Archives For Walmart

Source: Benedict Evans

[N]ew combinations are, as a rule, embodied, as it were, in new firms which generally do not arise out of the old ones but start producing beside them; … in general it is not the owner of stagecoaches who builds railways. – Joseph Schumpeter, January 1934

Elizabeth Warren wants to break up the tech giants — Facebook, Google, Amazon, and Apple — claiming they have too much power and represent a danger to our democracy. As part of our response to her proposal, we shared a couple of headlines from 2007 claiming that MySpace had an unassailable monopoly in the social media market.

Tommaso Valletti, the chief economist of the Directorate-General for Competition (DG COMP) of the European Commission, said, in what we assume was a reference to our posts, “they go on and on with that single example to claim that [Facebook] and [Google] are not a problem 15 years later … That’s not what I would call an empirical regularity.”

We appreciate the invitation to show that prematurely dubbing companies “unassailable monopolies” is indeed an empirical regularity.

It’s Tough to Make Predictions, Especially About the Future of Competition in Tech

No one is immune to this phenomenon. Antitrust regulators often take a static view of competition, failing to anticipate dynamic technological forces that will upend market structure and competition.

Scientists and academics make a different kind of error. They are driven by the need to satisfy their curiosity rather than shareholders. Upon inventing a new technology or discovering a new scientific truth, academics often fail to see the commercial implications of their findings.

Maybe the titans of industry don’t make these kinds of mistakes because they have skin in the game? The profit and loss statement is certainly a merciless master. But it does not give CEOs the power of premonition. Corporate executives hailed as visionaries in one era often become blinded by their success, failing to see impending threats to their company’s core value propositions.

Furthermore, it’s often hard as outside observers to tell after the fact whether business leaders just didn’t see a tidal wave of disruption coming or, worse, they did see it coming and were unable to steer their bureaucratic, slow-moving ships to safety. Either way, the outcome is the same.

Here’s the pattern we observe over and over: extreme success in one context makes it difficult to predict how and when the next paradigm shift will occur in the market. Incumbents become less innovative as they get lulled into stagnation by high profit margins in established lines of business. (This is essentially the thesis of Clay Christensen’s The Innovator’s Dilemma).

Even if the anti-tech populists are powerless to make predictions, history does offer us some guidance about the future. We have seen time and again that apparently unassailable monopolists are quite effectively assailed by technological forces beyond their control.

PCs

Source: Horace Dediu

Jan 1977: Commodore PET released

Jun 1977: Apple II released

Aug 1977: TRS-80 released

Feb 1978: “I.B.M. Says F.T.C. Has Ended Its Typewriter Monopoly Study” (NYT)

Mobile

Source: Comscore

Mar 2000: Palm Pilot IPO’s at $53 billion

Sep 2006: “Everyone’s always asking me when Apple will come out with a cellphone. My answer is, ‘Probably never.’” – David Pogue (NYT)

Apr 2007: “There’s no chance that the iPhone is going to get any significant market share.” Ballmer (USA TODAY)

Jun 2007: iPhone released

Nov 2007: “Nokia: One Billion Customers—Can Anyone Catch the Cell Phone King?” (Forbes)

Sep 2013: “Microsoft CEO Ballmer Bids Emotional Farewell to Wall Street” (Reuters)

If there’s one thing I regret, there was a period in the early 2000s when we were so focused on what we had to do around Windows that we weren’t able to redeploy talent to the new device form factor called the phone.

Search

Source: Distilled

Mar 1998: “How Yahoo! Won the Search Wars” (Fortune)

Once upon a time, Yahoo! was an Internet search site with mediocre technology. Now it has a market cap of $2.8 billion. Some people say it’s the next America Online.

Sep 1998: Google founded

Instant Messaging

Sep 2000: “AOL Quietly Linking AIM, ICQ” (ZDNet)

AOL’s dominance of instant messaging technology, the kind of real-time e-mail that also lets users know when others are online, has emerged as a major concern of regulators scrutinizing the company’s planned merger with Time Warner Inc. (twx). Competitors to Instant Messenger, such as Microsoft Corp. (msft) and Yahoo! Inc. (yhoo), have been pressing the Federal Communications Commission to force AOL to make its services compatible with competitors’.

Dec 2000: “AOL’s Instant Messaging Monopoly?” (Wired)

Dec 2015: Report for the European Parliament

There have been isolated examples, as in the case of obligations of the merged AOL / Time Warner to make AOL Instant Messenger interoperable with competing messaging services. These obligations on AOL are widely viewed as having been a dismal failure.

Oct 2017: AOL shuts down AIM

Jan 2019: “Zuckerberg Plans to Integrate WhatsApp, Instagram and Facebook Messenger” (NYT)

Retail

Source: Seeking Alpha

May 1997: Amazon IPO

Mar 1998: American Booksellers Association files antitrust suit against Borders, B&N

Feb 2005: Amazon Prime launches

Jul 2006: “Breaking the Chain: The Antitrust Case Against Wal-Mart” (Harper’s)

Feb 2011: “Borders Files for Bankruptcy” (NYT)

Social

Feb 2004: Facebook founded

Jan 2007: “MySpace Is a Natural Monopoly” (TechNewsWorld)

Seventy percent of Yahoo 360 users, for example, also use other social networking sites — MySpace in particular. Ditto for Facebook, Windows Live Spaces and Friendster … This presents an obvious, long-term business challenge to the competitors. If they cannot build up a large base of unique users, they will always be on MySpace’s periphery.

Feb 2007: “Will Myspace Ever Lose Its Monopoly?” (Guardian)

Jun 2011: “Myspace Sold for $35m in Spectacular Fall from $12bn Heyday” (Guardian)

Music

Source: RIAA

Dec 2003: “The subscription model of buying music is bankrupt. I think you could make available the Second Coming in a subscription model, and it might not be successful.” – Steve Jobs (Rolling Stone)

Apr 2006: Spotify founded

Jul 2009: “Apple’s iPhone and iPod Monopolies Must Go” (PC World)

Jun 2015: Apple Music announced

Video

Source: OnlineMBAPrograms

Apr 2003: Netflix reaches one million subscribers for its DVD-by-mail service

Mar 2005: FTC blocks Blockbuster/Hollywood Video merger

Sep 2006: Amazon launches Prime Video

Jan 2007: Netflix streaming launches

Oct 2007: Hulu launches

May 2010: Hollywood Video’s parent company files for bankruptcy

Sep 2010: Blockbuster files for bankruptcy

The Only Winning Move Is Not to Play

Predicting the future of competition in the tech industry is such a fraught endeavor that even articles about how hard it is to make predictions include incorrect predictions. The authors just cannot help themselves. A March 2012 BBC article “The Future of Technology… Who Knows?” derided the naysayers who predicted doom for Apple’s retail store strategy. Its kicker?

And that is why when you read that the Blackberry is doomed, or that Microsoft will never make an impression on mobile phones, or that Apple will soon dominate the connected TV market, you need to take it all with a pinch of salt.

But Blackberry was doomed and Microsoft never made an impression on mobile phones. (Half credit for Apple TV, which currently has a 15% market share).

Nobel Prize-winning economist Paul Krugman wrote a piece for Red Herring magazine (seriously) in June 1998 with the title “Why most economists’ predictions are wrong.” Headline-be-damned, near the end of the article he made the following prediction:

The growth of the Internet will slow drastically, as the flaw in “Metcalfe’s law”—which states that the number of potential connections in a network is proportional to the square of the number of participants—becomes apparent: most people have nothing to say to each other! By 2005 or so, it will become clear that the Internet’s impact on the economy has been no greater than the fax machine’s.

Robert Metcalfe himself predicted in a 1995 column that the Internet would “go spectacularly supernova and in 1996 catastrophically collapse.” After pledging to “eat his words” if the prediction did not come true, “in front of an audience, he put that particular column into a blender, poured in some water, and proceeded to eat the resulting frappe with a spoon.”

A Change Is Gonna Come

Benedict Evans, a venture capitalist at Andreessen Horowitz, has the best summary of why competition in tech is especially difficult to predict:

IBM, Microsoft and Nokia were not beaten by companies doing what they did, but better. They were beaten by companies that moved the playing field and made their core competitive assets irrelevant. The same will apply to Facebook (and Google, Amazon and Apple).

Elsewhere, Evans tried to reassure his audience that we will not be stuck with the current crop of tech giants forever:

With each cycle in tech, companies find ways to build a moat and make a monopoly. Then people look at the moat and think it’s invulnerable. They’re generally right. IBM still dominates mainframes and Microsoft still dominates PC operating systems and productivity software. But… It’s not that someone works out how to cross the moat. It’s that the castle becomes irrelevant. IBM didn’t lose mainframes and Microsoft didn’t lose PC operating systems. Instead, those stopped being ways to dominate tech. PCs made IBM just another big tech company. Mobile and the web made Microsoft just another big tech company. This will happen to Google or Amazon as well. Unless you think tech progress is over and there’ll be no more cycles … It is deeply counter-intuitive to say ‘something we cannot predict is certain to happen’. But this is nonetheless what’s happened to overturn pretty much every tech monopoly so far.

If this time is different — or if there are more false negatives than false positives in the monopoly prediction game — then the advocates for breaking up Big Tech should try to make that argument instead of falling back on “big is bad” rhetoric. As for us, we’ll bet that we have not yet reached the end of history — tech progress is far from over.

 

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.