On Friday, the Federal Trade Commission (“FTC”) and the Antitrust Division of the U.S. Department of Justice (“DOJ”) released joint draft Vertical Merger Guidelines (“Guidelines”) for public comment. This much anticipated revision to the Guidelines, which had not been updated in more than 35 years, outlines how the FTC and DOJ evaluate whether vertical mergers violate the federal antitrust laws. The Guidelines are notable both because they strike a more aggressive stance towards vertical mergers than prior guidance, and in that the two Democratic FTC Commissioners abstained from voting on the Guidelines, which they did not think were aggressive enough. The release of these Guidelines reinforce that vertical merger enforcement will continue to be a priority for both the FTC and DOJ.
No Statement that Vertical Mergers Are Less Likely to Generate Competitive Harm Than Horizontal Mergers
The Non-Horizontal Merger Guidelines, originally issued as part of the DOJ’s 1984 Merger Guidelines, contained a statement that “non-horizontal mergers are less likely than horizontal mergers to create competitive problems” as they do not reduce the number of competitors in a market and often have many pro-competitive justifications that would allow the merging parties to lower prices and increase quality for consumers. By comparison, the new Guidelines are silent on this issue.
Section 2 of the draft Guidelines introduces the concept of a “related product” which is defined as “a product or service that is supplied by the merged firm, is vertically related to the products and services in the relevant market, and to which access by the merged firms’ rivals affect competition in the relevant market.” A related product can be an input, a means of distribution, or access to a set of customers.
In introducing related products, the Guidelines suggest that the agencies no longer need to go through a formal market definition exercise for both the upstream and downstream products in a vertical merger but rather would only need to define a “market” at one level. Then the agency would investigate related products that could impact competition in the relevant upstream or downstream market. For example, if the DOJ or FTC defined a market for the manufacture of cars, any component of a car would be a “related product” including the engine, the wheels, the radio, etc.; however, because the agency did not define a market for the related product, it would not look at market concentration for that product, but rather look at how often that related product is used in the relevant market (e.g., how often the engine is used in cars). As FTC Commissioner Christine Wilson points out in a footnote to her concurring statement in support of the draft Guidelines, having to define two relevant product markets posed a significant hurdle for the DOJ in its recent attempt to block AT&T’s acquisition of Time Warner.
Section 3 of the Guidelines includes a statement that “[t]he Agencies are unlikely to challenge a vertical merger where the parties to the merger have a share in the relevant market of less than 20 percent, and the related product is used in less than 20 percent of the relevant market.” Nonetheless, the Guidelines continue, stating that the “purpose of these thresholds is not to provide a rigid screen to separate competitively benign mergers from anticompetitive ones.” Of note, the Guidelines include an example where a related product is relatively new and therefore may be used in less than 20 percent of the relevant market, but yet the merger could still give rise to competitive concern, for example if its share of use in the relevant product is rapidly growing.
For now, the 20 percent threshold appears to merely give an indication that the agencies are more likely to investigate potential vertical ties further if the share of the relevant market is greater than 20 percent and the related product is used in greater than 20 percent of the market.
Theories of Competitive Harm From Vertical Mergers Detail a “Raising Rivals’ Costs” Concept
The draft Guidelines describe accepted theories of potential competitive harm from vertical mergers. These theories include the ability to foreclose competitor access to a vital input or distribution channel, as well as the ability to access competitors’ competitively sensitive information through the sales of a vertically related product. The Guidelines also describe how they will evaluate a vertical merger’s ability to raise rivals’ costs.
The agencies will investigate and assess (a) whether rivals would lose sales due to the increased cost of or inability to produce the vertically related product; (b) what portion of the lost sales could be diverted to the merged firm (i.e., how much would the merged companies sales increase due to the inability of its rivals to compete); (c) would these newly diverted sales increase the incentive for the merged firm to engage in behavior that could harm competitors; and (d) would the magnitude of the increased incentive be more than de minimis (although de minimis is not defined). According to the Guidelines, mergers that meet each of these conditions potentially raise significant competitive concerns and warrant scrutiny.
Limitations Placed on Ability of Merging Parties to Claim Elimination of Double Marginalization
The Guidelines also outline the common understanding that vertical mergers can be beneficial to consumers in that they allow for the elimination of double marginalization. In other words, by combining the upstream and downstream products, the merged company may be able to lower its overall price because it does not have to charge an intermediate margin for the upstream product when it is sold to the downstream player. However, the Guidelines place the burden on the merging parties to demonstrate how the merger eliminates double marginalization and call into question the potential for elimination of double marginalization in specific fact scenarios. In addition, the Guidelines implicitly call into question whether the elimination of double marginalization could be achieved through alternative means (e.g. through contractual methods rather than a merger).
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The public comment period is open until February 11, 2020. It is expected that there will be a large number of comments and the Guidelines may change from their current version before they are published. The Guidelines’ reflect that merging parties should continue to expect rigorous antitrust review of deals that include significant vertical relationships. The Guidelines are silent on remedies, but recent agency enforcement actions and statements by agency leaders indicate that the most significant practical concern facing vertical transactions is the present hostility to behavioral remedies in some vertical contexts. This means that transactions with significant vertical elements will likely see increased costs and delays in implementation, as parties seek to remedy concerns through structural remedies or defend vertical transactions in litigation.