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Public Policy in Private Markets

Public Policy in Private Markets. Merger Policy. Announcements. Today: Dr. Matt Ouellett from the Center for Teaching will be conducting a Midterm Assessment. Announcements. Debate # 2 next Tuesday, HW 5 due (posted) Debaters: video due to me on March 30 th (Friday)

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Public Policy in Private Markets

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  1. Public Policy in Private Markets Merger Policy

  2. Announcements • Today: Dr. Matt Ouellett from the Center for Teaching will be conducting a Midterm Assessment

  3. Announcements • Debate # 2 next Tuesday, HW 5 due (posted) • Debaters: video due to me on March 30th (Friday) • Clicker issue still present for 2 students • Midterm 2 on April 19 • Length

  4. Merger Law • Important part of antitrust • 3 types of mergers: • Horizontal (cost efficiencies) • Vertical • Conglomerate

  5. Heinz – Beech Nut (K&W, Ch. 6) • Market definition: • Geographic: National • Product: jar baby food • Possible anti(and pro) competitive effects: • Concentration (HHI): from 4775 to 5285 • Increased prices • Unilateral • Collusive • Loss of wholesale competition • Cost efficiencies

  6. Gerber (65%) Heinz (17%) Beech Nut (15%) Operates nationwide Gerber & Beech Nut = premium brands Heinz = discount brand (15% lower price)

  7. The Cost Savings Argument • Heinz to close Beech-Nut production facility • old, high cost, labor intensive • un-automated production process(requires intervention by workers) • 320 workers produced 10 million cases/year • Move production to Heinz facility • newly updated (1990), highly automated • 150 workers produced 12 million cases/year • Heinz: efficiencies would allow selling Beech-Nut brand at a 15% discount

  8. Heinz – Beech Nut • Two smaller firms in a 3-firm market • Do not compete directly • But there is the threat of the other entering • Main argument for merger: • Cost savings passed onto the consumer (econometric analysis) • Could more easily challenge Gerber • Consumer benefits from lower-priced higher quality product • Evidence of competition against Gerber rather than against each other (cross-elasticity study)

  9. Heinz – Beech Nut • FTC: • Loss of wholesale competition: • Absent merger Beech Nut disciplines Heinz and vice versa • Increased prices: without competitor • Collusion with Gerber more likely • Unilateral increase in prices more likely • Cost savings estimates are unreliable • Controversial case: • 3-2 FTC vote • Merger first allowed, then overturned • Efficiencies are key defense for merged firms, but hard to prove

  10. Merger Law • Important part of antitrust • 3 types of mergers: • Horizontal • Vertical • Conglomerate

  11. Vertical and Conglomerate Mergers • Recall concerns: • Vertical Mergers: Foreclosure and increased barriers to entry • Conglomerate Mergers: entrenchment and elimination of potential rivals • Based on DOJ’s Non-Horizontal Merger Guidelines (last updated in 1987) • The most critical burden of proof here is lessening of competition.

  12. Vertical and Conglomerate Mergers • Typical approach: • Is there market power at one level? Will market power translate/increase into the integrated market? Example: • Lockheed-Martin proposed merger with Northrop Grumman (1998, failed) • $11.6 Billion, both aerospace companies • Lockheed: military aircraft • Northrop: radars and electronics used in aircraft • Department of Defense main customer for both firms • DOJ challenges: Substantial lessening of competition, in both upstream and downstream mkts

  13. Lockheed Northrop Merger Northrop 4th largest defense contractor In the world Radars, electronics Northrop’s Competitors Lockheed Martin Largest defense contractor in the world 95% revenue from Department of Defense Lockheed’s Competitors Military Aircraft

  14. Lockheed Northrop Merger Northrop Radars, electronics Northrop’s Competitors Lockheed Martin Lockheed’s Competitors Military Aircraft Concerns: 1. New conglomerate will have a disproportionate % of contract $’s with government 2. Increased barriers to entry & possibility of foreclosure upstream and downstream

  15. Non-Horizontal Merger Guidelines • Set-up is fairly tolerant of vertical mergers • DOJ unlikely to challenge, unless HHI in the acquired firm’s market is > 1,800 • Less likely to challenge if: • Entry into acquiring firm’ market is easy • 3 or more firms in the acquiring firm’s market would have equal advantage of entering the acquired firm’s market • Acquired firm has small mktshare (< 5%) • Efficiencies from merger

  16. Non-Horizontal Mergers • Procter & Gamble – Clorox merger (1967) • Product extension merger, PG (54% of soaps and detergents mkt), Clorox (49% of bleach mkt) • Anticompetitive effects in liquid bleach mkt: • Diminishing of potential competition (PG likely entrant) • Even if did not enter it limited Clorox’s behavior • Entrenchment: Adding PG’s size and marketing to Clorox’s already powerful position may make any future challenge very difficult

  17. Non-Horizontal Mergers • FTC challenges merger (ex-post) • District Court rules in favor of FTC • Court of Appeals reverses ruling • Supreme Court agrees with FTC’s opinion and orders divestiture of Clorox

  18. Non-Horizontal Mergers • 1980’s and 1990’s: large product extension and pure conglomerate mergers: • Nestle (large processed food manufacturer) -Carnation (“cooking milk”) • RJ Reynolds (tobacco) – Nabisco (snacks) • Philip Morris (cigarettes/food) - General Foods (cereals) • Philip Morris-Kraft (food and beverages)

  19. Non-Horizontal Mergers • Example: Philip Morris-Kraft (1988) • Total Sales after merger: $37.6 B; $11.5 B bid • Mostly product extension, with some overlap (frozen foods) • PM: unrivaled position in dry and frozen food lines • Arguments for challenge: • PM’s dominated shelf space, advertising, rebates, promotional allowances; dominance into new market may reduce competition • Lessening of competition: not as strong an argument as Kraft was one of many competitors • Counterargument: economies of scale/efficiencies • Outcome: no challenge

  20. Non-Horizontal Mergers • More recently: Philip Morris-Nabisco (1999) • Combined sales: $35 B • Mostly product extension merger (some horizontal) • Contentious issue. • Horizontal segments in “individual” foods: crackers, pudding, etc. • Merger allowed with divestiture of Nabisco brands: • Dry mix gelatin: PM (86%), Nab (6%) • Dry mix pudding: PM (82%), Nab (9%) • No-bake desserts: PM (90%), Nab (6%) • Baking powder: PM (27%), Nab (17%)

  21. Non-Horizontal Mergers • 1980’s and 1990’s: large market extension mergers: • Kroger-Dillon, 1983 • American Stores-Jewel, 1984 • American Stores-Lucky, 1988 • All retailing/supermarket mergers • Agencies felt: • Big enough queue of potential competitors • Little or no BTE

  22. Non-Horizontal Mergers • Main Points: • Not all mergers are equal • Some mergers can have more than 1 of the 3 components (vertical, horizontal, conglomerate) • Main concern for antitrust authorities is lessening of competition • In general, non-horizontal mergers are frowned upon less frequently than horizontal mergers

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