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This paper contrasts two types of European Community competition policies with respect to joint ventures, namely concentrative joint ventures (CCJV), which fall.
European

Economic

Review 38 (1994) 637-650

EUROPEAN ECONOMIC REVIEW

Antitrust Policies in Europe and in the United States: Recent Developments and Policy Implications

Bernard

Bensaid ‘, David Encaoua ’ Banque

h Unicersith

Economic

cooperation and mergers: and policy issues

Competition,

de France,

de Paris I, PanthPon-Sorhonne, 12 Place du PanthPon, ’ Clear)‘,

Gottlieh,

Centre

b*, Antoine

Winckler ’

Paris, France d’Economie

75231 Paris

Steen and Hamilton,

Cedex

Marhemalique

et d’Econometrie,

05, France

Brussels, Beixium

Abstract

This paper contrasts two types of European Community competition policies with respect to joint ventures, namely concentrative joint ventures (CCJV), which fall under the Merger Control Regulation and cooperative joint ventures (CPJV), which fall under Article 85(l). The contrast occurs at different levels: procedural, jurisdictional and substantive. It provides firms with bargains and trade-off opportunities for the choice of the more convenient jurisdiction for their transactions. The paper presents a model illustrating how these bargains and trade-offs can operate in the context of an endogenous choice between a CCJV and a CPJV. Keq~ words: JEL

European

classification:

L44;

competition

policy; Joint venture;

Mergers

K21

1. Introduction

The EEC Treaty and legislation adopted pursuant important regulatory framework for competition policy.’ The major EC competition law statutes include:

thereto

provide

an

*Corresponding author. The authors thank Patrick McDermott for his comments concerning an earlier version of this paper and Louis Phlips for his suggestions. ’ For a more detailed presentation of E.C. competition policy, see inter alia George and Jacquemin (1990). international comparisons between ten nations and the EEC are presented in Boner and Krueger (1991). 0014-2921/94/$07.00 63 1994 Elsevier Science B.V. All rights reserved SSDI 0014-2921(93)EOO88-3

638

B. Bensaid ei al. / European Economic

Review 38 (1994) 637-650

~ Article 85(l) of the EEC Treaty, which prohibits agreements and concerted practices affecting trade between member states that have as their object or effect the restriction of competition within the EC; ~ Article 85(3) of the EEC Treaty, which enables the EC Commission to exempt agreements from the prohibition of Articles 85(l) on the basis of an examination of their overall effect on economic welfare (see below, Section 2); certain types of restrictive agreements benefit from so-called ‘block exemptions’, for example in the case of cooperative research and development ventures; - Article 86, which prohibits the abuse of a dominant position affecting trade among Member States by one or more firms within the Common Market; Article 86 provides a non-exhaustive list of prohibited practices (e.g., refusal to supply, discrimination, tying), similar to those covered under the national antitrust statues of other industrialized nations. _ the Merger Control Regulation, which concerns business ‘concentrations’ i.e., mergers and acquisitions of control) having a Community dimension.’ The general philosophy underlying EC competition policy is to consider competition as a dynamic process improving efficiency. Competition is viewed not only from the traditional static resource allocation perspective, but also with respect to the intertemporal beneficial effects that result from creating a favorable environment with sufftcient rivalry among competitors to induce ‘creation of new products, new firms, new industries, new methods of production and organization and the disappearance of outdated products and processes, all of which are closely bound with research, technical progress and innovations’ (George and Jacquemin, 1990, p. 208). However, despite this common philosophy of competition, in some aspects Articles 85-86 and the 1989 Merger Control Regulation give rise to important differences in the regulatory practice of the EC Commission. In general, the purpose of Articles 85 and 86 is to control the business behavior of firms rather than to control market structure. Of course, certain limited counter-examples exist to this principle, but the overall tendency is quite clear. The need for regulations to control transactions with effects on market structure increased over time, in particular with the adoption of the 1992 single market program. The Commission became increasingly concerned with ’ A concentration has a Community dimension if (i) the combined aggregate worldwide of all the undertakings concerned is more than ECU 5000 million, and (ii) the Community-wide turnover of each of at least two of the undertakings concerned is ECU 250 million, unless each of the undertakings concerned achieves more than aggregate Community-wide turnover within one and the same member state (Article Merger Control Regulation).

turnover aggregate more than 213 of its l(2) of the

B. Bensaid et al. / European Economic

Review 38 (1994) 637-650

639

the potential of large corporations to exercise market power and inhibit competition in concentrated markets. Articles 85 and 86, the two pillars of EC competition policy, were not very effective in coping with the increasing tide of cross-border mergers and acquisitions, which are an important component of increasing market concentration. The first attempts to induce merger control, which date as far back as 1973, and subsequent proposals by the Commission in 1981, 1982 and 1986, failed to reach consensus among the Member States. The German government hesitated to hand over greater powers to the Commission in view of Germany’s record of strict antitrust enforcement. The British government regarded merger control by the EC as inappropriate while the British were conducting a review of their national antitrust policy toward mergers. The French, Italian and Spanish governments were concerned about the differences in concentration ratios among Member States and the position that would be taken towards state-owned enterprises, The Commission finally succeeded in convincing the Council to adopt a specific regulation for the control of concentrations at the EC level. The Merger Control Regulation, adopted in December 1989, became effective in September 1990. During the three years that followed, approximately 160 decisions were adopted by the Commission under the Merger Control Regulation. It is interesting to note that over 40% of the transactions reviewed by the Commission concerned joint ventures where at least two undertakings ‘acquire, whether by purchase of securities or assets, by contract or by any other means, direct or indirect control of the whole or parts of one other undertaking’. The Merger Control Regulation introduced an important distinction between ‘concentrative’ and ‘cooperative’ joint ventures. Only concentrative joint ventures fall under the Merger Control Regulation, while cooperative joint ventures fall under Article 85( 1). The purpose of this paper is twofold. Its first aim (Section 2) is to contrast the two types of competition policies of the European Community with respect to joint ventures, namely the focus on anticompetitive behavior exemplified in Articles 85 and 86 of the EEC Treaty, and the emphasis on preventing the creation of anticompetitive market structures underlying Regulation 4064/89 (the ‘Merger Control Regulation’). The contrast between the two policies is illustrated by different approaches with respect to procedures, flexibility, transparency, risks of regulatory capture, methods of assessing market definitions, market dominance and the balance between cost efficiencies and market power. These differences have an important consequence: they provide firms with opportunities for bargains and trade-offs in choosing the more convenient jurisdiction for the competition law review of their transactions. The second objective of the paper (Section 3) is to present a simple model

illustrating how these bargains an endogenous choice between tive one.

2. Regulating

and trade-offs a concentrative

can operate in the context of joint venture and a coopera-

behavior vs. structure: Procedural trade offs

In order to avoid the overlapping application of Articles 8.546 and the Merger Control Regulation, both of which could theoretically apply to joint ventures, the Commission, which is the EC’s competition law enforcement authority, has issued official guidelines and established a well-developed and sometimes overly complex case-law. 3 The Commission’s approach can be roughly summarized as follows: ‘Concentrative’ (i.e. structural) joint ventures are distinguished from ‘cooperative’ (i.e. behavioral) joint ventures. A joint venture is regarded as concentrative if two criteria are met: first the joint venture must perform on a lasting basis all the functions of an autonomous entity (i.e. research and development, production and distribution); second, there must be no coordination of competitive behavior between the parent companies or between a parent company and the joint venture. This second criterion was initially held to imply that both parent companies had to withdraw completely from the relevant market on which the joint venture carried out its activities. Subsequent Commission practice has established that this overly rigid approach is obsolete. The Commission now considers a joint venture to be concentrative where only one parent withdraws from the relevant market, provided the other parent effectively plays the leading role in determining the industrial behavior of the joint venture. (This so-called ‘industrial leadership’ doctrine has the effect of treating a joint venture as if one parent company had effectively taken sole control over the entity in economic terms, the other parent remaining only as a financial partner.) Any joint venture which does not satisfy the two preceding requirements is considered as cooperative. While the distinction between ‘concentrative’ and ‘cooperative’ joint ventures may sound somewhat artificial its consequences are quite real. First, there are numerous differences from the procedural standpoint. Concentrative joint ventures are subject to mandatory pre-transaction notification and approval by the Commission if the thresholds provided for in the Merger Control Regulation are met. By contrast, there is no requirement that cooperative joint ventures be notified; however, parties may notify them 3There is an abundant Hawk

(1985, chapters

literature 9 and 13).

on the subject

of the treatment

of joint

ventures.

See, e.g.,

B. Bensaid et al. 1 European Economic Review 38 (1994) 637-650

641

if their object or effect is to restrict competition, they have an appreciable impact on EC internal trade and the parties want to avoid the validity of the joint venture agreements being questioned or the risk of sanctions being imposed by the Commission. When a transaction is notified under the Merger Control Regulation, the Commission must issue a formal decision within a one-month period (or five months, if the Commission decides it has serious doubts about whether the proposed transactions will create or strengthen a dominant position in the EC and initiates a so-called second stage investigation). By contrast, there are no such constraints under Article 85: in fact the greater part of the Article 85 notifications are dealt with through informal non-binding ‘comfort letters’ and do not give rise to any tinal decision.4 Moreover, exemption decisions under Article 85(3) are granted for a limited period of time (10 to 15 years maximum) whereas Merger Control Regulation decisions are final. Second, the distinction has an important impact on jurisdictional issues. Whereas concentrative joint ventures that meet the thresholds of the Merger Control Regulation benefit from the ‘one-stop shop principle’ (i.e., the EC Commission’s regulation is exclusive and EC Member States are prevented from applying their national competition laws), cooperative joint ventures are subject to a ‘double barrier’ system: national competition authorities are, in principle, allowed to apply their national laws, as long as this does not conflict with a final decision adopted at Community leveL5 Concentrative joint ventures that are below the Community thresholds are subject only to national competition laws. Third, the procedural ‘transparency’ safeguards are different. The Merger Control Regulation requires that the Commission publish in the Official Journal notices of initial notifications, as well as final decisions taken after second stage proceedings. The Advisory Committee (which is composed of national experts from Member States) may also recommend publication of its opinions on the Commission’s draft decisions. Conversely, in most cases, the existence of notifications concerning cooperative joint ventures remains confidential, although the Commission may 4The Commission has, however, informally indicated that it would try to follow certain selfimposed time constraints in assessing certain ‘full function’ cooperative joint ventures. In a press release and communication of December 23, 1992, the Commission indicated that, in the case of notifications of cooperative joint ventures that imply important changes in the structure of the participating firms, the Commission will inform the parties in writing within two months whether it has serious doubts as to the validity of the joint venture under Article 85. 5This principle was recognized by the EC Court of Justice in Walt Wiklm, 1969 E.C.R. 1. However, it is unclear whether this principle would prevent a Member State from acting with respect to a joint venture that has been notified and may have given rise to a ‘comfort letter’ from the Commission, but which has not been formally exempted under Article 85(3) (as opposed to one that has been the subject of a formal negative clearance of exemption decision by the Commission).

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B. Brnsuid ei crl. / European Economic

Review 38 (1994) 637-650

decide in certain cases to elicit comments from interested third parties by publishing a notice describing the main features of the notified joint venture. It is only at the final stage, when the Commission intends to issue a formal negative clearance or exemption, that publication of a summary of the notification is required in order to allow comment by interested third parties. Parties to a notified transaction have the possibility to negotiate amendments to their agreements with the Commission in order to avoid a negative decision both under Article 85 and under the Merger Control Regulation. Obviously such negotiations will be influenced by the existence of third party complaints and the greater transparency requirements under the Merger Control Regulation. Fourth, the substantive criteria will differ. On the one hand, the Merger Control Regulation has a simple dominance test (i.e. the creation or the reinforcement of a dominant position).‘j In the case of concentrative joint ventures, the parties will also have to establish that any additional restrictive elements (e.g. exclusive licenses or supply agreements) are ancillary to the concentration. On the other hand, Article 85(3) introduces a balancing test: the parties must establish that the restrictive agreement (i) contributes to economic and technical progress and (ii) passes on a fair share of the benefits to consumers, but (iii) does not impose restrictions which are not indispensable to the positive outcome and (iv) does not unduly eliminate competition. Article 85 (as opposed to the Merger Control Regulation) explicitly allows the parties to invoke efficiency arguments, e.g., economies of scale to counterbalance potential restrictive effects on competition.’ In light of the above, it is clear that the differences between the treatment of cooperative and concentrative joint ventures remain important both from the procedural and the substantive points of view. Officials from the Commission have justified this substantial difference on the basis of the existence of stronger synergies and organizational efficiencies in the case of concentrative joint ventures. Because of the advantages in terms of more rapid proceedings and greater legal certainty, and in order to avoid the regulatory nightmare of having go through multi-jurisdictional antitrust filings, companies generally appear to have a preference for the Merger Control Regulation procedures and will in 6 However, dominance is only rarely found under the Merger Control Regulation. To date, only one transaction has been prohibited under the Merger Control Regulation, although several others have been restructured in response to Commission objections. ’ In addition, the Commission has recently published a Notice on the assessment of cooperative joint ventures under Article 85, in which the Commission indicates that it will concentrate principally on two types of considerations: first, whether and to what extent the parent companies are competitors and, second, how close the joint venture is from the market (research and development joint ventures will generally be considered positively whereas common distribution joint ventures between competitors will normally be prohibited).

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Review 38 (1994) 637-650

643

some cases try to structure their transactions accordingly. (This is particularly true where the transactions may otherwise be vested by the German Bundeskartellamt which is considered the toughest antitrust agency in Europe.) It is doubtful whether this regulatory ‘arbitraging’ is economically sound.

3. Cooperative and concentrative joint ventures: A welfare analysis In order to compare the respective effects of a cooperative and a concentrative joint venture, we will consider the very simple following situation.’ Let us suppose that in a given industry there exists some process innovation that requires two complementary and specific assets. Suppose also that these assets are costly to develop and that none of the active producers in the industry owns both of the assets simultaneously. In order to obtain the benefits of the process innovation, the firms of this industry therefore have to cooperate in some way or another. Let us consider the case where there are only two tirms in the industry. The two following options are open to the firms. The first option is to create a cooperatiue joint uenture (CPJV) to which each firm brings independently a certain amount of its specific asset, thus bearing the cost of its own contribution. The two assets are transformed within the CPJV, giving rise to a cost reduction from which each of the two firms benefits. The firms remain independent competitors in the product market and we suppose that they behave as Cournot players having access to the same new technology. The amounts of individual assets having been chosen independently in the first stage, quantity competition is assumed to prevail in the second stage. We then obtain the subgame perfect equilibrium of this two-stage game and evaluate the profit of the two firms, the consumer surplus and the global welfare.’ The second option is to merge the two firms by creating a concentrative joint venture (CCJV) to which the two firms contribute their respective assets. After the merger, the two firms are no longer competitors in the product market, since autonomous production is realized in this case within

“The model which follows emphasizes the role of complementary assets in an innovative process. Clearly this is a common situation in many vertically related industries like for instance industries including hardware-software combinations or upstreamdownstream relationships. See Economides and Salop (1992) Economides and White (1993). 9 Note the analogy between the complementary assets framework adopted in this paper and the classical spillover effect which reflects the diffusion of knowledge in R and D. See Katz (1986) d’Aspremont and Jacquemin (1988), Katz and Ordover (1990).

B. Bmsaid

644

rl (11./ European Economic

Rrview 38 (1994) 637-650

the CCJV. Since initially we assumed that there were only two producers in the product market, after the merger only one firm, the CCJV, will remain in the market. This firm will choose the levels of the complementary assets to develop in order to maximize its own profit, which by definition is equal to the sum of profits of the two parents. Note that there are two divergent effects in each of the two options. In the first option (CPJV), due to the presence of complementary assets and to the independent choices by the two firms of their assets, there is a free riding phenomenon which leads to underprovision of investment. Each firms tries to free ride on the efforts of its competitor by lowering the level of its own specific and costly assets. However, the two firms remain competitors in the product market, thus maintaining the same degree of rivalry. In the second option (CCJV), the fee riding phenomenon disappears, because the corresponding externality is internalized. However, no more competition prevails in the product market since it is now a monopoly market. Thus, in each of the two options, one has to balance the free riding effect against the anticompetitive effect. In order to have a more precise view of the respective magnitudes of these two effects, let us consider the following specifications. _ We assume that inverse demand in the homogeneous product market is linear. After an appropriate choice for the measure of output, this inverse demand function can be written

p=A-Q==-_(q,+q,)

(1)

where qi is firm i’s output. _ The amounts of the two complementary assets are denoted ui and u2. _ Assuming output is produced under constant returns to scale, choosing appropriately the units of the assets, the marginal cost of production y can be written c-u,

y= i

C

-a,

if

a,a,>O,

if

u,cl,=O.

(2)

Expression (2) emphasizes the complementarity of the two assets. Costs reduction occur only if the two assets are simultaneously used. The parameter c measures the unit cost of production before any process innovation. ~ In order to develop it’s specific asset in amount a,, firm i has to bear monetary expenses. We suppose that assets are developed under decreasing returns to scale.

B. Bensaid et al. 1 European Economic Review 38 (1994) 637-650

Monetary

expenses

incurred

to obtain

645

a level of specific assets a, are given

by

d,(+q.

(3)

Thus parameter ri measures the cost of development of the specific assets of firm i. The higher the value of ri, the lower the reduction cost for firm i. To keep things as simple as possible, suppose that the two parameters rl and rz are equal: r, =r2=r.

(4)

This means that if each of the two firms invests one ECU to develop its specific assets, the unit cost of production of the output is reduced by an of Dasgupta (1986), r is amount proportional to (2/r) Ii2 . In the terminology thus an inverse measure of the technological basis corresponding to the development of the specific assets. All the ingredients necessary for the comparison of the welfare effects of the two options are now in place. - Consider first the CPJV option firm i in the cooperative situation

(denoted (CPJV):

P). Let us define the net profit of

For any given levels of the assets a, and u2, the output second stage game are given by $(a,,

of the

u,)EArg Max $‘Cqi, q2, a,, a21 (i= L2).

The second @(a,,

equilibria

4,

gross profit of firm i may be written

stage equilibrium a2) -dTq;h,

a,),q%,,

a2), a,, a21 -

@J2 2

.

Finally, asset levels at the perfect equilibrium of the two-stage corresponding to the Cooperative Joint Venture are given by a:EArg Max Hp (ai ,aj) 0i One can easily Wp corresponding

(i =

game

1,2).

compute the consumer to the CPJV situation:

surplus

Sp and

the global

welfare

B. Bensaid el al. / European Economic Review 38 (1994) 637-650

646

wp=sp+n; (uy,u;)+ n; (UT,a;) ~ Consider now the CCJV in the CCJV option:

option

(denoted

C). Let us define the gross profit

71C(Q,a,,u,)=[A-Q--++a,+a,]Q. For any given levels of the assets a, and u2, the monopoly given by

QC(aI, a&W

Q

joint

nC(al, u2) -TC~[Q~(U,, a,), a,, a,] The asset levels in the CCJV program:

Again

level is

Max CnC(Q, ~,,~,)I.

The net profit of the concentrative

(a:, &Arg

output

Max IIc(ul, (aI. a21

venture

can be written

-+’ 2- 4u2J2 ->- .

situation

are the solutions

of the following

u2),

one can compute the consumer to the CCJV situation:

surplus

SC and

the global

welfare

WC corresponding

WC = SC + ITc (a?, u;,. Respective comparisons between consumer surpluses Sp and SC, net profits HP and II’, and global welfare Wp and WC depend on three parameters: - parameter A which measures the highest willingness to pay value in the product market; ~ parameter c which measures the unit cost of production before any process innovation; ~ parameter r which measures the cost of development of the specific assets given by (3) and (4). In order to compare the two options CPJV and CCJV, one has to introduce some conditions on the parameters which insure that the second order conditions are satisfied and that all the endogenous variables (assets, costs, quantities) are positive at equilibrium. One can easily check that these conditions can be written

After some tedious computations, perfect equilibria given in Table 1:

one can obtain

the following

subgame

B. Bensaid et al. / European Economic Review 3R (1994) 637-650

Table Values of the subgame

1 perfect equilibrium.

CPJV Industry

assets

Consumer

Global

net profit

welfare

The following obtained.

2(A-c)

A-c

9r-4

2(r-

welfare

2(r-

18r2(A-c)’

8(r- 1)’

2(A-c)‘r(9r-2)

r(A-c)’

(9r -4)’

4(r1)

1)

(A-c)‘r(3r-2) 8(r- 1)’

(9r-4)2

comparisons,

1)

?(A-c)’

(9r-4)’

qA-c)‘r(9r-

1)

r(A-c)

9r-4

surplus

Industry

CCJV

6r(A-c)

Total output

641

according

to

the

value

of r are

Case 1. For a high technology-based industry, corresponding to low values of r ((A/c) < r sp,

UC >np,

wc>wp

Case 2. For a medium technology-based industry, corresponding to intermediate values of r (r=2.67wp

Case 3. For a low technology-based industry, corresponding to high values of r (r>i=4.28), a cooperative joint venture is socially more desirable than a concentrative joint venture despite the fact that a concentrative joint venture is more profitable: scLlc,

wc