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Department of Justice and Federal Trade Commission Issue Vertical Merger Guidelines

July 8, 2020

Department of Justice and Federal Trade Commission Issue Vertical Merger Guidelines

July 8, 2020

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There are several key aspects to the guidelines, which differ in some respects from the draft guidelines issued in January.

On June 30, 2020, the Department of Justice (DOJ) and Federal Trade Commission (FTC) jointly issued new Vertical Merger Guidelines, the first guidance document issued by the federal government on the antitrust treatment of vertical mergers in 36 years. The guidelines follow a recent focus on vertical merger enforcement, including the first litigated vertical merger case in 40 years: the DOJ’s unsuccessful challenge to the merger of AT&T and Time Warner in 2018. The agencies had issued draft guidelines in January and sought public comment. The guidelines take effect immediately and replace the DOJ’s Non-Horizontal Merger Guidelines issued in 1984, which had been largely ignored in recent years.

Vertical Merger Enforcement by the Agencies

The Vertical Merger Guidelines outline how the U.S. antitrust agencies will evaluate the likely competitive impact of vertical acquisitions or mergers, i.e., combinations of companies that operate at different levels in the same supply chain. An example of a vertical merger is a manufacturer acquiring the company that supplies it with inputs into the manufacturing process, such as a car manufacturer acquiring its parts supplier. The agencies typically view vertical mergers as less problematic than horizontal mergers, i.e., those between companies competing at the same level of the supply chain, which eliminate a competitor from the market.

The guidelines rely heavily on, and frequently reference, the 2010 Horizontal Merger Guidelines. The FTC vote on the guidelines was 3-2, with the two Democratic commissioners, Rebecca Kelly Slaughter and Rohit Chopra, writing dissenting statements.

Highlights of the Guidelines

The Vertical Merger Guidelines reference the Horizontal Merger Guidelines for its definition of relevant markets in which a merger may substantially lessen competition. For vertical mergers, the agencies will identify one or more related products or services supplied or controlled by the merged firm that are either positioned vertically to or are complementary to the products and services in the relevant market.

The guidelines note that among the types of adverse effects on competition are adverse unilateral effects (effects that may be imposed unilaterally by the merged firm as a result of the merger) and adverse coordinated effects (effects that diminish competition by enabling or encouraging coordinated interaction among firms in the relevant market). Unilateral effects that may arise in vertical mergers, or other nonhorizontal mergers, include foreclosure and raising rivals’ costs and increasing access to competitively sensitive information.

The agencies will consider whether the merged firm will have the ability to cause rivals to lose significant sales in the relevant market or compete less aggressively and the incentive to foreclose or raise rivals’ costs, for example, to the extent the merged firm’s gains in the relevant market would likely outweigh any losses from reduced sales of the related product. Examples of foreclosure of competitors’ access to resources necessary to compete or raising rivals’ costs for obtaining such resources include: limiting a rival’s access to or raising the cost of a necessary input; increasing barriers to entry by requiring simultaneous entry into two market levels to compete; raising rivals’ costs of distribution; impacts from mergers of suppliers of complementary products; and impacts across “diagonal” lines, for example, where the relationships cannot be described as horizontal competitor or vertical supply relationships, but the acquisition creates incentives and abilities to impede competition.

The guidelines also address procompetitive effects of vertical mergers, including merger specific efficiencies and the elimination of double marginalization, which may benefit competition and consumers.

There are several key aspects to the guidelines, which differ in some respects from the draft guidelines issued in January:

  1. Quasi-Safe Harbor. The agencies removed what some had referred to as a “safe harbor” for certain vertical mergers based upon market shares. The draft guidelines had stated that the agencies were unlikely to challenge a vertical merger where the market shares of the merging companies were below 20 percent in the relevant market and the “related product” (a product or service supplied or controlled by the merged firm) is used in less than 20 percent of the relevant market. This proposed guideline was widely criticized, with some saying the threshold was too low and others, such as FTC Commissioner Slaughter and state attorneys general, stating that there should be no safe harbors. The Vertical Merger Guidelines now state that while the agencies may consider concentration levels and market shares in evaluating the competitive effects of a vertical merger, they will not rely on market share thresholds as screens. Nevertheless, “high concentration in the relevant market may provide evidence about the likelihood, durability, or scope of anticompetitive effects in that relevant market.”
  2. Elimination of Double Marginalization. Vertical mergers can result in the elimination of double marginalization, or “EDM.” EDM is the effect of the merged firm eliminating the markup it formerly had to pay its (formerly independent) upstream supplier of inputs. The draft guidelines had stated that EDM can often lead to lower downstream prices. The Vertical Merger Guidelines continue to stress the potential procompetitive benefits of EDM, but also explain how the agencies will evaluate companies’ claims that EDM will have procompetitive effects in the market. The agencies will require the merging parties to substantiate their claims that the merger will lead to EDM, but will attempt to quantify the EDM effect themselves by looking at the cost savings the merged firm will realize from EDM. The agencies will also look at current contracting practices to determine whether EDM is merger-specific, i.e., whether it would have happened even without the merger.
  3. Foreclosure and Raising Rivals’ Costs. As in the draft version, the Vertical Merger Guidelines acknowledge that vertical mergers may increase the ability and incentive of the merged firm to raise its rivals’ costs by raising the price or lowering the quality of the related product. The merged firm could also simply refuse to supply the related product to its rivals altogether (foreclosure). The guidelines note, however, that vertical mergers will “rarely warrant close scrutiny” if the rivals could readily switch purchases to alternatives, including self-supply, without any meaningful effect on price, quality or availability.
  4. Two-Level Entry. The Vertical Merger Guidelines revive the “two-level entry” theory of competitive harm that was included in the 1984 Non-Horizontal Merger Guidelines but was not included in the draft guidelines. This theory states that vertical mergers can create the need for a new entrant to enter at two levels of the industry, because the merged firm will have little incentive to supply the new entrant—a future competitor of the merged firm—with the relevant product, causing the new entrant to self-supply. The increased cost of two-level entry makes it more unlikely, and thus the merger reduces competition.

Missing from the guidelines is any discussion of the agencies’ position on the appropriate remedies for vertical mergers that present competitive concerns. Policy statements by Assistant Attorney General Makan Delrahim that the DOJ will almost always favor structural remedies (such as divestitures) over conduct or “behavioral” remedies (which the agencies have accepted in the past) and the recent retraction of DOJ’s 2011 Policy Guide for Merger Remedies have created uncertainty over how the agencies will address remedies for vertical mergers going forward.

Practical Effect of the Guidelines

The Vertical Merger Guidelines are generally consistent with the current practice of the agencies, so the practical effect of the guidelines is not likely to be significant. Nonetheless, their release is significant in that for many years there was no reliable written guidance on the agencies’ treatment of vertical mergers, with the 1984 Non-Horizontal Merger Guidelines having long ago become stale. Moreover, the competitive issues presented by vertical mergers are typically more complex than in horizontal mergers, making it more difficult to predict how the agencies would view a particular transaction. Businesses and their counsel now have a document that provides some guidance that will help in making this assessment.

For More Information

If you have any questions about this Alert, please contact Sean P. McConnell, Christopher H. Casey, Edward G. Biester III, William Shotzbarger, any of the attorneys in our Antitrust and Competition Group or the attorney in the firm with whom you are regularly in contact.

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