Bankruptcy and Antitrust Law What You Dont Know Can Hurt You

<p>Frequently, bankruptcy
practitioners view the bankruptcy laws as a sort of trump card that
nullifies other requirements in the law. Generally, once a firm files for
bankruptcy, other proceedings are stayed or consolidated in the bankruptcy
court, and the court and the debtors-in-possession (DIPs) have substantial
power to control what happens next. The antitrust laws, however, do not
take a back seat to the bankruptcy laws, and a basic knowledge of how the
antitrust laws could affect a bankruptcy can be essential to avoiding
pitfalls.

</p><p>Antitrust laws and bankruptcy laws have different
goals. Generally, the antitrust laws seek to encourage competition,
eliminate monopolies and guard against transactions that create market
power. The antitrust laws generally are not concerned with competitors and
accept that some competitors may be unable to compete successfully. The
bankruptcy laws, on the other hand, seek to maximize the value of the
bankruptcy estate and to return the assets of the bankrupt entity to the
marketplace as quickly as possible, regardless of its effect on
competition.

</p><p>There are two predominant areas where these different
goals may intersect. First, to the extent a debtor or the bankruptcy estate
seeks to sell all or part of the assets subject to the bankruptcy, the
antitrust laws may require a premerger review by the U.S. government to
determine if there are any anti-competitive effects possible from the
bankruptcy sale. Second, creditors or other participants in bankruptcy
proceedings may violate the antitrust laws by acting anti-competitively.
Each will be discussed in turn.

</p><h4>The Antitrust Laws Affect the Distribution of Assets Out of a Bankruptcy Estate</h4>

<p>Section 7 of the Clayton Act, 15 U.S.C. §18, is
the principal statute applied to the analysis of mergers and acquisitions
by the U.S. government. It prohibits mergers and other acquisitions of
"stock or other share capital...or part of the assets of another
person...where...the effect of such acquisition may be substantially to
lessen competition or tend to create a monopoly." 15 U.S.C. §18.
The Department of Justice, Antitrust Division (DOJ) and the Federal Trade
Commission (FTC) primarily are responsible for reviewing mergers and other
transactions.

</p><p>The Hart-Scott-Rodino Antitrust Improvements Act, 18
U.S.C. §18a (HSR), requires pre-merger filing for all transactions
that meet certain threshold criteria. For qualifying mergers or other
purchases of assets or voting securities, the federal agencies review the
proposed transaction before it is closed to determine whether it poses an
anticompetitive risk. The agencies then have the opportunity to seek an
injunction to block the transaction. This pre-closing review eliminates the
problem of "unscrambling the eggs" post-consummation.

</p><p>Under HSR, where, as a result of the transaction, the
acquiring person will hold a total amount of voting securities or assets of
the acquired person with a value in excess of $50 million, the purchaser of
voting securities or assets and the selling entity must both file
notification of the proposed transaction with the FTC and the DOJ and wait
certain specified periods before consummating the transaction. For a
bankruptcy sale, once both parties file the Pre-merger Notification Form
describing the transactions they must wait up to 15 days before closing the
deal. This waiting period can be extended or shortened by the government.
Persons who fail to file or wait as required by HSR are liable for a
maximum penalty of $11,000 for each day the violation continues. The
acquiring party is also required to pay a filing fee ranging from $45,000
to $280,000, depending on the value of the transaction.

</p><p>Even just this step, the filing itself, clearly
affects the goals of the bankruptcy laws. Not only is there a mandatory
waiting period that acts to slow the transfer of assets from the bankruptcy
estate, but even if the government ultimately approves the transaction, the
cost to the purchaser will be increased by up to $280,000 plus transaction
expenses, money that otherwise might have gone to the bankruptcy estate.

</p><p>After the filing, the government will evaluate the
proposed transaction for any potential anti-competitive effects. If the
government decides that it needs to review the transaction in detail, it
has the ability to extend the 15-day waiting period by issuing what is
known as a Second Request. Second Requests often impose a substantial
burden on the parties to a proposed transaction, including, typically,
extensive interrogatories, document requests and depositions of the
parties' most knowledgeable personnel. Responding to a Second
Request often takes six months or more to complete and can cost millions.
Again, even if the government ultimately concludes that the transaction
would not tend to substantially lessen competition, mere compliance with a
Second Request is not consistent with bankruptcy's goals of
maximizing the value of the bankruptcy estate and quickly returning the
assets to the marketplace.

</p><p>In the initial filing with the government, the
parties have to include internal documents discussing the transaction and
related-to market shares, competition, competitors, markets, potential for
sales growth, or expansion into product or geographic markets. Frequently,
these documents are the triggers for additional investigation by the
government. Therefore, parties should draft these documents with care.
Specifically, in creating documents, care should be taken not to use words
suggesting expectations of competitive advantage to be gained from the
transaction, and the parties should describe the pro-competitive business
reasons for the transaction.

</p><p>Finally, at the end of this process, the government
may challenge the deal as harmful to competition. In doing so, it can seek
a preliminary injunction to stop the parties from closing the transaction.
Generally, the agencies can bring the action in any court where the parties
are subject to jurisdiction and frequently bring suit in Washington, D.C.
For a bankruptcy transaction, however, there is some case law that suggests
that any action brought by the government must be brought in the bankruptcy
court before the presiding bankruptcy judge. <i>In
re Financial News Network Inc.,</i> 126 B.R. 157
(S.D.N.Y. 1991). This requirement is not widely enforced, and additional
development of this aspect of the law is likely.

</p><p>When reviewing horizontal mergers, the DOJ and FTC
use the Horizontal Merger Guidelines as a basic framework. The Merger
Guidelines describe the general approach the agencies take to evaluate
whether a particular horizontal merger is likely to lessen competition. In
addition to setting out the basic framework for merger analysis, the
Guidelines also provide a description of the defenses that can counter a
finding that the transaction would be anticompetitive. Specifically
relevant to bankruptcy is the "failing firm" defense.

</p><p>The Merger Guidelines apply this defense if there
likely will be "imminent failure." This is beyond mere
bankruptcy: "Imminent failure" is defined by the Merger
Guidelines as (1) the failing firm would be unable to meets its financial
obligations in the near future; (2) the failing firm would be unable to
reorganize successfully under chapter 11 of the Bankruptcy Act; (3) the
seller made unsuccessful, good-faith efforts to elicit alternative offers
of acquisition of the assets that would keep both its tangible and
intangible assets in the relevant market and pose a less severe danger to
competition than the proposed merger; <i>and</i> (4) absent the acquisition, the assets of the failing
firm would not be part of the relevant market. Each of these conditions
must be met in order for the firms to prove the failing firm defense
successfully. Although many companies seek to use the failing firm defense
to justify otherwise anticompetitive mergers, rarely is it successful, even
in a bankruptcy.

</p><p>Firms that are struggling, but not in imminent danger
of failing, cannot successfully use the failing-firm defense when merging.
However, their financial condition may affect their future competitive
significance in the marketplace and be relevant to the merger analysis
(referred to as a "flailing" firm). Thus, there may be ongoing
changes in the market suggesting that the current market share of one of
the merging firms overstates its future competitive significance and
overstates the merger's potential competitive concerns. Like the
failing-firm defense, the government will not necessarily agree that the
flailing-firm defense applies to transactions where one party is in
bankruptcy. Obviously, where one party is bankrupt, these defenses are more
likely to be available.

</p><p>Frequently, when the government opposes a transaction, the parties will abandon it rather than fight the government's
injunction action. Indeed, in the 10-year period from 1982-91, 46
bankruptcy transactions were abandoned in the face of the
government's opposition. Because the initial purchaser likely was the
high bidder for the bankrupt's assets, an abandonment of the
transaction generally will result in a smaller purchase price and, thus, a
reduced value to the bankruptcy estate.

</p><p>Two recent high-profile bankruptcy matters illustrate
the various outcomes when the government indicates that it intends to
challenge a transaction arising in a bankruptcy. The first is the intended
purchase of assets by SGL Carbon from the Carbide/Graphite Group. In 2003,
the Carbide/Graphite Group filed a chapter 11 proceeding. The debtor
proceeded to sell off various assets. SGL, which competed with
Carbide/Graphite, sought to purchase those assets that were used by
Carbide/Graphite to compete with SGL. After an HSR notification and
government investigation, the DOJ sued to enjoin the transaction. In the
face of the lawsuit, SGL abandoned the transaction. Ultimately, the assets
were sold for about $800,000 less than SGL offered ($6.23 million vs. $7
million).

</p><p>A second example is the purchase of all the assets of
Comdisco out of bankruptcy by Sungard. The bankruptcy court held an auction
of these assets, which Sungard won, offering $825 million. Again, after an
HSR notification and government investigation, the DOJ sued to enjoin the
transaction. This time, however, instead of abandoning the transaction,
Sungard chose to fight it. In doing so, it forced the DOJ into extremely
rapid litigation. All discovery was completed within two weeks. The court
then held a 10-hour evidentiary hearing with oral arguments the following
day. Within five days, the court issued its opinion, which found that the
transaction did not violate the antitrust laws and allowed Sungard to
complete the transaction. Not only was this a win for Sungard, but the
bankruptcy estate benefited greatly as well. Hewlett-Packard's bid,
which was the alternative had Sungard been enjoined, was for $610 million;
a victory for the government would have cost the bankruptcy estate $215
million.

</p><h4>Anticompetitive Conduct by Participants in the Bankruptcy Proceeding May Give Rise to Antitrust Liability</h4>

<p>A second antirust statute likewise may have
applicability for entities involved in a bankruptcy. Section 1 of the
Sherman Act, 15 U.S.C. §1, prohibits agreements or understandings
between two or more firms that unreasonably restrain trade (price fixing,
market division, customer allocation, etc.), while Section 2, 15 U.S.C.
§2, prohibits monopolization, attempted monopolization and
conspiracies to monopolize.

</p><p>Under Section 1, the greatest risk of an antitrust
violation occurs when competitors discuss price. Setting price among
competitors is <i>per se</i> illegal and can result in criminal prosecution and jail time.
Importantly for bankruptcy practitioners, <i>credit terms are considered a component of price,</i> and
agreements regarding credit terms among competitors have been viewed as
price fixing. <i>Catalano Inc. v. Target Sales Inc.,</i> 446 U.S. 643 (1980).

</p><p>Because agreements regarding credit can be considered
price fixing, the members of a creditors' committee and committee
counsel should be circumspect and vigilant in their activities. Members of
the committee may be viewed as competitors, and so an agreement among such
members regarding credit terms for the debtor could be alleged to be price
fixing. Certainly, the antitrust laws do not restrict the creditors'
committee from discussing the debtor for legitimate reasons, but care
should be taken in discussions regarding actual credit terms that may be
extended by creditors to the debtor, and the creditors should not agree to
refuse to extend credit to the debtor, keeping in mind that it was an
agreement not to extend credit that the Supreme Court found <i>per se</i> illegal in <i>Catalano.</i>

</p><p>While subject to the antitrust laws, the
creditors' committee may have some limited protection in the
Noerr-Pennington doctrine, which provides antitrust immunity for the
conduct of private actors in petitioning the government regardless of the
potential for anti-competitive activity that is the subject of the
petition. The doctrine applies to petitioning each of the three branches of
government. As the Supreme Court explained:

</p><blockquote>
The federal antitrust laws also do not regulate the
conduct of private individuals in seeking anti-competitive action from the
government. This doctrine...rests ultimately upon a recognition that the
antitrust laws, "tailored as they are for the business world, are not
at all appropriate for application in the political arena."
</blockquote>

<i>City of Columbia v. Omni Outdoor Advertising Inc.,</i> 499 U.S. 365, 380 (1991). This doctrine apparently has
never been applied in the context of a creditors' committee in a
bankruptcy proceeding, but it likely provides some protection to the
legitimate activities of the committee.

<p>There is a sham exception to the Noerr-Pennington
doctrine. In general, the sham exception applies to attempts to use the
means of petitioning the government as an anticompetitive weapon, without
regard to any eventual action taken by the government. <i>City of Columbia,</i> 499 U.S. at 380.
"A 'sham' situation involves a defendant whose activities
are 'not genuinely aimed at procuring favorable government
action' at all, not one 'who genuinely seeks to achieve his
governmental result, but does so <i>through improper means.</i>'" <i>Id.</i>

</p><p>Participation on a creditors' committee also
may present the opportunity for competitors of the debtor to act
anticompetitively. For instance, the creditor/competitor may seek to delay
the debtors' exit from bankruptcy or use the bankruptcy process to
otherwise reduce the competitiveness of the debtor, either before or after
exit from bankruptcy.

</p><p>The FTC has taken action where companies have used
their position on a creditors' committee to hurt competitors who are
in bankruptcy. <i>In re AMERCO,</i> 109 F.T.C. 135 (1987). In this case, U-Haul/AMERCO was a
legitimate member of a creditors' committee in Jartran's
bankruptcy. Jartran and U-Haul both competed in the "one-way rental
market," although U-Haul had dominated that market for at least 10
years.

</p><p>As a member of the creditors' committee, U-Haul
proposed several actions that "were inconsistent with U-Haul's
legitimate interests as a creditor, and in fact were intended primarily to
delay or prevent Jartran's reorganization as a competitor." <i>Id.</i> These actions included
opposing a settlement between the purchaser of Jartran's stock and
the creditors. This settlement would have increased the distribution from
the bankruptcy estate to U-Haul. U-Haul sought to void the acquisition of
Jartran, although the acquisition provided financial support to Jartran
that "was necessary for Jartran's survival." <i>Id.</i> U-Haul also sought to
have the reorganization plan vote resolicited and delayed confirmation of
Jartran's reorganization plan.

</p><p>After the FTC filed suit, U-Haul agreed to a consent
decree that restricted its future ability to participate in bankruptcy
proceedings. It was not allowed to participate in bankruptcy proceedings
involving its competitors, and it was prohibited from initiating or
participating in judicial or administrative proceeding against any
competitor without prior notice to the FTC. While this case is 15 years
old, the recently departed chairman of the FTC discussed it in a speech in
2002, and the issue could arise at any time if competitors are using the
bankruptcy process to gain a competitive advantage.

</p><hr>
<h3>Footnotes</h3>

<p>^{<small><a name="1">1</a></small>} The authors gratefully acknowledge the assistance of Christopher Huber and William R. Firth III in the preparation of this article. <a href="#1a">Return to article</a>