SLC/SIEC vs. Dominance: The GAP SLC/SIEC vs. Dominance: The GAP! Ioannis Kokkoris Economist Mergers, Office of Fair Trading, Durham University, City University, King’s College London presented at the “The Reform of EC and Greek Competition Law” June 1-2, 2007 These views are of the authors and do not represent views of the Office of Fair Trading.

Main issue of this presentation is the existence of the so-called “gap” in the application of the dominance test to mergers that lead to non- coordinated effects. The dominance test was changed to the SIEC test in 2004. Too much jargon!!!

Old ECMR (Regulation 4064/89) Substantive test for assessing mergers: Dominance test Article 2 (3): “A concentration which creates or strengthens a dominant position as a result of which effective competition would be significantly impeded in the common market or in a substantial part of it shall be declared incompatible with the common market.” Ex post assessment of the effects of a merger

The “Gap” Under the dominance test, mergers were likely to be blocked if: they led to a single firm being dominant in the market (single firm dominance) or a number of firms colluding (collective dominance). What about mergers that lead neither to a firm being dominant, nor to firms colluding?

SLC/SIEC vs. Dominance Test In favour Follows a structural approach that places excessive emphasis on market definition and market shares and gives greater weight to competitor concerns. Most EU Member States adhere to the dominance test. A move to SLC would inhibit the harmonisation of national competition laws and would enhance legal uncertainty.

Against May fail to forbid anti-competitive mergers between non- dominant firms. The two tests, whilst differently worded, pursue the same objective of preventing the anti-competitive effects of concentrations. Any discrepancy in the outcomes of the two tests will not be the result of different analysis or different assessment factors. But will depend on the diverse implications that these factors may have in the various market structures.

SLC/SIEC test In favour Suitability of the test as an economics-based tool used to assess the competitive effect of mergers. The SLC/SIEC test would bring the ECMR in line with other international competition regimes (UK, USA), making international cooperation more likely. The SLC/SIEC test detaches the substantive test for mergers from the control of abusive behaviour under Article 82 which also focuses on “dominance”. Ioannis Kokkoris

Against Uncertainty it would introduce at least for a transitional period. Considerable precedent on the dominance test thus unpredictability would arise regarding the interpretation of the new standards of the SLC/SIEC test. The Commission might adopt an interventionist approach to mergers. The main difference between the two tests appears to be the emphasis that is placed on market definition. Under the dominance test, market definition plays a crucial role as a prima facie indication of anti-competitive effects, Whilst the focus of the SLC test lies on the impact of the merger on existing competitive constraints.

Recast ECMR (Regulation 139/2004) New substantive test: Significant Impediment to Competition Test (SIEC) Article 2(3): “a concentration which would significantly impede effective competition, in the common market or in a substantial part of it, in particular as a result of the creation or strengthening of a dominant position, shall be declared incompatible with the common market”

Reversal of the two “limbs” of the test. Thus, creation or strengthening of a dominant position is only one of the possible cases under which a merger may be incompatible with the common market. “Closes the gap”. It captures “non-collusive oligopolies” or “mergers leading to non-coordinated effects”. Although such mergers lead neither to single firm dominance, nor to collective dominance, they significantly reduce the competitive constraints on the incumbents.

Draft Commission Notice Caselaw Draft Commission Notice Guidelines Single firm dominance Paramount market position Non-coordinated effects “The Gap” Non-collusive oligopolies Collective dominance Coordinated effects

How many “gap” cases if any? It would be interesting to see how many cases already exist in the current caselaw. Some possible examples: Airtours/First Choice (dominance test-blocked), Oracle/Peoplesoft (dominance test-cleared), Sony/BMG (dominance test-cleared), T- Mobile/Tele.ring (SIEC-cleared). As caselaw develops under the SIEC test, more gap cases will be identified.

Airtours/First Choice The relevant product market: supply to tour operators of seats on charter flights to short-haul destinations. The relevant geographic market is the United Kingdom. Major tour operators in 1998 were Thomson (30.7% of the market), Airtours (19.4% of the market), Thomas Cook (20.4% of the market) and First Choice (15% of the market).

Post Merger No single firm being dominant: Airtours/First Choice: 34.5% Thomson: 30.7% Thomas Cook: 20.4% Cosmos/Avro: 2.9% Certain features of the market such as the high degree of price transparency and multi-market contacts among the major airlines may facilitate coordinated behaviour

CFI annulled Commission’s decision. the demand was volatile, capacity planning was complex with slow capacity changes, the market was not transparent in the capacity planning period, lack of barriers to entry and consumers could easily switch to other types of foreign package holidays such as long haul package holidays. No factors indicating likelihood of collective dominance as also outlined in an MMC report on foreign package holidays in UK in 1997.

Is it a “Gap”? Yes the merger would lead neither to single firm dominance nor collective dominance. Commission blocked the merger because it alleged it would lead to collective dominance. CFI annulled the decision in 2002 and set out strict criteria for a finding of collective dominance such as: transparency, retaliatory mechanisms, reaction of competitors and consumers.

Oracle/Peoplesoft Relevant markets: high-function FMS and HR software applications of global dimension. Market for software applications for mid-size enterprises formed a separate market from the markets for high- function FMS and HR solutions. SAP would remain the strongest player in the FMS market, followed by Oracle/PeopleSoft. Other significant players: Sage, Microsoft MBS, Hyperion, Systems Union and Lawson. HR mid-market: Oracle/PeopleSoft would become the strongest player, closely followed by SAP. Other significant players: Kronos, Lawson, Sage, Microsoft MBS.

Para 187 of the Oracle/Peoplesoft: “In the statement of objections the Commission based its concerns in part on the finding that significant non- coordinated effects would arise from the transaction. In the reply to the statement of objections, Oracle contested the Commission’s competence to assess such effects under the dominance test incorporated in Regulation (EEC) No 4064/89. It is not necessary to address Oracle’s submission on the lack of competence as, on the basis of the new evidence obtained after the Oral Hearing, it has been concluded that no such anticompetitive effects are likely to result from the merger.”

SAP and Oracle/Peoplesoft had: similar market shares in an innovative bidding market with differentiated products Thus, a credible allegation of single firm dominance was difficult to allege. The merger would decrease the intensity of competition in the market, leading to significant adverse effects on customers in terms of price, product variety, product quality, and innovation.

Price was not necessarily the most important factor in the choice of a customer; (non-price factors such as breadth and depth of the functionality offerings, the proven track record of the supplier, the capability to offer EAS solutions to complex organisations and the scalability of those solutions were more important). The merger, would reduce the choices of customers. Remaining incumbents (smaller firms-Lawson, Microsoft etc.) would not fully and effectively counteract this loss in choice with a selection of equal in quality and effectiveness products.

In such an innovative market, barriers to entry might have been high, and the likelihood of new entry low. During the US trial more credible competitors were identified. The Commission adopted this amended market definition. The Commission did not uphold its preliminary conclusion that customers would be confronted with a de facto absence of choice post-merger, and cleared the merger. But Lawson, Intentia, IFS, QAD and Microsoft. Those vendors won in only a limited number of bids.

Remaining smaller players were not in a position to pose a significant competitive constraint on the merged entity as well as on SAP. They would not offer a credible alternative to SAP and Oracle/Peoplesoft. Based on the nature of competition in this market, characterised by product differentiation, customisation, knowledge of the customer, as well as innovation, the merger was likely to induce anticompetitive effects. Conducting an event study analysis for the merging parties as well as for rival firms, would provide useful insights of the likely expectation of the market of the profitability of the firms resulting from a merger.

In an event study we compare the actual stock price returns of the merging parties and competitors around the announcement date of the merger with a counterfactual measure of what the return would have been had the merger not taken place. Both the market analysis and event study illustrated that the market expected Oracle/Peoplesoft to induce an adverse impact on competition in the post-merger market. The merger could not be blocked though under the dominance test applied by the Commission. Had it applied the SIEC the merger could have been blocked/cleared with remedies.

Sony/BMG Sony/BMG would be the second strongest firm in the post- merger market. The majors (BMG, Sony, Universal Music Group, EMI and Warner Music Group) accounted for a large share of the market for recorded music, and especially for international acts. A national market for recorded music which the parties considered as including A&R, and the promotion, sales and marketing of recorded music. In addition, the Commission defined national markets for online music markets, music publishing.

The Commission further analysed whether the markets for recorded music were characterised by features facilitating collective dominance. Due to the deficits in actual transparency, the partly heterogeneous product characteristics and the lack of actual evidence as regards retaliatory action in the past, such allegation was not sustained. Given the emerging state of the online music market and the current structure of prices and usage conditions, as well as limited transparency and lack of retaliation a collective dominant position could not be alleged.

The market characteristics of the recorded music business and the heterogeneity of the product might result in post- merger price increases. The incumbent large players would not fully compensate for the decrease in the quantity by the other incumbents or benefit from the other incumbents’ increase in price. The independents were not close competitors of the majors and could not impose effective competitive constraints. Neither countervailing buyer power nor de novo entry was likely to pose credible constraints on the likely harmful conduct of the incumbents in the post-merger market.

Post-merger the majors were likely to have less incentive to compete. They could benefit from price increases due to, inter alia, the heterogeneity of the product, the ineffective competitive constraints imposed by the independents, and the likely significant barriers to entry. The results arising from an event study indicated that the Commission’s decision contradicts the investors’ perception on the day of the initial significant dissemination of information. Both the market analysis and event study illustrated that the market expected Sony/BMG to induce an adverse impact on competition in the post-merger market.

T-Mobile/Tele.ring T-Mobile and Tele.ring were a provider of mobile and fixed telephony services in Austria. A single national market existed for the provision of mobile telephony services to end customers, in so far as they could be provided on both a 2G and a 3G basis. Four main companies: Mobilkom (a subsidiary of Telekom Austria), T-Mobile, ONE and Tele.ring. Market share of the merged entity was 30-40%, while Mobilkom had 35-45%, ONE had 15-25% and H3G had under 5%.

The Commission analysed: market shares the HHI customer switching price development incentive structures importance of national network network capacity the role of other competitors the future development of Tele.ring

Limited customer switching between the merged entity and Mobilkom. Unlikely that H3G or ONE/YESSS! would occupy a place in the market comparable with that of Tele.ring once the transaction was completed. Or that they would be able to discipline the competitive behaviour of the merged entity and Mobilkom. Thus, both Mobilkom and Tele.ring/T-Mobile could unilaterally increase prices in the post-merger market.

Thus, a finding of non-coordinated effects is not limited to a situation where the merging parties are the closest competitors to each other. The Commission did not rule out the possibility that the proposed merger, may also lead to coordinated effects. Surprising since the market features of coordinated and non-coordinated effects differ. The Commission excluded the analysis of coordinated effects from the decision. Both the market analysis and event study illustrated that the market expected T-Mobile/Tele.ring not to induce an adverse impact on competition in the post-merger market.

Criteria for “gap” cases? Merging parties are close/closest substitutes; Merged entity and other incumbents are not close substitutes; Differentiation between products; Repositioning of market players is not likely; Entry is not easy; Lack of post-merger synergies (efficiencies); Customers have limited possibilities of switching supplier; Competitors are unlikely to increase supply if prices increase; Merged entity is able to hinder expansion by competitors; and Merger eliminates an important competitive force;

Concluding Remarks There was a gap! Other cases include: Syngenta/Advanta etc. Gap cases can exist both under ECMR and national legislations Change in the Regulation was justified. The SIEC rectifies the gap. Policy implications: Some Member States still adhere to dominance test, thus anticompetitive mergers may be cleared “Forum shopping” towards such Member States