Non-compete clauses have always formed an important part of the merger review by the Competition Commission of India (CCI). In fact, in one form or another, these clauses form an integral part of a majority of the transaction documents and are usually negotiated heavily between the parties to a transaction. Previously, competition lawyers had to undertake a detailed assessment of the competition law implications of a non-compete clause with the aim of anticipating and allaying any concerns that might be raised by the CCI during the merger review process. As such, detailed examination/self-assessment has been a key exercise for competition lawyers while advising their clients on the scope of the non-compete restrictions keeping in mind the decisional practices of, and parameters set by, the CCI.
On May 16, 2020, the CCI proposed to amend the existing Competition Commission of India (Procedure in regard to the transaction of business relating to combinations) Regulations, 2011 (Combination Regulations) by removing the requirement of a detailed explanation and justification of the non-compete restrictions amongst the parties in the notification form (Proposed Amendment). With this proposal, the CCI has invited public comments. This article examines the implications of this Proposed Amendment.
Presently, the CCI requires the non-compete clauses to be “ancillary restraints”, i.e., restrictions, which are directly related and necessary to a transaction, entered into amongst the parties and thus, such non-competes are approved with the transaction by the CCI. These thresholds/parameters for “ancillary restraints” were initially established by decisions of the CCI, and were later cemented into the official guidance on non-compete restrictions.
2011- 2017- Treatment of the non-compete restriction by the CCI
Ever since the Combination Regulations were notified in 2011, the focus of the CCI was on non-compete clauses and the majority of the transactions involving such clauses were concluded by imposing remedies to address concerns on such non-compete restrictions. From 2011-2017, in over 15 cases, the CCI accepted commitments in relation to non-compete provisions. In Orchid Chemicals, the first ever case on non-compete clause, the CCI stated that a non-compete obligation had to be reasonable as regards its duration, and the business activities, geographical areas and persons subject to the restraint. In other cases, the CCI accepted modifications by reducing the term of non-compete obligations from 8 years to 6 years or 4 years. In the pharmaceutical sector, the CCI accepted commitments to limit the non-compete to products that were actually manufactured or under development. Further, in the private equity space, the promoters of the target entity have accepted non-compete obligations until either the acquirer/investor group ceases to hold 10% or the promoter ceases to hold 5% of the shares in the target entity. The CCI has accepted commitments to increase the minimum level of shareholding, as far as the acquirer is concerned, to 10%.
2017- Introduction of the Guidance
In July 2017, the CCI consolidated its views on non-compete restrictions established in in its precedents, and formalised it into a guidance on non-compete restrictions (Guidance). The Guidance highlights that non-compete restrictions will be regarded as “ancillary” only where they are directly related and necessary for the implementation of a transaction. Where a non-compete restriction proposed by the parties is ancillary, the CCI’s order approving such a transaction under the Competition Act, 2002 (Competition Act) is deemed to cover the non-compete restriction.
To elaborate, a restriction is considered to be directly related when it is economically related to the transaction and is intended to allow a smooth transition to the post-transaction scenario. The necessity of a non-compete restriction should be assessed in terms of whether, in the absence of such restriction, the transaction can be implemented or whether it will be more onerous on the parties. If the answer is no, then such non-compete restriction will be necessary for the implementation of the transaction. The CCI also requires that such restrictions should not exceed what is reasonably required and, if alternatives are available, the one least restrictive of competition should be adopted.
Broadly, the Guidance sets out the below parameters:
The necessity and proportionality of a non-compete restriction is assessed by taking into account its duration, subject matter, geographic field of application, scope of application and nature of business;
The duration of a non-compete is generally justified for a period of up to 2 years in case of transfer of goodwill, 3 years in cases of transfer of goodwill and know-how, and, in cases of establishment of a joint venture (JV), the non-compete can be standing for the duration of the JV;
The scope of the non-compete should be restricted to the products/services which comprise the main activity of the parties, including products at advanced stages of development or yet to be launched into the market; and
If the CCI is of the view that the non-compete restriction is not ancillary to a transaction, as the restriction fails to meet the above parameters, it will mention this in its detailed order. The CCI’s finding that a non-compete restriction is not ancillary to a transaction does not mean that the restriction will be deemed to be anti-competitive. Instead, in such a scenario, the restrictions will be subject to examination under Sections 3 and 4 of the Competition Act, which respectively prohibit anti-competitive agreements and abuse of a dominant position. Accordingly, if the parties apply more restrictive conditions than those permitted in the Guidance, they need to be mindful of the heightened risk of a future enforcement action by the CCI.
Trend analysis in the last 2 years under the assessment regime of the Guidance
In the last 2 years since the issuance of Guidance on non-compete, the trends in the CCI reviewing the non-compete clauses are:
The CCI has not passed any order explicitly stating that a non-compete restriction is “ancillary”;
In approximately 25 cases, the CCI has found the entire non-compete clause/its duration/ its scope (including business scope, scope of products/services and geographic scope) to be “not ancillary”. The CCI’s orders are silent on the reasoning for finding that a clause is not ancillary; therefore, the parties have needed to independently assess the impact of the non-compete restrictions under Section 3 and/or 4 of the Competition Act; and
Where the CCI has explicitly mentioned that the non-compete restriction is not ancillary to the transaction, it has not required parties to modify non-compete restrictions.
What does the Proposed Amendment entail?
At present, notifying parties using the short Form I are required to give information on and justify non-compete restrictions. The CCI has proposed to omit paragraph 5.7 of Form I (short form) which seeks information on any non-compete obligation, covering ‘duration, scope in terms of persons, product(s)/service(s) and territory(ies) and corresponding justification’. The CCI has stated that prescribing a general set of standards for assessment of non-compete restrictions may be not be appropriate in modern business environments and that, although it may be possible to conduct a detailed examination on a case to case basis, the approach may not be feasible considering the timelines for combination cases. This is a very welcoming and business friendly approach as the CCI has addressed the commercial realities and the dynamic nature of businesses (i.e., “one size does not fit all” approach). Further, this will provide the parties flexibility in determining non-compete restrictions, whilst also reducing the information burden on them.
However, the parties will continue to be responsible for ensuring that their non-compete arrangements are compliant under the applicable competition laws including the Guidance. The CCI has emphasized that any competition concerns that may arise from non-compete restrictions prohibiting anti-competitive agreements and abuse of dominant position can be assessed under Section 3 and/or Section 4 of the Competition Act, respectively. As such, while the CCI has introduced a less onerous step for the parties to detail their non-compete restrictions while seeking prior approval of the transaction, the parties are not, in any manner, being exempted from indulging in anti-competitive activities. This obligation of self-assessment in relation to Sections 3 and 4 of the Competition Act was in any case being exercised by the parties where there was a risk that the non-compete provision might not be regarded as ancillary. The proposed amendment simply reiterates the CCI’s current approach and removes the onus on the parties to provide details of the non-compete restriction in the notification form.
This is a welcome change, which is in line with the CCI’s newfound approach on fostering a self-assessment regime to be adhered to by the parties with inputs from their counsels. It no longer requires the parties to provide detailed information and justifications of a non-compete clause in the filing. Regardless, the CCI will still have access to any non-compete clauses since the transaction documents will be provided by the parties in their entirety.
The parties will have to self-assess whether any such non-compete restraints: (i) do not follow the requirements for ancillary restrictions under the Guidance; and (ii) can pose any issues under Section 3 and/or Section 4 of the Competition Act. In light of the proposed amendment, although the CCI would not make any observation about the clause from a merger control standpoint in its detailed order (while approving a transaction), the clause is still subject to an enforcement action by the CCI if it breaches the provisions of the Competition Act. The fact that details regarding the non-compete clause are not required to be provided upfront as part of the merger filing does not remove the clause from the scope of an antitrust scrutiny under Sections 3 and/or 4 of the Competition Act.
Further, this relaxation will also open up opportunities for dynamic and other stable industries (where customer loyalty is for a longer period or an industry which is highly capital intensive) to justify a longer non-compete period.
In other words, for the last 2 years the parties have been in any case undertaking a comprehensive self-assessment of the non-compete restrictions incorporated in the transaction documents including whether arrangements comply with the provisions of the Competition Act. Nonetheless, the CCI has in several instances considered the non-compete to be not ancillary to the transaction without providing any analysis. Hence, the Proposed Amendment of the CCI makes the process more efficient without compromising on the need for the parties to undertake a holistic antitrust assessment of the non-compete restrictions in merger cases.
The author is a Partner at Shardul Amarchand Mangaldas. The author was assisted by Kajori De and Ritika Sood Associates, Competition Law, Shardul Amarchand Mangaldas & Co.
Disclaimer: The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances. Further, the views in this article are the personal views of the author.