In a situation where the Department of Justice found no reason to challenge a merger on substantive antitrust grounds, the buyer was forced to pay a $1.8 million penalty because it had contractually given itself the right to approve basic, day-to-day business dealings of the seller during the merger waiting period.

The Hart-Scott-Rodino Antitrust Improvements (HSR) Act of 1976 was enacted to provide the U.S. antitrust enforcement agencies with an opportunity to review large transactions before they close and to determine whether the deals raise any antitrust questions. The goal was to enable the agencies to challenge transactions before they close, and not afterwards when it may be difficult to remedy any anticompetitive effects of the deals. Therefore, under the HSR, so long as a transaction is large enough to be notified to the agencies, it may not close until the HSR notifications have been filed and the HSR waiting period has ended. This requirement must be satisfied whether or not a transaction is likely to have any anticompetitive impact or create a monopoly. Failure to comply exposes violators to a civil penalty of up to $11,000 a day for the duration of the violation.

On April 13, 2006, the Department of Justice announced a settlement imposing a $1.8 million civil penalty against QUALCOMM Incorporated and Flarion Technologies, Inc., for violating the HSR Act by "effectively closing" QUALCOMM’s acquisition of Flarion before the expiration of the HSR waiting period. The Department did not challenge the acquisition itself. However, the Department alleged that the parties violated the HSR Act from July 25, 2005, when they executed a Merger Agreement, to December 23, 2005, when the HSR waiting period ended, because they acted in ways that gave QUALCOMM beneficial control of Flarion during that period. At $11,000 per day for each party, the total potential civil penalty exceeded $3.3 million. Instead, the Department explained that it accepted a $1.8 million penalty because the parties "voluntarily reported the existence of gun-jumping problems to the Department and took some measures to change their contract and their conduct."

The DOJ alleged that QUALCOMM and Flarion engaged in gun-jumping both in the conduct dictated by their Merger Agreement, and in their conduct beyond that required in the Merger Agreement. For example, the Merger Agreement required Flarion to seek QUALCOMM’s approval prior to:

  • entering into intellectual property licensing agreements with third parties;
  • entering into agreements involving the obligation to pay or receive $75,000 or more in a year or $200,000 in the aggregate except pre-existing purchase orders (the parties later amended this provision to apply only to obligations to pay money and raised the dollar thresholds to $250,000 per year and $1,000,000 in the aggregate);
  • presenting business proposals to customers or prospective customers;
  • entering into any "material" contracts;
  • hiring any employee, except in the ordinary course of business consistent with standard past practice;
  • presenting business proposals to any customer or prospective customer (the parties amended this provision to allow Flarion to present proposals "in the ordinary course of business" consistent with standard past practice);
  • entering into agreements relating to the disposition or acquisition of intellectual property rights, except for "shrinkwrap" software licenses with purchase prices of less than $10,000.

The Merger Agreement permitted Flarion to sell products under existing contracts, and to support the deployment of Flarion technology to a limited extent in specified countries. QUALCOMM insisted on these provisions in the Merger Agreement because it did not intend to sell one of Flarion’s products in its current form, and did not want Flarion to enter into agreements that were inconsistent with QUALCOMM’s plans.

Moreover, beyond the restrictions in the Merger Agreement, the Department alleged that Flarion ceded to QUALCOMM control of much of its day-to-day management and operations. For example:

  • Flarion sought QUALCOMM’s approval to discount products to be sold to a Malaysian customer and QUALCOMM denied the request because the gross margins at issue were unacceptable to QUALCOMM;
  • QUALCOMM discouraged Flarion from pursuing small technology deployments in favor of pursuing large technology deployments;
  • When Flarion sought QUALCOMM’s consent to enter into a contract with an Indian company that would serve as Flarion’s local agent for Flarion’s product deployment, QUALCOMM sought input from its Indian business development team to determine whether Flarion’s proposal fit with QUALCOMM’s plans in India and ultimately sent its own representative to Flarion’s Indian customer to discuss a solution involving QUALCOMM’s technology in place of Flarion’s technology;
  • Flarion sought QUALCOMM’s consent to provide product pricing information to a Brazilian customer, but QUALCOMM permitted Flarion to provide only a portion of the pricing information because it was not QUALCOMM’s practice to provide such information.

Lessons Learned

This case highlights three points:

  1. The requirement that no beneficial ownership transfer occurs during the HSR waiting period regardless of the likely competitive impact of the deal;
  2. There is a major difference between post-acquisition planning during the HSR waiting period, and contractually providing for seller oversight and approval during that period, with the latter being problematic no matter the competitive circumstances; and
  3. When a violation occurs, voluntary remedial measures and disclosure may mitigate the penalty imposed.

Here, the Department did not substantively challenge the acquisition, and the parties received less than 55% of the potential maximum penalty. It is also noteworthy that the Department did not take issue with these provisions once the HSR waiting period had expired, but before the transaction actually closed. Careful antitrust counsel as to permissible pre-closing conduct, particularly during the HSR waiting period, should be sought and followed.

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