Mergers that may look conglomerate or vertical at first glance may in essence be horizontal, inasmuch as they involve the removal of a potential competitor. Indeed, many conglomerate and vertical mergers can be addressed from the perspective of potential competition. Economists have started to look into vertical and conglomerate mergers which can be analysed from this perspective in the pharma and digital sectors; however, the issue is not restricted to these sectors.
Merger policy must deal with two issues as regards such mergers: (1) how to make sure that potentially problematic mergers are notified and investigated; and (2) how to assess the social costs and benefits of such mergers. This paper, available here, looks at both these issues.
Second II looks at the theory and evidence of mergers to remove potential competitors.
Large firms have been taking over dozens of small technology firms which have not yet marketed their products, or that were at an initial phase of rollout. Such mergers may have pro-competitive effects, but may also lead to the removal of a potential competitor. Recent literature has provided evidence of ‘killer acquisitions’ and ‘reverse killer acquisitions’ taking place, particularly in the digital and pharmaceutical sectors.
From a theoretical standpoint, the effects of horizontal mergers on prices are well understood and uncontroversial. Absent efficiency gains, the merger between two (potential) competitors leads them to “internalise” the harm that aggressive pricing imposes on each other, and to limit innovation efforts to a single market product. This causes increased prices, reduced innovation and harm to consumers. On the other hand, there can always be sufficient efficiencies to outweigh the competitive harm. However, the higher the market power of the merged entity, the larger those efficiencies must be. Harm is likely to be particularly grievous when there is competition for the market.
Section III looks at the role that merger notification thresholds play as regards potential competition.
Most jurisdictions have safe harbours. These reflect an understanding that, if both parties are small enough in terms of sales and assets, their merger is unlikely to raise prices by a significant amount. It makes sense to allow such a merger without scrutiny in order to save resources of both the firms involved (which would otherwise have to prove efficiency gains) and of competition authorities (which would have to evaluate the merger).
An approach where the safe harbour is based solely on market overlaps being small is not desirable. Under such a safe harbour, a leading firm could take over a small one because the latter would not add much to the former’s market share. However, absent the merger, the firms might well compete with each other more fiercely than indicated by current market positions. This reasoning also extends to mergers with recent entrants with limited (but growing) market shares, and to mergers with potential competitors present in different markets, where the merging firms may well envisage entering each other’s markets. In such cases, the right counterfactual to the merger would be a scenario of effective competition between them.
In the digital sector, the vast majority of acquisitions by leading players have not been investigated simply because the transactions did not meet the thresholds that trigger merger notification. Many jurisdictions rely on turnover-based thresholds. Notification thresholds based on the acquisition price seem a useful complementary screening device. Another possibility is to use a “share of supply” criterion, whereby a merger should be notified if the market share of the combined entity is above a certain threshold.
However, none of these thresholds catches acquisitions by systemic firms of young start-ups that have neither substantial turnover, nor built up a substantial user base or given other clear indications that they are likely to succeed. Given this, proposals to oblige systemic firms to notify all their acquisitions deserves careful consideration. A more radical approach would be to implement a per se approach, under which systemic firms were to be prohibited from any acquisitions.
Section IV considers whether changes to merger assessment are required to address potential competition concerns.
Under current rules, an improvement in a firm’s offering due to the merger can be sufficient to justify the acquisition of a potential competitor when the probability that the latter firm will become an effective competitor in the future is deemed small. Further, the standard of proof for blocking a merger with a potential competitor appears to require that it be “more likely than not” that the acquired firm will become an effective competitor. Competition authorities typically need to substantiate such a finding with documentary evidence which is unlikely to be easily obtained.
The well-established theoretical results demonstrating consumer harm from the removal of a potential or emerging competitor call for a policy approach whereby the approval of such mergers is not the default option. Instead, when serious competition concerns lurk, it would be more in line with economic thinking if the burden of proof to demonstrate that a merger will lead to sufficient efficiencies to be pro-competitive fell on the merging parties. This would also reflect the fact that information about the effects of a merger are typically in the possession of the merging parties.
The authors see particularly strong grounds for a reversal of the burden of proof where one of the merging parties has an entrenched dominant position; i.e. is a systemic firm. The merging parties would then need to provide evidence that either the merger does not raise any significant competitive issue, or that expected efficiency gains are sufficiently large.
This is a short version of arguments developed in a more detailed paper. As a summary of those arguments, it works well, particularly if one knows the underlying literature. To those coming to this debate for the first time, the paper might seem a bit too assertive, and I wonder whether it would not have been better to have focused solely on a specific section of this paper – e.g. the need to reform notification thresholds or to reform evidentiary rules – and develop it a bit more.
This concern is reinforced by the fact that some inaccuracies pop up – which, I am sure, reflect drafting mistakes, but that, while not affecting the argument, may detract from the paper’s persuasiveness. For example, the description of why merger control is more lenient towards small mergers is incomplete. It only covers transactions that may fall below notification thresholds. However, most jurisdictions also allow horizontal mergers even when they involve large companies, and even in relatively concentrated markets, because the substantive legal standard requires a specific type of anticompetitive effects to be established. What is more, many jurisdictions typically allow such transactions without engaging in in-depth review, through simplified merger control procedures, even when they are notified.
This runs against the (implied) argument in the paper that all horizontal mergers are prima facie anticompetitive, and could be prohibited as such if only they were notified and reviewed properly. If one read the paper, she might think that this is the basis for the authors’ stringent proposals regarding (prima facie) less problematic mergers involving potential competition. In effect, their argument as developed in other papers is much more sophisticated, but one would not perceive this from this piece.