Unilateral Effects Case Study:The Whole Foods/Wild Oats Merger

Competition Commission of IndiaOctober 25-26, 2010

2

• Whole Foods Market (WFM) and Wild Oats (WO) were national supermarket chains selling organic and natural foods

• WO was in financial difficulty

• WFM sought to acquire WO • FTC alleged that WFM and WO competed “head to head” in 21

geographic markets and claimed that the merger would create a monopoly in “premium natural and organic supermarkets” in nearly all of those markets

I. IntroductionBackground to the Merger

NUGGET

MINER

NUGGET

MINER

NUGGET

MINER

NUGGET

MINER

NUGGET

MINER

NUGGET

MINER

Wild Oats

Whole Foods

Store Locations

3

I. IntroductionKey Antitrust Issues

• Did WFM and WO constrain each others’ prices to such a degree that the merged firm would be able to profitably raise prices without fear of significant customer diversion to “conventional” supermarket chains?

• Central issues– Product market definition / direct evidence of effects

FTC alleged market was “premium natural and organic supermarkets” In a broader product market, WFM and WO had very small shares (usually <5%)

– Consumers’ willingness to switch to “conventional” supermarkets FTC contended there were many “core customers” who would not switch Parties contended that most consumers cross-shop and many would switch, and that price

discrimination against remaining “core customers” was infeasible

– Ease of repositioning, expansion and entry FTC argued supply responses would be unlikely, untimely and insufficient Parties pointed to many examples of repositioning and entry, and event study analysis

4

II. Product Market DefinitionFTC’s Argument and Analysis

• Product market is “premium natural and organic supermarkets” (PNOS)– WFM, WO and a very few local niche competitors

• Qualitative evidence – WFM and WO stores looked most alike among all competitive alternatives– WFM tended to located its stores in close proximity to WO– Internal documents reflecting historical rivalry– Testimony from WFM CEO downplayed competition from “conventional” chains– Testimony that merger would avoid “nasty price wars”

• Empirical evidence– When a WFM store opened near a WO, it took substantial sales away from WO– Generally supported by WFM’s internal analyses– WFM margins generally higher than “conventional” supermarkets’ margins– WFM margins tended to be lower in markets with a WO store present

• FTC did not attempt formal SSNIP test, favoring Staples approach primarily focused on margins analysis (and qualitative evidence)

5

II. Product Market Definition Parties’ Argument and Analysis

• Product market includes multiple other competitors — conventional supermarkets, specialty food retailers, club stores, mass merchants

• Qualitative evidence– Conventional chains carried many of the same products– Internal business documents recognize competition from non-PNOS supermarkets– WFM regularly price-checked conventional supermarkets– WFM tracked entry and store remodeling by conventional supermarkets

• Empirical evidence– Price analyses showed uniform regional pricing by WFM and WO: prices did not

seem to vary based on WO’s presence or absence– Event studies showed no evidence of significant price responses following WFM store

openings and WO store closings

• Parties contrasted absence of direct price effects evidence with Staples case to argue market was much broader than PNOS

6

II. Product Market – Direct Effects Evidence Event Study Analysis

• Natural experiments– Entries of WFM stores near existing WO stores and exits of WO stores near

existing WFM stores

– Opening a WFM store should have little effect on WO if WO’s pricing was already constrained by conventional supermarkets and great effect if it was not

– Closing a WO store should have had little effect on WFM if conventional supermarkets constrained WFM’s pricing and great effect if they did not

• Compare average weekly prices paid by shoppers for thousands of grocery items sold by WFM and WO before and after the entry and exit events

– Compare item pricing at “treatment stores” (nearby to entries and exits) versus “control stores” (in same region, but not close to entries and exits)

• Compare before vs. after prices on an item-by-item basis

7

II. Product Market – Direct Effects Evidence Price Change Comparison, Wild Oats Exits

Source: Whole Foods Market

http://www.wholefoodsmarket.com/ftchearingupdates/

8

II. Product Market – Direct Effects Evidence Price Change Comparison, Whole Foods Entry

Source: Whole Foods Market

http://www.wholefoodsmarket.com/ftchearingupdates/

9

II. Product Market Definition Discussion Issues

• How useful / informative is market definition in a highly differentiated product merger?

• Should direct evidence of competitive effects be viewed as a substitute or complement to formal market definition?

• What are the risks to defining the market unduly narrowly – e.g., PNOS rather than “all supermarkets”?

• How should quantitative evidence (data) vs. qualitative evidence (documents, testimony) be weighed and reconciled when they appear to be at tension?

10

II. Product Market – Direct Effects EvidenceFurther Readings

• Carlton Varner and Heather Cooper, “Product Markets in Merger Cases: The Whole Foods Decision,” Antitrust Source October 2007 http://www.abanet.org/antitrust/at-source/07/10/Oct07-Varner.pdf

• Jonathan B. Baker and David Reitman, “Research Topics in Unilateral Effects Analysis,” http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1504863

• FTC Unilateral Effects Analysis and Litigation Workshop, February 12, 2008 transcript http://www.ftc.gov/bc/unilateral/transcript.pdf

11

III. Consumers’ Willingness to Switch FTC’s Argument and Analysis

• WFM and WO marketed themselves to a core clientele

• “Core customers” would not switch to non-PNOS competitors– Products and services were highly differentiated

• Even if many consumers would switch, core customers would be subject to price discrimination– Higher prices?

– Reduced shopping convenience?

12

III. Consumers’ Willingness to Switch Parties’ Argument and Analysis

• Parties contended that consumers cross–shop widely – WFM and WO documents– Consumer survey findings– Observations from the real world

• No identifiable mechanism to price discriminate against “core” customers– Conditions to support price discrimination were absent

• “Critical loss analysis”– Calculate minimum loss of sales needed to make a post-merger

price increase unprofitable– Qualitative evidence on whether “enough” consumers would switch

or divert their purchases to make the price increase unprofitable

13

III. Consumers’ Willingness to Switch Issues for Discussion

• Who defines the relevant market – the core customer or the marginal customer? – The marginal customer determines price, absent price

discrimination

– The marginal customer defines the boundaries of the market, absent price discrimination

• What needs to be proven to support price discrimination markets?– Identify targeted buyers with inelastic demand

– Charge higher prices to targeted customers

– Prevent re-sale (arbitrage) from low-price to high-price buyers

– Prevent customer diversion to substitute products

14

III. Consumers’ Willingness to Switch Further Reading

• Sumanth Addanki and Alan J. Daskin, “Who Defines the Relevant Market – The Core Customer or the Marginal One?,” NERA Antitrust Insights, Summer 2008 http://lawprofessors.typepad.com/antitrustprof_blog/files/insights_summer_2008.pdf

• Charles J. Biggio, “Whole Foods’ Impact on Unilateral Effects,” Global Competition Policy, September 2008 http://www.wsgr.com/PDFSearch/wholefoods0908.pdf

15

IV. Repositioning, Expansion and Entry FTC’s Argument and Analysis

• Barriers to supply-side responses– Reputational barriers– Conventionals would need to “abandon” their own “core” customers– WFM/WO “core” customers would not switch

• Likelihood, timeliness, sufficiency– Unlikely – see above– Not timely – reputational barriers? – Insufficient – past examples were limited and did not elicit significant

responses from WFM or WO

• Elasticities should already reflect the effects of repositioning on the likelihood of a unilateral post-merger price increase

16

IV. Repositioning, Expansion and Entry Parties’ Argument and Analysis

• No barriers to supply-side responses– Competitors had strong motive and means to enter/expand

– Uncommitted entry was feasible

• Multiple significant entries had taken place and were ongoing– Conventional stores’ private labels

– Stores within a store

– New store concepts and banners

17

IV. Repositioning, Expansion and EntryEmpirical Analysis

• Direct effects evidence also can come from analyzing other events – entries, expansions, repositioning by competitors alleged to be outside of the product

• Supply-side responses by non-market participants should not affect prices by firms within the alleged market

• Event studies – Conventional entries and remodelings affected WFM and WO prices

―oftentimes by more than WFM entries and WO exits

18

IV. Repositioning, Expansion and Entry Issues for Discussion

• How high are the evidentiary hurdles to assess likely, timely and sufficient supply responses?

• How probative are case examples of past entry?

• How should the possibility of post-merger repositioning by the merging firms be factored into the unilateral effects analysis?

19

IV. Repositioning, Expansion and Entry Further Reading

• Peter Boberg and John Woodbury, “Repositioning and the Revision of the Horizontal Merger Guidelines,” Antitrust Source December 2009 http://www.abanet.org/antitrust/at-source/09/12/Dec09-Boberg12-17f.pdf

• Amit Gandhi, Luke Froeb, Steven Tschantz and Gregory J. Werden, “Post-Merger Product Repositioning,” Journal of industrial Economics 2008

20

V. Relevant Case Materials Further Reading

• Complaint

http://www.ftc.gov/os/caselist/0710114/070605complaint.pdf

• FTC’s economic expert reports http://www.ftc.gov/os/caselist/0710114/070823murphy.pdf

http://www.ftc.gov/os/caselist/0710114/070823rebutmurphy.pdf

http://www.ftc.gov/os/caselist/0710114/070823rebutmurphy.pdf

• District Court opinion http://www.ftc.gov/os/caselist/0710114/0710114dcopinpub.pdf

• Court of Appeals opinion

http://www.ftc.gov/os/caselist/0710114/080729wholefoodsopinion.pdf

•