Antitrust laws are designed to ensure robust competition among companies. Most often, antitrust laws are considered when interacting with competitors, dealing with distributors, or considering a merger or acquisition. But there is an often overlooked antitrust consideration that extends into the Board: Section 8 of the Clayton Act. With some exceptions, Section 8 prohibits the same individual from serving as an officer or director of two competing corporations. Like other portions of the Clayton Act, Section 8 was designed to "nip in the bud incipient violations of the antitrust laws by removing the opportunity or temptation to such violations through interlocking directorates." U.S. v. Sears, Roebuck & Co., 111 F. Supp. 614, 616 (S.D.N.Y. 1953). Similar to collusion among horizontal competitors, Section 8 is a per se restriction that does not require proof that the interlock results in harm to competition.
Some history is helpful for context. When enacted in 1914, Section 8's interlock ban was virtually absolute: any two corporations worth more than $1 million with competing lines of business could not share a board member even if the interlock was not likely to harm competition. So extreme were the early prohibitions that an impermissible interlock occurred even if different individuals served on the respective boards, creating an indirect interlock. Fortunately, advocates for reform argued that the low bar for interlocks discouraged qualified individuals from serving on boards, even when the risk to competition was low. As a result, Congress in 1990 amended Section 8 to raise the jurisdictional threshold from $1 million to $10 million, and to create safe harbors to permit interlocks involving very small competitive overlaps. Even with these changes, however, if the jurisdictional thresholds are met and no safe harbor applies, the ban on interlocks remains absolute.
The amendment provides that Section 8's higher jurisdictional threshold is now adjusted every year based on changes in gross national product ("GNP"). In January 2017, the Federal Trade Commission raised these jurisdictional thresholds to exclude corporations that have capital, surplus and undivided profits aggregating less than $32,914,000. In addition, there are three de minimis exceptions to the interlock ban that permit horizontal interlocks for two companies with few overlapping products:
1. the competitive sales of either corporation are less than $3,291,400 (also adjusted annually for changes in GNP),
2. the competitive sales of either corporation are less than 2 percent of that corporation's total sales, or
3. the competitive sales of each corporation are less than 4 percent of that corporation's total sales.
Because the thresholds change annually and the exceptions require an assessment of relative competitive sales levels, any company with an interlock will need an effective compliance program to monitor the firm's capital position, as well as each firm's sales of overlapping products. This is especially true if either (or both) firms are changing in ways that result in more of their business competing with the interlocked competitor. Depending on the size of the company, even small increases in competitive sales (or decreases in overall sales) may push a company outside the safe harbors.
Note that these thresholds and exemptions only apply to horizontal interlocks that would otherwise violate Section 8. Other statutes, such as Section 1 of the Sherman Act, still apply without exception to limit collusive behavior or unreasonable information sharing among competitors, including when such conduct occurs in the context of an exempt interlock. In addition, Section 5 of the FTC Act may also reach interlocks that do not technically meet Section 8's interlock requirements but violate the policy against horizontal interlocks expressed in Section 8. For example, Section 5 can reach interlocks involving banks, which are exempt from Section 8, and competing non-bank corporations. In re Perpetual Fed. Savings & Loan Ass'n, 90 F.T.C. 608, 657 (1977)).
Lessons from Section 8 Enforcement
The Federal Trade Commission has recently issued guidance on Section 8 compliance. Generally, the FTC relies on self-policing to prevent Section 8 violations and, as a result, litigated Section 8 cases are rare. Usually the issues are resolved through negotiations with the FTC. For example, the FTC closed an investigation into interlocks involving Google and Apple after a common member resigned from Google's board and Google's CEO resigned from Apple's board. A resignation that eliminates the interlock may effectively bring each company back into compliance with Section 8 and may lead the FTC to determine that there is no need for any further action where there is little risk of recurrence. Fortunately, Section 8(b) provides a grace period of one year for an interlocking director or officer to resign if there is a change that renders him or her ineligible to serve on both boards.
There are certain practices that could help companies avoid interlocks that run afoul of Section 8. These steps could also help companies avoid creating potential Section 8 issues as part of a proposed acquisition that grants management rights that could, if exercised, create an illegal interlock.
1. Monitor your company's assets and check annually against the adjusted jurisdictional threshold.
Be wary of unintentionally growing into a Section 8 problem. As discussed above, the FTC announces adjustments to the minimum thresholds for Section 8 each January, to take effect immediately. If your company relies on staying below the minimum size threshold, be sure to do an annual assessment of your company capital, surplus, and undivided profits and compare those figures to the adjusted amount. Also note that the threshold goes up and some years it goes down because the thresholds adjust to changes in GNP, some years.
2. Track new products or offerings for each interlocked company that may create new areas of competitive sales.
Section 8 applies to "competitors" in the sense that "the elimination of competition by agreement between them" would violate the antitrust laws. But courts have rejected the argument that this is the same as the market definition analysis found in other antitrust cases. In TRW, Inc., v. Federal Trade Commission, the Ninth Circuit found that, especially in emerging industries, competition in the Section 8 sense can encompass more than an assessment of the cross-elasticity of demand for existing products.
In a developing industry in which product variation is just beginning and customer needs are not yet standardized, it is unlikely that two companies will produce products nearly equivalent in their ability to satisfy the needs of a range of customers. Nonetheless, these companies compete. Their competition consists of the struggle to obtain the business of the same prospective customers, accompanied by representations of a willingness to modify their respective products. Competition also consists of efforts to make a sale, even if neither succeeds in persuading the buyer to purchase.
Companies need to be aware of changes not only in their own competitive portfolio but also those of any firms with which there is an existing interlock. Using public information to keep tabs on offerings of interlocked firms may reveal new areas of competitive sales that will need to be assessed and possibly added in to calculations of relative sales levels. With so many changing data points, companies need a plan for monitoring changes in the market.
3. Be sure to check with employees who are knowledgeable about market participants and review documents that track market developments
An accurate assessment of competitive sales should include review of ordinary course business documents that reveal how closely the interlock companies compete, as well as discussions with frontline employees who monitor the competitive offerings of the interlocked competitor. High-level corporate documents or interviews with high-level executives may not contain sufficient detail to determine each company’s relative market position. For instance, in a recent matter before the FTC, high-level executives indicated that certain products did not compete with the interlocked company; company documents we obtained pursuant to compulsory process showed otherwise. The FTC took no action in that matter because the companies involved had attempted to comply with Section 8, removed the interlock upon learning of our investigation, and improved their compliance efforts. Nevertheless, the interlocked companies were subject to a significant investigation. In the past, the FTC has also issued a consent order requiring IBM to consult with “appropriate personnel in IBM’s manufacturing, marketing and other divisions most knowledgeable regarding the source and nature of products and services in competition with” IBM and its subsidiaries.
In addition, if you are relying on the other company to report its competitive sales in order to comply with the “less than 4 percent” requirement, check with your own employees to see if the competitive assessment comports with your own assessment of which products or services compete. The FTC will not necessarily excuse a company from its obligation to comply with Section 8 merely because it relied on representations of the interlocked company. Relying solely on the representations of the interlocked firm may not be sufficient to maintain compliance with Section 8 safe harbors. Indeed, it may be necessary for outside counsel to share information on a confidential basis to ascertain that an unlawful interlock is not created.
4. Take care when acquisitions create interlocks
Acquisition agreements sometimes include a provision that grants one party the ability to appoint a board member to another firm. Occasionally, if this right is exercised, an interlock violating Section 8 would be created. Even before the rights are exercised, such provisions may raise antitrust concerns. Recently, the U.S Department of Justice required Tullett Prebon and ICAP to restructure a $1.5 billion transaction that would have resulted in ICAP owning nearly 20 percent of Tullett Prebon and having the right to nominate one member of its board of directors. In its press release announcing the changes, the DOJ noted that Section 8 requires that firms that compete remain independent. Because the two firms would continue to compete after completing the proposed transaction, the revised agreement left ICAP without an ownership stake or the right to appoint a member to the Tullett Prebon board.
Sometimes, there are antitrust concerns with the underlying merger as well as any potential interlock. For instance, in United States v. CommScope Inc., Case No. 1:07-cv-02200 (District of Columbia) the DOJ alleged violations of both Section 7 and 8 of the Clayton Act in a proposed merger between CommScope and Andrew Corporation, a transaction that included Andrew’s interests and management rights in another company, Andes Industries, Inc. CommScope competed with Andes in the U.S. market for drop cable used by cable television companies. Andrew’s interest in Andes included a 30 percent equity position, plus warrants to acquire additional stock, as well as several governance rights, such as the ability to designate members of Andes’ board. According to DOJ, CommScope’s acquisition of Andrew’s holdings in Andes would violate Section 7, by giving CommScope both the ability and incentive to coordinate with Andes or undermine its competitive decision making. The proposed purchase agreement with Andrew also violated Section 8 by giving CommScope the ability to appoint Andes board members, a firm with sufficient competitive sales to trigger Section 8. To settle charges related to both sections, CommScope agreed to divest Andrew’s entire ownership interest in Andes, and forfeit any rights to appoint members of Andes’ board.
Conversely, a spin-off of a business unit or other assets may lower your company’s total sales in a way that increases the percentage of competitive sales above the 2 percent safe harbor. This is all the more reason to make Section 8 compliance part of an annual audit.
Companies should be aware of Section 8 requirements when selecting new board members. Any competitive overlaps should be addressed before a member joins the board. Thereafter, effective compliance programs should be established to ensure that Section 8 requirements are met during the invariable ebbs and flows of business.
Section 8 compliance is just one of many areas a robust antitrust compliance program must monitor. We can help to ensure that antitrust compliance remains a priority for your company, especially during complex mergers and acquisitions where control provisions may inadvertently trigger antitrust exposure.