Exam 2: The Regulatory Environment

In the U.S., the Federal Trade Commission has the exclusive right to approve mergers and acquisitions if they are determined to be potentially anti-competitive.

In the U.S., the Sherman Act makes illegal all contracts, combinations and conspiracies, which "unreasonably" restrain trade. The Act applies to all transactions and businesses engaging in both interstate and intrastate trade.

FCC Uses Its Power to Stimulate Competition in the Telecommunications Market Oh, So Many Hurdles Having received approval from the Justice Department and the Federal Trade Commission, Ameritech and SBC Communications received permission from the Federal Communications Commission to combine to form the nation’s largest local telephone company. The FCC gave its approval of the $74 billion transaction, subject to conditions requiring that the companies open their markets to rivals and enter new markets to compete with established local phone companies. Satisfying the FCC’s Concerns SBC, which operates under Southwestern Bell, Pacific Bell, SNET, Nevada Bell, and Cellular One brands, has 52 million phone lines in its territory. It also has 8.3 million wireless customers across the United States. Ameritech, which serves Illinois, Indiana, Michigan, Ohio, and Wisconsin, has more than 12 million phone customers. It also provides wireless service to 3.2 million individuals and businesses. The combined business would control 57 million, or one-third, of the nation’s local phone lines in 13 states. The FCC adopted 30 conditions to ensure that the deal would serve the public interest. The new SBC must enter 30 new markets within 30 months to compete with established local phone companies. In the new markets, it would face fierce competition from Bell Atlantic, BellSouth, and U.S. West. The company is required to provide deep discounts on key pieces of their networks to rivals who want to lease them. The merged companies also must establish a separate subsidiary to provide advanced telecommunications services such as high-speed Internet access. At least 10% of its upgraded services would go toward low-income groups. Failure to satisfy these conditions would result in stiff fines. The companies could face $1.2 billion in penalties for failing to meet the new market deadline and could pay another $1.1 billion for not meeting performance standards related to opening up their markets. A Costly Remedy for SBC SBC has had considerable difficulty in complying with its agreement with the FCC. Between December 2000 and July 2001, SBC paid the U.S. government $38.5 million for failing to provide adequately rivals with access to its network. The government noted that SBC failed repeatedly to make available its network in a timely manner, to meet installation deadlines, and to notify competitors when their orders were filled. -Comment on the fairness and effectiveness of using the imposition of heavy fines to promote social policy.

Unlike the European Economic Union, a decision by U.S. antitrust regulators to block a transaction may be appealed in the courts.

FTC Prevents Staples from Acquiring Office Depot As the leading competitor in the office supplies superstore market, Staples’ proposed $3.3 billion acquisition of Office Depot received close scrutiny from the FTC immediately after its announcement in September 1996. The acquisition would create a huge company with annual sales of $10.7 billion. Following the acquisition, only one competitor, OfficeMax with sales of $3.3 billion, would remain. Staples pointed out that the combined companies would comprise only about 5% of the total office supply market. However, the FTC considered the superstore market as a separate segment within the total office supply market. Using the narrow definition of “market,” the FTC concluded that the combination of Staples and Office Depot would control more than three-quarters of the market and would substantially increase the pricing power of the combined firms. Despite Staples’ willingness to divest 63 stores to Office Max in markets in which its concentration would be the greatest following the merger, the FTC could not be persuaded to approve the merger. Staples continued its insistence that there would be no harmful competitive effects from the proposed merger, because office supply prices would continue their long-term decline. Both Staples and Office Depot had a history of lowering prices for their customers because of the efficiencies associated with their “superstores.” The companies argued that the merger would result in more than $4 billion in cost savings over 5 years that would be passed on to their customers. However, the FTC argued and the federal court concurred that the product prices offered by the combined firms still would be higher, as a result of reduced competition, than they would have been had the merger not taken place. The FTC relied on a study showing that Staples tended to charge higher prices in markets in which it did not have another superstore as a competitor. In early 1997, Staples withdrew its offer for Office Depot. -How important is properly defining the market segment in which the acquirer and target companies compete to determining the potential increased market power if the two are permitted to combine? Explain your answer.

Justice Department Blocks Microsoft’s Acquisition of Intuit In 1994, Bill Gates saw dominance of the personal financial software market as a means of becoming a central player in the global financial system. Critics argued that, by dominating the point of access (the individual personal computer) to online banking, Microsoft believed that it may be possible to receive a small share of the value of each of the billions of future personal banking transactions once online banking became the norm. With a similar goal in mind, Intuit was trying to have its widely used financial software package, Quicken, incorporated into the financial standards of the global banking system. In 1994, Intuit had acquired the National Payment Clearinghouse Inc., an electronic bill payments system integrator, to help the company develop a sophisticated payments system. By 1995, Intuit had sold more than 7 million copies of Quicken and had about 300,000 bank customers using Quicken to pay bills electronically. In contrast, efforts by Microsoft to penetrate the personal financial software market with its own product, Money, were lagging badly. Intuit’s product, Quicken, had a commanding market share of 70% compared to Microsoft’s 30%. In 1994 Microsoft made a $1.5 billion offer for Intuit. Eventually, it would increase its offer to $2 billion. To appease its critics, it offered to sell its Money product to Novell Corporation. Almost immediately, the Justice Department challenged the merger, citing its concern about the anticompetitive effects on the personal financial software market. Specifically, the Justice Department argued that, if consummated, the proposed transaction would add to the dominance of the number-one product Quicken, weaken the number two-product (Money), and substantially increase concentration and reduce competition in the personal finance/checkbook software market. Moreover, the DoJ argued that there would be few new entrants because competition with the new Quicken would be even more difficult and expensive. Microsoft and its supporters argued that government interference would cripple Microsoft’s ability to innovate and limit its role in promoting standards that advance the whole software industry. Only a Microsoft–Intuit merger could create the critical mass needed to advance home banking. Despite these arguments, the regulators would not relent on their position. On May 20, 1995, Microsoft announced that it was discontinuing efforts to acquire Intuit to avoid expensive court battle with the Justice Department. -Do you believe that the FTC might approve of Microsoft acquiring Intuit today? Why or why not?

Discuss the pros and cons of federal antitrust laws.

Efficiencies rarely are considered by antitrust regulators in determining whether to accept or reject a proposed merger.

Foreign direct investment in U.S. companies that may threaten national security is regulated by which of the following:

All of the following is true about proxy contests except for

Case Study Short Essay Examination Questions Regulatory Challenges in Cross-Border Mergers Such mergers entail substantially greater regulatory challenges than domestic M&As. Realizing potential synergies may be limited by failure to receive support from regulatory agencies in the countries in which the acquirer and target firms have operations. ______________________________________________________________________________________ European Commission antitrust regulators formally blocked the attempted merger between the NYSE Group and Deutsche Borse on February 4, 2012, nearly one year after the exchanges first announced the deal. The stumbling block appeared to be the inability of the parties involved to reach agreement on divesting their derivatives trading markets. The European regulators argued that the proposed merger would result in the combined exchanges obtaining excessive pricing power without the sale of the derivatives trading markets. The disagreement focused on whether the exchange was viewed as primarily a European market or a global market. The NYSE Group is the world’s largest stock and derivatives exchange, as measured by market capitalization. A product of the combination of the New York Stock Exchange and Euronext NV (the European exchange operator), the NYSE Group reversed the three-year slide in both its U.S. and European market share in 2011. The slight improvement in market share was due more to an increase in technology spending than any change in the regulatory environment. The key to unlocking the full potential of the international exchange remained the willingness of countries to harmonize the international regulatory environment for trading stocks and derivatives. Valued at $11 billion, the mid-2007 merger created the first transatlantic stock and derivatives market. Organizationally, the NYSE Group operates as a holding company, with its U.S. and European operations run largely independently. The combined firms trade stocks and derivatives through the New York Stock Exchange, on the electronic Euronext Liffe Exchange in London, and on the stock exchanges in Paris, Lisbon, Brussels, and Amsterdam. In recent years, most of the world’s major exchanges have gone public and pursued acquisitions. Before this 2007 deal, the NYSE merged with electronic trading firm Archipelago Holdings, while NASDAQ Stock Market Inc. acquired the electronic trading unit of rival Instinet. This consolidation is being driven by declining trading fees, improving trading information technology, and relaxed cross-border restrictions on capital flows and in part by increased regulation in the United States. U.S. regulation, driven by Sarbanes-Oxley, contributed to the transfer of new listings (IPOs) overseas. The strategy chosen by U.S. exchanges for recapturing lost business is to follow these new listings overseas. Larger companies that operate across multiple continents also promise to attract more investors to trading in specific stocks and derivatives contracts, which could lead to cheaper, faster, and easier trading. As exchange operators become larger, they can more easily cut operating and processing costs by eliminating redundant or overlapping staff and facilities and, in theory, pass the savings along to investors. Moreover, by attracting more buyers and sellers, the gap between prices at which investors are willing to buy and sell any given stock (i.e., the bid and ask prices) should narrow. The presence of more traders means more people are bidding to buy and sell any given stock. This results in prices that more accurately reflect the true underlying value of the security because of more competition. The cross-border mergers also should make it easier and cheaper for individual investors to buy and sell foreign shares. Before these benefits can be fully realized, numerous regulatory hurdles have to be overcome. Even if exchanges merge, they must still abide by local government rules when trading in the shares of a particular company, depending on where the company is listed. Companies are not eager to list on multiple exchanges worldwide because that subjects them to many countries’ securities regulations and a bookkeeping nightmare. At the local level, little has changed in how markets are regulated. European companies list their shares on exchanges owned by the NYSE Group. These exchanges still are overseen by individual national regulators. In the United States, the SEC still oversees the NYSE but does not have a direct say over Europe, except in that it would oversee the parent company, the NYSE Group, since it is headquartered in New York. EU member states continue to set their own rules for clearing and settlement of trades. If the NYSE and Euronext are to achieve a more unified and seamless trading system, regulators must reach agreement on a common set of rules. Achieving this goal seems to remain well in the future. Consequently, it may be years before the anticipated synergies are realized. -What are the key challenges facing regulators resulting from the merger of financial exchanges in different countries? How do you see these challenges being resolved?

Transactions involving firms in different countries are complicated by having to deal with multiple regulatory jurisdictions in specific countries or regions.

BHP Billiton and Rio Tinto Blocked by Regulators in an International Iron Ore Joint Venture The revival in demand for raw materials in many emerging economies fueled interest in takeovers and joint ventures in the global mining and energy sectors in 2009 and 2010. BHP Billiton (BHP) and Rio Tinto (Rio), two global mining powerhouses, had hoped to reap huge cost savings by combining their Australian iron ore mining operations when they announced their JV in mid-2009. However, after more than a year of regulatory review, BHP and Rio announced in late 2010 that they would withdraw their plans to form an iron ore JV corporation valued at $116 billion after regulators in a number of countries indicated that they would not approve the proposal due to antitrust concerns. BHP and Rio, headquartered in Australia, are the world’s largest producers of iron ore, an input critical to the production of steel. Together, these two firms control about one-third of the global iron ore output. The estimated annual synergies from combining mining and distribution operations of the two firms were estimated to be $10 billion. The synergies would come from combining BHP’s more productive mining capacity with Rio’s more efficient distribution infrastructure, enabling both firms to eliminate duplicate staff and redundant overhead and BHP to transport its ore to coastal ports more cheaply. The proposal faced intense opposition from the outset from steel producers and antitrust regulators. The greatest opposition came from China, which argued that the combination would concentrate pricing power further in the hands of the top iron ore producers. China imports about 50 million tons of iron ore monthly, largely from Australia, due to its relatively close proximity. The European Commission, the Australian Competition and Consumer Commission, the Japan Fair Trade Commission, the Korea Fair Trade Commission, and the German Federal Cartel Office all advised the two firms that their proposal would not be approved in its current form. While some regulators indicated that they would be willing to consider the JV if certain divestitures and other “remedies” were made to alleviate concerns about excessive pricing power, others such as Germany said they would not approve the proposal under any circumstances. -Why do you believe the antitrust regulators were successful in this instance but so unsuccessful limiting the powers of cartels such as the Organization of Petroleum Exporting Countries (OPEC), which currently controls more than 40 percent of the world's oil production?

How does the approval of a merger involving a firm in Chapter 11 complicate decision making for regulators?

Federal antitrust laws exist to prevent individual corporations from assuming too much market power such that they can limit their output and raise prices without concern for any significant competitor reaction.

A typical consent decree for firms involved in a merger requires the merging parties to divest overlapping businesses or to restrict anticompetitive practices.

How the Microsoft Case Could Define Antitrust Law in the “New Economy” The Microsoft case was about more than just the software giant’s misbehavior. Antitrust law was also on trial. When the Justice Department sued Microsoft in 1998, it argued that the century old Sherman Antitrust Act could be applied to police high tech monopolies. This now looks doubtful. As the digital economy evolves, it is likely to be full of natural monopolies (i.e., those in which only one producer can survive, in hardware, software, and communications), since consumers are motivated to prefer products compatible with ubiquitous standards. Under such circumstances, monopolies emerge. Companies whose products set the standards will be able to bundle other products with their primary offering, just like Microsoft has done with its operating system. What type of software can and cannot be bundled continues to be a thorny issue for antitrust policy. Although the proposed remedy did not stand on appeal, the Microsoft case had precedent value because of the perceived importance of innovation in the information-based, technology-driven “new economy.” This case illustrates how “trust busters” are increasingly viewing innovation as a central issue in enforcement policy. Regulators increasingly are seeking to determine whether proposed business combinations either promote or impede innovation. Because of the accelerating pace of new technology, government is less likely to want to be involved in imposing remedies that seek to limit anticompetitive behaviors by requiring the government to monitor continuously a firm’s performance to a consent decree. In fact, the government’s frustration with the ineffectiveness of sanctions imposed on Microsoft in the early 1990s may have been a contributing factor in their proposal to divide the firm. Antitrust watchdogs are likely to pay more attention in the future to the impact of proposed mergers or acquisitions on start-ups, which are viewed as major contributors to innovation. In some instances, business combinations among competitors may be disallowed if they are believed to be simply an effort to slow the rate of innovation. The challenge for regulators will be to recognize when cooperation or mergers among competitors may provide additional incentives for innovation through a sharing of risk and resources. However, until the effects on innovation of a firm’s actions or a proposed merger can be more readily measured, decisions by regulators may appear to be more arbitrary than well reasoned. The economics of innovation are at best ill-defined. Innovation cycles are difficult to determine and may run as long as several decades between the gestation of an idea and its actual implementation. Consequently, if it is to foster innovation, antitrust policy will have to attempt to anticipate technologies, markets, and competitors that do not currently exist to determine which proposed business combinations should be allowed and which firms with substantial market positions should be broken up. -Was Microsoft a good antitrust case in which to test the effectiveness of antitrust policy on promoting innovation? Why or why not?

Case Study Short Essay Examination Questions Regulatory Challenges in Cross-Border Mergers Such mergers entail substantially greater regulatory challenges than domestic M&As. Realizing potential synergies may be limited by failure to receive support from regulatory agencies in the countries in which the acquirer and target firms have operations. ______________________________________________________________________________________ European Commission antitrust regulators formally blocked the attempted merger between the NYSE Group and Deutsche Borse on February 4, 2012, nearly one year after the exchanges first announced the deal. The stumbling block appeared to be the inability of the parties involved to reach agreement on divesting their derivatives trading markets. The European regulators argued that the proposed merger would result in the combined exchanges obtaining excessive pricing power without the sale of the derivatives trading markets. The disagreement focused on whether the exchange was viewed as primarily a European market or a global market. The NYSE Group is the world’s largest stock and derivatives exchange, as measured by market capitalization. A product of the combination of the New York Stock Exchange and Euronext NV (the European exchange operator), the NYSE Group reversed the three-year slide in both its U.S. and European market share in 2011. The slight improvement in market share was due more to an increase in technology spending than any change in the regulatory environment. The key to unlocking the full potential of the international exchange remained the willingness of countries to harmonize the international regulatory environment for trading stocks and derivatives. Valued at $11 billion, the mid-2007 merger created the first transatlantic stock and derivatives market. Organizationally, the NYSE Group operates as a holding company, with its U.S. and European operations run largely independently. The combined firms trade stocks and derivatives through the New York Stock Exchange, on the electronic Euronext Liffe Exchange in London, and on the stock exchanges in Paris, Lisbon, Brussels, and Amsterdam. In recent years, most of the world’s major exchanges have gone public and pursued acquisitions. Before this 2007 deal, the NYSE merged with electronic trading firm Archipelago Holdings, while NASDAQ Stock Market Inc. acquired the electronic trading unit of rival Instinet. This consolidation is being driven by declining trading fees, improving trading information technology, and relaxed cross-border restrictions on capital flows and in part by increased regulation in the United States. U.S. regulation, driven by Sarbanes-Oxley, contributed to the transfer of new listings (IPOs) overseas. The strategy chosen by U.S. exchanges for recapturing lost business is to follow these new listings overseas. Larger companies that operate across multiple continents also promise to attract more investors to trading in specific stocks and derivatives contracts, which could lead to cheaper, faster, and easier trading. As exchange operators become larger, they can more easily cut operating and processing costs by eliminating redundant or overlapping staff and facilities and, in theory, pass the savings along to investors. Moreover, by attracting more buyers and sellers, the gap between prices at which investors are willing to buy and sell any given stock (i.e., the bid and ask prices) should narrow. The presence of more traders means more people are bidding to buy and sell any given stock. This results in prices that more accurately reflect the true underlying value of the security because of more competition. The cross-border mergers also should make it easier and cheaper for individual investors to buy and sell foreign shares. Before these benefits can be fully realized, numerous regulatory hurdles have to be overcome. Even if exchanges merge, they must still abide by local government rules when trading in the shares of a particular company, depending on where the company is listed. Companies are not eager to list on multiple exchanges worldwide because that subjects them to many countries’ securities regulations and a bookkeeping nightmare. At the local level, little has changed in how markets are regulated. European companies list their shares on exchanges owned by the NYSE Group. These exchanges still are overseen by individual national regulators. In the United States, the SEC still oversees the NYSE but does not have a direct say over Europe, except in that it would oversee the parent company, the NYSE Group, since it is headquartered in New York. EU member states continue to set their own rules for clearing and settlement of trades. If the NYSE and Euronext are to achieve a more unified and seamless trading system, regulators must reach agreement on a common set of rules. Achieving this goal seems to remain well in the future. Consequently, it may be years before the anticipated synergies are realized. -In what way are these regulatory issues similar or different from those confronting the SEC and state regulators and the European Union and individual country regulators?

European antitrust policies differ from those in the U.S. in what important way?

The purpose of the 1968 Williams Act was to