BACKGROUND: The Rule - What It Means and What It Prohibits

A somewhat little-known and obscure provision of U.S. antitrust law – Section 8 of the Clayton Act – makes it illegal in certain circumstances for the same person to serve as a director of competing corporations. If certain conditions exist, that circumstance is known as an “interlocking directorate” or “interlock” and it is a per se violation of the antitrust laws.^[1] For purposes of Section 8, corporations are competitors when, based on their business and location of operation, an agreement between them to eliminate competition would constitute an antitrust violation.^[2] Section 8 applies both when one individual serves on the boards of competing corporations and when one firm has appointed two different individuals to sit as its agents on the boards or as officers of competing companies.^[3] The latter situation is referred to as the agency theory of Section 8, and it is particularly relevant for private equity firms and other investors who have competing corporations in their portfolio companies, and appoint different individuals to sit on those boards or hold officer positions.

The interlock rule addresses the concern that an interlock between two competitors provides an opportunity for anticompetitive conduct by, for example, providing a forum for the sharing of competitively sensitive information which can be used for anticompetitive purposes by those competitors,^[4] allowing them to collude on matters such as pricing and customer and market allocation. Section 8’s goal is to remove the opportunity or temptation to engage in such anticompetitive conduct in violation of antitrust laws, and that goal fits squarely with the overarching goal of the antitrust laws -- to prevent harm to the economy and consumers as a result of anticompetitive conduct.^[5]

What You Need to Know:

• Section 8 of the Clayton Act prevents, in certain circumstances, the same person from serving as an officer or sitting on the boards of corporations that compete with each other.
• Within the last year, the U.S. Department of Justice has demonstrated a new-found vigor for enforcing the prohibition of “interlocking directorates” embodied in Section 8.
• Corporations would be wise to look closely at their officers and board members and determine if any potentially illegal “interlock” exists. In particular, private equity interests and other investors with board appointment authority should be taking a closer look at who is representing their interests on boards of competing companies in their investment portfolios.
• If potential interlocks are found, counsel should be consulted to determine whether the interlock is actually illegal, and if it is, to determine how to proceed to correct the situation.

THE PARTICULARS: When is an Interlock Illegal?

Not all interlocks are illegal, as Section 8 does not apply to all companies and situations, and there are a few important safe harbors.

Section 8 requires that the corporations involved each have capital, surplus, and undivided profits which exceed in the aggregate $45,257,000 (this amount is adjusted annually by the Federal Trade Commission and was last adjusted on January 23, 2023). Section 8 does not apply if one of the following is true regarding the corporations’ competitive sales (defined as gross annual revenues for the overlapping products and services in the most recent fiscal year): (a) either corporation’s competitive sales are less than $4,525,700 (this amount is adjusted annually by the Federal Trade Commission and was last adjusted on January 23, 2023); (b) either corporation’s competitive sales are less than two percent of that corporation’s total sales; or (c) each corporation’s competitive sales are less than four percent of its total sales.^[6]

Section 8 also only applies to competitor, i.e., horizontal interlocks and does not apply to: (i) vertical interlocks (interlocks between suppliers and customers); (ii) interlocks between potential competitors; (iii) interlocks involving related individuals or close friends; (iv) interlocks where individuals from competing corporations both sit on a board of a non-competing company; and (v) interlocks involving entities other than corporations, such as partnerships.^[7] Regarding the latter type of interlock, it is not clear whether Section 8 applies to limited liability companies; neither the courts nor the enforcement agencies have yet to address the issue.^[8] Given the new-found enforcement rigor, however, it is not beyond possibility that greater scrutiny will be applied to the competition issue as between non-corporate entities, so as to focus on the substantive goal of Section 8. This is also potentially a concern because while the financial thresholds and type of interlock exceptions may prevent a Section 8 claim, it is still possible for the FTC to bring an action challenging an interlock under Section 5 of the FTC Act (prohibiting unfair methods of competition) or Section 1 of the Sherman Act (prohibiting agreements that unreasonably restrain trade). As a result, if an interlock does exist which appears eligible for an exception, the relationship between the companies involved from a competition perspective should still be closely examined to determine if any risk exists.

Enforcement actions under Section 8 against companies for interlocking directorates may be brought by the FTC, DOJ, state attorneys generals, and private parties. Section 8 is a strict liability statute (that is, it is a per se violation of the antitrust laws) – no proof of any competitive injury needs to be established. The remedy for a Section 8 violation is injunctive relief, which typically requires elimination of the interlock through resignation of the offending officer or director. If an interlock is created through a transaction, such as a merger or investment, then the corporations may be required to restructure the board complements to eliminate the interlock. When an intervening event causes an interlocking directorate, there is a one-year grace period from the date of such intervening event for the companies to remedy the situation (this grace period applies as long as the person was eligible to serve in their positions at the time of their elections without violating Section 8).^[9]

RECOMMENDATIONS – What to Do Now

The Biden administration’s increased focus on competition and more rigorous antitrust enforcement has led to the renewed concentration on Section 8 enforcement. Recently, in October 2022, the U.S. Department of Justice (“DOJ”) announced that it had obtained the resignations of seven directors who resigned from their corporate board positions in response to DOJ’s claim that their roles violated Section 8.^[10] That undertaking and the press surrounding and following it clearly indicate that DOJ will continue to look for offending interlocks. Given the simplicity of the remedy and the relative clarity of the rules, companies would be wise to do some proactive due diligence on the Section 8 issue.

If an offending interlock is found, or if the DOJ or FTC pursues a Section 8 claim against a company, it is recommended that proactive action – resignation – be taken. The speed with which that action is taken will help to avoid a likely broader inquiry by the enforcement agency in the face of any company push back. That broader inquiry would involve the agency looking for and at the sharing of competitively sensitive information with the interlocked director and the analysis of possible collusion resulting from that sharing. If the Section 8 investigation proceeds, it is virtually guaranteed that the enforcement agency will take an expanded look at other Sherman Act issues, which can result in civil and criminal penalties. Again, given the simplicity of the remedy – resignation – is that risk worth it?

To avoid a DOJ or FTC investigation, companies should perform due diligence concerning individuals sitting on their board and ask, simply – does this person sit on other boards? Which? Do we compete with that other entity? If so, do the companies meet the financial thresholds for a Section 8 violation? If the financial thresholds are not met at the time of the inquiry, a protocol ought to be developed and put in place to monitor changes that might trigger a violation. The company should monitor its capital, surplus, and undivided profits and compare those levels annually against the adjusted Section 8 thresholds.^[11] If an acquisition or merger or other similar transaction is contemplated, board complements post-closing should be considered and reviewed for any interlock issues and action taken, if needed, to avoid a Section 8 issue.

The Biden administration’s renewed focus on competition and antitrust enforcement includes its skepticism towards the involvement of private equity concerns in merger and acquisition activities generally and it is worth noting that three of the individuals who resigned as a result of DOJ’s October 2022 actions were individuals who represented a private equity firm. Firms should take a close look at the board positions they have appointed individuals to and review if any of them have competitive overlap.^[12] They should also closely monitor the merger and acquisition activity of their portfolio companies, as such transactions may create an interlock if the transaction involves a new business line.^[13]

[1] 15 U.S.C. § 19.
[2] 15 U.S.C. § 19(a)(1)(B).
[3] https://www.ftc.gov/enforcement/competition-matters/2019/06/interlocking-mindfulness
[4] https://www.ftc.gov/enforcement/competition-matters/2019/06/interlocking-mindfulness
[5] https://www.ftc.gov/enforcement/competition-matters/2017/01/have-plan-comply-bar-horizontal-interlocks
[6] 15 U.S.C. § 19(a)(1), (2)
[7] https://www.ftc.gov/sites/default/files/documents/public_statements/terra-incognita-vertical-and- conglomerate-merger-and-interlocking-directorate-law-enforcement-united/090911roschspeechunivhongkong.pdf
[8] Julian O. Von Kalinowski et al., Antitrust Laws and Trade Regulation § 35.03 (2d ed. 2013)
[9] 15 U.S.C. § 19(b)
[10] https://www.justice.gov/opa/pr/directors-resign-boards-five-companies-response-justice-department-concerns-about-potentially
[11] https://www.ftc.gov/enforcement/competition-matters/2017/01/have-plan-comply-bar-horizontal-interlocks
[12] https://www.law360.com/competition/articles/1564439?utm_source=shared-articles&utm_medium=email&utm_campaign=shared-articles
[13] https://www.ftc.gov/enforcement/competition-matters/2019/06/interlocking-mindfulness