The U.S. Department of Justice has announced the settlement of an enforcement action challenging illegal "gun jumping," which is the coordination of the business activities of companies that are planning a merger but where the government has not completed its pre-closing review of the transaction. The parties to the proposed transaction, Flakeboard America Ltd. and SierraPine, agreed to a $5 million settlement to resolve DOJ’s concerns that they engaged in illegal premerger coordination prior to the expiration of the Hart-Scott-Rodino (HSR) waiting period.
This settlement highlights the serious liability the government may impose when merging parties do not adhere to HSR commitments. It includes the relatively rare requirement of disgorgement as part of the mandated remedies. The settlement filings provide helpful guidance on business covenants, recognizing that contractually required disposal of assets before a transaction closes are permissible so long as the disposal occurs after the waiting periods required by antitrust law.
Proposed Flakeboard/SierraPine Transaction
Flakeboard announced in January 2014 that it planned to acquire from SierraPine two particleboard mills, one of which was in Springfield, Oregon, and one medium-density fiberboard (MDF) mill. Flakeboard also supplied both MDF and particleboard, also from mills in Oregon, directly competing with SierraPine’s mills. Both particleboard and MDF products are used to make furniture and fixtures.
During the transaction negotiations, Flakeboard insisted that SierraPine agree to close its Springfield mill. SierraPine agreed and under the asset purchase agreement (APA) was required to close the Springfield mill five days before the transaction closed. The APA also stated that SierraPine could not be forced to close the mill before it was permissible under the antitrust laws.
Shortly after the transaction was announced, a labor dispute arose at the Springfield mill. Flakeboard and SierraPine engaged in various discussions that ultimately resulted in a joint decision to close the mill before the expiration of the HSR waiting period. SierraPine complied and closed the mill on March 13, 2014, before the DOJ’s investigation was complete and before the HSR waiting period had terminated. Flakeboard also coordinated with SierraPine to transfer Springfield’s customers to Flakeboard.
In October 2014, the parties announced that they were abandoning the transaction due to DOJ concerns about the transaction’s potential for anticompetitive effects in MDF in the western U.S.
On November 7, 2014, the DOJ filed a complaint in federal district court alleging that Flakeboard and SierraPine unlawfully coordinated to close SierraPine’s Springfield mill and move its customers to Flakeboard, in violation of both the HSR Act and Section 1 of the Sherman Act. The DOJ complaint cited numerous party documents, such as internal emails among executives, to show that Flakeboard unlawfully directed SierraPine to close the Springfield mill before the expiration of the HSR waiting period and motivated SierraPine employees to direct SierraPine’s customers to Flakeboard.
Under the HSR Act, an acquiring party to a transaction meeting certain thresholds cannot assume "beneficial ownership" or obtain operational control until the expiration of mandatory waiting periods. This prohibition effectively freezes the competitive status quo while the government investigates the competitive implications of the transaction. Although the parties can carry out due diligence and plan for integration, they may not present themselves as a single entity or take any steps to integrate operations. This limitation is procedural; a violation does not require there be any effect on competition.
Additionally, until the transaction officially closes, merging firms are not exempt from Section 1 of the Sherman Act, which prohibits competitor agreements that restrain trade. This means that until closing firms still can violate Section 1 if they coordinate pricing and purchasing or allocate customers or geographic markets. In some circumstances, Section 1 violations can result in jail time for coordinating parties, extensive fines, and potential treble damages.
Both the FTC and DOJ aggressively pursue gun jumping violations. During an extended antitrust review, the agency will be able to collect a broad range of company documents, giving the agency a chance to review exchanges of information and coordination. It is therefore important for merging parties to strictly comply with gun jumping rules prior to final approval and closure of a transaction.
In the Flakeboard case, the DOJ’s filings that accompany the complaint provide some important guidance on business covenants and information exchanges made as part of transaction planning.
The DOJ acknowledged the practice of agreeing to business covenants that might require the divestiture of assets as a pre-closing condition. In this case, it was permissible for Flakeboard to require SierraPine to sell its Springfield mill under the APA five days before closing and after regulatory review was complete. The problem arose when the firms expedited the closure of the mill and the transfer of customers prior to the expiration of the HSR waiting period. The settlement agreement reflects these principles and permits SierraPine and Flakeboard to enter agreements that require a party to a transaction to preserve "the value of to-be-acquired assets." Further, the agreement permits the parties to (1) "continue operating in the ordinary course of business," (2) engage in "reasonable and customary due-diligence," (3) disclose confidential business information during litigation or settlement discussions, and (4) enter an agreement where they are in a buyer/seller relationship with each other and the agreement would be lawful in absence of a planned acquisition.
In a press release accompanying the complaint, the DOJ announced that Flakeboard and SierraPine agreed to settle the charges by paying a combined $3.8 million civil penalty for violating the HSR Act and $1.15 million in disgorgement of illegally-obtained profits for violating the Sherman Act. Both parties were prohibited, under the agreement, from closing production facilities, entering agreements that fixed prices or allocated customers, and disclosing information about customers, prices, or output. The settlement also required that each firm select an antitrust compliance officer to monitor compliance with the terms of the settlement.
The DOJ’s consent agreement emphasizes the importance of understanding and carefully following gun jumping principles. Casual adherence or outright failure to comply can lead to substantial delays in merger review and substantial fines. It is therefore important to work closely with antitrust counsel in transactions that raise significant information exchange or other gun jumping issues. In the Flakeboard action, the civil penalties imposed under the HSR Act are relatively standard, but the disgorgement remedies for the Sherman Act are novel and reflect a concern that has been highlighted by DOJ leadership in recent speeches. The DOJ previously has obtained disgorgement only in one other case. The fact that it was pursued here suggests that the DOJ is raising the stakes for gun jumping violations. The consent also requires antitrust compliance officers to ensure compliance with the decree, another remedy that is being obliged with increasing frequency.
The DOJ press release can be found on its website.