The Full Monty - European Commission Prohibits Illumina’s US$8 Billion Acquisition of Grail

The European Commission has prohibited Illumina, Inc.’s August 2021 acquisition of cancer detection tests developer, Grail, Inc., concluding that it would have significantly impeded effective competition. Relying on a novel interpretation of its jurisdictional powers to bring the transaction within its reach, and assessing it on the basis of its expected impact on an ongoing and open innovation race rather than on the basis of (so far) inexistent products and product sales, the decision is remarkable for a number of procedural and substantive law reasons. Some are unorthodox, others just avantgarde, but all of them will be put to the test with Illumina set to appeal. The courts will have their hands full as the EC used the entire tool box to stop this deal.

First on jurisdiction. This is a case that should have never been subjected to merger control scrutiny in Europe. As a startup company, Grail, did not generate any revenues to trigger a filing requirement under any European merger control regime and surely seemed out of any regulator’s reach here, when the deal was announced in September 2020. Enter Commissioner Vestager and her plan to revive (some may say “repurpose”) an obscure mechanism under the EU Merger Regulation (EUMR) to deal the “small issue” of jurisdiction. What exactly she had in mind was presented in March 2021 when the Commission published its Article 22 Guidance Paper setting out its plans to tackle “transactions where the turnover of at least one of the undertakings concerned does not reflect its actual or future competitive potential” and that, therefore, stay below the traditional revenue-based filing thresholds of the EUMR. To conjure jurisdiction out of nothing the Commission relies on EU Member State regulators who are encouraged to refer cases that are not reportable even under national law. While technically covered by the broad wording of Article 22 EUMR, there are good reasons to challenge the application of that provision, for example, on grounds that the legislature had something else in mind when introducing that referral mechanism to the original merger regulation back in 1989 — namely to close a regulatory gap that existed at the time when a number of Member States still had no merger control laws and lacked the legal means and/or the practical expertise to effectively scrutinize problematic transactions. Fast forward 30 years and that argument seems outdated, when today all Member States apart from Luxembourg have their own merger control laws. Sure enough, when in April 2021 the EC accepted France’s referral request and asserted jurisdiction over the Grail transaction, Illumina went to court.

By judgment of July 13, 2022 the EU’s General Court, however, ruled in the Commission’s favor, finding that Article 22 referrals are possible irrespective of whether the transaction in question falls within the scope of the merger control rules of that Member State, or whether the latter has such a control system. While the Court carried out a literal, contextual, teleological, and historical interpretation of Article 22, the focus appears to have been on the wording of the provision that does not spell out any limitations other than that the transaction in question “affects trade between Member States and threatens to significantly affect competition within the territory of the Member State or States making the request.” As for the telos, the Court identified an overarching theme in the EUMR that aimed at conferring upon the Commission “the flexibility necessary to achieve the objective of that regulation, which is to permit the control of concentrations likely significantly to impede effective competition in the internal market” — irrespective of whether or not EU or national jurisdictional thresholds are met. In this sense, the Luxembourg judges regard Article 22 as a “corrective mechanism”; i.e., one that applies when traditional, clear-cut thresholds fail to confer jurisdiction. In a way, it seems that a minus in jurisdiction should be compensated by a plus in competitive concerns. That this argument could be considered as confusing procedural and substantive aspects of a case, was apparently not discussed. There is equally no mentioning about the historical context in 1989 when even those Member States that did have a merger control regime, might have cherished the possibility to bring in the Commission as a more seasoned and better-equipped enforcer to handle problematic cases. One could argue that that context explains why Article 22 was not drafted to explicitly limit referrals to Member States without a merger control regime — but that the purpose was not to open the door to almost boundless jurisdiction. Maybe the EU’s Court of Justice will look into that argument as Illumina has indicated its intention to appeal the General Court’s judgement.

Then on substance. It is one thing to prohibit a transaction that does not fall within your traditional jurisdiction. Another thing is to prohibit a transaction that involves a target company that has not generated any sales anywhere in the world, and to do so because of a product that does not yet exist.

In merger control, the prognosis that an agency has to deliver in terms of a transaction’s anticipated effects on competition, is always the challenging part. There are so many things in life that are possible in the abstract, so it is for the Commission and its peers to walk a thin line between wild speculation and the robust assessment on likely outcomes. The more uncertainties you add to the equation, the bigger the challenge. Illumina will have probably not expected the EC’s intervention to review the case. Then, when the investigation started, Illumina will have taken comfort from the fact that this is a vertical transaction, playing out in the seemingly virtual space where innovators meet, not in real markets. Both factors must have looked like pushing this case into the sphere of the unknowable and the speculative. Maybe it was that view that encouraged Illumina to close the transaction in August 2021, while the Commission’s in-depth Phase II investigation was in full swing. If so, it was a misjudgment.

This is Europe and not the US.¹ Here, closely investigating vertical mergers is not unusual. Theories of harm around input and customer foreclosure are well-developed, tried, and tested. So is the concept of innovation competition. In 2017, it was this theory that necessitated the divestment of DuPont’s global pesticide business, including its global R&D organization as the price to pay for the Commission’s conditional approval of the Dow/DuPont merger. A more recent example is the failed NVIDIA/Arm acquisition — although that one was notified to the Commission only after Illumina had already closed the Grail deal. Had Illumina waited a bit longer, it may have thought again. NVIDIA/Arm foreshadowed several of the factors in the EC’s thinking that would ultimately bring Illumina/Grail to its knees.

In the press release announcing its prohibition decision (the decision itself is not yet public), the Commission outlines its thinking as follows: to develop blood-based early cancer detection tests, Grail and its competitors rely on next generation sequencing (NGS) systems (including instruments, consumables, and ancillary services) for genetic and genomic analysis. At present, Illumina is the only credible supplier of such NGS systems, which means that by cutting off Grail’s competitors from this essential input, Illumina would be able to materially impact the ongoing ‘close’ innovation race — effectively choosing the winner and the eminent player for years to come in a global market that is estimated to value EUR 40 billion in 2035. While prior to the transaction Illumina already had the ability to decide the outcome of the innovation race, the acquisition fundamentally changes incentives. Any input foreclosure comes with the loss of sales as certain market participants are no longer served. The key question is then whether the merged entity can compensate lost upstream revenues with increased sales and prices on the downstream market. The concern is that a monopolistic Grail would be able to make that calculation work. Moreover, there is no guarantee that Illumina’s choice favoring Grail over other contestants results in the best solution for the market (and patients).

The parallels to the NVIDIA/Arm case (where Arm’s CPU IP had similar systemic importance for datacenters as Illumina’s NGS systems do for cancer detection tests) extend also to the lack of suitable remedies. While Illumina did offer commitments to address the EC’s concerns, those were considered inadequate. As for the proposal to give Grail’s rivals contractual supply commitments until 2033, the Commission found that those could be easily circumvented by offering preferential treatment to Grail. The concern was also that such commitments would be complex and difficult to monitor, not least because competitors might not become aware of them. In any event, a supply commitment could be ineffective if a competitor received the product but not the required technical support or only in a degraded form.

Finally on procedure. In October 2021, the Commission ordered Illumina to keep the Grail business as a separate operation. These interim measures are still in place. While the Commission has now prohibited the transaction, it did not yet decide on the immediate consequences for the parties, noting only its options under the EUMR: “Where a concentration that has been declared incompatible with the internal market has been already implemented, the Commission may under Article 8(4) or the EU Merger Regulation, dissolve the concentration or take other appropriate measures. The Commission will assess in due course whether and which additional steps will be required.” Whether or not and in particular when, a dissolution order should be expected will likely depend on how Illumina continues to operate Grail as it waits for the outcome of its appeals. One thing is for sure: if the Commission takes Article 8(4) action, it would be only the sixth time in more than 30 years — and it would certainly be messy. There is also a distinct possibility that it could get costly as the Commission’s press release includes a reminder that companies in breach of the EUMR’s stand-still obligation face a fine of up to 10% of their annual worldwide turnover.

Despite, or rather because of, the fact that the Commission went all out on this transaction, there is still more to come. It will be up to the Courts to decide what direction EU merger enforcement will take. For now, companies need to be aware that Brussels may call in their transactions even if they seem too small to matter jurisdictionally. It may well be that from here on, the typical filing analysis no longer focuses just on financial data but that substantive concerns may have to be assessed early on. For third-party complainants trying to frustrate their rivals’ expansion plans, the Article 22 mechanism just became an even more attractive tool.

At O’Melveny, our antitrust experts are experienced in appraising and managing merger cases. Our in-depth understanding of how the EC and other agencies around the world work, and our established relationships with these agencies’ staff, enable us to help our clients navigate today’s regulatory landscape.

¹In the US, the Federal Trade Commission (FTC) filed an administrative complaint and authorized a federal court lawsuit to block the transaction in March 2021. The FTC’s complaint alleged that the transaction would dimmish innovation in the US market for multi-cancer early-detection (MCED) tests. In May 2021, the FTC dismissed its federal-court lawsuit, preferring to go ahead with the administrative proceeding, arguing the federal-court case was no longer needed since the EC was investigating. In an Initial Decision announced on Sept. 1, 2022, Chief Administrative Law Judge D. Michael Chappell dismissed the charges in the complaint, concluding that “Complaint Counsel has failed to prove its asserted prima facie case – that Illumina’s post-acquisition ability and incentive to advantage Grail to the disadvantage of Grail’s alleged rivals is likely to result in a substantial lessening of competition in the relevant market for the research, development, and commercialization of MCED tests.” The FTC has filed a Notice of Appeal.

This memorandum is a summary for general information and discussion only and may be considered an advertisement for certain purposes. It is not a full analysis of the matters presented, may not be relied upon as legal advice, and does not purport to represent the views of our clients or the Firm. Riccardo Celli, an O’Melveny partner licensed to practice law in Italy, England and Wales, Christian Peeters, an O’Melveny of counsel licensed to practice law in Germany and Belgium, and Philippe Nogues, an O’Melveny counsel licensed to practice law in France and Belgium, contributed to the content of this newsletter. The views expressed in this newsletter are the views of the authors except as otherwise noted.

© 2022 O’Melveny & Myers LLP. All Rights Reserved. Portions of this communication may contain attorney advertising. Prior results do not guarantee a similar outcome. Please direct all inquiries regarding New York’s Rules of Professional Conduct to O’Melveny & Myers LLP, Times Square Tower, 7 Times Square, New York, NY, 10036, T: +1 212 326 2000.