New German competition law: Germany takes a pioneering role in adapting its competition law to the digital economy (Part 1)
On 9 June 2017, the 9th amendment of the German Act Against Restraints of Competition (ARC) entered into effect introducing important amendments for companies to German competition law (please see the highlights of the 9th amendment of the ARC here). The reform deals with two main issues: the implementation of the European Cartel Damages Actions Directive (for a comprehensive coverage of the various new regulations, please see here) and the adaption of German competition law to the challenges of the digital economy.
The new provisions amongst others deal with merger control, the handling of “free” services, e.g. social media, and with the assessment of market power, in particular in the digital industry. This reform is likely to shape competition law practice in Germany and Europe over the next years. Many questions remain open, especially in the practical handling of the newly introduced size-of-transaction test in German merger control. This will lead to an increased need for coordination between companies and the Federal Cartel Office (FCO).
Situation to date
Until today, Germany had a pretty straightforward, albeit rather low revenue threshold, to determine merger control filing requirements. A notification to the FCO was only required if the parties to a merger exceded combined worldwide revenues of EUR 500 million, one company had revenues of EUR 25 million or more and the other of EUR 5 million or more in Germany. These comparatively low thresholds led to a relatively high number of merger control notifications with the FCO. However, for most transactions, notification is pretty straightforward and quickly cleared by the FCO.
Nevertheless, there has been debate over the last years as to whether there is missing competition law control over the acquisition of highly valuable start-ups which at the time of the transaction may not have significant revenues meeting the thresholds, but whose deal valuation is extremely high in anticipation of their potential importance in the markets. The German legislator was concerned that this could lead to a gap in German merger control, especially in the digital economy, and therefore decided to introduce a new transaction-value-based threshold.
Additional notification threshold for “unicorn” deals
This introduction of the new size-of-transaction test in Sec. 35 (1a) ARC raised significant interest globally, and other jurisdictions such as Austria (as of 1 November 2017) have already announced that they will follow this approach. Accordingly, mergers will in the future also be subject to German merger control if only one party generates revenues of EUR 25 million in Germany, but no other party to the merger has reached the second domestic revenue threshold of EUR 5 million, if
(1) the value of the consideration for the merger is more than EUR 400 million, and
(2) the target company has a significant domestic activity.
This rule is of importance mainly in the case of acquisitions of start-ups in the digital economy as well as in the biotech sector. It is mainly in these industry sectors that future blockbuster agents or new online models have an enormous marketing potential which only in future years will lead to high revenues.
However, a statistical review of past cases demonstrates that there are only a few cases where the purchase price exceeded EUR 400 million but the revenue threshold did not meet the EUR 5 million. Thus, the German government expects the new rules only to apply to a handful of “unicorn” cases per year, i.e. only those particularly highly valued start-ups that have the potential to shape the digital markets or the biotech landscape. For the majority of transactions the new threshold is unlikely to have any effects.
Size-of-transaction test and local nexus
German competition law is entering new territory in the EU with the introduction of the new merger control notification threshold as there is no practical experience with the new threshold. In particular, there already exists considerable legal uncertainty as to the determination of the “value of the consideration” and the necessary domestic link (“significant domestic activity“). While the Government’s justification contains some indications for the legal interpretation of these central elements, various scenarios can be already foreseen for which there are no clear guidelines. The merger should provide a domestic link (“local nexus”). This is the case, if the merger is qualified to significantly influence competition in Germany. These vague legal concepts of law are hard to apply, especially as the legislator has clarified that the notion of “significance” will not be subject to strict requirements.
According to the explanatory memorandum of the law, domestic activity is applicable, “if offers by the company are used by domestic users“. It remains unclear if they have to be aimed specifically at domestic users. This is especially relevant for internet markets, as users in Germany can easily access websites and take advantage of services, which are not specifically provided for in the German market. For foreign companies, this requires a careful analysis of their user numbers in Germany in order to reach an assessment of the relevance of their domestic activities.
As another example for domestic activities the explanatory memorandum names research and development activities in Germany. This seems obvious in the biotech sector. But in the digital economy with its collaborative approach this can cause significant differentiation issues. If a French company has software mainly written by programmers in France, but in parts also in Germany, to ultimately distribute it worldwide, the question may arise: Is the purchase of the French business by a US company notifiable in Germany?
According to the explanatory memorandum of the law, the essential criteria and factors vary by sector or market maturity. This is understandable. But already now, scenarios are foreseeable where there are no explicit requirements in the law.
Increased need for coordination with the FCO expected
In practice, it has to be expected that the number of informal preliminary talks with the FCO will rise as companies will not want to risk missing a potential filing obligation in the EU´s biggest member state. From experience with the FCO’s Guidance on domestic effects, we understand that the FCO may urge companies and their lawyers to leave the question of notification aside asking them to notify unproblematic cases without any pre-notification discussions. The effort for simple cases may be relatively low in Germany compared to other jurisdictions. Nevertheless, the new rules could lead to more notifications of borderline cases.
Conclusion and outlook
Germany has taken a pioneering role within the European competition framework with its most recent proposals to adapt competition legislation to the challenges of digitalization.
The concrete application of the new rules, and especially of the newly introduced size-of-transaction test, by the FCO will show whether they will lead to an intensification of competition law enforcement in the digital economy. It would be helpful, if the FCO, in the coming years, will further define the newly introduced rules, for example, through the elaboration of guidelines on the basis of practical experience. In any case, German competition authority decisions will shape the development of European competition law in the context of the digital economy in the coming years.
Other countries like Austria (as of 1 November 2017) are following already and have announced their intention to also introduce a new notification threshold in their merger control regime. Especially for undertakings in the digital economy, it will be crucial to closely monitor and shape the German developments.
The next post from our blog series on the German Competition Act reform “Digital is trump! – Market definition and new dominance criteria for digital markets” will be published tomorrow.