On April 29, in a rare decision based on the “failing firm” rationale, the Competition Bureau announced it would not challenge the acquisition of Total Metal Recovery (TMR) Inc. by American Iron & Metal Company Inc. (AIM), because TMR would have likely exited the market without the merger.
The Bureau released a detailed position statement on the transaction, which will assist parties seeking to rely on a “failing firm” argument. This will be particularly important in the wake of the COVID-19 economic downturn, as many businesses may face failure and seek to be acquired by a competitor if they cannot restructure or refinance.
This transaction is also notable because it highlights the Bureau’s mandate to investigate transactions that are not notifiable under the Competition Act, but nonetheless raise substantive competition concerns.
The “failing firm” rationale
Section 93(b) of the Competition Act permits the Competition Tribunal to take into account that a party’s business or part of its business “has failed or is likely to fail” in determining whether the proposed merger is likely to result in a substantial lessening or prevention of competition.
The Bureau’s Merger Enforcement Guidelines focus on two issues when assessing failing firm arguments: (i) whether the target’s business (or part of it) has failed or is likely to fail; and (ii) whether there are alternatives to the merger that are likely to result in a materially greater level of competition than if the proposed merger proceeds. The parties advancing such arguments bear the onus of proof.
To qualify as a failing firm, the company must be insolvent, have initiated voluntary bankruptcy proceedings, or have been petitioned into bankruptcy or receivership, or one of these three things must be likely or imminent.
It is not sufficient to establish that the firm is likely to fail. That is only the starting point of the analysis. The Bureau then conducts a counterfactual, or “but for,” analysis, of what could have happened absent the transaction. This includes examining the prospects of restructuring or a retrenchment of the failing firm, its sale to a competitively preferable purchaser, or the sale of its assets in a liquidation process. Notably, loss of employment and other social or economic impacts of a company’s imminent failure that are unrelated to the competitive analysis will not be considered in the Bureau’s merger assessment.
Where it is established that the failing firm would likely have exited the market regardless of the merger, any lessening of competition caused by its removal from the market will not be attributed to the proposed transaction.
The criteria that must be met are well established, and because they set a high bar, there are few cases where the failing firm factor is decisive. However, given the current economic conditions, it is expected that these instances may increase.
Prior to the merger, AIM and TMR were the two largest scrap metal processors in Quebec, with overlapping operations in the purchase and sale of unprocessed and processed scrap metal.
Although the parties had initially filed pre-merger notifications, these were withdrawn after the parties determined the transaction was not notifiable under the Competition Act. Nonetheless, the Bureau commenced an investigation and the parties entered into a consent agreement, whereby AIM was required to preserve TMR’s assets for 60 days following closing to permit the Bureau to conduct its inquiry.
During the Bureau’s investigation, the parties argued the transaction would not result in a substantial lessening or prevention of competition because TMR was in financial distress and a “failing firm” within the meaning of the Competition Act.
With the assistance of a financial expert, the Bureau concluded that TMR was insolvent and had a high likelihood of filing for bankruptcy in the immediate future, and thus qualified as a failing firm.
The Bureau also analyzed the various counterfactual scenarios to the merger to determine whether there were competitively preferable alternatives to the merger. During its review, the Bureau compelled the production of data and documents from not only the parties, but from a prospective purchaser through court orders obtained under Section 11 of the Competition Act.
In the result, the Bureau concluded that no competitively favourable alternatives existed and TMR’s assets would likely have exited the market absent the merger.
Takeaways in a time of crisis
In the wake of the economic downturn caused by the COVID-19 pandemic, failing firm arguments may see a resurgence as we see better-positioned companies seeking to acquire their struggling competitors.
Parties who intend to make failing firm arguments should carefully examine both the Merger Enforcement Guidelines and the Bureau’s position statement on the AIM / TMR transaction for guidance.
As time is of the essence in assessing failing firm claims, merging parties are encouraged to make submissions in this regard as early as possible, potentially even prior to submitting their pre-merger notification filings. The Bureau has indicated it will expect to review:
- detailed financial information for the failing firm;
- any attempts made to restructure the firm, employ cost-cutting measures, or search for strategic partners;
- any bona fide efforts to search for alternative buyers, including correspondence, offering memoranda, details of who was approached, and steps taken to reach a deal where expressions of interest were received. Where no thorough search for alternative buyers was made, the Bureau may require the parties to engage an independent third party to search for alternative buyers before a failing firm argument is accepted; and
- information and documents relating to potential alternate uses for the assets and whether other firms can easily obtain those assets to assess whether liquidation may be preferable to the merger.
There have been suggestions that in times of financial crisis, antitrust regulators should relax the criteria used in a failing firm analysis. During the 2008-2009 financial crisis, Canada’s commissioner of competition rejected calls for antitrust scrutiny to be relaxed, citing the importance of the Competition Act in times of economic hardship. It is anticipated that the current commissioner will maintain that position, as the AIM / TMR position statement makes clear: the Bureau will always undertake a complete review and use all of the tools available at its disposal to evaluate whether a transaction is likely to result in a substantial lessening or prevention of competition.
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