Contracts as a Barrier to Entry in Markets with Nonpivotal Buyers

Abstract

Considering markets with nonpivotal buyers, we analyze the anticompetitive effects of breakup fees used by an incumbent facing a more efficient entrant in the future. Buyers differ in their intrinsic switching costs. Breakup fees are profitably used to foreclose entry, regardless of the entrant's efficiency advantage or level of switching costs. Banning breakup fees is beneficial to consumers. The ban enhances the total welfare unless the entrant's efficiency is close to the incumbent's. Inefficient foreclosure arises not because of rent shifting from the entrant, but because the incumbent uses a long-term contract to manipulate consumers' expected surplus from not signing it. (JEL D11, D21, D43, D86, L13, L51)