Archives For antitrust

A recent NBER working paper by Gutiérrez & Philippon attempts to link differences in U.S. and EU antitrust enforcement and product market regulation to differences in market concentration and corporate profits. The paper’s abstract begins with a bold assertion:

Until the 1990’s, US markets were more competitive than European markets. Today, European markets have lower concentration, lower excess profits, and lower regulatory barriers to entry.

The authors are not clear what they mean by lower, however its seems they mean lower today relative to the 1990s.

This blog post focuses on the first claim: “Today, European markets have lower concentration …”

At the risk of being pedantic, Gutiérrez & Philippon’s measures of market concentration for which both U.S. and EU data are reported cover the period from 1999 to 2012. Thus, “the 1990s” refers to 1999, and “today” refers to 2012, or six years ago.

The table below is based on Figure 26 in Gutiérrez & Philippon. In 2012, there appears to be no significant difference in market concentration between the U.S. and the EU, using either the 8-firm concentration ratio or HHI. Based on this information, it cannot be concluded broadly that EU sectors have lower concentration than the U.S.

2012U.S.EU
CR826% (+5%)27% (-7%)
HHI640 (+150)600 (-190)

Gutiérrez & Philippon focus on the change in market concentration to draw their conclusions. However, the levels of market concentration measures are strikingly low. In all but one of the industries (telecommunications) in Figure 27 of their paper, the 8-firm concentration ratios for the U.S. and the EU are below 40 percent. Similarly, the HHI measures reported in the paper are at levels that most observers would presume to be competitive. In addition, in 7 of the 12 sectors surveyed, the U.S. 8-firm concentration ratio is lower than in the EU.

The numbers in parentheses in the table above show the change in the measures of concentration since 1999. The changes suggests that U.S. markets have become more concentrated and EU markets have become less concentrated. But, how significant are the changes in concentration?

A simple regression of the relationship between CR8 and a time trend finds that in the EU, CR8 has decreased an average of 0.5 percentage point a year, while the U.S. CR8 increased by less than 0.4 percentage point a year from 1999 to 2012. Tucked in an appendix to Gutiérrez & Philippon, Figure 30 shows that CR8 in the U.S. had decreased by about 2.5 percentage points from 2012 to 2014.

A closer examination of Gutiérrez & Philippon’s 8-firm concentration ratio for the EU shows that much of the decline in EU market concentration occurred over the 1999-2002 period. After that, the change in CR8 for the EU is not statistically significantly different from zero.

A regression of the relationship between HHI and a time trend finds that in the EU, HHI has decreased an average of 12.5 points a year, while the U.S. HHI increased by less than 16.4 points a year from 1999 to 2012.

As with CR8, a closer examination of Gutiérrez & Philippon’s HHI for the EU shows that much of the decline in EU market concentration occurred over the 1999-2002 period. After that, the change in HHI for the EU is not statistically significantly different from zero.

Readers should be cautious in relying on Gutiérrez & Philippon’s data to conclude that the U.S. is “drifting” toward greater market concentration while the EU is “drifting” toward lower market concentration. Indeed, the limited data presented in the paper point toward a convergence in market concentration between the two regions.

 

 

REGISTER HERE for the much-anticipated 2018 ICLE/Leeds competition law conference, this Friday and Saturday in Washington, DC.

NB: We’ve been approved for 8 credit hours of VA MCLE

The conference agenda is below. We hope to see you there!

ICLE/Leeds 2018 Competition Law Conference: Have We Exceeded the Limits of Antirust?
Agenda Day 1
Agenda Day 2

The dust has barely settled on the European Commission’s record-breaking €4.3 Billion Google Android fine, but already the European Commission is gearing up for its next high-profile case. Last month, Margrethe Vestager dropped a competition bombshell: the European watchdog is looking into the behavior of Amazon. Should the Commission decide to move further with the investigation, Amazon will likely join other US tech firms such as Microsoft, Intel, Qualcomm and, of course, Google, who have all been on the receiving end of European competition enforcement.

The Commission’s move – though informal at this stage – is not surprising. Over the last couples of years, Amazon has become one of the world’s largest and most controversial companies. The animosity against it is exemplified in a paper by Lina Khan, which uses the example of Amazon to highlight the numerous ills that allegedly plague modern antitrust law. The paper is widely regarded as the starting point of the so-called “hipster antitrust” movement.

But is there anything particularly noxious about Amazon’s behavior, or is it just the latest victim of a European crusade against American tech companies?

Where things stand so far

As is often the case in such matters, publicly available information regarding the Commission’s “probe” (the European watchdog is yet to open a formal investigation) is particularly thin. What we know so far comes from a number of declarations made by Margrethe Vestager (here and here) and a leaked questionnaire that was sent to Amazon’s rivals. Going on this limited information, it appears that the Commission is preoccupied about the manner in which Amazon uses the data that it gathers from its online merchants. In Vestager’s own words:

The question here is about the data, because if you as Amazon get the data from the smaller merchants that you host […] do you then also use this data to do your own calculations? What is the new big thing, what is it that people want, what kind of offers do they like to receive, what makes them buy things.

These concerns relate to the fact that Amazon acts as both a retailer in its own right and a platform for other retailers, which allegedly constitutes a “conflict of interest”. As a retailer, Amazon sells a wide range of goods directly to consumers. Meanwhile, its marketplace platform enables third party merchants to offer their goods in exchange for referral fees when items are sold (these fees typically range from 8% to 15%, depending on the type of good). Merchants can either execute theses orders themselves or opt for fulfilment by Amazon, in which case it handles storage and shipping. In addition to its role as a platform operator,  As of 2017, more than 50% of units sold on the Amazon marketplace where fulfilled by third-party sellers, although Amazon derived three times more revenue from its own sales than from those of third parties (note that Amazon Web Services is still by far its largest source of profits).

Mirroring concerns raised by Khan, the Commission worries that Amazon uses the data it gathers from third party retailers on its platform to outcompete them. More specifically, the concern is that Amazon might use this data to identify and enter the most profitable segments of its online platform, excluding other retailers in the process (or deterring them from joining the platform in the first place). Although there is some empirical evidence to support such claims, it is far from clear that this is in any way harmful to competition or consumers. Indeed, the authors of the paper that found evidence in support of the claims note:

Amazon is less likely to enter product spaces that require greater seller efforts to grow, suggesting that complementors’ platform‐specific investments influence platform owners’ entry decisions. While Amazon’s entry discourages affected third‐party sellers from subsequently pursuing growth on the platform, it increases product demand and reduces shipping costs for consumers.

Thou shalt not punish efficient behavior

The question is whether Amazon using data on rivals’ sales to outcompete them should raise competition concerns? After all, this is a standard practice in the brick-and-mortar industry, where most large retailers use house brands to go after successful, high-margin third-party brands. Some, such as Costco, even eliminate some third-party products from their shelves once they have a successful own-brand product. Granted, as Khan observes, Amazon may be doing this more effectively because it has access to vastly superior data. But does that somehow make Amazon’s practice harmful to social social welfare? Absent further evidence, I believe not.

The basic problem is the following. Assume that Amazon does indeed have a monopoly in the market for online retail platforms (or, in other words, that the Amazon marketplace is a bottleneck for online retailers). Why would it move into direct retail competition against its third party sellers if it is less efficient than them? Amazon would either have to sell at a loss or hope that consumers saw something in its products that warrants a higher price. A more profitable alternative would be to stay put and increase its fees. It could thereby capture all the profits of its independent retailers. Not that Amazon would necessarily want to do so, as this could potentially deter other retailers from joining its platform. The upshot is that Amazon has little incentive to exclude more efficient retailers.

Astute readers, will have observed that this is simply a restatement of the Chicago school’s Single Monopoly Theory, which broadly holds that, absent efficiencies, a monopolist in one line of commerce cannot increase its profits by entering the competitive market for a complementary good. Although the theory has drawn some criticism, it remains a crucial starting point with which enforcers must contend before they conclude that a monopolist’s behavior is anticompetitive.

So why does Amazon move into retail segments that are already occupied by its rivals? The most likely explanation is simply that it can source and sell these goods more efficiently than them, and that these efficiencies cannot be achieved through contracts with the said rivals. Once we accept the possibility that Amazon is simply more efficient, the picture changes dramatically. The sooner it overthrows less efficient rivals the better. Doing so creates valuable surplus that can flow to either itself or its consumers. This is true regardless of whether Amazon has a marketplace monopoly or not. Even if it does have a monopoly (which is doubtful given competition from the likes of Zalando, AliExpress, Google Search and eBay), at least some of these efficiencies will likely be passed on to consumers. Such a scenario is also perfectly compatible with increased profits for Amazon. The real test is whether output increases when Amazon enters segments that were previously occupied by rivals.

Of course, the usual critiques voiced against the “Single Monopoly Profit” theory apply here. It is plausible that, by excluding its retail rivals, Amazon is simply seeking to protect its alleged platform monopoly. However, the anecdotal evidence that has been raised thus far does not support this conclusion.

But what about innovation?

Possibly sensing the weakness of the “inefficiency” line of arguments against Amazon, critics will likely put put forward a second theory of harm. The claim is that by capturing the rents of potentially innovative retailers, Amazon may hamper their incentives to innovate and will therefore harm consumer choice. Margrethe Vestager intimated this much in a Bloomberg interview. Though this framing might seem tempting at first, it falters under close inspection.

The effects of Amazon’s behavior could first be framed in terms of appropriability — that is: the extent to which an innovator captures the social benefits of its innovation. The higher its share of those benefits, the larger its incentives to innovate. By forcing out its retail rivals, it is plausible that Amazon is reducing the returns which they earn on their potential innovations.

Another potential framing is that of holdup theory. Applied to this case, one could argue that rival retailers made sunk investments (potentially innovation-related) to join the Amazon platform, and that Amazon is behaving opportunistically by capturing their surplus. With hindsight, merchants might thus have opted to stay out of the Amazon marketplace.

Unfortunately for Amazon’s critics, there are numerous objections to these two framings. For a start, the business implication of both the appropriability and holdup theories is that firms can and should take sensible steps to protect their investments. The recent empirical paper mentioned above stresses that these actions are critical for the sake of Amazon’s retailers.

Potential solutions abound. Retailers could in principle enter into long-term exclusivity agreements with their suppliers (which would keep Amazon out of the market if there are no alternative suppliers). Alternatively, they could sign non-compete clauses with Amazon, exchange assets, or even outright merge. In fact, there is at least some evidence of this last possibility occurring, as Amazon has acquired some of its online retailers. The fact that some retailers have not opted for these safety measures (or other methods of appropriability) suggests that they either don’t perceive a threat or are unwilling to make the necessary investments. It might also be due to bad business judgement on their part).

Which brings us to the big question. Should competition law step into the breach in those cases where firms have refused to take even basic steps to protect their investments? The answer is probably no.

For a start, condoning this poor judgement encourages firms to rely on competition enforcement rather than private solutions  to solve appropriability and holdup issues. This is best understood with reference to moral hazard. By insuring firms against the capture of their profits, competition authorities disincentivize all forms of risk-mitigation on the part of those firms. This will ultimately raise enforcement costs (as firms become increasingly reliant on the antitrust system for protection).

It is also informationally much more burdensome, as authorities will systematically have to rule on the appropriate share of profits between parties to a case.

Finally, overprotecting these investments would go against the philosophy of the European Court of Justice’s Huawei ruling.  Albeit in the specific context of injunctions relating to SEPs, the Court conditioned competition liability on firms showing that they have taken a series of reasonable steps to sort out their disputes privately.

Concluding remarks

This is not to say that competition intervention should categorically be proscribed. But rather that the capture of a retailer’s investments by Amazon is an insufficient condition for enforcement actions. Instead, the Commission should question whether Amazon’s actions are truly detrimental to consumer welfare and output. Absent strong evidence that an excluded retailer offered superior products, or that Amazon’s move was merely a strategic play to prevent entry, competition authorities should let the chips fall where they may.

As things stand, there is simply no evidence to indicate that anything out of the ordinary is occurring on the Amazon marketplace. By shining the spotlight on Amazon, the Commission is putting itself under tremendous political pressure to move forward with a formal investigation (all the more so, given the looming European Parliament elections). This is regrettable, as there are surely more pressing matters for the European regulator to deal with. The Commission would thus do well to recall the words of Shakespeare in the Merchant of Venice: “All that glisters is not gold”. Applied in competition circles this translates to “all that is big is not inefficient”.

Last week, the DOJ cleared the merger of CVS Health and Aetna (conditional on Aetna’s divesting its Medicare Part D business), a merger that, as I previously noted at a House Judiciary hearing, “presents a creative effort by two of the most well-informed and successful industry participants to try something new to reform a troubled system.” (My full testimony is available here).

Of course it’s always possible that the experiment will fail — that the merger won’t “revolutioniz[e] the consumer health care experience” in the way that CVS and Aetna are hoping. But it’s a low (antitrust) risk effort to address some of the challenges confronting the healthcare industry — and apparently the DOJ agrees.

I discuss the weakness of the antitrust arguments against the merger at length in my testimony. What I particularly want to draw attention to here is how this merger — like many vertical mergers — represents business model innovation by incumbents.

The CVS/Aetna merger is just one part of a growing private-sector movement in the healthcare industry to adopt new (mostly) vertical arrangements that seek to move beyond some of the structural inefficiencies that have plagued healthcare in the United States since World War II. Indeed, ambitious and interesting as it is, the merger arises amidst a veritable wave of innovative, vertical healthcare mergers and other efforts to integrate the healthcare services supply chain in novel ways.

These sorts of efforts (and the current DOJ’s apparent support for them) should be applauded and encouraged. I need not rehash the economic literature on vertical restraints here (see, e.g., Lafontaine & Slade, etc.). But especially where government interventions have already impaired the efficient workings of a market (as they surely have, in spades, in healthcare), it is important not to compound the error by trying to micromanage private efforts to restructure around those constraints.   

Current trends in private-sector-driven healthcare reform

In the past, the most significant healthcare industry mergers have largely been horizontal (i.e., between two insurance providers, or two hospitals) or “traditional” business model mergers for the industry (i.e., vertical mergers aimed at building out managed care organizations). This pattern suggests a sort of fealty to the status quo, with insurers interested primarily in expanding their insurance business or providers interested in expanding their capacity to provide medical services.

Today’s health industry mergers and ventures seem more frequently to be different in character, and they portend an industry-wide experiment in the provision of vertically integrated healthcare that we should enthusiastically welcome.

Drug pricing and distribution innovations

To begin with, the CVS/Aetna deal, along with the also recently approved Cigna-Express Scripts deal, solidifies the vertical integration of pharmacy benefit managers (PBMs) with insurers.

But a number of other recent arrangements and business models center around relationships among drug manufacturers, pharmacies, and PBMs, and these tend to minimize the role of insurers. While not a “vertical” arrangement, per se, Walmart’s generic drug program, for example, offers $4 prescriptions to customers regardless of insurance (the typical generic drug copay for patients covered by employer-provided health insurance is $11), and Walmart does not seek or receive reimbursement from health plans for these drugs. It’s been offering this program since 2006, but in 2016 it entered into a joint buying arrangement with McKesson, a pharmaceutical wholesaler (itself vertically integrated with Rexall pharmacies), to negotiate lower prices. The idea, presumably, is that Walmart will entice consumers to its stores with the lure of low-priced generic prescriptions in the hope that they will buy other items while they’re there. That prospect presumably makes it worthwhile to route around insurers and PBMs, and their reimbursements.

Meanwhile, both Express Scripts and CVS Health (two of the country’s largest PBMs) have made moves toward direct-to-consumer sales themselves, establishing pricing for a small number of drugs independently of health plans and often in partnership with drug makers directly.   

Also apparently focused on disrupting traditional drug distribution arrangements, Amazon has recently purchased online pharmacy PillPack (out from under Walmart, as it happens), and with it received pharmacy licenses in 49 states. The move introduces a significant new integrated distributor/retailer, and puts competitive pressure on other retailers and distributors and potentially insurers and PBMs, as well.

Whatever its role in driving the CVS/Aetna merger (and I believe it is smaller than many reports like to suggest), Amazon’s moves in this area demonstrate the fluid nature of the market, and the opportunities for a wide range of firms to create efficiencies in the market and to lower prices.

At the same time, the differences between Amazon and CVS/Aetna highlight the scope of product and service differentiation that should contribute to the ongoing competitiveness of these markets following mergers like this one.

While Amazon inarguably excels at logistics and the routinizing of “back office” functions, it seems unlikely for the foreseeable future to be able to offer (or to be interested in offering) a patient interface that can rival the service offerings of a brick-and-mortar CVS pharmacy combined with an outpatient clinic and its staff and bolstered by the capabilities of an insurer like Aetna. To be sure, online sales and fulfillment may put price pressure on important, largely mechanical functions, but, like much technology, it is first and foremost a complement to services offered by humans, rather than a substitute. (In this regard it is worth noting that McKesson has long been offering Amazon-like logistics support for both online and brick-and-mortar pharmacies. “‘To some extent, we were Amazon before it was cool to be Amazon,’ McKesson CEO John Hammergren said” on a recent earnings call).

Treatment innovations

Other efforts focus on integrating insurance and treatment functions or on bringing together other, disparate pieces of the healthcare industry in interesting ways — all seemingly aimed at finding innovative, private solutions to solve some of the costly complexities that plague the healthcare market.

Walmart, for example, announced a deal with Quest Diagnostics last year to experiment with offering diagnostic testing services and potentially other basic healthcare services inside of some Walmart stores. While such an arrangement may simply be a means of making doctor-prescribed diagnostic tests more convenient, it may also suggest an effort to expand the availability of direct-to-consumer (patient-initiated) testing (currently offered by Quest in Missouri and Colorado) in states that allow it. A partnership with Walmart to market and oversee such services has the potential to dramatically expand their use.

Capping off (for now) a buying frenzy in recent years that included the purchase of PBM, CatamaranRx, UnitedHealth is seeking approval from the FTC for the proposed merger of its Optum unit with the DaVita Medical Group — a move that would significantly expand UnitedHealth’s ability to offer medical services (including urgent care, outpatient surgeries, and health clinic services), give it a significant group of doctors’ clinics throughout the U.S., and turn UnitedHealth into the largest employer of doctors in the country. But of course this isn’t a traditional managed care merger — it represents a significant bet on the decentralized, ambulatory care model that has been slowly replacing significant parts of the traditional, hospital-centric care model for some time now.

And, perhaps most interestingly, some recent moves are bringing together drug manufacturers and diagnostic and care providers in innovative ways. Swiss pharmaceutical company, Roche, announced recently that “it would buy the rest of U.S. cancer data company Flatiron Health for $1.9 billion to speed development of cancer medicines and support its efforts to price them based on how well they work.” Not only is the deal intended to improve Roche’s drug development process by integrating patient data, it is also aimed at accommodating efforts to shift the pricing of drugs, like the pricing of medical services generally, toward an outcome-based model.

Similarly interesting, and in a related vein, early this year a group of hospital systems including Intermountain Health, Ascension, and Trinity Health announced plans to begin manufacturing generic prescription drugs. This development further reflects the perceived benefits of vertical integration in healthcare markets, and the move toward creative solutions to the unique complexity of coordinating the many interrelated layers of healthcare provision. In this case,

[t]he nascent venture proposes a private solution to ensure contestability in the generic drug market and consequently overcome the failures of contracting [in the supply and distribution of generics]…. The nascent venture, however it solves these challenges and resolves other choices, will have important implications for the prices and availability of generic drugs in the US.

More enforcement decisions like CVS/Aetna and Bayer/Monsanto; fewer like AT&T/Time Warner

In the face of all this disruption, it’s difficult to credit anticompetitive fears like those expressed by the AMA in opposing the CVS-Aetna merger and a recent CEA report on pharmaceutical pricing, both of which are premised on the assumption that drug distribution is unavoidably dominated by a few PBMs in a well-defined, highly concentrated market. Creative arrangements like the CVS-Aetna merger and the initiatives described above (among a host of others) indicate an ease of entry, the fluidity of traditional markets, and a degree of business model innovation that suggest a great deal more competitiveness than static PBM market numbers would suggest.

This kind of incumbent innovation through vertical restructuring is an increasingly important theme in antitrust, and efforts to tar such transactions with purported evidence of static market dominance is simply misguided.

While the current DOJ’s misguided (and, remarkably, continuing) attempt to stop the AT&T/Time Warner merger is an aberrant step in the wrong direction, the leadership at the Antitrust Division generally seems to get it. Indeed, in spite of strident calls for stepped-up enforcement in the always-controversial ag-biotech industry, the DOJ recently approved three vertical ag-biotech mergers in fairly rapid succession.

As I noted in a discussion of those ag-biotech mergers, but equally applicable here, regulatory humility should continue to carry the day when it comes to structural innovation by incumbent firms:

But it is also important to remember that innovation comes from within incumbent firms, as well, and, often, that the overall level of innovation in an industry may be increased by the presence of large firms with economies of scope and scale.

In sum, and to paraphrase Olympia Dukakis’ character in Moonstruck: “what [we] don’t know about [the relationship between innovation and market structure] is a lot.”

What we do know, however, is that superficial, concentration-based approaches to antitrust analysis will likely overweight presumed foreclosure effects and underweight innovation effects.

We shouldn’t fetishize entry, or access, or head-to-head competition over innovation, especially where consumer welfare may be significantly improved by a reduction in the former in order to get more of the latter.

On Monday, the U.S. Federal Trade Commission and Qualcomm reportedly requested a 30 day delay to a preliminary ruling in their ongoing dispute over the terms of Qualcomm’s licensing agreements–indicating that they may seek a settlement. The dispute raises important issues regarding the scope of so-called FRAND (“fair reasonable and non-discriminatory”) commitments in the context of standards setting bodies and whether these obligations extend to component level licensing in the absence of an express agreement to do so.

At issue is the FTC’s allegation that Qualcomm has been engaging in “exclusionary conduct” that harms its competitors. Underpinning this allegation is the FTC’s claim that Qualcomm’s voluntary contracts with two American standards bodies imply that Qualcomm is obliged to license on the same terms to rival chip makers. In this post, we examine the allegation and the claim upon which it rests.

The recently requested delay relates to a motion for partial summary judgment filed by the FTC on August 30, 2018–about which more below. But the dispute itself stretches back to January 17, 2017, when the FTC filed for a permanent injunction against Qualcomm Inc. for engaging in unfair methods of competition in violation of Section 5(a) of the FTC Act. FTC’s major claims against Qualcomm were as follows:

  • It has been engaging in “exclusionary conduct”  that taxes its competitors’ baseband processor sales, reduces competitors’ ability and incentives to innovate, and raises the prices to be paid by end consumers for cellphones and tablets.  
  • Qualcomm is causing considerable harm to competition and consumers through its “no license, no chips” policy; its refusal to license to its chipset-maker rivals; and its exclusive deals with Apple.
  • The above practices allow Qualcomm to abuse its dominant position in the supply of CDMA and premium LTE modem chips.
  • Given that Qualcomm has made a commitment to standard setting bodies to license these patents on FRAND terms, such behaviour qualifies as a breach of FRAND.

The complaint was filed on the eve of the new presidential administration, when only three of the five commissioners were in place. Moreover, the Commissioners were not unanimous. Commissioner Ohlhausen delivered a dissenting statement in which she argued:

[T]here is no robust economic evidence of exclusion and anticompetitive effects, either as to the complaint’s core “taxation” theory or to associated allegations like exclusive dealing. Instead the Commission speaks about a possibility that less than supports a vague standalone action under a Section 5 FTC claim.

Qualcomm filed a motion to dismiss on April 3, 2017. This was denied by the U.S. District Court for the Northern District of California. The court  found that the FTC has adequately alleged that Qualcomm’s conduct violates § 1 and § 2 of the Sherman Act and that it had entered into exclusive dealing arrangements with Apple. Thus, the court asserted, the FTC has adequately stated a claim under § 5 of the FTCA.

It is important to note that the core of the FTC’s arguments regarding Qualcomm’s abuse of dominant position rests on how it adopts the “no license, no chip” policy and thus breaches its FRAND obligations. However, it falls short of proving how the royalties charged by Qualcomm to OEMs exceeds the FRAND rates actually amounting to a breach, and qualifies as what FTC defines as a “tax” under the price squeeze theory that it puts forth.

(The Court did not go into whether there was a violation of § 5 of the FTC independent of a Sherman Act violation. Had it done so, this would have added more clarity to Section 5 claims, which are increasingly being invoked in antitrust cases even though its scope remains quite amorphous.)

On August 30, the FTC filed a partial summary judgement motion in relation to claims on the applicability of local California contract laws. This would leave antitrust issues to be decided in the subsequent hearing, which is set for January next year.

In a well-reasoned submission, the FTC asserts that Qualcomm is bound by voluntary agreements that it signed with two U.S. based standards development organisations (SDOs):

  1. The Telecommunications Industry Association (TIA) and
  2. The Alliance for Telecommunications Industry Solutions (ATIS).

These agreements extend to Qualcomm’s standard essential patents (SEPs) on CDMA, UMTS and LTE wireless technologies. Under these contracts, Qualcomm is obligated to license its SEPs to all applicants implementing these standards on FRAND terms.

The FTC asserts that this obligation should be interpreted to extend to Qualcomm’s rival modem chip manufacturers and sellers. It requests the Court to therefore grant a summary judgment since there are no disputed facts on such obligation. It submits that this should “streamline the trial by obviating the need for  extrinsic evidence regarding the meaning of Qualcomm’s commitments on the requirement to license to competitors, to ETSI, a third SDO.”

A review of a heavily redacted filing by FTC and a subsequent response by Qualcomm indicates that questions of fact and law continue to remain as regards Qualcomm’s licensing commitments and their scope. Thus, contrary to the FTC’s assertions, extrinsic evidence is still needed for resolution to some of the questions raised by the parties.

Indeed, the evidence produced by both parties points towards the need for resolution of ambiguities in the contractual agreements that Qualcomm has signed with ATIS and TIA. The scope and purpose of these licensing obligations lie at the core of the motion.

The IP licensing policies of the two SDOs provide for licensing of relevant patents to all applicants who implement these standards on FRAND terms. However, the key issues are whether components such as modem chips can be said to implement standards and whether component level licensing falls within this ambit. Yet, the resolution to these key issues, is unclear.

Qualcomm explains that commitments to ATIS and TIA do not require licenses to be made available for modem chips because modem chips do not implement or practice cellular standards and that standards do not define the operation of modem chips.

In contrast, the complaint by FTC raises the question of whether FRAND commitments extend to licensing at all levels. Different components needed for a device come together to facilitate the adoption and implementation of a standard. However, it does not logically follow that each individual component of the device separately practices or implements that standard even though it contributes to the implementation. While a single component may fully implement a standard, this need not always be the case.

These distinctions are significant from the point of interpreting the scope of the FRAND promise, which is commonly understood to extend to licensing of technologies incorporated in a standard to potential users of the standard. Understanding the meaning of a “user” becomes critical here and Qualcomm’s submission draws attention to this.

An important factor in the determination of a “user” of a particular standard is the extent to which the standard is practiced or implemented therein. Some standards development organisations (SDOs) have addressed this in their policies by clarifying that FRAND obligations extend to those “wholly compliant” or “fully conforming” to the specific standards. Clause 6.1 of the ETSI IPR Policy, clarifies that a patent holder’s obligation to make licenses available is limited to “methods” and “equipments”. It defines an equipment as “a system or device fully conforming to a standard.” And methods as “any method or operation fully conforming to a standard.”

It is noteworthy that the American National Standards Institute’s (ANSI) Executive Standards Council Appeals Panel in a decision has said that there is no agreement on the definition of the phrase “wholly compliant implementation.”  

Device level licensing is the prevailing industry wide practice by companies like Ericsson, InterDigital, Nokia and others. In November 2017, the European Commission issued guidelines on licensing of SEPs and took a balanced approach on this issue by not prescribing component level licensing in its guidelines.

The former director general of ETSI, Karl Rosenbrock, adopts a contrary view, explaining ETSI’s policy, “allows every company that requests a license to obtain one, regardless of where the prospective licensee is in the chain of production and regardless of whether the prospective licensee is active upstream or downstream.”

Dr. Bertram Huber, a legal expert who personally participated in the drafting of the IPR policy of ETSI, wrote a response to Rosenbrock, in which he explains that ETSI’s IPR policies required licensing obligations for systems “fully conforming” to the standard:

[O]nce a commitment is given to license on FRAND terms, it does not necessarily extend to chipsets and other electronic components of standards-compliant end-devices. He highlights how, in adopting its IPR Policy, ETSI intended to safeguard access to the cellular standards without changing the prevailing industry practice of manufacturers of complete end-devices concluding licenses to the standard essential patents practiced in those end-devices.

Both ATIS and TIA are organizational partners of a collaboration called 3rd Generation Partnership Project along with ETSI and four other SDOs who work on development of cellular technologies. TIA and ATIS are both accredited by ANSI. Therefore, these SDOs are likely to impact one another with the policies each one adopts. In the absence of definitive guidance on interpretation of the IPR policy and contractual terms within the institutional mechanism of ATIS and TIA, at the very least, clarity is needed on the ambit of these policies with respect to component level licensing.

The non-discrimination obligation, which as per FTC, mandates Qualcomm to license to its competitors who manufacture and sell chips, would be limited by the scope of the IPR policy and contractual agreements that bind Qualcomm and depends upon the specific SDO’s policy.  As discussed, the policies of ATIS and TIA are unclear on this.

In conclusion, FTC’s filing does not obviate the need to hear extrinsic evidence on what Qualcomm’s commitments to the ETSI mean. Given the ambiguities in the policies and agreements of ATIS and TIA on whether they include component level licensing or whether the modem chips in their entirety can be said to practice the standard, it would be incorrect to say that there is no genuine dispute of fact (and law) in this instance.

I posted this originally on my own blog, but decided to cross-post here since Thom and I have been blogging on this topic.

“The U.S. stock market is having another solid year. You wouldn’t know it by looking at the shares of companies that manage money.”

That’s the lead from Charles Stein on Bloomberg’s Markets’ page today. Stein goes on to offer three possible explanations: 1) a weary bull market, 2) a move toward more active stock-picking by individual investors, and 3) increasing pressure on fees.

So what has any of that to do with the common ownership issue? A few things.

First, it shows that large institutional investors must not be very good at harvesting the benefits of the non-competitive behavior they encourage among the firms the invest in–if you believe they actually do that in the first place. In other words, if you believe common ownership is a problem because CEOs are enriching institutional investors by softening competition, you must admit they’re doing a pretty lousy job of capturing that value.

Second, and more importantly–as well as more relevant–the pressure on fees has led money managers to emphasis low-cost passive index funds. Indeed, among the firms doing well according to the article is BlackRock, “whose iShares exchange-traded fund business tracks indexes, won $20 billion.” In an aggressive move, Fidelity has introduced a total of four zero-fee index funds as a way to draw fee-conscious investors. These index tracking funds are exactly the type of inter-industry diversified funds that negate any incentive for competition softening in any one industry.

Finally, this also illustrates the cost to the investing public of the limits on common ownership proposed by the likes of Einer Elhague, Eric Posner, and Glen Weyl. Were these types of proposals in place, investment managers could not offer diversified index funds that include more than one firm’s stock from any industry with even a moderate level of market concentration. Given competitive forces are pushing investment companies to increase the offerings of such low-cost index funds, any regulatory proposal that precludes those possibilities is sure to harm the investing public.

Just one more piece of real evidence that common ownership is not only not a problem, but that the proposed “fixes” are.

regulation-v41n3-coverCalm Down about Common Ownership” is the title of a piece Thom Lambert and I published in the Fall 2018 issue of Regulation, which just hit online. The article is a condensed version our recent paper, “The Case for Doing Nothing About Institutional Investors’ Common Ownership of Small Stakes in Competing Firms.” In short, we argue that concern about common ownership lacks a theoretically sound foundation and is built upon faulty empirical support. We also explain why proposed “fixes” would do more harm than good.

Over the past several weeks we wrote a series of blog posts here that summarize or expand upon different parts of our argument. To pull them all into one place:

On Tuesday, August 28, 2018, Truth on the Market and the International Center for Law and Economics presented a blog symposium — Is Amazon’s Appetite Bottomless? The Whole Foods Merger After One Year — that looked at the concerns surrounding the closing of the Amazon-Whole Foods merger, and how those concerns had played out over the last year.

The difficulty presented by the merger was, in some ways, its lack of difficulty: Even critics, while hearkening back to the Brandeisian fear of large firms, had little by way of legal objection to offer against the merger. Despite the acknowledged lack of an obvious legal basis for challenging the merger, most critics nevertheless expressed a somewhat inchoate and generalized concern that the merger would hasten the death of brick-and-mortar retail and imperil competition in the grocery industry. Critics further pointed to particular, related issues largely outside the scope of modern antitrust law — issues relating to the presumed effects of the merger on “localism” (i.e., small, local competitors), retail workers, startups with ancillary businesses (e.g., delivery services), data collection and use, and the like.

Steven Horwitz opened the symposium with an insightful and highly recommended post detailing the development of the grocery industry from its inception. Tracing through that history, Horwitz was optimistic that

Viewed from the long history of the evolution of the grocery store, the Amazon-Whole Foods merger made sense as the start of the next stage of that historical process. The combination of increased wealth that is driving the demand for upscale grocery stores, and the corresponding increase in the value of people’s time that is driving the demand for one-stop shopping and various forms of pick-up and delivery, makes clear the potential benefits of this merger.

Others in the symposium similarly acknowledged the potential transformation of the industry brought on by the merger, but challenged the critics’ despairing characterization of that transformation (Auer, Manne & Stout, Rinehart, Fruits, Atkinson).

At the most basic level, it was noted that, in the immediate aftermath of the merger, Whole Foods dropped prices across a number of categories as it sought to shore up its competitive position (Auer). Further, under relevant antitrust metrics — e.g., market share, ease of competitive entry, potential for exclusionary conduct — the merger was completely unobjectionable under existing doctrine (Fruits).

To critics’ claims that Amazon in general, and the merger in particular, was decimating the retail industry, several posts discussed the updated evidence suggesting that retail is not actually on the decline (although some individual retailers are certainly struggling to compete) (Auer, Manne & Stout). Moreover, and following from Horwitz’s account of the evolution of the grocery industry, it appears that the actual trajectory of the industry is not an either/or between online and offline, but instead a movement toward integrating both models into a single retail experience (Manne & Stout). Further, the post-merger flurry of business model innovation, venture capital investment, and new startup activity demonstrates that, confronted with entrepreneurial competitors like Walmart, Kroger, Aldi, and Instacart, Amazon’s impressive position online has not translated into an automatic domination of the traditional grocery industry (Manne & Stout).  

Symposium participants more circumspect about the merger suggested that Amazon’s behavior may be laying the groundwork for an eventual monopsony case (Sagers). Further, it was suggested, a future Section 2 case, difficult under prevailing antitrust orthodoxy, could be brought with a creative approach to market definition in light of Amazon’s conduct with its marketplace participants, its aggressive ebook contracting practices, and its development and roll-out of its own private label brands (Sagers).

Skeptics also picked up on early critics’ concerns about the aggregation of large amounts of consumer data, and worried that the merger could be part of a pattern representing a real, long-term threat to consumers that antitrust does not take seriously enough (Bona & Levitsky). Sounding a further alarm, Hal Singer noted that Amazon’s interest in pushing into new markets with data generated by, for example, devices like its Echo line could bolster its ability to exclude competitors.

More fundamentally, these contributors echoed the merger critics’ concerns that antitrust does not adequately take account of other values such as “promoting local, community-based, organic food production or ‘small firms’ in general.” (Bona & Levitsky; Singer).

Rob Atkinson, however, pointed out that these values are idiosyncratic and not likely shared by the vast majority of the population — and that antitrust law shouldn’t have anything to do with them:

In short, most of the opposition to Amazon/Whole Foods merger had little or nothing to do with economics and consumer welfare. It had everything to do with a competing vision for the kind of society we want to live in. The neo-Brandesian opponents, who Lind and I term “progressive localists”, seek an alternative economy predominantly made up of small firms, supported by big government and protected from global competition.

And Dirk Auer noted that early critics’ prophecies of foreclosure of competition through “data leveraging” and below-cost pricing hadn’t remotely come to pass, thus far.

Meanwhile, other contributors noted the paucity of evidence supporting many of these assertions, and pointed out the manifest value the merger seemed to be creating by pressuring competitors to adapt and better respond to consumers’ preferences (Horwitz, Rinehart, Auer, Fruits, Manne & Stout) — in the process shoring up, rather than killing, even smaller retailers that are willing and able to evolve with changing technology and shifting consumer preferences. “For all the talk of retail dying, the stores that are actually dying are the ones that fail to cater to their customers, not the ones that happen to be offline” (Manne & Stout).

At the same time, not all merger skeptics were moved by the Neo-Brandeisian assertions. Chris Sagers, for example, finds much of the populist antitrust objection more public relations than substance. He suggested perhaps not taking these ideas and their promoters so seriously, and instead focusing on antitrust advocates with “real ideas” (like Sagers himself, of course).

Coming from a different angle, Will Rinehart also suggested not taking the criticisms too seriously, pointing to the evolving and complicated effects of the merger as Exhibit A for the need for regulatory humility:

Finally, this deal reiterates the need for regulatory humility. Almost immediately after the Amazon-Whole Foods merger was closed, prices at the store dropped and competitors struck a flurry of deals. Investments continue and many in the grocery retail space are bracing for a wave of enhancement to take hold. Even some of the most fierce critics of deal will have to admit there is a lot of uncertainty. It is unclear what business model will make the most sense in the long run, how these technologies will ultimately become embedded into production processes, and how consumers will benefit. Combined, these features underscore the difficulty, but the necessity, in implementing dynamic insights into antitrust institutions.

Offering generous praise for this symposium (thanks, Will!) and echoing the points made by other participants regarding the dynamic and unknowable course of competition (Auer, Horwitz, Manne & Stout, Fruits), Rinehart concludes:

Retrospectives like this symposium offer a chance to understand what the discussion missed at the time and what is needed to better understand innovation and competition in markets. While it might be too soon to close the book on this case, the impact can already be felt in the positions others are taking in response. In the end, the deal probably won’t be remembered for extending Amazon’s dominance into another market because that is a phantom concern. Rather, it will probably be best remembered as the spark that drove traditional retail outlets to modernize their logistics and fulfillment efforts.  

For a complete rundown of the arguments both for and against, the full archive of symposium posts from our outstanding and diverse group of scholars, practitioners, and other experts is available at this link, and individual posts can be easily accessed by clicking on the authors’ names below.

We’d like to thank all of the participants for their excellent contributions!

 

What actually happened in the year following the merger is nearly the opposite: Competition among grocery stores has been more fierce than ever. “Offline” retailers are expanding — and innovating — to meet Amazon’s challenge, and many of them are booming. Disruption is never neat and tidy, but, in addition to saving Whole Foods from potential oblivion, the merger seems to have lit a fire under the rest of the industry.
This result should not be surprising to anyone who understands the nature of the competitive process. But it does highlight an important lesson: competition often comes from unexpected quarters and evolves in unpredictable ways, emerging precisely out of the kinds of adversity opponents of the merger bemoaned.

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So why this deal, in this symposium, and why now? The best substantive reason I could think of is admittedly one that I personally find important. As I said, I think we should take it much more seriously as a general matter, especially in highly dynamic contexts like Silicon Valley. There has been a history of arguably pre-emptive, market-occupying vertical and conglomerate acquisitions, by big firms of smaller ones that are technologically or otherwise disruptive. The idea is that the big firms sit back and wait as some new market develops in some adjacent sector. When that new market ripens to the point of real promise, the big firm buys some significant incumbent player. The aim is not. just to facilitate its own benevolent, wholesome entry, but to set up hopefully prohibitive challenges to other de novo entrants. Love it or leave it, that theory plausibly characterizes lots and lots of acquisitions in recent decades that secured easy antitrust approval, precisely because they weren’t obviously, presently horizontal. Many people think that is true of some of Amazon’s many acquisitions, like its notoriously aggressive, near-hostile takeover of Diapers.com.

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