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Sprint's Effort to Block the Proposed Merger Between AT&T and T-Mobile as a Merger-to-Monopsony: a New Addition to an Often-Overlooked Area of Antitrust Law

Wednesday, May 30, 2012

by Nora Whitehead, Haynes and Boone, LLP


In its Clayton Act § 7 challenge to the proposed merger between AT&T and T-Mobile, Sprint included a novel argument regarding the proposed transaction's effect on its access to wireless handsets and, thus, its continued viability as a competitor in the wireless services market. See Sprint Compl. at 45-49, Sprint Nextel v. AT&T, No. 1:11-cv-01600 (D.D.C. filed Sept. 6, 2011).

Sprint alleged that because the merged entity would control access to over 75 percent of the wireless services market, it would have unstoppable power at the bargaining table when it came time to negotiate input purchase agreements with handset manufacturers. Because the merged entity would control access to a huge subscriber base — i.e., a huge and lucrative market for handsets — handset manufacturers would be more likely to agree to exclusivity deals that conferred competitive advantages to the combined AT&T/T-Mobile.1 As a result, the argument went, Sprint and other smaller carriers would be denied access to the most popular handsets and squeezed out of the wireless services market. The merged entity would be able to leverage its market power in the wireless services market (measured in number of subscribers) to foreclose its competitors' access to an essential input in the handset market, preventing those competitors from effectively competing in the wireless services market.

Although facilitated by the contractual and business practices of the wireless services industry, Sprint's claim is rightly characterized as alleging a merger-to-monopsony in violation of Section 7. The claim represents a new and unique entry into merger-to-monopsony precedent: Sprint alleged not only that the merger would tend to create a monopoly in the wireless services market in violation of Section 7, but that the merged entity's increased market power as a seller would translate — through industry-specific mechanisms like volume discounts and exclusivity agreements — into market power as a buyer in the input market. That market power, which, Sprint argued, would amount to monopsony power, would result in injury to its competitors selling wireless services in the output market.

I. A BRIEF HISTORY OF MONOPSONY CHALLENGES

A. Theory
Monopsony power is the “mirror image” of monopoly power: in a monopoly, one seller has market power on the selling side of the market and in a monopsony, one buyer has market power on the buying side.

Just as the monopolist can use its market power to raise the prices it charges consumers, a monopsonist can use its market power to lower the prices it pays for valuable inputs into its production processes. While lower prices may seem procompetitive, in reality, artificially low (as in, lower than the cost of production) input purchase prices are harmful to competition for at least two reasons.

First, forcing input suppliers to sell their product at artificially low prices stifles innovation and production on the supply side and may ultimately drive suppliers out of business. Second, the notion that a monopsonist who procures an input at an artificially low price then passes on that low price is not born out in reality. Instead, the monopsonist who procures its input at an artificially low price will nevertheless sell the finished output at the market-determined price and pocket the additional profit. See, e.g., Roger D. Blair & Jeffrey L. Harrison, Antitrust Policy and Monopsony, 76 Cornell L. Rev. 297, 304-06 and n. 47 (1991).

Like the seller who drives sale prices down to push its direct competitors out of the market with the intention of recouping that investment once it has achieved total monopoly power, the buyer who engages in predatory pricing to cripple its competitors and later leverages its newly gained monopsony power to the detriment of both its suppliers and output consumers is vulnerable to challenge under the antitrust laws.

B. Case Law
Like monopoly cases, monopsony cases — or in the Section 1 context, “buyers' cartels” — can take a number of basic forms:
(i) Buyers' cartels that conspire to engage in predatory bidding in violation of Section 1 of the Sherman Act
Buyers may engage in a conspiracy to lower input prices, harming suppliers by depressing the price of key inputs and importantly, without passing on the reduced prices to their customers in the output market. One example is Sony Electronics v. Soundview Technologies, 157 F.Supp.2d 180 (D. Conn. 2001), in which the defendant patent owner countersued the plaintiff television manufacturers under Section 1, alleging that the manufacturers conspired to agree on a low per unit price for licenses to use the plaintiff's protected technology. See id. at 185-87. The court, in deciding that the patent owner had sufficiently alleged a Section 1 violation, noted that even where “[t]he price to consumers does not decrease, [] there may be social welfare consequences in the long run, because suppliers will leave the industry (or, as Soundview has it, will cease to innovate and invent).” Id. at 185.
(ii) Buyers' cartels that conspire to foreclose competitor access to essential inputs in violation of Section 1 of the Sherman Act
Instead of agreeing on a maximum input price at the expense of suppliers, buyers' cartels that seek to foreclose access to inputs directly target their competitors. In Klor's v. Broadway-Hale Stores, 359 U.S. 207 (1959), the plaintiff retail appliance store alleged that Broadway-Hale convinced major appliance manufacturers and distributors either not to sell to Klor's or to sell to it only at discriminatory prices and unfair terms.2 See id. at 209. The plaintiff further alleged that Broadway-Hale was able to convince the manufacturers and distributors to engage in a “group boycott” of Klor's because it was able to leverage its market power in the output retail market to influence their behavior in the input market. The Court agreed with the plaintiff, reversing the district court and the Fifth Circuit.
(iii) Single-firm monopsonistic predatory pricing/bidding in violation of Section 2 of the Sherman Act
Cases like these involve firms that have such market power that they do not need to conspire with their competitors to drive input prices down. Instead, these firms are able to drive their competitors out of business by bidding input prices up, then dropping the prices to the detriment of suppliers. In Weyerhaeuser Co. v. Ross-Simmons Hardwood Lumber,549 U.S. 312 (2007), the plaintiff alleged that the defendant overpaid for an essential input (alder sawlogs) as part of a plan to drive the plaintiff out of business. Id. at 316. The Court described the typical predatory bidding scheme as follows:

A predatory bidder ultimately aims to exercise the monopsony power gained from bidding up input prices. To that end, once the predatory bidder has caused competing buyers to exit the market for purchasing inputs, it will seek to “restrict its input purchases below the competitive level,” thus “reduc[ing] the unit price for the remaining input[s] it purchases.”


Id. at 320-21. Although the Court ultimately found that the plaintiff did not sufficiently show that the defendant engaged in such activity, Weyerhaeuser is widely seen as the authority on monopsonistic predatory bidding under Section 2.
(iv) Single-firm monopsonistic conduct that otherwise rises to the level actionable under Section 2 of the Sherman Act
These cases often contain claims that monopsonists have leveraged their considerable market power to foreclose their competitors from essential inputs. In United States v. Griffith, 334 U.S. 100 (1948), the defendant film exhibitors executed master agreements with distributors allowing the exhibitors to exclusively license first-run films. See id. at 102-03. The United States alleged that the exclusive privileges granted to the defendants were preemption in the selection of these valuable first-run films and that the defendants' use of their substantial buying power in the distribution market to acquire those privileges violated Section 2. The Court held that the competing film exhibitors were injured by the agreements because they were denied access to an essential input: first-run films. See id. at 107-108.
(v) Challenging monopsony power under the Clayton Act
Although monopsony power has traditionally been challenged under the Sherman Act, monopsonies that result from mergers may also be challenged under Section 7 of the Clayton Act, which prohibits mergers and acquisitions where the effect may substantially lessen competition. In 1986, a California district court determined that the effect of a merger of two rice-milling firms would substantially lessen the competition in the market to purchase California medium-grain rice. See United States v. Rice Growers Ass'n of Cal., No. S-84-1066, 1986 WL 12561 (E.D. Cal. Jan. 31, 1986). In that case, the United States charged that the proposed merger between horizontal competitors would substantially lessen competition in the relevant market for the purchase of inputs. In other words, the newly merged entity would enjoy monopsony power as a result of the acquisition and the transaction would violate Section 7.

Private parties may challenge a merger under Section 16 (for injunctive relief) or a consummated merger under Section 4 (for treble damages) of the Clayton Act. In order to prevail under either, a private party must demonstrate not only that the effect of the merger has been or may be to substantially lessen competition but that it has been or will be injured as a result. Without a showing that it has been or likely will be injured, a competitor does not have standing to prevent the merger or, of course, to collect damages. This standing requirement is why Sprint, a horizontal competitor to both AT&T and T-Mobile, alleged that the effect of the proposed merger would be to lessen competition in the wireless services market and that Sprint would no longer have access to an essential input.

II. CASE LAW CITED BY SPRINT


In support, Sprint focused on three Section 7 cases: Six West Retail Acquisition v. Sony Theatre Management Corp., No. 97 civ 5499, 2000 WL 264295 (S.D.N.Y. Mar. 9, 2000); Bon-Ton Stores v. May Department Stores, 881 F.Supp. 860(W.D.N.Y. 1994), and Tasty Baking Co. v. Ralston Purina, 653 F.Supp. 1250 (E.D. Pa. 1987).3 Each is a case brought by a private plaintiff to challenge a merger under Section 7.
A. Six West Retail Acquisition v. Sony Theatre Management (S.D.N.Y. 2000)
In Six West, the court analyzed a merger between Sony and Cineplex as a vertical one between “two dominant Manhattan movie exhibitors with extensive connections to powerful film distributors.” Id. at *24.

In the context of its discussion of vertical mergers, the court noted that “an important factor for a court to consider when assaying the legality of a merger is ‘the trend toward concentration in the industry.’ ” Id. at *24 (internal citation omitted). In order to demonstrate standing, Six West alleged that the merger caused it antitrust injury by restraining its access to quality motion pictures and depriving it of its ability to compete for first-run films. Because of its increased market share in the film exhibition market, the merged entity had the power to divert more profitable films — an essential input in the film exhibition business — away from Six West's theatres. See id. at *22.

However, the court did not characterize the injury as one of input foreclosure. Instead, the court stated that it must “primarily concern itself with the possibility of market foreclosure, the exact antitrust injury that Plaintiff alleges.” *25 (emphasis added). More importantly, the court expressed concern that the merged entity would foreclose access to films or exhibition space by keeping everything “in house” and refusing to sell such films or acquisition space to the plaintiff:

A decision by [the merged entity's] distributors and exhibitors to restrict availability to their films and to their theatre space could potentially harm competition. This Court, therefore, is worried that “the market presence of the new vertically integrated company [may be] great enough that the potential anticompetitive effects become a significant concern.”


Id. at *25 (internal citations omitted). Not only is Six West not a monopsony case about input foreclosure, it is not a monopsony case at all.
B. Bon-Ton Stores v. May Department Stores (W.D.N.Y. 1994)
Similarly, the district court in Bon-Ton refused to recognize the alleged injury as one of input foreclosure, instead relying on a market foreclosure theory.

In a Section 7 action challenging an asset purchase agreement between a holding company (May) that operates department stores and a regional department store chain (McCurdy's), the plaintiff alleged that the acquisition of the eight McCurdy's stores by May obstructed entry into the Rochester, New York, traditional department store market by Bon-Ton or any other competitor because May acquired all of the available store in the four major regional malls. See id. at 865. The plaintiff alleged that the acquisition foreclosed Bon-Ton from access to a key input – mall space.

Once again, the court characterized the alleged injury as market, not input, foreclosure. See id. at 878. The court did not characterize this as foreclosure of a key input and neither Bon-Ton nor the court argued that the post-acquisition May would, for example, be able to use its increased power in the department store market to negotiate better or more shopping mall leases in the commercial real estate market. Instead, May would acquire the mall leases and exist in the retail space on day one following the acquisition.

C. Tasty Baking Co. v. Ralston Purina (E.D. Pa. 1987)
Finally, in Tasty Baking, the plaintiff baker alleged that the purchase of a baking division by the defendant illegally impaired its ability to enter new markets by facilitating the defendant's subsidiary's negotiations with retailers for better store shelf space and promotional time slots in markets where Tasty competes and allowing the subsidiary to reap monopoly profits that can subsidize predatory pricing in other markets. See id. at 1255.

Although the opinion makes reference to shelf space and promotional time slots as non-price predatory strategies, the alleged injury was described in terms of predatory pricing, not input foreclosure:

In any market where Tasty (or another competitor) poses a competitive threat deemed significant, defendants can reduce retail prices (by reducing wholesale prices), distribute promotional coupons, or otherwise make Hostess and Drake products available at prices below the prices that would be established in a fairly competitive market. This creates antitrust injury if defendants' pricing is predatory.


Id. at 1273. The above language demonstrates how easy it is to conflate not only market foreclosure and input foreclosure, but even input foreclosure and predatory pricing.

III. THE DISTRICT COURT'S DECISION


None of the cases cited by Sprint exactly supports its contentions regarding the possible effect of the merger between AT&T and T-Mobile, and at least one — Six West — is distinguishable because of the court's decision to treat the challenged merger as a vertical combination instead of a horizontal one.

Sprint alleged that if the AT&T/T-Mobile merger were consummated, it would substantially lessen competition in both the wireless services market — where the merged entity would enjoy a monopoly — and the input handset market — where the merged entity would enjoy a monopsony. In turn, this monopsony-from-monopoly would injure Sprint in the monopolized market. Although there is some overlap with traditional challenges to monopsony conduct and mergers-to-monopsony, the cases on which Sprint and the district court relied are not a clean fit.

Permitting Sprint to argue that the merged entity's monopoly power in one market would lead to competitive injury in another market would have required the court to try two claims (in two separately-defined markets) in one: the monopsony claim (for which extensive additional discovery would be required to determine the relationships between wireless services providers and handset manufacturers); and the original Section 7 monopoly claim. For example, had AT&T and T-Mobile elected to pursue the merger, the court would have been required to evaluate whether the procompetitive effects of the alleged exclusivity agreements between the merged entity and the handset manufacturers justify their anticompetitive effect (i.e., monopsony power and resulting injury to Sprint). What's more, at the time that Sprint filed its complaint to block the AT&T-T-Mobile merger, the Department of Justice had already filed its own suit seeking the same relief and premised on the injury to consumers and competition in the wireless services market. The Department of Justice alleged that the merged entity would have a monopoly in the wireless services market — exactly what Sprint would have been required to prove in the first half of its merger-to-monopsony claim.

The potential complexities present in a Section 7 challenge to the $39 billion dollar merger were and are undeniable. AT&T and T-Mobile's abandonment of the proposed transaction late last year means that we will never know how Sprint would have been required to conduct discovery and prove its merger-to-monopsony claim, nor how the court would have dealt with the increased burden. As a result, we will have to wait and see whether other district courts are as receptive to similar iterations of Sprint's merger-to-monopsony claim, the latest and newest addition to the small universe of challenges to monopsony power under Section 7 of the Clayton Act.

Nora Whitehead is an associate in the White Collar and Antitrust Practice Groups in the Washington, D.C., office of Haynes and Boone, LLP. She concentrates her practice on antitrust and competition issues and international trade matters.

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