Art of the Deal: The Merger Settlement Process at the Federal Trade Commission

Abstract

1. IntroductionTwo firms, competing with each other in at least one line of business, face a complicated regulatory regime if they attempt to merge. Under the Hart-Scott-Rodino (HSR) Act of 1975, almost all large transactions in the United States are subject to review by either the Department of Justice or the Federal Trade Commission (FTC). In the event an enforcement agency objects to the transaction, several outcomes are possible: (i) The parties could give up and abandon their transaction, (ii) take the case to a federal court and litigate the dispute to a conclusion, or (iii) the firms could settle their differences with the enforcement agency. All settlements, however, are not the same. In particular, agencies have shown some willingness to accept settlements, defined here as consents that do not fully resolve the relevant competitive concerns. The purpose of this study is to model the interaction between an antitrust agency and firms seeking to consummate mergers. In doing so we will attempt to answer an important question in antitrust regulation: What attributes drive the final outcome of a merger challenge?This paper will model interactions between the FTC and private parties interested in consummating horizontal mergers that may adversely affect competition in at least one relevant market. This decision to fight, fold, or settle is somewhat more complicated than an action for damages, because the prospective nature of the alleged competitive injury gives the defendant an opportunity to abandon the transaction before the injury occurs. Moreover, the conglomerate nature of most mergers creates a possibility for a strong settlement to resolve competitive concerns while allowing the firm to quickly consummate the innocuous portions of the transaction. Compromise settlements also are possible, under which the consent offers partial relief. The maximum-likelihood estimation procedure used in the paper is derived directly from a game-theoretic analysis that models the outcome of the interaction between merging firms and the FTC. This allows for formal estimation of for both merging parties and the FTC. Estimating the structural equations of the model offers more detailed insight into the regulatory system.We have two basic hypotheses with respect to this process. First, the underlying opportunity costs, the legal merits of particular cases, and possibly the political ramifications of enforcement decisions drive FTC decisions. Second, firms' decisions depend not only on the competitive merits of the FTC's case, but perhaps more importantly on both the financial issues relevant to the specific transaction and how the nature of the case fits into the merger review process.Section 2 presents the background for the analysis by discussing the institutional structure of the FTC, explaining the merger review process, describing the hostage effects that may affect a firm's response to an FTC enforcement decision, and introducing the idea of a compromise settlement. Section 3 models the game-theoretic interaction between firms and the FTC and then explores an econometrically tractable method of estimating the underlying utility functions for the players in the game. Section 4 describes the data and specifications to be used. Results of the maximum likelihood estimation are presented in section 5. Concluding comments are in section 6.We hope to shed light on an important aspect of the U.S. merger review process. We also suggest that our results may have broader consequences. Since the mid-1980s, a large number of countries have established formal antitrust procedures. The results here may be of assistance to those policy regimes as well.2. Issues in Merger EnforcementBackground on the FTCThe FTC is a government agency charged, along with the Department of Justice (DOJ), with enforcing U.S. antitrust laws. The bulk of the casework involves the evaluation of proposed horizontal mergers. …