Chapter 4: Merger

What is the basic logic behind mergers and acquisitions?

The basic logic behind a merger or acquisition is to:

• expand rapidly/enter new markets more quickly than through organic growth

• protect existing market positions

• and eliminate competitors.

What are the main competition concerns with horizontal, vertical, and conglomerate mergers?

For horizontal mergers: elimination of competition between merging firms, the creation of market power for the merged entity, or the dampening of competition between remaining suppliers.

For vertical mergers: potential to give a company control over bottlenecks in the supply chain.

For conglomerate mergers: leveraging market power from one market into another by means of tying or bundling.

When does a merger have an EU dimension?

A merger has an EU dimension when turnover thresholds are sufficiently large.

• Main thresholds: combined worldwide turnover > €5bn and EU turnover > €250m for at least two firms.

• A second route: combined worldwide revenues > €2.5bn, combined revenues of >€100m in at least three Member States for at least 2 of the firms, revenues of » €25m for each of the firms in those three Member States

What is the two-thirds rule in EU merger control?

There is no EU dimension if each firm earns more than two-thirds of its EU turnover within the same Member State.

In such cases, national competition authorities usually retain jurisdiction.

When is merger notification compulsory at EU level?

At EU level, merger notification is compulsory when the EU turnover thresholds are met.

What are the four analytical steps in merger assessment?

1. Merger thresholds: authorities first determine whether notification requirements to the competition authorities are met.

2. Market definition: authorities define the relevant product or services market through the hypothetical monopolist test.

3. Competitive assessment: authorities assess interaction between firms and the likelihood of reduced competition to the detriment of consumers.

4. Countervailing effects: authorities examine gains in economic efficiency passed on to the consumer and assess potential countervailing buyer power, which may offset anti-competitive concerns.

What are unilateral effects in merger assessment?

When the merger removes direct rivalry between the merging firms, allowing the merged entity to increase prices or lower quality.

This does not require coordination with rivals.

What are coordinated effects in merger assessment?

Coordinated effects arise when the merger makes tacit coordination between remaining firms easier, allowing for collectively higher prices.

Unlike cartels, explicit agreements are not required.

What legal tests are used to assess merger harm in the UK, US, and EU?

The UK and US use the Substantial Lessening of Competition, or SLC, test.

The EU uses the Significant Impediment to Effective Competition, or SIEC, test.

What are merger remedies or UILs?

Merger remedies or UILs (undertakings in lieu) are remedies or commitments that firms may offer if authorities identify competition concerns.

These can be proposed during Phase 1 or Phase 2 investigations.

What are behavioural remedies?

Behavioural remedies regulate future conduct.

Examples: commitments regarding pricing / regarding product supply.

• Advantages: they are relatively flexible and light-touch.

• Disadvantages: they require monitoring and may be potentially less effective.

What are structural remedies?

Structural remedies alter market structure directly.

Examples: divestitures and granting access to infrastructure.

Advantages: preferred because they are more durable and require less ongoing monitoring.

What happens during Phase 1 of the EU merger process?

Phase 1 is the initial investigation.

Possible outcomes are unconditional clearance, conditional clearance with UILs, or referral to Phase 2.

What happens during Phase 2 of the EU merger process?

Phase 2 is a more detailed investigation when serious concerns remain.

Possible outcomes are clearance, clearance with remedies, or prohibition. Appeals are possible after Phase 2 decisions.

What is the counterfactual in unilateral-effects analysis?

The counterfactual asks what the market would look like without the merger.

Usually, pre-merger competition is assumed to continue. However, dynamic counterfactuals may arise.

What are examples of dynamic counterfactuals in merger assessment?

Examples of dynamic counterfactuals include:

• failing firm defence, where one party would exit the market absent the merger (Amazon/Deliveroo 2020)

• imminent parallel transactions that could change market structure imminently (Hutchison 3G / Telefónica UK 2016)

• rapidly changing markets due to changes in technology and regulation (Just Retirement/Partnership Assurance 2015)

• the target being sold to an alternative purchaser (Bottomline/Experian 2020)

• future competition between parties, (Facebook/Giphy)

What is the traditional approach to unilateral effects?

The traditional approach uses market shares as an initial filter.

Low market shares usually imply lower concern.

However, market shares may overstate or understate competitive harm because they ignore:

• closeness of competition,

• ability to expand product offering,

• ability to produce more, ease of entry,

• countervailing buyer power.

What is closeness of competition in unilateral-effects analysis?

Closeness of competition refers to how closely the merging firms compete before the merger.

If two firms are close substitutes, customers switch easily between them and the merger removes an important competitive constraint.

This increases the incentive to raise prices post-merger.

What are diversion ratios?

Diversion ratios measure the proportion of customers leaving one product to switch to another product after a price increase.

Higher diversion ratios imply closer competition between firms.

What did the JD Sports / Footasylum merger show about diversion ratios?

The JD Sports / Footasylum merger showed asymmetric competitive constraints.

46% of Footasylum online footwear customers would switch to JD Sports, while only 16% of JD Sports customers would switch to Footasylum.

This means JD Sports constrained Footasylum much more strongly than the reverse.

What is Upward Pricing Pressure, or UPP?

Upward Pricing Pressure combines diversion ratios with margins to estimate incentives for post-merger price increases.

Net upward pricing pressure exists when D_AB * M_B > E_A,

where D_AB is the diversion ratio from A to B, M_B is the price-cost margin of firm B, and E_A is merger cost saving efficiencies for product A.

What is the key intuition behind UPP?

The key intuition behind UPP is that high diversion plus high margins increase incentives to raise prices after the merger. Efficiencies may offset this effect.

What is the Illustrative Price Rise, or IPR?

The Illustrative Price Rise is another unilateral-effects tool used to measure post-merger price rise incentives.

The incentives are modelled: (m*d)/2*(1-d)

where m= margin and d=diversion ratio, assumed symmetric.

Higher margins and/or diversion ratios imply higher post-merger price rises.

How do authorities estimate diversion ratios in practice?

Authorities frequently use customer surveys to estimate diversion ratios and provide empirical evidence on closeness of competition.

Questions typically examine what consumers would do after price increases, second-choice alternatives, and switching intentions.

What are coordinated effects?

Coordinated effects occur when market conditions facilitate tacit coordination among remaining firms.

This differs from explicit cartels because no direct agreement is required, but the underlying economic theory is largely the same.

Why is avoiding mergers with coordinated effects important?

Avoiding mergers with coordinated effects is a powerful ex ante tool to deter cartel formation.

How does dynamic oligopoly theory explain tacit collusion?

Dynamic oligopoly theory uses the prisoner’s dilemma framework to explain tacit collusion.

Firms face incentives to cooperate on high prices, but also to cheat and undercut rivals.

What are the Airtours criteria?

The Airtours judgment established three key conditions for coordinated effects: market transparency, credible deterrence, and external stability.

What is market transparency under the Airtours criteria?

Market transparency means firms must be able to observe rivals’ behaviour and detect deviations from coordination.

What is credible deterrence under the Airtours criteria?

Credible deterrence means firms must be able to punish deviations effectively.

Without punishment, coordination becomes unstable.

What is external stability under the Airtours criteria?

External stability means competitors, entrants, and customers must not be able to undermine the coordinated outcome.

What are non-horizontal mergers?

Non-horizontal mergers are mergers between firms that do not compete directly, hence no direct rivalry is eliminated.

The lecture explains that non-horizontal mergers often generate efficiencies.

What efficiencies can non-horizontal mergers generate?

Possible efficiencies from non-horizontal mergers include:

• lower costs (no double marginalisation)

• innovation

• better integration of complementary products.

What are vertical merger concerns?

Despite efficiencies, vertical mergers may create foreclosure risks.

These include input foreclosure and customer foreclosure. Both strategies may raise rivals’ costs or weaken downstream competition.

What is input foreclosure?

Input foreclosure occurs when the merged entity may deny rivals access to key inputs.

What is customer foreclosure?

Customer foreclosure occurs when the merged entity may deny rivals access to important customers.

When are input foreclosure and customer foreclosure less concerning?

The success of these theories depends on the alternatives present.

If rivals have alternative upstream suppliers, then foreclosure may not be much of an issue.

What are conglomerate mergers?

Conglomerate mergers involve firms operating in neighbouring or complementary markets.

What are the demand-side efficiencies of conglomerate mergers?

Demand-side efficiencies include one-stop-shop effects and quality improvements through a product ecosystem.

What are the supply-side efficiencies of conglomerate mergers?

Supply-side efficiencies include:

• lower distribution costs,

• pricing externalities being internalised

• quality control, where joint provision helps maintain quality reputation.

What are the potential harms of conglomerate mergers?

Potential harms include leveraging market power into adjacent markets to foreclose competitors through tying (contractual/technical) and bundling (pure/mixed)