Regulating Mergers before the Merger Regulation

More than two years have elapsed since the first draft guidelines on combinations were issued and for quite some time now the Government has promised that the revised regulations would be made public. Finally, now it appears that a fast track pre-merger consultation process will be put in place by the Competition Commission of India for companies to seek the views of the regulator. In the meanwhile, contrastingly, the Ministry of Corporate Affairs vide notification dated 15^th of May 2009 has empowered the Competition Commission of India to inquire into Sections 3 and 4 violations (while sections 5 and 6 have been ignored). It, therefore, leaves the CCI incapable of regulating combinations, at least for now. This brings to fore a very interesting issue - the question of regulating mergers before the merger regulation - although it may not be of immense practical importance, but vital from a policy perspective on the role that will be played by the Regulator.

The language employed in the Competition Act, 2002 has significantly derived its inspiration from Europe - most notably sections 3 (anticompetitive agreement) and 4 (Abuse of dominance) closely resemble Articles 81 and 82 of the Treaty Establishing the European Community (or now Articles 101 and 102 of the Treaty respectively of the Functioning of the European Union) – but what is all the more interesting and which has not been examined is how history has struck a chord between Europe and India even with respect to combinations.

For a long time the Competition Commission in Europe did not have the jurisdiction to regulate combinations. Politics and industrial policy in the member countries ensured that control over the industrial structure remained with the individual member states. In the absence of a unanimous Council Regulation, the Commission did not have the power to regulate mergers. This brought forward the question before Courts whether mergers could be scrutinized under Articles 81 and 82 of the Treaty. In the case of Europemballage Corp and Continental Can Co Inc v. Commission [1973] ECR 215, the European Court of Justice (ECJ) while scrutinizing the effect on competition as a result of the acquisition of 80% of the shares of Thomassen and Drijver-Verbliva by Continental Can Co. held that mergers per se could be scrutinized under the abuse of dominance provision. The ECJ held that since the aim of the treaty was to protect competition, mergers that have a detrimental effect on the effective competitive structure in the relevant market should be prohibited. Further it observed that an abuse may occur when an undertaking in a dominant position strengthens its dominance in the market to substantially fetter competition. This was in effect laying down a test based on structure rather than conduct or effect.

The ECJ was also quick to add that an anticompetitive effect in such a case (i.e. one involving a merger) would be rare and shall only be found where practically all competition is eliminated. On the facts of the case the ECJ held that since sufficient competition from substitutable products was not scrutinized, a case for abuse of dominance in the relevant market was not made out.

The ECJ has also held that agreements relating to acquisition of shares would have to stand the scrutiny of Article 81 (anticompetitive agreements). In British American Tobacco and R J Reynolds Industries Inc case [1987] ECR 4487, the ECJ observed that an acquisition (even of a minority shareholding as it was in that case) may serve as an instrument for influencing the commercial conduct of companies to restrict or distort competition on the market in which they carry on business, especially when the agreement provides for commercial cooperation between the companies or creates a structure likely to be used for such co-operation.

This interpretation accorded in Europe assumes special significance in India as only the provisions relating to abuse of dominance and anticompetitive agreements have been brought into force while Sections 5 and 6 of the Competition Act, 2002 relating to mergers are yet to be notified (and nor have the merger / combinations regulations been notified). From a regulatory perspective, it is better if mergers are scrutinized under the proposed Combinations regulation. Most acquisitions / mergers do not create anticompetitive effects, as the data from Europe suggests that out of 3368 notified mergers between September 1990 and March 2007 only 19 were prohibited. The structure based principle in Europe too is now giving way to an economic and effects based test. In addition, the presence of a specific provision under the competition Act, 2002 to regulate combinations (unlike in Europe where the Commission did not have the power to regulate mergers) should ensure that the CCI does not apply Sections 3 and 4 for combinations. It is only a matter of time before mergers are brought within the purview of combination regulations. Anyways, enterprises post May 20, 2009 (the date when sections 3 and 4 came into force) will still have to ensure that they do not violate Sections 3 and 4 of the Competition Act, 2002. Therefore, the reason for the CCI to adopt Sections 3 and 4 for acquisitions / combinations would be unnecesary.

In this connection, we need to see if the pre-merger consultation process will help dispel doubts in the minds of investors (please see this article in the ET on the doubts created by the first draft regulations) and make the regulatory regime more investor friendly. The CCI seem to be heading in the right direction in so far as they are not emulating their European Counterparts by applying sections 3 and 4 for combinations and in assisting the potential enterprises that fall within the combination thresholds to get acquainted with the regulatory scheme through the medium of pre-merger consultations.

ACCC institutes proceedings against Korean Air Lines Co. Ltd

It is yet another instance where Australian Competition & Consumer Commission (ACCC) has instituted proceedings against an airline company. ACCC has alleged that Korean Air Lines Co. Ltd. has enaged in price-fixing in air cargo industry.

The details may be read here: http://www.accc.gov.au/content/index.phtml/itemId/917336/fromItemId/142

Prepayment Penalty: Does CCI has a Case?

If the speculation in print media is to be believed, it seems the Competition Commission of India (CCI) has made its mind to penalise banks that impose “pre-payment penalty” clauses on their borrowers while lending loans. One of the defending banks, State Bank of India, has already suffered the brunt of National Consumer Disputes Redressal Commission (NCDRC) in Usha Vaid v Sate Bank of India [RP No.2466/2007]. In Usha Vaid case, the NCDRC categorically held that the levy of pre-payment penalty amounts to unfair and restrictive trade practice. On appeal, the Supreme Court refused to grant leave to hear the matter. Nonetheless, in my view, it would be difficult for CCI to bring the practice of pre-payment penalty within the four corners of the prohibited actions as laid out in Sections 3 and/or 4 of the Competition Act.

Typically, a pre-payment penalty is a clause in a mortgage/loan contract that says if the mortgage/loan is prepaid within a certain time period, a penalty will be assessed. The penalty is usually based on percentage of the remaining mortgage balance or a certain number of months worth of interest. In India, banks usually charge this penalty at the rate of 2% to 3% of the remaining principal amount.

To begin our analysis, let us assume that pre-payment penalty amounts to anti-competitive practice so far as it restricts a consumer to avail banking services of another firm which is ready to offer the loan at lower interest rates. Yet, it would be difficult for CCI to pin down the practice as result of some sort of collusion among banks or abuse of dominance. The CCI would have two options to target the banks:

i. Firstly, it may try to establish that the defending banks entered into an agreement among themselves to fix the rate of pre-payment penalty and had limited or controlled the supply of banking services (home loans and such other loans being the relevant product market) within India (relevant geographic market), [Section 3(3) Claim] or;

ii. CCI may claim that the defending banks possess “collective dominance” in the relevant product market and thus have abused this dominance by limiting or restricting the provision of services or market therefor. It is important to note that CCI may not be able to claim that any one of the defending banks individually enjoys a “dominant position” in the relevant product market. The reason being, Indian retail banking sector, over the time, has seen fierce competition with gradual introduction of new entrants. According to RBI's 'Quarterly Statistics on Deposits and Credit of Scheduled Commercial Banks: September 2009', nationalised banks, as a group, accounted for 50.5 per cent of the aggregate deposits, while State Bank of India (SBI) and its associates accounted for 23.8 per cent. The share of other scheduled commercial banks, foreign banks and regional rural banks in aggregate deposits were 17.8 per cent, 5.6 per cent and 3.0 per cent, respectively. Given the market shares of different commercial banks, the only way in which CCI may put forward its claim is through the application of "collective dominance".

Having identified the two viable options available to CCI, it would be interesting to examine whether there may be a successful claim against the defending banks. Coming to the first option, it would be certainly an uphill task for CCI to prove the elements of Section 3(3) claim. CCI would have no evidence to suggest that the defending banks entered into any agreement, arrangement or understanding, whether formal or informal, to implement pre-payment penalty clauses in their loan contracts. The practice of pre-payment penalty by banks is matter of commercial policy and prudence practiced all throughout the world. Therefore, existence of an agreement is a matter of remote possibility or rather impossible. This brings us to the question of fixation of rate of pre-payment penalty. The impediments of proving agreement apply here too. Added to the hurdle is the question as to whether rate of pre-payment penalty may be categorized as “purchase or sale price” under clause (a) of Section 3(3). The banks may safely argue that “pre-payment penalty” does not form part of the interest rate (which is the real source of revenue in any loan contract) applied to loan while selling their services. The penalty clause is mere insurance against the untimely loss of a customer, being entirely independent of the interest rate. Hence, an overall analysis of the practice of prepayment penalty clearly suggests that the CCI is unlikely to rely on the first option to prove its claim.

This leaves us with the claim of “collective dominance” and abuse thereof i.e. Option 2 [Section 4 Claim]. CCI’s task would have been much easier has there been only one bank with large market share. But, the adoption of pre-payment penalty clauses by almost all known commercial banks together brings the issue of “collective dominance” − a concept alien to the Indian Competition Act. Unlike European Commission, where it was much easier for Commission and Courts to read the concept of ‘collective dominance” under Article 82 of EC Treaty, the CCI would not enjoy the same privilege. This is because the difference in while couching the opening words of Article 82 of EC Treaty and Section 4 of the Competition Act. Article 82 begins with the phrase “any abuse by one or more undertakings of a dominant position” and it was this phrase “one or more undertakings” which was used by Court of First Instance in Italian Flat Glass case to hold that “there is nothing in principle to prevent two or more independent economic entities from being, on a specific market, united by such economic links that, by virtue of that fact, together they hold a dominant position vis-à-vis the other operators on the same market.” This marked the birth of the concept of “collective dominance” in Europe.

However, Section 4 of the Competition Act aims at “an enterprise” or “group”. Section 4(1) reads: “No enterprise or group shall abuse its dominant position”. There is nothing in the definition of enterprise under Section 2(h) or in the provisions of Section 4 to suggest that two or more independent entities can be clubbed together to constitute collective dominance. Again the term ‘group’ borrows its definition from Explanation to Section 5 which applies to related entities.

Even assuming that the concept of “collective dominance” may be forcibly read into Section 4 by applying provisions from General Clauses Act (Section 13), yet it would bring little respite to CCI. The concept was evolved to tackle the abuse of dominance by two or more undertakings in an oligopolistic market. Most cases in EC where the doctrine of collective dominance has been applied invloved two to three entities having significant market share in the relevant market. Given the present market structure in banking sector (supra), it would be difficult to prove that the relevant product market is oligopolistic one. Hence, in my view, should the CCI find the banks guilty, it has a bleak chance to prove its case before the Appellate Tribunal. This note has not addressed on the issue of pro and anti-competitive effects of penalty clause. I would bring my perspectives on the same soon!

Competition Law in India

Welcome readers, this is a blog that has been created to discuss and analyze the nuances of competition law in India. The substantive provisions of the Competition Act, 2002 ("Competition Act") relating to anti competitive agreements and abuse of dominance have been notified whereas provisions with respect to combinations (mergers, acqusitions et al) have not yet been notified. Thus, in this blog, we shall look at various concepts of competition law which are prevelant in US and EU antitrust laws which can be used as a tool to interpret the Competition Act.