Mergers

1. Mergers Barbados Fair Trading Commission Program in Competition Law and Policy Barbados – March 30 - 31, 2011 Sean Dillon Bureau of Competition United States Federal Trade Commission The views expressed herein are those of the author and do not necessarily represent the views of the United States, the Federal Trade Commission or any individual Commissioner.

2. Reasons for Adopting Merger Review • Some mergers result in use of market power • Higher prices • Reduced output • Fewer choices • Reduced incentive to innovate • “Greed is Good”…! • When firms compete to make more money consumers benefit

3. Some are harmful: Create market power If entry is restricted & not otherwise efficient Raise prices Reduce output Inhibit innovation Reduce efficiency Very difficult to remedy after it has taken place Many are beneficial: Create efficiency Encourage investment Allow the introduction of new products and services Most are, at worst, neutral Mergers: the Bad and the Good

4. Sorting the Good from the Bad • Most mergers do not threaten competition • U.S. Statistics: • 1128 mergers notified in Fiscal Year 2010 ($63 million size-of-transaction filing threshold) • Only 46 Second Requests for additional information issued (FTC and DOJ) • 41 enforcement actions – including settlements and court filings (FTC and DOJ)

5. Relevant Statutes • Clayton Act: Section 7 prohibits mergers or acquisitions “where the effect of such acquisition may be substantially to lessen competition, or to tend to create a monopoly.” 15 U.S.C. § 18. • FTC Act: authorizes the FTC to enforce the antitrust laws through a variety of means. • “Congress has empowered the FTC . . . to weed out those mergers whose effect ‘may be substantially to lessen competition’ from those that enhance competition.” FTC v. H.J. Heinz, 246 F.3d 708, 713 (D.C. Cir. 2001).

6. What does “substantially lessen competition” mean? • U.S. Horizontal Merger Guidelines issued by FTC and DOJ in 1992 (revised in 1997 and 2010) • Applies economic thinking to law • Guidelines are not legally binding, but provide predictability to the business community • But guidelines approach followed by: • FTC & DOJ in deciding whether to challenge • Courts in deciding cases

7. The Merger Guidelines Approach • Five Part analysis • Market definition (Product and Geographic Markets) • Market Structure • Competitive effects • Entry Conditions • Efficiencies

8. Defining Relevant Markets • Asks the question, “in what market will the merger substantially lessen competition?” • Two components: • Product Market • Geographic Market • Relevant market defined by where consumer may turn in response to hypothetical monopoly pricing • 5% test • Same test for product and geographic markets • Relevant Product Market • Can be informed by competitive effects evidence • Defining the relevant product market is “not an end in itself: it is one of the tools that the agencies use to assess whether a merger is likely to lessen competition”

9. Examples of Relevant Product Markets • Nestle/Dreyer’s – “super premium ice cream” • Whole Foods/Wild Oats – “premium natural and organic supermarkets” • Google/Doubleclick – “Internet display advertising” • Staples/Office Depot – “office supply superstores” • Swedish Match/National Tobacco – “loose leaf chewing tobacco”

10. Measure Concentration • Who’s in the market? • Sum of market shares squared used to calculate concentration using Herfindahl-Hirschman Index, before and after merger • A market of 4 firms with market shares of 30,30,20, and 20 would have an HHI of 2600 • 302 + 302 + 202 + 202 = 900 + 900 + 400 + 400 = 2600 • Sources of market share information

11. Concentration Continued • If one of the firms with 30 percent market share merged with one of the 20 percent market share firms, the new HHI would be 3800, an increase of 1200 points. (30+20)2 + 302 + 202 = 2500 + 900 + 400 = 3800

12. Concentration Continued • Rebuttable presumptions • Over 2500: (and increases by 200): concentrated, market power will increase • 1500-2500: moderately concentrated • Under 1500: not concentrated, no further analysis required

13. Competitive Effects • This is where the action is in merger analysis • Two types of effects: • 1. Unilateral Effects: can merged firm exercise market power? • 2. Potential Collusion: will reduction in number of competitors make collusion likely?

14. Coordinated Interaction • The theory: Merger may make coordination more likely • The criteria: • Agree • Detect • Punish

15. Factors Facilitating Coordinated Pricing • Market Structure • Homogeneous goods • Similar costs and production methods • Observable prices and other information is easy to obtain

16. Is The Merger Likely To Lead To Coordinated Effects? • Is there a plausible “story” to be told that: • The market is conducive to coordination – i.e., that firms in the post-merger market will be in position to reach terms of coordination, to monitor each others’ compliance, and to react to deviations such that cheating is inhibited • That the merger enhances the likelihood, scope, and/or success of coordination. • Does the merger eliminate a “maverick” who serves to disrupt coordination? • Does the merger enhance the profitability or ease of coordination?

17. Unilateral Effects • Would it be possible for the merged firm to raise prices no matter what anyone else does? • Upward Pricing Pressure (UPP) analysis – the value in sales diverted is measured in proportion to the lost revenues attributable to the reduction in unit sales resulting from the price increase • Most recent cases have been unilateral effects cases.

18. Unilateral Effects Stories • Monopoly/Dominant Firm • Easiest case • Market Definition/Critical Loss Becomes the key question • Localized Competition Eliminated • Differentiated Products • Differentiated Firms • In both types of cases, fringe expansion and repositioning are the key to telling a coherent story.

19. Entry Conditions • If other firms can enter the relevant market easily in response to anticompetitive price increases, it’s less likely to happen • Under 1992 Merger Guidelines, three elements to be analyzed: • Likelihood = Are firms going to enter the market if prices increase and create an opportunity for them? • Timeliness = Would that entry occur relatively quickly (2 years)? • Sufficiency = Will the timely and likely entry be sufficient to prevent or quickly reverse the anticompetitive effects of the transaction?

20. Do Efficiencies Exist? • Will merger create efficiencies that benefit competition and consumers • Elements of the defense: • Verifiable • Cognizable • Merger specific • Rebut anticompetitive effect • Rarely justifies merger to monopoly • No court has ever approved an otherwise anticompetitive merger based on efficiencies

21. “Failing Firm” Defense • Only saves an anticompetitive merger when: • Failure is imminent • Bankruptcy reorganization not possible • No alternative buyer • Assets would exit the market • Frequently claimed; rarely successful

22. Recent Merger Cases • HSR Filed Mergers • CCC/Mitchell (automobile estimating and total loss valuation systems) • CSL/Talecris Biotherapeutics (plasma derivative protein therapies) • Thoratec/HeartWare (life-saving heart pumps) • Consummated Mergers • Polypore/Microporous (battery separators) • Ovation (drug for premature infants with congenital heart defects) • LabCorp (clinical testing services) • ProMedica Health System (acute care hospitals)

23. Non-Horizontal Mergers • Past is not prologue • “both horizontal and vertical mergers must be reviewed with rigor. . . . I will not shy away from considering whether the vertical integration resulting from a merger or acquisition is likely to substantially lessen competition.” – AAG Christine Varney

24. Vertical Mergers • Two Types: • Upstream – Downstream • Complements in Demand • Consumer harm unlikely without pre-merger market power. • Vertical mergers have important efficiencies. • Structural analysis does not give answer. • High concentration and margins do not make harm likely, because they make efficiencies important.

25. Efficiencies from Vertical Mergers • Substitute for vertical contracts, if latter not allowed or incomplete, or have high negotiating & monitoring costs. • Eliminate double markup. Merged firm reduces price and expands output. • Eliminate inefficient input choices when factor proportions are variable. • Integration of products results in better product.

26. Anticompetitive Theories • Facilitate collusion • Reduce rivals’ incentives to compete • Evasion of price regulation • Foreclosure