The Whole Foods Antitrust Saga

A couple of years ago few people would have thought that a socially conscious company that specializes in selling organic groceries would find itself in a knock-down, drag-out brawl with the Federal Trade Commission. But that's just what has unfolded as a result of the FTC's challenge of the merger between Whole Foods Market, Inc. and Wild Oats Markets, Inc. While the twists and turns of the FTC's challenge have captivated antitrust aficionados for over a year and a half, there are important lessons for non-antitrust lawyers that may have a merger in their future.

First, the history of the case demonstrates that just because a merger has been consummated doesn't mean the FTC will pack up and go home. In fact, with the economic downturn and fewer mergers taking place, the FTC may very well focus its resources on completed mergers. Second, while every executive is likely to have a definite opinion about which markets their company competes in, that opinion won't carry the day in a merger challenge. Antitrust litigation is driven by competing expert testimony and economic analysis, and a company's market for antitrust purposes may end up being different than what the industry analysts report. Finally, while questionable e-mails and internal company documents may not lead to a loss in court, they can definitely cause problems in a merger challenge. It is, thus, extremely important for companies to have an antitrust compliance program that addresses document creation.

A Quick Recap of the Litigation

By December 2008, the Whole Foods merger had evolved into three separate legal proceedings ' an FTC administrative proceeding, an FTC-initiated action to enjoin the merger that bounced back and forth between federal district court and the court of appeals, and Whole Foods' federal lawsuit alleging that some of the FTC's actions violated the Constitution. As of September 2008, Whole Foods had already spent $16.5 million to defend its acquisition of Wild Oats even before filing its constitutional lawsuit ' that's a whole lot of organic green(s).

A Brief History

The story of these proceedings began in February 2007, when Whole Foods and Wild Oats announced that they would merge. The terms of the deal called for Whole Foods to pay Wild Oats shareholders $18.50 a share and assume $106 million of Wild Oats' debt, for a total price tag of $700 million. In June 2007, the FTC issued an administrative complaint alleging that the merger would violate Section 7 of the Clayton Act, which prohibits mergers that substantially lessen competition or tend to create a monopoly. Simultaneously, the FTC asked the D.C. federal district court to enjoin the merger pending completion of the administrative proceeding. While the FTC did not need the injunction to go forward with its administrative case, without it, the FTC could not stop Whole Foods and Wild Oats from closing the merger and integrating the companies. If this happened, even if the FTC were successful in the administrative proceeding, it would be exponentially harder to unscramble the eggs.

In challenging the merger, the FTC argued that competition would be substantially lessened in the “premium, natural and organic supermarkets” market in a number of cities. Whole Foods, on the other hand, argued that it competed with conventional supermarkets and, accordingly, the relevant market should not be limited to supermarkets specializing in premium organic foods.

In August 2007, the district court announced that it would not enjoin the merger. The court agreed with Whole Foods that its market included traditional supermarkets, a market large enough that the merger would not be likely to substantially lessen competition. The FTC then filed an emergency motion with the D.C. Circuit Court of Appeals requesting that the merger be enjoined pending an appeal, but was rebuffed. Having won (for the time being) in the federal courts, Whole Foods completed the merger at the end of August 2007.

FTC Appeals

Not willing to throw in the towel, in October 2007 the FTC appealed the district court's August 2007 decision to the same Circuit Court that had denied its emergency request to enjoin the merger pending the appeal. While it is not unheard of for the FTC or the merging parties to pursue an appeal or continue an administrative merger challenge after losing at the preliminary injunction stage, practicalities often lead the losing party to call it a day. For the merging parties, a ruling enjoining the merger makes it hard to keep the deal together for the time it takes to complete the administrative hearing. For the FTC, if a merger goes forward, it becomes difficult to untangle the parties. On July 29, 2008, the appellate court reversed the lower court's denial of the injunction, finding that the District Court had analyzed the market issue incorrectly and that the FTC might be able to prove that the relevant market is, in fact, limited to premium, natural and organic supermarkets. The Circuit Court sent the case back to the district court to consider whether the equities supported an injunction.

The Next Step

After its win in the Circuit Court, the FTC decided not to wait for a decision on the remanded case and restarted its long-stayed administrative proceeding. On Dec. 8, 2008, Whole Foods threw a Hail Mary when it filed a separate federal lawsuit alleging that the FTC's conduct in the litigation and administrative proceedings amounted to a violation of its constitutional due process and equal protection rights. This suit was dismissed on Jan. 26, 2009.

Until late January, the FTC's administrative proceeding was on track for a hearing in April of this year. But, on Jan. 29, almost a year and a half after the merger was completed, Whole Foods and the FTC announced a brief ceasefire to discuss a potential settlement, suggesting that the end of the saga may be near.

What Does It All Mean?

If you're a regular shopper at Whole Foods or Wild Oats, you're likely to have an opinion about which market the companies are in and who their competitors are. But in antitrust litigation, the determination of a “relevant market” will mostly be based on the competing testimony and analysis of economists. The “relevant market” for antitrust purposes includes both the product or service the company sells and the geographic areas in which it sells. What the relevant market is will often be the crucial question in a merger challenge. For Whole Foods, if the product market is the broader traditional supermarket market, then absorbing Wild Oats would probably not have much of an effect on competition. If the market is the “premium, natural and organic supermarkets” market, then the merger could have a big impact on competition in those locations that don't have other organic supermarkets. It is worth noting that Whole Foods is not the first retailer faced with a narrower-than-expected market definition advocated by the FTC. When the FTC challenged Staples' proposed acquisition of Office Depot, it defined the relevant market as “the sale of office supplies through office superstores.”

The Whole Foods case starkly demonstrates that a company's market for antitrust purposes may not be (or at least may not be in the mind of the FTC) what the business people think it is. Thus, it is crucial for in-house counsel to get knowledgeable antitrust attorneys involved when a significant merger is being considered.

Words May Not Break Your Bones, But They Can Hurt Your Merger

In its legal filings, the FTC liberally cites to, quotes, and relies on Whole Foods' internal company documents to support its argument that the merger would harm competition in the premium natural and organic supermarket market. Whole Foods and its CEO provided the agency with a good deal of ammunition, including:

• An e-mail from the CEO to the Whole Foods board of directors states, “[b]y buying [Wild Oats] we will ' avoid nasty price wars in Portland (both Oregon and Maine), Boulder, Nashville, and several other cities which will harm [Whole Foods'] gross margins and profitability ' . [Wild Oats] is the only existing company that has the brand and number of stores to be a meaningful springboard for another player to get into this space. Eliminating them means eliminating this threat forever”;
• The valuation workbooks for the proposed merger, unfortunately (in retrospect) named “Project Goldmine,” presenting Whole Foods' plan to close a number of Wild Oats stores in areas containing both a Whole Foods and a Wild Oats store, and its projection that Whole Foods would fully retain the sales diverted from the closed stores for at least ten and a half years;
• In various documents, Whole Foods refers to markets that contained a Wild Oats store, but no Whole Foods store, as “non-competitive,” “cash cow,” and “monopoly” markets for Wild Oats.
• The FTC also cites, as evidence that Whole Foods and Wild Oats operate in a distinct premium, natural and organic supermarket market, numerous internet message board postings made by the CEO (under the pseudonym “Rahodeb,” his wife's name spelled backwards) describing how Whole Foods is different from traditional supermarkets.

If this were a John Grisham novel, documents like this would have appeared mysteriously in an unmarked envelope on a first-year FTC lawyer's desk. But in the world of mergers, these can be the very kinds of documents that companies must produce voluntarily to the FTC and DOJ pursuant to the Hart-Scott-Rodino (“HSR”) Act before the merger is closed. Item 4(c) of the HSR notification form requires the company to provide documents prepared by or for officers or directors for the purpose of evaluating or analyzing the merger with respect to market shares, competition, markets, and other competition-related subjects. These “4(c) documents” will usually play a big role in shaping the government's first impression of the deal. If the FTC or DOJ decide to look closer at the deal after reviewing the HSR form, the merging parties will be served with a “leave-no-stone-unturned” request for documents and information about their business operations.

Conclusion

Merger cases are not lost solely because a company's internal documents contain damaging statements. The FTC and the courts rely most heavily on the testimony of economic experts to figure out whether a merger is anticompetitive. But lawyers and judges are human, and it is unrealistic to think that smoking-gun statements in company documents will not have some effect. In the Whole Foods case, for example, Judge Tatel's concurring opinion in the D.C. Circuit Court's decision specifically cites the “Project Goldmine” documents and the CEO's email as evidence that Whole Foods and Wild Oats operate in a premium, natural and organic supermarket market.

For these reasons, in-house counsel must pay close attention to the language used in company documents both on a day-to-day basis and when a merger or acquisition is being considered. Documents that exaggerate or misstate the company's market position or the effect of the deal by using loaded words like “monopoly,” battle terms like “crush” and “defeat,” or descriptions of the merger's benefits as the ability to dominate a market or prevent new entrants can put the company and its expert witnesses at a real disadvantage in a merger challenge. In-house counsel should consider establishing as part of the company's antitrust compliance program, policies and training regarding the use of competition-related language. Further, when a merger or acquisition is first being considered, it is important to engage knowledgeable antitrust counsel to review all documents that discuss the potential transaction.

R. Dale Grimes is a member in the law firm of Bass, Berry & Sims PLC, resident in the Nashville office, and is the chair of the firm's Antitrust and Trade Practices Group.

A couple of years ago few people would have thought that a socially conscious company that specializes in selling organic groceries would find itself in a knock-down, drag-out brawl with the Federal Trade Commission. But that's just what has unfolded as a result of the FTC's challenge of the merger between Whole Foods Market, Inc. and Wild Oats Markets, Inc. While the twists and turns of the FTC's challenge have captivated antitrust aficionados for over a year and a half, there are important lessons for non-antitrust lawyers that may have a merger in their future.

First, the history of the case demonstrates that just because a merger has been consummated doesn't mean the FTC will pack up and go home. In fact, with the economic downturn and fewer mergers taking place, the FTC may very well focus its resources on completed mergers. Second, while every executive is likely to have a definite opinion about which markets their company competes in, that opinion won't carry the day in a merger challenge. Antitrust litigation is driven by competing expert testimony and economic analysis, and a company's market for antitrust purposes may end up being different than what the industry analysts report. Finally, while questionable e-mails and internal company documents may not lead to a loss in court, they can definitely cause problems in a merger challenge. It is, thus, extremely important for companies to have an antitrust compliance program that addresses document creation.

A Quick Recap of the Litigation

By December 2008, the Whole Foods merger had evolved into three separate legal proceedings ' an FTC administrative proceeding, an FTC-initiated action to enjoin the merger that bounced back and forth between federal district court and the court of appeals, and Whole Foods' federal lawsuit alleging that some of the FTC's actions violated the Constitution. As of September 2008, Whole Foods had already spent $16.5 million to defend its acquisition of Wild Oats even before filing its constitutional lawsuit ' that's a whole lot of organic green(s).

A Brief History

The story of these proceedings began in February 2007, when Whole Foods and Wild Oats announced that they would merge. The terms of the deal called for Whole Foods to pay Wild Oats shareholders $18.50 a share and assume $106 million of Wild Oats' debt, for a total price tag of $700 million. In June 2007, the FTC issued an administrative complaint alleging that the merger would violate Section 7 of the Clayton Act, which prohibits mergers that substantially lessen competition or tend to create a monopoly. Simultaneously, the FTC asked the D.C. federal district court to enjoin the merger pending completion of the administrative proceeding. While the FTC did not need the injunction to go forward with its administrative case, without it, the FTC could not stop Whole Foods and Wild Oats from closing the merger and integrating the companies. If this happened, even if the FTC were successful in the administrative proceeding, it would be exponentially harder to unscramble the eggs.

In challenging the merger, the FTC argued that competition would be substantially lessened in the “premium, natural and organic supermarkets” market in a number of cities. Whole Foods, on the other hand, argued that it competed with conventional supermarkets and, accordingly, the relevant market should not be limited to supermarkets specializing in premium organic foods.

In August 2007, the district court announced that it would not enjoin the merger. The court agreed with Whole Foods that its market included traditional supermarkets, a market large enough that the merger would not be likely to substantially lessen competition. The FTC then filed an emergency motion with the D.C. Circuit Court of Appeals requesting that the merger be enjoined pending an appeal, but was rebuffed. Having won (for the time being) in the federal courts, Whole Foods completed the merger at the end of August 2007.

FTC Appeals

Not willing to throw in the towel, in October 2007 the FTC appealed the district court's August 2007 decision to the same Circuit Court that had denied its emergency request to enjoin the merger pending the appeal. While it is not unheard of for the FTC or the merging parties to pursue an appeal or continue an administrative merger challenge after losing at the preliminary injunction stage, practicalities often lead the losing party to call it a day. For the merging parties, a ruling enjoining the merger makes it hard to keep the deal together for the time it takes to complete the administrative hearing. For the FTC, if a merger goes forward, it becomes difficult to untangle the parties. On July 29, 2008, the appellate court reversed the lower court's denial of the injunction, finding that the District Court had analyzed the market issue incorrectly and that the FTC might be able to prove that the relevant market is, in fact, limited to premium, natural and organic supermarkets. The Circuit Court sent the case back to the district court to consider whether the equities supported an injunction.

The Next Step

After its win in the Circuit Court, the FTC decided not to wait for a decision on the remanded case and restarted its long-stayed administrative proceeding. On Dec. 8, 2008, Whole Foods threw a Hail Mary when it filed a separate federal lawsuit alleging that the FTC's conduct in the litigation and administrative proceedings amounted to a violation of its constitutional due process and equal protection rights. This suit was dismissed on Jan. 26, 2009.

Until late January, the FTC's administrative proceeding was on track for a hearing in April of this year. But, on Jan. 29, almost a year and a half after the merger was completed, Whole Foods and the FTC announced a brief ceasefire to discuss a potential settlement, suggesting that the end of the saga may be near.

What Does It All Mean?

If you're a regular shopper at Whole Foods or Wild Oats, you're likely to have an opinion about which market the companies are in and who their competitors are. But in antitrust litigation, the determination of a “relevant market” will mostly be based on the competing testimony and analysis of economists. The “relevant market” for antitrust purposes includes both the product or service the company sells and the geographic areas in which it sells. What the relevant market is will often be the crucial question in a merger challenge. For Whole Foods, if the product market is the broader traditional supermarket market, then absorbing Wild Oats would probably not have much of an effect on competition. If the market is the “premium, natural and organic supermarkets” market, then the merger could have a big impact on competition in those locations that don't have other organic supermarkets. It is worth noting that Whole Foods is not the first retailer faced with a narrower-than-expected market definition advocated by the FTC. When the FTC challenged Staples' proposed acquisition of Office Depot, it defined the relevant market as “the sale of office supplies through office superstores.”

The Whole Foods case starkly demonstrates that a company's market for antitrust purposes may not be (or at least may not be in the mind of the FTC) what the business people think it is. Thus, it is crucial for in-house counsel to get knowledgeable antitrust attorneys involved when a significant merger is being considered.

Words May Not Break Your Bones, But They Can Hurt Your Merger

In its legal filings, the FTC liberally cites to, quotes, and relies on Whole Foods' internal company documents to support its argument that the merger would harm competition in the premium natural and organic supermarket market. Whole Foods and its CEO provided the agency with a good deal of ammunition, including:

• An e-mail from the CEO to the Whole Foods board of directors states, “[b]y buying [Wild Oats] we will ' avoid nasty price wars in Portland (both Oregon and Maine), Boulder, Nashville, and several other cities which will harm [Whole Foods'] gross margins and profitability ' . [Wild Oats] is the only existing company that has the brand and number of stores to be a meaningful springboard for another player to get into this space. Eliminating them means eliminating this threat forever”;
• The valuation workbooks for the proposed merger, unfortunately (in retrospect) named “Project Goldmine,” presenting Whole Foods' plan to close a number of Wild Oats stores in areas containing both a Whole Foods and a Wild Oats store, and its projection that Whole Foods would fully retain the sales diverted from the closed stores for at least ten and a half years;
• In various documents, Whole Foods refers to markets that contained a Wild Oats store, but no Whole Foods store, as “non-competitive,” “cash cow,” and “monopoly” markets for Wild Oats.
• The FTC also cites, as evidence that Whole Foods and Wild Oats operate in a distinct premium, natural and organic supermarket market, numerous internet message board postings made by the CEO (under the pseudonym “Rahodeb,” his wife's name spelled backwards) describing how Whole Foods is different from traditional supermarkets.

If this were a John Grisham novel, documents like this would have appeared mysteriously in an unmarked envelope on a first-year FTC lawyer's desk. But in the world of mergers, these can be the very kinds of documents that companies must produce voluntarily to the FTC and DOJ pursuant to the Hart-Scott-Rodino (“HSR”) Act before the merger is closed. Item 4(c) of the HSR notification form requires the company to provide documents prepared by or for officers or directors for the purpose of evaluating or analyzing the merger with respect to market shares, competition, markets, and other competition-related subjects. These “4(c) documents” will usually play a big role in shaping the government's first impression of the deal. If the FTC or DOJ decide to look closer at the deal after reviewing the HSR form, the merging parties will be served with a “leave-no-stone-unturned” request for documents and information about their business operations.

Conclusion

Merger cases are not lost solely because a company's internal documents contain damaging statements. The FTC and the courts rely most heavily on the testimony of economic experts to figure out whether a merger is anticompetitive. But lawyers and judges are human, and it is unrealistic to think that smoking-gun statements in company documents will not have some effect. In the Whole Foods case, for example, Judge Tatel's concurring opinion in the D.C. Circuit Court's decision specifically cites the “Project Goldmine” documents and the CEO's email as evidence that Whole Foods and Wild Oats operate in a premium, natural and organic supermarket market.

For these reasons, in-house counsel must pay close attention to the language used in company documents both on a day-to-day basis and when a merger or acquisition is being considered. Documents that exaggerate or misstate the company's market position or the effect of the deal by using loaded words like “monopoly,” battle terms like “crush” and “defeat,” or descriptions of the merger's benefits as the ability to dominate a market or prevent new entrants can put the company and its expert witnesses at a real disadvantage in a merger challenge. In-house counsel should consider establishing as part of the company's antitrust compliance program, policies and training regarding the use of competition-related language. Further, when a merger or acquisition is first being considered, it is important to engage knowledgeable antitrust counsel to review all documents that discuss the potential transaction.

R. Dale Grimes is a member in the law firm of Bass, Berry & Sims PLC, resident in the Nashville office, and is the chair of the firm's Antitrust and Trade Practices Group.