Friday, May 3, 2013

Competition Law Risks: Non-Compete Clauses in M&A Transactions – Part 2


[The following post is contributed by Soumya Hariharan, who is a Foreign Lawyer at Rodyk & Davidson LLP’s Corporate & Competition Law Practice in Singapore. Soumya obtained her BSL.LLB degree from ILS Law College and has an LL.M degree (Corporate & Financial Services Law) from the National University of Singapore. She can be reached at soumyahariharan@gmail.com.

These views are personal.

After dealing the general overview of the issues in the previous post, Soumya now discusses the manner in which the CCI has dealt with the issue in India and also provides some pointers to drafting non-compete clauses such as they withstand scrutiny under law]

Treatment of Non-Compete Clauses in India

The merger control regime in India came into force only in 2011 and the CCI in one of its recent decisions, accepted modifications in relation to the non-compete obligations entered into between the parties to the combination.[1] This has been the first time the CCI has provided clarity on how it views non-compete obligations in relation to proposed combinations in India.

Orchid Chemicals and Pharmaceuticals Limited (“Orchid”) and Hospira Healthcare India Private Limited (“Hospira”) filed a notice under Section 6(2) of the Competition Act 2002; pursuant to the execution of a Business Transfer Agreement (“BTA”).

The CCI observed that the BTA contained a non-compete clause, which required Orchid and its promoter not to undertake certain business activities pertaining to the transferred business for a period of eight years and five years, respectively. The non-compete clause also restricted research, development and testing of Penem (including Carbapenem) and Penicillin API’ (Active Pharmaceuticals Ingredients) for injectable formulations. The CCI opined that non-compete obligations if necessary to be incorporated should be reasonable, particularly in respect of (a) the duration over which such restraint is enforceable; and (b) the business activities, geographical areas and person(s) subject to such restraint in order to ensure that such non-compete obligations do not result in an appreciable adverse effect on competition.  

The parties to this combination, offered modifications under the provisions of Regulations 19(2) of the Combination Regulations. The parties agreed to (a) limit the duration of the non-compete obligation to four years in relation to the domestic market in India; and (b) provide in the BTA that orchid shall be allowed to conduct research, development and testing on such new molecules, which would result in the development of new Penem (including Carbapenem) and Penicillin API’ for injectable formulations, which are currently not existent worldwide.

The CCI accepted the modifications offered by the parties and also directed them to make the necessary amendments in the BTA to incorporate the modifications.  The CCI approved the proposed combination under Section 31(1) of the Competition Act 2002. This decision of the CCI is helpful as it provides a basic framework as to how the CCI interprets non-compete obligations in an Indian context It is possible that the CCI may provide greater clarity in the treatment of non-compete clause in subsequent cases notified before it.

Drafting an Approriate Non-Compete Clause

The trend in Europe indicates that competition law regulators are keeping a keen watch on the use of non-compete clauses in M&A transactions. Non-compete clauses are of great commercial importance and parties must ensure that they are drafted in compliance with competition law.

The cases discussed above also serve to remind that the investigation into the non-compete obligations did not arise from complaints by third parties or competitors but was initiated by the EC itself.

Parties that wish to incorporate non-compete clauses should have a two-fold objective while drafting them i.e. non-compete clauses should be drafted appropriately not only to obtain a favorable merger clearance but also to avoid any anti-competitive concerns arising from the operation of such clauses. As a general rule, for non-compete clauses to be considered ancillary restraints they must be directly related and necessary for the operation of the transaction.

Some of the main points that parties could bear in mind while drafting non-compete clauses, include:

- the duration of the non-compete should be reasonable in length;
- the scope of the non-compete activity must relate to the particular economic activity in order to avoid broad non-compete obligations that prohibit competition outside the scope of the transaction;
- any restrictions imposed by the use of the non-compete clause must be  directly related and reasonably necessary for the implementation of the transaction;
- any geographic restrictions imposed by way of non-compete obligations must not operate as market-sharing arrangements; and
- in relation to India, the operation of the non-compete clause does not result in an appreciable adverse effect on competition.

It would be prudent for companies to engage competition lawyers early in the transaction, to carry a competitive analysis on the use of non-compete clauses. The analysis would help companies to identify the geographic coverage, required duration and the legitimate scope of the non-compete to ensure that the non-compete clause is drafted appropriately taking into account the possible anti-competitive effect such an obligation would have on the transaction.

- Soumya Hariharan

[Concluded]


[1] Orchid Chemicals/ Hospira Healthcare (C-2012/09/79)

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