Article prepared by and republished courtesy of our colleagues Steven Levitsky and Paolo Morante; originally published here:

“Less is more” may be true in architecture, but in merger clearance law, “less” is still enough to trigger antitrust investigations and litigation and rescission of the whole transaction. By “less,” we mean less than the Hart-Scott-Rodino $75.9 million threshold.

The big case currently in the news underscoring this point is FTC v. St. Luke’s Health System. In January 2014, the Federal Trade Commission obtained a decision from the US District Court for Idaho ordering full divestiture of a non-reportable deal more than two years after the merger had been consummated.

But that result is actually old news. Contrary to popular opinion, the antitrust agencies have a long history of challenging deals well below the Hart-Scott-Rodino thresholds, even when the deals have already closed. And with the St. Luke’s case, they are warning again that no anti-competitive deal is immune from challenge, even if it is small.

What issues should you keep in mind to prevent a future disastrous challenge from the regulators? In this post, we briefly discuss the highlights of St. Luke’s and then close with 10 important points to keep in mind in upcoming M&A transactions.

The St. Luke’s case

St. Luke’s involved a not-for-profit health system buying a physician group in a small town in Idaho. The transaction price was only $28 million, so no HSR filing was made. According to Judge B. Lynn Winmill of the federal district court in Idaho, the evidence at trial showed that the deal produced an 80 percent market share, no prospect of new entry and a post-transaction Herfindahl-Hirschman Index (HHI) over 6,200 (the agencies consider a market with an HHI of 2,500 or above to be highly concentrated).

That alone could normally be enough to condemn the transaction, but the court found other damaging facts, including internal documents that contained what were, at the very least, ambiguous justifications for the deal, like “Price Increase ($ unknown)” and “Pressure Payors for new/direct agreements.” Among other things, St. Luke’s also projected increasing revenues by escalating “office” charges to “hospital” rates. For example, the price of routine services such as x-rays or lab tests would become more expensive when billed as “hospital rates,” even when the tests were done in their original locations. This particular increase was enough, according to internal documents, to fund a 30 percent pay increase for physicians. Plus, the documents frequently used words like “clout,” leverage” and “dominance.” It is, of course, possible that these statements were taken out of context, and it also seems likely that the merger parties did not document their intentions properly. In the end, however, the existence of those statements in the parties’ internal documents was enough to sway the court to order the merger undone.

The FTC, the State of Idaho and a competing medical group all sued, claiming the $28 million deal was anti-competitive. They lost a bid for a preliminary injunction but won a decisive victory at trial. The court credited the merging parties with a sincere desire to improve the quality of health care, but it also decided that many of those improvements could have been obtained by means other than a merger. It ordered full divestiture.

St. Luke’s is appealing to the Ninth Circuit. In the meantime, the State of Idaho and the private plaintiff (a competitor) announced they want close to $10 million in legal fees from St. Luke’s.

Challenging small transactions is an long-established Agency pattern

As disastrous as the St. Luke’s case was for the merging parties, it was absolutely predictable. The antitrust agencies have been warning for years that they will challenge anti-competitive mergers wherever they find them, including in the zone far below HSR transaction thresholds (now $75.9 million). We are not talking about deals that just skirt the HSR filing thresholds. To the contrary, we mean deals in the single digit millions. Some highlights in a range of industries:

  • In 1995, the antitrust agencies challenged a non-reportable merger where the value of the violating assets was less than $5 million (laminated tube-making)
  • In 2009, they challenged a non-reportable merger where the deal price was less than $5 million (voting machine manufacturers)
  • In 2011, they challenged a non-reportable merger where the deal price was $3.1 million (chicken processing complex)
  • In 2013, they challenged five non-reportable deals, including a $5.5 million acquisition (bleach used in municipal waste systems).

As a DOJ Antitrust Division official recently announced, from 2009 to 2013, the Division initiated 73 preliminary inquiries into deals that were not reportable under the HSR. This made up about 20 percent of the Division’s merger investigations during that time, and more than one-fourth of those investigations resulted in a challenge to the deal. Similar statistics also show the FTC’s willingness to unscramble even the smallest deal. The rate at which the agencies investigate non-reportable deals is growing, and the overall costs to losing merger parties can be significant because of the severity of the remedies imposed.

The top ten tips of non-reportable transactions

Given the very real risk of an antitrust challenge to any deal with competition problems, here are 10 points to consider when facing a non-reportable transaction:

  1. Get some basic antitrust advice before the deal starts moving. The cost is minimal. The savings could be substantial.
  2. Non-reportable does not necessarily mean unnoticed. The antitrust agencies have many sources that point them to questionable deals (including competitors, customers, suppliers, journalists, state law enforcers and even disgruntled employees). The news will get out.
  3. There is no statute of limitations on unchallenged mergers. Even if the news does not get out right away, don’t hold your breath. The agencies have challenged mergers years after closing, once the anticompetitive effects became arguably clear. If the merger triggered the anticompetitive effects, it can be challenged and undone retroactively.
  4. Analyze the business reasons for the deal. Express them with care. Candidly expressed motives, perhaps laden with emotion and preserved in writing ˗ like statements that the deal will improve the ability to reduce output, “rationalize” prices, eliminate a “crazy maverick who’s disrupting the industry” or cut off a “vicious” competitor’s supply ˗ are trouble waiting to happen. These kinds of motives are likely to attract antitrust scrutiny.
  5. Assume that all internal documents analyzing the deal will have to be turned over to the antitrust agencies in an investigation. Puffing up the deal or the parties’ competitive significance may be good salesmanship, but risks undoing a transaction in the long run. When ordinary-course documents predict a merger’s anticompetitive effects, the government and the courts are likely to believe them. Similarly, ambiguous statements can be misinterpreted and lead to unwanted consequences. The same goes for documents prepared for the parties by outside consultants. Seek counsel’s advice on how to draft documents about the deal objectively, accurately and clearly.
  6. Quickly consummating a deal will not necessarily put you in a safer position. The antitrust agencies are quite comfortable demanding rescission, even when it is impossible to restore the status quo. The cost and burden of “unscrambling the eggs” falls on the merger parties, not the government. As the St. Luke’s case shows, courts are willing to undo a deal even years later.
  7. A deal is not immune because it might promote some greater “public policy.” The St. Luke’s merger partners believed they were carrying out the mandate of the Affordable Care Act and promoting better health care. The judge believed they were sincere. But that didn’t stop the court from ordering a complete unwinding of the deal.
  8. Document merger-specific efficiencies. The pro-competitive aims of the parties in St. Luke’s did them no good because the court found that the same benefits could be achieved through means other than the merger. If a difficult merger is the only way to bring about unique pro-competitive benefits, make sure contemporaneous internal documents reflect that.
  9. Anticipate potential remedies. In the event of an antitrust challenge, is there a limited set of measures (such as a partial divestiture or a licensing commitment) that would solve the anticompetitive problems while also preserving most of the benefits of the merger for the parties? Work with counsel to identify those potential measures and maintain the ability to deploy them if necessary.
  10. Consider pro-actively approaching the government agencies for their opinion about the deal before it is closed. There are business review procedures at the DOJ, FTC and the state AGs that can be used for that purpose. Get ahead of the problem before you become the problem in the eyes of the government.

Remember, you can’t buy insurance on the way to the hospital. All these points should be considered and followed from the very start of the deal. If mistakes occur in the beginning, they remain a part of the record, and the antitrust agencies may well find and rely on them.