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CJEU Requested to Provide Guidance on 'Gun Jumping' Test

*by Erik Kjær-Hansen and Sam MacMahon Baldwin, Gorrissen Federspiel

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With Post Danmark I and II under their belts, it seems Danish courts are punching above their weight when it comes to contributing to the CJEU’s development of EU competition law through preliminary rulings. Yet another interesting reference from a Danish court came in December 2016.

Although those hoping for the third part of a trilogy by way of ‘Post Danmark III’ may be disappointed, the subject-matter of this reference concerns something equally interesting and may well serve as helpful for competition law practitioners. The Danish court in question has asked the CJEU for guidance on how to apply the prohibition against pre-implementation of mergers (‘gun jumping’).

Background to the case – The Audit Firm War

In November 2013, two of the Big Four audit & advisory firms in Denmark, KPMG and EY, surprisingly announced that they would merge their activities. This meant that the Danish KPMG firm (Old KPMG) would terminate its membership agreement with KPMG International and integrate with the existing Danish EY firm. Together they were to form a new firm within the global EY network (New EY).

The move was controversial as a Big Four member firm jumping ship to join a competitor is very rare. It also meant that KPMG International was left with no Danish presence and, consequently, immediately sought to establish a new member firm in Denmark to fill the gap. In order to resurface as a competitive, top-tier firm, the newly established KPMG firm (New KPMG) needed to attract top-tier talent which was made somewhat difficult by the established practice of audit firms’ imposing post-employment non-compete and non-solicitation clauses on senior employees. The question of these restrictive covenants became quite a focal point as it turned out.

The merger required clearance by the Danish Competition Council (the DCC). For obvious commercial reasons, Old KPMG gave notice to terminate its membership with the KMPG network at the time of announcement of the merger in November 2013 with the termination taking effect in September the following year. This meant that the DCC’s substantive review of the merger could take place alongside the notice period; thus preventing a very long limbo period of first the DCC’s review and then the notice period.

A very contentious period had begun between on one side EY and Old KPMG becoming New EY and on the other side New KPMG and KPMG International. In what the business media named The Audit Firm War.

The DCC’s review – a 4-to-3 scenario and novel remedies

In May 2014, the DCC approved the merger in Phase II but only subject to remedies. The DCC knew that the key to re-establishing a competitive environment post-merger was to ensure that New KPMG – as the new entrant – would be strong enough to exert the necessary competitive pressure to compensate for the increased market power of New EY. To this end, the DCC required New EY to create a window in which its employees could be recruited by New KPMG while being released of long notice periods and restrictive covenants. This, in turn, would assist New KPMG in obtaining the necessary talent to become competitive. The remedies were considered quite a novel way of facilitating sustainable market entry and preventing a 4-to-3 scenario.

New EY had jumped the gun

New EY’s relief of having obtained the DCC’s approval was short-lived as only 7 months later it faced a decision from the DCC holding that New EY had jumped the gun. The DCC held that Old KPMG’s notice to terminate its membership agreement with KPMG International constituted unlawful pre-implementation of the merger. In addition to the infringement decision, the DCC handed over the case to the public prosecutor for criminal indictment.

New EY brought the infringement decision before the Danish Maritime & Commercial Court claiming that the DCC had applied the prohibition on gun jumping incorrectly. As case-law and decisional practice on this issue is scarce, the Court has asked the CJEU for guidance in order to determine whether the DCC applied the correct legal test.

The DCC’s reasoning – merging parties manipulating the real counterfactual  

The DCC based its conclusion of a gun jumping infringement on the following elements in particular:

  1. Old KPMG’s notice to terminate its membership with the KPMG network was merger specific as it was a direct consequence of the decision to merge with EY. It was indeed an integral and strategically decisive part of consummating the merger with EY. Moreover, the decision to give notice at the time in question was specifically agreed with EY and accordingly could not be deemed a unilateral action on the part of Old KPMG.
  2. The notice to terminate was irreversible as Old KPMG and EY could neither unilaterally nor collectively rescind the notice to terminate effectively. There was no going back.
  3. The notice to terminate had potential effects on the market. This was due to the fact that Old KPMG’s decision to leave the KPMG network meant that the firm’s future as a Danish audit firm would be uncertain if the merger with EY were not completed. Consequently, the notice to terminate created at least the potential for structural changes in the market between the time of the notice to terminate and the DCC’s approval. In fact, there were indications that the notice to terminate actually had created substantial structural market effects. The irreversible market effects meant that effective ex ante merger control was compromised as returning to market conditions in place pre-merger was impossible.

When reading the decision, element iii) consisting of ‘potential effects on the market’ seems to have driven the DCC’s decision in particular. Once Old KPMG had given notice to leave the KPMG network, substantial effects in the market – at least in some form – were inevitable. It is clear from the decision that the DCC did not appreciate the merging parties manipulating the real counterfactual scenario in this manner. Interestingly though, in the decision approving the merger, the DCC held the counterfactual scenario for purposes of substantive review to be the scenario before Old KPMG had given notice to leave. This meant that the DCC had to apply a counterfactual scenario that would never occur, even if the DCC were to prohibit the merger. Old KPMG’s notice to terminate therefore, according to the DCC, compromised the whole notion of merger control as an ex ante exercise.

Will the CJEU agree with the DCC? And will the CJEU provide guidance for practitioners?

It will be interesting to see whether the CJEU agrees with the criteria adopted by the DCC. For legal practitioners dealing with notifiable transactions regularly, it will also be interesting to see whether the CJEU will take the opportunity to provide any operational guidance on what is permitted and what is not permitted between the signing of a transaction and merger control approval. Considering that practitioners advise on this issue in more or less all transactions requiring merger control filing, there is very little case-law and decisional practice to lean on. Any operational guidance from the CJEU will therefore surely be welcomed.

A final procedural – but still quite interesting – point on this reference is that the Danish court is asking the CJEU to interpret EU law even though EU law forms no part of the case before the court. The court is applying the prohibition against ‘gun jumping’ in Section 12c(5) of the Danish Competition Act and not Article 7(1) of the EUMR. The reference is justified by the fact that the preparatory works to the Danish Competition Act state that the Danish merger control provisions are generally to be interpreted as their EUMR equivalents. For practitioners, this is a reminder that requesting a preliminary ruling may be possible even if no EU law applies directly. So long as there is some reasonable indication that the applicable national provision is based on EU law and that asking the CJEU for guidance would be helpful for the national court.

*authors are from Gorrissen Federspiel, a fully integrated and internationally operating law firm

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