Introduction

Almost always, there is an interval between parties signing a deal and closing it. Such intervals between deal execution and deal completion can often be quite significant, especially if the deal requires regulatory approvals (including merger control approvals). For an investor, this raises substantial commercial risks, such as depletion of investment value during this interval. Negotiating “interim covenants” in deal documentation is one contractual solution to mitigate such commercial risks. These “interim covenants” typically require the target (and/or target promoters) to act, or not to act, in a manner agreed amongst the parties, during that interval of uncertainty.

Under the (Indian) Competition Act, 2002 (‘Act’), any transaction requiring an approval from the Competition Commission of India (‘CCI’), cannot be given effect to (even partially) before it is approved (‘Standstill Obligation’). A failure to abide by this Standstill Obligation, often called ‘gun-jumping’, is an infringement that can attract a significant penalty[1] under the Act. However, by their very nature, “interim covenants” come into effect from the date of “execution” of the transaction documents. Accordingly, as a CCI filing can only be made after the definitive deal documents are signed, such interim covenants come into effect before CCI approval. Clearly, there is a tension between the Standstill Obligation on the one hand and the use of “interim covenants” on the other.

In this article, we explore this tension in light of (so far limited) decisional guidance from CCI, and the legal position in other mature merger control jurisdictions such as the EU. We conclude with some key takeaways for deal planners to help them better balance the commercial risks against the risk of non-compliance for a transaction that requires notification to the CCI.

CCI’s approach towards interim covenants and the Standstill Obligation

The Standstill Obligation seeks to ensure that until CCI assesses and approves a transaction, the parties continue to operate independently of each other. If the parties happen to be competitors, the Standstill Obligation also effectively ensures that there is no dampening of competition between them. While assessing whether the transacting parties have “jumped the gun”, CCI checks whether the parties “ceased to compete as they were competing earlier” or “ceased to act independently”[2].

Recently, in its order under Section 43A of the Act against Bharti Airtel Ltd. [3] (‘Airtel/Tata decision’), CCI shed some light on its approach towards the use of interim covenants in transactions. In 2017, Bharti Airtel Limited (‘Airtel’) notified CCI of its proposed acquisition of 100% of the consumer mobile business run by Tata Teleservices Limited and Tata Teleservices (Maharashtra) Limited. After approving the transaction in November 2017, and based on a review of certain clauses (specifically, what was referred to as the ‘ER clause’) in the underlying transaction documentation (which are redacted in the published decision), CCI initiated an examination into whether Airtel had violated gun-jumping rules. CCI ultimately concluded that Airtel violated gun-jumping rules and imposed a penalty of INR 1 million.

While the impugned clause in the Airtel/Tata decision was not a typical interim covenant, CCI’s decision nonetheless provides helpful guidance on how CCI is likely to assess whether an interim covenant is compliant with the Standstill Obligation. In this decision, CCI acknowledged that certain clauses in transaction documentation are necessary to ensure preservation of the value of the target business, as well as to ensure certainty of valuation. To this extent, transacting parties may “be permitted to impose customary standstill and interim arrangements on the target”. However, CCI also stated that it is incumbent on parties to ensure that the form and scope of such interim arrangements must be inherent and proportionate to the objective of preserving investment value, and not in violation of the Standstill Obligation.

European Commission’s approach towards interim covenants and the Standstill Obligation

Although the CCI’s decision in Airtel/Tata decision provides some guidance on its likely approach, there is still significant ambiguity when it comes to deciding when exactly an interim covenant with a value preservation objective morphs into a clause infringing the Standstill Obligation. A decision of the European Commission (‘EC’), in Altice/PT Portugal[4], can provide some helpful guidance when it comes to interpreting CCI’s approach, where the EC examined in detail what approach a merger control regime should take towards interim covenants/arrangements.

In 2014, Altice S.A. and Altice Portugal S.A. (collectively, ‘Altice’) entered into a share purchase agreement with Oi S.A. under which Altice was to acquire sole control of PT Portugal SGPS SA (‘PT Portugal’). Altice subsequently notified its proposed acquisition to the EC in February 2015. EC conditionally cleared the acquisition in April 2015 but raised concerns in 2017 that Altice implemented its acquisition of PT Portugal before obtaining its clearance, and in some instances, even before its notification of the acquisition.

In April 2018, EC concluded that Altice breached the EU Merger Regulation and imposed a fine of EUR 124.5 million on Altice. Specifically, EC found that certain provisions (including interim covenants) in the transaction documentation resulted in Altice acquiring the legal right to exercise decisive influence over PT Portugal. For example, certain interim covenants granted Altice veto rights over decisions concerning PT Portugal's ordinary business. Additionally, Altice was also found to have “actually exercised decisive influence” over aspects of PT Portugal's business, by (i) giving PT Portugal instructions on how to carry out a marketing campaign; and (ii) seeking and receiving detailed commercially sensitive information about PT Portugal outside the framework of any confidentiality agreement. Key takeaways from EC’s decision in Altice/PT Portugal are that interim covenants must (a) be limited to items outside the target’s ordinary course of business; and (b) be coupled with materiality thresholds which accurately represent such transactions being outside the ordinary course of business.

Use of ‘interim covenants’ – takeaways for deal planners

Given the legal context discussed above, parties must be cognizant of the Standstill Obligation while negotiating and drafting interim covenants. Overbroad interim covenants may attract unwelcome scrutiny and/or sanctions from CCI. While each transaction and set of interim covenants would need to be examined closely on a case-by-case basis, the following ‘rules of thumb’ may be helpful as a starting point. First, avoid putting in any ‘control conferring’ rights as a part of the interim covenants. This must be done while accounting for CCI’s expansive interpretation of control which includes negative control via veto rights over certain aspects of a company’s management/business. Second, interim covenants aimed at removing the risk of out-of-ordinary transactions (e.g., encumbrances, loans, investments, etc. which could siphon off, or otherwise deplete, investment value) must have appropriately high materiality thresholds to avoid interfering with the target’s business-as-usual. Parties could also consider confining the scope of the interim covenants in such cases to a ‘material detriment to investment value’ criterion. Third, interim covenants should not provide for granular transparency over the commercial operations of the target, as that may be viewed as competition-dampening information exchange. If such level of information access is somehow indispensable to preserve investment value, dedicated ‘clean team’ arrangements could be explored as a way to access such sensitive information while mitigating the risk of infringing the Standstill Obligation. Finally, when faced with boundary-cases where it is difficult to decouple a certain interim covenant from the risk of infringing the Standstill Obligation, parties could explore putting in place ‘indemnity’ arrangements to manage the investor’s risk.

[1] Under Section 43A of the Act, gun-jumping can attract a penalty which may (in theory) extend to 1% of the total turnover or the assets, whichever is higher, of the combining parties. In practice, the highest penalty imposed by the CCI for gun-jumping is INR 50 million. [2] Order under Section 43A of the Act in C-2017/10/531 (Bharti/Tata). [3] Combination Registration No. C-2017/10/531 [4] Case M. 7993 – Altice/PT Portugal