On September 7, 2017, the European Court of Justice (ECJ) decided that, where joint control is acquired over a new or existing undertaking (or parts of an undertaking), that transaction can only fall within the scope of the EU Merger Regulation (EUMR) where the resulting entity will be ‘full-function.’
Under the current approach to ‘full-functionality’ this has significant negative implications for the certainty, timeliness and efficacy of the competition law treatment of joint ventures in the EU.
Joint Ventures Under EU Competition Law
The term ‘joint venture’ can be used to describe a very wide range of commercial arrangements. Joint ventures of all types are very common between competitors. They can allow sharing of costs, removal of overcapacity, sharing of risks on R&D projects, etc. The structures chosen can range from full mergers of complete businesses, through to looser contractual arrangements on joint R&D, production or distribution efforts.
Competition law obviously has a key role in regulating such arrangements. The primary objective of the law here (as elsewhere in antitrust) is to balance the efficiencies, if any, which are created against the loss of competition that results. The secondary objective is to do so as quickly, decisively and cheaply as possible while minimising both over- and under-enforcement errors.
None of those objectives imply that competition law has a strong interest in how the parties bring about their transaction. However, the EU has chosen a system of competition law that regulates joint venture transactions in two very different ways. Which category a given joint venture falls within depends on how it has been structured.
First, joint ventures which give rise to a significant structural change on the market and are full-function amount to a ‘concentration’ and are capable of being reviewed under the EUMR provided the parties meet the applicable turnover thresholds. This route is (relatively) fast, offers a definitive answer (even if subject to the possibility of appeal), covers the whole of the EU and benefits from a well understood and accepted standard of review.
Second, anything else falls to be reviewed under the EU antitrust rules (specifically, Article 101 of the Treaty on the Functioning of the European Union which prohibits anticompetitive agreements between undertakings) and potentially also under national merger control rules in the EU (e.g. in Germany, Austria, Poland and UK which take a different approach to notifiable joint ventures than the European Commission). This route is slow, unlikely to ever offer a definitive answer, allows divergent answers to the same transaction (across both time and geographical dimensions) and has a much more uncertain and difficult standard of review.
Unsurprisingly, the first route is more popular with parties. It is also more likely to achieve the objectives of the law more broadly. A joint venture under the second route is less likely to proceed and carries greater legal risk—potentially undermining investment and pro-competitive (or neutral) transactions.
Establishing Jurisdiction Under the EU Merger Rules
The EUMR provides that a ‘concentration’ arises where one or more undertakings acquire control of the whole or parts of another undertaking. In addition, the EUMR also provides that the creation of a joint venture performing on a lasting basis all the functions of an autonomous economic entity constitutes a ‘concentration’ (this is referred to as the ‘full-function’ test).
The interaction of these provisions can be confusing. What happens in a joint venture when ‘parts’ of the parent’s business are put into the JV—those ‘parts’ have gone from being solely controlled by one parent to being jointly controlled by both. Is this sufficient or do we also need to be ‘full-function’ as well?
The precise interplay between these two provisions has long been the subject of debate. The Commission has also not always been consistent in its approach: in some cases it has applied the full-functionality criteria whereas in others it has not.
The ECJ has now answered this question in the Austria Asphalt case.
The Austria Asphalt Case
In 2015, Austria Asphalt (AA) notified to the Austrian competition authority its proposed purchase of a 50% stake in an asphalt mixing plant located in Mürzzuschlag, Austria. The plant is currently solely owned by another construction company, Teerag Asdag AG (TA). The plant produces asphalt for road construction and supplies its production almost exclusively to TA. The parties’ intention was to form a joint venture to own and operate the plant and for the production to be shared among them (not sold to third parties). It has always been accepted that this arrangement is not a ‘full-function’ joint venture.
The proposed transaction was referred to the Austrian cartel court for an in-depth investigation under the Austrian merger control rules. The court refused to hear the case on the basis that it considered that the transaction fell within the exclusive merger control jurisdiction of the EU—notwithstanding its lack of full-functionality.
AA appealed to the Austrian Supreme Court. In doing so, AA cited a ‘comfort letter’ it had obtained from the European Commission’s competition directorate. This said that the transaction did not fall within the ambit of the EUMR—because it was not full-function.
The Austrian Supreme Court then sought a ruling from the ECJ. The ECJ was asked whether “Article 3(1)(b) and Article 3(4)…should be interpreted to mean that a move from sole control to joint control of an existing undertaking in circumstances where the undertaking previously having sole control becomes an undertaking exercising joint control constitutes a concentration only where the controlled undertaking has on a lasting basis all the functions of an autonomous entity?”
Unhappily for the parties, during the ECJ proceedings the Commission advocated the opposite approach to the view expressed in its earlier comfort letter. This time the Commission said that at all transactions involving a lasting change in the control of an existing joint venture (or the change of an existing undertaking into a joint venture controlled by two companies) should be subject to the EUMR irrespective of whether the joint venture is full-function.
In a non-binding opinion issued in April 2017, Advocate General Kokott said the Commission’s position was wrong, stating that “if an establishment does not have an autonomous presence on the market, it follows that any change in the control structure of that establishment cannot have the effect of changing the structure of the market.” A-G Kokott did not share the Commission’s concern that the application of the full-functionality criteria could lead to an enforcement gap, observing that this approach would risk “diluting the concept of concentration within the meaning of [the EUMR] and diverting the Commission’s attention from the transactions that are truly relevant from the point of view of the structure of the market.”
The ECJ’s ruling is consistent with A-G Kokott’s opinion, finding that joint ventures must only be included within the ambit of the EUMR “if they perform on a lasting basis all the functions of an autonomous economic entity.” To conclude otherwise “would lead to an unjustified difference in treatment between…undertakings newly created as a result of the transaction in question…and undertakings existing before such a transaction” as the former would only constitute a concentration if they were full-function whereas the latter would constitute a concentration regardless of full-functionality.
The ECJ dismissed the Commission’s argument that such a ruling would produce an enforcement gap as the opposite interpretation would “effectively extend the scope of the preventative control [of the EUMR] to transactions which are not capable of having an effect on the structure of the market.” Joint ventures falling below the full-function threshold will instead continue to be subject to the control of the Commission under the existing antitrust rules.
Consequences of Having to Be Full-Function to Qualify for EU Merger Review
The ‘full-function’ threshold is quite onerous. It means that the joint venture must be operationally autonomous. Over time this has been developed in Commission practice and guidance to mean that the joint venture must have sufficient resources to operate independently on a market (i.e. management dedicated to its day-to-day operations and sufficient access to finance, staff and tangible/intangible assets). The joint venture will not be full-function if it simply takes over one specific function within the parents’ business activities; it must have access to or its own presence on a market. Substantial sales/purchases with the parents beyond an initial start-up period can indicate that a joint venture is non full-function.
All the full-function criteria speak to the commercial deal underlying the JV—in other words how the joint venture is to be structured. Does it hire its own staff? Can it raise its own finance? What will the commercial supply and purchase relationships with its parents be? How will the parents divide the profits? These are important commercial issues but they have no direct nexus to the central competition law question—being ‘considering the balance between the efficiencies and the loss of competition should the transaction be permitted.’ This is apparent from Austria Asphalt itself—the controversy was purely jurisdictional. The impact the transaction has on competition is unaffected by whether it is considered full-function or not and no one in the case claimed otherwise.
The ECJ’s decision in Austria Asphalt means that either parties structure their joint ventures to be ‘full-function’ or they fall to be considered under the normal antitrust rules. Because of the significant practical differences between these two choices, in effect, competition law strongly incentivises parties to change their transactions for reasons that have nothing to do with the objectives of competition law.
Although exacerbated by the ECJ’s decision, this is a structural issue in the design of the system. However, there are steps the Commission and parties can take to ameliorate the consequences. This was what the Commission was trying to do (or at least was a consequence of what it was trying to do!) in its submissions to the ECJ.
The Commission has significant discretion over how the full-function criteria are applied. The exercise of this discretion is also not in reality subject to judicial control—Austria Asphalt is the first time the issue has been considered by the ECJ since the EUMR came into force 27 years ago. Further, the ECJ did not refer approvingly (or at all) to the Commission’s current jurisdictional guidelines where all the detailed criteria for establishing full-functionality are listed. The A-G did, but only to dismiss their significance. Instead, the ECJ referred to changes in the market structure as the guiding principle. There are joint ventures which alter market structure—meaning that they change the choices available to market participants—but whose internal structuring arrangements do not meet the current full-functionality test (for example, due to reliance on staff secondments or excessive purchasing of supplies from parent companies). It should be possible for the Commission to refocus the full-functionality criteria on changes to market structure so that as many joint ventures as possible could have the competition law question considered under the much more effective merger regime.
In the meantime, competitors anticipating a joint venture in Europe would be wise to think early and deeply about the ‘full-functionality’ test and whether / how it might be possible to structure a transaction to fall within it.