January once again brings news of adjustments to Hart-Scott-Rodino Act filing thresholds for mergers, acquisitions and investments, as well as a steep increase in civil penalties for HSR violations.

These adjustments come hard on the heels of two December HSR enforcement actions resulting in $800,000 in civil penalties. Those actions stem from the failure of two investment funds to make required HSR notifications with respect to “follow on” investments.

HSR Thresholds Increase

The Federal Trade Commission announced new filing thresholds under the HSR Act on January 6, 2009, for the antitrust agencies’ premerger review of sizeable transactions. The HSR Act requires companies and investors to notify the FTC and the Department of Justice in advance of certain acquisitions of assets or equity interests. These notifications permit the reviewing agencies to examine the impact of a proposed transaction and to determine whether it might result in a violation of federal antitrust law. A transaction is reportable whether or not it presents antitrust concerns, but only if it meets certain jurisdictional tests. These tests are adjusted annually for changes in Gross National Product. Generally, the “size of parties” test will now be satisfied if at least one party (together with all affiliates under common control) has total assets or annual sales of at least $130.3 million, and another party has total assets or annual sales of at least $13 million. The “size of transaction” test will now be satisfied if the acquiring party will hold assets and voting securities valued at more than $65.2 million as a result of the transaction (not to be confused with “in a single transaction”).

These new “size of” thresholds will go into effect on February 12, 2009. The HSR Act also requires notification of certain incremental acquisitions of voting securities above the minimum “size of transaction.” These incremental notification thresholds are indexed too, as are certain exemption thresholds. All of the new thresholds (summarized below) will apply to transactions that close on or after February 12, unless the agencies have been notified of the transaction before that date. (See table)

HSR filing fees are based on the size of the transaction being notified. The amounts of the filing fees will not change, but the deal size at which each of the three filing fee tiers becomes applicable will increase as follows: (See table)

Civil Penalties for HSR Act Violations Increase to $16,000 Per Day

The FTC also announced an adjustment in the maximum civil penalties it may impose for violations of the HSR Act, from the $11,000 per day of violation currently in effect to $16,000 per day from February 9, 2009, onward. Civil penalties under the HSR Act were last adjusted in 1996. Because penalties are calculated “per day” of violation, they can add up quickly. A delay in filing of just two months could now result in a $1.0 million fine.

Enforcement: Failure to File in Follow-On Investments

Last month two related investment companies, ESL Partners L.P. and ZAM Holdings L.P., agreed to pay a combined penalty of $800,000 to settle charges that they had increased their stakes in AutoZone, Inc., without first complying with HSR filing obligations. The action should remind companies of the need to report follow-on investments at times and to focus on the size of all holdings in a firm, not just the size of any single additional investment, in determining reportability.

Both ESL Partners and ZAM Holdings held (directly or indirectly) voting securities of AutoZone, Inc., in September and October 2004, when the acquisitions giving rise to these enforcement actions took place. ESL made a filing in 1999 in connection with an earlier acquisition of AutoZone shares, but by the time it made its 2004 investments more than five years had elapsed since the 1999 waiting period had expired, so the 1999 filing no longer covered subsequent acquisitions. ZAM had acquired an interest in AutoZone through the acquisition of interests in another partnership (not reportable at the time), and the subsequent dissolution of that partnership and distribution of the partnership’s AutoZone holdings to a controlled affiliate of ZAM (also not a HSR reporting event), and so had never before made any filing with respect to its (indirect) AutoZone holdings.

We stressed above that the “size of transaction” test includes not only the value of the securities to be acquired in a particular transaction (as determined by the HSR rules governing valuation) but also the present value of the acquiror’s existing holdings of the target’s securities. As of September 1, 2004, ESL and ZAM already held AutoZone voting securities valued at approximately $775 million and $270 million, respectively. ESL made additional purchases of AutoZone stock four times between September 28 and October 14, 2004, and ZAM’s affiliate made two additional purchases on October 12 and 14, 2004. All of these purchases were made without first complying with the HSR Act notification requirements.

In January 2005, the FTC contacted ESL and ZAM to inquire about the AutoZone purchases. The complaint filed in this matter does not assert that the parties were relying on the “passive investor” exemption, but it discusses in some detail why that exemption was not available to ESL and ZAM. First, an investment manager for both ESL and ZAM served on the AutoZone board of directors. Such service undermines any claim that the investment is “solely for purpose of investment” (as required by the exemption) because the ESL and ZAM representative participated directly in the formulation and direction of AutoZone’s basic business decisions. Second, in the case of ESL, the investment resulted in ESL holding more than 10 percent of AutoZone’s voting securities, and the passive investor exemption is only available for holdings of 10 percent or less of an issuer’s securities. In any event, both investment firms responded to the FTC’s inquiry by promptly filing notification with respect to the acquisitions they had made the previous September and October.

The FTC determined that ESL was in continuous violation of the HSR Act beginning on September 28, 2004, when it made its first follow-on purchase, and ending on February 28, 2005, when its HSR waiting period expired, and it determined that ZAM was in continuous violation from October 12, 2004, (the date of its first follow-on purchase) through the March 2, 2005, expiration of its HSR waiting period. HSR violations are subject to civil penalties of up to $11,000 per day (soon to be $16,000 per day), but the parties were assessed well short of the maximum. Still, their civil penalties ($525,000 in the case of ESL and $275,000 for ZAM) make it unlikely that either party will forget to check with HSR counsel on future investments. The story of ESL and ZAM contains a few useful lessons for investors, acquirors and their counsel:

  • an HSR filing will not cover subsequent acquisitions that occur more than five years after the waiting period has expired;
  • follow-on acquisitions of voting securities will be aggregated with earlier acquisitions from the same target (whether or not the earlier acquisitions were exempt); and
  • the “passive investor” exemption is narrowly construed and should not be relied upon without consultation with HSR counsel.

Investors who take nonvoting convertible securities (or convertible debt) along with their initial acquisition of voting securities should pay close attention to the filing thresholds and filing requirements as they approach their decision to convert, as conversion to voting status will be deemed a follow-on acquisition of voting securities. Those who hold voting securities of an issuer and are considering making one or more follow-on investments may want to seek the advice of HSR counsel to help determine the value of the securities that will be held “as a result of the transaction.”