Portfolio Effects and Entry Deterrence Thibaud Vergé
∗
†
January 2007
Introduction The European Commission’s decision in July 2001 to prohibit the proposed merger between General Electric and Honeywell has been the starting point of a fierce debate between the European and the U.S. competition authorities on the theory of “portfolio power” or “range effects” in conglomerate mergers.1 The “portfolio power” approach has first been introduced in 1996-97 by the European Commission in three major merger cases (Coca-Cola / Amalgamated Beverages, CocaCola / Carlsberg and Guinness / Grand Metropolitan).2 As pointed out by Dimitri Giotakos (then member of the DG Competition / European Commission), “the anticompetitive likelihood of portfolio effects is based on the proposition that the combined portfolio of products/brands of the merged firm represents an essential facility for the downstream agents in a manner that the individual product lines of the undertakings pre-merger did not.” The holder of a complete line of products could for example impose exclusive contracts or force the retailers to buy their complete line of products or an extensive selection of them (full-line forcing). ∗
This paper was prepared for the CRESSE Conference in Corfu (July 2006) and is based on a my
earlier work on portfolio effects. I am very grateful to Patrick Rey, Miguel de la Mano and participants at the CRESSE Conference for helpful comments. † CREST-LEI, 28 Rue des Saints-Pères, F-75007 Paris (
[email protected]) 1 DG Competition case COMP/M.2220. See also Giotakos et al. (2001) for a more detailed presentation of this decision. 2 DG Competition cases IV/M.796, IV/M.833 and IV/M.938 respectively.
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The Commission’s arguments have been widely criticized by the U.S authorities and some practitioners. In its contribution to an OECD Best Practices Roundtable, the U.S. Department of Justice stated that they were “very concerned that the range effects theory of competitive injury that is gaining currency in certain jurisdictions places the interests of competitors ahead of those of consumers and will lead to blocking or deterring procompetitive, efficiency-enhancing mergers.” One of the main criticisms (formulated in 1998 by the economic consultancy firm Lexecon) was that the “the portfolio power approach is made up of a number of disparate ideas which are not supported by a unifying economic theory.” It has to be acknowledged, that although there exists a thorough literature on the effects of tying and bundling of complementary products, the economic theory of “portfolio power” in the case of portfolios of substitutable products (e.g. such as in the Guinness / Grand Metropolitan merger case or the Procter and Gamble /Gillette case presented in the next section) is fairly limited. The first attempt was made by Rabassa (1999) who showed that when producers are able to modify the quality of their products after a merger, mergers that increase the breath of the portfolio may have anticompetitive effects. Moreover, the post-merger market share of the new firm would then be higher than the pre-merger combined market share of the merging parties, thereby confirming the theory that a wider portfolio creates “sur-additivity”. This paper does not try to provide a unifying theory of “portfolio effects” but simply wants to show that the idea that a firm may acquire a comprehensive portfolio of (substitutable or unrelated) products in order to deter entry through full-line forcing or exclusivity contracts has some rationale. The analysis presented in what follows is related to the dynamic leverage theories developed in the recent past for complementary products.3 These theories developed by Nalebuff (2000, 2004), Carlton and Waldman (2002) and Choi and Stefanadis (2001) are based on the idea that a firm with monopoly power on one market might want to reduce competition on a related (complementary) market in order to protect its monopoly position on the tying market or extend it to the tied market. Our model is closely related to those theories but departs from the classical literature on bundling and tying by considering substitutable rather than 3
This strand of literature has been inspired by the on-going Microsoft bundling cases both in Europe
and in the U.S.
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complementary products. It is important to note that this is an interesting question and not simply a basic extension of the existing models since it has long been argued that the leverage theories do not apply to markets for substitutes. Our model also relates to the existing strands of literature on entry deterrence (see e.g. Schmalensee (1978) or Milgrom and Roberts (1982)) and exclusivity agreements (see e.g. Aghion and Bolton (1987)). Our main argument is that a firm with monopoly power on one market might want to acquire a portfolio of substitutable products and “flood” the retailers’ shelves (through vertical constraints such as full-line forcing) in order to deter entry from potential competitors on its main market thereby protecting its monopoly position. The rest of the paper is organized as follows. In the next section, I present two antitrust cases that present features that will then be incorporated in the theoretical model. I then present the model and its main conclusions before discussing some practical issues (for competition cases) raised by the theoretical analysis.
Some Recent Antitrust and Merger Cases In this section, I briefly summarize two competition cases in which arguments similar to those that will be presented in the rest of this paper have been used by the competition authorities. It should be noted that these are not the only cases in which the portfolio theory has been used in situations where firms sell substitutable goods. As it has already been mentioned in the introduction, similar ideas had been developed by the European Commission in the Guinness / Grand Metropolitan merger case in 1997. These two cases are interesting in that they show that similar arguments can be used in merger control and in abuse of dominant position cases. Although, these are very different situations, the authorities’ objectives are similar in that they try to prevent or stop a firm from abusing of a dominant position through the use of particular vertical contracts or tariffs (e.g. aggregate rebates or rebates that are conditional on exclusivity) amounting to full-line forcing. In these two cases, the authorities were also concerned that a firm with a dominant position in one product market could try to use vertical contracts or restraints in order to exclude its rivals from the adjacent market(s). These 3
cases also give support to dynamic leverage theories in the case of substitutable goods.
Procter & Gamble / Gillette In May 2005, Procter & Gamble (hereafter P&G) notified to the European Commission its decision to acquire Gillette.4 Although the DG Competition eventually decided in July 2005 not to oppose the merger, it initially raised doubts about the potential anticompetitive effects of the concentration on the market for powered toothbrushes: “The Commission has serious doubts as to the compatibility of the notified concentration with the common market, in particular as concerns the possibility that it may significantly impede competition on the hypothetical market for powered toothbrushes or on separate hypothetical markets for battery toothbrushes and rechargeable toothbrushes (. . . ).” The Commission identified geographical markets as being national in scope. It also considered that three separate products markets could potentially be identified for manual, battery powered and rechargeable toothbrushes respectively, although the most important distinction was between manual and powered toothbrushes: “producers have reported that dentist recommendations are more important for powered brushes, because consumer knowledge for these products is still less developed compared to manual toothbrushes.” P&G was only active on the battery powered segment and had an EEAwide market share of around 20% (but above 35% in Poland and Lithuania), whereas Gillette produced both battery powered and rechargeable toothbrushes and had EEAwide market shares of respectively 30% and 75% (more than 90% in Nordic countries and the Netherlands). There was therefore no overlap on the rechargeable segment but the concentration would have created a dominant player on the battery segment with a combined market share of 50% EEA-wide (more than 70% in the Baltic countries or in Poland), the main competitor being Colgate with 30% of the market. The Commission was concerned that the dominant position created by the merger on the battery segment of the market could have long-term negative effects on entry. The problem came from the fact that the battery market is seen by professionals as the entry market on which a new entrant has to established its reputation before accessing the rechargeable market: “Many competitors have explained that the battery segment can 4
DG Competition case COMP/M.3732.
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be regarded as an entry segment to the more profitable rechargeable toothbrush business, since it helps acquiring the necessary knowledge on rechargeable toothbrushes. (. . . ) The market investigation has shown that building a competitive brand image implies not only significant promotion costs, but establishing good relations with European dentists whose recommendation is (. . . ) a key factor for the success in the powered toothbrushes market and who currently recommend mainly Oral B [Gillette] products.” The Commission’s argument to support its doubts was that the new entity could benefit from its position on the battery segment to deter new entrant on that market, which would in the long term reduce the “risk” of entry on the more profitable market for rechargeable toothbrushes. In order to obtain the agreement of the European Commission, the firms committed to divest P&G’s battery toothbrush business (at least within the EEA) thus removing the existing overlap. It should be added that the Commission also analyzed potential portfolio (conglomerate) effects due the multiplicity of “must-stock items” owned by the merging parties (on various markets such as razors and blades, batteries, . . . ), but concluded that “the risk of portfolio effects resulting from the merger (was) mitigated considerably by the ability and incentive of retailers to exercise countervailing buyer power.”
Société des Caves de Roquefort After a four-year investigation, the French Competition Authority (Conseil de la Concurrence) concluded in May 2004 that Société des Caves et Producteurs Réunis de Roquefort (hereafter Société) had concluded exclusivity contracts with the main grocery retailers in order to exclude rivals or limit access to the retailers’ shelves.5 Société was condemned for abuse of dominant position and fined e5 million. The relevant product market was identified as the market for Roquefort (goat cheese exclusively produced in the Roquefort region in south-west France) which is sold by grocery retailers (more than 50% of the market) at the (full-service or deli) cheese counter (declining market with only 42% of the sales in 1997 down from 50% in 1995) or on self-service basis. Société owns most of the well-known brands and was the main producer of Roquefort with a market share of 70% (85% of which was sold through 5
Conseil de la Concurrence, Decision 04-D-13, 8th April 2004.
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large retailers) in 1997. The main rivals were Alric (9%), Coulet (8%) and Fromageries Occitanes (5%). It should also be noted that most of the well-established brands are produced by Société (with the exception of Papillon produced by Alric) At the time, the market for cheeses sold through grocery retailers was evolving rapidly, a larger share of the cheese being sold on self-service basis every year. Roquefort was no exception, and Société reacted to that evolution by signing new contracts with the main buying groups offering large rebates if the retailer was offering a wide enough selection of brands produced by Société. These agreements were referred to by Société itself as selectivity or exclusivity agreements. In 1996, Société and Carrefour agreed a selectivity agreement which offered a 8.4% (aggregate) rebate to Carrefour for committing to order eight of its nine Roquefort references. Coulet who was initially supplying Carrefour ’s own label was delisted in 1996 and Société’s market share on Carrefour ’s shelves went up to 87%. A similar agreement was signed with SystèmeU (with rebates increasing from 2% in 1995 to 6.5% in 1998). By 1997, Société was supplying 89% of SystèmeU ’s requirements, while Alric’s share had declined from 14% in 1995 to 9% in 1997. Société also replaced Coulet as Casino’s private label supplier and signed selectivity agreements with the other main buying groups (Francap, Luceda, Comptoirs Modernes and Promodès). Although the Conseil de la Concurrence did not explicitly mention portfolio effects, it was made clear in its decision that the selectivity agreements were used to exclude the rivals from the retailers’ shelves. Moreover these agreements were accepted by the retailers because Société was the only producer able to offer such a wide range of products included the well-known labels (high-end of the market), the retailers’ own labels as well as the low-price items and owned some of the must-stock brands for both the deli counter and self-service markets.
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Can there be anti-competitive portfolio effects when products are imperfect substitutes? A simple framework In this section, I present a very simple theoretical framework that will be used to show that exclusionary portfolio effects also apply to substitutable products. In particular it proposes a dynamic leverage theory similar in spirit to that proposed by Choi and Stefanadis (2001) and Carlton and Waldman (2002).6 Consider a product that can exist into two vertically differentiated varieties. The low-end of the market (denoted L) is highly competitive, this variety being produced by a large number of perfectly substitutable manufacturers (“competitive fringe”) with identical marginal costs equal to c. An incumbent firm, I, is the unique producer of the high quality version of the product (H). This variety is more costly to produce, the marginal cost is cI > c, say because it requires a more sophisticated technology and/or more advertising. The incumbent might also be able to produce the low quality variant of the product at cost c. One way would be to acquire one of the low-quality producers, and this could be done at no cost since that segment is perfectly competitive. A new firm – the entrant E – is trying to enter the market believing it has a innovative product (or technology) that will allow it to compete on the highly profitable high-end of the market. However, in order to enter that profitable market, the entrant must establish its reputation on the low-quality (and unprofitable) segment. This is for instance consistent with the arguments put forward in the P&G / Gillette merger case: in order to be access the rechargeable toothbrush market, a firm must first be active on the battery powered segment in order to convince the consumers (directly or via the dentists’ recommendations) about its ability to propose high-quality products. The entrant’s technology would be particularly efficient on the high-quality segment but unfortunately is not well designed for the low-quality segment on which it first needs to enter. Its marginal cost cE is thus such that c < cE < cI .7 In order to simplify 6 7
See Vergé (2003) for the full analysis from which this section is inspired. As we will see in the analysis, this is the only interesting situation as the other cases are obvious:
a too efficient firm can never be excluded, while an inefficient entrant would never be a threat to the incumbent.
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the presentation, I will assume here that the entrant is always successful if it manages to enter the low-quality segment but the results easily extend to uncertain success. In order to access the high-quality segment, the entrant will first need to incur losses on the low-quality market before replacing the incumbent on the more profitable market once its reputation has been established. The producers do not have direct access to the consumers and need to sell their products through a monopolist retailer.8 Shelf space is a scarce resource and the retailer will only store one product of each quality. Manufacturers thus have to compete for shelf space which seems consistent with the evidence that they usually have to pay large slotting allowances to access the retailers’ shelves.9 In each period of the two periods of the game, we assume that the timing is as follows:10 1. The incumbent makes take-it-or-leave-it offer(s) to the retailer. 2. The entrant and fringe producers make take-it-or-leave-it offers to the retailer. 3. The retailer accepts or rejects each offer and sets the prices for the products it decides to carry. An offer consists of a two-part tariff, except for the incumbent producing both varieties who can offer either two product-specific two-part tariffs (one for each variety) or one single tariff consisting of a per-unit wholesale price for each product plus a unique fixed fee (i.e. full-line forcing). Finally, we denote by δ ≤ 1 the discount factor. Note that the analysis would be (almost) identical if we interpreted δ as the probability with which the entrant 8
This assumption might seem extremely restrictive and we would optimally like to consider an
oligopolistic downstream market. This is however already extremely complicated even without the issue of entry. Assuming a monopolistic sector is a way of keeping the model tractable while allowing for buyer power. 9 See Shaffer (1991) for alternative interpretations and Rey, Thal and Vergé (2005) for evidence on slotting allowances. 10 Simultaneous offers would generate multiple equilibria. By assuming that the incumbent plays first, we select the equilibrium for which incentives to exclude the rival are the lowest.
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successfully establishes a good reputation allowing it to access the high-quality market in the second period.
Second Period Profits Given that producers sell through a common agent and can offer two-part tariffs, it is a classical result that wholesale prices will be equal to the corresponding marginal cost of production (so that the retailer’s profit is equal to the industry profit up to a constant – the fixed fees – and thus sets prices at their monopoly levels). Fixed fees are used the share the profit between the retailers and the various producers, each producer obtaining its contribution to the joint-profit.11 Suppose first that the entrant did not enter the low-quality market in the first period. In that case, the incumbent remains a monopolist in the second period and the second-period profits of the incumbent, the entrant and the retailer are respectively: πI2 (N E) = π M (cI , c) − π M (∅, c) , πE2 (N E) = 0 and πR2 (N E) = π M (∅, c) , where π M (cI , c) is the profit that would be achieved by a multi-product monopolist producing (and directly selling) the high and low-quality varieties at cost cI and c respectively, and π M (∅, c) is the profit achieved by a monopolist producing the lowquality version only (at cost c). Note that although the manufacturers are making the offers (and more importantly the incumbent has the bargaining power when proposing its high-quality variant), the retailers’ profit is strictly positive since it can freely select to propose both products or one the variety only: in this particular case, it can always secure a profit equal to π M (∅, c) by selling only the low-quality variant that it can obtain at cost from one of the (many) fringe producers. If the entrant was active in the first period, there is now competition on the high quality segment as well. However, this is competition between two producers with different marginal costs, i.e. generating different monopoly profits. We then have competition in terms of the fixed fees that the producers require from the retailer (remember that marginal wholesale prices are always equal to marginal production 11
See for instance Bernheim and Whinston (1985).
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costs). The situation is very similar to standard price competition between firms with asymmetric costs: the most efficient firm – i.e. the entrant – is the active firm and charges a fixed fee equal to the difference between the profit the retailer can achieve by selling its product (as well as the low quality variant) and that it could achieve by dealing with the incumbent instead. The firms’ profits are therefore: πI2 (E) = 0, πE2 (E) = π M (cE , c) − π M (cI , c) and πR2 (E) = π M (cI , c) .
Portfolio Effects and Entry Deterrence Comparing the different profits, it is easy to understand why the incumbent would like to deter entry: the incumbent has indeed more to lose than the entrant can gain. This is because, a successful entrant still faces the threat from the incumbent on the high quality market in the second period and thus cannot take full advantage of its position: πI2 (N E) − πI2 (E) = π M (cI , c) − π M (∅, c) > πE2 (E) − πI2 (N E) = π M (cE , c) − π M (cI , c) . However, the existence of a monopolist retailer – i.e. strong buyer power – modifies the analysis. As in Aghion and Bolton (1987) for instance, in order to deter entry, the incumbent needs to convince the retailer to forego the extra profit it could achieve in the future thanks to competition between the entrant and the incumbent. It is indeed easy to check that πR2 (E) > πR2 (N E). We should thus compare the incentives to deter entry, that is the second period loss for incumbent, not with the possible gain for the entrant but with the combined surplus of profit that entry would generate for the entrant and the retailer. Since the entrant and the retailer jointly have more to gain than the incumbent has to lose, entry deterrence is too expensive for the incumbent if it only produces the high-quality variant. When the incumbent only produces the high quality product, deterrence can only occur if the incumbent either lowers its fixed fee significantly or distorts its wholesale price to make the low-quality segment unprofitable (for the retailer). However, such a strategy would be extremely costly and entry deterrence is never profitable. The incumbent will thus decide to maximize its first period profit losing its dominant position in the second period.
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Proposition 1 Absent portfolio power, entry is never deterred and: • In the first period, the retailer sells the incumbent’s and entrant’s products (obM tained at wholesale prices cI and cE respectively) at prices pM H (cI , cE ) and pL (cI , cE ).
• In the second period, the retailer sells the entrant’s (high-quality) and the generic low-quality variants (obtained at wholesale prices cE and c respectively) at prices M pM H (cE , c) and pL (cE , c).
Suppose now that the incumbent produces both variants. Proposition 1 still holds if the incumbent proposes two product-specific two-part tariffs since this offers to the retailer the possibility to select which of the two contracts it is willing to accept. However, because it produces the two variants, new opportunities now arise for the incumbent: it can for instance tie-in the sales of the two products forcing the retailer to buy its lowquality variant in order to obtain the high-quality version, i.e. full-line forcing. Note that in this setting, this is equivalent to obtaining an exclusivity contract since there are only two slots on the retailer’s shelves. Therefore, the analysis is similar to that of exclusivity offers by Bernheim and Whinston (1998). Therefore exclusion through full-line forcing will only occur when it is profitable for the industry as a whole: this simply comes from the fact that incumbent needs to compensate the retailer for the potential profits it foregoes by excluding the entrant. Proposition 2 When the incumbent holds a comprehensive portfolio of brands (i.e. both variants), entry will be deterred when this is more efficient from the industry pointof-view, that is when cE ≥ b cE where b cE is the unique solution of: π M (cI , cE ) + δπ M (cE , c) = (1 + δ) π M (cI , c) . • When cE ≥ b cE , the retailer sells the incumbent’s variants (obtained at wholesale M prices cI and cE respectively) in both periods at prices pM H (cI , c) and pL (cI , c).
• Otherwise, entry occurs and prices are those given by proposition 1.
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Welfare Effects Let us now look at the impact of entry deterrence on consumers. We focus here on consumer surplus rather than total welfare because it seems to be commonly accepted that this is the standard applied by most competition authorities. For instance, Neven and Röller (2000) note that “it is striking that some of the major antitrust agencies actually operate with objectives that differ from welfare maximization.” Lyons (2002) also mentions that in merger cases competition authorities “overwhelmingly focus on consumers, including industrial customers, to the exclusion of the welfare of merging firms.” Our conclusion would nevertheless continue to hold if we had decided to focus on total welfare or any weighted average of consumer surplus and profits. When entry is deterred, the low-quality variant is produced more efficiently in the first period leading to lower prices for the consumers. However, entry on the high-quality market does not occur in the second period. Consumers thus face higher prices in the second period since the high-quality variant is still produced by the rather inefficient incumbent. The overall effect is thus ambiguous. Nevertheless that there exists a threshold e cE above which consumers would benefit from entry deterrence. Denoting by CS M (cH , cL ) the consumer surplus when the two varieties are sold by a monopolist producing them at costs cH and cL , the threshold e cE is the solution of: CS M (cI , cE ) + δCS M (cE , c) = (1 + δ) CS M (cI , c) ⇔
CS M (cI , c) − CS M (cI , cE ) = δ CS M (cE , c) − CS M (cI , c)
Note that when the left-hand term of the last equation is an increasing function of cE which is equal to 0 for cE = c, whereas the right-hand term is a decreasing function of cE equal to 0 for cE = cI . Therefore, there exists a unique threshold e cE in ] c, cI [. The difficulty is that it is in general impossible to compare b cE and e cE since they depend on the specific form of the demand functions. For linear demand models (with differentiated products) or for a vertical differentiation model à la Mussa and Rosen (1978) with a uniform distribution of tastes for quality, these two thresholds are identical since the monopoly profit equals exactly twice the consumer surplus in those cases. In such very specific cases, entry deterrence might occur (i.e. when the entrant’s and the incumbent’s costs are not too different), but it then increases consumer surplus (and 12
thus total welfare). However, for some demand functions, there will also exist situations for which entry deterrence occurs (because it increases industry profit) but consumers are hurt. These are the situations that competition authorities should try to prevent, but this must be identified on a case by case analysis which requires an important amount of information about demand and cost functions.
Implications for Competition Policy and Concluding Remarks Buyer Power The model presented in the previous section focuses on situations where the incumbent cannot easily deter entry because it has to convince the unique retailer to forego extra profits in the second period. This suggest, as it has been claimed by competition authorities in various cases (the P&G / Gillette merger for instance) that buyer power mitigates the risk of anti-competitive portfolio effects. Another extreme case for which the intuition is relatively clear is the case where the manufacturers sell directly to final consumers. A formal model of reputation would be needed in that case, but to make it simple suppose that the probability of successful entry depends on the quantity sold in the first period on the low-quality market. For instance, we could assume that successful entry requires to sell a minimum quantity q min in the first period. In that case, the incumbent could distort its first period price(s) in order to increases the losses that the rival should incur to successfully enter the market. When the incumbent sells the high-quality variety only, it can try to increase the entry cost by lowering the price of its own product. If it lowers it enough, demand for the low-quality variety when sold at a price equal to the fringe firms’ marginal cost c might be below the minimal quantity q min . In that case, the entrant will need to lower its price thereby increasing its losses in the first period. Entry deterrence might thus occur (through predatory pricing) even without portfolio power. However, it is facilitated when the incumbent produces both varieties since it now has a second instrument – the
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price of its low-quality variety – to increase the newcomer’s entry cost: by selling the low-quality variant below cost, it forces the entrant to reduce its price thereby increasing its first period losses. Moreover, this also allows the incumbent producer to limit the distortions on the price of its high-quality variety. These two effects combined make entry deterrence a less expensive strategy for the incumbent and thus a more likely outcome than when the incumbent does not hold a portfolio of brands. Once again the welfare effects of portfolio power are ambiguous: it increases the likelihood of predatory pricing but the consumers buying the low-quality variant benefit from a lower price in the first period. The first period price of the high quality variant goes up if entry deterrence would occur without portfolio power (more limited distortion are now required) but is lower than when entry deterrence was impossible. Finally, second period prices clearly go up when entry deterrence occurs. Nevertheless, it seems that the overall effect is more likely to be negative than when producers sell through a monopolist retailer. This thus suggests that buyer power can indeed mitigate the risk of anti-competitive portfolio effects and should thus be an important factor in the competition authorities’ decisions.
Horizontal or Conglomerate Mergers Our analysis also suggests that the portfolio theory developed by the European Commission in the Guinness / Grand Metropolitan and (re-)applied in the P&G / Gillette merger cases has some rationale. In Guinness / Grand Metropolitan, the Commission suggested that “the market power deriving from a portfolio of brands (could) exceed the sum of its parts” because the creation of a comprehensive portfolio of brands could allow the firm to impose contractual terms (exclusivity clauses, full-line forcing, . . . ) that the individual parts could not before the merger. Moreover, our analysis applies to horizontal mergers (i.e. substitutable) products as well as conglomerate mergers. Our results would indeed be identical if the two markets are unrelated (although the fact that it would then be difficult to justify the fact that entry had to occur on one market – the competitive one – before it could happen on the monopolized market). Attention should then be given to any merger for which competition authorities identify reputation or brand name as being an important feature of the market. This
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was the case in the two merger cases evoked earlier but also in the proposed acquisition of Orangina by The Coca/Cola Company. The French authorities indeed mentioned similar concerns in their decision to prohibit the merger. The theoretical analysis presented in this paper does not want to claim that any merger that creates a large portfolio of brands should be prohibited but simply that the analysis of such cases should not be limited to the use of an automatic formula using concentration indices (such as the post-merger HHI and the evolution of the HHI). Although the combined brands might be sold on what the authorities consider as being separate product markets (i.e. not too close substitutes or even independent products), portfolio effects might still exist and have anti-competitive effects.
Merger Control or Abuse of Dominant Position? One question raised by Nalebuff (2003) is whether the fact that the mergers create incentives for the new firm to use abusive (exclusionary) practices should considered in decision to clear or block the merger. We indeed agree that the merger itself does not necessarily have competitive effects. It only creates an opportunity for the firm to abuse of its dominant position whereas this would not have been profitable prior to the merger. The merger could then be allowed, the possible anti-competitive effects – if they are ever realized – falling under article 82 (or section 2 of the Sherman Act in the US) would then be sanctioned by competition authorities if necessary when they are observed. Although Nalebuff (2003) probably has a point, we believe that focusing on behavioral remedies (e.g. preventing bundling strategies) or threatening the firm with large fines in case of abuse of dominant position is a costly and risky strategy. It will require costly monitoring post-merger to ensure that the firm does not use certain contractual arrangements or does not try to exclude its smaller rivals, and will also require the authorities to be able to prove the existence predatory behavior which is always a risky exercise. Antitrust intervention might also occur too late for the rival firm to survive. Imposing structural remedies (i.e. divestures of brands) might be an easier and safer solution although it could be seen as excessive interventionism. This is however a difficult question which is not limited to portfolio effects but would also arise in the analysis
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of coordinated effects (joint-dominance test) for instance.
The “as Efficient Competitor” Test Let us finally conclude with a brief remark on the “as efficient competitor test” proposed by the DG Competition in its recent discussion paper on the application of article 82 (European Commission, 2005). In this paper, the Commission presents “detailed principles (...) for assessing alleged price based exclusionary conduct (...).” Under these principles, a price based practice would be considered as abusive (i.e. exclusionary) if it would lead to the exclusion of “a hypothetical as efficient competitor (...). The as efficient competitor is a hypothetical competitor having the same costs as the dominant company.” In a case similar to that presented in this paper, applying the test would pose a main difficulty: what does it mean being as efficient as the incumbent? It would seem that the test applied by the Commission would consider as predatory practices that exclude any entrant with cost cE lower than cI . Therefore, full-line forcing would always be considered abusive in the model presented above since it can be used to exclude a rival with cost b cE < cE < cI . However, if we take the two periods into account, i.e. including the first period during which the entrant acts as an inefficient player on the low-quality market, an entrant is efficient from the industry-point of view only when its marginal cost is substantial lower than the incumbent’s cost, that is, when cE < b cE . If we focus on the consumers surplus, the “as efficient competitor test” should rather require cE < e cE . This raises the question of the correct measure for the analysis carried out by the authorities. Moreover, it also shows that in order to perform this test, the authorities require precise information not only about the firms’ cost structures but also about the demand for the different products .
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