Conglomerate Mergers and Antitrust Laws: A Discussion on Section 7 of the Clayton Act, Study notes of Law

Download Conglomerate Mergers and Antitrust Laws: A Discussion on Section 7 of the Clayton Act and more Study notes Law in PDF only on Docsity! For Release the afternoon of Dec. 2,1966 STATEMENT by COMMISSIONER EVERETTE MACINTYRE on CONGLOMERATE MERGERS AND ANTITRUST LAWS Before the PRACTICING LAW INSTITUTE New York,N.Y. December 2, 1966 CONGLOMERATE MERGERS AND ANTITRUST LAWS Introduction Today, we are considering conglomerate mergers and the questions they present under the antitrust laws. Of course, such consideration brings into focus not only the question of whether antitrust laws apply to conglomerate mergers, but also public policy questions presented by increasing overall concentration of economic power. There are no easy answers and the proposed solutions are often in conflict. Simple legal formulas obviously do not apply in this area, for here we deal with questions on the frontier of antitrust "in that no man's land where economics, law and political science converge." 1/ The approach to the issue of the reach of Section 7 of the Clayton Act with respect to conglomerate mergers and joint ventures is necessarily con- ditioned by one's views as to whether aggregate or overall concentration, as opposed to concentration in particular markets, is properly an antitrust problem. Distinguished lawyers, economists and legislators have expressed many different views on this point and a consensus is difficult to find. 1/ A.A. Berle, "The Measurement of Industrial Concentration", The Review of Economics and Statistics, Vol. XXIV (1952),p.172 tion. It is said that since most merger suits are likely to be upheld by the Supreme Court, the Department of Justice and the Federal Trade Commission have a particular obligation to evaluate the economic implications of the merger cases, which, if brought, they are in any event likely to win. 5/ Those disturbed by current developments under the merger law apparently fear that the merger policy, as it is developing may freeze business into an obsolete pattern. The argument is made that the attempt to preserve a market structure of many competitors for the purpose of maintaining competition is groundless. The main thrust of the argument is evidently that a permissive policy as to mergers will foster the flexibility and encourage the innovation essential to a dynamic economy. For example, as I understand the proposition, a more permissive merger policy, allowing firms to acquire by way of merger managerial skills or additional product lines for purposes of diversification, would result in competitors 5/ E.g., "In short, the broadly tolerant view which the Suprerfie" Court is likely to take of agency decisions to prosecute acquisitions makes it imperative, in my view, that the agencies candidly and thoughtfully face the full implications of their roles -- antitrust is not just law enforcement. It is not a branch of whodunit law enforcement. Antitrust is economic regulation cast in the form of individual adversary proceedings. Those in charge of it . . . must justify their actions and their policy not only in terms of whether they win the case in the court (they usually will), but in terms of economic effect." Fortas, "Portents for New Antitrust Policy," X Antitrust Bull. 41, 47 (1965). 4. better able to withstand the vicissitudes of competition under modern conditions. 6/ Antitrust Agencies and Concentration The problem then boils down to the question: What is the structure of the economy like at the present time and should the antitrust agencies concern themselves at all with the size and shape of economic markets? The antitrust laws are based on the premise that competition in the marketplace most efficiently allocates economic resources since it fosters efficient production, stimulates innovations and thus satisfies consumer needs better and more effectively than economic systems relying, for example, on Government regulation. 7/ In this connection, I am generally in agreement with the proposition that workable competition requires many firms, none of which has sufficient control of a product to greatly affect the price or terms of exchange that result from the 6/ "Antitrust in an Era of Radical Change", Fortune, March 1966. 7/ See "The Annual Report of the Council of Economic Sdvisors" to the President, 131 (1965); see also Orrick, "Antitrust In The Great Society", 27 A.B.A Antitrust Sec. 26 (1965). 5. bargaining process in the market. 8/ Concentration has been singled out as a possible indicator of where significantly noncompetitive markets may be found. 9/ This proposition is one to be considered seriously in the establishment of public policy. The difficulty for application of antitrust standards to conglomerate mergers and, for that matter, to joint ventures, is that generally the true conglomerate or the joint venture does not increase concentration within a specific market — at least not immediately, although there may be a measureable effect stemming from conglomerai acquisitions and joint ventures on overall concentration in the economy. Further, since the phenomenon of 8/ Testimony of Dr. David R. Martin, Graduate School of Business, Indiana University, Hearings on Economic Concen- tration (hereinafter referred to as Concentration Hearings) Subcommittee on Antitrust and Monopoly of the Committee on the Judiciary, U.S. Senate, 89th Cong., 2d Sess. 695 (1965). See also United States v. Philadelphia National Bank, 374 U.S. 321, 363 (1963): "That ' [competition is likely to be greatest when there are many sellers, none of which has any significant market share,' is common ground among most economists, and was undoubtedly a premise of congressional reasoning about the anti- merger statute." 9/ Testimony of Dr. Carl Kaysen, Professor of Political Economy, Harvard University, Concentration Hearings, 89th Cong., 1st Sess. 544 (1965). 6. Overall concentration, to a large degree, it appears, has been a function of business' drive for diversification 12/ and some commentators directly ascribe the increase in aggregate concentration to the conglomerate merger. 13/ Joint ventures also evidently bear some responsibility for this phenomenon. \AJ The implications of the conglomerate merger movement for antitrust policy is demonstrated by the increase in mergers of this category to a percentage of 71 percent of all large mergers in the period 1960 to 1965 12/ Cjf. , testimony of Dr. Joel Dirlam, Concentration Hearings, supra note 9, at 748. 13/ Senator Hart states: " . . . there is a substantial consensus that much of the increase in overall concentration which has already taken place -- to say nothing of the further increases which may occur in the future -- stem from the rapid growth of the large conglomerate corporations." Hart, "A Forecast Re Economic Concentration", supra note 2, at 55. See also Houghton, "Mergers, Superconcentration and the Public Interest", Administered Prices — A Compendium on Public Policy, Subcommittee on Antitrust and Monopoly of the Committee on the Judiciary, U.S. Senate, 88th Cong., 1st Sess. 152, 154 (1963) . 14/ According to Dr. Willard Mueller, an examination of the TiTrgest manufacturing corporations indicates that at a minimum 15 joint ventures with combined assets of almost nine hundred million dollars were included among the 1000 largest corporations in 1962. Testimony of Dr. Willard Mueller, Concentration Hearings, supra note 10 at 113. 9. at a time when the percentage of horizontal mergers declined to 12 percent of the total. 15/ The significance to antitrust of increasing aggregate concentration resulting from the conglomerate merger movemen is that as a result of diversification certain firms have become more significant than the industries in which they operate. 16/ The conglomerate merger movement, it has been noted, threatens to break down traditional industry barriers Accordingly, conventional economic analysis concentrating upon market power in a single market and assuming a single product may have little, if any, relevance to the behavior of the large, diversified firm. 18/ The competitive implications of the large conglomerate firms stem from the fact that such a firm operating across many different product markets or geographic markets may not be subject to the competitive discipline of any one market, li 15/ Remarks of Commissioner Reilly, "Conglomerate Mergers — A~rT Argument for Action" before Annual Meeting, Chicago Chapte of the Federal Bar Association, Chicago, Illinois, June 13, 1966, p. 15. 16/ Testimony of Joel Dirlam, Concentration Hearings, supra note 9, at 770. 17/ Houghton, "Mergers Superconcentration and the Public Tnterest", supra note 13, at 165. 18/ See testimony of Joel Dirlam, Concentration Hearings, suj note 9, at 770. 19/ Statement of Dr. Willard F. Mueller, "The Conglomerate Retailer", before the Subcommittee on Antitrust and Monopoly,! Committee on the Judiciary, U.S. Senate, Sept. 12, 1966, p. lj 10. The large, diversified company's ability to withstand the discipline of a particular market may stem simply from its financial resources and the fact that two or more conglomerate enterprises meeting in many markets may tend to soften their competitive tactics with respect to each other, while, on the other hand, smaller enterprises, depending entirely on their success in a single market, may tend to compete less aggressively with a large, diversified, multimarket company. Furthermore, if a multimarket firm possesses market power in some markets, this power may become a vehicle for achievement of market power elsewhere. For example, the large, diversified firm may use its financial power derived from a number of product or geographic markets to subsidize its expansion in additional areas. 2_0/ There is, of course, the view "that a truly conglomerate merger cannot be attacked in order to maintain competition, because it has no effect on any market structure." 2jy This proposi- tion requires careful analysis. If antitrust is to effectively deal with conglomerate mergers, both economists and lawyers in this field will have 20/ Ld. at 2; testimony of Dr. Corwin D. Edwards, Concentrat-ion Hearing's, supra note 10, at 43; Edwards, "Conglomerate Bigness as a Source of Power", Business Concentration and Price Policy— A Conference, Princeton Univ. Press (1955). 21/ Adelman, "The Antimerger Act, 1950-60", 51 Amer. Econ.Rev. 2"3"6, 243 (Papers and Proceedings, 1961). 11. 1 Another important market structure variable pertinent to the evaluation of conglomerate mergers is the concept of barriers to the entry of new competition. These measure the obstacles to entry of potential competitors into particular industries or markets. Taking into consideration the barriers to entry, economists — and, hopefully, lawyers as well — should be able to determine the cost or selling price advantages held by established firms in an industry relative to new or potential competition. This may be described as the condition of entry. The importance of this concept is clear, for: ". . .If the advantage of established firms is great, then the constraining influence on pricing provided by the threat of additional competitors entering the industry is weak. On the other hand, if established firms hold only a slight advantage, the conditioning influence of the threat of new competition is great. If entry conditions favor easy entrance, established firms would be under pressure to keep prices near competitive norms much the same as if the market of established firms were atomistically structured." 26/ Barriers to entry come roughly under three headings: namely, economies of scale, absolute costs and product differentiation. Personally, I believe that reciprocity, or at least the market power permitting its exercise, also 26/ "The Structure of Food Manufacturing", a report by the sTaff of the Federal Trade Commission published as Technical Study No. 8, National Commission on Food Marketing, June 1966, pp. 61-62. 14. might be usefully brought under this heading. 27/ Barriers of economies of scale arise from the fact that a firm may not secure the lowest possible production costs until it has achieved a certain share of the market which it is to enter. Since it may be anticipated that any firm entering a new market may well have to start with a less-than-optimum market share, this factor will obviously impede entry. On the other hand, the presence of absolute cost barriers indicates that the potential entrant will not be able to overcome the cost advantage of the established firm at any rate of output — for example, the established firm may have patents which prospective entrants can secure only by paying a royalty or spending funds necessary to invent substitutes for them. 28/ The factor of product 27/ In this connection, see Dixon, "Merger Policy and the Preservation of the Competitive System", 30 A.B.A. Antitrust Sec 86, 90 (1966): " . . . reciprocity may become an extremely significant market strategy to the conglomerate enterprise which buys and sells a large number and volume of industrial goods and services in oligopolistic markets . . . "If carried to its ultimate, the practice could result in closed-circuit markets from which medium or small factors are excluded." 28/ Caves, American Industry: Structure, Conduct, Performance TT964), pp. 24-26. 15. differentiation, already noted, is a third source of barriers to entry. When this condition applies, the established firm has a reservoir of customer goodwill which its advertising and sales promotion need only to maintain. A new firm in the industry, however, " . . . must sell at prices below those of the more preferred brands of established sellers or invest heavily in advertising and other types of promotional activity in order to achieve a preferred status for their own brands and a sales volume capable of generating low unit processing and distributing costs." 29/ This may well be a decisive factor for the potential entrant. 30/ Significantly, the various entry-retarding factors may interact, thus giving particular entry barriers a greater competitive impact than if they were acting alone. 31/ The importance of product differentiation as a market structure variable and the possible implications of the stress 29/ "The Structure of Food Manufacturing", supra note 26, at( 30/ See Caves, supra note 28, at 27. 31/ "The significance of product differentiation as a barrier is greatly increased if accompanied by important scale advantages in either production or distribution. Faced with both a heavy product differentiation disadvantage and the necessity for having to operate at a relatively large scale, the new entrant would find it particularly difficult to achieve an initial share of the market commensurate to profitable operation." "The Structure of Food Manufacturing", supra note 26, at 62. 16. in the case of horizontal mergers. 327 Accordingly, it is an interesting question whether Mr. Bains' theory on "Barriers to New Competition" will be translated into antitrust law as the courts consider conglomerate merger cases brought by the Department of Justice and the Federal Trade Commission. It is significant that by accepting the concept that '"Potential competition . . . may compensate in part for the imperfection characteristic of actual competition in the great majority of competitive markets'", the Supreme Court accepted one of the premises basic to that theory. See United States v. Penn-Olin Chemical Co., 378 U.S. 158 (1964). Many of these considerations, in my opinion, also apply to an evaluation of the competitive impact of joint ventures. There, too, the appropriate yardsticks are the elimination of potential competition and whether the joint 32/ According to Bain, the condition of entry may be evaluated by the degree to which established firms can raise their prices above a competitive level without inducing new firms to bring added capacity into use in the industry. Bain, Barriers to New Competition, Harv. Univ. Press (Cambridge) 1965 ed., p. 6~! Assuming that the competitive price and the entry-forestalling price for particular indus- tries can be established, this suggests that some sort of a mathematical value might be set on the magnitude of the barriers to entry facing potential competitors. Keeping in mind the dictum that the condition of entry is not translat- able into "the ready crutch of percentages" (Procter & Gamble, supra, at 52), it is nevertheless an interesting question whether such a quantitative measure is possible in the first place and, secondly, whether it might not be at least a relevant consideration in the case of the diversifi- cation merger. 19. venture raises barriers to new entry or increases the hazards to existing competition. 33/ If this approach is to become really useful and significant in antitrust enforcement, considerable empirical research should be done in a variety of industries to determine the effect of conglomerate power on particular markets. The data necessary to effectively probe the quest of whether profits in one market have been or are likely to be used to subsidize entry to or expansion in another market in many instances simply has not been presented. Requiring conglomerate concerns to report their earnings by divisions should facilitate the analysis of the practical consequences of the conglomerate aspect of a large, diversified company to competition in specific 33/ Another factor which might be considered, according to some commentators, is the question of whether or not the joint venture is, in fact, a compe- titive plus by adding a new entity to the established firms in the market. See Backman, "Joint Ventures and the Antitrust Laws", 40 N.Y.U. L. Rev. 651 (1965) 20. markets. 34/ In addition, there should be more studies to determine the relationship between price-cost margins in an industry and the degree of concentration in that industry. Data of this nature is extremely useful. Some interesting and useful work in this connection has already been done in the food industry. 35/ 34/ See statement of Yura Arkas-Duntov, Investment Officer Tn" Dreyfus Fund, New York City, Concentration Hearings, supra note 9, at 1705, 1708, who stated that more and more companies are becoming conglomerate through acquisition, thus steadily narrowing the field of investment in single product industries and therefore posing problems for the investor in evaluating their efficiency. The antitrust enforcement agencies, of course, are also faced with similar problems of evaluation. See statement of Willard F. Mueller, "The Conglomerate Food Retailer", supra note 19, at 32: "One of the basic problems in identifying and measuring the significance of a particular conglomer- ate firm's conduct is that we generally know so little about the financial characteristics of its constituent parts. The public financial statements of conglomerate enterprises are almost universally presented on a consolidated basis. This makes it virtually impossible to translate the impact on profits of particular business practices." 35/ See testimony of Dr. Norman R. Collins, Department of Agricultural Economics and School of Business Administration, Univ. of Calif., Concentration Hearings, supra note 9, at 719. The Economics Staff of the Federal Trade Commission has also made some studies along the same lines as Dr. Collins on the relationship between profits and concentration in food manufacturing, concluding on this point: "Analysis of the market structure of markets occupied by large food manufacturers showed a close positive statistical association between the (Continued on Page 21) 21. all of these bills are concerned with the effect of concentration in "any line of commerce". Therefore, whatever restructuring of the economy is contemplated in these bills would probably be confined to particular markets or industries. In any event, a radical break from past antitrust policy to deal with the issue of aggregate concen- tration by the enforcement agencies is not appropriate where Congress is obviously cognizant of the problem and to date has failed to act. Conclusion In conclusion, I will restate my conviction that the Commission and the Department of Justice should proceed against conglomerate mergers and joint ventures under Section 7 of the Clayton Act, utilizing those methods of economic analysis which will help to properly evaluate the effect of such activity in particular markets or industries. The approach to this problem under the "Barriers to New Competition" theory already adverted to, deserves an honest trial. However, it is also my view that to a considerable extent conglomerate power is here to stay. An attempt to restructure industry with the thought of radically diminishing that factor on the economic scene simply is not practical. It is further my view that certain kinds of anticompetitive activity within a market can have an important effect on market structure and on the competi- 24. tive performance of the economy. Obviously, this was the view of Congress when it enacted legislation specifically focusing on anticompetitive practices such as price discrimination. It would be unwise to de- emphasize enforcement of those antitrust statutes designed to prohibit unfair methods of competition by virtue of an almost exclusive reliance on the structural approach to antitrust. In the real world, competition simply cannot be maintained by antitrust action directed to the structure of markets alone. As a result, if antitrust is to remain a viable concept, the enforcement agencies must rely on the structural and behaviorial approaches singly or in combination, whichever is appropriate. A reliance on either to the exclusion of the other would quickly make antitrust obsolete at a time when the economy is undergoing rapid and dynamic change. Such inflexibility, of course, is completely unnecessary when the basic antitrust law — and to a certain extent this is true of the entire array of antitrust legislation — has "a generality and adaptability comparable to that found to be desirable in consitutional provisions." 40/ 40/ Opinion of Mr. Justice Holmes, Appalachian Coals, Inc. v, United States, 288 U.S. 344, 359 (1933). 25.