15 Horizontal mergers

Horizontal mergers (that is, mergers between direct

competitors) in concentrated industries are an
important issue for competition authorities.

In this chapter, we explore whether mergers are

profitable and/or welfare enhancing.

Merger control in the US has a long tradition going

back to the Clayton Act from 1914, according to
which mergers that lead to a substantial lessening of
competition are forbidden.

Merger control in the European Union was

introduced in 1990 (before, individual member states
were in charge) and substantially revised in the 2004
Horizontal Merger Guidelines.

Although the empirical evidence on the profitability

of mergers that actually took place is mixed, we
should not observe (in expectation) unprofitable
mergers under the assumption that managers
maximize the net value of the firm.
Thus, from an antitrust perspective, the worrying
cases are profitable but welfare-reducing
mergers.

Mergers that are at the same time profit-increasing

and welfare-reducing only occur in imperfectly
competitive markets: mergers among competing
firms with market power tend to reduce competition
and thus have anticompetitive price effects.

However, this does not imply that mergers are

necessarily welfare-reducing because a merger may
realize efficiency effects.

Efficiency gains may stem from

(1) production reshuffling among the plants that

belong to the merged firm so that relatively efficient
plants that were underutilized before the merger turn
out larger volumes, or production is adjusted to local
demand with the effect that transport costs are
reduced,

(2) scale economies at a single plant (even if other

plants use the same technology),
(3) synergies by pooling certain functions, and

(4) larger innovative capacity leading to future

efficiency gains.

A merger assessment then requires to trade off

welfare-reducing price effects with welfare-
increasing gains in productive efficiency – this is
called the Williamson trade-off .

The final decision reached by the competition

authority or the courts depends on the objective
function that is used. In this chapter, we take total
surplus as the relevant welfare measure. Note,
however, that antitrust authorities tend to use
consumer surplus as the relevant criterion.
Case 15.1 Mergers and acquisitions in Europe

According to the Thomson Financial Securities

Data, 87 804 mergers and acquisitions (M&As, for
short) were recorded for Europe in the period 1993–
2001. In monetary terms, the total value of these
deals adds up to US$ 5.6 trillion.

This nine-year period has been called the ‘fifth

merger wave’ in Europe. The fourth wave took place
between 1983 and 1989.

In comparison, the fifth wave is more than eight

times as large (in number of deals and in total value)
as the fourth wave.

The impressive growth of M&A activity can be

explained by the challenges brought about by the
development of the single European market and the
introduction of the Euro in the 1990s, a period
characterized by deregulation in various industries
and increased regional competition.

This drove mostly domestically oriented firms to

resort to mergers as a survival strategy. Moreover,
the introduction of the Euro eliminated all currency
risks within the Eurozone, which reduced the home
bias of investors. Indeed, one third of the intra-
European M&As of the period 1993–2001 were
cross-border deals.

The common assumption in this section is that firms

behave, before and after the merger, as Cournot
competitors. We first consider mergers between two
or several firms in the absence of efficiency gains.
We then examine how efficiency gains affect the
profitability of mergers.
15.1.1 Mergers between two firms

Suppose for the moment that there are only two

firms in the market for a homogeneous product.

Firm 1 can make a take-it-or-leave-it offer for

acquiring firm 2.

If firm 2 rejects the offer, firms make duopoly

profits. Thus, firm 2 accepts an offer at least as high
as its profit in duopoly.

Firm 1 can therefore make an offer that is acceptable

to firm 2 if monopoly profit πm = π(1) is greater than
industry profits in duopoly 2π(2).

Clearly, this property is satisfied in the market for a

homogeneous product, meaning that a merger to
monopoly is always profitable.