Technology Mergers and the Market for Corporate Control.

• Author: Manne, Geoffrey A.

TABLE OF CONTENTS ABSTRACT 1047 TABLE OF CONTENTS 1048 I. INTRODUCTION 1050 II. ANTITRUST AND THE ERROR-COST FRAMEWORK 1057 A. The Use of Filters in Antitrust 1058 B. Calls for a Reform of Merger Enforcement Rules and Thresholds 1060 III. Is THERE A "KILL-ZONE" IN TECH MARKETS? 1064 A. Assessing the Evidence on Start-up Investment 1065 B. The "Kill-Zones" Theory and Evidence 1069 IV. MERGERS AND POTENTIAL COMPETITION 1074 A. Acquisitions of Potential Competitors 1076 1. Restrictive Assumptions 1077 2. Consumer Welfare 1082 3. Workability 1083 4. Error Costs 1087 B. Acquiring Out-Of-Market Innovators 1089 V. KILLER ACQUISITIONS AND THE MARKET FOR CORPORATE CONTROL 1093 A. Acquiring Out-Of-Market Innovators 1096 1. Relevance Outside of the Pharmaceutical Industry 1096 2. Detecting Killer Acquisitions 1097 3. Innovation-related Effects 1099 4. A Better Understanding of Product Discontinuations 1101 5. Post-Merger Performance Dips 1107 6. What Can We Infer from Merger Valuations 1108 B. Killer Acquisitions in the Tech Sector 1109 VI. CASE STUDIES 1115 A. Facebook / Instagram and Google / Android 1116 1. Was Facebook / Instagram anticompetitive? 1117 2. Was Google / Android Anticompetitive? 1123 3. Can Enforcers Separate the Good from the Bad? 1127 B. The Medtronic / Covidien "Killer Acquisition" 1136 1. The Mechanical Ventilator Market is Highly Competitive 1138 2. The Value of the Merger was Too small 1139 3. Lessons from Covidien's Ventilator Product Decisions 1142 4. Ending the Aura Project Might have been an Efficient outcome 1149 VII. THE PROBLEM WITH PROPOSED POLICY RESPONSES 1150 A. Ex-Post Merger Reviews 1151 1. Mergers and uncertainty 1153 2. Hindsight Does Not Disentangle Efficiency from Market Power 1154 3. Appropriate Responses 1157 B. Lowering Merger Filing Thresholds 1158 C. Shifting the Burden of Proof 1161 VIII. CONCLUSION 1167 I. INTRODUCTION

The antitrust policy world has fallen out of love with corporate mergers. After decades of relatively laissez faire enforcement, spurred in part by the emergence of Chicago School economics, (1) a growing number of policymakers and scholars are calling for tougher rules to curb corporate acquisitions. But these appeals are premature. There is currently little evidence to suggest that mergers systematically harm consumer welfare. More importantly, scholars fail to identify alternative institutional arrangements that would capture the anticompetitive mergers that evade prosecution without disproportionate false positives and administrative costs. Their proposals thus fail to meet the requirements of the error-cost framework.

There are multiple reasons for the antitrust community's about-face. These include concerns about rising market concentration, (2) labor market monopsony power, (3) and large corporations undermining the very fabric of western democracy. (4) But, of these numerous (mis)apprehensions, one has received the lion's share of scholarly and political attention. A growing number of voices argue that existing merger rules fail to apprehend competitively significant mergers that either fall below existing merger filing thresholds or affect innovation in ways that are, allegedly, ignored by current rules. (5) FTC Commissioner Rohit Chopra, for instance, asserted recently that too many transactions avoid antitrust scrutiny by falling through the cracks of Hart-Scott-Rodino Improvements Act of 1976 ("HSR") premerger notification thresholds. (6) As a result, Chopra claims, "[t]he FTC ends up missing a large number of anticompetitive mergers every year." (7)

These fears are particularly acute in the pharmaceutical and tech industries where several high-profile academic articles and reports claim to have identified important gaps in current merger enforcement rules, particularly with respect to acquisitions involving nascent and potential competitors. (8) Some of these gaps are purported to arise in situations that would normally appear to be procompetitive:

Established incumbents in spaces like tech, digital payments, internet, pharma and more have embarked on bids to acquire features, businesses and functionalities to shortcut the time and effort they would otherwise require for organic expansion. We have traditionally looked at these cases benignly, but it is now right to be much more cautious. (9) As a result of these perceived deficiencies scholars and enforcers have called for tougher rules, such as the introduction of lower merger filing thresholds and substantive changes. These substantive changes notably include inverting the burden of proof when authorities review mergers and acquisitions in the digital platform industry. (10) Meanwhile, and seemingly in response to the increased political and advocacy pressures around the issue, u.s. antitrust enforcers have recently undertaken several enforcement actions directly targeting such acquisitions. (11)

As this paper discusses, these proposals tend to overlook the important tradeoffs that would ensue from attempts to decrease the number of false positives under existing merger rules and thresholds. While merger enforcement ought to be mindful of these possible theories of harm, the theories and evidence are not nearly as robust as many proponents suggest. Most importantly, there is insufficient basis to conclude that the costs of permitting the behavior they identify is greater than the costs would be of increasing enforcement to prohibit it. (12)

Our work draws from two key strands of economic literature that are routinely overlooked (or summarily dismissed) by critics of the status quo. For a start, as Frank Easterbrook argued in his pioneering work on The Limits of Antitrust, antitrust enforcement is anything but costless. (13) In the case of merger enforcement, not only is it expensive for agencies to detect anticompetitive deals but, more importantly, overbearing rules may deter beneficial merger activity that creates value for consumers. Indeed, not only are most mergers welfare-enhancing, but barriers to merger activity have been shown to significantly, and negatively, affect early company investment. (14)

Second, critics are mistaking the nature of causality. scholars routinely surmise that incumbents use mergers to shield themselves from competition. Acquisitions are thus seen as a means of eliminating competition. But this overlooks an important alternative. It is at least plausible that incumbents' superior managerial or other capabilities (i.e., what made them successful in the first place) make them the ideal purchasers for entrepreneurs and startup investors who are looking to sell. This dynamic is likely to be amplified where the acquirer and acquiree operate in overlapping lines of business. In other words, competitive advantage, and the ability to profitably acquire other firms, might be caused by business acumen rather than anticompetitive behavior. Additionally, significant and high-profile M&A activity involving would-be competitors may thus be the procompetitive byproduct of a well-managed business, rather than anticompetitive efforts to stifle competition. Critics systematically overlook this possibility. Indeed, Henry Manne's seminal work on Mergers and Market for Corporate Control (15) - the first to argue that mergers are a means of applying superior management practices to new assets - is almost never cited by contemporary researchers in this space. our paper attempts to set the record straight.

With this in mind, our paper proceeds as follows. Section I argues that calls to reform merger enforcement rules and procedures should be analyzed under the error-cost framework. Accordingly, the challenge for policymakers is not merely to minimize type II errors (i.e., false acquittals), which have been a key area of focus for recent scholarship, but also type I errors (i.e., false convictions) and enforcement costs. This is particularly important in the field of merger enforcement, where authorities need to analyze vast numbers of transactions in extremely short periods of time.

Section II focuses on claims that the presence of large tech platforms in a given market chills the investments of rivals. The section argues that these alleged harms are largely hypothetical, but that addressing them would entail far-reaching reforms. Indeed, because incumbents can, allegedly, use vertical integration and mergers to deter rivals' investments, potential solutions would effectively prevent large incumbents from operating in adjacent markets--thus preventing new entry, potential synergies, economies of scale, and network effects. This is a hefty price to pay for harms that are anything but established.

Section III discusses claims that antitrust authorities should pay more attention to mergers that may eliminate firms' potential competitors--i.e., firms that do not currently compete with the acquirer, but that may do so in the future. We argue that this would inappropriately shift the focus of antitrust investigations towards hypothetical harms, thus forcing enforcers to undertake enforcement action based on unknowable factors.

Section IV focuses on the question of "killer acquisitions" whereby incumbents allegedly purchase rivals in order to discontinue their competing innovations (e.g., R&D pipelines that overlap with those of the incumbent). Although there is some evidence that these mergers occur in the pharmaceutical industry - but no evidence that they occur in the tech sector - it is also clear that they are exceedingly rare. Given this, and the fact that no promising heuristics have been found to identify these mergers ex-ante, it is unlikely that authorities could prosecute them in a cost-effective manner.

Section V puts forward a series of case studies that show the numerous difficulties that would arise from attempts to prosecute the harms identified in the previous sections. The case studies focus on Facebook's acquisition of Instagram, Google's purchase of...