Earlier this year, the European Commission, the principal enforcer of the EU competition rules, fined a well-known investment company amongst 18 other companies for participation in a market and customer sharing cartel in high voltage power cables a total of Euros 302 million (Commission reference IP/14/358). The news sent shockwaves through the investment community and the investment company concerned had to meet a fine of over Euros 30 million.
The importance of this decision is that it confirms that investment companies, can be held liable for the cartel activity of their portfolio companies, even though the investment firm in question played no part in the wrongdoing and had since sold its interest in the company in question.
High voltage power cartel
The Commission considered that the investment company wielded a decisive influence in an Italian cable manufacturer which participated in the high voltage power cartel. The investment company was therefore held liable for its actions under the established EU principle of parent company liability. This finding of liability follows the Akzo Nobel case of 2009 which helped confirm the principle that parent companies can be held liable for the competition infringements of their subsidiaries.
The investment company is currently appealing against liability and the level of the fine before the General Court of the European Court of Justice. In its appeal the company argues that it held a different amount of influence over its subsidiary company and much less than a normal owner of a company. Accordingly it should not be held liable for its subsidiaries breach. In the present case the investment company had owned all the shares in the subsidiary company for only six weeks before reducing its stake over time until it sold out entirely. The judgment in the appeal is awaited. If the appeal is successful it could distinguish this case on its facts or it could place certain limits on investment company’s liability when stakes are held for a limited short duration. However, the General Court will be aware that it would create a dangerous precedent to allow parent companies to wriggle out of liability for the acts or omissions of their subsidiaries even though the stake was held for a limited duration. Therefore it is likely that the unfettered EU principle of parent company liability is likely to be upheld and this will have far reaching consequences for the investment community.
When does liability arise?
Whilst it may seem unfair to hold private equity firms liable when they have little or no oversight of the day to day affairs of their portfolio companies, the law and regulatory response is becoming increasingly clear in this area following the Commission’s Decision in the high voltage power cartel and in the Akzo Nobel case. The rules on parent company liability exist to encourage competition law compliance right up the chain of ownership and to reach the deep pockets of parent and holding companies.
The principal danger to parent companies and private equity firms is that they will be held liable for the actions of their subsidiary or portfolio companies when it can be shown that they held a ‘decisive influence’ over the affairs of the portfolio company. What constitutes ‘decisive influence’ is not a hands-on approach to the day to day running of the company. It instead arises from a rebuttable presumption that because the private equity firm owns the majority (or vast majority) of the shares in the offending company and therefore has a decisive influence over the economic policy and conduct of the subsidiary or portfolio company concerned. When such situation exists, parent companies and private equity firms will be considered to have an influence over the conduct of the company’s business and will be liable for the subsidiary or portfolio company’s competition law breaches.
Due to this rather strict threshold, private equity firms need to be proactive in combatting the threat of non-compliance by portfolio companies, before they have even purchased them. They should:-
- Competition/antitrust due diligence:- Conduct detailed competition/antitrust due diligence before the purchase of portfolio companies. The seller’s warranties as to regulatory compliance may expire years before any wrongdoing is found or a fine is levied, leaving the private equity buyer without redress. Covenants could even be written into the purchase agreements that protect or indemnify the buyer after completion, though of course it is a point of negotiation and industry practice as to whether the seller would accept such ongoing liabilities after they sell the assets and business.
- Investor indemnification:- Private equity firms should continue, as far as possible, to ensure their investors indemnify them for any breach of competition laws. However, in light of recent developments, the investors may be less willing to give such indemnities unless the investment firm can prove they carried out the necessary compliance due diligence, as mentioned above.
- Can specialist insurance adequately reduce liability:- Firms could consider taking out specialist insurance and/or directors’ and officers’ liability insurance to cover competition law risks. It is not clear how effective such a strategy is. This is undoubtedly a growth area for insurance underwriters with many now turning their attention to competition liability after rolling out comprehensive policy offerings for corporate cybersecurity and data breach. However these specialist competition policies can only cover civil as opposed to criminal liability and will be no doubt be subject to detailed liability caps or policy exclusions. In addition, a lack of requisite due diligence upon acquisition or the absence of an active on going competition compliance culture in portfolio companies could bump up premiums significantly or render such policies unavailable. These insurance policies if available can therefore be no more than a comfort rather than a panacea. Effective competition compliance still remains the best protection.
- On-going compliance post acquisition:- Going forward after purchase, now that their liability for breach is clear, private equity firms should ensure their portfolio companies have an ongoing compliance culture and programme from board level down with an executive in charge of compliance to focus minds and apportion responsibility. What can be particularly effective is on-going training for those members of sales staff and management who deal with sensitive competition law areas such as setting prices and dealings with competitors.
- More haste, less speed:- A change of culture on purchase from the buyers and their lawyers could be the most useful tool of all. When a deal is close, a culture of getting the deal through often affects the judgement of both seller and buyer alike but it culture also impacts their advisers who feel that they cannot highlight compliance risks too fiercely in case they scupper the deal and lose the future business of their clients. Private equity and other investment firms should encourage their legal and financial advisers to bring risks to their attention proactively, even if this entails further money being spent at the due diligence stage. The size of regulatory fines levied will always outweigh any cost saving in corners cut during the acquisition.