Pre‐emptive merger in a composite good framework

Purpose - The purpose of this paper is to study the question of pre-emptive merger decisions in a composite good framework where these goods have both competitive and complementary features. Design/methodology/approach - The paper constructs a model of partial mergers when there are three firms and three goods in the production network, but consumers need only two goods to complete their consumption. This means, two of the firms produce two competing brands while the other firm produces any complementary product. Then under vertical merger cooperation takes place between two firms producing mutually compatible or complementary goods, whereas horizontal integration occurs when cooperating firms produce goods substitutes to each other. Findings - In such a framework, partial mergers inflict strong negative externalities on the outside firms. The paper shows that loss of profits to the non-integrated firm is higher under horizontal integration than that under vertical integration; hence pre-emptive incentives for vertical merger are always larger. The paper clearly distinguishes between private incentives and pre-emptive incentives for merger. If so desired, the vertically merged firm could foreclose the market of the outside firm and emerge as monopoly. Interestingly, foreclosing in our model is never optimal. The paper also provides a welfare analysis. While all-firm merger maximizes social welfare, under vertical merger consumers are always better off. Industry profit also goes up if the goods are not so close substitutes. Originality/value - This appears to be the first paper that discusses the question of pre-emptive mergers in a framework of composite goods. Since, in the structure presented a horizontal merger always reduces welfare, one implication of the result is that the antitrust authority should not remain indifferent to the forms of merger actually taking place in a country.