Archives For merger guidelines

Sports Illustrated:

The Federal Trade Commission has concluded and closed a six-month, nonpublic investigation of Zuffa LLC., the owners of the Ultimate Fighting Championship, and will not take further action at this time, an FTC spokesperson confirmed to SI.com on Tuesday.

According to closing letters to parties involved that were made public Tuesday, the FTC Bureau of Competition investigation focused on Zuffa’s March 2011 acquisition of Explosion Entertainment LLC., which owned the rival Strikeforce promotion, and whether the purchase violated Section 7 of the Clayton Antitrust Act or Section 5 of the Federal Trade Commission Act.

Section 7 of the Clayton Act  “prohibits mergers and acquisitions when the effect may be substantially to lessen competition, or tend to a create a monopoly,” according to FTC guidelines.

Section 5 of the Federal Trade Commission Act prohibits “unfair or deceptive acts or practices in or affecting commerce.’’

“No action has been taken in regards to this part of the investigation,” said the FTC spokesperson, though he said the governmental agency reserves the right to revisit the matter in the public’s interest.

Zuffa purchased Explosion Entertainment, established by Scott Coker and Silicon Valley Sports and Entertainment, a sports franchise company, for a reported $40 million. Coker became the general manager for Strikeforce, which plans to hold six events on Showtime this year.

A remarkable set back for the unilateral effects enforcement agenda at the agencies to be sure.

 

As everyone knows by now, AT&T’s proposed merger with T-Mobile has hit a bureaucratic snag at the FCC.  The remarkable decision to refer the merger to the Commission’s Administrative Law Judge (in an effort to derail the deal) and the public release of the FCC staff’s internal, draft report are problematic and poorly considered.  But far worse is the content of the report on which the decision to attempt to kill the deal was based.

With this report the FCC staff joins the exalted company of AT&T’s complaining competitors (surely the least reliable judges of the desirability of the proposed merger if ever there were any) and the antitrust policy scolds and consumer “advocates” who, quite literally, have never met a merger of which they approved.

In this post I’m going to hit a few of the most glaring problems in the staff’s report, and I hope to return again soon with further analysis.

As it happens, AT&T’s own response to the report is actually very good and it effectively highlights many of the key problems with the staff’s report.  While it might make sense to take AT&T’s own reply with a grain of salt, in this case the reply is, if anything, too tame.  No doubt the company wants to keep in the Commission’s good graces (it is the very definition of a repeat player at the agency, after all).  But I am not so constrained.  Using the company’s reply as a jumping off point, let me discuss a few of the problems with the staff report.

First, as the blog post (written by Jim Cicconi, Senior Vice President of External & Legislative Affairs) notes,

We expected that the AT&T-T-Mobile transaction would receive careful, considered, and fair analysis.   Unfortunately, the preliminary FCC Staff Analysis offers none of that.  The document is so obviously one-sided that any fair-minded person reading it is left with the clear impression that it is an advocacy piece, and not a considered analysis.

In our view, the report raises questions as to whether its authors were predisposed.  The report cherry-picks facts to support its views, and ignores facts that don’t.  Where facts were lacking, the report speculates, with no basis, and then treats its own speculations as if they were fact.  This is clearly not the fair and objective analysis to which any party is entitled, and which we have every right to expect.

OK, maybe they aren’t pulling punches.  The fact that this reply was written with such scathing language despite AT&T’s expectation to have to go right back to the FCC to get approval for this deal in some form or another itself speaks volumes about the undeniable shoddiness of the report.

Cicconi goes on to detail five areas where AT&T thinks the report went seriously awry:  “Expanding LTE to 97% of the U.S. Population,” “Job Gains Versus Losses,” “Deutsche Telekom, T-Mobile’s Parent, Has Serious Investment Constraints,” “Spectrum” and “Competition.”  I have dealt with a few of these issues at some length elsewhere, including most notably here (noting how the FCC’s own wireless competition report “supports what everyone already knows: falling prices, improved quality, dynamic competition and unflagging innovation have led to a golden age of mobile services”), and here (“It is troubling that critics–particularly those with little if any business experience–are so certain that even with no obvious source of additional spectrum suitable for LTE coming from the government any time soon, and even with exponential growth in broadband (including mobile) data use, AT&T’s current spectrum holdings are sufficient to satisfy its business plans”).

What is really galling about the staff report—and, frankly, the basic posture of the agency—is that its criticisms really boil down to one thing:  “We believe there is another way to accomplish (something like) what AT&T wants to do here, and we’d just prefer they do it that way.”  This is central planning at its most repugnant.  What is both assumed and what is lacking in this basic posture is beyond the pale for an allegedly independent government agency—and as Larry Downes notes in the linked article, the agency’s hubris and its politics may have real, costly consequences for all of us.

Competition

But procedure must be followed, and the staff thus musters a technical defense to support its basic position, starting with the claim that the merger will result in too much concentration.  Blinded by its new-found love for HHIs, the staff commits a few blunders.  First, it claims that concentration levels like those in this case “trigger a presumption of harm” to competition, citing the DOJ/FTC Merger Guidelines.  Alas, as even the report’s own footnotes reveal, the Merger Guidelines actually say that highly concentrated markets with HHI increases of 200 or more trigger a presumption that the merger will “enhance market power.”  This is not, in fact, the same thing as harm to competition.  Elsewhere the staff calls this—a merger that increases concentration and gives one firm an “undue” share of the market—“presumptively illegal.”  Perhaps the staff could use an antitrust refresher course.  I’d be happy to come teach it.

Not only is there no actual evidence of consumer harm resulting from the sort of increases in concentration that might result from the merger, but the staff seems to derive its negative conclusions despite the damning fact that the data shows that wireless markets have seen considerable increases in concentration along with considerable decreases in prices, rather than harm to competition, over the last decade.  While high and increasing HHIs might indicate a need for further investigation, when actual evidence refutes the connection between concentration and price, they simply lose their relevance.  Someone should tell the FCC staff.

This is a different Wireless Bureau than the one that wrote so much sensible material in the 15th Annual Wireless Competition Report.  That Bureau described a complex, dynamic, robust mobile “ecosystem” driven not by carrier market power and industrial structure, but by rapid evolution and technological disruptors.  The analysis here wishes away every important factor that every consumer knows to be the real drivers of price and innovation in the mobile marketplace, including, among other things:

  1. Local markets, where there are five, six, or more carriers to choose from;
  2. Non-contract/pre-paid providers, whose strength is rapidly growing;
  3. Technology that is making more bands of available spectrum useful for competitive offerings;
  4. The reality that LTE will make inter-modal competition a reality; and
  5. The reality that churn is rampant and consumer decision-making is driven today by devices, operating systems, applications and content – not networks.

The resulting analysis is stilted and stale, and describes a wireless industry that exists only in the agency’s collective imagination.

There is considerably more to say about the report’s tortured unilateral effects analysis, but it will have to wait for my next post.  Here I want to quickly touch on a two of the other issues called out by Cicconi’s blog post. Continue Reading…

One of the most controversial merger policy decisions during the Bush administration was the DOJ’s failure to bring a complaint against the Whirlpool/Maytag merger.  Indeed, the decision was even criticized by Carl Shapiro, the economic expert retained by the DOJ on the case.   Jonathan Baker and Carl Shapiro summarize this conclusion as follows:  “The March 2006 decision by the DOJ not to challenge Whirlpool’s acquisition of Maytag was a highly visible instance of underenforcement.”   Orley Ashenfelter, Daniel Hosken and Matthew Weinberg have now posted a working paper that estimates the price effects of the merger.  Using scanner data, the authors compare the prices of Whirlpool and Maytag appliances to price changes in the appliance markets most affected by the merger to other markets less or not affected.  They find large significant price increases for clothes dryers and dishwashers, but not for refrigerators and washing machine.

Yale’s George Priest authored an op-ed in the WSJ on September 6th in which he raised a few of the arguments discussed here at TOTM over the past several weeks regarding the proposed AT&T / T-Mobile merger.  For example, we’ve focused upon the tension between the DOJ complaint’s theories of competitive harm (coordinated and unilateral effects) and the reaction of Sprint’s stock price.  Along these lines, Priest writes:

If the acquisition would lead to increased prices and lower quality products as the Justice Department has claimed, Sprint would be better off after the acquisition. Sprint would be able to add subscribers, not lose them, because of AT&T’s higher prices and lower quality. Sprint would oppose the acquisition—as it has—only if it thought that the merger would put it in a worse position by increasing the competitive pressures that it already faces.

The market—though not the Obama administration—understands this point. On the day that the Justice Department announced its opposition to the acquisition, Sprint’s share price rose 5.9%, reflecting investors’ belief that Sprint will be in a better competitive position without the acquisition.

As we’ve pointed out, Sprint’s stock price reaction is simply not consistent with the DOJ theories.  To find a theory of harm more consistent with the market reaction, critics of the merger have abandoned the DOJ’s theories in favor for a new one — that the merger will facilitate future exclusion of rivals from access to critical inputs like backhaul or handsets.

The AAI’s Rick Brunell makes this point in our comments.  The basic point is that under an exclusion theory Sprint benefits from the challenge to the merger because it prevents its future exclusion.   Brunell also argued in that comment that Verizon’s stock price movement supported exclusion theories of the merger, pointing out that its stock price fell 1.2% (with a .7% drop in the S&P 500) upon announcement of the challenge.

We challenged the economic logic of Brunell’s claim that Verizon’s non-reaction was consistent with exclusionary theories in a follow up post.  Put simply, assuming the merger will result in successful exclusion of rivals in the future, Verizon would be a gigantic winner from its successful completion:

The relevant economics here are not limited to the possibility that post-merger AT&T would successfully exclude Verizon.  Think about it: both Verizon and the post-merger firm would benefit from the exclusionary efforts and reduced competition.  However, Verizon would stand to gain even more!  After all, it isn’t paying the $39 billion purchase price for the acquisition (or any of the other costs of implementing an expensive exclusion campaign).  Thus, an announcement to block the would-be exclusionary merger — the one that would allow Verizon to outsource the exclusion of its rivals to AT&T on the cheap — wouldn’t happen.  Verizon stock should fall relative to the market in response to this lost opportunity.  The unilateral and coordinated effects theories in the DOJ complaint are at significant tension with the stock market reactions of firms like Sprint (and its affiliated venture, Clearwire).  The exclusion theory predicts a large decrease in stock price for Verizon with the announcement.  None of these comfortably fit the facts.  Verizon more or less tracks the S&P with a slight drop.  What about the smaller carriers?  Take a look at the chart.  MetroPCS barely moved relative to the market (in fact, may have increased relative to the market over the relevant time period); Leap is down a bit more than the market.  Here, with the smaller carriers there is not a lot of movement in any direction.  But, contra NB’s comment (“Verizon, a larger and far more significant competitor, had its stock drop sharply in that same period you show Sprint “surging”. MetroPCS’s stock also dropped.”), Verizon’s small fall relative to the market is nowhere near the magnitude of the positive effect on Sprint and Clearwire.

In other words, contra Brunell and other proponents of the exclusion theory, its not just that Verizon has “nothing to fear” from exclusion but that it has much to gain from it.  If the merger is likely to exclude Verizon’s rivals at a price tag of at least $39 billion paid with its chief competitor’s dollars, the announcement of a challenge should have resulted in a substantial loss for Verizon not one barely detectable beyond market trends. Excluding rivals and gaining market power with other people’s money is good work if you can get it.  If proponents of the exclusionary theory believe exclusion is worth $39 billion for AT&T and is the purpose of the merger, surely they also believe it is worth something quite significant to Verizon who would reap the benefits of exclusion and get it for free.

Unfortunately, AAI (through Brunell) ignores this point in a Letter to the Editor to the WSJ filed in response to Priest’s op-ed:

Mr. Priest ignores the fact that Sprint would be harmed if the merger enhanced AT&T’s (and Verizon’s) ability to exclude Sprint from the market (or raise its costs) through increased control over the best handsets, roaming and backhaul services that Sprint needs to compete effectively in the market, as Sprint alleges in its own lawsuit challenging the merger. Sprint also benefits, from the merger’s demise, as a potential acquirer of T-Mobile.

Mr. Priest also ignores the stock-price movement of Verizon, AT&T’s chief rival, which has no reason to fear exclusion from the market, and would be harmed the most if the merger made AT&T a more efficient competitor. In the two days following the merger announcement in March, Verizon’s stock price jumped 3.1% (compared to the S&P 500’s increase of only 1.1%), while in the two days after the Justice Department’s suit was announced, Verizon’s stock fell by 1.2% (compared to a .7% drop in the S&P 500). Verizon has not opposed the merger.

Event studies of stock-price movements are notoriously inconclusive. However, the data here are entirely consistent with investors’ expectation that the merger will result in less price and quality competition in the industry and higher costs for AT&T’s smaller rivals, all to the detriment of consumers.

If you are keeping score at home: Priest 1  –  AAI 0.  Once again, the exclusion theories don’t seem to hold up to these data.  On the other hand, the DOJ theories are embarrassingly confronted by the response of the rival’ stock price surging upon the announcement of a challenge.  For what its worth, I agree with Brunell that event studies are not dispositive of a merger’s likely effects — though query what data available to predict merger outcomes are?  But event studies and stock-price movements produce valuable information.  In this case, financial market responses cut against the the exclusionary theory favored by AAI and Sprint and the conventional DOJ theories.

The NY Times starts its op-ed against the AT&T / T-Mobile transaction with a false proposition about antitrust analysis of mergers: “The analysis begins with a mathematical formula for calculating the deal’s effect on competition.”  Any antitrust lawyer or economist will recognize the error.  A major change from the 1997 Horizontal Merger Guidelines to the 2010 version is that the former observes that agency analysis must begin with market definition and evaluation of concentration:

First, the Agency assesses whether the merger would significantly increase concentration and result in a concentrated market, properly defined and measured

However, the it is widely recognized that the 2010 Guidelines shed the cookie cutter, algorithmic approach to merger analysis in favor of a fact-intensive analysis involving multiple tools of which market definition and calculating market shares and evaluating concentration levels and changes is just one.  Indeed, the 2010 Guidelines expressly state:

The Agencies’ analysis need not start with market definition.

This is not trivial detail; these changes were at the very core of the changes in the new Guidelines promulgated by the Obama administration’s antitrust enforcement agencies.  The NYT analysis simultaneously relies exclusively upon market concentration statistics while appealing to the 2010 Guidelines which rejected that approach as authority.  Odd.  But not unsurprising.

What is more surprising is Professor Hovenkamp’s quote, whom we certainly can expect more from than the NYT.  Hovenkamp observes:

“It’s only a slight overstatement to say that if they weren’t going to block this one, the Justice Department might as well just throw the antitrust guidelines out the window,” said Herbert Hovenkamp, professor of law at the University of Iowa, who is considered by many to be the dean of American antitrust law. “This merger clearly seems to violate them.” …

“It was becoming legendary that the Bush administration wasn’t enforcing the old guidelines,” Mr. Hovenkamp said. “What good is a guideline that doesn’t provide any guidance? The Obama administration conceded that perhaps the old guidelines were too strict. So it made it easier, but at the same time said, ‘We’re going to enforce this.’ ”

I’ve got to believe Hovenkamp was quoted out of context here because, frankly, this doesn’t make much sense.  I doubt Hovenkamp would argue that the Guidelines’ thresholds were treated as gospel by any administration regardless of political ideology.   But what is absent from Hovenkamp’s discussion is the primary reason why the Guidelines expressly shifted away from concentration and toward direct analysis of competitive effects.  The answer doesn’t lie in politics.  Put simply, antitrust economists and lawyers at the agencies and elsewhere simply do not believe the HHI thresholds in the Guidelines provide a useful predictor for competitive effects.  The persistence of the HHI thresholds are at least somewhat a result of path dependency; despite some prodding, it proved too tempting for the agencies to keep the thresholds in given their appeal and general acceptance in merger precedent emerging in the 1960s and 70s.  But that was the age when those types of market structure arguments were in fact the economic state of art.  That is no longer true — and rejection of that general approach is a key (if not they key) component of the Guidelines’ evolution toward the current approach.

The theme of the NY Times article and the omission of any sense at all that the shift at the agency level has been the polar opposite of what is claimed — that is, away from treating HHI thresholds as gospel or even related to analysis of competitive effects and toward an analysis more directly focused upon competitive effects — I’m left puzzled by a few things in Hovekamp’s quote.  When the agencies have screamed from the rooftops that competitive effects and not market structure and market definition is what matters in merger analysis, the idea that not blocking a merger that nominally crosses otherwise meaningless thresholds in agency Guidelines threatens the rule of law or means that we ought not have Guidelines is at the very least overstated.  Of course, one could interpret the statement as a critique of leaving the thresholds in the Guidelines at all if one is not going to enforce them.  I agree with that.  But they’ve always been there and often been ignored when the agencies’ analysis concluded the merger would not harm consumers.

And of course, that interpretation is difficult to square with the statement that this “merger clearly seems to violate them.”    Violate them?  The Guidelines do not have the force of law.  If this merely means something like “the merger appears to be one that the agencies’ analytical framework articulated in the Guidelines indicates that they will challenge” — that’s fine.  But, that statement suffers the same analytical flaws described above. Violating the Guidelines would require a showing that the merger was likely to create market power and produce anticompetitive effects — to do so under the new Guidelines requires more than a simply counting the number of firms.  That type of analysis no longer passes muster in antitrust analysis at the agencies.  To claim a merger “clearly seems to violate” the Guidelines  by sole reference to the HHI thresholds at the same time the agencies have distanced themselves from them(in favor of more fact-intensive and direct analysis of competitive effects) is not consistent with the economic letter or spirit of the new Guidelines.

So, the AT&T / T-Mobile transaction gets more and more interesting.  Sprint has filed a complaint challenging the transaction.  I’ve been commenting on the weakness of the DOJ complaint and in particular, its heavy reliance on market structure to make inferences about competitive effects. The heavy dose of structural presumption in the DOJ complaint — especially in light of the DOJ / FTC’s new Horizontal Merger Guidelines which stress reducing that emphasis because it is grounded in outdated economic thinking in favor of analysis of actual competitive effects — reads more like a 1960s complaint than a modern post-2010 Guidelines approach.

There is a question that jumps out here.  What does Sprint get for jumping into full litigation mode rather than free-riding upon the DOJ’s case?  They could certainly free-ride and retain some influence over the DOJ case with economic submissions.   The DOJ is not a passive plaintiff.  This is the DOJ of “reinvigorated” antitrust enforcement.  There is an even more obvious cost to getting involved.  The conventional antitrust wisdom requires skepticism of private suits by rivals for the reasons I discussed here.   Rivals often have a financial incentive to sue more efficient competitors.  Various substantive and procedural stands of antitrust attempt to minimize the costs of providing rivals with generous remedies and a private right of action under the antitrust laws.  Suffice it to say, a rival suit doesn’t get the same attention as one brought by the DOJ or FTC.

So why do it?

I think the answer is pretty clear.  There are at least two important inferences to draw from Sprint’s complaint.

The first is that it is a sign that the DOJ’s structure-based complaint is pretty weak sauce.  David Balto described the complaint as missing “the red meat.”   Its heavy on reliance on outdated structural presumptions, strays far from the intellectual foundations of the new Merger Guidelines, doesn’t acknowledge efficiencies, and has been embarrassingly shown up by the market reaction.   I certainly agree with Balto that the DOJ complaint isn’t the agency’s best work.  So, apparently did the market  — with Sprint’s stock price surging instead of the decline predicted by various theories of competitive harm posited in the complaint.

Sprint, by filing this claim, reveals its view that the DOJ is not likely to prevail on the merits on those claims.   Or at a minimum that Sprint’s involvement increases the likelihood.  Given the skepticism about rival suits, I’m skeptical.  To reconcile these views one must read the Sprint complaint.  It heavily pushes an “exclusionary theory” of the merger (i.e. “vertical effects”) omitted by the DOJ in its own complaint.  The basic theory is that the post-merger firm will deprive rivals from access to backhaul or handsets.  I’ve argued that the exclusionary theory doesn’t fare much better in explaining the market reaction to the DOJ’s challenge.  But it at least has going for it that it can explain the Sprint’s stock price reaction: if the merger successfully prevents exclusion, it should improve outcomes for rivals.  The problem is that this explanation doesn’t square too nicely with the market reaction of other rivals likely to suffer from exclusion (smaller carriers) and big guys like Verizon who would benefit from watching AT&T bear the full cost of excluding rivals (an expensive strategy) while it reaped the benefits.

Thus, I think the second lesson is that its pretty clear that Sprint views the omission of these exclusionary theories as a critical weakness in the DOJ’s complaint — critical enough to take the relatively rare step of filing a separate private challenge.  Given large increase in Sprint’s stock in reaction to the news of challenge — its got a lot at stake here and its willing to spend some of that rather than free-riding on the DOJ challenge for the chance to prove it is right.  I remain skeptical; but its an interesting development nonetheless.

I don’t think so.

Let’s start from the beginning.  In my last post, I pointed out that simple economic theory generates some pretty clear predictions concerning the impact of a merger on rival stock prices.  If a merger is results in a more efficient competitor, and more intense post-merger competition, rivals are made worse off while consumers benefit.  On the other hand, if a merger is is likely to result in collusion or a unilateral price increase, the rivals firms are made better off while consumers suffer.

I pointed to this graph of Sprint and Clearwire stock prices increasing dramatically upon announcement of the merger to illustrate the point that it appears rivals are doing quite well:

The WSJ reports the increases at 5.9% and 11.5%, respectively.  In reaction to the WSJ and other stories highlighting this market reaction to the DOJ complaint, I asked what I think is an important set of questions:

How many of the statements in the DOJ complaint, press release and analysis are consistent with this market reaction?  If the post-merger market would be less competitive than the status quo, as the DOJ complaint hypothesizes, why would the market reward Sprint and Clearwire for an increased likelihood of facing greater competition in the future?

A few of our always excellent commenters argued that the analysis above was either incomplete or incorrect.  My claim was that the dramatic increase in stock market prices of Sprint and Clearwire were more consistent with a procompetitive merger than the theories in the DOJ complaint.

Commenters raised three important points and I appreciate their thoughtful responses.

First, the procompetitive theory does not explain the change in all stock market prices.  For example, readers pointed out that Verizon’s stock barely ticked downward, while smaller carriers MetroPCS and Leap both fell (.8% and 2.3%, respectively, according to the WSJ).  The procompetitive theory, the commenters argued, implies that Verizon and these other rivals should move upward.

Second, they argue that perhaps an exclusionary theory of the merger better explains these stock price reactions.  Indeed, the new 2010 Horizontal Merger Guidelines included (not without controversy) potential exclusionary effects (“Enhanced market power may also make it more likely that the merged entity can profitably and effectively engage in exclusionary conduct. “).  Rick Brunell of AAI writes:

Although the smaller carriers may gain in the short run due from a merger that raises prices, they also may lose in the long run due to its exclusionary effects, a theory that was front and center of Sprint’s opposition (and the smaller carriers’). Notably Verizon, which has no reason to fear exclusion and would have the most to lose if the merger were actually efficient, has not opposed the merger.”

Similarly, Matt Bodie writes:

Why wouldn’t the market’s reaction be a sign of this: (a) the AT&T/T-Mobile merger will give the new entity strong market power, (b) there are strong anticompetitive as well as efficiency gains from being bigger and having more market size, (c) the newly merged company would use that power to crush its weakest competitors, i.e. Sprint? After all, isn’t there a traditional story where monopolists cut prices to drive other competitors out, but then gradually raise price once their market power allows it, especially in industries with high barriers to entry?”

The basics of the exclusionary theory of the merger is that the anticompetitive harm is not coordination or unilateral price increases from the direct acquisition of market power, i.e. the elimination of competition from a close rival.  Rather, the exclusionary theory posits that the post-merger firm will have sufficient market power to exclude rivals from access to a critical input (e.g. backhaul) and, as Matt has it, “crush its weakest competitors.”  So to Matt, yes, there is that theory in antitrust.  But note that the post-merger share of the combined entity here would be nowhere close to traditional monopoly power standards required to make out a monopolization claim under Section 2 of the Sherman Act.  The new Guidelines do quasi-endorse the possibility of a Minority-Report like merger enforcement search for exclusion that doesn’t reach Section 2 standards post-merger, but might someday, but also needs to be stopped now.  But it is decidedly not standard in merger analysis. And this case is probably not a good test case for that theory; at least the DOJ thinks so.  But no, I don’t think the market reaction is reflecting concerns about exclusion.  More on that in a second.  But for now note that this is not simply a legal point.  While the law requires the demonstration of monopoly power for a Section 2 claim, the economic literature focusing upon exclusion also considers market power a necessary but not sufficient condition for competitive harm.  For the same reasons the exclusion claim would be rejected post-merger on legal grounds if we accept the market definition alleged by the DOJ, exclusion is unlikely as a matter of economics.

Put simply, the exclusionary theory’s proponents argue that it can explain the increase in Sprint’s stock price (reduced likelihood of future exclusion because of the DOJ challenge) and Verizon’s inconsequential reaction (it has “no reason to fear exclusion”).

Just so everybody is seeing the same thing — here is a chart with 5 days of trading including Verizon, Sprint, Clearwire, MetroPCS, Leap and the S&P 500.

Third, commenters argue that this simple analysis doesn’t account for other important factors.  NB writes:

Why did you choose Sprint particularly? Verizon, a larger and far more significant competitor, had its stock drop sharply in that same period you show Sprint “surging”. MetroPCS’s stock also dropped.

So what does it mean when a weak competitor’s stock jumps but two other competitors who are doing well have their stock drop? Other than that there are clearly more factors in play here?

Enough questions; time for answers.

Why Didn’t I Include the Exclusionary Theory of Harm?

I plead guilty.  Or at least guilty with an explanation.  I didn’t discuss the possibility of exclusion and whether it would better explain these market reactions than the theory that the merger is efficient or anticompetitive because it will facilitate coordination or unilateral price increases.  As it turns out, however, the reason is that the post was motivated by the following question:

How many of the statements in the DOJ complaint, press release and analysis are consistent with this market reaction?

Turns out, I’m in pretty good company in omitting this theory.  The DOJ didn’t allege it either.  As discussed above, the DOJ specifically alleged that the merger would result in coordinated effects in the national market and/or unilateral price increases.  Rick Brunell accurately points out that Sprint and AAI have both made these arguments.  Indeed, when I testified in the House on the merger, there were a lot of questions raised about exclusionary concerns.   But the bottom line is that they are not in the Complaint.  Apparently, those arguments did not persuade the Justice Department.  I have no intention on running from the interesting question posed by the commenters that the exclusion theory does a better job of explaining market price reactions.  That’s next.  But for now, let me say that I think there is a good reason the DOJ did not accept the Sprint / AAI invitation to adopt the exclusion theory.

Does Exclusion Do A Better Job of Explaining Verizon’s Non-Movement or Slight Fall? 

I think proponents of the exclusion theory of the merger have a tough task here.  Notice that the prediction of the exclusionary theory is NOT that Verizon’s stock price will stay put or fall.  Instead, it is that it will increase post-merger.  While Brunell observes that Verizon need not fear post-merger exclusion itself, it would certainly be happy to free-ride on the allegedly imminent exclusionary efforts of the newly merged firm.  Post-Chicagoans often invoke the argument that “competition is a public good” when explaining why a downstream input provider has reason to go along with an upstream firm’s attempt to monopolize.   Bork argued that the downstream firm had no reason to engage in a contract with the upstream provider that would increase the likelihood that he would be facing an upstream monopolist (and thus worse terms of trade) tomorrow.  The classic Post-Chicago response is that each downstream firm doesn’t take into account the impact of his private decision to enter into such a contract with the would-be monopolist — that is, competition is a public good.  The flip side of this argument is that exclusion is a public good too!   To put it more concretely, if the post-merger combination of AT&T / T-Mobile were able to successfully exclude Sprint and smaller carriers such as MetroPCS and Leap, and thereby reduce competition, the clear implication of this theory is that Verizon would benefit.

The relevant economics here are not limited to the possibility that post-merger AT&T would successfully exclude Verizon.  Think about it: both Verizon and the post-merger firm would benefit from the exclusionary efforts and reduced competition.  However, Verizon would stand to gain even more!  After all, it isn’t paying the $39 billion purchase price for the acquisition (or any of the other costs of implementing an expensive exclusion campaign).  Thus, an announcement to block the would-be exclusionary merger — the one that would allow Verizon to outsource the exclusion of its rivals to AT&T on the cheap — wouldn’t happen.  Verizon stock should fall relative to the market in response to this lost opportunity.  The unilateral and coordinated effects theories in the DOJ complaint are at significant tension with the stock market reactions of firms like Sprint (and its affiliated venture, Clearwire).  The exclusion theory predicts a large decrease in stock price for Verizon with the announcement.   None of these comfortably fit the facts.  Verizon more or less tracks the S&P with a slight drop.  What about the smaller carriers?  Take a look at the chart.  MetroPCS barely moved relative to the market (in fact, may have increased relative to the market over the relevant time period); Leap is down a bit more than the market.   Here, with the smaller carriers there is not a lot of movement in any direction.  But, contra NB’s comment (“Verizon, a larger and far more significant competitor, had its stock drop sharply in that same period you show Sprint “surging”. MetroPCS’s stock also dropped.”), Verizon’s small fall relative to the market is nowhere near the magnitude of the positive effect on Sprint and Clearwire.

But what about competition?  Isn’t it true that if the merger was procompetitive a challenge announcement would likely mean less competition for Verizon and also predict an increase in stock price?  AAI’s comment tries to have this both ways.  If Verizon’s price stays still, its because it has nothing to fear from exclusion (contra the economics above); if it goes down, the DOJ announcement has decreased the likelihood of those coordinated effects Sprint and AAI argued were so likely (but then there is Sprint’s big jump); and if Verizon prices increase then it just means that we weren’t right in the first instance than they were safe from exclusion.  One is reminded of Tom Smith and his incredible bread machine.   But this leads to an interesting point.  Brunell and AAI (and perhaps other proponents of the DOJ challenge), as pointed out in the comments, appear to agree with me that stock market reactions are probative evidence of competitive effects.  Perhaps they believe that the exclusionary theory is a better explanation of the facts — I obviously don’t think so.  But we are where we are.  That theory is not alleged.  Now that we’ve observed the quite significant stock market reaction of Sprint to the challenge announcement.  Do we at least agree those facts are in tension with the coordinated effects theory made so prominent in the DOJ complaint???

Couldn’t There Be Other Important Factors Explaining Stock Price Movements Unrelated to the Competitive Implications of the DOJ’s Challenge?

To write the question is to answer it.  You bet there could be.  And indeed, I wrote in the first post that while the fairly dramatic stock price reactions of Sprint and Clearwire were probative, the post was not a full-blown event study that would account for those events, formulate a market model, and test for the abnormal returns surrounding the announcement controlling for other important events.  Further, not all competitors are created equal.  Under the efficiency story, the distribution of benefits will accrue proportionately to the rivals who were most likely to face increased competition post-merger (and now are more likely not to).  I certainly agree with Rick Brunell’s summary comment that the stock price evidence is somewhat “mixed.”  There are small and relatively ambiguous effects — once one includes the market performance — on the stock prices of Metro and Verizon.  Leap is more clearly down, even if by a small amount relative to the market.   There may well be a variety of factors unrelated to the announcement confounding effects here.  This is the reason we do real event studies in practice and why I do not believe the simple collection of evidence here warrants sweeping conclusions about the merits of the merger.

However, the DOJ complaint tells us that the important competitive players in the market — the “Big Four” — are AT&T, T-Mobile, Sprint, and Verizon.  Focusing upon the non-merging big 4, we see Sprint’s price going up dramatically and Verizon’s staying put.  The former is simply more consistent with procompetitive theories than the coordinated effects and unilateral effects theories alleged in the DOJ complaint.  One might expect an announcement to block a procompetitive merger to have a greater positive impact on Verizon stock.  But, as many have observed in the press, the impact of the merger upon Verizon is complicated by a number of factors, not the least of which is that the challenge announcement increases the likelihood that the DOJ is committed to challenging any future attempts to merger by Verizon.  Unless spectrum capacity is increased dramatically (see this excellent Adam Thierer post on this score) in the very near future it is difficult to see how the reduced ability to exercise that significant and valuable option would not also impact Verizon.  Thus, while not a slam dunk by any means, the procompetitive theory of the merger does a pretty decent job on the Big Four.   It certainly beats the coordination theory trumpeted in the Complaint.  As for the attempt of AAI and Sprint to salvage the DOJ complaint with the exclusionary theory — perhaps it is not too late to amend, but it isn’t there now and I’d warn the DOJ against including it.  With respect to the DOJ’s Big Four, the exclusionary theory is not only new and relatively controversial in the Guidelines, but also makes a strong prediction concerning a Verizon stock price increase that is inconsistent with the data.

There will certainly be more data as we move along.  And it should interesting to watch how things unfold both in the market and between the DOJ and FCC as well.  For now, however, color me unconvinced by the heavy reliance upon the structural, “Big 4 collusion” story leading the Complaint and the attempts to save it with exclusionary theories.

Basic economic theory underlies the conventional antitrust wisdom that if a merger makes the merging party a more effective competitorby lowering its costs, rivals facing this more effective competitor post-merger are made worse off, but consumers benefit.  On the other hand, if a merger is likely to result in collusion or a unilateral price increase, the rival firm is made better off while consumers suffer.  In the latter case — the one the DOJ complaint asserts we are experiencing with respect to the proposed AT&T merger — marketwide coordination or reduction of competition resulting in higher prices makes the non-merging rival better off.

Basic economic theory thus generates a set of clear testable implications for the DOJ’s theory of the transaction:

  • (1) events that the merger more likely should have a negative impact upon non-merging rivals’ stock prices when the merger is procompetitive (reflecting the likelihood the firm will face a more efficient, lower-cost rival in the future);
  • (2) events that make a merger less likely should have a positive impact upon non-merging rivals’ stock prices when the merger is procompetitive (reflecting the reduced likelihood that the merger will face the more efficient competitor in the future)
  • (3) by similar economic logic, events that make an anticompetitive merger more likely to occur should result in increase non-merging rivals’ stock prices (who will benefit from higher market prices) while events that make an anticompetitive merger less likely should decrease non-merging rivals’ stock prices.

The DOJ complaint clearly stakes out its position that the merger will be anticompetitive, and result in higher market prices.  Paragraph 36 of the DOJ’s complaint focuses upon potential post-merger coordination:

The substantial increase in concentration that would result from this merger, and the reduction in the number of nationwide providers from four to three, likely will lead to lessened competition due to an enhanced risk of anticompetitive coordination. … Any anti competitive coordination at a national level would result in higher nationwide prices (or other nationwide harm) by the remaining national providers, Verizon, Sprint, and the merged entity. Such harm would affect consumers all across the nation, including those in rural areas with limited T-Mobile presence.

Paragraph 37 of the DOJ complaint turns to unilateral effects:

The proposed merger likely would lessen competition through elimination of head-to-head competition between AT&T and T-Mobile. … The proposed merger would, therefore, likely eliminate important competition between AT&T and T-Mobile.

If the DOJ’s allegations are correct, one would expect the market price for prominent non-merging rivals such as Sprint to fall upon today’s announcement that the DOJ will challenge the merger.   This is because the announcement decreases the likelihood that an anticompetitive merger will occur, and thus deprives the opportunity for non-merging rivals to enjoy the increased market prices and margins that would follow from post-merger collusion or unilateral price increases.

The NY Times Dealbook headline suggests otherwise: “Sprint Shares Surge on AT&T Setback.”  Geoff highlighted several of the DOJ’s claims in the report.  As the case unfolds, I think an important question to ask is how many of those allegations are consistent with the following data showing the market reactions of Sprint and Clearwire stock prices today.   I’ve included Clearwire both because Sprint owns a majority share in it and because of its recent announcement of plans to enter the 4G LTE space.

I’ve not run a full-blown event study here, obviously.   But the positive jump for Sprint (Blue Line) & Clearwire (Green Line) today in response to the announcement is hard to miss.  How many of the statements in the DOJ complaint, press release and analysis are consistent with this market reaction?    If the post-merger market would be less competitive than the status quo, as the DOJ complaint hypothesizes, why would the market reward Sprint and Clearwire for an increased likelihood of facing greater competition in the future?  The simplest alternative hypothesis is that the merger is likely procompetitive and rivals are enjoying a premium for the increased likelihood that they will avoid more intense competition in the future.  Is there a reason here to reject that simple hypothesis?   Will the market reaction induce the DOJ to revisit its priors?

As Josh noted, the DOJ filed a complaint today to block the merger.  I’m sure we’ll have much, much more to say on the topic, but here are a few things that jump out at me from perusing the complaint:

  • The DOJ distinguishes between the business (“Enterprise”) market and the consumer market.  This is actually a good play on their part, on the one hand, because it is more sensible to claim a national market for business customers who may be purchasing plans for widely-geographically-dispersed employees.  I would question how common this actually is, however, given that, I’m sure, most businesses that buy group cell plans are not IBM but are instead pretty small and pretty local, but still, it’s a good ploy.
  • But it has one significant problem:  The DOJ also seems to be stressing a coordinated effects story, making T-Mobile out to be a disruptive maverick disciplining the bigger carriers.  But–and this is, of course an empirical matter I will have to look in to–I highly doubt that T-Mobile plays anything like this role in the Enterprise market, at least for those enterprises that fit the DOJ’s overly-broad description.  In fact, the DOJ admits as much in para. 43 of its Complaint.  Of course, the DOJ claims this was all about to change, but that’s not a very convincing story coupled with the fact that DT, T-Mobile’s parent, was reducing its investment in the company anyway.  The reality is that Enterprise was not a key part of T-Mobile’s business model–if it occupied any cognizable part of it at all– and it can hardly be considered a maverick in a market in which it doesn’t actually operate.
  • On coordinated effects, I think the claim that T-Mobile is a maverick is pretty easily refuted, and not only in the Enterprise realm.  As Josh has pointed out in his Congressional testimony, a maverick is a term of art in antitrust, and it’s just not enough that a firm may be offering products at a lower price–there is nothing “maverick-y” about a firm that offers a different, less valuable product at a lower price.  I have seen no evidence to suggest that T-Mobile offered the kind of pricing constraint on AT&T that would be required to make it out to be a maverick.
  • Meanwhile, I know this is just a complaint and even post-Twombly pleading standards are lower than standards of proof, but the DOJ does seem t make a lot out of its HHI numbers.  In part this is a function of its adoption of a national relevant geographic market.  But (as noted above even for most Enterprise customers) this is just absurd.  As the FCC itself has noted, consumers buy cell service where they “live, work and travel.”  For most everyone, this is local.
  • Meanwhile, even on a national level, the blithe dismissal of a whole range of competitors is untenable.  MetroPCS, Cell South and many other companies have broad regional coverage (MetroPCS even has next-gen LTE service in something like 17 cities) and roaming agreements with each other and with the larger carriers that give them national coverage.  Why they should be excluded from consideration is baffling.  Moreover, Dish has just announced plans to build a national 4G network (take that, DOJ claim that entry is just impossible here!).  And perhaps most important the real competition here is not for mobile telephone service.  The merger is about broadband.  Mobile is one way of getting broadband.  So is cable and DSL and WiMax, etc.  That market includes such insignificant competitors as Time Warner, Comcast and Cox.  Calling this a 4 to 3 merger strains credulity, particularly under the new merger guidelines.
  • Moreover, the DOJ already said as much!  In its letter to the FCC on the FCC’s National Broadband Plan the DOJ says:

Ultimately what matters for any given consumer is the set of broadband offerings available to that consumer, including their technical characteristics and the commercial terms and conditions on which they are offered.  Competitive conditions vary considerably for consumers in different geographic locales.

  • The DOJ also said this, in the same letter:

[W]ith differentiated products subject to large economies of scale (relative to the size of the market), the Department does not expect to see a large number of suppliers. . . . [Rather, the DOJ cautions the FCC agains] striving for broadband markets that look like textbook markets of perfect competition, with many price-taking firms.  That market structure is unsuitable for the provision of broadband services.

Quite the different tune, now that it’s the DOJ’s turn to spring into action rather than simply admonish the antitrust activities of a sister agency!

I’m sure there is lots more, but I must say I’m really surprised and disappointed by this filing.  Effective, efficient provision of mobile broadband service is a complicated business.  It is severely hampered by constraints of the government’s own doing — both in terms of the government’s failure to make available spectrum to enable companies to build out large-scale broadband networks, and in local governments’ continued intransigence in permitting new cell towers and even co-location of cell sites on existing towers that would relieve some of the infuriating congestion we now experience.

This decision by the DOJ is an ill-conceived assault on innovation and progress in what may be the one shining segment of our bedraggled economy.

More on this later.  For now, here is the complaint and the press release:

WASHINGTON – The Department of Justice today filed a civil antitrust lawsuit to block AT&T Inc.’s proposed acquisition of T-Mobile USA Inc.   The department said that the proposed $39 billion transaction would substantially lessen competition for mobile wireless telecommunications services across the United States, resulting in higher prices, poorer quality services, fewer choices and fewer innovative products for the millions of American consumers who rely on mobile wireless services in their everyday lives.

The department’s lawsuit, filed in U.S. District Court for the District of Columbia, seeks to prevent AT&T from acquiring T-Mobile from Deutsche Telekom AG.

“The combination of AT&T and T-Mobile would result in tens of millions of consumers all across the United States facing higher prices, fewer choices and lower quality products for mobile wireless services,” said Deputy Attorney General James M. Cole.   “Consumers across the country, including those in rural areas and those with lower incomes, benefit from competition among the nation’s wireless carriers, particularly the four remaining national carriers.   This lawsuit seeks to ensure that everyone can continue to receive the benefits of that competition.”

“T-Mobile has been an important source of competition among the national carriers, including through innovation and quality enhancements such as the roll-out of the first nationwide high-speed data network,” said Sharis A. Pozen, Acting Assistant Attorney General in charge of the Department of Justice’s Antitrust Division.   “Unless this merger is blocked, competition and innovation will be reduced, and consumers will suffer.”

Mobile wireless telecommunications services play a critical role in the way Americans live and work, with more than 300 million feature phones, smart phones, data cards, tablets and other mobile wireless devices in service today.   Four nationwide providers of these services – AT&T, T-Mobile, Sprint and Verizon – account for more than 90 percent of mobile wireless connections.   The proposed acquisition would combine two of those four, eliminating from the market T-Mobile, a firm that historically has been a value provider, offering particularly aggressive pricing.

According to the complaint, AT&T and T-Mobile compete head to head nationwide, including in 97 of the nation’s largest 100 cellular marketing areas.   They also compete nationwide to attract business and government customers.  AT&T’s acquisition of T-Mobile would eliminate a company that has been a disruptive force through low pricing and innovation by competing aggressively in the mobile wireless telecommunications services marketplace.

The complaint cites a T-Mobile document in which T-Mobile explains that it has been responsible for a number of significant “firsts” in the U.S. mobile wireless industry, including the first handset using the Android operating system, Blackberry wireless email, the Sidekick, national Wi-Fi “hotspot” access, and a variety of unlimited service plans.   T-Mobile was also the first company to roll out a nationwide high-speed data network based on advanced HSPA+ (High-Speed Packet Access) technology.  The complaint states that by January 2011, an AT&T employee was observing that “[T-Mobile] was first to have HSPA+ devices in their portfolio…we added them in reaction to potential loss of speed claims.”

The complaint details other ways that AT&T felt competitive pressure from T-Mobile.   The complaint quotes T-Mobile documents describing the company’s important role in the market:

  • T-Mobile sees itself as “the No. 1 value challenger of the established big guys in the market and as well positioned in a consolidated 4-player national market”; and
  • T-Mobile’s strategy is to “attack incumbents and find innovative ways to overcome scale disadvantages.   [T-Mobile] will be faster, more agile, and scrappy, with diligence on decisions and costs both big and small.   Our approach to market will not be conventional, and we will push to the boundaries where possible. . . . [T-Mobile] will champion the customer and break down industry barriers with innovations. . . .”

The complaint also states that regional providers face significant competitive limitations, largely stemming from their lack of national networks, and are therefore limited in their ability to compete with the four national carriers.   And, the department said that any potential entry from a new mobile wireless telecommunications services provider would be unable to offset the transaction’s anticompetitive effects because it would be difficult, time-consuming and expensive, requiring spectrum licenses and the construction of a network.

The department said that it gave serious consideration to the efficiencies that the merging parties claim would result from the transaction.   The department concluded AT&T had not demonstrated that the proposed transaction promised any efficiencies that would be sufficient to outweigh the transaction’s substantial adverse impact on competition and consumers.   Moreover, the department said that AT&T could obtain substantially the same network enhancements that it claims will come from the transaction if it simply invested in its own network without eliminating a close competitor.

AT&T is a Delaware corporation headquartered in Dallas.   AT&T is one of the world’s largest providers of communications services, and is the second largest mobile wireless telecommunications services provider in the United States as measured by subscribers.   It serves approximately 98.6 million connections to wireless devices.   In 2010, AT&T earned mobile wireless telecommunications services revenues of $53.5 billion, and its total revenues were in excess of $124 billion.

T-Mobile, is a Delaware corporation headquartered in Bellevue, Wash.   T-Mobile is the fourth-largest mobile wireless telecommunications services provider in the United States as measured by subscribers, and serves approximately 33.6 million wireless connections to wireless devices.   In 2010, T-Mobile earned mobile wireless telecommunications services revenues of $18.7 billion.   T-Mobile is a wholly-owned subsidiary of Deutsche Telekom AG.

Deutsche Telekom AG is a German corporation headquartered in Bonn, Germany.   It is the largest telecommunications operator in Europe with wireline and wireless interests in numerous countries and total annual revenues in 2010 of €62.4 billion.