Monday, May 22, 2023

As of today, Microsoft could consummate the Activision Blizzard purchase without fear of sanctions from a U.S. court: investment bank Macquarie recommends going ahead

Today--Monday, May 22--is a very important day for Microsoft's acquisition of Activision Blizzard King (ABK). This is the earliest legally possible closing date from a U.S. perspective. The U.S. situation is so key because, as Illumina's acquisition of Grail proved, the only 100% reliable way to prevent a U.S.-U.S. merger is a U.S. court order (even Illumina said they'd abide by one, but didn't care about the world's regulators). That's because violating a prohibition by a U.S. court can result in criminal sanctions.

As of today, Microsoft is free to close the deal. Not free without financial, political, and reputational risks. But, to put it bluntly, no one will go to jail over it.

I'm not saying Microsoft will initiate the closing process today--not because they couldn't, but because there still is time under the current merger agreement: well over a month to make further headway and minimize those financial, political, and reputational risks. And they have momentum now, suggesting there'll be further good news. Still, let's not underestimate the significance of this date. Since the announcement of the merger in January 2022, this is now the first day on which the decision makers at Microsoft go to work and they have an important choice. It's just their decision whether or not to trigger the deal-closing process--as Macquarie, one of the world's largest investment banks (Wikipedia page), officially recommends--or to take more time because it appears prudent.

So let's look at where things stand, with last week having been incredibly eventful, and at what's next (click on the image to enlarge):

With the European Commission as well as China's State Administration for Market Regulation (SAMR) having cleared the transaction last week, the deal has been approved by 38 countries with a total population of 2.37 billion people and an aggregate Gross Domestic Product of US$42 trillion, with a caveat concerning South Africa that's also reflected in my timeline chart (the regulator recommended unconditional clearance, and normally that's the outcome, but formally it's a two-step process like in Brazil and the final procedural step is scheduled for June 21).

The aggregate population size of those countries is more than 35 times that of the United Kingdom, and the aggregate GDP is more than 13 times that of the UK.

Not only is the South African process technically still ongoing, but so are a few other regulatory processes. Countries from which we may hear in the days and weeks ahead include, but are not necessarily limited to, New Zealand (deadline: June 9), South Korea, Canada, and Turkey. In Australia the process is currently on hold, but the clock will at some point be restarted.

In fact, the process is technically still open in the UK: as I reported on Twitter, the final decision has not been made yet because the absurdity that they put out on April 26 was just a final report. The CMA is now accepting feedback until June 19 to its draft final decision. While this would normally just represent a formality, the CMA may in the meantime realize that a decision based on the Inquiry Group's irrational report would not be defensible in court, and I also see political dynamics in the UK that suggest the CMA needs an exit strategy. The CMA's leadership got a rough ride in a parliamentary committee, where the CMA's chair readily acknowledged that "the government has levers" if the CMA ignores government policy. The next day, the UK's Chancellor of the Exchequer (arguably the #2 person in the UK government) took a "dig" at the CMA according to the Times (a newspaper that has partly given anti-corporate extremists a platform to comment on this deal). Also, City A.M., the leading financial daily for the London area (as opposed to the Financial Times, which is London-based but an international publication), published an opinion piece that harshly criticizes the CMA.

Losing the appeal in this high-profile case would be the worst scenario for the CMA's leadership, but prior to that the CMA cannot possibly be interested in taking its chances that the deal will be closed regardless.

In a note to clients, Macquarie wrote that closing the deal now over the CMA's objection "would result in a legal battle with the CMA but one we think worth fighting as it is precedent-setting for an acquisitive company to allow one country to block a $75 billion deal."

In financial terms, the hypothetical risk would be in the tens of billions, but any fines would have to be proportionate to the conduct in question, and if the CMA's decision is quashed, there is no basis for anything, at least not for a major fine. So far, the CMA's record fine was $50 million (imposed on Meta for not keeping an acquired company sufficiently separate). By contrast, the breakup fee under the merger agreement with Activision Blizzard is $3 billion, and there are activist investors who would like ABK to collect that one. Also, it's impossible to know today what ABK's shareholders would expect in exchange for an extension of the merger agreement.

It's not just about money, and that's why Macquarie also looks at the downside holistically: if Microsoft abandons the deal, it pays $3 billion, and will find it hard to make any other major acquisition until the regulatory tide in some places turns. I would add another issue: it would look as if Microsoft had tried to make an acquisition for anticompetitive purposes, and seemingly brave regulators thwarted the plan. In reality, it's a procompetitive deal that spurs competition between large corporations in some markets, to the benefit of consumers, workers, and small companies (game makers and other app developers, streaming companies like Nvidia and Boosteroid that are totally in favor of the deal though the CMA claims to understand their market better than they do).

Another negative effect of "caving" would be that Microsoft would make itself a "soft target" for zealous regulators not only in merger but also unilateral conduct cases.

Regulators can't just demand that acquirers respect the law, but they must do so in the first place. We live in times where some regulators go too far. Obviously, despite the valid reasons for which Macquarie suggests closing the deal over the CMA's objection, Microsoft would not want to come across as lawless, and wouldn't want to burn bridges forever with regulators.

The timeline chart I showed further above indicates that there still is time to make further headway and to potentially work out a solution with the CMA. With the FTC, it looks like there is no near-term chance to make it work. According to MLex, Microsoft again offered behavioral remedies to the FTC (after the EU decision), but in vain. I shared my thoughts on that on Twitter. It's possible that Microsoft knew the FTC wasn't going to be receptive, but had to give it a try with a view to the next steps.

What about the U.S.?

It is much more of a psychological-political issue than a legal one that the FTC didn't clear the deal. The FTC is now against any major merger, filing lawsuit after lawsuit, and losing all the time. But the FTC and the CMA are trying to give each other cover: the CMA tells UK politicians that it's not alone in this because the FTC is suing to block the deal, and the FTC can say in the U.S. that an overseas regulators also opposes the transaction.

If the CMA's Inquiry Group had not recommended a prohibition decision, the deal-closing process might already be triggered today or the FTC would already have filed a motion for a temporary restraining order and preliminary injunction last week after EU clearance. No regulator likes to be the last one standing, but it's important to understand the difference between the FTC's lawsuit and the CMA's final report: the FTC would most likely fail to win a preliminary injunction, and then the deal could close, though the FTC could keep on fighting and theoretically, after several years, there might be a forced divestiture. The CMA could already (based on an interim order) impose fines now if the deal was closed over its objection.

On Friday, Judge Jacqueline Scott Corley of the United States District Court for the Northern District of California denied a preliminary injunction that class-action lawyers were seeking. In order to give the court enough time to adjudicate that motion, Microsoft had made a commitment not to close the deal before today (May 22). Microsoft acknowledged at a May 12 hearing that it would have been very difficult to close then, but didn't commit to an extension either (and after that hearing, the EU and China cleared the deal). Judge Corley handed down her decision late on Friday, the last business day before the earliest possible closing date.

So if Microsoft told the FTC now that the closing of the deal is imminent, the FTC would have to request a court order that would prevent the deal from closing. It would point to the CMA decision, but that would not be very persuasive. I don't believe the FTC would win a preliminary injunction. But if a judge who is not yet familiar with the matter had to make a decision on a temporary restraining order (TRO) within a few hours, then there is a possibility of the status quo being preserved for another two weeks (after which a TRO either has to be replaced by a PI or it goes away, absent the enjoined party's consent to being enjoined for longer than that).

That's why my timeline chart indicates a potential TRO window: given the Fourth of July holiday, I believe Microsoft would have to trigger the process in late June so that the court would have two weeks to decide if necessary. Otherwise a TRO could extend beyond the closing date in the current merger agreement.

Of course, the parties could also extend that agreement. That would give them enough time to defeat the CMA in the Competition Appeal Tribunal (the standard of review is exacting, but not an insurmountable hurdle, and on remand the CMA would have to decide in accordance with the CAT's guidance). They could also try to defend themselves in the FTC's in-house court, which is statistically not a level playing field to put it mildly. Given how weak the FTC's arguments are, it could be one of those rare cases in which the FTC loses before its own judge, but it could also be yet another case in which the FTC wins in its own court only because it's not an independent court. Also, even if the FTC loses in its own court, the commissioners--the same ones who decided to bring that lawsuit--could decide to block the deal anyway. That process is controversial, and the Supreme Court opened the door to constitutional challenges in federal court with its recent Axon ruling.

If Microsoft does not close the deal by mid July and first awaits a decision by the CAT, there would be a significant risk of a "deadlock" for an extended period of time. It would take time until a CAT ruling, then the CMA could take its time on remand, and if they had to wait for a federal appeals court in the U.S. to overrule a final FTC decision, that could take until late 2024 if not longer. There could be a window for closing the deal before the U.S. process concludes, but there is no guarantee.

Looking at all of the risks for everyone involved, this is a clear case for an agreement between Microsoft and the CMA. For the CMA, a scenario in which it would attempt--but practically fail--to block a merger, and then likely lose in court later, would be terrible. Even if the deal wasn't closed now, but Microsoft and ABK at least take the time to get a CAT decision, the CMA would stand to lose a lot of credibility and influence. Imagine a future parliamentary oversight hearing where the CMA's leadership would have to defend its actions--creating a situation in which the EU and China are more open for business than the UK--after having been proven to have been wrong.

The deal could close any day now, but in a month from now, Microsoft's position will likely be even stronger. At that point, however, they'll be approaching the potential TRO window you can see in my timeline chart further above. The next few weeks will be interesting, but in a month from now things could really heat up--unless the parties prefer to extend the merger agreement and prove the CMA wrong in the CAT before closing the deal.

While a British media report suggested a few weeks ago that the appeal was going to be filed within a matter of days, it hasn't shown up on the court's website nor has there been any announcement.

The CMA revised its provisional findings after a clear mistake was flagged. Maybe the feedback and input that the CMA will receive in the weeks ahead will open the door to a correct decision and constructive solution. If not, I'd like to see Microsoft do what Macquarie considers a perfectly rational choice. That's just my personal preference.