Pehr-Johan Norbäck, Institutet för Näringslivsforskning

Lars Persson, Institutet för Näringslivsforskning

The impact of cross-border M&As in services

Policy issues

Background

• Strong increase in FDI during the last decades

Welcoming attitude towards inward FDI in general

Development of new technologies (IT)

Increasing FDI in the world economy

0

10

20

30

40

50

60

1980 1985 1990 1995 2000 2004

Sweden

Developed countries

Source: WIR (1997, 2005)

Percentage of GDP

Stock of inward FDI (world)

Background, cont

• The composition of FDI has shifted towards services

• Mergers and Acquisitions is a major driving force in the increase of FDI in services

M&As in services increasingly important

Cross-border M&A's: 1987-2004

0

200000

400000

600000

800000

1000000

1200000

1400000

Mill

ions

of U

SD

Services

Manufacturing

Primary

Source: UNCTAD. Current values. By purchaser.

Policy issues

Concern 1: Cross-border M&As, in contrast to greenfield FDI, are driven by market power motives hurting consumers

Concern 2: Strong foreign entrants will be able to acquire domestic firms at “too low” a price

Concern 3: Obstacles for FDI in the service sector (EU)

Purpose

• Develop a theoretical framework to analyze:

Driving forces of cross-border M&As and greenfield investments (new ventures) in service markets

The welfare impact of cross-border M&As and greenfield investments in service markets

• Examine:

Cross-border merger policy Privatization policy

• Stylized Fact 1: Service markets have high trade and entry barriers

→ Oligopoly interaction

• Stylized Fact 2: M&As are the dominating entry mode of FDI in services

→ M&As can increase the risk of abuse of market power

• Stylized Fact 3: MNEs are typically the most efficient firms in their industries

→ Potential synergies from M&As

Theoretical framework

Theoretical framework, cont

Theoretical framework capturing these stylized facts:

1. MNEs bid for the domestic firm

2. MNEs can invest in new assets

3. Firms interact in an oligopolistic service market

Cross-border M&A policy

• We compare:

– A discriminatory policy which allows for greenfield investments (new ventures) but not cross-border M&As

– A non-discriminatory policy which allows both greenfield investments and cross-border M&As

Cross-border M&A policy

Result 1: Restrictions on foreign acquisitions can increase welfare when synergies are low

• A market power driven foreign acquisition can be an alternative to a more pro-competitive greenfield entry

– Domestic owners break-even from selling

– Higher consumer prices due to a more concentrated market and lower efficiency

• However, for a foreign acquisition to take place, the MNE must be sufficiently efficient

Cross-border M&A policy, cont

• Result 2: Foreign acquisitions can increase the welfare if synergies are sufficiently large

a) Increased productivity in the merged firm tends to lead to lower consumer prices

b) Bidding competition among MNEs leads to the selling domestic firm getting a large share of the surplus

Example preemptive acquisition

• In November 2000, Banco Santander Central Hispanio (BSCH) won a controlling minority stake in Banespa, in competition with its Spanish rival Banco Bilbao Vizcaya Argentaria (BBVA)

• According to Business Week (April 23, 2001): "It cost an astronomical $3.55 billion, but it put BSCH back on top"

100

T

P

T P

C

ConsumerSurplus

ProducerSurplus

T

CSD

CSND

1 T P

CSd

PSD

PSND

vmm

vd

00

No acquisitionTakeoveracquisition Preemptive acquisition:

No acquisitionTakeoveracquisition Preemptive acquisition:

Acquistionsnot allowed

Acquistionsallowed

Acquistionsnot allowed

Acquistionsallowed

Inefficientacquisition

Synergies,

Synergies,

Domestic Competition Policy

• EU has documented severe obstacles for greenfield investments in the service sector.

• Can cross-border acquisitions mitigate this problem?

• Result 3: For sufficiently concentrated service markets: Preemptive domestic acquisitions will take place and may preempt efficient foreign acquisitions.

Privatization policy

• Problem with lack of efficiency improvements in privatized firms

• Focus on competition effects

• Set-up:

– Government liberalize by:

• (i) selling of state firm• (ii) allowing for new investments

– One efficient MNE and one inefficient domestic firm competing to enter the market

Privatization policy, cont

• Result 4: Risk that the inefficient owner obtains the state assets without updating the technology

Selling procedure is used to limit competition:

• The domestic (inefficient) firm buys at a low price

• The MNE (efficient) obtains a strong market position

→ Both firms gain from inefficient ownership

Privatization policy, cont…

• How to avoid inefficient ownership?

• Introduce several MNEs

• Result 5: Increased competition for the market decrease the risk that owners strategically using the selling process to limit competition

– Foreign (efficient) firms then risk to not be able to enter the market if not acquiring state assets

Conclusions

• Allowing cross-border M&As can increase host countries welfare due to:– increased productivity

– bidding competition among MNEs over target firms.

• Market power driven cross-border M&As occur, but for cross-border M&As to take place, MNEs must be sufficiently efficient

• For sufficiently concentrated markets preemptive acquisitions can take place and thus competition authorities should monitor such behaviors

Conclusions, cont

• In privatizations one owner can induce another to take on the role of the weak owner

• Authorities should not only ensure competition over the privatized firm, but also competition for de-novo entry

• Merger and privatization policies, but not discriminatory policies towards foreigners, can play an important role in the development of service markets