that the parties to the transaction, including their affiliates, undertake not to compete in respect of the transferred business anywhere in the world or in certain countries/territories for a reasonable period of time. Nonetheless, the antitrust implications of non-compete arrangements are not fully straightforward and require due attention.

EU practice

EU legislation contains the concept of ancillarity. Pursuant to this concept, restrictions directly related and necessary for implementation of concentration (the so-called ancillary restraints) shall not require an individual assessment and separate antitrust clearance, and shall be covered by the merger clearance approval. Thus, the European Commission’s Notice on Restrictions Directly Related and Necessary to Concentrations (the Ancillary Restraints Notice) explains that all agreements which carry out the main object of the concentration, such as those relating to the sale of shares or assets of an undertaking, are integral parts of the concentration. If such agreements contain ancillary restraints, these are automatically covered by the decision that clears the concentration.

When discussing the ancillary restraints, the Ancillary Restraints Notice pays specific attention to non-competition clauses. It sets out that non-competition obligations which are imposed on the vendor in the context of the transfer of an undertaking or part of it can be directly related and necessary for implementation of the concentration.

The Ancillary Restraints Notice further clarifies that non-compete clauses protecting the buyer against competition from the vendor and guaranteeing transfer to the purchaser of the full value of the transferred assets are not only directly related to the concentration but also necessary for its implementation and without such non-compete clause there would be reasonable grounds to expect that the sale of the undertaking or part of it could fail. On this basis, most standard non-compete clauses should be automatically covered by a merger clearance decision.

Ukrainian approach

Unlike in the EU, there is no concept of ancillarity under Ukrainian law and, regrettably, neither was any similar concept introduced by a recent Act adopted by Parliament. Thus, treatment of ancillary non-compete clauses by Ukrainian law and the antitrust authority — the Antimonopoly Committee of Ukraine (the AMCU) will remain as it is — as separate potentially anti-competitive concerted practices of the parties to the notifying transaction which require an additional formal antitrust clearance from the AMCU.

Apart from the requirement to clear non-compete arrangements separately from the merger itself, the Competition Act establishes a considerably longer period for Phase I review of the concerted practices notification — up to 3 months (compared to up to a month for merger cases). Although the AMCU attempts to consider the non-compete arrangements within the merger review period and grant the clearance simultaneously with the merger approval, however, as a matter of practice, often consideration of non-compete arrangements takes more time.

In view of the above, the notifying parties should be prepared that non-compete arrangements in an M&A transaction may significantly delay its clearance in Ukraine and consequently delay global closing, which may harm the interests of the parties. However, there may be a practical solution on how to deal with the above timing risk and not to postpone closing until the clearance of non-compete arrangements.

Closing the transaction before clearance of a non-compete clause is granted

Sometimes, considering the burdensome requirements of Ukrainian competition law, in order not to delay a global closing of a foreign-to-foreign transaction with insignificant nexus to Ukraine, the parties exclude Ukraine from the list of territories where they decided not to compete. In this case, when submitting the merger notification the parties generally indicate that the AMCU’s approval for non-compete arrangements is not required because fulfillment of such arrangements will not affect competition in any Ukrainian market.

Even though such an approach may be accepted by the AMCU in practice (and we are aware of such cases), we consider it quite arguable and possibly even contradicting and harming the actual business intention of the parties (i.e. the parties may actually want to include Ukraine as a territory where they agreed not to compete). Therefore, the parties may consider another approach whereby it may be possible to close the transaction even before the concerted actions clearance is granted and to reasonably justify such closing from the point of view of complying with the requirements of Ukrainian competition law.

A merger clearance approval and an approval for concerted practices (in the form of non-compete arrangements) concern different actions — a concentration (e.g., acquisition of shares, assets, etc.) and the agreement of parties not to compete. Importantly, the Competition Act requires that particular actions of the parties rather than a sale and purchase agreement (the SPA) itself, or the non-compete terms of the SPA, or the fact of the SPA signing, should be cleared. In this case it should be irrelevant whether such actions are provided for by the same SPA (as is often the case). By way of illustration, the wording of AMCU decisions regarding non-compete arrangements usually refer to clearance of particular actions of the parties — fulfillment of non-compete arrangements, and state that the approval is granted for “concertedactions in the form of fulfillment of a non-compete clause under the SPA”, not for conclusion of the SPA as such or closing of the transaction.

As a matter of Competition Act, in the absence of clearance of non-compete arrangements under the SPA (i.e. until the clearance is granted), the parties are not allowed to fulfill such non-compete undertakings. However, the absence of such clearance does not prohibit the parties to perform other actions under the SPA, and in particular to close the transaction (i.e. to implement the concentration) provided that the respective merger clearance has been secured.

Until the concerted actions clearance is obtained for a non-compete clause the parties would have a right to compete, but theydo not have an obligation to compete. Furthermore, it would be reasonable to conclude that active competition could be considered as a breach of the purpose of the non-compete clause and the relevant intention of the parties under the SPA. Thus, it would be natural for the parties to simply abstain from competing, while after the concerted actions have been cleared it would be the obligation of the parties to avoid competition.

When applying to the AMCU, it should be sufficient to indicate in the notification that the parties will fulfill their obligations under the non-compete clause only after granting the respective approval. In this case there is no need to additionally state that the parties will abstain from competition until the clearance is obtained for a non-compete clause, as the latter arises by default from the intention of the parties to an M&A transaction.

Until the Competition Act is further reformed to bring its provisions on concerted actions in line with EU regulations and practices (which will hopefully happen soon), the suggested approach will serve to eliminate the risk of delay of closing a transaction in cases when the clearance of non-compete arrangements is not obtained simultaneously with merger approval. Following the discussed approach the parties to an M&A transaction should be able to close the transaction prior to such clearance without exposing themselves to the unnecessary risk of breaching the Competition Act.