On January 21, 2010, the U.S. Department of Justice (DOJ) filed in federal court in Washington, D.C. a complaint and consent decree requiring two merging companies (Smithfield Foods (Smithfield) and Premium Standard Farms LLC (Premium Standard)) to pay $900,000 in civil penalties for violations of the "file and wait" provisions of the Hart‑Scott‑Rodino Antitrust Improvements Act of 1976 (the Act).  The companies were direct competitors in the pork products market.  The merger agreement included traditional "conduct of business" provisions that required Smithfield's consent to material changes in Premium Standards' operations during the Act's waiting period.  The complaint alleges that after signing the merger agreement, but before filing their premerger notifications and waiting the mandatory 30 days, Smithfield (the acquiring company) began to exercise operational control over a core element of Premium Standard's business, its hog procurement contracting.

Significantly, DOJ did not allege that the merger itself violated antitrust law, nor did DOJ allege that the "conduct of business" provisions themselves were unlawful.  To the contrary, the complaint recognized Smithfield's legitimate interests in preserving Premium Standard's value during the Act's waiting period:

[t]he Merger Agreement contained certain customary interim "conduct of business" provisions limiting Premium Standard's operations during the Section 7A waiting period to protect Smithfield's legitimate interests in maintaining Premium Standard's value without impairing Premium Standard's independence.  These included provisions regarding Premium Standard's rights to assume new debt or financing, issue new voting securities and sell assets, as well as requirements that Premium Standard "carry on its business in the ordinary course consistent with past practice."  The Merger Agreement also conditioned the closing of the transaction on the absence of any material adverse effect, as such agreements customarily do. 

(Par. 16).

It was Smithfield's premature exercise of operational control over Premium Standard's ordinary course contracts to control the price, quantity and duration of Premium Standard's hog procurement contracts, which are central to the firm's business, that violated the Act.

For this reason, neither the Smithfield complaint nor the related consent decree provides guidance on the more difficult issue of whether the terms of "conduct of business" provisions alone may constitute unlawful gun-jumping.  How far buyers and sellers may go in negotiating and implementing such provisions may pose one of the most difficult issues merger partners have to address in the course of a transaction.  DOJ provided some guidance on this issue in its 2006 complaint and consent decree in United States v. QUALCOMM Inc. and Flarion Technologies, Inc.  There, DOJ alleged that unlawful gun-jumping occurred through "conduct of business" provisions that, among other things, provided the buyer with the right to approve (a) all agreements by the seller to license its intellectual property, (b) all agreements involving the obligation of pay or receive $75,000 or more, and (c) the seller's business presentations to customers or prospective customers. 

Taken together, Smithfield and QUALCOMM are consistent with the government's long-held view that although merging companies may during the Act's waiting period plan for their post‑consummation operations as a consolidated entity, a target firm cannot surrender its independence, especially with respect to critical competitively sensitive operations.  Doing so based on nominally standard "conduct of business" provisions in the merger agreement does not shield the parties from liability for "gun-jumping."  In addition to approving bids and contracts, the companies should not, without prior consultation with counsel:

  • Engage in joint sales or marketing activities;
  • Abandon product lines;
  • Shut down or substantially curtail manufacturing or research and development operations;
  • Implement major reductions in force; or
  • Assign employees of one company responsibility for operations of the other company.

Observing these guidelines during the Act's waiting period may be less than ideal for the merger partners, who may have spent substantial time and effort negotiating the transaction.  Failing to observe the guidelines, however, may subject both of the companies to the legal costs entailed by a compliance investigation under the Act, and, ultimately, to the prospect of civil penalties of up to $16,000 per day, notwithstanding the fact the merger itself may be entirely lawful.  Because daily penalties continue to accrue from the date the parties begin engaging in gun-jumping until 30 days after they make all necessary corrective filings under the Act (a period that can encompass many months), penalties can easily exceed $1 million.