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NESTLE-PERRIER MERGER CASE
Background • On February 25, 1992, the Swiss company Nestlé (active in many sectors of nutrition) notified to EEC Commission a public bid for 100% shares of Perrier SA-a French company which is mainly active in the manufacture and distribution of bottled waters, in order to get the authorization foreseen by the Council Regulation No 4064/89 relative to the control of concentrations between enterprises. • Article 2 (3) of the Merger Regulation stipulates: 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. .
Which are the affected markets? • Relevant product market- the relevant product market is that of bottled source water -Nestlé has submitted in its notification that there is no separate market for bottled source water, and that the relevant market to asses the proposed concentration should be that of non-alcoholic refreshment beverages, including both bottled source water and soft drinks. Three main factors indicate that it cannot be reasonably expected that an appreciable non-transitory increase in the price of source waters compared with that of soft drinks would lead to a significant shift of demand from source waters to soft drinks for reasons of price only: • Substantial price difference in absolute terms between bottled water and soft drinks (still mineral waters-between FF 2,49 and 2,56 and soft drinks-between FF 6,1 and 9,4 • The reduction in real prices of soft drinks contrasts with the evolution of real prices for mineral waters. • Real price correlation among soft drinks marketed by different companies is often positive and relatively high, among different brands of waters ranges between a minimum of 0,85 and1, between each soft drink and bottled water is in most cases negative, or when positive, very low. • The third major supplier on the French source water market is BSN
Which are the affected markets? • Relevant geographic market-the French market. Nestlé has argued that if excessive prices were to be applied in the French market, parallel imports into France would develop. The mere threat of parallel imports would put at risk any dominant position in the French market according to Nestlé. The Commission concludes that the relevant geographic market is France because: • Bottled source water is a relatively inexpensive and bulky merchandise with a high impact of transport costs. It is not likely that a parallel importer could move throughout the various Member States the large volumes required to earn significant revenue and profits. • There are strong barriers to entry into the French market of bottled source water. -mineral and spring waters have to be bottled at the source and therefore can be produced only at one specific location. -transport cost disadvantage to export to France-absence of imports -the French market is a mature market in terms of the number of brands and range of products -the French water market is characterized by the predominance of brands. The combined advertising budget of the three national French suppliers - Nestlé, Perrier and BSN - amounted to over FF 680 million in 1991. -the high degree of concentration in the French source water market, with three companies holding 82 % of the market share by value, constitutes an additional barrier to entry and increases the risks associated with new entry -consumers in general return to the well-known national brands in the short or medium term
COMPATIBILITY WITH THE COMMON MARKET • Market shares- NILk-indicator of market power • Capacities and portfolio of sources- distribution of capacities,collusion • Cost structures • Competition from local water suppliers • Buying Power • Potential Competition • Impact on the maintenance or development of effective competition
Market shares • The market shares in value terms better reflect the real market strength than the market shares in volume because the French water market is composed of two categories of products which are very different in terms of price- the nationally distributed mineral waters and the local waters, which are mainly spring waters (gap between FF 1,24 and 1,30). • The market shares in value provided by Nestlé show that the three national suppliers hold a market share of 82,3% of the total French bottled water market and that the local suppliers have a market share of only 17,7 %. • Market shares (in terms of volume) in French bottled water market at the time of merger Nestlé 17,1% (900 mln liters) Perrier 35,9 % (1.885 mln liters) BSN 23 % (1.207 mln liters) Others 24 % (1.258 mln liters) Total annual volume of French bottled water market 5.25 bln liters
Econometric analyze of market power level of oligopolistic equilibrium on the market. • Econometric indicators • Herfindahl-Hirschman Index-index of concentration, used by antitrust policy of USA, is a measure of the size of firms in relationship to the industry and an indicator of the amount of competition among them.. Decreases in the Herfindahl index generally indicate a loss of pricing power and an increase in competition, whereas increases imply the opposite. • The new indicator Linda-NILk, (indicators of market power on mono-duo-and oligopolistic markets.)-developed by R.Linda, taking into account the new antitrust policy of the Commission and the regulation 4064/89 –and reflect the degree of disequilibriumbetween the first 2,3,4… enterprises which dominate the market.
Econometric indicators I. Herfindahl HHI=(x1. 100)²+(x2.100)²+(x3.100)²= 2306 HHI<1000-non concentrated market structure HHI>1800-very concentrated, non authorized merger II. The indicator NILk fC=C3=x1+x2+x3=78% - ratio of concentration 2L=x1 / x2 =170% 3L= (x1 / x2+x3 / 2 + x1+x2 / 2 / x3):2= 197% NIL2=(C3. 100)²/10 . 2L=1034 NIL3 =(C3. 100)²/10 . 3L=1199
The indicator NILk • NIL3 < 500 : relatively equilibrated oligopolistic structure, probably compatible with European antitrust norms. • 500 ≤ NIL3 ≤1000 : relatively disequilibrated and concentrated oligopolistic structure, require the examination of the Commission before to authorize the operation. • 1000< NIL3 <3000 : oligopolistic structure very close to duo-monopolization, probably incompatible with regulation 4064/89. • NIL3 >3000 : oligopolistic structure incompatible with the regulation. This analyze proves the existence of a dominant position (NIL3 >1000), tending to duopolistic structure.
Background Anticipating European Commission’s argument that the merger would create a dominant position for the merging parties, Nestlé and Perrier agreed to transfer Volvic (a major still mineral source of Perrier) to BSN, which would create a balanced duopoly instead of a dominant firm. Nestlé+Perrier-Volvic = BSN + Volvic = (2 bln liters) 38% The European Commission tried to expand the scope of EU merger control Not only against single dominance but also against oligopolistic dominance. According to the Commission, “competition had been weak on the bottled water market even before the merger and it would become even weaker after merger” .
Capacities and portfolio of sources • After the merger and the sale of Volvic to BSN, the two suppliers Nestle and BSN would have a considerable numer of sources, the overall free capacity of which would by far exceed the total water market volume (5 250 million litres) and each one of these two suppliers would have at least one major still mineral water source with huge free capacities compared to the overall market volume and all other local water suppliers. They would thus be in a position to respond to an increase in demand without any capacity limitation • None of the local water suppliers has water sources in number or in size similar to those of Nestlé and BSN after the merger. The capacities of most of the local sources are below 200 million litres and generally much lower than that.
Prices Even without the merger a narrow oligopoly of three suppliers exists between whom price competition is considerably weakened and for whom the degree of market transparency is very high: • The ex-works prices (before rebates and VAT) of Nestlé, Perrier and BSN for their five major still mineral waters exceed the average ex-works prices of local spring waters by FF 1.24 to 1,30 per 1,5 l bottle. • The ex-works prices have constantly increased in a parallel way since at least 1987. • With regard to local waters (mainly spring waters), the cross-price elasticity of demand of the national still mineral waters is relatively low (extremely high consumer fidelity). • The production cost-price margin of the three national suppliers for a 1,5 l PVC national still mineral water bottle is very high. Prices for national mineral waters are already at a very high, supra-competitive price level. • The three national suppliers publish their list prices with the basic quantity rebates. The considerable feedback from the customers and monthly published sales volumes. In a narrow oligopoly such a practice further increases the market transparency and permits each supplier to follow the evolution of the market positions of the others.
Cost structures • The major brands of the three national suppliers have similar cost structures. • The manufacturing process consists basically in bottling. The need to bottle at source and the resulting variety of bottling plants reduces the scope for economies of scale. • As a result neither Nestlé nor BSN has a major cost advantage which could give either one of them an incentive for aggressive competitive action vis-à-vis the other. It must also be noted that the three national suppliers all apply a system of ex-works prices, transport costs being borne directly by the customers (retailers/wholesalers). Competition from local water suppliers • There is a considerable price gap between the average ex-works prices of local spring waters and national mineral waters, in value terms, the sales of others are generally below 20 % of the total market. • the prices of national mineral waters are already at a very high level • a number of structural disadvantages for local spring water suppliers which limit their competitive pressure on the national suppliers: small companies which are dispersed numerically and geographically, weak individual financial strength, low sales prices, not a sufficient margin for the producer to absorb transport costs over longer distances, the majority of local water sources have capacities of below (mostly far below) 200 million litres, their waters have no strong brand image and are only sold regionally. • local water suppliers would not be able, at least in the short term, to significantly constrain the market power of the two remaining national water suppliers
Buying power • A majority of the retailers and wholesalers have stated that they would become even more dependent on the national suppliers and that local spring waters are not a sufficient alternative for the national mineral waters-local waters are more a complementary product than a real substitute for. • The significant increase of rebates between 1988 and 1992. but the significant increases in list prices in both nominal and real terms have more than compensated for the increase in discounts. The effect is a net increase of the prices paid by retailers • even in a situation where three main suppliers are present on the market, retailers have not been able to counterbalance the ability of Nestlé, Perrier and BSN to increase their prices considerably during the last five years. • The buying power of retailers and wholesalers would not be sufficient to constrain significantly the market power of the two remaining national water suppliers after the merger. The merger would also reduce the choice of the retailers from three to two sources of supply and would thus increase their dependency on the two major suppliers on the market.
Potential Competition • The Commission is of the opinion that there exist significant barriers and risks to enter the French bottled water market: -the reputation of the established brands of the three national suppliers; -the high and long-standing spending in advertising has created a low elasticity of demand and thus a significant barrier to entry vis-à-vis local spring waters and vis-à-vis potential newcomers by constantly increasing consumer fidelity to the established brands; -the high concentration in itself is a barrier to entry because it increases the likelihood and the efficiency of single or concerted reaction by the established firms against newcomers; -entry ex novo would require the building of a plant, the application for an authorization to exploit a source, the establishment of distribution links and the establishment of a brand, all of which can take a considerable period of time for a newcomer. • There is no effective price-constraining potential competition which could quickly and significantly constrain the market power of the two suppliers remaining on the French water market. The risk associated with entering that market would be increased by the proposed merger since newcomers would have to face a strengthened power and since all the major brands of Perrier would be foreclosed for acquisition by potential entrants
Impact on the maintenance or development of effective competition • 1. Without the sale of Volvic to BSN: single firm dominance, Nestle/Perrier -the high market share in the French water market (approximately 60 % by value and 53 % by volume) -the combined overall and free capacities of the new entity-the portfolio of mineral water sources (five major sources)-BSN (two major sources),… • 2. In the case of implementation of the sale of Volvic to BSN: duopolisticdominance-given all the characteristics already outlined, the Commission concluded that the proposed merger between Nestlé and Perrier would create a duopolistic dominant position which would significantly impede effective competition on the French bottled water market. • The concentration would lead to the elimination of a major operator who has the biggest capacity reserves and sales volumes in the market. Perrier sources and brands would be divided between the two remaining suppliers. In addition, the reduction from three to only two national suppliers would make anticompetitive parallel behaviour leading to collective abuses much easier
Impact on the maintenance or development of effective competition • However , the reduction from 3 to 2 national suppliers would make anticompetitive parallel behavior leading to collective abuses much easier because: • The two players would be similar in size and nature, neither one would enjoy a significant cost advantage over the other, technology is mature and R&D play no major role-the basic manufacturing process of the parties consists in bottling, which is a well-established technology. Their reciprocal dependency creates a strong common interest and incentive to maximize profits by engaging in anti-competitive parallel behavior. • The major mineral water suppliers had developed instruments allowing the controlling and the monitoring of each other behavior; Retail prices of bottled water are transparent, no real substitutes for mineral water; demand for mineral water is relatively price inelastic, Fringe firms (local spring waters) or retailers do not constitute a sufficicent competitive constraint. • High barriers to entry. Entry into the French market is difficult since it is a mature market with well established brand names and a very large advertising effort would be needed in order to acquire considerable market shares and because of the extremely high transport costs of mineral water with respect to its value (no possibility for parallel importations, regulatory constraints • thus a tacit coordination of pricing policies between BSN and Nestlé would be easily achieved
The Commission declared: : • With or without the sale of Volvic to BSN the proposed merger would create a dominant position as a result of which effective competition would be significantly impeded in a substantial part of the common market within the meaning of Article 2 (3) of Council Regulation No 4064/89. • The regulation of the Community relative to the concentrations is applicable to the oligopolistic dominance (not only to individual dominance). • One dispersion of sources between more companies would diminish the possibility of creating an efficient competitor of Nestle et BSN. • The engagement taken by Nestlé would create “one third power” on the market which could prevent Nestlé and BSN to exercise an oligopolistic power on the market. • The balance of powers generalized at each level, market , sector etc. would create thanks to the initiatives and reactions of the economic actors a dynamic process, which would stimulate not only the competition , but also the technical, economic and social progress.
The choices of the Commission: • To block the merger altogether • To allow it subject of divestiture Finally, the Commission approved the merger conditional on divestiture: Nestlé had to sell 8 sources of mineral water (representing three billion liters of water capacity or 20% of the total capacity of the French market of mineral water) to a third-party so that this party could become an active player on the market. Subject to the compliance with this commitment, the Commission did not oppose the takeover of Perrier by Nestlé and the subsequent transfer of Volvic to BSN. So, in the place of duopoly between Nestlé et BSN, one equilibrated triopoly conforming to the model of dynamic monopolistic equilibrium
Critics to the decision of the Commission • The Commission spent relatively little time discussing the consequences of the distribution of capacity obtained through the various solutions on the possibility of collusion among the firms. Similarly, the Commission did not compare the situation created by the commitment it imposed to accept the merger with the pre merger situation. Yet if both situations entail the same number of major actors( three in both cases) they seem to be characterized by different distributions of capacities. • The Commission did not measured appropriately the effective market power and the degree of balance of powers between firms. In the particular case (concept of duopolistic dominance and third competitive reequilibristic power), it is not enough just the indication of individual parts of the market for each enterprise (or both of the biggest enterprises). It is necessary to take into account the level of oligopolistic equilibrium on the market. • If we have a perfect triopoly NIL 3=1000 (x1+x2+x3=33,33%). Each merger operation which could have as a result the increasing of NIL3 more than 1000 should not be authorized. In our case, we have already a situation which is incompatible with the antitrust regulation. The third power doesn’t create a perfect triopoly and the individual market powers of Nestle-Perrier and BSN would however be beyond 20% of the total market power(The Commission estimates that less than 20% individual market share is compatible with the functioning of the oligopolistic competition and with the system of dynamic oligopolistic equilibrium.
Critics to the decision of the Commission The distribution of capacity before and after the merger were : (sales and capacities are in million liters, whereas ki/M is the ratio of capacity over market size) • 1. Before the merger • 2. After the merger (without the resale of Volvic) • 3. After the merger (and the resale of Volvic to BSN) • 4. After the merger • (the resale Volvic • to BSN and the • divestiture to create • a new third player)
Conditions for collusive equilibrium Critics to the decision of the Commission • minimum discount factor δ٭
Critics to the decision of the Commission • The proposed takeover of Perrier by Nestlé with the resale of Volvic to BSN maximizes the scope for collusion: the minimum discount factor for a collusive equilibrium is lower than for any other configuration, including the pre-merger situation. • The situation that minimizes the scope for collusion is the solution in which Nestlé and Perrier merge but do not transfer Volvic to BSN: with this transfer, the minimum discount factor jumps from .50 to .75. This finding is at odds with the Commission decision on which states (recital 134): ”It cannot be expected that BSN would effectively compete against Nestlé/Perrier since both suppliers would have a strong common interest and incentive to jointly maximize profits”. The Commission did not apparently take into consideration that the merged firms (Perrier and Nestlé) would then be able to compete with BSN without fear of large scale retaliation because of the capacity constraint faced by BSN. The fact that the merger (without the resale of Volvic to BSN) would make a Collusive equilibrium more difficult to sustain might also explain why the merging firms planned to resell Volvic to BSN. The (advertised) desire of the merging firms to avoid the creation of a dominant position may have been consistent with their (unadvertised) desire to facilitate collusion.
Critics to the decision of the Commission • The third conclusion is that the solution chosen by the Commission (i.e., allowing the merger with the resale of Volvic to BSN and additional commitments to spin off capacities equal to 3000 million litres to an independent operator) is intermediate,from the point of view of the sustainability of a collusive solution, between the proposed merger (which maximises the scope for collusion) and the acceptance of the merger without the resale of Volvic (which minimises this scope). Even though in the latter case there would have beenonly two main firms, they would have had a more difficult time sustaining collusion than the three firms (Nestlé, BSN and the new player created by the Commission) will have. The basic reason for this is, first, that in the solution preferred by the Commission neither one of the two largest firms can depart from the collusive equilibrium without exposing itself to retaliation from the other. Since each one of them has a considerable capacity compared with the size of the market, neither one of them can take the risk of retaliation lightly. Second, the new entranthas limited capacities compared to the other two firms and compared to the market and therefore cannot expect to gain by threatening to force competition on them .
Conclusion BSN 40-45% Nestle 30% Castel 20% Others 10% Nestlé 17,1% Perrier 35,9 % BSN 23 % Others 24 % → First case –oligopolistic dominance. The asymmetry in the capacities on concentrated markets such as the French market of bottled source water can effectively prevent the collusion.
