Competition Constraints and Exit Strategies

In the local music world, it would be said with a mixture of awe and Kiwi pride that a local business had legitimately achieved world domination of their market.

But sometimes your success can also become your handicap, and for Serato the big payday of an acquisition has sadly been tripped by an adverse Commerce Commission decision.

The Commission last week declined clearance for AlphaTheta Corporation's (ATC) proposed acquisition of Serato Research Limited (Serato), saying that it could not exclude a real chance that the merger would result in a substantial lessening of competition of DJ software, resulting in price rises to consumers and/or lower quality software offering.

Background

ATC and Serato are prominent players in the DJ division of the music industry.

ATC, operating under the Pioneer DJ brand, provides DJ hardware and software through its rekordbox brand.

Serato, on the other hand, is renowned for its DJ software, which currently is integrated through various DJ hardware brands, including Pioneer DJ.

The proposed acquisition, valued at NZ$106.8 million, was over the $100 million-dollar foreign investment threshold and required consent from the Overseas Investment Office (OIO).

In September 2023, ATC received consent by the OIO after satisfying the investor test criteria. However, this consent was conditional upon clearance from the Commission, along with other standard and reporting conditions. Following this, in October 2023, ATC applied to the Commission for clearance to acquire 100% of Serato's shares.

The proposed acquisition received numerous submissions from DJs, tech investors, and market competitors. The acquisition even attracted the attention of the UK's Competition and Market Authority, who launched their own investigation into the deal in March 2024.

One submission was from US audio equipment maker and competitor, inMusic, who raised fears that their company would be severely impacted by the proposed acquisition as ATC would control the majority of both the DJ hardware and DJ software markets and consumers would be without choice as the two products would be combined in so many ways. inMusic's submission to the Commission described the takeover as "a play to effectively control the majority of the DJ market and to give the company a hold over all of Serato's partners."

inMusic also voiced concern that the acquisition would, among other things, slow down innovation in the DJ sector, increase prices and prevent DJ hardware competitors from accessing the only "reasonable alternative" to rekordbox in Serato.

Commission's Decision, and what next?

When the Commission considers a merger clearance application, they must focus on whether any competition that would be lost with the merger would be substantial.

The Commission's assessment was that the proposed acquisition would have combined ownership of the most popular DJ software brand (Serato) with the most popular DJ hardware brand (Pioneer DJ). Consequently, the Commission was not satisfied that the merger would not have the effect of substantially lessening competition in the markets for DJ software and DJ hardware.

The Commission has not publicly released the full decision; however, it has now been confirmed by the UK's Competition and Markets Authority that Serato will not be pursuing an appeal, having received written assurances from both parties that the acquisition would be abandoned..

What we are seeing here is the Commission in pursuit of optimal balance: promoting innovation and fair pricing while preventing outright market dominance. Ideally, competition flourishes and consumer interests guide market evolution.

But what might the aspiring innovator see in this, in terms of the exit strategy?

Competition Constraints and Exit Strategies

In New Zealand, exit strategies are a vital part of a company's life cycle, as they allow entrepreneurs, investors and start-ups to realise their gains. It is crucial for companies, especially start-ups, to consider competition constraints when evaluating their exit strategies.

As seeking clearance from the Commission can be an extensive and costly exercise, weighing up the risks and likelihood of receiving clearance should always be a preliminary consideration before entering a transaction of this nature. This judgement exercise is part of the reason that it is generally an uncommon occurrence to see rejections of applications for domestic mergers in multinational deals.

The Commission's length of time to reach the decision should be noted. While the Commerce Act 1986 stipulates a 40-day turnaround for clearance applications, extensions are possible with mutual agreement. Consider the case of ATC: they applied to the OIO on June 6, 2023, aiming for consent by June 30.

Potentially oblivious to any competition law implications at the time, they were aiming to complete the sale by 3 July 2023.

Over a year later and no deal to show for it highlights the importance for start-ups and companies considering a sale to seek legal advice on any and all regulatory compliance requirements that may arise during the transaction, and especially competition law. Prolonged regulatory processes can affect investor confidence, making it harder to attract future investments. Spending months (or years) with a deal stuck in arrested development can drastically diminish a start-up's opportunities for growth and ability to innovate, resulting in reduced market visibility and fewer potential buyers.

While we expect this experience was disheartening for all involved parties, Serato has still created an innovative, globally recognised product, which we believe is likely to catch another potential purchaser's eye in the near future.

Conclusion

The Commission's decision to decline clearance of the proposed acquisition serves as a reminder for any entity considering a domestic or international merger with a competitor, to carefully consider any foreseeable competition constraints and other regulatory requirements.

This needs to be clearly on the innovator's radar.

The ramifications can end up going far beyond the immediate transaction, potentially compromising your long-term viability and strategic options.

Strategic planning can be complex, and regulatory approval processes can be costly, so it is important that you are well-informed when weighing your options.

If you are thinking about selling or are an overseas investor, then you should seek legal advice to ascertain whether consents or notifications are likely to be required for your transaction.

Please feel free to contact a member of our team to discuss overseas investment or assist with your consent application or notification.

This article was written with the assistance of Caleb Turnbull, a Solicitor, and Will Richardson, a graduate, in the Corporate and Commercial team in Wellington.

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