It must have seemed an easy growth opportunity. Tobii, a Swedish business specialising in assistive communication solutions to help people with speech and language needs to communicate, spots an opportunity to boost its small presence in the UK by acquiring Smartbox, which operates in the same space.
After positive discussions, Tobii announces its proposed acquisition of Smartbox in August 2018. In its press release, Tobii claims that the acquisition "will further consolidate its market leading position and strengthen its sales channels in key geographical markets", and that, by integrating the two businesses, "we will have the strongest sales channels and the best products on the market".
Commensurately, Smartbox enters into a reseller agreement with Tobii, perhaps as a show of good faith in the run-up to completion. Under this agreement, Smartbox agrees to start selling Tobii's products in the UK and Ireland, and to stop selling certain of its own products as well as discontinuing certain research projects.
The acquisition is straightforward and, as a voluntary notification appears unwarranted, there is no CMA conditionality. On 1 October 2018, Tobii announces the completion of its acquisition of Smartbox.
One can imagine the parties celebrating a job well done – maybe even a toast to their lawyers for their pragmatism and commercial approach in not having made a fuss about UK merger control. Clients appreciate a no-nonsense approach and are understandably wary of lawyers advocating work that may prove unnecessary. Preparing a voluntary merger notification and making the deal conditional on clearance would have greatly added to the transaction cost and pushed the deal timetable out by several months. It would also have required split signing and completion, making the corporate mechanics more complicated.
We must assume the parties carefully considered the merits of informally approaching the CMA or notifying the CMA voluntarily before deciding not to do so. Perhaps they took comfort from the voluntary nature of the UK notification regime and that the parties only had a combined turnover of £7.8m in the UK – wholly insignificant compared to the major tech corporations that are regularly in the CMA's spotlight. Indeed, the total size of the UK market for augmentative and assisted communications fell comfortably below the CMA's £15m de minimis upper threshold.
Unfortunately, the failure to make the transaction conditional on merger clearance proved to be a major and costly miscalculation.
CMA asserts jurisdiction
The CMA has a specialist internal team that monitors M&A activity. If a transaction catches its eye, it has the power to request information from the merging parties to determine whether the transaction might satisfy the jurisdictional thresholds. Unfortunately for Tobii, the CMA team picked up news of the acquisition a few days before completion, enabling it to issue an information request to the parties on the day of completion.
Simultaneously, as is now routine for completed mergers, the CMA imposed an Initial Enforcement Order on Tobii, preventing Tobii from taking any action to integrate Smartbox or make any management changes. To all intents and purposes, despite completion having taken place, Smartbox became insulated from any interference from Tobii pending the outcome of the CMA's investigation. Moreover, the CMA required Tobii to appoint an independent monitoring trustee to ensure compliance – the costs of which were, of course, laid at Tobii's door.
On the back foot
It normally takes a substantial amount of time to draft and finalise a voluntary merger notification – not least, the notification has to be deemed complete by the CMA before it will start its formal Phase I review. An 8-12 week pre-notification process is common even for straightforward mergers. Complex merger notifications can take many months – even a year or more – to prepare and finalise. Unfortunately, with completed mergers, time is of the essence, as the CMA is under a statutory duty to have completed its Phase I review within four months of completion.
In this case, the CMA commenced its 40 working day Phase I investigation on 21 November 2018 – barely a few weeks after completion. In practice, this means that, beyond responding to detailed information requests from the CMA, there would have been little time for the parties to prepare a compelling clearance story – let alone one that was backed up by robust arguments and supporting economic evidence. In this way, simply by not having pre-notified the transaction, Tobii placed itself at a material disadvantage.
On 25 January 2019, the CMA case team concluded that the transaction should be referred to Phase II for an in-depth investigation. The case team found that – in line with Tobii's press release – the parties were leading suppliers of AAC technology and were each other’s closest competitor. The CMA was concerned that the merged company would face little competition, which could lead to a reduced range of products being offered, higher prices and fewer new products being developed.
Faced with the unenviable prospect of being locked into a very expensive and time-consuming six month investigation, Tobii put forward undertakings in an attempt to address the CMA's competition concerns, but without offering to divest Smartbox. Unfortunately, the CMA viewed the proposed remedies as inadequate.
On 8 February 2019, the CMA referred the transaction for a six month in-depth Phase II investigation. With no ability to walk away from the completed transaction, Tobii had no choice but to fight on.
Phase II nightmare
One of the first actions taken by the CMA at the start of Phase II was to make Tobii and Smartbox unwind the reseller agreement they had put in place in August 2018. It did this by issuing an Unwinding Order, a power which it has only rarely exercised. The Order required the immediate termination of the reseller agreement in respect of any new orders and required Smartbox to resume supplying a range of products that it had agreed not to supply under the reseller agreement and to reinstate various development projects that had been mothballed.
The CMA then proceeded with its detailed scrutiny of the transaction – a process which imposes a very substantial burden, in both time and money, on both businesses. After the CMA provisionally concluded that the transaction raised substantial competition concerns, Tobii put forward revised undertakings in an attempt to remedy the harm identified by CMA, but these were again rejected as inadequate.
On 15 August 2019, a year after contracts were exchanged, the CMA issued its final decision requiring Tobii to divest Smartbox to a buyer approved by the CMA unless undertakings acceptable to the CMA could be put forward to remedy the identified competition concerns.
Forced divestment now on the cards
After a further two months spent trying to put forward a set of undertakings acceptable to the CMA, while simultaneously lodging an (ongoing) appeal of the CMA's Phase II decision before the Competition Appeal Tribunal, the CMA announced on 2 October 2019 that it intends to exercise its powers to require Tobii to divest Smartbox to a purchaser approved by the CMA. Subject to third party comments, the CMA is expected to exercise its divestment powers imminently.
Subject to the outcome of its appeal, Tobii is facing the prospect of having to divest Smartbox to a buyer capable of meeting the CMA's approval criteria. As a forced sale subject to a tight timetable, achieving full market value will be difficult. Failure to have achieved a disposal within the CMA's stipulated deadline will result in an independent trustee being appointed to conduct a fire-sale.
There are numerous lessons worth learning from the Tobii/Smartbox saga. To highlight the more salient:
- Every M&A transaction should be reviewed at the outset for potential merger control issues. While most deals do not give rise to concerns, the CMA can define markets very narrowly and competition concerns can arise even in markets that fall within the CMA's de minimis
- A relatively modest amount of money incurred upfront conducting a proper merger control assessment can save substantial fees (and embarrassment) down the road. A full Phase II investigation is likely to cost the purchaser at least £1 million in professional fees (and often more). The seller can also expect to incur substantial legal fees, as the CMA will expect both parties to be separately represented.
- Where material overlaps are present, the input of competition economists is essential. The CMA's review is led by competition economists and they will expect the parties to have engaged a professional economics advisor.
- Just because a market appears to fall within the CMA's de minimis regime does not mean that it will escape CMA scrutiny.
- Defining markets for merger assessment purposes is rarely a straightforward exercise. The CMA will often consider multiple alternative definitions and will not necessarily decide which is the most appropriate definition until required to do so. It can be risky to take at face value assertions that a business is only a small player in a large overall market.
- In cases where a transaction qualifies for investigation, careful thought needs to be given as to the pros and cons of voluntarily notifying the transaction to the CMA. If the CMA asserts jurisdiction over a completed merger, the purchaser is likely to be placed at a material disadvantage, as there is very little time to develop a positive case for clearance.
- Seeking upfront merger clearance, and making the deal conditional on Phase I clearance, can be an effective way of mitigating the merger control risk.
- Where it is unclear whether the CMA will have jurisdiction and/or whether a notification is warranted, a briefing paper to the CMA can be a cost-effective way of testing the waters.
- Great care must be taken to avoid hostages to fortune in documents created by the parties and their advisers in the run-up to an acquisition. The CMA places considerable weight on the parties' internal documentation when trying to understand the commercial rationale for a transaction. The temptation to emphasise or, worse, overstate the parties' strengths in the market must be resisted at all costs.