Private equity often collaborate with one another when bidding for an acquisition target by means such as the formation of consortiums or “clubs” to jointly bid for the target and various forms of cooperation surrounding these clubs. Any form of collaboration among competitors is bound to raise antitrust questions. With the advice of antitrust counsel, private equity firms can structure their collaboration in ways that minimize the possibility of a serious challenge. A recent decision by a federal court in Boston, however, demonstrates how easily even well-advised firms can stumble and end up facing a substantial claim of an antitrust violation.
Dahl v. Bain Capital Partners, LLC, No. 07-12388-EFH (D. Mass. Mar. 13, 2013), is a class action charging ten prominent private equity firms with conspiring among themselves to suppress competition in bidding for 28 target companies acquired in leveraged buyouts and other transactions. The claims in Dahl were based on Section 1 of the Sherman Antitrust Act, 15 U.S.C. § 1, which prohibits, among other conduct, agreements among competitors to fix prices, rig bids, allocate customers or otherwise suppress competition among themselves. An agreement among private equity firms not to compete with one another when bidding for target companies would be a clear violation of Section 1, but the plaintiffs had no direct evidence of any such agreement. They attempted to infer an agreement not to compete from the various collaborative practices that the bidding firms employed.
That inference was tested on a motion for summary judgment. In ruling on that motion, the court found that most of the collaborative practices were insufficient to support an inference of a conspiracy to suppress competition. The court nonetheless allowed a substantial portion of the claims to proceed, because of some carelessly written emails.
Collaborative practices found legal
Under decisions of the United States Supreme Court, an anticompetitive agreement cannot be inferred from conduct that is ambiguous, meaning that the conduct is just as consistent with the defendants acting independently as it is with their acting under an agreement with one another. To infer an anticompetitive agreement, the courts require evidence that tends to exclude the possibility of independent action.
Based upon these legal principles, the court in Dahl found that the following collaborative practices were insufficient to support an agreement to suppress competition:
- Bidding clubs. Every transaction at issue in Dahl involved a joint bid submitted on behalf of a consortium or “club” of private equity firms that came together specifically to submit the joint bid. According to plaintiffs, clubs were a mechanism for eliminating competitive bidding. The court found that an individual private equity firm had an independent motive to join a club, specifically to minimize the cost and risks of a transaction, to share expertise and to be able to compete for larger transactions than the firm could do on its own. For these reasons, the court refused to infer an anticompetitive agreement from the formation of bidding clubs, even though plaintiffs presented evidence that one of the motivations for forming a club was to forestall potential rival bidders by inviting them to joint the club.
- Invitation to losing bidders. Clubs that won the bidding for a target firm frequently would invite losing bidders to join their club. This practice, according to plaintiffs, dampened the incentive to bid aggressively, because rival bidders could expect an opportunity to participate in the transaction even if they lost. The court rejected this argument, finding that some of the same independent reasons for forming a club also could explain invitations to the losers: lowering costs and risks and sharing expertise.
- Quid pro quos. Plaintiffs offered evidence of defendants exchanging opportunities to participate in clubs for each other’s deals. Firms frequently expressing a view that other firms owed them an opportunity in return for prior invitations. Plaintiffs contended that this practice enabled the firms to enforce compliance with their anticompetitive agreement, by denying the opportunity to participate in deals to firms that competed too aggressively. The court found that the examples of quid pro quos generally could be explained by existing working relationships and personal acquaintances and did not suggest an overall anticompetitive arrangement.
- Refusals to jump a proprietary deal. In a “proprietary deal,” the target firm does not invite an auction for bids. Instead it negotiates a transaction with one private equity firm, or one club, and then provides other firms with an opportunity to beat the negotiated terms, to “jump” the deal in the industry parlance. Plaintiffs offered evidence that private equity firms frequently declined the opportunity to jump proprietary deals, often with little analysis of the deal. The found that private equity firms had independent reasons to refuse to jump a rival’s proprietary deal, such as a concern that protective terms in the original deal, like breakup fees and the opportunity for the original firms to match any rival bid would make the rival bid too costly. The court also reasoned that a firm could independently decide not to jump a rival’s deal to avoid retaliation from the rival.
So evidence of extensive collaboration among private equity firms in their bidding practices was not enough to allow an inference that those firms had agreed among themselves to reduce competition. The court then considered additional evidence in the form of a few emails of executives of the defendant firms. In one of these emails, an executive wrote that a rival firm “has agreed not to jump our deal because no one in private equity ever jumps an announced deal.” In another, written after a rival had withdrawn a bid that would have jumped a proprietary deal, an executive wrote, “club etiquette prevails.”
The court found that these few, brief emails could show that the defendants were acting by agreement, and not independently, when they refrained from jumping proprietary deals. With regard to that particular collaborative practice, the court allowed the plaintiffs to proceed with their case.
The complaint in Dahl included a count focused on one proprietary deal: the 2006 leveraged buyout of Hospital Corporation of America (HCA) by a club led by Kohlberg Kravis Roberts & Co. (KKR.) After the announcement of the transaction, other firms received an opportunity offer better terms. Several firms had previously showed an interest in the transaction, but with 48 hours every one announced its decision not to bid. This abrupt and uniform refusal to compete was not, by itself, sufficient for the court to allow the inference of an agreement not to compete. As noted with the first count, a firm has independent reasons to decide not to jump a propriety deal.
Once again, careless words in a few emails tipped the balance towards a valid antitrust claim. In one of these emails, an executive at one of the firms that decided not to jump the deal wrote” “And just think, KKR asked the industry to step down on HCA.” Another, written after an earlier transaction which KKR had declined to jump, reads: “Henry Kravis [of KKR] just called to say congratulations and that they were standing down because he told me before they would not jump a signed deal of ours.” This email, according the court, suggests that the firm’s decision not to compete for HCA was made in exchange for KKR’s restraint on the prior deal.
The court’s ruling does not mean that the defendants will be found liable. The plaintiffs still must prove their case to a jury. The Defendants, however, do face a serious risk in a jury trial, and at a minimum will incur substantial costs in defending themselves in that trial.
These consequences follow not from anticompetitive conduct. The court found that none of the defendants’ conduct was enough to subject them to a trial on antitrust claims, even though this conduct involved an extensive degree of cooperation and collaboration among competitors. The critical pieces of evidence in Dahl were the emails, which cast their conduct in a different light, allowing otherwise independent conduct to be cast as the product of an illegal agreement.
The lesson for private equity firms is that their practices of collaborating with competitors on bidding, although usually legal, is close to the line of potential illegality. Small things, like carelessly written emails, can have major consequences. An antitrust compliance program, carefully developed and vigorously enforced, is essential for firms employing these practices.