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GE-Honeywell (2001)
Tom GiblinHadley HeathImran Ramji
Introduction The Players
General Electric http://www.youtube.com/watch?v=fViObqGvIjM&NR=1
Diverse range of products Revenues 2001 exceeded $125 billion
Honeywell http://www.youtube.com/watch?v=rCCJVuUrP-Q
Aerospace and technology Revenues 2001 were approximately $23 billion Nearly half of revenues from aerospace division
Introduction The Players Rivals
International Aero Engines Joint venture between Pratt & Whitney and Rolls
Royce
U.S. DOJ European Commission
20 members Goal: to demonstrate whether or not the
proposed merger would lead to market dominance
Two Sides of the Case Against the Merger
GE and Honeywell have dominant market positions.
Proposed merger would allow bundling of complementary products, lower prices, and an unbeatable advantage.
Ultimate exit of rivals and market dominance of merged firm.
Two Sides of the Case For the Merger
GE does not have market dominance in aircraft engines.
The proposed merger would not lead to bundling.
Without bundling, there would be no exit of rivals and no ultimate market dominance by GE.
Market Dominance The anti-merger case used the following
market shares: GE = 52.5% P&W/IAE = 26.5% RR/IAE = 21%
This combines CFMI’s sales under GE, but splits IAE’s sales into P&W and RR.
Justification: “SNECMA would act jointly with GE as a profit-maximizing entity.”
Market Dominance The pro-merger case: Inaccurate evaluation of GE’s market share If RR and P&W are not grouped as IAE,
SNECMA and GE should not be grouped. On exclusive contract sales with Boeing on
737s, GE has no ability to set prices. Therefore, exclusive contract sales should
not be part of GE’s market power evaluation.
Bundling Pure Bundling
Two products are sold together and are not available separately
Ex. Left and right shoes are not sold separately
Tying Product 1 is sold by itself, but product 2 is available only
with product 1 Ex. NFL season pass is available only with satellite TV
Mixed Bundling Two items sold separately or together, but together they
are sold at a discount price Ex. A combo meal at a fast food restaurant
Bundling Cournot
Two monopolists act independently, but together can lower prices and earn more money. Ex. Zinc and copper make brass.
Assumptions: No other firms in the market Firms set a single price to all consumers
Bundling Expansion of Cournot’s Model
Firms A1 and B1 produce good 1 Firms A2 and B2 produce good 2
This accounts for other firms in the market
Bundling Case 1: All firms act independently Results: All firms charge a price of 1 All firms make a profit = 1/2
Bundling Case 2: Bundle vs. Bundle Results: Prices fall by 50% Profits fall by 50%
Bundling Case 3: Bundle against Components Results: Firm A’s profits go from 1 to 0.91 Uncoordinated B firms’ profits go from 1 to
0.32
Mixed bundling Firm A sells bundles at 19% discount Best response of B firms is to lower
component prices This gives firm A an advantage
Market share = 55.4% Rivals’ profits fall by 21%
The Anti-Merger Case Rolls Royce presented this type of
bundling as most appropriate to this case. The EC used this model, along with an
expected increase in market size, to conclude that GE would have an economic incentive to use mixed bundling.
Considerations Existence of competitors
Accounted for in expansion of Cournot model Number of products
More products greater incentive to bundle Total market demand
Greater elasticity of demand greater incentive to bundle
Asymmetry of products More symmetry greater incentive to bundle Avionics ($100,000) and jet engines ($15 million)
Price Negotiation Cournot Assumption: One price for all. Consumers in this case are powerful. Price discrimination (not a single price)
Timing
Engines are purchased before avionics Once engine competition is won, giving a
discount on a bundle would be no different than giving an avionic discounts directly
Solution would be to promise discount on avionics before purchase of engine Wouldn’t work in avionics industry because
negotiated prices
Exit by Rivals The Commission’s belief that the merger
would lead to rival exiting is questionable Rival stock increased when merger announced
Investors predict the merger will benefits rival companies
Long term contracts Typical plane is on the market 25 years Competitors have 2/3 share of the engines on next
generation planes
Exit by Rivals Allied Signal and Honeywell merger
1999 merger between two large avionic component firms
Despite widespread bundling little effect on the market
Hypocrisy of Commission’s decision Argued Allied Signal-Honeywell bundling
effects were slow to arise Argued effects of GE-Honeywell merger would
lead to quick exit of rivals
Policy Prescriptions What possible regulations should be
enacted if the Cournot effect is large? None? – prices fall, social welfare increases EC worried about long term market exit leading
to market dominance and price increase There are a few questions to be asked
before deciding on any policies to stop possible bundling
Policy Prescriptions Is there an incentive to bundle?
Not really What is the immediate gain to consumers
from lower prices? What will be the impact on competitors? How long do we expect lower prices to
persist? If the rivals exit, what is the expected
harm?
Policy Prescriptions Nalebuff argues that the EC stopped after
question 1 In addition, they focused on market
competitiveness and did not examine the potential positive trade-offs of bundling Long-run harm vs. Short-run gain
This is not an area in which antitrust authorities should be involved
Remedies The firms could agree to not bundle their
products They would have to provide an itemized list of
individual prices However, the EC rejected this because
they preferred structural solutions over behavioral ones Even though this solution would not be difficult
to enforce
Conclusion European Commission blocked the merger According to the author
Abandoned original model, but did not replace flawed model
Used dynamic theory of predation Did not have enough support Backed away from bundling theory, but still
concluded that bundling was a reason to block merger
Discussion Two sides of the case… European Commission
Biased? Politics and “National Champions”
Author, Barry Nalebuff Biased? Economic expert for GE-Honeywell in their
presentation to the European Union Merger Task Force.
Post Script2005 Appeal to European Court of First
Instance (CFI) CFI rejected bundling argument, and was not
persuaded that GE would act anti-competitively.
But, CFI denied the appeal because the merger would create market concentration in:
Small marine gas turbines Engines for large regional jets Corporate jet aircraft engines
Even if appeal granted, it was too late.
The End