Private Equity: a Snapshot of Activity Before the European Commission

Pierre-André Dubois and Arabella Hinton

Kirkland & Ellis International LLP

Over the past few years, private equity transactions on a worldwide basis represented close to 20 per cent of all worldwide merger and acquisitions activity.¹ Against this background, the European Commission has had to examine numerous private equity transactions notified under the EC Merger Regulation (ECMR).²
Between July 2003 and July 2008, 484 merger cases involving private equity firms or their portfolio companies were notified to the Commission under the ECMR, representing close to 30 per cent of all notifications under the ECMR over this period. The table below sets out the outcome of these cases.³

Outcome of private equity merger cases notified July 2003 – July 2008

Number of cases

Unconditional phase I clearance 462
Conditional phase I clearance 7
Conditional phase II clearance 1
Case referred to member state 6
Case aborted or withdrawn 7
Case awaiting a decision 1

The vast majority of the cases resulted in an unconditional clearance during phase I and only a few cases ended up in phase II proceedings. This is not to say, however, that private equity transactions are simple from a merger control perspective. While numerous cases will qualify for examination under the simplified procedure because of the absence of substantial overlaps between the activities of the existing portfolio of a private equity fund and those of the target, the Commission has adopted in the recent past a much more rigorous approach in the review of private equity transactions. In particular, the Commission has increasingly focused its attention on potential horizontal overlaps and vertical links existing or being created between the portfolio companies of the acquiring private equity fund and the target. In recent investigations, the Commission has requested information not only on portfolio companies controlled by the private equity fund (which the Commission should be concerned with under the definition of control under the ECMR) but also on companies where the private equity fund has an interest of 10 per cent or more – hence, extending the review of possible competition concerns to non-controlling interests. This has made the preparation of notifications much more complex and the review during phase I more extensive, requiring often the production of a large amount of market data as well as expanding substantially the work required in relation to the definition of the possible product markets affected by or related to a transaction.

Notion of control

The Commission’s Consolidated Jurisdictional Notice, adopted in 2007, has consolidated much of the case law and the practice of the Commission on the issue of control. In reviewing transactions and deciding whether a situation of control has been created, each case must be assessed on its own, but specific rights with respect to the appointment of senior management and the determination of the budget, the business plan, the investment policy and certain market-specific rights will generally be the determining factors as to whether a situation of control has been created. In most cases, negative control rights will not create a situation of control. In the context of club deals, it will be necessary to consider whether there is an acquisition of joint control. Under the ECMR, a transaction between a number of funds that does not result in joint control (often referred to as shifting allegiances) does not amount to a concentration subject to a notification. However, such a transaction will often be caught by notification requirements in other EU Member States, in particular, in Germany and in Austria. Finally, under the ECMR, contrary to US practice, for the calculation of the relevant turnover, the turnover of all funds under the same control is relevant.

Review of certain cases

A relatively small number of private equity cases result in phase II proceedings before the Commission or more detailed decisions involving the provision of commitments at phase I. A review of a sample of these cases is presented below.

Blackstone/Acetex⁴

This transaction concerned the acquisition by Blackstone Crystal Holdings Capital Partners (and its affiliated funds) (Blackstone) of Acetex Corporation (Acetex). It was cleared without conditions after phase II proceedings.
Blackstone is a US private merchant banking firm active in financial advisory services, private equity investment and property investment. Acetex is active in the acetyls and plastic business. The principle products of Acetex’ acetyls business are acetic acid and vinyl acetate monomer (VAM); other products include acetic acid derivatives such as acetic anhydride, polyvinyl alcohol (PVOH) and polyvinyl acetate (PVAc). One of Blackstone’s portfolio companies is Celanese Corporation, a global chemicals company, active in four main sectors: (i) chemical products, (ii) acetate products, (iii) technical polymers and (iv) food ingredients. In the chemical products sector, Celanese manufactures acetic acid, acetic anhydride and VAM, as well as PVOH, emulsions and other speciality chemicals.
During phase I, the Commission identified a number of significant horizontal overlaps between the activities of Celanese and Acetex – in particular, with respect to certain commodity chemicals such as acetic acid, VAM and acetic anhydride. Celanese and Acetex are among the three major suppliers in Europe, where together they have very significant shares of the merchant market (the part of the market that is not captive). The Commission’s preliminary investigation indicated that the relevant geographic markets for these products may be European in scope, due to high transport and storage costs, import duties, regional pricing by suppliers and the fact that a large majority of the imports are undertaken by the companies themselves.
During phase II, the Commission investigated the parties’ overlap with respect to four products: (i) acetic acid; (ii) VAM; (iii) acetic anhydride, and (iv) PVOH. The Commission decided that the relevant geographic markets for these four products were, in fact, global. The difference between production costs and average regional prices was sufficient to cover the costs of transport, storage and duties, which allowed for a global increase in trade for such products.
Given the level of concentration in the market, the Commission considered the possibility of coordinated effects, as well as unilateral effects. The Commission found that neither unilateral nor coordinated effects would be likely or possible on any of the four product markets. Most customers multi-source their supply, and the existence of other competitors as well as a lack of transparency all operated to negate any negative competitive concerns. In addition, the ability of rival suppliers to increase production capacity would enable them to keep up with increasing customer demand for such products.
With respect to vertically affected markets, both Celanese and Acetex are vertically integrated as they use acetic acid to produce other downstream products such as VAM, as well as both operating on other downstream markets. However, the Commission found that the parties market shares were not large enough to give rise to foreclosure concerns. In the market for acetate esters, where the parties’ shares were higher, the increment on the upstream market would not significantly affect the structure of the market. Also, the parties were increasing capacity for acetic acid and would be unlikely to attempt to foreclose supplies of acetic acid to competing manufacturers.

CVC/SLEC⁵

This concerned the proposed acquisition by the CVC private equity group of sole control of Speed Investments Ltd. By controlling Speed, CVC would gain control over SLEC Holdings Ltd (SLEC), the holding company of the Formula One group of companies.
The activities of CVC and SLEC overlapped in the promotion of motor sport activities – SLEC via the Formula One group and CVC via its Spanish subsidiary Dorna Promoción de Deporte SA (Dorna). The Formula One group promotes the FIA Formula One World Championship and exploits the related commercial rights. Dorna organises and manages the commercial rights associated with several motorcycle race series, such as the Moto CP motorcycle championship, the FIM Supercross World Championship, the Spanish Road Racing Championship and the British Superbike Championship.
There was a minor horizontal overlap in the market for circuits owners and local promoters. However, the Commission found a significant horizontal overlap in the market for television rights to major regular free-to-air sports events in Italy and Spain.
Of the 37 circuits in the EU, only one circuit hosts both a Formula One and Moto GP Grand Prix, therefore the overlap was limited. The switching costs involved in adapting a circuit to Formula One or Moto GP standards would be great and investments would depreciate over time, both of which would serve to decrease the incentive to switch. In addition, there were sufficient circuits available for local promoters to host their sports events. Therefore, no serious concerns arose for this first market.
The Commission did, however raise concerns about the overlap in the activities of the parties in Italy and Spain with respect to major sports events, or alternatively, the market for the television rights for all regular major sports events shown on free-to-air television. The Commission was concerned that the joint ownership of the television rights to Formula One and Moto GP would strengthen CVC’s bargaining position vis-à-vis television channels in Italy and Spain, which could lead to an increase of the prices for the television rights concerned. There was a risk that CVC would be able to tailor the respective timing of the rights’ sale for both series, the duration of both contracts, or the packaging thereof to improve its selling position.
Also, regarding the national markets where Moto GP is not considered a major event, there were fears that CVC would adopt a bundling strategy linking the sale of the television rights to the Formula One series with the acquisition of the television rights to the less popular Moto GP series. The market investigation revealed that it was not uncommon for the Formula One Group to bundle its products. However, there were indications that the parties would not have the incentive to bundle products because CVC could maximise its revenues by selling the rights to Formula One and Moto GP separately. As the parties submitted commitments, the issue of bundling was left open.
In order to address the Commission’s concerns, CVC agreed to divest Dorna in its entirety. The Commission was satisfied that this would remove all potential competition concerns by eliminating the only overlap between the parties’ activities.

Cinven/Warburg Pincus/Casema/Multikabel⁶

This transaction involved Cinven, a UK-based private equity company, Warburg Pincus, a US-based global private investment firm, and the two target companies, Casema and Multikabel – both Dutch cable operators providing radio, television, internet access and fixed telephony services in the Netherlands.
The proposed transaction saw the acquisition of joint control of Casema, from Carlyle and Providence, and Multikabel, which was solely controlled by Warburg Pincus. The decision is interesting as the Commission considered whether the transactions together constituted one single concentration under the ECMR. The Commission concluded that this was the case because:
• the two transactions were contractually linked under the subscription agreement;
• the conditionality of clearance of the Casema transaction required for the Multikabel transaction reflected the economic considerations of the parties;
• the interdependence of the two transactions was shown by the fact that both transactions would be financed by a single banking facility arranged by the same pool of banks;
• the nature of the control exercised by the notifying parties would be the same for the two transactions; and
• Casema and Multikabel were active in the same product markets as they provided the same type of services.

The only markets affected by the transaction concerned the wholesale and retail markets for the distribution of television and radio signals. The Commission noted that any competitive concerns in the Dutch wholesale market would be removed by the size of Multikabel’s limited customer base.
The Commission considered also the transaction would not result in coordinated effects in the downstream retail market because there was no distribution overlap.

WLR/BST⁷

This notification concerned the acquisition of BST Safety Textiles Holding GmbH (BST) by the US private equity firm WLR Recovery Fund III, LP (WLR). BST is a German supplier of flat woven fabrics for use in the manufacture of automotive airbag cushions. WLR controls Safety Components International (SCI), which is a manufacturer of sewn airbag cushions (CSC) airbag cushions using these fabrics.
The relevant markets were the manufacture of flat fabric, CSC and one-piece woven airbags (OPW), which were EEA-wide in scope. BST manufactures flat fabric and OPW, and SCI only manufactures CSC, therefore while there was no horizontal overlap, the transaction did lead to vertical concerns arising from the link between BST and SCI. In particular, the Commission investigated the possibility that the merged entity would be likely to foreclose downstream tier one airbag module manufacturers by restricting access to fabric or CSC products and raising downstream rivals’ costs through input foreclosure. The Commission also investigated whether the merged entity would be likely to foreclose its rivals in the upstream fabric market from accessing a sufficient customer base and reducing their ability to compete, namely output foreclosure. In addition, the transparency of the CSC / fabric production chain meant that the merged entity would have no incentive to conduct output foreclosure.
The Commission found that the merged entity would have no incentive to foreclose downstream fabric or CSC customers because: SCI would be unable to absorb BST’s total production of flat airbag fabric; BST and SCI share customers, therefore any attempt to foreclose would have a negative impact on the same customers and would be commercially counter-productive; and customers have significant buyer power through the fabric and CSC supply chain with respect to contracting outsourced supply, since tier one firms have their own in-house production facilities.
The Commission also concluded that the merged entity would not be able to foreclose competitors on the fabric market from accessing a sufficient customer base because switching fabric supplier is not a quick process for CSC producers, and tier one manufacturers exercise considerable influence on choice of fabric supplier when outsourcing CSC production because of their in-house production.

APW/APSA/Nordic Capital/Capio⁸

In this transaction, three private equity firms, Apax Partners Worldwide LLP (UK) (APW), Apax Partners SA (France) (APSA) and Nordic Capital Fund VI (Channel Islands) (Nordic Capital) sought the acquisition of Capio AB, a Swedish company providing health-care services to public and private customers via its acute private hospitals, diagnostic centres and private psychiatric hospitals. Capio offers its services in a wide range of EEA member states.
APW controls General Healthcare Group Limited (GHG), a provider of private healthcare services in the UK and Mölnlycke Healthcare (MHC), a provider of, inter alia, surgical and wound care products to the professional health-care sector. APW had recently agreed to sell MHC to a consortium. Nordic Capital has shareholdings in pharmaceutical companies such as Nycomed and Altana Pharma AG, as well as Unomedical, a supplier of sterile single-use medical devices and Atos Medical, a manufacturer of ear, nose and throat medical devices. APSA has joint control over the French hospital chain, Vedici.
The transaction resulted in horizontally affected markets in the UK as a result of the overlap between Capio and GHG on the markets for private acute general hospitals and on the market for public and private health-care outsourcing services (PPHO). In addition, there were vertically affected markets linked to the activities of MHC, Nycomed, Altana, Unomedical and Atos Medical upstream of Capio. The geographic markets concerned were the EEA, Norway, Sweden, France, Spain, Germany and the UK.
The Commission concluded that no competition concerns were raised by the vertical overlaps because the parties lacked the ability to foreclose customers as well as the incentive to foreclose competitors from accessing inputs. However, competition concerns existed at a local and national level as a result of the horizontal overlaps between the parties in the UK. In particular, with respect to the market for private acute general hospitals in the UK, the transaction would lead to a reduction of the number of nationally operating hospital chains from four to three. Post-merger, private medical insurers would have little choice but to deal with the GHG Capio chain, which could lead to a price increase. Also, in a number of local areas the combined GHG Capio chain would face almost no competition such that they would have a high market share with which to leverage their position to achieve higher prices and resist cost-cutting initiatives from insurers and obtain better terms. With respect to PPHO, the issue was left open; however, the Commission noted that competition concerns did not exist as yet but could do upon future tenders for ISTC contracts.
The Commission’s concerns were addressed by the divestiture of all of Capio’s UK private acute general hospitals, its Independent Sector Treatment Centres outsourcing business and its specialist eye hospital in the UK.

KKR/Harman⁹

This transaction concerned the acquisition by KHI Manager LLC (controlled by Kohlberg Kravis Roberts and Co (KKR)) of Harman International Industries Incorporated (Harman).
KKR is a private equity firm, which, among other companies, jointly controls Avago Technologies with Silver Lake Partners. Avago produces an extensive range of analogue, mixed-signal and optoelectronic components and subsystems to manufacturers around the world. Avago recently purchased Infineon Technologies AG’s Polymer Optical Fiber business unit, a leader in the market for automotive multimedia infotainment networks and transceivers for safety systems. KKR also has a controlling interest in Auto-Teile-Unger Holding, Germany’s leading automotive car parts retailer and service centre operator.
Harman manufactures high-fidelity audio products and electronic systems for the automotive, consumer and professional industries. Harman’s automotive segment designs, manufactures and markets infotainment products and systems for OEMS and aftermarket vehicle applications. Harman’s consumer segment designs, manufactures and markets audio, video and electronic systems for home, mobile and multimedia applications. Harman’s professional segment designs, manufactures and markets loudspeakers and electronic systems including mixing consoles by audio professionals.
There were no horizontal overlaps between any of KKR’s portfolio companies and Harman. However, there were a number of vertical relationships between Harman and Avago, with respect to the supply of fibre-optic transceivers (FOTs) for use in OEM automotive infotainment systems and optocouplers for use in mixing consoles. In addition, a vertical relationship existed between Harman and ATU, a KKR portfolio company, for the supply and sale of GPS navigation systems to the independent aftermarket. However, this relationship raised no competition concerns.
The Commission examined whether KKR could foreclose the key input of automotive FOTs from its competitors. The Commission found that input foreclosure would be unlikely given that there were several companies supplying these products or who were about to enter this market. In addition, as Avago was jointly controlled by KKR and Silver Lake Partners, KKR would not be in a position to integrate or coordinate the behaviour of Avago and Harman post-merger. Silver Lake had a fiduciary duty to its investors to maximise Avago’s products and had no economic incentive in adopting a strategy that would see Avago forego sales of automotive FOTs to Harman’s competitors, since it had no shareholding in Harman.
The Commission also considered customer foreclosure effects in the event that Harman sourced its automotive FOTs from Avago post-merger. However, even if this occurred, the majority of automotive FOT sales would remain open to competition.

Nordic Capital/Convatec¹⁰

This transaction concerned the acquisition by Nordic Capital of ConvaTec, a wholly owned business unit of Bristol-Myers Squibb Co. ConvaTec is active in advanced wound care products, ostomy products and products for acute faecal incontinence. As mentioned earlier, Nordic Capital controls Unomedical, which is active in advanced wound care products and urinary incontinence products. Nordic Capital also jointly controls (as a result of the transaction discussed above) Capio, a European private health-care provider active in several member states.
The parties overlapped in advanced wound care products, more specifically with high market shares in the UK, Ireland and Spain in the alginates and alginates / hydrofibre segments. Alginates are seaweed-based moisture-absorbing wound care products and hydrofibres are non-woven sheets or ribbon dressings composed of sodium carboxymethylcellulose, a synthetic version of calcium alginate fibres. The market investigation provided no indication that the proposed transaction would lead to competition concerns in Ireland, either in a market for alginates or for alginates/hydrofibres.
There were minimal competitive concerns in Spain, which were, in any event, removed by the commitments offered by the parties.
In the UK, however, the transaction would give the parties a very high market share in the market for alginates, which would rise even more in a market for alginates/hydrofibres. The parties would also have achieved significant shares in the market for silver antimicrobials (wound care products in which silver is incorporated).
The proposed concentration would see the combination of two important competitors on the markets for alginates (and hydrofibres, with or without silver antimicrobial sales) and the market power of the new entity would unlikely be defeated by a timely entry of sufficient scale. The transaction raised serious competition issues and the parties therefore offered commitments to the Commission in order to address its concerns and avoid the initiation of a phase II investigation. Nordic Capital committed to divest Unomedical’s entire wound care business and also its ophthalmic needles business. The Commission market tested these remedies and concluded that they were suitable.

***

Private equity transactions will continue to represent a substantial portion of ECMR notifications and will attract close scrutiny by the Commission, which will focus on all possible portfolio effects; private equity firms will need to be well prepared when notifying a transaction to the Commission In the context of club deals, private equity firms must consider the structure of the control of the acquisition vehicle early on so as to decide whether a situation of joint control is being created, and if not, whether notification in certain EU member states will be required. Private equity firms must also remember to consider early on all possible portfolio effects that can be created by a proposed transaction, and whether any of these could affect the competitive assessment of a transaction and its ultimate outcome. Quite apart from the possible outcome before the competition authorities, in bidding processes, vendors will expect potential purchasers to have done a thorough analysis of these issues.

Notes

1 New York Times, A Different Story For Deal Making, 5 January 2008.
2 Council Regulation (EC) No. 139/2004.
3 Based on a review of the cases listed on www.europa.cu/comm/mergers/cases, from 15 July 2003 to 15 July 2008.
4 Case No. COMP/M.3625, 13 July 2005.
5 Case No. COMP/M.4066, 20 March 2006.
6 Case No. COMP/M.4338, 6 September 2006.
7 Case No. COMP/M.4389, 5 December 2006.
8 Case No. COMP/M.4367, 16 March 2007.
9 Case No. COMP/M.4696, 18 August 2007.
10 Case No. COMP/M.5190, 15 July 2008.

An extract from The European Antitrust Review 2009