We have previously written to our clients about the importance of complying with the requirements of the Hart-Scott-Rodino Antitrust Improvements Act of 1976, as amended (the “HSR Act”) when building positions that may become activist in the future. [“Antitrust Filing Mistakes Can Cost Activists“]. On August 24, 2015 the United States Federal Trade Commission (the “FTC”) made a public announcement that forcefully drove home just how critical it is for hedge funds-particularly hedge funds with a history of activism-to steer clear of unforced errors in this area.
Specifically, the FTC announced that Third Point LLC and three affiliated hedge funds (collectively, “Third Point”), agreed to settle FTC charges that Third Point incorrectly relied on the “investment only” exception, and therefore violated premerger reporting laws under the HSR Act in connection with Third Point’s 2011 acquisitions of stock in Yahoo! Inc. (“Yahoo”). The FTC vote to refer the complaint and proposed settlement to the U.S. Department of Justice (the “DOJ”) for filing in federal court was 3-2. However the agencies determined not to seek civil penalties in this case based on several factors, including that the violation was inadvertent and short-lived, and this was Third Point’s first violation of the HSR Act.
The complaint filed by the FTC and the DOJ (the “Complaint”) alleges that Third Point failed to observe the filing and waiting requirements of the HSR Act before purchasing shares in Yahoo because their conduct was not “solely for investment purposes”. Specifically, the Complaint alleges that at the time of the stock purchases, defendant Third Point LLC, which made investment decisions on behalf of the funds, was taking actions inconsistent with an investment-only intent, such as communicating with third parties to determine their interest in becoming the CEO or a board candidate of Yahoo.
The “investment only” exemption from an HSR filing exempts acquisitions of up to ten percent of voting securities if they are made solely for investment purposes, which the FTC has historically viewed quite narrowly. Otherwise, the HSR Act generally requires that companies and individuals notify the FTC and the DOJ of most large transactions that affect commerce in the United States. According to one FTC commissioner, “[t]he investment-only exemption is a narrow exemption limited to those situations in which the investor has no intention to influence the management of the target firm,” however, under these circumstances, “Third Point’s conduct demonstrated that it intended to have more than a passive interest in Yahoo, which obligated its affiliated funds to make an HSR filing and wait before acquiring its shares.”
Under the terms of the stipulation and the proposed five-year federal court judgment order (the “Proposed Order”), Third Point is prohibited from relying on the investment-only exemption in connection with any acquisition of voting securities of an issuer subject to the HSR Act if, (x) at the time of making such acquisition or (y) for the four (4) months preceding such acquisition, they’ve taken any of the following actions:
1. Nominated a candidate for the board of directors of such issuer;
2. Proposed corporate acquiring requiring shareholder approval with respect to such issuer;
3. Solicited proxies with respect to such issuer;
4. Have, or have an “Associate” (as defined in the HSR Act) that has, a controlling shareholder, director, officer or employee who is simultaneously servicing as an officer or director of such issuer;
5. Are competitors of such issuer;
6. Have done any of the activities identified in items 1 to 4 with respect to, or a competitor of, an entity directly or indirectly controlling such issuer;
7. Inquired of a third party as to his or interest in board membership and/or acting as chief executive officer of such issuer (a “Board or Management Representation”) and did not later engage in a statement that Third Point is not pursuing such Board or Management Representation (“Abandonment”) and communicate such Abandonment to the third party, unless Third Point can show that such activities occurred without the knowledge of management of the defendant with authority to act in respect of such Board or Management Representation;
8. Sent a written communication to, or initiate any oral communication with, such issuer regarding Board or Management Representation by persons employed by, affiliated with, or advanced by Third Point and did not later engage in Abandonment and communicate such Abandonment to such issuer, unless Third Point can show such activity occurred without the knowledge of the management of the defendant with authority to act in respect of such Board or Management Representation; or
9. Assembled in writing a person or group of persons for possible Board or Management Representation if defendants were acting through, instructed by, or with the knowledge of the defendant’s management with authority to act in respect of such Board or Management Representation and did not later engage in Abandonment of such plan.
In addition, Third Point is required to take certain steps, including appointing a compliance officer on a continuing basis to supervise the review of current and proposed activities to ensure compliance with the Proposed Order. The DOJ, as part of ensuring compliance with the Proposed Order, was given certain access and inspection rights to Third Point and its personnel.
In our view, the Proposed Order offers some key takeaways for investors, particularly activist hedge funds:
• The Proposed Order suggests that the FTC and DOJ are concerned with non-passive activity a full four months in advance of acquiring voting securities in a “covered acquisition”;
• The regulators’ habit of not seeking monetary penalties for first time HSR violations implies that monetary penalties would be assessed for subsequent violations;
• The FTC remains keenly focused on compliance by activist funds as they build their ownership positions;
• Even tentative preliminary actions, such as exploring whether qualified people would be potentially interested in a board or executive position, are interpreted by the FTC as inconsistent with the passive intent necessary for an investor to avail itself of the investment-only exemption. This highlights that an investor need not be in communication with a public company for its conduct to be seen as unacceptably active; and
• The FTC shows no signs of creating safe-harbors for the investment-only exemption, preferring instead to interpret the exemption narrowly and amorphously while forcing investors to struggle to understand what is permissible by gleaning clues from periodic enforcement actions.
For additional information, see the FTC statement here, as well as the Stipulation here and proposed Final Judgment here. The Complaint may be found here and the FTC opinion to refer the Complaint to the DOJ is located here.