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A wake up call from Luxembourg?

Four years after the European Commission (“EC”) thwarted Hutchison’s attempt to consolidate the UK mobile telecoms market through its planned acquisition of O2, the General Court yesterday dealt a crushing blow to the European Commission’s prohibition decision, and with it, the General Court rewrote the rule book on how mergers will be generally reviewed in the future. The decision will have far-reaching implications for merger assessment far beyond the telecoms sector.

 

Gap cases and beyond

Since the overhaul of the EC’s merger control rules 16 years ago, and the introduction of the Significant Impediment of Effective Competition (“SIEC”) test, the EC has raised objections in a number of transactions in concentrated markets—often 4-to-3 mobile telecoms mergers—without finding that the combined entity would become dominant. This move was motivated by the desire to catch non-coordinated effects in horizontal mergers in so-called “gap cases” below the dominance threshold.

To establish that non-coordinated effects arising from a concentration may result in an SIEC, two cumulative conditions must be satisfied. The transaction must result in:

  • The elimination of important competitive constraints that the parties had exerted upon each other
  • A reduction of competitive pressure on the remaining competitors

However, the introduction of the SIEC test was not intended to lower the EC’s intervention threshold in general. Consequently, the EC’s ever-broadening application of the SIEC test in oligopolistic markets has been widely criticised by scholars and practitioners alike. The main objections included: (i) the finding that all players are necessarily “close and important” competitors, especially in oligopolistic markets featuring homogeneous products, and (ii) the lack of limiting principles for finding a “significant” impediment. While the standards to show an SIEC were becoming increasingly opaque, the EC set a virtually insurmountable burden of proof to show efficiencies that would offset the alleged anti-competitive harm.

Yesterday’s judgment considers each of these points.

In its 2016 decision, the EC had based its prohibition on three theories of harm without finding that the combined entity would become dominant on any market in the UK. In particular, the EC found that the transaction would:

  • Result in the elimination of important competitive constraints on the mobile retail market
  • Have a negative effect on the quality of services for consumers by hindering the development of mobile network infrastructure
  • Negatively affect competition on the wholesale mobile market and therefore the ability of so-called Mobile Virtual Network Operators (“MVNOs”) to compete

In its first ever substantive judgment on such non-coordinated effects, the General Court struck down the EC’s findings on all counts. The judgment provides a detailed roadmap for merging parties in oligopolistic markets going forward.

 

Standard of proof

According to the General Court, the EC must demonstrate a “strong probability” of harmful non-coordinated effects. In particular, the General Court finds that the necessary standard of proof is stricter than the EC’s “more likely than not” on the basis of a “balance of probabilities.” In particular, the General Court held that “the more a theory of harm advanced in support of a significant impediment to effective competition put forward with regard to a concentration is complex or uncertain, or stems from a cause-and-effect relationship which is difficult to establish, the more demanding the Courts of the European Union must be as regards the specific examination of the evidence submitted by the Commission in this respect.

The General Court further made clear that “theories of harm must appear sufficiently realistic and plausible, and cannot therefore solely be conceivable from a theoretical point of view, in the light of an analysis of all the relevant factors.”

The General Court found that the EC’s theories of harm did not meet this standard of proof.

 

No elimination of an important competitive force

The General Court found that the EC had not established to the requisite standard that Three (Hutchison’s UK brand) was an important competitive force. In particular, according to the General Court, the EC had confused the concepts of “significant impediment to effective competition” (Article 2(3) of the EU Merger Regulation), ”elimination of an important competitive constraint” (recital 25 of the EU Merger Regulation), and “elimination of an important competitive force” (paragraph 37 of the EC’s Horizontal Merger Guidelines) by finding that “the mere decline in the competitive pressure which would result, in particular, from the loss of an undertaking having more of an influence on competition than its market share would suggest is sufficient, in itself, to prove a significant impediment to effective competition.” Such an “additional and alternative” concept would, according to the General Court, considerably broaden the scope for the EC to intervene, given that “any elimination of an important competitive force would amount to the elimination of an important competitive constraint which, in turn, would justify a finding of a significant impediment to effective competition.”

In addition to erroneous application of the legal framework of an important competitive force, the General Court also considered the criteria applied by the EC insufficient to establish that Three was an important competitive force:

  • The increase in the gross add share in light of its market shares, the increase in the number of its subscribers, the aggressive pricing policy which it may have pursued, or the disruptive role it may have historically played on the market as such were considered insufficient to meet the requisite standard.
  • Even though all players on a market characterized by a low degree of product differentiation (like mobile telephony) could be regarded as relatively close competitors, this general closeness as such was not sufficient to establish the elimination of important competitive constraints.

 

Effects must be “significant” and economic analysis predicting price increases post-merger take into account efficiencies

Further, the General Court found that the EC had failed to prove that the effects of the transaction would be “significant” or would result in a “significant” impediment to effective competition.

The General Court found that while upward pricing pressure tests “may be useful for screening purposes,” to be of probative value, any quantitative analysis must demonstrate with a sufficient degree of probability that prices would rise “significantly” following the elimination of the important competitive constraints. While more elaborate than a simple upward pricing pressure test, the General Court dismissed the EC’s analysis as insufficient to prove the significance of the expected price increase.

Importantly, the General Court also found that the EC must take into account the standard efficiencies the transaction could bring about in its effects analysis. According to the General Court, the Commission “confuses two types of efficiencies,” to the detriment of the merging parties.

In particular, the General Court held that “any concentration will lead to efficiencies” and that such standard efficiencies (typically arising from rationalization and integration of production and distribution processes) are “a component of a quantitative model designed to establish whether a concentration is capable of producing such restrictive effects.” Thus, the EC must consider such efficiencies in its own assessment and it is not for the parties to prove them.

This is an important development, given that the EC has traditionally relied on efficiencies being a defense for which the parties bear the full burden of proof and, accordingly, has typically dismissed the efficiencies claimed by the parties to a transaction as not proven. Under the General Court’s approach, it is to be assumed that horizontal merger brings about some efficiencies, and the EC must take such efficiencies into account in its own quantitative analysis when establishing an SIEC.

 

Novel theories of harm are not less likely to be true—but need to be proven

Regarding the EC’s finding that through the parties’ participation in both UK networks (each shared with one of the remaining competitors) the competitive position of the respective network partners would be weakened (and their competitive pressure reduced), the General Court found that such a theory is not less likely just because it is novel.

However, the General Court found that the EC had not established to the requisite standard of proof that the network partners’ ability to compete or incentive to invest in the network would depend decisively on the merged entity’s behavior. Instead, the General Court found that such decisions would depend on the level of competition, as well as the network partner’s financial resources and strategies. Any misalignment of interests, or even the termination of a network sharing agreement, is not enough as such to establish an SIEC, according to the General Court.

In particular, the General Court stressed that the competition rules are primarily intended to protect the competitive process as such—and not competitors.

 

No definitive threshold for the number of competitors or degree of concentration

Regarding the wholesale market, the General Court found that a reduction of competitors from four to three is not enough, as such, to establish an SIEC. Perhaps most fundamentally, the General Court went on to find there is also no presumption of competition concerns if there is a high degree of concentration.

To the contrary, the General Court found that where a party’s share is low, neither being a credible competitor, nor having an influence on competition, nor having a strengthened position on the market is sufficient as such to conclude that the party is an important competitive force or that its removal would result in an SIEC.

 

Outlook

Yesterday’s judgment is such a setback that the EC will perhaps be regretting not having accepted the remedies that were on the table at the time and will very likely lodge an appeal, although at the time of writing no decision has yet been taken. The General Court did not find that there were no problems with the merger (so future market consolidators should keep their feet on the ground), but rather, that the EC did not prove its case. Many practitioners and scholars had the impression the EC applied a presumption that mergers in oligopolistic markets, especially 4-to-3 telecoms mergers, were anticompetitive and that efficiencies could not offset any such harm (which led the Commissioner herself to counter that there was no “magic number”—a statement confirmed by her approval of the Dutch telecoms merger). The Court unequivocally dismissed both presumptions. The judgment is a welcome reminder that the Commission must conduct a detailed, evidence-based assessment and cannot rely on theories of harm in the abstract, and the more complex its theory of harm, the more persuasive the EC’s case must be. While the judgment may well be a pyrrhic victory for Hutchison, the longer-term implications are relevant to all cases.

 

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