Fill me in:
This fall, staffers on the House Judiciary Antitrust Subcommittee released a long-anticipated report outlining a series of recommendations intended to rewrite our country’s antitrust laws. The staff report, while initially intended to focus on four tech companies, makes a series of erroneous policy conclusions that if implemented would wield government control over the entire U.S. economy, hampering growth and innovation to the determinate of consumers.
As part of the staff report’s recommendations, it proposed changing the relationship between antitrust and mergers involving potential nascent competitors.
But first …
It is important to understand merger law. Under US merger law, the law assumes the merging parties have the economic freedom to merge. It is up to the government to demonstrate that the merger will harm competition in the market, where that harm impacts consumers, not other competitors.
Mergers of a certain size must be notified to the government (Hart-Scott-Rodino or HSR Act). The government has the right to ask additional questions of the merging parties if they have potential concerns (often referred to as a 2nd request) that the merger may result in harm to consumers. If the government feels the merger is problematic, it can ask the parties to alter the terms or conditions surrounding the deal or take the merging parties to court and ask the court to block the merger by claiming the merger would result in anti-competitive harm.
Numbers to know:
The below table shows the number of mergers notified to the government in the past few years, the number of times those mergers resulted in the government feeling the need to ask additional questions, and the number of mergers that ultimately were problematic and resulted in agreed terms to modify the merger, abandon the transaction, or a decision by the government to go to court to block the transaction.
HSR Notified Transactions
2nd Requests as a % of HSR Transactions
Three percent or less of all mergers notified to the government raise anti-competitive questions. Only in a handful of cases are proposed mergers truly found to be problematic. This track record is not the result of a lack of enforcement, it is due to the fact that most mergers produce efficiencies in the marketplace that are overwhelmingly positive for the consumer.
What’s the problem?
However, the staff report in its effort to examine Google, Amazon, Apple, and Facebook inventories more than ten years of transactions where these companies bought much, much smaller firms. The implication is that somehow these acquisitions, the vast majority of which most of us have never heard of before, represent transactions that should not have been allowed or at least at a minimum should have been notified. Because most of these transactions represented small acquisitions, they fell below the threshold required under law where these transactions would have been notified. But as the table above shows, most transactions aren’t worth close examination by the government.
These types of transactions are labeled by antitrust critics as “killer acquisitions,” the idea being that large competitors want to buy out potential future rivals at an early stage before they become a threat to their dominance. There are several problems with this theory, but it is important to point out that the most prominent cases in support of the argument references in the report being WhatsApp, Instagram, and DoubleClick were all substantial transactions that were notified, resulted in a government review, and ultimately were allowed to proceed without challenge in court. Point being, the report erroneously misleads the reader to believe there are a bunch of small transactions that aren’t being filed and therefore escaped the watching eyes of antitrust enforcement.
What policy questions are considered when a large firm acquires a small firm?
Perspective of the Target of the Acquisition – Start-ups are what make the United States the entrepreneurial envy of the world. The creative ability to bring new products, services, or technologies to market attracts investors and fuels innovation. Some of these innovations grow to become disruptors, but that is far from being a guarantee, and yes some do get bought. However, many entrepreneurs seek to grow their company just beyond proof of concept with the specific plan of selling the company and moving on to their next great idea. Investors park capital with these start-ups in support of exit strategies. If the government were to make it more difficult for start-ups to sell themselves to larger firms, capital in support of entrepreneurs would dry-up, and unhappy co-founders would be stuck trying to find management teams to run companies that no longer interest them.
TAKEAWAY: If we want a vibrant economy, we can’t foreclose the opportunity for entrepreneurs to decide they want to sell their start-up.
Perspective of Acquiring Firm – Successful companies have a right to work to maintain their success. Often larger firms see technologies or other assets in the market that they believe they could put to good use along side the products and services that they offer. These larger companies have a choice, they can spend money and develop these capabilities themselves or they can seek to purchase it from the market. Where the business strategy suggests its important or most cost effective to develop the expertise in-house the company will make the necessary R&D expenditure. However, if it is faster or more efficient to purchase what is needed by buying a smaller firm in the market than that is what happens.
TAKEAWAY: The government should not be put in a position to second guess everyday business decisions such as whether a company decides to develop a capability internally or make a purchase in the market.
Perspective of the Government – Under merger law the government will review transactions that it believes might present a competition problem. However, the government’s ability to predict the future is quite limited. While there are sound economic analysis tools to examine what will happen in the short-term to competition in the market immediately following a merger, it is much, much tougher to project with confidence what will happen to competition in the market over the longer-term. This is especially true when it involves the acquisition of so called “nascent competitors” which may or may not turn out to be a competitor in the future. For these reasons, the government and the law have been wary to step-in unless they have better evidence to support the impact a transaction will have on the market.
TAKEAWAY: The law rightfully requires the evidence to demonstrate a problematic merger will “substantially” lessen competition.
Why it matters:
Based on these perspectives, radical changes to merger law in the name of protecting nascent competitors can’t be justified. The staff report makes two such radical recommendations on “killer acquisitions.” Let’s take a quick look at each:
Report recommendation: “Under this change, any acquisition by a dominant platform would be presumed anticompetitive unless the merging parties could show that the transaction was necessary for serving the public interest and that similar benefits could not be achieved through internal growth and expansion. This process would occur outside the current HartScott-Rodino Act (HSR) process, such that the dominant platforms would be required to report all transactions and no HSR deadlines would be triggered.”
This recommendation is purely punitive. It requires the government to keep a list of “dominant platforms,” it makes any merger activity by these firms presumptively illegal, and further injects a political “public interest standard” into antitrust. The second recommendation is broader and would impact all firms, not just those put on the government’s “no-merger” list.
Report recommendation: “Subcommittee staff recommends that Congress consider strengthening the incipiency standard by amending the Clayton Act to prohibit acquisitions that “may lessen competition or tend to increase market power.” Revising the law would “arrest the creation of trusts, conspiracies, and monopolies in their incipiency and before consummation.”
Here the recommendation looks to water down the standard by which mergers are evaluated. By relying on a “may lessen” standard it becomes very easy for the government to block acquisitions as hypothetical arguments do not require evidence, they rely merely on a hypothesis. The problem is acquisitions involving nascent players in the market present no shortage of hypotheticals, and changing the law to empower a guess over the future make-up of the market would result in far reaching government control over the market.
The Doubleclick, WhatsApp, and Instagram transactions were each reviewed to the government’s satisfaction at the time the acquisitions were made. Since the transactions, these acquisitions have been integrated into the companies, the companies have invested to grow and market the capabilities of the technologies it acquired. In other words, what exists today within these firms is different than what was acquired. There was no guarantee that these acquisitions would prove successful in the future if they were not bought or that the success of the Google or Facebook today is entirely built on the back of these acquisitions or that had these transactions been blocked these companies wouldn’t have had the means to internally develop these capabilities themselves.
In short, the politically charged House report pairs baseless attacks on mergers and acquisitions with reckless calls for breakup. The case for making changes to merger law is not made by the House report. Instead the report seeks to set government up to be the “killer” and potentially block acquisitions across many industries that overwhelming would have a positive impact on our economy and on consumers.
For more on antitrust, check out last week’s post here.