Killer Acquisitions: A New Frontier For The CCI?

While a progressive move, the proposed approach necessitates the creation of a distinct legal framework that can navigate the dynamic and ever-evolving digital market, characterized by rapid innovations, networking effects and data-centric business models. This requires abandoning the 'traditional' ex-post approach i.e., intervening after the abuse has already taken place,^[2] and adopting the more 'proactive' and 'futuristic' ex-ante approach towards competition regulation thereby, venturing down a rabbit hole of probabilities and counterfactuals which significantly increases the complexity of this endeavor.

Nonetheless, with the digital sector currently dominated by a handful of 'behemoth' firms, the Central Government has the opportunity to play a pivotal role in facilitating the creation of a more equitable environment for start-ups and protect consumer interests by bringing killer acquisitions within the purview of the CCI.

Against this backdrop, this article aims to elucidate and explore the concept of killer acquisitions within the specific context of the digital market and proposes policy recommendations that may be considered while drafting the provisions pertaining to this harmful practice.

What is a killer acquisition?

A killer acquisition refers to the strategic practice adopted by firms dominating their relevant sectors, to acquire smaller, innovative firms with the intention to 'kill' the latter's product rather than imbibe it within their portfolio.

The rationale behind this decision is simple: in any given market, the dominant firm has a lesser incentive to invest in product innovation since, it requires substantial expenditure on research and development (“R&D”) – a process, which may or may not yield favorable results.^[3]

Given this reluctance to further develop its product, the dominant firm, in a bid to protect its market share, chooses to acquire nascent innovative firms to prevent their inventions from cannibalizing the profits from its existing product.^[4]

In other words, rather than investing in R&D, the dominant firm has a stronger incentive to acquire a pioneering start-up and terminate their overlapping innovation to “stem the gale of creative destruction”^[5] and eliminate future competitive pressure.

Pertinently, such acquisitions fall below the asset value or turnover threshold that necessitate regulatory approval, thereby circumventing anti-trust scrutiny. This phenomenon is particularly inherent in the digital market, where start-up firms, characterized by low turnovers and a minimal asset base, escape the regulatory radar when acquired by larger, more dominant firms.^[6]

The primary reason for such negligible turnover/asset base stems from their decision to prioritize goodwill building and user growth by spending most of their investments in marketing and R&D during the formative years of their existence. Even when the commercialization of their product begins, turnover may remain modest, especially when the start-up continues to offer its product for 'free'^[7] i.e., consumers provide data instead of money in exchange for using the startup's product.

Consequently, consumers are deprived of both – the fruits of innovation and the advantages of competition as the market becomes increasingly concentrated.

One notable example of a potential killer acquisition that eluded the CCI's scrutiny was the acquisition of Uber Eats India by Zomato in January 2020. At the time, Uber Eats India was operating at a loss of USD 244 million^[8] and therefore, did not meet the turnover threshold laid down under Section 5(a) of the Competition Act, 2002 (“Act”). Resultantly, the CCI was powerless to intervene in an acquisition, which ultimately led Uber Eats India to discontinue its operations and Zomato to increase its market share to 55%.^[9]

Overview of the relevant thresholds under the existing regulatory framework

Presently, acquisitions are regulated by the CCI under Sections 5 and 6 of the Act. Any transaction that exceeds the specific thresholds enshrined in Section 5(a) must mandatorily be notified to the CCI.^[10] Thereafter, the CCI assesses whether the transaction causes or is likely to cause an appreciable adverse effect of competition (“AAEOC”) in the relevant market. If the regulator determines that the acquisition could cause/is likely to cause an AAEOC, it can prohibit the transaction^[11] or, call for modifications to eliminate the AAEOC.^[12]

Pertinently, the aforementioned threshold requirements are limited to either the value of assets owned by the parties or the turnover of the parties. Notably, these thresholds were enhanced by 150% of their original value vide MCA Notification S.O. 1130(E), dated March 7, 2024.

For the sake of convenience, the table below outlines the new thresholds:

However, as pointed out earlier, it was noted that there was an imperative need for an ex-ante assessment of acquisitions in the digital market since, most of the target firms in these acquisitions had negligible turnovers and/or an inadequate asset base which failed to trigger the thresholds under Section 5(a).^[13] Therefore, in the absence of any residuary discretionary powers, as seen in Brazil and the USA, it was concluded that the CCI lacked the jurisdiction to assess non-notifiable transactions.^[14]

To address this lacuna, inspiration was drawn from the deal-value-threshold (“DVT”) introduced in Germany^[15] and Austria^[16]. As per this mechanism, any acquisition exceeding the prescribed transaction value threshold (Germany: EUR 400 million and Austria: EUR 200 million), involving a target undertaking with substantial operations in Germany/Austria, would automatically trigger a review by the competition regulator.

In light thereof, Section 6 of the Competition (Amendment) Act, 2023 (“2023 Amendment”) sought to introduce a DVT threshold, stipulating that any acquisition transaction exceeding INR 2,000 crore involving a target enterprise with substantial operations in India would automatically fall within the purview of the CCI's jurisdiction. Pertinently, a plain reading of the Explanation clause of the provision clarifies that the term 'value of transaction' is a 'catch-all provision' that includes every valuable consideration, whether direct or indirect.

Unfortunately, Section 6 of the 2023 Amendment has not yet been notified by the Central Government till date.^[17] Reportedly, the reluctance in notifying this provision stems from the significant opposition faced from tech giants.^[18] As a result, many dominant firms engaging in killer acquisitions have continued to evade the CCI's scrutiny.

Beyond the Horizon: The Challenges and Opportunities Ahead

Besides grappling with a persisting legislative void, the CCI is confronted with an even more significant practical challenge in regulating killer acquisitions in the digital market i.e., the difficulty in accurately determining whether a startup possesses the potential to evolve into a formidable competitor for the purpose of determining AAEOC.

Indeed, there is a huge difference between “persuading investors and capital markets that a young firm is worth investing in on the one hand and, prohibiting a merger on the basis that that firm is a potential competitor that should not be removed from the market on the other.”^[19] Predicting the likelihood of a nascent start-up having the potential to topple today's industry titans is highly speculative, specifically in light of market dynamics and rapid technological advancements.

For instance, in the early 2000's Blockbluster dominated the video rental market in the USA. However, few, if any, could have foreseen that a fledgling startup like Netflix would possess the transformative power to disrupt the established market dominance of Blockbuster through its disruptive business model and technological advancements in online streaming.

In addition to the challenge outlined above, the CCI may need to consider counterfactuals when evaluating the potential competitive scope of a start-up for the purposes of a competition analysis. To illustrate this point further, let us consider the following counterfactual:

Firm X's attempt to acquire start-up Y is blocked by the CCI on the grounds that this transaction may lead to an AAEOC. However, in the subsequent years, start-up Y, unable to continue its innovative services due to funding crunches, ends up exiting the market. In such a scenario, Firm X could argue that its acquisition could have provided the necessary financial support to sustain start-up Y's services, potentially fostering greater competition and benefiting consumers. Alternatively, it is entirely conceivable that in the future, start-up Y may be acquired by another start-up, Z, which subsequently kills the latter's product to eliminate competition.

One solution offered by the Organization for Economic Co-operation and Development (“OECD”) to mitigate these concerns it to discard the conventional 'balance of probabilities' standard of proof currently used by regulators worldwide.^[20] Under this test, regulators are expected to satisfy themselves that the nascent start-up firm is likely to succeed as a business. However, as a matter of practicality, regulators will rarely, if ever, find conclusive evidence of future growth since, such analysis inherently carries a degree of uncertainty.^[21]

For example, despite acknowledging Waze's significant potential, promising crowd-funding business model, and ability to leverage network effects, the Office of Fair Trading ultimately approved the Google/Waze acquisition citing uncertainty about Waze's ability to fully capitalize on these strengths.^[22]

Instead, the OECD suggests adopting the more 'economic' standard of proof, the expected harm test. Under this test, the CCI would not only look at the likelihood of the harm occurring, but also the likely scale of the anti-competitive effects, if the harm did occur.^[23]

To understand the scope of this test, let us consider the following hypothetical: Grocery store A proposes to acquire grocery store B. While considering the AAEOC, the CCI will have to consider the two conjunctive elements i.e., the likelihood of harm and the likely scale of anti-competitive effect if the harm occurs. Thus, even if the CCI is of the opinion that post acquisition, grocery-store A is unlikely to raise the price of the groceries significantly, it might still block the acquisition if it believes that the potential harm to consumers (e.g., higher prices, less choice) is so severe that the overall risk is unacceptable.

However, this is not to say that the adoption of the expected harm test is without any practical difficulties. For starters, the acceptance of this test may substantially increase the number of CCI interventions,^[24] which may affect India's aspiration of being viewed as a business-friendly economy. Yet, such concern is arguably oxymoronic, since the need for a more robust approach arises due to the under-enforcement of anti-trust scrutiny in the digital market!

Nonetheless, in this regard, utilization of qualitative evidence which complement the ex-ante demands of the expected harm test can be encouraged. Firstly, by meticulously examining internal documents from the parties involved, industry customers and neutral parties, and by judiciously employing dawn raids and seizing mails and messages vis-a-vis the doctrine of proportionality, the CCI c gain valuable insights into the minds of the acquirer's executives, particularly when their firm's dominant status is threatened by the innovative products of start-ups.

Secondly, the CCI could also conduct a quantitative analysis of the transaction to breakdown the components of the price the acquirer has offered to pay up.^[25] Such an analysis would aid in understanding why the acquirer is willing to pay the amount it is paying and, whether the price includes an unexplained premium that might reflect the benefit the acquirer thinks it will generate from the reduction in future competition.

Thirdly, the CCI could scrutinize the synergies the parties claim to achieve to ensure that they are genuine and not merely a pretext for anti-competitive practices.^[26] Such synergies might include product innovations or cost savings that would have been unattainable without the combination. Moreover, the absence of post-acquisition plans pertaining to the innovative product of the acquired start-up may, in itself, reveal the true intention of the acquirer.

Finally, the CCI may also consider formulating policies which incentivise and protect whistle-blowers, particularly employees, to part with insider evidence that sheds light into any anticompetitive rationale inherent in a transaction.

By utilizing these methods, the CCI could address concerns regarding the adoption of the expected harm test and effectively regulate killer acquisitions in the digital market. However, it would be prudent to acknowledge that many start-ups often set out with the end goal of prioritizing a lucrative buyout over the pursuit of a truly innovative and efficient solution. Consequently, not all acquisitions by dominant firms in the digital market should be catagorised or considered as harmful.

While acquisitions that foster synergies can be beneficial, killer acquisitions where dominant firms acquire smaller, innovative competitors with the intent to stifle competition, poses a significant threat to economic development and consumer welfare.

There is no gain saying that by virtue of their 'infallible' position in the digital market, titans like Google and Facebook are to some extent able to set their own terms to advertisers and publishers. Permitting these companies to further consolidate their already sizeable influence through killer acquisitions raises serious concerns about market competition and killer acquisitions.

The proposed changes in the 2023 Amendment regarding the introduction of the DVT is a positive step towards addressing the issue of killer acquisitions in the digital domain. However, in the absence of its implementation, the extant competition regulatory framework in India is not robust enough to effectively identify and prevent this harmful practice. Furthermore, adopting the expected harm test as the standard of proof against the backdrop of a dynamic digital market would significantly mitigate concerns about under-enforcement in this space.

The fault lines in the existing legal framework are apparent and it is heartening to see the Central Government acknowledge these deficiencies. The onus now lies upon them to rectify these shortcomings. As consumers, we eagerly anticipate the outcome of this proposed codification.

Views are personal.