Authored by Michael Gu and Shuitian Yu
On April 30, 2014, China’s Ministry of Commerce (“MOFCOM”) granted a conditional clearance on the proposed $3.1 billion acquisition of London-listed AZ Electronic Materials S.A. (“AZ”) by Merck KGaA (“Merck”) in accordance with the Anti-Monopoly Law. AZ is a special chemical material supplier to the electronics industry, and Merck is a leading company engaging in the production and sales of biopharmaceutical, life science instruments and specialty chemicals. MOFCOM imposed following behavioral conditions that are binding for three years: (1) Merck shall not engage in tying of its product and AZ’s product, (2) when licensing its patents on liquid display crystals based on non-exclusive and no-sublicensing terms, all the terms should be reasonable and non-discriminatory, and (3) any licensing of liquid display crystals related patents by the combined company shall be reported to MOFCOM in advance.
The nod of MOFCOM is the final sticking block in the deal tendered December, 2013, which will enhance Merck’s position as the world’s biggest maker of liquid display crystals for monitors and televisions. Just two days after MOFCOM’s clearance, Merck announced the completion of its acquisition of AZ.
MOFCOM received the notification on January 15, 2014 and officially filed the case on January 29, 2014 after receiving supplementary submissions made by the parties. MOFCOM proceeded into Phrase II review on February 28, 2014. MOFCOM took about three months in reaching its final decision on this case. This is the shortest waiting period for a conditional clearance from MOFCOM within the last two years. Also, this is the second conditionally -approved case cleared in phase II review and did not proceed into phase III in the last two years.
Competition analysis and remedial measures
In the MOFCOM decision, the markets for liquid display crystals and photoresists, which are widely applied in manufacturing of flat panel display, are defined as the relevant product markets. In consideration of transportation cost and locations of manufacturing and sales, MOFCOM determines the geographic market is the global market, while the impact on Chinese market shall be particularly assessed. MOFCOM assesses factors including market share, market power and market entry in its review and concludes that after the concentration, Merck will possess the power to utilize the adjacent relationship between the products of the merging parties and engage in tying or cross subsidization of liquid display crystals and photoresists, which might impair competition in the relevant markets.
According to MOFCOM decision, Merck has a share of over 60% of the global market of liquid display crystal and 70% of the China market of liquid display crystal, while AZ holds a share of 35% of the global photoresist market and over 50% of the Chinese photoresist market. The proposed acquisition would enable Merck to become the largest supplier that provide liquid display crystals and photoresists at the same time. If Merck engages in tying of liquid display crystals and photoresists, it could reduce the price of tied product by cross-subsidization to expand market share and eventually increase its profit, which could potentially lead to predatory pricing by abuse of its leading position in the market. There are only limited number of competitors, with confined market share and output, only capable of supplying either liquid display crystals or photoresists. Such competitors might be eventually excluded from the market. This will narrow the range of choices in the downstream market and diminish the client’s bargaining power. This might be the primary competition concern for MOFCOM in reaching its decision. In addition, MOFCOM concluded that Merck’s holding of more than 3,500 patents on liquid display crystals constitutes substantial entry barrier.
Behavioural conditions are imposed to address competition concern on tying and patent issues discussed above. In particular, in relation to tying, Merck is not allowed to engage in tying of any form to directly or indirectly compel Chinese clients to purchase products of Merck and AZ at the same time, including cross subsidization between liquid display crystals and photoresists. Regarding patent issues, Merck is required to pre-notify to MOFCOM of any licensing deal on patent of liquid display crystals and is obliged to follow the principle of reasonableness and non-discrimination in non-exclusive and no-sublicensing licensing deals.
As the third conditional approval this year, and the second in April, this clearance is undoubtedly the most timely in the last two years, which might indicate that MOFCOM is making effort in shortening its heavily criticized long review period. It’s worth noting that this is the first time MOFCOM specifically indentifies the adjacent relationship between the relevant markets and also the first time that tying and cross-subsidization are considered in its merger review. This review addressed an important concern in conglomerate mergers recognized in the US and EU, which is, foreclosure through tying or bundling. This partly results from the nature of this concentration, whereby there is a large common pool of customers of the individual products concerned and when the products in question are complementary. Also, generally speaking, the foreclosure effects of tying and bundling are likely to be more pronounced in industries where there are economics of scale. Furthermore, if the undertakings possess high level of market shares, the risk of tying and bundling is much higher and could potentially lead to abuse of dominant market position.