Introduction
Commission decision
General Court decision
Comment


Introduction

The EU General Court has dismissed an appeal against the European Commission's Phase I clearance of Microsoft's acquisition of Skype in 2011.

In rejecting the appeal, the court made a number of remarks that will resonate with, and assist, high-tech companies contemplating M&A activity or opposing arguments that they possess significant market power.

The court emphasised that a market's dynamic characteristics (eg, changing market shares and short innovation cycles) may mean that very high market shares – in this case up to 90% – remain a poor proxy for market power. Even if a transaction increases market power, the commission still needs to be convinced that the transaction will harm consumers before it can intervene. The court contended – quite radically – that the fact that a product is free (in this case video communications) will constrain the exercise of market power because consumers have developed an expectation that the product will be free and will not tolerate a price increase. This is a useful line of argument for high-tech companies with high market shares that offer the relevant product or service for free.

The court confirmed that the commission faces a high evidentiary threshold when investigating claims of conglomerate effects – perhaps especially so in the high-tech sector. In this case any foreclosure was based on the merged entity having taken a series of steps that would have taken three years to implement. The court saw this as too speculative, given that the technology sector is characterised by short innovation cycles.

Commission decision

On October 7 2011 the commission unconditionally approved Microsoft's acquisition of Skype in a Phase I investigation.

No horizontal concerns
The commission dismissed concerns arising from the overlap of consumer communications. Even looking at a narrower segment of video communications – where the combination of Microsoft's Windows Live Messenger and Skype would give rise to a share of between 80% and 90% – the commission was satisfied that this was a growing market where numerous players, including Google, were present. For enterprise communications, the commission acknowledged Skype's limited market presence, plus the fact that it did not compete head to head with Microsoft's enterprise communication product Lync, which is used mostly by large enterprises.

No conglomerate effects
The commission rejected the concern that Microsoft would degrade Skype's interoperability with competing services, noting that Microsoft would have no incentive to do this as it would be essential for Skype's services to remain available on as many platforms as possible in order to maintain the Skype brand. Nor did the commission accept that Microsoft might tie Windows with Skype, limiting the ability of other players to compete. Instead, the commission noted that the vast majority of consumers who acquire a personal computer with Skype already installed are registered Skype users and that most of them subsequently download a different version from the pre-installed one.

Regarding enterprise communications services, the commission found that Skype is not an enterprise product, therefore its interoperability would not be decisive for competitors and a bundle or a tie between Skype and Microsoft's products would not be a must-have-product for enterprises. Lync also faced competition from other strong players in enterprise communications (eg, Cisco).

General Court decision

Horizontal effects
Dynamic markets
The court upheld the commission's findings in relation to the horizontal overlap, despite a potential combined market share of 80% to 90%. The court pointed out that the market shares had fluctuated significantly over the short seven-month period, which suggested instability of market shares. The court held that high market shares are not necessarily indicative of market power in a dynamic context, noting that "the communications sector is a recent and fast-growing sector which is characterised by short innovation cycles in which large market shares may turn out to be ephemeral".

The court also pointed out that a substantial and growing share of new demand for video communications came from users of tablets and smartphones, and that the sales of those appliances had overtaken sales of personal computers. As such, Microsoft's conduct in relation to Windows-based applications would be constrained by the threat of customers switching (still further) to tablets and away from the Windows ecosystem.

Consumer harm requirement
The court held that it was insufficient to show that the acquisition would merely increase market powe; consumer harm was also needed. However, the court dismissed the prospect of an increase in prices. It reasoned that if consumers expected to receive something for free (as is currently the case for video communications), then market power would be unlikely to result in harm to competition through higher prices, since consumers would not be prepared to pay. This is another useful piece of reasoning for high-tech companies with high shares which offer services for free.

The court also rejected the suggestion that advertisers might suffer from an increase in the price of using Skype. It considered that advertisers would be able to switch their purchases from Windows Live Messenger/Skype to other online conduits to constrain attempts to raise prices.

No second guessing of economic objectives
The court rejected the argument that the commission should have regard to the purchase price ($8.5 billion) when speculating on whether the parties would be likely to increase price or leverage Skype's customer base in order to make a return on an investment in a business model (which would otherwise be free). The court explained that the commission's assessment was limited to verifying impediments to competition.

Conglomerate effects
The judgment contains a number of helpful lines of reasoning for those contemplating transactions that may give rise to concerns of conglomerate or portfolio effects.

The court confirms that the commission is allowed to dispense with full reasoning and instead give summary reasons on the issue of conglomeracy because:

  • the commission need not adopt a position on all of the arguments put forward (it need only address those necessary to set out the facts and legal considerations of decisive importance);
  • the commission is under time pressure in Phase I proceedings; and
  • "concentrations giving rise to conglomerates do not usually generate competition concerns".

The court emphasised that previous EU case law (eg, Tetra Laval, GE/Honeywell) establishes that the commission must meet a high evidentiary threshold in order to find conglomerate effects (because the conglomeracy concerns involve a speculative judgement in an already prospective assessment). Against this backdrop, the court concluded that the theory of harm put forward was too far out in time and was therefore speculative as to its success. In particular, the court acknowledged that technical integration alone of Skype would take two years. It also doubted whether Skype was a real commercial advantage to Microsoft's business customers and noted that rivals would have some counterstrategies available (eg, to adjust prices or functionality, or have recourse to the services of other large providers of consumer communications).

Comment

Overall, the judgment is an interesting case study for companies with high market shares in the high-tech sector, including those contemplating transactions that would bring together leading positions in neighbouring markets. The result contrasts sharply with the outcome in cases such as Intel/McAfee, where the commission paid far more attention to, and ultimately required, interoperability commitments as the price of clearing the deal. The judgment is likely to be contentious and it remains to be seen whether there will be further appeals.

For further information on this topic please contact Bill Batchelor at Baker & McKenzie by telephone (+32 2 639 36 11), fax (+32 2 639 36 99) or email (bill.batchelor@bakermckenzie.com). The Baker & McKenzie website can be accessed at www.bakermckenzie.com.