Efficiency Prevails in Merger Review: Tervita Corp v Canada (Commissioner of Competition)

**This comment was co-authored in collaboration with TheCourt.ca’s Andreea Andrei.

Tervita Corp v Canada (Commissioner of Competition), 2015 SCC 3 [Tervita], represents the first Supreme Court of Canada (“SCC”) merger jurisprudence in seventeen years (see Canada (Director of Investigation and Research) v Southam Inc, [1997] 1 SCR 748). It also marks the very first time the SCC has directly explored the merger efficiency defence provisions of the Competition Act, RSC 1985, c C-34 [the Act].

In Tervita, a majority of the SCC held that, while the Competition Tribunal (“Tribunal”) and Federal Court of Appeal (“FCA”) were correct that the relevant merger was likely to substantially prevent competition, they incorrectly applied the efficiencies defence under section 96 of the Act, as the Commissioner of Competition (“Commissioner”) had failed to properly quantify the merger’s anti-competitive effects. As a result, the merger was allowed to proceed. In so doing, the SCC clarified the appropriate test for prevention under section 92 and several aspects of the efficiencies defence under section 96. The SCC also provided helpful guidance on the applicable standard of review.

Background 

In February 2010, the appellant, Tervita Corp. (“Tervita”), acquired Babkirk, a company holding one of four issued permits for the disposal of hazardous waste generated by oil and gas operations in northeastern British Columbia. At the time of the acquisition, Tervita itself held two permits and was operating two hazardous waste landfills pursuant to them. Prior to the sale, the owners of Babkirk intended to use the site for operating a bioremediation facility for the treatment of contaminated soil. Prior to the closing of the transaction, the Commissioner issued a warning regarding competition issues raised by the proposed merger. Nonetheless, the parties proceeded to close the transaction on January 7, 2011.

In response, the Commissioner brought an order pursuant to section 92 of the Act, seeking to dissolve the transaction or, in the alternative, that Tervita divest itself of the acquisition. Tervita, representing Babkirk Land Services Inc., Tervita Corp., and Complete Environmental Inc., relied on a section 96 defence to set aside the order of the Commissioner. The local economic scale of this case provided an unusual backdrop to the analysis on sections 92 and 96, as both were drafted with an eye to preventing the stifling of national competition caused by international entities.

Both the Tribunal and FCA held that the proposed merger was likely to substantially prevent competition. For its part, the Tribunal found the majority of the cognizable efficiencies relied upon by Tervita did not “count” under section 96 of the Act, and thus the merger could not be saved.

The FCA upheld the Tribunal’s decision (see Tervita Corporation v Commissioner of Competition, 2013 FCA 28 [Tervita, FCA]), but held that the Commissioner had failed to meet her burden. Specifically, the Tribunal had permitted the Commissioner to use a methodology that was “clearly deficient” (Tervita, FCA, para 124) and incapable of calculating the deadweight loss. The FCA also refused to accept the Tribunal’s use of quantifiable factors as part of its qualitative determination. Nevertheless, the FCA stated that while the weight to afford the anti-competitive effects remained “undetermined” (para 167), the efficiencies gained from the merger were “marginal to the point of being negligible” (para 169). Therefore, the FCA denied Tervita’s appeal, leading to its appeal to the SCC.

Tribunal Decisions to be Reviewed on a Standard of Correctness 

Writing for the majority, Rothstein J. upheld the FCA’s decision to apply a standard of correctness. In line with the standard of review doctrine developed in Dunsmuir v New Brunswick, [2008] 1 SCR 190, a presumption of reasonableness applies to questions of law arising from the Tribunal’s home statute. However, in this case, the standard was rebutted. The crux of this holding was resultant of the majority’s statutory interpretation of the Competition Tribunal Act, RSC 1985, c 19 (2nd Supp) [Tribunal Act], which provides that a question of law is appealable as if “it were a judgment of the Federal Court” (see Tribunal Act, s 13(1)).

According to the SCC, this wording differs from legislative wording interpreted in other administrative body decisions such as Pezim v British Columbia (Superintendent of Brokers), [1994] 2 SCR 557 [Pezim], Smith v Alliance Pipeline Ltd, [2011] 1 SCR 160 [Smith], and McLean v British Columbia (Securities Commission), [2013] 3 SCR 895 [McLean], as it specifically provides that appeals of tribunal decisions be considered as originating from a court and not an administrative source. Rothstein J. interpreted the statutory language as indicating Parliamentary intent for questions of law to be determined on the less deferential standard of correctness.

Partial Dissent on the Standard of Review

Abella J., in a partial dissent, disagreed that a less deferential standard of correctness should apply, cautioning that such a standard would chip away at the precedential certainty stemming from the SCC’s recent string of decisions supporting deference to administrative bodies. She found the statutory language did not significantly differ from that in Pezim, Smith, and McLean. Nonetheless, she agreed with the majority that the Tribunal’s interpretation of setion 96 was unreasonable. She did not discuss why, in spite of the different standards of review, the outcome of the decision remained the same.

In my view, the majority’s decision to subject the Tribunal’s judgments to a correctness standard is highly suspect. Competition is an area of law that contains highly technical and complex economic analysis. On the other hand, through the establishment of a correctness standard, the SCC provides greater flexibility for parties to dispute what may be highly speculative forward looking analyses. It also provides a cautionary signal to the Commissioner to bring forth cases that are well substantiated by quantitative and qualitative data.

The Appropriate Test for Prevention under Section 92

Overview of the Law

Pursuant to section 92, the Act permits mergers to be challenged when they are likely to substantially lessen competition or substantially prevent competition, or both. Either standard will be met where the merged entity can maintain or enhance its market power, or the ability to maintain “prices above the competitive level for a considerable period of time” without sacrificing profit (Tervita, para 44). This case fell under the prevention branch because the site was not operating as a hazardous waste disposal site at the time of the transaction.

The “But For” Analysis: Forward-Looking

The SCC rejected Tervita’s argument that the prevention analysis requires that the projection of the forward-looking information be grounded in the assets, plan, and business of the parties at the time of the merger. Rothstein J. noted that there is a difference between the substantially lessened and substantially prevented. Prevention by its very nature requires a forward-looking analysis. He went on to outline the two-part test for analyzing a “prevention” of competition case:

1. Identify the potential competitor prevented from entering. The first step is to identify the potential competitor that would be prevented from market entry as a result of the merger. Usually the potential competitor will be one of the two merging parties, although this does not preclude the possibility of a third party entrant as well.
2. Examine the “but for” market condition. The second step is to determine whether “but for” the merger, the potential competitor would have likely entered the market. If so, would this decrease the market power of the existing competitor(s) to the point that the merger can be said to have prevented competition substantially. The examination must be based on evidential factors established by section 93, but does not require certainty. (paras 61, 64)

The timeframe for entry must be discernible and show when the new entrant would have been realistically expected to enter the market in absence of the merger. The SCC disagreed with the “temporal dimension” guideline established by the FCA noting that lead time is one of the many important factors to be taken into consideration and does not support the notion of looking further into the future than warranted by the evidence. In its application of the facts, the majority agreed with the Tribunal that that the merger would substantially prevent competition under the forward-looking “but for” test.

The Efficiencies Defence under Section 96

Since the SCC upheld the Tribunal’s conclusion that the Tervita-Babkirk merger was likely to substantively prevent competition, it was necessary for the Court to determine the application of the efficiencies defence under section 96.

In contrast to other jurisdictions, where efficiencies are only a factor for consideration in merger review, efficiencies are an affirmative defence in Canada. Specifically, the Tribunal cannot prohibit a merger where efficiency gains will be “greater than, and will offset,” the anti-competitive effects. The parties to a merger must affirmatively raise the defence, and the regulator will assess the nature, likelihood, magnitude, and timeliness of the asserted efficiencies.

Pro-competitive effects are known as efficiencies or synergies. Productive efficiencies, or cost synergies, include the elimination of duplicative costs, optimization of production assets, and increased capacity utilization. Dynamic efficiencies, or revenue synergies, include the optimization of product portfolios, increased research and development and innovation, and improved quality and service.

The Choice of Methodologies and the Efficiencies Distinction

In a series of cases culminating in Canada (Commissioner of Competition) v Superior Propane Inc, 2003 FCA 53, the FCA endorsed a flexible assessment that takes into account the various objectives of the Act, based on both quantitative and qualitative factors. The FCA advocated the use of the “balancing weights approach,” holding that the “total surplus standard” should only be applied on a case-by-case basis.

In Tervita, the Court clarified that that because the Act does not set out a particular methodology, the Tribunal has the “flexibility to make the ultimate choice” (para 99). Either the “total surplus standard” – which involves quantifying the deadweight loss that will result from the merger – or the “balancing weights standard” – under which the Tribunal weights the effects of the merger on consumers against the effects of the merger on the shareholders of the merged entity – may be appropriate depending on the circumstances.

Next, the SCC held that a distinction should be drawn between efficiencies claimed because a merging party would be able to realize those efficiencies more quickly than would be the case but for the merger, known as “early-mover” efficiencies, and efficiencies that a merging party could realize sooner than a competitor only because of the delay caused by legal proceedings associated with a divestiture order, known as “order implementation” efficiencies (para 107). According to the Court, the Tribunal incorrectly confused which evidence should fall into the two categories (para 109). However, the classification was not dispositive, as the efficiencies were not realized by Tervita.

The Balancing Test

The SCC’s two most important contributions to competition law and merger review in Tervita came with respect to the “balancing test” under section 96. First, in an efficiencies defence case, where anti-competitive effects are quantifiable, they must be quantified by the Commissioner. These estimates must be grounded in “evidence that can be challenged and weighed” (para 125). A failure to provide evidence as to quantifiable effects will result in these effects being afforded a weight “fixed at zero” (para 128). Qualitative anti-competitive effects may be assessed subjectively.

Second, the majority framed the process of balancing efficiencies against anti-competitive effects as a two-stage test:

1. The “Greater Than” Prong: The quantitative efficiencies of the merger are compared against the quantitative anti-competitive effects. Where the quantitative anti-competitive effects outweigh the quantitative efficiencies, this step will tend to be dispositive, and the defence will be unavailable, unless truly significant qualitative efficiencies exist.
2. The “Offset” Prong: The qualitative efficiencies are balanced against the qualitative anti-competitive effects. A final determination must be made as to whether the total efficiencies offset the total anti-competitive effects of the merger. Any reasons for reliance on qualitative evidence must be “clearly articulated” by the Tribunal (para 147).

Rothstein J. affirmed that the test does not require the quantitative and qualitative elements to be isolated, nor does it impose a “threshold significance” requirement (paras 149, 152).

In the end, the Commissioner did not prove quantifiable or qualitative anti-competitive effects, and Tervita successfully proved “overhead” efficiency gains resulting from Babkirk’s new access to Tervita’s administrative and operating functions, and the efficiencies defence applied.

Commentary and Conclusion

According to the majority, quantification is supported by the jurisprudence, which has “consistently recognized the importance of an objective approach” (para 130), as well as the “concerns of fairness” to the merging parties (para 131). However, one of the practical effects of Tervita is to impose greater transaction costs on the parties to the merger. While the increased informational burden has been placed on the Commissioner, the best source of that information is on the merging parties (or third parties). In other words, the procedural impact will be significant. The majority’s approach will encourage merger activity based on the availability of the efficiencies defence, but it will also discourage merger activity based on the predicted costs.

The second major issue raised by the decision is the one indicated by Karakatsanis J.’s dissent, and her corresponding dismissal of the “hierarchical approach” put forward by the majority. I agree that the flexibility of a purposive “circumstantial approach” is appealing, and that the statutory language of the Act does not impose the dichotomy proposed by Rothstein J. Karakatsanis J. went so far as to say that his two-step framework is “unnecessarily artificial” and “superfluous” (para 189). Non-quantification of “quantifiable” evidence does not thereby make that evidence irrelevant, merely “marginal” and likely overwhelmed in the face of substantial efficiency gains.

Finally, and perhaps most importantly, almost any type of evidence is potentially quantifiable under various economic models. As a result, how will the Commissioner (or the merging parties) accurately determine what is “quantifiable”? The inevitable uncertainty introduced by drawing a line between the categories of evidence arguably undercuts the “certainty” justification that is at the core of Rothstein J.’s approach.

It may very well be that Tervita is an example of a case of “bad facts making bad law,” or, more accurately, “strange facts making narrow law.” Indeed, Rothstein J. referred to the result as seemingly “paradoxical” (para 166). More intriguingly, he explained that the efficiencies defence was created “with an eye toward supporting operation at efficient levels of production and the realization of economies of scale, particularly with reference to international competition” (para 167), but Tervita, by contrast, dealt with competition on a local scale.

If the outcome in Tervita does not reflect Parliament’s intention in creating the exception, and one of the implications of the majority judgment is unpredictability, perhaps there is more to the dissent than meets the eye. Let us hope that we are not forced to wait another 17 years to hear more judicial authority on the subject.