The UK Competition and Markets Authority (CMA) this week announced that John Wood Group and Amec Foster Wheeler have made a formal proposal in response to the CMA's conclusion that their planned merger would cause substantial competition concerns, with Amec proposing to find a third party buyer for its upstream offshore oil and gas business and onshore pipeline business in the UK.
The CMA's involvement with this deal is a useful reminder that competition issues can arise from a merger between key players in a concentrated market, a description that would apply to many parts of the North Sea oil & gas sector. The approach taken by Wood Group and Amec, in engaging early and proactively with both the issues and the CMA, is a textbook example of how a positive merger control strategy can keep a deal on the rails and contains valuable lessons for any North Sea service sector business considering a deal of its own. This is particularly important in challenging economic conditions, when consolidation can become one of the best options for driving value.
When will the CMA have jurisdiction over a deal?
The CMA will have jurisdiction to review a deal where, as in the Wood Group / Amec case, the UK turnover of the target company exceeds £70 million. However, a merger in a concentrated market can still be subject to CMA investigation even if the target has much lower turnover, as the CMA will also have jurisdiction where the combined entity would have over 25% share of any market in which the businesses operate. This is known as the "share of supply" test, and it can catch even small deals where there are only a few players in a market.
Hereisa flowchart that outlines the tests that determine whether the CMA will have jurisdiction to investigate a deal (page 2 then sets out the EU thresholds, which can be triggered where a large multinational group is involved somewhere in a transaction even if the parties to the deal do not compete with each other at all).
There is no obligation to notify a qualifying deal to the CMA. However, if such a deal completes without being cleared then the CMA has the ability to call it in for investigation any time up to four months after the deal is publicised. Not only does that outcome make it harder to control the scope of an investigation and the information that has to be provided to the CMA, but it may also create a suspicion that the parties were hoping to conceal a potential competition problem. The CMA will also impose onerous 'hold separate' requirements on a completed deal, which prevent the integration of the acquiring and acquired businesses and can be costly and difficult to manage.
The optimal approach to take with any deal that qualifies for CMA review is therefore to make it conditional on CMA clearance and notify it proactively, having identified any potential concerns and formulated potential solutions. That is exactly the approach taken by Wood Group and Amec.
Having said that, the fact that the deal is also being reviewed by competition authorities worldwide (including in Australia, Canada, the USA and South Africa) will have made a proactive merger clearance strategy unavoidable. Unlike in the UK, most countries' merger control schemes (including the EU's) prohibit the completion of a qualifying deal unless it has first been notified and approved.
When will the CMA identify concerns?
Phase 1 of the UK merger control process is a relatively high-level review of the deal to establish whether it might cause a 'substantial lessening of competition' in any market within the UK. Potential markets are defined as narrowly as possible for the purposes of that analysis, meaning a limited number of products or services will be regarded as substitutes for each other, and potentially small geographic markets.
In Wood Group / Amec, the CMA's Phase 1 decision earlier this month concluded that the merger would give rise to material competition issues in respect of certain service markets, specifically the markets for the supply of engineering and construction (E&C) services and operations and maintenance (O&M) services to the UK Upstream Offshore oil and gas sector (no such concerns were raised in respect of hook-up and commissioning services or dutyholdership services).
The two companies are close competitors in the E&C and O&M markets, with a significant combined market share in each of them. Only two other competitors (Petrofac Services Limited and Aker Solutions ASA) were viewed as currently imposing sufficient competition on Wood Group and Amec in these markets, "with only a limited competitive constraint being provided by the smaller suppliers". The merger would therefore reduce the number of primary suppliers of E&C and O&M services from four to three. As a general rule of thumb, any merger that results in the number of effective competitors in a market falling below four will be regarded as potentially problematic.
The CMA also considered that:
- there would be significant barriers to other competitors entering the E&C and O&M markets in a way that would reduce those competition concerns; and
- not all customers would be willing or able to wield "buyer power" in a way that would counter the merged business's bargaining strength (such as by multi-sourcing and unbundling, bringing services in-house and/or sponsoring a new entry into the market).
The deal could therefore impact the ability of customers to source competitive bids in a major UK industry, with the CMA concluding that there was a "realistic prospect" of a substantial lessening of competition in the E&C and O&M markets post-merger.
Undertakings in lieu
Having reached that conclusion, the CMA has an obligation to refer the deal for a more detailed Phase 2 investigation unless the parties can come up with proposals that would resolve the concerns (known as 'undertakings in lieu' of a Phase 2 reference _ for more on UK and EU merger clearance procedures and timings, see pages 3 and 4 respectively on our flowchart).
Amec and Wood Group had obviously anticipated the possibility of an adverse Phase 1 decision, floating potential remedies with the CMA in May and commencing the divestment process well before the CMA's Phase 1 decision. The proposed divestment package (details of which were published yesterday, and can be found here) encompasses "substantially all of Amec's assets, personnel and liabilities" contributing to its "Upstream Offshore oil and gas business located in the UK and serving UK customers, including E&C, O&M, hook-up and studies services and dutyholdership capability, as well as its onshore pipeline business located in the UK and serving UK customers".
It is notable that, despite the CMA taking no issue with the merger's effect in relation to hook-up or dutyholdership services, the divestment package will include these services as well as Amec's onshore pipeline business. One of the tests for a divestment package is whether it can easily be carved out of the existing business and taken on by a buyer (potentially including a new market entrant). The CMA's decision notes that including these additional service lines in the divestment package should support its viability and allow for a cleaner separation from the business Amec will be retaining. The decision confirms that the proposed package appears capable of being carved out without significant difficulty.
A key consideration for the CMA will often be whether the potential buyer of a divestment package will have sufficient resources, experience and capability to compete effectively with the merged business. In this case, however, the parties could point to evidence of a number of interested and potentially suitable purchasers. The CMA is therefore prepared to accept the divestment without insisting that the buyer be confirmed in advance. This will give Amec greater scope to get the best possible price for the divested business, and again shows how a proactive approach can smooth the merger control process.
The CMA is, in principle, content that the divestment package will resolve its concerns. It now has until 12 October 2017 (in the absence of special circumstances justifying an extension) to decide whether to formally accept the offer, and during that time will consult on the proposal. This will allow customers, suppliers and competitors of Wood Group and Amec, as well as potential buyers of the divested assets, to make submissions on whether the proposed divestment will resolve the competition issues.
If you would like assistance in responding to the CMA's consultation, want to discuss how merger control might affect a deal you are considering, or want to explore the possibility of acquiring the divested business, please get in touch.