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Heinz Analysis

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The United States government is quite concerned with the issue of maintaining competitiveness in any major industry, particularly to protect the consumer in the long run. When a merger is proposed in an industry, the government must carefully evaluate many parameters to determine long run efficiencies for the firms involved and the consumer. Beyond appraising firm concentration in the industry, the long run result to the consumer and competitiveness of the industry must be weighed into the decision. The most important aspect to remember is that the government likes competition. In the long run, if a merger will reduce competition in an industry, or generate less surplus value to the consumer, then the antitrust decision should block the event from occurring. To reasonably analyze the impact of the merger, I will inspect the existing baby food market as presented in the case, then estimate the long run effect of higher concentration in the industry to all impacted firms and the consumer.

As the case summary data presents, the existing baby food market is highly concentrated. Three firms (Gerber, Heinz, and Beech-Nut) control over 97% of the industry, with market concentrations of 65%, 17.4%, and 15.45% respectively. The reported pre-merger HHI score for the baby food industry is 4775, generally indicative of a highly concentrated industry. The increase in the HHI score after the merger is estimated to be 510 points. The increase in the HHI score is well above the baseline parameter that the government uses as if a merger will move an industry towards greater anticompetitive levels. Based on the score alone, it would seem that the merger would in fact cause the industry to become more anticompetitive. However, several variables must be evaluated beyond a numerical parameter to truly gauge the long run effect of the merger on both the involved firms in the industry and the consumer. Beyond the HHI score, I will evaluate factors of the specific market definition, corporate efficiencies, and market process qualitatively to determine long run impacts of the proposed merger. I will lastly briefly discuss the agency problem in this case, and how it clouds the issue of who truly benefits from the merger.

In order to determine the long run effect of a merger in an industry, one must look at how the market is defined before firms are joined in this case to compete against the industry-leading giant, Gerber. As several benchmarks indicate, I would define the current state of the baby food industry as a Stackelberg oligopoly for several reasons. First, there are only three firms controlling over 97% of the market. Second, the product lines are differentiated somewhat, as the three major firms market well over 100 products each. Third, and a most important measuring indicator for a Stackelberg oligopoly is the fact that one firm (Gerber) is the industry leader, with nearly 100% market presence in American supermarkets. Both Heinz and Beech-Nut are industry followers, with significantly smaller market concentrations. Thus, it is reasonable to assume that both smaller firms (Heinz and Beech-Nut), with significantly less market power than the leader, would follow Gerber's marketing actions. Lastly, there are certainly significant barriers to entry in the industry. It would be difficult for an upstart firm to match the economies of scale and scope of the three incumbent firms. All three firms manufacture well over 100 different products, many with similar ingredients, so some level of economies of scope comes into play. Also, Gerber's market presence is ubiquitous, while both smaller firms outlay significant amounts of "fixed trade spending" to compete for supermarket shelf space. "Fixed trade spending" (also referred to as "slotting fees" or "pay-to-stay" arrangements) are cash outlays to distribution outlets (e.g. supermarkets) in order for a company's product to obtain shelf placement. Gerber does not pay out any of these types of fees, because of dominance in the market, and the inherent profitability for stores to carry its products.

Based on the above facts, many factors are strongly in place that would require very significant financial outlay for a new firm to have significant competitive presence based on the nature of the current industry. All of the factors combine to generate a very high barrier of entry to a new player in the market. Since barriers to entry are so challenging, one can reasonably assume that further concentration in the industry will lead to less competition, and more market power to only two major firms, essentially creating a duopoly. Basic economic and logical theory would suggest that a duopoly would afford more opportunity for the two major firms to maximize profits at the expense of the consumer. With only two firms in the industry, it would facilitate collusive behavior, whether overt or covert. Most people would consider grounds for collusion to be an overt act, in that managers from both firms would actively meet in some manner to establish both output and pricing parameters. The goal of the decisions would be to maximize profits for both firms, at the expense of consumer's surplus for a particular good. However, collusion can also easily be a covert action with only two major players in a particular industry. For example, it would be very easy for the secondary firm to match the output and pricing decisions of the major firm without agreements struck in an



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