News
Recent developments in merger analysis
First published in NZLawyer magazine, 28 May 2010.
"Horizontal" mergers between competitors at the same level of the market have traditionally been considered bread and butter-type work for competition lawyers – although there have been some subtle shifts in recent times.
United States academic and economic thinking has traditionally guided merger analysis in New Zealand and Australia which means the recent changes proposed by the Federal Trade Commission and Department of Justice (the Agencies) in their updated Draft Horizontal Merger Guidelines (the US Draft Merger Guidelines) provide a useful opportunity for a stock-take of current thinking in relation to the competitive effects of horizontal mergers.
In New Zealand, section 47 of the Commerce Act prohibits acquisitions that have the effect or likely effect of "substantially lessening competition in a market". In general terms, this prohibits acquisitions that are likely to result in a material lessening of rivalrous behaviour in a market. While the technical wording of the merger test varies between countries (although not as between New Zealand and Australia) the theoretical underpinnings and the concepts are largely consistent world-wide: the key investigation being to understand whether the merger will result in higher prices (5% is often cited as a rule of thumb, although that can vary) or a material reduction in quality or the level of service.
Market definition
Generally, the first step in merger analysis is to identify and define the relevant
market(s).
The US Draft Merger Guidelines de-emphasise the role of market definition, and go as far as to say that market definition is just one of the tools that the Agencies will use to assess whether a merger is likely to lessen competition and that "[t]he Agencies' analysis need not start with market definition."
In more recent years, we have seen a slight shift away from the need to always define the precise boundaries of the "market" in New Zealand, in favour of an approach whereby products technically outside the boundary of the defined market can nevertheless be taken into account when assessing the level of post-merger pricing constraint.
However, we doubt New Zealand will go as far as the US Draft Merger Guidelines. First, our legislation actually refers to the term "market" (rather than 'line of commerce or in any activity affecting commerce', as in the United States) and second, because a recent United States court decision has in fact reiterated the importance of market definition, noting "...case law's clear requirement that a Plaintiff allege a particular product market in which competition will be impaired".1
Competitive effects
Once the appropriate counterfactual(s) (being the "world without the merger" reference point) and market definition(s) have been identified, the Commerce Commission will look at the competitive effects of the merger. It undertakes this analysis by looking at the number and size of competitors post-acquisition, the height of any barriers to entry and expansion, the level of imports, any countervailing power in the hands of suppliers and/or buyers, and the possibility of co-ordinated behaviour between participants post-acquisition, amongst other things.
The US Draft Merger Guidelines include an entirely new section outlining the types of evidence the Agencies will consider when evaluating the competitive effects of a merger. Interestingly, this list includes assessing the impact of recent mergers, entry, expansion or exit in the relevant market and/or other analogous markets. There have been repeated claims internationally that regulators should do more to assess whether past mergers have, in fact, led to the outcomes forecast at the time – so as to inform future assessments. Of course, there are real issues in doing so, including cost and the appropriateness of seeking and analysing pricing information from a firm involved in a perfectly legitimate commercial transaction.
The Commerce Commission does not, as a matter of course, look into completed mergers – unless they have occurred absent a formal clearance application and the Commerce Commission considers they may substantially lessen competition and hence give rise to a breach. However, it has shown a willingness to look at particular market "events" in order to assist the analysis of a merger's likely impact.
For example, in the DFS Group Limited/Nuance Group decision, the Commerce Commission looked at the entry of a second duty free operator at Wellington International Airport when assessing a duty free merger involving operators at Auckland International Airport – which it said was essentially the reverse of what was proposed at Auckland Airport – thus constituting a type of 'natural experiment'.
Internal documents
The US Draft Merger Guidelines state that Agencies will give more weight to the parties' internal documents prepared in the ordinary course of business than documents prepared as part of the merger process. This is a useful reminder that regulators globally are placing increasing weight on internal documents: company executives looking to promote a merger internally by overselling the prospect of revenue improvements will most likely need to explain why the regulator should not take such documents at face value – bearing in mind the key question for the regulator is whether a merger will lead to price increases.
Co-ordinated market power / Tacit collusion
There has been an increased focus of late on co-ordinated market power by competition agencies around the world. Co-ordinated effects are actions by firms which are only profitable if there is some form of accommodating (but perfectly legal) conduct by a competitor. Closer to home, there is a general feeling among competition practitioners that the ACCC in Australia is looking particularly closely at the potential for mergers to substantially lessen competition because they facilitate the exercise of coordinated market power. Greg Houston of NERA Economic Consulting has been reported as saying that between 2005 and 2009, the ACCC considered the concept of co-ordinated effects in only 8-16% of all statements of issues for mergers, yet in 2010 that number jumps to 75%.2
Economic models
The use of economic techniques in assessing the competitive effects of mergers is becoming increasingly common, as evidenced by the incorporation of specific economic techniques into the US Draft Merger Guidelines. For example, when corroborating their proposed market definition and considering the likely pricing effects of a merger, the US Draft Merger Guidelines state that the Agencies may consider the results of a critical loss analysis, a model which examines the profitability of a price increase on the merging parties' goods or services, in order to understand if the firm would have the incentive and ability to increase price post-merger. The Commerce Commission has an active economics branch, and frequently employs economic tools (including critical loss analysis) to assist the qualitative assessment of a merger's likely impact.
We are seeing increasing merger activity as the economy picks up, and practitioners in this area will need to remain cognisant of the subtle shifts in approach described above – especially when drawing on merger decisions and analysis from 2-3 years ago.
Torrin Crowther is a competition partner and Kate Frankish is a competition solicitor with Bell Gully.
1 The City of New York v Group Health Incorporated, HIP Foundation, Inc and Health Insurance Plan of Greater New York (2010) No 6 Civ13122.
2 Drummond, Matthew. "Watchdog puts bit on mergers" The Independent, 29 April 2010, p 10.
