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What do you need to do?Develop a comprehensive regulatory strategy to achieve merger clearance by the Chinese authorities.
Martyn Huckerby (贺墨亭)
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Martyn Huckerby (贺墨亭)
Partner
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Stuart Valentine
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Dave Poddar
China’s Ministry of Commerce (MOFCOM) announced yesterday that it has rejected Coca-Cola Company’s US$ 2.4 billion bid to buy China Huiyuan Juice Group Limited (Proposed Concentration). This is MOFCOM’s first publicly announced decision to reject a merger since the Anti-Monopoly Law (AML) came into effect on 1 August 2008. The decision provides some important policy or regulatory guidance in relation to the measures that firms contemplating investing in China can take to obtain Chinese regulatory approvals.
Highlights
- While MOFCOM blocked the deal on competition grounds, any proposal to acquire a Chinese national brand will need to be carefully considered. MOFCOM has stressed that this is the only transaction to have been blocked under the AML (out of the 29 merger notifications it has so far accepted for review).
- The impact of a transaction on smaller competitors and the potential for job losses are a major concern for MOFCOM. These concerns may have been heightened with the global financial crisis.
- Flexibility will be the key to completing transactions. MOFCOM had sought to negotiate conditional clearance with Coca-Cola. This follows the conditional clearance that MOFCOM negotiated with InBev over its acquisition of Anheuser Busch. Conditional clearance may well be the norm rather than the exception for high-profile transactions.
Background and merger review process
Huiyuan is a fruit and vegetable juice business founded in 1992. It has grown into a leading brand in China’s beverage industry. In February 2007, Huiyuan successfully listed on the Hong Kong Stock Exchange. In its 2008 Interim Report, Huiyuan claimed to supply 43.8% of the China juice market.
Coca-Cola announced its bid for Huiyuan on 3 September 2008, conditional on Chinese regulatory approvals. According to Coca-Cola, Huiyuan’s juice beverage brand is highly complementary to Coca-Cola’s sparkling beverage and still beverage brands. Coca-Cola also anticipated synergies in Huiyuan’s production footprint and Coca Cola’s distribution and raw material purchasing capabilities.
Under the AML, pre-merger clearance is compulsory for any merger that meets certain turnover thresholds even if the merger is between complementary businesses. On 2 December 2008, Coca Cola announced (in a joint statement with Huiyuan to the Hong Kong stock exchange) that it had submitted a formal application to MOFCOM for approval. Under the merger clearance process, MOFCOM had 30 days to review the transaction on a preliminary basis, followed by a further review period of 90 days (extendable by a further 60 days) if more time is required.
MOFCOM’s announcements yesterday reveal that MOFCOM received Coca-Cola’s merger filing on 18 September 2008, and formally accepted it about two months later. On 20 December 2008, MOFCOM decided to conduct a further merger review. From the date on which MOFCOM accepted the filing to when the final decision was concluded, the total time taken to review Coca-Cola’s bid for Huiyuan was around 120 days.
The following table summarizes the timing of the relevant milestones for this matter based on the information available to the public and MOFCOM’s announcements:
The decision by MOFCOM on 18 March 2009 comes shortly before Coca-Cola’s bid for Huiyuan was to expire on 20 March 2009.
MOFCOM’s decision to reject the deal
MOFCOM’s published decision to reject the deal focuses on concerns that the Proposed Concentration would adversely impact competition. On completion of the Proposed Concentration, Coca-Cola could take advantage of its dominant position in the carbonated soft drinks market by selling juice beverages through sales arrangements involving tying or bundling , or by imposing other exclusive trade conditions, resulting in consumers being forced to accept higher prices or a more limited product selection. MOFCOM also considered branding to be a major factor affecting competition on the beverages market. In particular, Coca-Cola’s control of the two well-known juice brands “Minute Maid” and “Huiyuan” after the proposed acquisition would increase the barriers for potential competitors to enter the market. Furthermore, MOFCOM considered that the Proposed Concentration will threaten the survival of small and medium-sized domestic juice manufacturing enterprises, and negatively influence the competitive situation in China's juice drinks market.
MOFCOM appears to have identified a market for carbonated soft drinks that is separate from a market for juice beverages. If these are in fact separate markets, it is not obvious that the Proposed Concentration would eliminate or restrict competition. That said, Coca-Cola owns the “Minute Maid” brand which MOFCOM had identified as a famous fruit juice brand in China. MOFCOM’s concerns about Coca-Cola imposing tie-in or bundling arrangements and other exclusive trade conditions perhaps indicates that carbonated soft drinks and juice beverages are supplied through substantially the same channels. However, MOFCOM has not provided any information on the extent of channel overlap between carbonated soft drinks and juice beverages. Without more information, it is difficult for external observers to determine whether MOFCOM’s concerns about tie-in sales and exclusive trade conditions are justified.
MOFCOM’s view that Coca-Cola is dominant in the market for carbonated soft drinks reflects the relatively low threshold for dominance in the AML. Under those thresholds, Coca-Cola would be regarded as having a dominant position if its market share exceeds 50%, or if Coca-Cola together with PepsiCo supply at least two thirds of the market for carbonated soft drinks.
Negotiations between MOFCOM and Coca-Cola on conditional merger clearance
Under the AML, MOFCOM may approve the Proposed Concentration subject to conditions. In its decision MOFCOM refers to a request for Coca-Cola to propose conditions that would address the impact of the Proposed Concentration on competition. Further, MOFCOM noted that the plan proposed by Coca-Cola failed to reduce the adverse impact on competition caused by the Proposed Concentration, and it also failed to prove that the Proposed Concentration is in the public interest. MOFCOM did not provide details on what conditions had been proposed and why those conditions did not address its concerns. However, recent public speculation has suggested that MOFCOM was seeking to make clearance conditional on Coca-Cola divesting the Huiyuan brand, which would have been commercially unattractive to Coca-Cola given the importance of the brand in retaining goodwill.
Under the AML, Coca-Cola may seek administrative review of MOFCOM’s decision. If the outcome of the administrative review is not satisfactory, Coca-Cola may take administrative action against MOFCOM at the People’s Court. However, Coca-Cola’s public reaction to MOFCOM’s decision suggests that Coca-Cola has accepted MOFCOM’s decision and will not be seeking to have the decision reviewed. Mr Muhtar Kent, the CEO of Coca-Cola, was quoted in its press release, as saying that “We are disappointed, but we also respect [MOFCOM]’s decision…We will now focus all of our energies and expertise growing our existing brands and continuing to innovate with new brands, including in the juice segment.”
Implications for M&A transactions involving China
MOFCOM has sought to put its decision to block Coca-Cola’s bid for Huiyuan in a broader perspective. Since the AML came into effect on 1 August 2008, MOFCOM had received 40 notifications for merger clearance, 29 of which had been accepted for review. To date, MOFCOM had completed reviewing 24 notifications and approved 23 of them without conditions. In November 2008, MOFCOM cleared InBev’s acquisition of Anheuser Busch subject to conditions, but was unable to give conditional clearance to Coca-Cola’s bid for Huiyuan.
It is difficult to assess the significance of the fact that MOFCOM has unconditionally cleared most merger notifications reviewed to date. The merger notification thresholds under the AML are based on turnover rather than market concentration. This means that many (if not most) transactions that must be notified under the AML are unlikely to eliminate or restrict competition. Consequently, we would expect conditional clearance or opposition to a concentration to be the exception rather than the rule.
MOFCOM has, however, offered an olive branch to potential investors in the form of a suggestion that if investors are prepared to offer commitments to address MOFCOM’s concerns, clearance is likely to be forthcoming. MOFCOM has clearly distinguished its decision to block Coca-Cola’s proposed acquisition from its approval of InBev’s acquisition of Anheuser-Busch on the basis of the undertakings that InBev provided to MOFCOM in relation to obtaining consent for future investment in China.
MOFCOM also emphasized that it had consulted extensively with upstream suppliers, downstream customers, Chinese partners of Coca-Cola, and legal, economic and agricultural experts. This is consistent with MOFCOM’s increasing reliance on the views of third parties in reaching decisions on proposed concentrations under the AML.
MOFCOM’s merger review process - lessons and implications
The way MOFCOM reviewed Coca-Cola’s application for merger clearance has important implications for interested observers, including firms involving in M&A activity in China. There are arguably some weaknesses in the review process, particularly in relation to transactions where MOFCOM has identified competition concerns. The weaknesses relate primarily to transparency and speed. In cases where significant competition concerns have been identified, it is common practice among competition regulators to issue a detailed public statement identifying the competition concerns, and inviting interested parties to comment on those concerns. This approach would go a long way to instilling public confidence in MOFCOM’s decisions. Had MOFCOM taken this approach in Coca-Cola’s bid for Huiyuan, it could have limited unjustified criticisms that MOFCOM’s decision to oppose the bid is influenced by considerations going beyond competition concerns.
It is not clear how much time Coca-Cola had been given to address MOFCOM’s concerns. As significant delays can undermine the commercial viability of M&A deals, it is critical for MOFCOM to act expeditiously, especially when it identifies significant competition concerns. Otherwise, the notifying party may not have a realistic opportunity to address concerns raised by MOFCOM.
Coca-Cola’s bid for Huiyuan is a reminder that the merger clearance process under the AML has a potentially broad reach and parties should engage with Chinese authorities early to ensure that there is enough time to address any competition concerns that they may identify.
Developments to watch
We understand that the State Administration of Industry and Commerce (SAIC) will shortly issue implementation rules in relation to monopoly agreements and abuses of a dominant market position, which are both prohibited under the AML. These measures will further assist firms with operations in China better understand their obligations under the AML, and may lead to a commencement of vigorous enforcement action by the SAIC.
Sources:
MOFCOM Announcement, published on 18 March 2009.
MOFCOM Announcement No.22 [2009], published on 18 March 2009.
The views set out in this publication are based on our experience as international counsel representing clients in their business activities in China. As is the case for all international law firms licensed in China, we are authorised to provide information concerning the effect of the Chinese legal environment. However we are not admitted to practice Chinese law and so are unable to issue opinions on matters of Chinese law.
This publication is only a general outline. It is not legal advice. You should seek professional advice before taking any action based on its contents