What antitrust is and is not

SHOULD one company control Transformers, Star Wars and Barbie?

Hasbro, famous maker of Transformers and Star Wars action figures, and Mattel, equally famous maker of Barbie dolls, are large American toy manufacturers that focus on boys and girls, respectively.

Would their merger produce a powerful US competitor for Lego, Europe’s largest, fast-growing toy manufacturer? Or would it raise toy prices?

This recent proposed merger poses a concrete example of an antitrust question. And there is no single answer.

What antitrust is not

We are currently creating our antitrust framework after passing the Philippine Competition Act or Republic Act No. 10667 on July 21, 2015 and appointing the first Philippine Competition Commission.

Antitrust compliance will be integral to corporate citizenship. We will soon judge companies based on antitrust and we must judge fairly.

Antitrust is not a simple matter of preventing companies from growing too large. There is nothing inherently wrong with being large. The best companies will naturally grow and gain large market shares. Antitrust regulates not being the best in a market, but taking unfair steps to dominate it.

Section 15 of the Competition Act reads: “nothing in this Act shall be construed or interpreted as a prohibition on having a dominant position in a relevant market or on acquiring, maintaining and increasing market share through legitimate means.”

It further reads: “any conduct which contributes to improving production or distribution of goods or services within the relevant market, or promoting technical and economic progress while allowing consumers a fair share of the resulting benefit may not necessarily be considered an abuse of dominant position.”

Guiding principles

We must understand, further, that antitrust is governed by guiding principles, not rigid rules. If one reads the actual US antitrust laws, one would be surprised how short they actually are and how much doctrine was developed by courts and regulators. Antitrust analysis must carefully scrutinize specific facts surrounding the market, particularly the economics that underlies legal rules, and must be practical above all. Its enforcement must be in sync with existing industry regulators and a developing market’s context.

What is unfair in one context may be perfectly justified in another. Thus, what is proper regulation of one market may be impractical in another. Further, some markets have inherent barriers to competition. For example, one cannot build multiple train tracks on one route. In other markets such as banking, the government previously encouraged consolidation of existing players.

US antitrust doctrine

Practical antitrust regulations provide a foundation for businesses to grow. This summary explains the Competition Act’s key provisions generally in the context of US antitrust doctrine.

The Competition Act contains familiar US terminology, although its authors also studied six other jurisdictions, particularly how the European Union (EU) administers antitrust. Modern antitrust regulation began with the US Sherman Act in 1890, although English kings and Roman emperors policed markets.

Relevant market

The Competition Act revolves around the concept of “relevant market” for a good or service. There is no need for government to police unfair or abusive behavior if it does not affect a significant portion of a market because consumers may simply patronize someone else. Further, a conglomerate may be large and sell many products, yet be less relevant in terms of antitrust because it has no significant position in any single market.

Antitrust, thus, turns on how broadly or narrowly one defines a relevant market. This in turn defines whether companies under scrutiny are insignificant players in a large market or powerful players in a small one.

Under Section 2(k) of the Competition Act, a relevant market is defined by product and geographic factors. A “relevant product market” “comprises all those goods and/or services which are regarded as interchangeable or substitutable.”

This contemplates the economic concepts of substitution and cross-elasticity. The latter refers to the change in demand for a product following the change in price of another product. A product is a substitute for another if demand for that product increases when the price of the other product decreases.

A “relevant geographic market” is an area “in which the conditions of competition are sufficiently homogenous and which can be distinguished from neighboring areas.”

One must stress that market share has become less significant, especially in mergers. Although it remains an important starting point, antitrust regulators today evaluate market share as one of many factors in holistic approaches.

Market analysis

Returning to the Hasbro/Mattel example, it is crucial whether one analyzes the potential merger in the context of a single national toy market, or two distinct national markets for boys’ and girls’ toys. There is no single simplistic rule.

Brown Shoe (1962) is the classic US Supreme Court decision that defined the concept of relevant market. Here, the US government disallowed the merger of two leading shoe companies, Brown Shoe and GR Kinney. The combined company would have been one of the four largest shoe companies in the United States.

Brown Shoe decided to define the relevant market with sufficient breadth to include the relevant competing products and declined to complicate the analysis by focusing on various smaller segments. For example, in terms of geography, it sufficed to analyze the national shoe market. It declined to make distinctions based on sizes of cities, towns with large city centers and downtown versus suburban stores.

In terms of products, it sufficed to analyze the broad categories of men’s, women’s and children’s shoes. It declined to analyze different price and quality points, or segments such as male children’s shoes or male children’s formal shoes.

In contrast, the Kodak (1992) decision defined the case’s relevant market as repair services specifically for Kodak photocopiers and not photocopiers in general. There, the Kodak company sold photocopiers and repair and maintenance services for its machines.

Kodak stopped selling spare parts to independent repair companies.
The court analyzed the perspective of a user who purchased an expensive Kodak photocopier. Such a user could only obtain repair services from Kodak. The market for repair of other photocopiers would have no relevance to him.

Gauging market power

After delimiting the defined market, an antitrust analysis would gauge the relevant actors’ market power. Again, if a perceived unfair practice is done by actors with insignificant market share, the market can correct when consumers ignore these actors.

The relevant actors are generally considered to have market power if they exercise substantial control over price or volume in a market, or can exclude competition.

Rule of thumb

The Herfindahl-Hirschman Index (HHI) is a historical rule of thumb for market power. To compute this, one takes each company’s percentage of sales or production, multiplied by 100 (or dropping the decimal point). One then adds the squares of each figure.

Thus, if a market has two companies with a 50-percent market share each, the HHI is 50² + 50² = 5,000.

If a market has ten companies with a 10-percent market share each, the HHI is 10² x 10 = 1,000.

If a market has 100 companies with a 1-percent market share each, the HHI is 1² x 100 = 100.

The important thing to understand is that because HHI is produced by a sum of squares, HHI increases exponentially as the shares of the market leaders grow larger.

As a rough benchmark, the Chartered Financial Analyst Institute considers a market with an HHI of less than 1,000 as not concentrated and raising no antitrust concerns, while an HHI above 1,800 shows high concentration. In a merger context, one gauges the resulting post-merger HHI.

It must be emphasized that HHI is a rule of thumb. Antitrust regulators around the world now evaluate more detailed pricing and other quantitative as well as qualitative information.

Levels of analysis

If one concludes that the relevant actors exercise substantial market power in the relevant market, one proceeds to examine the nature and effect of the allegedly anticompetitive practice and the market’s factual and economic context. US doctrine calls the full analysis “rule of reason” analysis.

US doctrine deems certain practices “per se” anticompetitive (infringement by “object” in EU law) without need to analyze market power or a practice’s nature.

Section 14 of the Competition Act incorporates two “per se” categories: agreements (a) “Restricting competition as to price, or components thereof, or other terms of trade” and (b) “Fixing price at an auction or in any form of bidding.” “Horizontal” price fixing among competitors is the classic antitrust violation.

Quick look

US doctrine also developed the “quick look.” If a practice appears very likely (but not “per se”) anticompetitive such as one that likely affects pricing or volume, the relevant actors would be accountable without deeper analysis unless they give a plausible reason.

As markets and technology grow more complex, the US trend has been to err on the side of the full analysis and not rigidly deem practices anticompetitive. In the National Collegiate Athletic Association (1984) case, the US Supreme Court analyzed a college football league’s rules for fixing a price and schedule (volume) for televised games. These rules prevented larger colleges from negotiating broadcasts of more of their games.

Although the court ruled that the specific rules in the case violated antitrust laws, it refused to declare them “per se” price fixing violations. It held a sports league a prime example where actors must agree to uniform restrictions if there is to be a product (organized games) at all, and that the case demanded detailed analysis.

For example, the court rejected the argument that televising more games may decrease live attendance at nontelevised games, because the premise would be that game tickets are not competitive in a free market and the league needs to anticompetitively restrict output of the substitute.

It noted that college basketball, a comparably popular sport, was not subject to similar restrictions.

Finally, it emphasized trial court findings that substantially more games would be televised without the restrictions.

How we regulate

The Competition Act (and forthcoming implementing rules) regulates antitrust in three ways.

First, Section 14 prohibits anticompetitive agreements, including the two “per se” anticompetitive agreements described above. Section 14 specifically prohibits agreements that (a) control production, investment or other aspects of markets, or (b) divide markets among competitors by geography, product or along other lines, if the intent is anticompetitive. It also prohibits other agreements “which have the object or effect of substantially preventing, restricting or lessening competition,” an EU formulation.

Agreements may be implicit, but the concept typically excludes mere parallel action by competitors without intent to coordinate.

Note there must be more than one actor to form an agreement.

Section 14 explicitly excludes actions by subsidiaries and entities with common economic interests. US and EU doctrine also exclude other cases where there is really only one principal, such as sales by a company through consignment sellers or agents, as opposed to independent dealers.

Second, Section 15 prohibits abuse of dominant position by one or more entities. (See list.)

Note that establishing dominant market power by the relevant actors and their anticompetitive intent are key in Section 15.

Review of mergers

Finally, Chapter IV allows the Competition Commission to review all mergers and acquisitions. It specifically prohibits the consummation of any merger above P1 billion until 30 days after the parties notify the commission of the transaction and its details.

Note the P1-billion threshold is relatively low in many contexts and must be applied with pragmatism. To illustrate, Jollibee’s 2010 purchase of 70 percent of Mang Inasal was worth P3 billion and there have been no substantial antitrust concerns in fast food.

(Oscar Franklin Tan is an Inquirer columnist and a senior associate of DLA Piper, the world’s largest law firm. React: oscarfranklin.tan @yahoo.com.ph, Twitter @oscar fbtan, facebook.com/OscarFranklinTan.)