FTC's administrative complaint
Nascent competitive issues
On 30 March 2021 the Federal Trade Commission (FTC) filed an administrative complaint challenging the acquisition of Grail, an emerging producer of early detection tests for multiple cancer types, by Illumina, a producer of next-generation DNA sequencing (NGS) platforms which are used by Grail's (and potentially others') tests. Simultaneously, the FTC filed an action in a US district court seeking a preliminary injunction, prohibiting the merger until the administrative process could be completed. The preliminary injunction action was recently dismissed with court approval because the FTC asserted that the injunction was not necessary to ensure that the transaction could not close before its administrative proceeding was completed.
The FTC's complaint is premised on the notion that Illumina's NGS platform and related products are critical to competition in the market for multiple cancer early detection (MCED) tests. This represents the FTC's first litigated challenge to a vertical transaction since 1978 and is the first major federal challenge to block such a transaction since the Department of Justice's unsuccessful attempt to block AT&T's acquisition of Time Warner in 2017.
The key lessons from this case are as follows:
- Illumina's partial ownership of Grail apparently did not hinder the FTC's action. Illumina was a founder of Grail in 2015. Over time, it has reduced its voting ownership to just under 15%. The FTC's challenge does not address Illumina's existing incentives as a key owner of Grail. For example, the FTC notes in its complaint: "[i]f the Acquisition is consummated, Illumina will gain the incentive to foreclose or disadvantage firms that pose a significant competitive threat to Grail." Yet, as a partial owner of Grail, Illumina already has such incentives, and the FTC's complaint does not analyse how those incentives changed; rather, the FTC appears to assume throughout the complaint that it is the acquisition that will create Illumina's incentive to hinder Grail's rivals. Section 7 of the Clayton Act (the merger control statute) requires that it be the acquisition that causes the potential effect.
- The fact that neither Grail nor any other company had products in the MCED test market does not appear to play a factor in the FTC's ultimate analysis. The FTC assumes that Grail and its alleged competitors will all have capable, competitive product offerings. Whether this is a correct assumption should play a major role in the analysis: if Grail's alleged competitors do not have potential offerings that are truly competitive, how could the acquisition have an anti-competitive effect in any reasonably foreseeable timeframe?
- The FTC does not recognise any efficiencies from the vertical integration. This is somewhat counterintuitive given the nature of the allegations of the complaint – with Illumina as the dominant provider of NGS and Grail posed to allegedly be the "likely leader" in the US MCED market, one would expect that there would be cost savings from the vertical integration, including the elimination of any "double monopoly markup" problem.
- The FTC has apparently rejected a traditional resolution of vertical concerns: entry into supply agreements on non-discriminatory terms. The FTC notes that existing or potential supply agreements "cannot offset the likely anticompetitive effects of [the] Acquisition". If this conclusion is about vertical acquisitions generally and not just this particular transaction, more challenges to vertical transactions can be expected since there is not a conduct resolution that would be acceptable to the FTC.
All of this can be seen as the FTC's reaction to criticism that it missed the boat on some of the prior Big Tech transactions – in particular, Facebook's acquisition of WhatsApp and Instagram – by failing to look at how markets were developing when reviewing those prior mergers. It also represents a key victory for Acting Chairperson Slaughter, who may want to wear the badge of an aggressive enforcer to solidify her chances of gaining the nomination to be chair. She was able to secure the votes of the two Republican commissioners in favour of bringing the challenge, notwithstanding the apparent novelty of the FTC's case. (Commissioner Wilson has however questioned the novelty in a Twitter thread defending her vote and discussing a 2002 FTC merger challenge.) This achievement is perhaps more remarkable considering that these same two commissioners voted against pursuing the bipartisan monopolisation case against Facebook in December 2020.
Illumina is a California-based developer of tools and systems for analysing genetic variations and functions. It sells products and services relating to genetic sequencing and is, according to the FTC, the dominant provider of NGS platforms, which the FTC alleges are an "essential input" for any company attempting to commercialise MCED tests. The FTC asserts that more than 90% of the sequencing data in the world is produced on Illumina's platforms. However, Illumina's innovations have likely contributed to reducing the cost of whole genome sequencing, which has gone from millions of dollars in the mid-2000s to $1,000 or less today.
Illumina's alleged dominance in the market for NGS systems is not a new focus of the FTC's attention. In December 2019 the FTC challenged Illumina's proposed acquisition of a controlling stake in Pacific Biosciences of California, Inc (PacBio). The FTC alleged that PacBio was one of few competitors to successfully enter the NGS system market and compete with Illumina. The FTC contended that PacBio's DNA sequencing system had some drawbacks and some benefits compared with Illumina's, but was preferred over Illumina's for some projects. The FTC claimed that allowing the consummation of the transaction would allow Illumina to eliminate PacBio as a competitive threat to Illumina's dominance in the NGS system market. About two weeks after the complaint was filed, Illumina and PacBio announced that they had abandoned the planned transaction, and the complaint was dismissed.
Grail was initially formed by Illumina in 2015, but two years later Illumina reduced its ownership interest to a minority share; today, Illumina owns 14.5% of Grail. Grail was founded with the goal of enabling early detection of asymptomatic cancer through blood screening. It has pursued this goal by conducting a clinical study programme to collect data sets that will allow Grail to identify genomic patterns that then allow it to detect cancer.
Using the patterns identified by these data sets and machine learning, Grail is developing an MCED test, which it calls a 'Galleri' test, which will use an Illumina NGS platform for DNA sequencing and detect 50 or more different cancers from a single blood test. According to the FTC, Grail plans to launch its Galleri test as a laboratory-developed test sometime during 2021.
FTC's administrative complaint
The FTC filed its administrative complaint challenging the transaction on 30 March 2021. The complaint seems to contain several inconsistencies, particularly when focusing on the critical NGS market. For example, the complaint contends that "Grail's rivals have no alternative to using Illumina's NGS platforms to develop and commercialize their MCED tests". Later, the complaint concedes that while Illumina is not the only entity with an NGS platform, Illumina's is the only platform that has the "cost, accuracy, and throughput necessary for use in MCED tests". The FTC does not allege whether any other companies might be close to offering an NGS platform that could also be used for MCED tests. This too seems odd in light of the recent prior challenge to Illumina's acquisition of NGS competitor PacBio, an entity that does not appear to have factored into the complaint at all. (However, the publicly available complaint is heavily redacted.)
Fully litigated challenges to vertical acquisitions have been rare. AT&T won a notorious victory over the Department of Justice which had challenged its acquisition of Time Warner. That experience was in part the impetus for the change in the government's guidelines for vertical mergers. The June 2020 Vertical Merger Guidelines replaced and superseded the guidelines that had been in place since 1984.
But while the FTC has brought cases challenging vertical transactions, those cases almost always came with an agreed resolution. For example, informational firewalls were routinely accepted to resolve concerns that a transaction would facilitate coordination because the merged company would gain access to information about the firm's competitors that it did not have access to before. To be sure, several parties have abandoned their transactions following an FTC authorisation to challenge.
One thing that makes the current litigation so interesting is that the FTC is apparently departing from its prior practice of allowing licensing of important technology or access to important inputs. The FTC has not actually litigated a vertical merger case since the Fruehauf case in 1979 (a case which the FTC coincidentally lost).
Underlying the FTC's entire case is its prediction of the future. While this is true of all merger challenges – the enforcement agency and the court must make predictions about what markets will look like in the future – the Illumina/Grail challenge appears to take such an exercise to an extreme level. It requires the FTC to forecast not just the MCED market, but also the NGS market. Of particular importance is the FTC's allegation that Grail will face potential competition from other MCED providers; there are no allegations that any entity has actually entered. Rather, the complaint notes that several firms either "plan to launch" an MCED test or "[expect] to compete" with Grail, and that "Grail and its rivals are currently at different stages of development".
The US Supreme Court has stated that a merger cannot stand on "ephemeral possibilities" (United States v Marine Bancorporation, Inc, 418 US 602, 623 (1974)). The FTC faces a critical challenge in establishing that these other entities are realistic competitive threats to Grail. As Judge Easterbrook cautioned 20 years ago: "[a]ssessing the significance of potential competition is difficult for the best economists and would be nearly impossible as a subject for trial."
However, the challenge facing the FTC is even greater than in the merger cases surrounding potential competition theories which tend to be about potential horizontal competition. Here, the FTC must also establish that these potential competitors require Illumina's NGS in order to enter the market. To circle back to the above, the FTC would have to meet this burden with respect to potential competitors which know that Illumina was a founder of, and continues to have a substantial stake in, Grail and which would likely temper their reliance on Illumina accordingly.
The FTC's challenge to Illumina's proposed acquisition of Grail is perhaps one of the more interesting merger challenges for some time. It suggests, among other things, that companies seeking to take a minority position in another with the prospect of taking control at some later date should pay close attention to how that partial ownership is structured to minimise the risks that the acquisition of control will face serious antitrust challenge.
The case also signals that both vertical transactions and transactions in markets that are developing can expect greater scrutiny. In the vertical area, the case may signal less opportunity to negotiate non-structural relief with the FTC (something that the Trump Department of Justice was loath to accept) and more litigation 'risk taking' by the FTC in emerging markets – perhaps with an eye to encouraging Congress to enact legislation switching the burden of proof to the defendants in at least high-tech merger cases.
For further information on this topic please contact W Todd Miller, Donald I Baker or Lucy S Clippinger at Baker & Miller PLLC by telephone (+1 202 663 7820) or email ([email protected], [email protected] or [email protected]). The Baker & Miller PLLC website can be accessed at bakerandmiller.com.