Mergers, Acquisitions and other Combinations

ICT Industry and Markets

Page 18 of 73 pages. Chapter: 2: Module 1: Fair Trade and Competition Policy

Mergers, Acquisitions, and other Corporate Combinations

Concerns about Mergers

The review and approval of mergers, acquisitions and other corporate combinations (all referred to as "mergers" for convenience here) is normally entrusted to competition authorities or other branches of government rather than to telecommunications regulators. However, there has been a high level of merger and acquisition activity in the global telecommunications industry in recent years. Consequently, the analysis of mergers and acquisitions can be expected to become a more important part of competition policy in the telecommunications sector.

Many mergers will have little or no negative impact on competition. Some mergers may be pro-competitive, for example, by enhancing production efficiencies resulting from economies of scale or scope. Mergers may also create new synergies, lead to innovation by combining talents of different firms, and provide additional resources to develop new products and services.

Concerns about mergers, acquisitions and other corporate combinations are generally based on the same concerns about anti-competitive behaviour as discussed earlier in this Module. The main concern is that a larger merged firm may increase its market power. To the extent a merged firm becomes more dominant in a market, there is a greater potential to abuse the accumulation and exercise of market power to the detriment of competitors and consumers.

The basic rationale for merger control is that it is better to prevent firms from gaining excessive market power than to attempt to regulate abuses of their market power once such power exists. In practice, merger reviews and the exercises of related powers by competition authorities are usually based on an evaluation of the impact of a specific merger on competition in the relevant markets.

Types of Mergers and Acquisitions

Mergers can be characterised according to three categories: horizontal mergers, which take place between firms that are actual or potential competitors occupying similar positions in the chain of production; vertical mergers, which take place between firms at different levels in the chain of production (such as between manufacturers and retailers); and other mergers, such as those which take place between unrelated businesses or conglomerates with different types of businesses.

Merger reviews typically focus on horizontal mergers since, by definition, they reduce the number of competitors in the relevant markets. Also of concern are mergers between a firm which is active in a particular market with another firm which is a potential competitor.

In the telecommunications industry, vertical mergers can also be of concern. The merger of a firm that provides essential inputs to other firms can be problematic if the supply of those inputs to other firms is threatened. For example, the merger of a dominant local provider with a major Internet Service Provider can raise concerns about where there other ISPs will obtain local access services on fair and non-discriminatory terms. Such a merger might be reviewed in order to ensure that adequate safeguards are in place to protect competing ISPs.

Merger Analysis

Large mergers, acquisitions and some other corporate combinations require prior review and approval in some jurisdictions. As part of their review, competition authorities may prohibit mergers or approve them subject to conditions. Mergers are usually only prohibited or subjected to conditions if the authority concludes that the merger will substantially harm competition. Given the discretion inherent in the interpretation of this threshold, various competition authorities have published merger guidelines. These are intended to assist firms and their advisers to anticipate the procedures and criteria which will be applied in assessing a merger.

An example of such guidelines is contained in the Horizontal Merger Guidelines published in 1997 by the US Department of Justice and the Federal Trade Commission. The Guidelines set out a five stage analysis of the following subject areas.

Market definition
Identification of firms participating in the relevant market and their market shares
Identification of potential adverse effects of the merger
Analysis of barriers to market entry
Evaluation of any efficiencies arising from the merger

The importance of market definition was discussed earlier in this Chapter. In the context of a merger review, market definition is often the key factor in determining whether a merger is anti-competitive. If a market is defined broadly, the merging firms may be considered to be competitors. Amore narrow market definition may result in a determination that the firms operate in different markets. On the other hand, a broad market definition could lead to a conclusion that the merged entity will face sufficient competition from other firms in the market. A narrow definition could lead to a conclusion that the merged entity would have excessive market power in a smaller market.

The second stage of the analysis is the identification of firm competing in the relevant market and their market shares. The determination of market share will have a direct bearing on an assessment of market power and the potential for abuse of market power by the merged entity.The evaluation of market participants includes not only firms which actually participate in the relevant market, but also firms which could be expanded to enter it.

In assessing the potential adverse effects of a proposed merger, attention will typically focus on the establishment or increase of the dominant position by the merged entity. There may also be concerns that the merger, by reducing the number of firms participating in a market, will create conditions which make anti-competitive agreements among them more likely.

The evaluation of barriers to entry is an important aspect of merger review. A finding that there are low barriers to entry can help justify a merger.

Finally, the five-stage analysis concludes with an assessment of any efficiencies to be realized as a result of the merger. In this stage, the objective is to assess efficiency or other welfare gains which can be projected to result from the merger. These will be balanced against any anti-competitive effects which have been identified in the earlier stages of the review.

Theoretically, substantial efficiency gains or other public welfare gains could support approval of a merger even where anti-competitive risks are identified. IN practice, it is difficult for a competition authority to qualify the positive and negative aspects of the transaction and arrive at any verifiable net effect. It may also prove difficult to determine how any efficiency or other welfare gains will be distributed between the producing firm and its customers. Similarly difficult is the development of any means to ensure redistribution of efficiency gains to broader public advantage.

In exceptional circumstances, a merger which would have anti-competitive effects may be permitted where one of the merging entities is in severe financial distress. The competition authority may be persuaded that the public interest is better served by a merger than by the failure of one of the merging entities. However, transactions of this sort should be carefully evaluated. Sometimes the merger is not the best solution. For instance, it may be that another firm could expand productive capacity using the assets of the failing firm and that public welfare would be better served by this alternative solution. Bankruptcy is painful for shareholders, but does not always have a long-term negative effect on the economy.

Information in Merger Reviews

As part of the merger review process, the merging firms must normally provide information to the reviewing authority. It is standard practice in jurisdictions which impose merger review to require the parties to be merged to submit advance notice of the proposed transaction. The information disclosed in the pre-merger notification will normally be used by a competition authority in the first stage of merger review. (i.e. to determine if any anti-competitive concerns are present and whether to proceed with a more detailed review of the proposed transaction).

The content of pre-merger notifications are generally defined by the law or regulation. Required information typically includes:

The identity of the firms involved in the proposed transaction
A description of the nature and commercial terms of the transaction
The timing of the transaction
Financial information on the involved (including revenue, assets and copies of annual or other financial reports)
Identification of related ownership interests and the organization structure of the firms involved
A description of the relevant product and service markets in which the firms operate

The initial information filing typically triggers a waiting period, during which the reviewing authority will be entitled to request further information. This process concludes with a determination by the reviewing authority whether to proceed with a more detailed investigation.

If the competition authority decides to proceed with a further investigation, it will obtain more information from the merger participants. Additional information is usually gathered from third parities such as competitors and customers. Commercially sensitive information is also generally protected from public disclosure.

During a more detailed review, a competition authority will normally seek information about matters such as the following:

Products, customers, suppliers, market shares, financial performance
Activity of competitors and competitors’ market shares
Availability of substitute products
Influence of potential competition (including foreign competition)
Pace of technological or other change in the relevant markets, and its impact on competition
Nature and degree of regulation in the relevant markets

The quality of a merger review will depend heavily on the quality and range of information available to the reviewing authority.

Merger Remedies

The goal of merger control laws is to prevent or remove anti-competitive effects of mergers. Three types of remedies are typically used to achieve this goal.

Prohibition or Dissolution – The first remedy involves preventing the merger in its entirety, or if the merger has been previously consummated, requiring dissolution of the merged entity.

Partial Divestiture – A second remedy is partial divestiture. The merged firm might be required to divest assets or operations sufficient to eliminate identified anti-competitive effects, with permission to proceed with the merger in other respects.

Regulation/Conditional Approval – A third remedy is regulation or modification of the behaviour of the merged firm in order to prevent or reduce anti-competitive effects. This can be achieved through a variety of one-time conditions and on-going requirements.

The first two remedies are structural, and the third remedy is behavioural. Behavioural remedies require ongoing regulatory oversight and intervention. Structural remedies are often more likely to be effective in the long run and require less ongoing government intervention.

Partial divestiture or behavioural constraints are less intrusive in the operation of a market than preventing a merger from proceeding or requiring dissolution of a previously completed merger. Partial divesture can reduce or eliminate anti-competitive effects while preserving some of the commercial advantages of a merger.

Partial divestiture is emerging as a preferred remedy in many jurisdictions. Although it has since been abandoned, the proposed Telia/Telenor merger, which is described in Box 1-14, provides a good illustration of the use of this remedy. Box 1-15 discusses the Bell Atlantic/Nynex merger, and Box 1-16 describes the closely related SBC/Ameritech merger.

Box 1- 14:

Case Study: The Telia/Telenor Merger

On 13 October 1999, the European Commission approved the merger of Swedish telecommunications operator, Telia AB and Norwegian operator, Telenor AS into a new company to be jointly controlled by the Swedish and the Norwegian governments.

On its initial review, the Commission identified a number of concerns due to the breadth of operations and market presence of Telia and Telenor, in their respective domestic markets. In addition, the commission expressed concern with certain overlapping interests, such as the interest of each operator in competing mobile companies in Ireland. In addition, a significant concern was raised about Telia and Telenors ownership of cable TV networks in each of their domestic markets.

To secure Commission approval of the proposed merger, Telia and Telenor volunteered the following commitments:

Each of Telia and Telenor would divest its cable television operations
Each company would divest overlapping operations in the Swedish and Norwegian markets
One of Telia or Telenor would divest its Irish mobile telephone interests
Each of Telia and Telenor would implement local loop unbundling in its domestic market to facilitate the development of local competition

The divestiture of cable assets is consistent with the Commission’s Cable Ownership Directive. The commitments made to secure Commission approval for the merger represent a mix of structural and behavioural remedies to address identified anti-competitive effects. The commitments to divest operations are structural remedies. The commitment to implement local loop unbundling is a behavioural remedy requiring ongoing regulatory oversight.

Note: Although the merger was conditionally approved, it was later abandoned due to inability to agree on certain implementation matters

Box 1- 15:

Case Study: FCC Review of the Bell Atlantic /Nynex Merger

The Bell Atlantic/Nynex Merger

On 14 August 1997, the FCC approved the merger of Nynex Corporation into Atlantic Corporation. The FCC’s review was conducted pursuant to sections of the Communication Act of 1934, which requires FCC approval for transfers of operating licenses and other authorisations. These sections required a demonstration that the merger is in the public interest. Accordingly, the parties to a proposed merger have the onus of proving that the transaction will enhance competition or that it will otherwise be in the public interest. The merger was also subject to approval of the US Department of Justice (DOJ).

In this and other merger reviews, the FCC applied the 1997 DOJ/FTC Horizontal Merger Guidelines. The FCC also evaluated the proposed merger on the assumption that the market opening initiatives introduced by the Telecommunications Act of 1996 has been implemented. Applying this framework, in the FCC concluded that the merger would have significant anti-competitive effects.

The fist concern was the merger would remove Bell Atlantic as a potential Nynex competitor in the New York market. The second was that continuing Bell Operating company consolidated increased the likelihood of co-ordinated action among the remaining market participants.

The FCC reviews claims of merger-related efficiencies put forward by the parties (including costs savings, accelerated broadband deployment and service quality improvements), and concluded that these fell far short of overcoming anti-competitive effects and of demonstrating a net public benefit. The FCC concluded that substantial barriers to entry would remain and that, without the benefit of additional measures, market entry could not be relied upon to constrain the exercise of market power.

Ultimately, the FCC decided to approve the proposed merger based on the following market opening commitments volunteered by Bell Atlantic. These commitments were to be made enforceable conditions for approval of the merger.

The provision of detailed performance monitoring reports to competitors and regulators regarding performance of Bell Atlantic’s networks and operational support systems (OSS);
Negotiated performance standards and enforcements mechanisms covering all major aspects of OSS operation and network performance;
Development and implementation of uniform OSS interfaces for the combined Bell Atlantic/Nynex region;
Operator-to-operator OSS testing in response to competitor requests, with a further obligation providing evidence to the FCC that OSS functions could meet demand for resold services and unbundled network elements;
Offering interconnection, unbundled network elements and transport and termination services at rates based on forward-looking economic cost;
Offering unbundled switching and shared transport services priced on a per minute of use basis, routed in the same manner as Bell Atlantic’s phone and without the imposition of access charges; and
Optional payment plans permitting new entrants to pay recurring charges for what would otherwise be non-recurring charges, an instalment payment plan for co-location and other large non-recurring charges and alternative payment mechanisms for common construction costs and competitor specifics construction and equipment costs (with cost apportionment consistent with earlier FCC orders).

These conditions were subject to sunset limitation. They were due to expire 48 months following the release of the merger approval order.

Box 1- 16:

Case Study: FCC Review of the SBC/Ameritech Merger

On 6 October 1999, the FCC approved the merger of Ameritech Corp into SBC Communications Inc. FCC approval was required and proceeded under the same statutory framework as the Nynex/Bell Operating Companies (South-western Bell Telephone, Pacific Telesis and Ameritech). Perhaps because of this greater degree of consolidation, the FCC appears to have required a more onerous set of conditions in order to approve the merger.

In its review, the FCC was primarily concerned about the effects of the merger in removing a significant potential competitor from each of the participating firms’ local markets. Concerns were also expressed about impeding the implementation of the market-opening requirements of the Telecommunications Act of 1996. Again, the FCC concluded that claimed efficiencies and other merger benefits were insufficient to overcome the identified anti-competitive effects.

Both the DOJ and FCC reviews of the SBC/Ameritech merger concluded that the merged entity would have to divest itself of cellular telephone licenses in identified service markets (14 in all). This would eliminate overlapping operations by the two merged firms in those markets. The FCC concluded that the transfer of Ameritech’s international authorisations to SBC would be approved subject to the SBC subsidiaries being classified as dominant international operators on US-South Africa and US-Denmark routes.

The most striking aspect of the FCC Decision is the range of conditions to be imposed on the merged entity. The conditions (30 in all) include:

Establishing a separate affiliate for the deployment of advanced services (which must obtain facilities and services form SBC companies on the same terms as competitors and be subject to a “comprehensive” annual audit)
Enhanced OSS lop information and loop conditioning to facilitate competition in advance services
Enhanced AOSS and performance measurement data to improve and monitor interconnection and other competitor provisioning (with identified “incentive payments” to be made by SBC if performance measure are not met)
Interconnection agreements to be made available on a multiple state and “most-favoured-nation” basis
Identified operator-to-operator “promotions’, including a lop discount of 25% off the otherwise lowest monthly loop charge (subject to “state-specific quantity limits”)
A commitment to enter at least 30 out of territory, major markets as a facilities-based competitive local service provider (to business and residential customers) within 30 months of the merger closing (and subject to an “incentive payment” of up to $1.2 billion U.S. if the entry requirements are not met in all 30 markets)
A number of residential service enhancements, including “life line plans” for low-income subscribers and additional quality of service and network reliability reporting requirements.

These conditions are of limited duration. SBC undertook that each of the conditions would remain in effects for a period of 36 months from first implementation.

A merger may impact existing regulatory treatment of one or more of the merged firms in a number of ways. For example, if a merger significantly increases a firm’s market share or market power, the regulator may review earlier decisions to forbear from regulation. Similarly, it may review an earlier determination that an entity involved in the merger was not dominant in its market, and was thus entitled to a lighter degree of regulation.

Joint Ventures

In some cases, telecommunications competitors may enter into ventures. The competition analysis of joint ventures generally raises similar issues to those discussed under the title Restrictive Agreements earlier in this Module. The process and information requirements for review of a joint venture will resemble those discussed earlier under the title Merger Analysis and Remedies.

Questions will be raised about whether a joint venture will bring about a significant reduction in competition or result in the exercise of market power to the detriment of competitors or consumers. Joint ventures can become vehicles for anti-competitive collusion between firms that would otherwise be competitors. Such ventures can also result in the creation or reinforcement of a dominant position. See Box 1-17 for an example.

Box 1- 17:
Case Study: The BT/AT&T Joint Venture
On 30 March 1999, the European Commission approved the creation of a joint venture between British Telecommunications service company and AT&T. The final decision marked the conclusion of an in-depth inquiry commenced in December 1998. The inquiry was prompted by concerns that:
The joint venture would create or reinforce a dominant position in the supply in the supply of international telecommunications services to large corporation and other telecommunications operators
The joint venture would create or reinforce a dominant position for certain telecommunications services in the U.K.
The joint venture would result in anti-competitive co-ordination in the UK market given AT&T’s ownership interests in competitors to BT (ACC and Telewest)
The joint venture was assessed with a view to determine whether it would create or strengthen a dominant position and significantly impede competition contrary to Article 2 of the European Community Merger Regulation and Article 85 (now 81) of the EC Treaty.
The Commission concluded that the presence of substantial competition in the international services markets, as well as “plentiful additional capacity” supported the conclusion that the joint venture did not create or strengthen a dominant position. Although the Commission found that AT & T and BT had about half the traffic volume on the U.K./U.S. route, it also found that the parties controlled only about 20% of capacity with planned additional capacity and falling prices for new capacity supporting competitive entry.
However, the Commission expressed a number of “coordination concerns” regarding U.K. markets. These included concerns about AT&T’s interests in BT competitors ACC and Telewest (the former a competitive long distance telephone services provider, the latter a major operator of telephony enabled cable TV systems). The Commission was also concerned about the distribution of AT&T/Unisource international telecommunications services in the U.K.
To overcome these concerns, AT&T volunteered undertakings to:
Divest its interests in ACC U.K.,
Reinforce the structural separation between AT&T and its Telewest holdings
Facilitate the appointment of another Unisource services distributor in the U.K. (since the existing U.K. distributor, AT&T U.K., would be wound up)
The Commission granted approval for the joint venture subject to compliance with these undertakings.

Learning Activity

Using case studies in the above text and your local telecommunications regulatory authority, write essays on each of the following below, discussing the lessons learned and citing what improvements can be implemented

a) Imputation
b) Predatory Pricing
c) Locking–In customers
d) Unbundling Conditions
e) Mergers