Industrial Organization
Summary of the Case Study
In the beginning of 2011, Kerry Foods Limited took over the control of Headland foods Limited’s frozen ready meals section. Prior to the merging of these two firms, the separate entities were similar in size and market share since each had approximately 25% of the market consuming their products. Their closest rival at the time was Heinz foods that had 12 per cent of the market share. Under Heinz was a cluster of five companies then at the bottom, a group of several smaller companies that were catering for about 30% of the ready frozen foods market.
This action by the two firms got the attention of the Office of Fair Trade, OFC and they were compelled to refer the matter to the Competition Commission. For the OFC to take such action, one or two preconditions need to have been fulfilled in the business undertaking in question. The first reason for such a referral is when the OFC believes that a merger situation has been created between the two firms or is in the process of being created. The second reason why the matter could be referred to the Competition Commission is when it is believed that such a merger will significantly reduce the level of competition presently taking place in a commodities’ or services’ market in the United Kingdom.
- Economic Theory and the substantial lessening of competition
From a scholarly perspective in economics, a merger between two firms can make the competitive environment skewed unfairly in favour of the merging firms while overally affecting the market negatively. The market includes the other players who are not involved in the merger as well as consumers of a market’s products. For an effective analysis of the merger to take place, it is important to ascertain the type of merger in question and this mainly takes into consideration the relative positioning of the firms and their market share. From the brief description of the case, it is clear that the firms are in the same industry, they are operating at the same level since they have a similar market share and at the same time, they are at the very top of the market in terms of market share controlled. Due to these factors, it is safe to state that the business agreement between Kerry Foods Limited and Headland Foods is a horizontal merger (Arnold and Parker, 2007; Resende, 2012).
A horizontal Merger according to the ‘Investopedia (2013)’ is one that occurs between two companies that are in the same industry and generally operate at the same level in regard to output and market segment served. Industries that experience this type of merger tend to have a small number of firms and this greatly increases the level of competitions that companies are exposed to. Consequently, the main reason why two companies may opt to get into a horizontal merger is to skew the competitive advantage in their favour because of the potential for better economies of scale thus higher profit margins. Even from a layman’s perspective, it is easy to predict that the term horizontal refers to things happening on the same level (Damanpour, 2011; O’Connor, 2011).
It has also been noted that horizontal mergers are the largest source of competition-related issues and conflicts in a market. There are two main categories of negative effects that can be occasioned by the occurrence of a horizontal merger. These categories are the coordinated effects and unilateral effects. These effects are experienced differently in the market as illustrated below.
Coordinated Effects of Mergers have an effect of lessening the competition in markets that are generally homogenous and at the same time have a high level of transparency. What happens in this scenario is that the companies that have merged have an increased likelihood of engaging in unhealthy competitive practices. The main way in which this is likely to occur is through conspiracy to increase the process of the product they are selling in a given market. Given the fact that the parties are former competitors now allies, they will very easily coordinate their activities in such a manner that will make it very difficult for other stakeholders in the market to thrive, other stakeholders being companies that are not in the merger as well as consumers of the product. When this happens, the businesses involved essentially form a cartel and these are known to harbour a host of antitrust practices (Braggion, 2012). This effectively makes a competitive market turn into an oligopoly.
In the analysis of the effect of a merger with this respect, it is important to find out the level of probability at which it is predicted that the firms will compete. This calls for the isolation and analysis of the factors that are likely to increase the coordinated effects. This may include loopholes in the legislation regarding the code of conduct for businesses that engage in mergers or even the trends that have been noted in similar industries. This issue is however controversial when it comes to the mitigation of negative impacts that a merger potentially has in a given market. This is because the subject under scrutiny in this instance is a non-existent variable that is only ‘likely to occur.’ The associated controversy makes it an uphill task for market analysts to ascertain the factors that increase this likelihood of antitrust activity by the merging companies (Rodger, 2008).
Unilateral Effects of Mergers are also known as non-coordinated effects of a Merger and as stated above are another way in which mergers have the effect unfairly of reducing the level of competition for the merging companies. The reason why this effect is termed as unilateral is because unlike the coordinated efforts whose effects are widespread, this effect tends to be constrained to the efforts of the new entity that is formed. By eliminating the competition through ‘swallowing them up’ this new entity makes the market monopolistic. As a result of this newly-found power, the merged entity can easily decide to increase its profitability through raising the market price of the product of one or both of the parties’ products. On the receiving end of such action is the consumers who have a very limited choice of suppliers of the given product they require. The industry also stands to lose in such an instance since the main parameters that were in play during competition which are quality and price can easily become obsolete (George, 2012).
If the market in which the merger has taken place is homogenous, the negative effect will be more profound if the merging parties where the two key players and a host of other relatively smaller players. If the market under scrutiny is one of differentiated products, the merger’s effects tend to be most pronounced if the merging companies offer a product that is similar or very easily substitutable. This is because the prices of these products may be increased concurrently. The main challenge with this is that laws that discourage monopolistic operations have a limited ability to address such price increases since the individual participants in the merger act as single entities when effecting the increases in commodity prices (Froeb, 2005).
If a merger is to be appraised in a comprehensive manner, both the coordinated and unilateral effects need to be critically analysed. The structure of the market under observation is another important factor that has to be analysed from an economic perspective. This is because the configuration of key players in the market has a bearing on the kind of effects that are likely to occur. The composition of products on offer in the market is another crucial factor that should never be ignored by market analysts(George, 2012).
- Final Report on Merger
Summary of the findings by the Competition Commission
First of all the commission sought to find out whether a relevant merger situation had been created by the two firms and also whether the action of merging served to lessen competition for Kerry Foods and Headland Foods limited.
The first step in doing this was to define the product that was being produced by the two parties. This was established to be ‘Frozen ready meals.’ These are foods that are pre-cooked then frozen for preservation purposes. The production process and apparatus for these foods is very similar to that one used for the production and packaging of ‘chilled ready meals.’ (George, 2011)
The second step was to conduct an analysis of the performance of these two products. It was established that the market for Chilled Ready Meals, CRM was growing at a quicker rate than frozen ready Meals, FRM.
The companies involved were also analysed in regard to their ownership and performance in the market. The country of origin as well as a brief history of the operations was also highlighted (Competition Comission, 2011).
It was then established that Kerry and Headland, two close competitors, got into a legally recognizable merger through the acquisition that took place.It was established that the two are in the same industry and that the market the merger was to supply was spread over two countries, namely the UK and Ireland. These two factors above indicate that the merger indeed took place. This necessitates further investigation to ascertain whether or not it will lessen the competition for Kerry and Headland (Competition Commission, 2002; OFT, 2011).
While it was agreed that the merger resulted in increased prices for FRM, the consumer’s choices were not constrained given the fact that there were still several companies outside the merger whose prices remained constant. At the same time, it was noted that the merging entity did not increase the price in abuse of its increased competitive advantage. The price increase was only a short term measure.
As a result of this, the Commission concluded that the formation of the merger between Kerry and Headland did not create situation that lessened the competition for them. From the perspective of economic theory this is true because at the time of the merger, half of the market share was controlled by several manufacturers and this meant that the increase in price would not have any profound effect on the customers and other businesses.
References
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Braggion, F., Dwarkasing, N., & Moore, L. 2012. From Competition to Cartel: Bank Mergers in the UK 1885 to 1925. Tilburg University, Tilburg.
Competition Comission. 2002. Competition Economics and Policy. Retrieved from http://www.oft.gov.uk/shared_oft/speeches/spe0702.pdf on April 29, 2013
Competition Commission. 2011. Kerry Foods Limited/Headland Foods Limited merger inquiry. Retrieved from http://www.competitioncommission.org.uk/assets/competitioncommission/docs/2011/kerry-headland/kerry_headland_final_report_excised.pdf on April 29, 2013
Damanpour, F. 2011. A Comparative Analysis Of Competition And Anti-Trust Law For The Major Industrialized Nations. International Business & Economics Research Journal (IBER), 4(6).
Froeb M. 2005. The Use of Economics in Merger Analysis Retrieved from http://www.ftc.gov/speeches/froeb/050127ibcbrussels1.pdf on April 29, 2013
George, S. 2011. A guide to the OFT’s Competition Act 1998 investigation procedures-a consultation paper. Update.
George, S. 2012. BT Group: potential anti-competitive exclusionary behaviour.
George, S. 2012. Merger assessment guidelines.
Investopedia, 2013 Definition of the term ‘horizontal merger’ Retrieved from http://www.investopedia.com/terms/h/horizontalmerger.asp on April 29, 2013
Lopez, E. 1999.New Anti-Merger Competition Theories. Retrieved from http://www.independent.org/pdf/working_papers/12_antimerger.pdf on April 29, 2013
Office of Fair Trading 2011. Completed acquisition by Kerry Foods Limited of the frozen ready meals business of Headland Foods Limited . Retrieved from http://www.oft.gov.uk/shared_oft/mergers_ea02/2011/Kerry-Headland.pdf on April 29, 2013
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Resende, M. (2012). Long Memory in Mergers and Acquisitions: Sectoral Evidence for an Emerging Economy. Economics Bulletin, 32(4), 2876-2883.
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