Travers Smith's Alternative Insights: The future of "parental liability" in UK competition law

A regular briefing for the alternative asset management industry.

Since the well-publicised 2014 case involving the Goldman Sachs portfolio company, Prysmian, the private equity industry has been acutely aware that European competition law can impose liability on private equity funds and fund managers for infringements by their portfolio companies. This is a harsh doctrine, potentially applying to any investment – even a significant minority investment – where the financial investor has "decisive influence" over the underlying company. Such influence can arise in a variety of ways, including significant shareholdings, the appointment of board directors and the provision of certain types of business support. Liability does not require the investor to be at fault, and can continue even after a company is sold.

The doctrine of parental liability has been widely criticised, especially as it applies to financial investors. In particular, many argue that the rules are unfair because they can impose liability on separate legal entities when those entities were not involved in the infringing conduct and even if they took reasonable precautions to prevent the infringements. Indeed, there was no allegation of wrongdoing by Goldman Sachs in the Prysmian case, or by many of the parent companies in the more traditional cases that established the doctrine in the first place. However, the European Commission has stood firm in the face of these objections – supported by many decisions of the European courts, who rejected Goldman Sachs' final appeal in the Prysmian case earlier this year. In addition, many national competition authorities have taken a similar approach in the application of their domestic competition law.

In UK national law, the approach in analogous policy areas has been different. Generally, the legal boundary between different companies is respected and, even within any one company, it is clearer that taking reasonable steps can, in appropriate circumstances, act as a liability shield. For example, in the UK Bribery Act, companies may have a defence if they can show that, even though a bribe was in fact paid or received by associated parties, there were "adequate procedures" in place designed to prevent corrupt behaviour. The government has even provided guidance on how companies can design procedures that are good enough. A similar (although subtly different) approach applies where companies are alleged to have "failed to prevent" the facilitation of tax evasion. The policy is clearly designed to encourage businesses to do the right thing – and does not punish those that do.

However, UK domestic competition law has not followed that approach. In general, UK competition law follows the EU – although until recently the application of liability to financial investors had not been tested in the domestic setting. That may be about to change.

...these cases have been brought under UK law and could provide the UK court - or, perhaps, the government - with an opportunity to shift UK competition law away from the approach adopted in the EU...

In two recent cases in the pharmaceutical sector, the Hydrocortisone and Liothyronine cases, the UK's competition authority, the CMA, has seemingly applied the doctrine of parental liability to hold two private equity fund managers liable for alleged behaviours of their portfolio companies. Although the full decisions have not yet been published, these cases have been brought under UK law and could provide the UK courts – or, perhaps, the government – with an opportunity to shift UK competition law away from the approach adopted in the EU. It remains to be seen whether they will take that opportunity.

However, at least for the time being, these well-publicised UK decisions demonstrate that the CMA is ready to use its powers to pursue financial investors in the same way as the European Commission has been.

For that reason – and for several others – these cases may give private equity investors another reason to re-examine their approach to competition law due diligence. For obvious reasons, it is generally very hard to identify illegal behaviour from a desktop review of contracts and other documents – especially when the alleged illegal behaviour relates to the effect that behaviour had on the market, or involved informal contacts (such as through messaging apps) or meetings at social events. It is possible, though, to carry out due diligence on governance processes. Although clearly it does not provide any absolute guarantees, an assessment of policies and procedures, including the degree of board and senior management oversight, might provide comfort that the risk of infringements is reduced. Lack of a robust competition compliance programme, particularly in higher risk industries, might indicate whether remedial steps need to be taken in the initial post-closing period – and could even trigger a deeper dive pre-acquisition.

Whether or not the UK courts and policymakers decide to review the application of UK competition law to innocent financial investors – which would certainly be a welcome move – a renewed focus on competition law compliance in certain industries is a sensible response to these recent cases. And, in the pre-sale period, some reverse due diligence may also help to persuade increasingly cautious buyers that there are no hidden liabilities.

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