THE ECONOMICS OF COMPETITION POLICY: MERGER ANALYSIS … · 2016-02-18 · According to the SCP paradigm, the structure of a certain market determines the conduct of the companies,

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THE ECONOMICS OF COMPETITION POLICY: MERGER ANALYSIS IN SOUTH AFRICA.

NICOLA THERON

1. INTRODUCTION

Competition policy creates a healthy business environment that is conducive tocompetitiveness and economic growth. An increasing number of developing countries haveadopted competition policy in recent years. At least 37 developing countries and economiesin transition already have competition legislation, and another 21 are in the process ofrevising or adopting such laws (Hoekman,1997:17). South Africa has had antimonopolylegislation since 1955. In 1979 the Maintenance and Promotion of Competition Act waspassed. In 1998 the old act was replaced by new legislation, the Competition Act, no. 89 of1998. The new act made provision for the establishment of a new Competition Authority,replacing its predecessor the Competition Board. This has taken the form of three newregulatory bodies, the Competition Commission, the Competition Tribunal and theCompetition Appeal Court. The Commission and the Tribunal started their respectiveoperations on 1 September 1999. There was some delay with the establishment of the Courtof Appeal.

There have been calls for the integration of competition policy in the WTO. Since the TokyoRound negotiations (1974-79), policies of a more domestic nature have been adopted as partof multilateral world trade agreements. This was followed by the adoption of policiesregarding services and intellectual property rights in the Uruguay Round (1986-93). Butalthough there is a case for the standardisation of competition rules, there is no consensusthat ‘one size fits all’. Even among OECD countries there are significant differences in thetreatment of competition issues, be it regarding mergers, horizontal and vertical restraints orabuse of dominance. Among developing countries there is a tendency to include certainmacro-economic goals in national competition policy. This is not necessarily conducive tothe stated goals of competition policy, i.e. a free and competitive business environment.

The aim of this paper is twofold. The analytical approach of the South African competitionauthorities is evaluated by discussing some recent large merger cases. An ancillary objectiveis to determine the influence of the included macro-economic goals on the practice ofmerger analysis in South Africa.

2. AIMS OF COMPETITION POLICY

In determining whether a proposed transaction, e.g. a horizontal merger, is likely tosubstantially lessen competition, it is necessary to address a number of economic issues. Inthe industrial economics literature the principal concern is whether the new company willhave market power2 and will be able to increase the price of its products after the merger.

2 Market power is defined in the Competition Act of 1998 as: “the power of a firm to control prices, to excludecompetition or to behave to an appreciable extent independently of its competitors, customers or suppliers”

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The ideal textbook situation is that of perfect competition. No single firm has market powerand firms offer the highest quality products or services at the lowest price. Consumers havemany choices in such a situation, as they can move their business easily from one firm to thenext. This ensures that firms behave competitively, demand reasonable prices, maintain highquality standards and effect technological improvements.

Economists believe that: “the welfare of society is the greatest when the resources of societyare allocated in the economy so that consumers are able to satisfy their wants as far astechnological and physical constraints permit. In this way the wealth of a nation ismaximised. The aim of competition policy should be to help bring about this result”.(Reekie,1999:284).

The main goal of competition policy, from an economic point of view, should therefore beallocative efficiency. Scarce resources should be allocated in such a way that the returns tosociety are maximised. But competition policy cannot be removed from the realities of theeconomic environment and choices have to be made between different interest groups.Should lower prices to consumers be the overriding goal, or can competition policy be usedto pursue other macro-economic goals such as full employment?

In the 1992 Department of Justice Horizontal Merger Guidelines (USA), it is stated clearlythat the cornerstone of the antitrust laws is consumer welfare and economic efficiency. Thisis confirmed by Russell Pittman of the US Department of Justice (1994:2): “Our experiencetells us that if consumers have plenty of choices in a particular situation, they can force themarket to behave competitively: they can take their business to firms that offer the highestquality for the lowest price, and in so doing they force businesses, if they want to survive andprosper, to keep their prices low, to keep their quality high, and to make technologicalimprovements”. This is the rationale behind the US antitrust laws. This is also the overridinggoal of antitrust policy in the United States: “Protection of small and medium-sizedbusinesses, codes of fair competitive conduct, and macro-economic policies such asemployment and anti-inflation measures, have no place in U.S. antitrust laws”(Wood,1996:18).

The situation in South Africa seems to be different. Although economic criteria areimportant, the focus is somewhat blurred by the inclusion of some other ancillary objectives.Hovenkamp (1985) argues that other ‘competing values’ could also be considered whenlooking at competition policy, e.g. maximisation of consumer wealth, protection of smallbusinesses from larger competitors, protection of easy entry into business and concern aboutlarge accumulations of economic power. These should however be subject to the main goal,i.e. allocative efficiency. In the purpose of the South African Act (section 2) a list of goals isgiven. Apart from efficiency and consumer choice ((a) and (b)), other goals of competitionpolicy are:“(c) to promote employment and advance the social and economic welfare of SouthAfricans;(d) to expand opportunities for South African participation in world markets and recognisethe role of foreign competition in the Republic;(e) to ensure that small and medium-sized enterprises have an equitable opportunity toparticipate in the economy; and

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(f) to promote a greater spread of ownership, in particular to increase the ownership stakesof historically disadvantaged persons.” (1998:12).

These aspects have been criticised by some authors, e.g. Reekie warned that: “The task ofthe competition authorities is difficult. To add criteria (c) through (f) to their remit maymake it impossible…there is no denying that tough political choices often have to be madebetween the varying objectives of (a) to (f). Competition authorities, however, should nothave to make them. If they so attempt it merely dilutes the predictability of their decision orresults in inappropriate lobbying by defendants or plaintiffs (1999:259).”

These conflicting goals have been addressed by the chairman of the Competition Tribunal,David Lewis. In a recent paper presented at a conference in Taipei, he argued that: “Our actspecifies a range of objectives to be served by competition law …objectives like protectionof SME’s, promotion of employment and support for the growth of Black-ownedenterprises. Some of these conflicting objectives are deeply embedded in the act (2000:3).”It is argued by the proponents of such an approach that the specific needs of a developingcountry justify the use of competition policy to attain macro-economic stability and growth.Lewis shares this view: “However, my own view is that this is inevitable particularly in adeveloping country where distributional and poverty problems loom large and where allsocial and economic policy, no less competition policy, is expected to contribute to thealleviation of these first order problems.” (Lewis,2000:3).

Including a range of macro-economic goals in the realm of competition legislation is apractice not uncommon among developing nations. There is probably a strong argumentthat all government policies should be geared towards stimulating economic growth in adeveloping country. The question is whether efficiency is being sacrificed for developmentalgoals. In a recent article in the Harvard International Law Journal, Eleanor Fox (2000:2)defends the inclusion of provisions to redress past discrimination against ethnic groupings inthe legislation of South Africa and Indonesia. In the Indonesian case the specific provisionsare included in the light of ethnic discrimination by the Chinese minority against the ethnicIndonesian majority. In the South African case the law includes provisions to redress thediscrimination as a result of decades of Apartheid. “The provisions allowing exemption fromagreements that promote the competitiveness of firms owned or controlled by historicallydisadvantaged individuals and allowing consideration of a merger’s effect on thecompetitiveness of historically disadvantaged individuals reflect a bold new approach. This isunchartered territory…The South African competition law applies a limited measure ofaffirmative action”. The difficult issue then becomes: “Can competition law work as a meansof advancing equality without substantially undermining market goals and without capture byprivate interests?” (Fox,2000:2). In the cases below it will be shown how public interestissues were considered in conjunction with economic efficiency criteria.

In the oil industry, the access of new black empowerment companies to storage facilities,was a major concern in the analysis of the proposed merger between Shell, BP and Caltex. Insimilar fashion, the 4000 potential job losses as a result of the proposed merger betweenStanbic and Nedcor, was emphasised by the Competition Commission in their report. In thesugar industry (the proposed merger between Tongaat-Hulett and Transvaal Sugar), thepublic interest issues focussed on potential job creation, the positive impact on theMpumalanga region and the ability to compete in international markets. In the furniture

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industry (Ellerines and JD Group), the parties argued that the provision of financial servicesto the ‘unbanked’ as a result of the merger would be in the public interest.

The question of whether the inclusion of public interest grounds and macro-economic goalsdilutes the predictability of the outcome of merger cases, will be dealt with by looking at theanalytical approach followed in each of the cases discussed below.

3. ECONOMIC FRAMEWORK

In any analysis of the competitive effects of a proposed transaction, the competitionauthorities will use a certain economic framework to determine whether there will be seriousanti-competitive effects. The specific framework used by the authorities will naturally havean effect on the outcome. It seems that the broad framework used by the South Africanauthorities is that of the Structure-Conduct-Performance framework.

According to the SCP paradigm, the structure of a certain market determines the conduct ofthe companies, which in turn determines the performance. There is therefore a cleardirection of causality moving from structure, to conduct, to performance. Structure refers tothe number and size distribution of firms in a relevant market. Conduct refers to thebehaviour of firms, whether competitive or anti-competitive, whether they collude with eachother or whether certain firms control certain segments or even the whole of the market.Performance includes profit levels, efficiency, economies of scale, etc.

There is an ongoing debate in the industrial economics literature as to the validity of thisparadigm and specifically regarding the issue of causality. Various schools of thought,including the New Chicago School, the Mainstream School and the Contestability Schoolhave developed their own theories on causation. The SCP paradigm has been tested in theSouth African context by several authors. In the earlier research the preliminary conclusionwas that: “the SCP model is partially vindicated in the South African setting”(Reekie,1984:154). The possibility that causality may be reversed (i.e. superior performanceleading to a concentrated structure) was not excluded. In later research, the validity of thesimple SCP paradigm was contested by some authors. Internationally the SCP paradigm hasbeen discredited as too simplistic and the emphasis has moved to more comprehensive gametheoretic models. The implications of the choice of paradigm are serious indeed. Using thewrong paradigm might lead to incorrect decisions with grave implications for thecompetitiveness of the South African economy. Reekie argues in a recent paper that the SCPparadigm is not the relevant model to use in the South African context: “The theoryunderlying that model has been disputed by myself (1984) and its empirical validity has beencast open to doubt in South Africa and elsewhere (Leach, 1997). There are still some SouthAfrican writers (Fourie and Smith 1998) who claim the results suggest that dominance leadsto abuse. The Leach evidence suggest that it is efficiency or scale which leads to customerattracting dominance, or to large asset bases being required for the efficient servicing of arelatively small local market” (Reekie,1999:269).

Acknowledging the narrow assumptions of the SCP paradigm, the Competition authoritieshave been careful not to assume a unidirectional causality between structure andperformance: “The Commission has embarked upon the construction and maintenance of adatabase on the structure-conduct-performance (SCP) relationships in the manufacturing

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sector. As part of an ongoing research project, the ‘wall chart’ uses the SCP analyticalstructure to assess the degree of ‘competition’ across various economic sectors. It should benoted, however, that the use of the SCP as an organising framework for the analysis doesnot imply that we assume a unidirectional causality between structure and performance;rather this inter-industry study adopts a modest, descriptive orientation” (CompetitionCommission,2000a:45).

While the limitations of the SCP paradigm are well known, it still remains a valuable startingpoint in any merger analysis, as will be shown below. The structure of an industry allowscertain inferences to be drawn about the possible conduct after a merger. As explained bythe Competition Commission (2000c:12): “In the case of a merger a Competition Authorityhas to make a certain ‘guesstimate’ of what the conduct of the merged entity post-mergerwill be. Relying on structural characteristics of markets (market shares, concentration levels,etc.) to make certain conclusions about future market behaviour has become commonpractice”. This method of analysing any prospective merger has also become standardpractice in South Africa. However, it will be shown below (e.g. the case of Ellerines and theJD Group) that structure and concentration levels are only indicative statistical measures andthat a deeper qualitative enquiry has to accompany the SCP analysis.

4. ANALYTICAL APPROACH

Working within the parameters of the SCP paradigm, the first step in any competitionanalysis must be the correct definition of the market. Market definition is a vital step in anycompetition analysis. The purpose of market delineation is to permit calculation of marketshares, which are then used to evaluate market power issues. The market definition isdivided into two parts, determining the relevant product and then the geographic market.The method used in the USA is the concept of a “small but significant and nontransitory”price increase (US Merger Guidelines,1992:4). The US merger guidelines (1992:3) describethe test as follows:“A market is defined as a product or group of products and a geographic area in which it isproduced or sold such that a hypothetical profit-maximizing firm, not subject to priceregulation, that was the only present and future producer or seller of those products in thatarea likely would impose at least a “small but significant non-transitory” increase in price,assuming the terms of sale of all other products are held constant. A relevant market is agroup of products and a geographic area that is no bigger than necessary to satisfy this test”.

The outcome of most competition cases turns on the definition of the relevant market. Thetest mentioned above, looks at the market from the demand side. The market is correctlydefined when the ‘hypothetical monopolist’ can profitably increase its price and no othersubstitutes are available for the consumer. This definition is based on the cross-elasticity ofdemand that exists between products. Factors such as the substitutability, homogeneity anddifferentiation of products are used to determine the effects of a “small but significant non-transitory” increase in price. The problem in most cases is that the data necessary to calculatecross-price elasticity is generally not available. The test then becomes an intuitive test used todetermine the relevant market.

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The purpose of market definition is to calculate market shares and concentration indices. Amarket that is defined too broadly will underestimate actual concentration levels. The inversebeing true for a market defined too narrowly. Supply responses are also important. Twofirms could be grouped in the same product market if the resources of the one can be readilytransferred to the production of the product of the other firm. In this regard cross-elasticityof supply should be measured. But once again the paucity of data results in an intuitiveapproach as a pragmatic solution.

a. Santam and Guardian National Insurance.

An example of this is a recent large merger in the short-term insurance industry. Two largecompanies in the short-term insurance field, Santam and Guardian National Insurance(GNI), applied for authorisation to merge. It was a friendly merger, as the French-basedinsurance group AXA wanted to sell its 53% holding in GNI, after acquiring it fromGuardian Royal Exchange (a UK-based group) in May 1999. The other major shareholder ofGNI was Liberty Life (it held 40,6% of GNI).

On 30 June 1998 there were 77 companies registered for short-term business and 4 for bothlong- and short-term business. (FSB Annual Reports). The parties to the merger argued thatthe combined market share of Santam and GNI after the merger would be 25.64%. This wasbased on the income of short-term insurers in the form of gross written premiums. Themarket shares of the direct short-term insurers in South Africa are given below:

Table 1: Market share of direct insurers, determined by gross written premium

1995 % 1996 % 1997 % 1998 %GNI 9.2 9.1 9.9 12.6Mutual & Federal 12.7 15.4 13.8 12.5Santam 11.5 11.4 11.7 13.3CGU 5.3 6.6 6.4 8.3SA Eagle 9.3 8.3 6.9 6.9Total listed short-term insurers 48.0 50.8 48.5 53.6Other short-term insurers 52.0 49.2 51.5 46.4

Source: GNI Analysis of the short term insurance industry 1999, and own calculations for 1998 figures.

There was a dispute regarding the relevant market. The parties to the merger argued thatthere is one market in South Africa for all short term insurance products. In the market thusdefined, the market share of the new merged company would be 25,64%.

The short-term insurance business in South Africa is divided into six different productclasses: fire, marine, motor, personal accident, guarantee and miscellaneous. The motor, fireand miscellaneous classes are the largest contributors. The miscellaneous class includesprofessional indemnity, liability, burglary and loss of profits.

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Figure 1: Gross written premium per class of business (Direct Insurers)Source: GNI Analysis of the short term insurance industry 1999.

To define the relevant product market one has to consider all the products supplied by eachof the merging firms and the possibility for consumers to find alternatives, should the priceof these products increase post merger. The nature of the products being sold in theinsurance market is such that no individual firm can have market power, even if very large.

The parties argued that although there are different product classes, insurance contracts aregenerally similar for the different classes. This means similar cover can be obtained from anygeneral short-term insurer. Accordingly should a prospective client not be satisfied with thepremium quoted by an insurer in respect of certain cover, he may be able to negotiate abetter price or premium for similar if not identical insurance cover through other short-terminsurers.

The nature of consumers demand responses determine the relevant product market. Productmarket definition focuses solely on demand substitution factors, i.e. possible consumerresponses. Products are thus interchangeable or substitutable with one another. The demandelasticity for short-term insurance products in South Africa is therefore assumed to be veryhigh.

The Competition Tribunal was not satisfied with this general description of the short-terminsurance market in South Africa. They argued that internationally it is the norm to define aseparate market for each type of short-term insurance product. In addition to this, they alsoargued that a separate market should be defined for different ‘clusters’ of short-terminsurance products (Tribunal,2000a:2). Defining the market as separate for each class ofproduct gives the following results:

1997

Fire19%

Marine3%

Motor38%

Personal Accident3%

Guarantee3%

Miscellaneous34%

1998

Fire19%

Marine3%

Motor37%

Personal Accident5%

Guarantee5%

Miscellaneous31%

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Table 2: Market shares of short-term insurers (1998)

Fire Marine Motor Personalaccident

Guarantee Miscellaneous

Total

Mutual & Federal* 12% 13% 16% 8% 1% 13% 12.9%Santam 8% 18% 21% 6% 1% 12% 14.0%GNI*** 19% 16% 12% 20% 4% 8% 12.2%CGU** 9% 21% 11% 5% 3% 10% 9.5%SA Eagle 6% 10% 10% 2% 1% 6% 7.1%Others 46% 23% 30% 60% 90% 51% 44.2%TOTAL 100% 100% 100% 100% 100% 100% 100%

Note: Gross Written Premiums for Mutual & Federal and Santam have been adjusted to show annualised GWPfor purposes of calculating market shares.

* Includes Protea** Includes General Accident and Sentrasure*** Includes Aegis, and 38% of Guardrisk. (GNI has subsequently reduced its share in Guardrisk to 30%).

Source: GNI Analysis of the short term insurance industry 1999

Figure 2: Market shares of the five biggest short-term insurersSource: GNI Analysis of the short term insurance industry 1999.

0%

5%

10%

15%

20%

25%

Fire Marine Motor Personal accident Guarantee Miscellaneous

Mutual & Federal Santam GNI CGU SA Eagle

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Figure 3: Market shares post mergerSource: GNI Analysis of the short term insurance industry 1999.

As illustrated by figure 3, the merged firm would have the biggest market share in each ofthese different product classes. The merger of Santam and GNI created a firm that has thebiggest market share in the different product categories, but is less than 35% in all categories.

In the US Merger Guidelines, the merging firms are presumed to have a big enough marketshare to profit from post merger unilateral effects, only if the combined market share isbigger than 35%. (1992:13). Only then will the US Federal Trade Commission presume thata significant share of sales in the market are accounted for by consumers who regard theproducts of the merging firms as their first and second choices.

There were two prominent mergers that were prohibited by the Competition Tribunal in itsfirst year of operations. The prospective merger between two furniture companies JD GroupLtd and Ellerine Holdings Ltd. The other was in the sugar industry between the Tongaat-Hulett Group Ltd and Transvaal Sugar Ltd.

b. JD Group and Ellerine Holdings.

In the case of the furniture industry, the Competition authorities rejected the marketdefinition of the parties. The parties to the merger defined the market as a broad market forhousehold furniture and appliances in which discount stores also compete. The Competitionauthorities found that there was a narrower market for furniture and household applianceswith fewer players, a significant factor being that 99% of Ellerines’ sales are credit sales. “Forpurposes of defining the relevant market we accept the segmentation into credit and cashmarkets and agree that our concern is with sales of product on credit.” (Tribunal,2000b:9).

0%

5%

10%

15%

20%

25%

30%

35%

40%

Fire Marine Motor Personal accident Guarantee Miscellaneous

Mutual & Federal CGU SA Eagle Santam + GNI

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The Tribunal concluded that the relevant parties have a bigger market share in the creditmarket, thus defined. The market shares, according to the merging parties were as follow:

Table 3: Market shares in the furniture industry(parties calculations)

Company Turnover (R million) Market shareJD Group 1 832 9.5Game / Dion 1 966 10.2Profurn 1 704 8.9Relyant 1 573 8.2Makro 1 450 7.5Ellerines 780 4.1Lewis 1 815 9.4OK / Hyperama 798 4.2Pick ‘n PayHypermarket

650 3.4

Independents 6 645 34.6TOTAL 19 213 100

Source: Competition Tribunal (2000b). In the large merger between JD Group Ltd and Ellerine Holdings Ltd.Case no. 78/LM/Jul00.

According to this definition of the relevant market, the combined market share of Ellerinesand JD Group would have been 13.6%. The Competition authorities disagreed andcalculated their own market shares with the following results:

Table 4: Market shares in the furniture industry (Commission’s calculations).

Company Turnover (R million) Market shareProfurn 530 17.2Relyant 712 23.1Ellerines 680 22.0JD 362 11.7OK / Hyperama 500 16.2Lewis 300 9.8Total 3 084 100


This resulted in a post-merger market share of 33.7%, which is much higher than the figureproposed by the parties to the merger.

c. Tongaat-Hulett and Transvaal Sugar.

In the case of the merger between Tongaat-Hulett and Transvaal Sugar (TSB), the marketshares were high. The parties to the merger once again argued for a broad interpretaion ofthe sugar market, working with a SACU based market share, incorporating both Swazilandand Zimbabwe as well as artificial sweeteners. The Competition Tribunal rejected theinclusion of artificial sweeteners and used a narrower market definition (also including SwaziSugar).

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In this case there was a dispute regarding both the product and geographic markets. Therelevant product market was defined as two separate markets, a direct wholesale and retailmarket, and an industrial market. Since white sugar accounts for 90% of sugar produced andsold in SA, it was taken as a proxy for the sugar market as a whole. It was also assumed thatwhite sugar is a homogenous product. As such, the parties argued that they compete in aperfectly competitive international market, with many producers globally competing for thesame market. (Tribunal, 2000c:9). The proposed merger should have raised no competitiveconcerns in such a scenario.

The Competition Tribunal phrased the question as: “Are South African producers properlyviewed as proverbial big fish in a small pond, or tiny minnows in a veritable ocean?”(Tribunal,2000c:8). This touches upon the most important aspect, i.e. the relevant market.The parties to the merger argued that if not the international market, then at least SACUshould be the relevant market and artificial sweeteners as substitutes, should also be includedin the product market definition. This argument resulted in the following market shares:

Table 5: Market shares in the sugar industry (parties’ calculations)

Company Pre-merger market share Post-merger market shareIllovo 30.4% 30.4%Tongaat Hulett Sugar 27.1% 40.8%Transvaal Suiker Beperk 13.7% -Swaziland Sugar Sales 16% 16%Zimbabwe Sugar Sales 4.3% 4.3%Artificial Sweeteners 7.2% 7.2%TOTAL 100% 100%

Source: Competition Tribunal (2000c). In the large merger between the Tongaat-Hulett Group Ltd. AndTransvaal Suiker Bpk. Case no: 83/LM/Jul00.

The narrower market definition of the Competition Commission shows another picture ofthe South African sugar market. Only white sugar was used (as proxy for all sugar products)and the market was defined as South Africa (including Swaziland). Using this scenario, themerger would have caused Tongaat Hulett’s market share in total sugar sales to increasefrom 36% to 54%, the second biggest company having 31% (Illovo) and the only othercompany 15% (Swazi Sugar).

The structure of this market is therefore highly concentrated, which raises concern aboutlevels of market power and anti-competitive behaviour. Even in the broader marketdefinition (Table 5), the resulting market share of 40,8% exceeds standard thresholds. TheCommission was concerned that: “..the structure of the market post-merger will permitprivate regulation to replace public regulation thus frustrating the positive impact thatderegulation will have on the level of competition in the sugar market” (Tribunal,2000c:13).It is interesting that in the final analysis, the Tribunal concluded that:”…while it may bedifficult, given the low baseline, to assert with confidence that competition will be‘substantially lessened’, we are satisfied that potential competition will be ‘prevented’ by themerger. Accordingly it falls to be prohibited.” (Tribunal,2000c:19).

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The nature of the sugar industry globally is such that regulation eliminates local competitionto a certain degree. South Africa’s market is no different and has a long history of regulationand therefore the conclusion was not unambiguous that the merger would lessencompetition. But in the hope of future deregulation, it was judged that the merger might beanti-competitive in the future. The technological and other pro-competitive gains, includingthe public interest issues, cited by the merging parties could not convince the competitionauthorities that the merger should not be prohibited.

d. BP, Shell and Caltex.

Another interesting example of a proposed merger that was rejected by the CompetitionCommission, is the merger between three large oil companies. In this case BP, Shell andCaltex decided to merge their distribution networks in order to attain considerableeconomies of scale, which would benefit the final consumer. The oil industry also has a longhistory of regulation. There are only a few players in this lucrative market and once again thequestion is whether they are big fish in a small pond and thus should be prohibited fromgrowing any bigger in these restrictive waters.

This merger was restricted to the distribution process. The Competition Commissionreferred in its report to the figures published by the South African Petroleum IndustryAssociation (SAPIA). They calculated the market shares as follows:

Table 6: Market shares for petrol and diesel in SA.

1998 1999COMPANY PETROL (%) DIESEL (%) PETROL (%) DIESEL (%)BP 15,92 15,60 16,13 15,28Caltex 17,71 18,19 18,05 16,50Shell 18,24 19,04 17,99 18,99Afric Oil 0,67 0,07 0,05 0,55Engen 24,10 24,07 24,17 23,33Exel 0,80 2,40 1,38 3,80Sasol 6,35 0,51 6,30 0,48Tepco 0,23 0,85 0,40 2,36Total 13,47 14,75 13,07 14,07Zenex 2,51 4,52 2,46 4,64TOTAL 100 100 100 100

Source: SAPIA Facts and Figures, February 2000.

It is clear from the table that the combined market share of BP, Shell and Caltex is around50% in both the petrol and diesel markets. The parties to the proposed merger argued thatthe history of the oil industry in South Africa and the strict regulation, have resulted in ahighly concentrated industry.

e. Stanbic and Nedcor

In the case of the proposed merger between Nedcor Limited (Nedcor) and Standard BankInvestment Corporation (Stanbic), the Supreme Court ruled that the CompetitionCommission did not have regulatory authority to approve or prohibit a bank merger. The

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role of the Competition Commission was reduced to reviewing the proposed merger andmaking a recommendation to the Registrar of Banks. The merger was finally prohibited.

In the report of the Competition Commission, it was argued that the relevant marketconsists of the following three categories:

1. Corporate, investment and merchant banking services.2. Retail banking – Personal banking services.3. Retail banking – Small business banking services (Competition

Commission,2000c:13).

The Competition Commission divided the first category into 12 sub-markets. It was foundthat the combined market shares of the merging parties post-merger would exceed 50% infive of the twelve sub-markets. Yet, although this market was found to be concentrated, thereport emphasised the positive effects of other qualitative factors, e.g. low entry barriers, anincrease in foreign competition and countrevailing power. The conclusion was that theproposed merger would therefore not substantially lessen competition in that specificproduct market (category 1).(Competition Commission,2000c:19).

The other two categories (retail banking services: personal and small banking services) werefound to be characterised by high market shares of the two parties to the transaction. Fivemarkets were defined in this category (plus two additional sub-categories), and in five ofthese seven product markets, the post-merger market shares would have exceeded 40%. Thesituation was even worse in the retail banking services for small businesses category. TheCommission bundled the provision of small business products together in one sub-marketand it was found that the two banks would control 52% of this market if a merger were totake place (Competition Commission,200c:33).

f. Conclusions

In the above cases where mergers were prohibited, the public interest and other pro-competitive gains cited by the parties were not enough to convince the authorities that thetransactions should go ahead. Other issues were also considered by the competitionauthorities, yet the market definition and the issues of market power remained the startingpoint of the investigations. In the Act, it is assumed that a firm is dominant if it has at least45%, or between 35% and 45% if it is unable to prove that it does not have market power. Ifit has less than 35% it can also have a dominant position, but the onus is on the authoritiesto prove that the firm has market power. (section 7). A dominant position is somethingdistinct from merger analysis, but the 35% also appears in the US Federal TradeCommission’s guidelines. There, negative conduct is presumed if the combined market shareof the merging firms is at least 35% (FTC,1992:13).

In the Santam / GNI case the combined market share was lower than 35% (also in thenarrower definition used by the Tribunal). In the other four cases mentioned above, themarket share was above 35% in each case (with some exceptions in the sub-markets of thebanking industry). In the words of Reekie: “The market figures of S7 of the Act of 45 and 35per cent, are themselves, of course arbitrary, and while the existence of a high share is notprohibited, there is at least an implied presumption of “guilt” based on the disputedStructure: Conduct: Performance paradigm of industrial economics”(1999:269). Such an

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alleged presumption of guilt might be too harsh, as the Competition authorities seem to usethe 35% threshold mainly as a point of departure for further investigation. A completeanalysis would also include such criteria as discussed below, i.e. barriers to entry, importcompetition, efficiency gains and public interest.

5. CONCENTRATION LEVELS

Although market share is a valuable tool used in considering the possible market power offirms, a more important measure is the concentration levels in the industry.“A merger is unlikely to create or enhance market power or to facilitate its exercise unless itsignificantly increases concentration and results in a concentrated market, properly definedand measured. Mergers that either do not significantly increase concentration or do notresult in a concentrated market ordinarily require no further analysis.” (USA Horizontalmerger guidelines, 1992:3). Market concentration is a function of the number of firms in therelevant market and their respective market shares. Concentration indices measure thescarcity or lack of firms and the inequality in the size of the firms in the market.

Statistics South Africa (SSA) began publishing concentration indices in 1982. These are nowa standard part of the manufacturing censuses. Six different concentration indices arepublished by SSA. The first two measures are so-called discrete measures of concentration,the four-firm concentration ratio (CR4) and the ten-firm concentration ration (CR10). Thisshows how much of an industry is dominated by the biggest four (CR4) or the biggest ten(CR10) firms.

The more widely used summary concentration ratio in competition analysis is theHerfindahl-Hirschmann index (HHI). This concentration measure takes all the firms in theindustry into account. Unlike the CR4 the HHI would reflect both the distribution of themarket shares of the top four firms and the composition of the market outside the top fourfirms. When the number of firms exceeds one, the HHI is less than 1 and approaches 1/Nthe more equal firms are in size. The problem with the discrete indices (CR4 & CR10) is thatthe concentration index may be identical for two industries, yet the behaviour of the industrycan differ significantly as a result of the firms which were not taken into account. There ishowever, no consensus on which measure is the best. The South African authoritiescalculate the HHI in most cases in conjunction with some absolute measure ofconcentration such as the CR4 (CR3 in the banking and sugar industries).

The HHI is defined as the sum of squared market shares for all firms (N) in the relevantmarket, where 1/N ≤ HHI ≤ 1. The American Merger Guidelines (1992) give the followingstandards. A market with a HHI of between 0 and 1000 is considered unconcentrated.Mergers resulting in unconcentrated markets are unlikely to have adverse competitive effectsand ordinarily require no further analysis. A post merger HHI of between 1000 and 1800 isconsidered a moderately concentrated market. An HHI above 1800 indicates a concentratedmarket.

The three other indices calculated by SSA are the Horvath index (HI), the Rosenbluth index(RI) and the Gini coefficient. The HI and RI are summary measures like the HHI. The HI isnot frequently used. The RI is a summary concentration index. RI equals 1/N if the firmsare of equal size and approaches unity the more unequal firm sizes are. The Gini coefficient

15

is a relative measure of concentration that measures the inequality between firms in therelevant market.

Table 7: Distribution of Gini coefficients at the 5-digit level

1982No %

1985No %

1988No %

0,9 – 1,00 3 2 4 3 7 50,8 – 0,89 37 23 35 22 43 270,7 – 0,79 53 33 59 37 54 340,6 – 0,69 37 23 31 19 29 180,5 – 0,59 19 12 20 12 16 100,0 – 0,49 11 7 11 7 11 7

TOTAL 160 160 160Average 0,7022 0,7054 0,7201

Source: Smith,A. & Du Plessis,S. “Concentration in SA Manufacturing Industry: Measuring both bladesof the Marshallian scissors”. Journal for Studies in Economics and Econometrics,1996,20(2).

a. Santam and Guardian National Insurance

In this case, the HHI calculated for the short term insurance industry was 0.0700 (700 inAmerican terms). Post merger the HHI increased to 0.1028 (1028). The market thereforebecame moderately concentrated after the merger. It is still well below the critical 1800 pointthreshold used by the US Federal Trade Commission. The US merger guidelines (1992:9)states that: ”the numerical divisions suggest greater precision than is possible with theavailable economic tools and information. Other things being equal, cases falling just aboveand just below a threshold present comparable competitive issues”. If the broader marketdefinition is employed (as argued by the parties), the increase in concentration takes it justabove the threshold of a moderately concentrated market.

The increase in the index is from 700 points to 1028 points, an increase of 328 points.According to the US Merger Guidelines (1992:9), if the market falls into the moderatelyconcentrated range (1000 – 1800), then “mergers producing an increase in the HHI of morethan 100 points in moderately concentrated markets post-merger potentially raisesignificantly competitive concerns…” In that case the other competition criteria must alsobe considered.

In their submission, the parties also calculated the other indices published by Statistics SouthAfrica. The HI increased from 0.232 to 0.328. The RI increased from 0.060 to 0.067. TheGini coefficient increased marginally from 0.706 to 0.737. The CR4 post-merger was 0.53and the CR10 0.73.

In the case of the Santam / GNI merger, the Competition Tribunal was not satisfied withthe calculation of concentration indices for the whole of the short-term insurance market.The relevant indices for the respective sub-markets (as argued above) were calculated.

16

Table 8:Concentration in the short-term insurance sub-markets

Source: Own calculations from FSB Annual Reports and Quest data insurance.

Most of the sub-markets fall into the moderately concentrated range post-merger (1000 –1800). Only the guarantee market is highly concentrated. However, the market was alreadyconcentrated before the merger and the market share of the merged companies is low. Asseen from the table above, the post-merger market shares never exceeded 35%. TheCompetition Tribunal concluded that: “Despite the relatively high increase in concentrationin most of the relevant markets, the structural and dynamic characteristics of the short-terminsurance industry in South Africa suggest that the merger is unlikely to significantly restrictcompetition in these markets”(Tribunal,2000a:16).

b. BP, Shell and Caltex

In the Trident case (the oil companies Shell, BP and Caltex), the Competition Commissiondivided the relevant market into three separate sub-markets. This was not a typical mergertransaction. The new firm, Trident, would have no assets but would control the distributionfacilities of the three oil companies. In the market for ‘Storage and Handling Volumes atDepots’ the market was shown to be highly concentrated with a post merger HHI of 4436points. The CR3 would have increased from 0,68 pre-merger to 0,95 post-merger. The othersub-market ‘Capacity of Conventional Refineries’ was also highly concentrated, with a post-merger HHI of 4332 points. The last sub-market ‘Road tankers used in petroleumtransportation’ had a post-merger HHI of 1144 points, making it moderately concentrated.The merger would have increased the HHI in this sub-market with a significant 202 points.(Competition Commission,2000b:50).

c. JD Group and Ellerine Holdings

In the case of Ellerines and the JD Group, there was a wide divergence between theconcentration indices calculated by the merging parties and those calculated by theCompetition Tribunal. The parties calculated an increase in the HHI from 785.7 pre-mergerto 863.5 post-merger. The Tribunal calculated its own figures in the narrowly defined market

FIRE MARINE MOTOR PERSONAL

ACCIDENT

GUARANTEE

Pre Post Pre Post Pre Post Pre Post Pre Post

Market

share

7,8 27,3 16,4 32,6 21,3 34,9 5,19 22,6 1,47 5,73

CR4 0,49 0,57 0,53 0,62 0,60 0,68 0,54 0,60 0,81 0,82

CR10 0,79 0,81 0,91 0,95 0,88 0,90 0,84 0,87 0,94 0,95

HHI 880 1188 1029 1560 1165 1746 1005 1186 2390 2402

Change in HHI 308 531 581 181 12

17

and found an increase of 515 points from 1809 to 2324. The following tables show thedifferent calculations:

Table 9: The Furniture Industry – the calculations of the merging parties

Company TurnoverR/million

Market share HHI pre-merger HHI post-merger Change in HHI

Lewis 1 815 22.9Profurn 530 6.7Relyant 712 9.0Ellerines 680 8.6JD Group 362 4.6OK 500 6.3Independents 3 322 41.9TOTAL 7 921 100 785.7 863.5 78.5


Table 10: The Furniture Industry – the calculations of the Competition Tribunal

Company TurnoverR/ million

Market share HHI pre-merger HHI post-merger Change in HHI

Profurn 530 17.2Relyant 712 23.1Ellerines 680 22.0JD Group 362 11.7OK/Hyperama 500 16.2Lewis 300 9.8TOTAL 3 084 100 1809 2324 515


The Tribunal also calculated the CR4 as 0.84. It commented that: “Competition authoritiesare, as a general rule, very sceptical of a merger where the market share of the four largestfirms will exceed 75% and the merged firm will supply 15% of the relevant market”(Tribunal,2000b:18). The Competition Tribunal found that, given the widely disparate HHIcalculations, they could not rely too much on the concentration indices. “The HHIs areindicative statistical measures; they are not determinant. They must always be bolstered by adeeper, qualitative enquiry in order to arrive at a realistic assessment of the impact of thetransaction on competition in the relevant market.” (Tribunal,2000b:18).

d. Tongaat-Hulett and Transvaal Sugar.

The following table gives the HHI and CR3 for the sugar industry in South Africa (includingSwazi Sugar). These calculations were done by the Competition Commission on the basis oftheir definition of the relevant geographical market (as explained above). Both indices areextremely high. If the merger were allowed, only three companies would have constitutedthe whole market and therefore the CR3 is 100.

18

Table 11: The Sugar Industry in SA

Product market CR3 HHI Change in HHIPre-merger Post-merger Pre-merger Post-merger

Total sales 85 100 2 629 3 574 945Direct sales 83 100 2 940 4 746 1 806Industrial sales 89 100 3 578 4 179 601

Source: Competition Tribunal (2000c). In the large merger between the Tongaat-Hulett Group Ltd. AndTransvaal Suiker Bpk. Case no: 83/LM/Jul00.

e. Stanbic and Nedcor

In the banking industry, data limitations constrained the calculation of HHI’s in all the sub-categories. In the first category (Corporate, investment and merchant banking), it was foundthat the CR3 would increase to more than 65% in five of the eight categories. The HHIcould only be calculated in six of the twelve categories. All six these markets already had anHHI exceeding 1800 (highly concentrated) before the proposed merger. (CompetitionCommission,2000c:17).

In the second category (Retail banking: personal services), all markets had a CR3 higher than65%. The lowest HHI pre-merger was 2118 (Total deposits), already falling well within thehighly concentrated category (above 1800).In the third category (Retail banking: smallbusiness services), the CR3 would have increased from 78% pre-merger to 96% post-mergerand the HHI from 2496 pre-merger to 3720 post-merger. (CompetitionCommission,200c:34).

f. Comparative Concentration Figures

These figures have to be compared to overall concentration levels in the South Africaneconomy.

Table 12: Interval distribution for CR4 for 5-digit industries.

1982No %

1985No %

1988No %

1. High concentration (70%+) 61 38 66 41 65 412.Concentrated (50-69%)

41 25 36 22 37 233. Slight concentration (25-49%) 43 27 48 30 45 284. Unconcentrated (less than25%) 16 10 11 7 13 8

TOTAL 161 161 160

Source: Smith,A. & Du Plessis,S. “Concentration in SA Manufacturing Industry: Measuring both blades of theMarshallian scissors”. Journal for Studies in Economics and Econometrics,1996,20(2).

19

From this table it is clear that the South African economy is indeed characterised by highlevels of concentration. The use of measures like the CR4 might not be entirely appropriatein a South African context. Some markets can only accommodate a few players and CR4figures will not reflect the true nature of the competition in such a market. The followinggraph gives some indication of how the CR4 figures in SA compare with some othercountries.

Figure 4: CR4 by branch of manufacturing, SA, UK, Bulgaria and Average of Six OECD countries (USA, Japan,UK, Germany, Italy and Belgium).

In a recent article CR4 figures were calculated for the European Union (Lyons et al.,2001).The figures for all industries are shown with those of some other industrialised countries:

Table 13: CR4 in selected industrialised countries.

Country CR4USA 31.4EU 20.1Germany 35.9France 34.9UK 39.5Italy 31.6

Source: Lyons, B., Matraves, C. & Maffat, P. (2001). “Industrial Concentration and Market Integration in theEuropean Union”.

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0 10 20 30 40 50 60 70 80 90 100

Chemicals

Electrical

Shipping

Iron & Steel

Non-ferrous metals

Cement

Glass

Textiles

Metal goods

Clothing & Leather

Paper, printing & publishing

��Six OECD countries 1987 (average U.K. 1992

��SA 1993

��Bulgaria 1996

20

Table:14: Concentration in SA.

Source: Fourie,F.C.v.N.(1996). Industrial Concentration levels and trends in South Africa: Completing thepicture.

The CR4, for all industries, is in SA therefore almost twice the figure of the industrialisedcountries listed above. Given the concentrated nature of the South African economy, it isnecessary to ask whether the same thresholds should be used here than in industrialisedcountries like the US. In all the above cases, the Competition authorities used the US mergerguidelines and the HHI thresholds. Competition policy should reflect the realities ofdeveloping countries, e.g. small domestic markets, shallow financial sectors, histories ofactivist state intervention and extensive government regulation. Existing competitionlegislation in developed jurisdictions can not simply be replicated for developing countries.There should be some recognition of the fact that smaller markets can lead to higherconcentration levels and in South Africa the history of state intervention and regulation incertain industries should also be taken into account.

6. ENTRY ANALYSIS

In developing countries, the focus should move away from calculation of simpleconcentration indices, to a greater emphasis on entry requirements. Entry analysis forms avital part of any merger inquiry. The US Horizontal Merger Guidelines (1992:14) state that:“A merger is not likely to create or enhance market power or to facilitate its exercise, if entryinto the market is so easy that the market participants, after the merger, either collectively orunilaterally could not profitably maintain a price above premerger levels. Such entry likelywill deter an anticompetitive merger in its incipiency, or deter or counteract the competitiveeffects of concern”.

Economic literature explains how the contestability theory (associated with the work ofBaumol) can ensure that an industry is competitive, because of easy entry conditions.Even in a market dominated by a few businesses, the threat of entry may be enough todiscipline the firms operating in the industry, preventing any firm from gaining marketpower. In order for such threat of entry to be realistic, there should not be significant sunkcosts incurred by hit-and-run entry behaviour.

The type of entry conditions in a market can explain the behaviour of firms participating inthat market (i.e. conduct). If there are no significant barriers to entry then firms are unlikelyto behave uncompetitively. Low entry barriers ensure that potential competitors can enter

1982 1985 1988CR3 0.5574 0.5711 0.5747CR4 0.6237 0.6364 0.6403CR10 0.7904 0.7948 0.7986HHI 0.1883 0.2020 0.1917Hovarth 0.4048 0.4157 0.4110Rosenbluth 0.1484 0.1613 0.1550Gini 0.6952 0.6967 0.7139

21

the market at any time e.g. if the existing firms should raise prices and profits were toincrease, entry into the market by new firms would become increasingly profitable.An economic analysis of entry conditions thus has to consider the various positive factorsthat a firm would take into consideration before entering a certain market as well as thebarriers to entry.

In developing countries entry barriers were often created through government interventionand regulation. The first aim of competition policy should therefore be eliminating ormitigating government, natural or artificial barriers to entry. (Singleton,1997). If newcompanies can easily enter a market, then new sources of supply will continuously fostercompetition.

In the case of the short -term insurance industry, the Tribunal accepted the argument of theparties that entry is easy. They demonstrated this by listing the new companies that enteredthe market during a certain period (1999). Table 15 shows the number of participants in theSouth African short-term insurance industry. The number of direct insurers in 1999increased by 18% (1998: 20%). Of the 91 short-term insurers, around 20% haveinternational parent companies.

Table 15: Number of short-term insurers

1998 % change 1999 % changeDirect insurers 71 20.3 84 18.3Captive 11 83.3 16 45.5Specialist 31 24.0 38 22.6Other (short-term only) 28 3.7 29 3.6Other (short-and long-term) 1 0.0 1 0.0Reinsurers 7 -12.5 7 0.0

Total 78 16.4 91 16.7

Source: GNI Analysis of the short term insurance industry 1999.

The FSB reported in the 1997 Annual Report of the Registrar of Insurance that: “During thetwelve month period ended 30 June 1998, ten new short-term insurance companies wereregistered. Two of the new insurers have foreign holding companies. ” (FSB,1997:5). Thegrowth in new entry numbers was interpreted as proof that entry is relatively easy and thatthere are no significant barriers to entry.

The following table shows 6 new short-term insurance companies that were registeredduring 1997. Their results for 1998 are given below.

22

Table 16: New companies 1998 results

Name Date registered Class of business Gross premiumincome (R)

% of market share

Bensure 29-07-97 Personal accident 11919000 0.06Mc Sure 11-12-97 Motor 7827000 0.04Outsurance 23-12-97 Fire, Marine, Motor, Personal

Accident, Guarantee andMiscellaneous

4524000 0.02

Renasa 23-12-97 Fire, Marine 10098000 0.05Personal Accident, Guarantee andMiscellaneous

Wintherthur 05-11-97 Fire, Marine, Motor, PersonalAccident, Guarantee andMiscellaneous

27112000 0.13

Sabsure 22-09-97 Marine, Motor, Personal Accident,Guarantee and Miscellaneous

11213000 0.05

Source: FSB 1997 annual report and own calculations from Quest-data, June 1999.

These companies all gained some market share within the first year of operating, which isindicative that entry is indeed easy and likely to be profitable. Foreign competition isincreasing, as South Africa is becoming part of the global economy. This is a welcomechange as the argument of small domestic markets leading to high concentration, loses someof its power. The most important and difficult task of competition authorities in developingcountries, and in SA, is to identify and eliminate government created barriers to entry. Astrong coordinated movement is necessary by both the Department of Trade and Industryand the Competition Commission in changing the history of the many rules and regulationsthat restricted entry into certain industries. In both the sugar and oil cases mentioned above,the parties argued that the high concentration levels were a result of long histories ofregulation. This is true and apart from only blocking the mergers, trade policy should befocussed on eliminating existing entry barriers through deregulation. High concentrationlevels can thus be changed over time by eliminating all entry barriers in the economy,whether they are government-created, natural or artificial.

7. COLLUSION IN CONCENTRATED MARKETS

In the industrial organisation literature, it is presumed that high concentration can lead tocoordinated action, i.e. collusion. The South African Act also mentions this (Section16(2)(iii)): ”the level, trends of concentration and history of collusion, in the market”. Ifthere had been a history of collusion, it would probably be reasonable to assume that amerger will increase the possibility of collusion. This will enhance market power as firmscould then jointly raise prices and act as a cartel.

Concentration and collusion are often the natural results of a regulated economicenvironment. In both the sugar and oil cases, the Competition authorities argued that therewas a history of collusion and that the proposed transactions would increase theopportunities for further collusion. In the Trident case it was said that: “In the presentcircumstances it could be argued that the proposed deal could increase the potential forcollusion or information sharing amongst the three shareholders” (Competition Tribunal,2000c:54). The nature of the sugar market is also such that collusion was expected toincrease with the proposed transaction: “Moreover, there is considerable evidence of co-

23

ordination that goes beyond the regulatory framework, most significantly, the geographicaldivision of the South African market and the division, between Illovo and THS, of retail andindustrial sales” (Competition Tribunal,2000c:14).

Successful coordinated interaction entails reaching terms of coordination that are profitableto the firms involved and an ability to detect and punish deviations that would underminethe coordinated interaction. Empirical and theoretical research by economists consistentlyconcludes that collusive behaviour is most likely to occur in (i) concentrated industries,selling (ii) homogenous products, with (iii) high entry barriers, where (iv) the sellers canaccurately monitor each other’s behaviour in the market. (Farrell & Shapiro,1990).

The parties to the short-term insurance merger (Santam and GNI) argued that the SA short-term insurance industry has too many firms, is moderately concentrated and does not havehigh enough entry barriers to make collusion feasible. They concluded that the proposedmerger would not increase the possibility of collusion.

8. PERFORMANCE OF THE INDUSTRY

The Structure Conduct Performance (SCP) paradigm states that the structure of an industrydetermines the conduct and this again determines the performance of the industry. If it isconcentrated (structure), then high prices must be charged (conduct) leading to bigeconomic profits (performance).

In the short-term insurance case, the following profit figures were supplied by the parties toshow that there are no excessive profits. In none of the other cases mentioned above wasthere any reference to profit levels. There is a dispute in the literature as to the methods usedto calculate profits. As profit levels can often be manipulated and are also difficult to obtainfor an industry as a whole, not much weight is given to this as a measure of anti-competitivebehaviour.

The following table shows profits for 1998 for a number of short-term insurers.

Table 17: Net profit as % of Net premium income

Net Profit % NPI (1998)ABSA 26.7%AEGIS 2.5%AFGEN 0.0%AIG -1.7%ALLIANZ -5.7%CIGNA -17.3CGU. 3.0%COMPASS 5.8%CONSTANTIA -0.6%FEDSURE 15.3%FIRST NATIONAL 8.3%GENERAL ACCIDENT -15.1%GLOBAL 4.8%GUARDIAN NATIONAL 3.3%GUARDRISK 12.9%HOLLARD 4.5%

24

MUTUAL & FEDERAL 6.7%NOVA RISK -56.7%OUTSURANCE -404.3%QUANTUM 6.6%REGENT 12.6%SANTAM 4.3%S.A.EAGLE 13.6%PHOENIX 3.0%

Source: Quest-data comparison tables, 1998.

It is clear from the table that the average profits being earned are not abnormal monopolyprofits. (The only exception being Absa (26.7%) which is probably due to the selling oflinked insurance products covering bonds). If the industry were concentrated, companieswould have had the power to ask prices that are much higher than marginal costs. Monopolyprofits will indicate that price exceeds marginal cost. It is usually not practical or possible tocalculate marginal cost and therefore the arguments around profit levels are not sufficient.

9. EFFICIENCY GAINS AND PUBLIC INTEREST.

In all the merger cases mentioned above, the parties argued that there would be efficiencygains as a result of the transaction. Research on the realisation of efficiency gains post-merger has shown that the advantages promised are seldom realised. The CompetitionTribunal therefore sets a very high standard for proving efficiency gains. “Note that, inbalancing a lessening of competition with pro-competitive gains, the only limit drawn by theAct is that the claimed efficiencies, in addition to offsetting the effects of a lessening ofcompetition, should be attributable to the merger and that, in the absence of the merger,would not have occurred. However, despite the absence of a clear set of criteria in effectingthe trade-off between lessening of competition, on the one hand, and pro-competitive gains,on the other, we, nevertheless, hold that accurate reading of the Act requires us to set a highstandard for establishing possible countervailing efficiency gains” (Competition Tribunal2000c:22).

In neither of the mergers that were prohibited were the authorities satisfied that possibleefficiency gains outweighed the anti-competitive effects. In the case of Ellerines and the JDGroup, the parties could not show that the provision of financial services to the ‘unbanked’is merger specific. The Competition Tribunal found that although the public interestobjectives cited by the parties are all very laudable, they did not find that the proposedstrategies could not be implemented without the merger. (Competition Tribunal,200b:23).The parties to the sugar merger argued that 3000 additional jobs will be created as a result ofthe merger and that the merger will enhance the ability of the firm to compete ininternational markets. The Tribunal found that these positive gains are not enough tocountervail the substantial lessening of competition that would be caused by such as merger.

The negative public interest issues arising from the proposed mergers in the oil and bankingindustries, were also considered by the competition authorities. In the highly concentratedbanking industry, the job losses of 4000 employees, contributed to the prohibition of theproposed merger. In the oil industry, where entry barriers are high (partly due to regulation),there was a serious concern that the proposed Trident transaction will limit the growth ofblack-owned oil companies. It seems that this consideration weighed heavily in the final

25

outcome of the case, as the following quotation from the Commission’s report shows: “Theparties provide in-house and third party storage services. Smaller industry participants, i.e.the black empowerment companies, do not have the necessary funds to acquire and maintaintheir own network of storage facilities. They rely on the storage services provided by theparties. Without access to storage facilities, independent, smaller black empowermentcompanies will not be able to supply their stations with fuel and, therefore, will not be ableto build market share. In the Commission’s opinion the parties have incentive to prevent thesmaller, independent refineries from expanding their market share by restricting their abilityto supply their fledgling stations”. (Competition Commission,2000:3).

The merger cases mentioned above, that were prohibited by the authorities, provide valuableevidence as to the analytical approach used by the Competition authorities in evaluating theeffects of mergers. From the first Annual Report (2000) of the Competition Commission, itcan be seen that most mergers were approved.

Figure 5: Merger cases finalised.Source: Annual Report of the Competition Commission (2000) p, 20

��

��

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September 1999 - March 2000

175

20

136

91

12

133

1 1 3

0

20

40

60

80

100

120

140

160

180

200

Intermediate Large Transitional��Total number of cases notified Total number of cases finalised Total number of cases prohibited

26

10. CONCLUSIONS

South African competition legislation includes a range of macro-economic goals. Someeconomists warned that this might lead to inconsistencies in the application of competitionpolicy. But, there is some consensus that developing countries should adopt policies whichsuit their specific needs: “Until the disempowered fully participate in the economy, theefficiency potential of the nation is not likely to be realized. Second, some goals are moreimportant than efficiency. Achieving a more equitable distribution of opportunity may besuch a goal. Surely a nation has the right to make this choice”. (Fox,2000:14).

The inclusion of public interest issues and affirmative action goals are important attributes ofthe South African Competition Act. In the words of the chairperson of the CompetitionTribunal: “I am pleased that responsibility for these public interest matters has not beengiven to a minister but rather to a competition agency that must show ordinary citizens therelationship between an effective competition policy and the realization of their social goals”(Lewis,2000:2).

From the cases above, it is not clear that specifying other objectives than economicefficiency in the South African Act leads to inconsistencies. Efficiency gains were notenough to outweigh the anti-competitive effects of these transactions. The Tribunal set avery high standard for efficiency gains in its judgement in the sugar case. Emphasis is ratheron the structure of an industry, i.e. concentration levels. In this regard it is not clear that asimple application of the American standards (HHI) is a satisfactory approach in the SouthAfrican context. It was shown that the South African CR4 indices are twice as high as thoseof industrialised countries. But this is not unique to South Africa. Many developing countrieshave high levels of concentration.

The analytical approach of the South African authorities in dealing with merger cases wasdiscussed. The approach seems to fall within the broad parameters of the SCP paradigm,using market shares and concentration indices as a starting point. Care is taken however, toemphasise that no simple unidirectional causality is assumed. Once the structure of a marketis determined, whether concentrated or not, other qualitative factors such as potentialemployment effects, collusion, entry barriers, etc. are considered. From the cases discussed,it seems that economic competition criteria remained the focus of these investigations.

Competition policy falls within the bigger ambit of international trade policy. Deregulationof concentrated markets can provide a necessary first step to increased competition in thesemarkets. The parties in the sugar industry argued that regulation has eliminated competitionin the industry. The proposed merger could not lessen competition, as there exists nocompetition! In order to prevent such arguments by firms, deregulation should be a priority.Entry barriers should be eliminated, whether they are government-created, natural orartificial.

Including public interest issues in competition policy does not seem to distort the basiceconomic goal, i.e. promotion of competition and efficiency. The emphasis should rather beon the deregulation of historically regulated industries and the removal of entry barriers, tomake the economy accessible to all South Africans.

27

11. BIBLIOGRAPHY

Competition Commission (2000a). Annual Report.Competition Commission (2000b). Commission’s recommendation and reasons in the large

merger between Shell, BP and Caltex and Trident. Case No: 2000 Aug. 10.Competition Commission (2000c). Competition Commission Report to the South African

reserve Bank – The proposed merger between NEDCOR and STANBIC. Pretoria.Competition Tribunal (2000a). In the large merger between Santam and GNI, case no:

14/LM/Feb00.Competition Tribunal (2000b). In the large merger between JD Group Ltd and Ellerine

Holdings Ltd. Case no. 78/LM/Jul00.Competition Tribunal (2000c). In the large merger between the Tongaat-Hulett Group Ltd.

And Transvaal Suiker Bpk. Case no: 83/LM/Jul00.Farrell,J. & Shapiro,C. (1990). Horizontal mergers: an equilibrium analysis. American Economic

Review. March, vol. 80:1, pp.107-127.Financial Services Board. (1996). Fifty First Annual report of the Registrar of Insurance. FSB,

Pretoria.Financial Services Board. (1997).Fifty Second annual report of the registrar of Insurance. PretoriaFinancial Services Board. (1998). Indutry Synopsis for 1998. FSB, Pretoria. Available online:

[http://www.fsb.co.za/synopsis.htm].Financial Services Board. (1998). First annual report of the registrar of short-term insurance. Pretoria.Fourie,F.C.v.N.(1996). Industrial Concentration levels and trends in South Africa:

Completing the picture. South African Journal of Economics. March, vol. 64:1, pp. 97-121.

Fourie,F.C.v.N. & Smith,A.(1994). The South African Cement Cartel: An EconomicEvaluation. South African Journal of Economics. Vol. 62:2, pp. 123-143.

Fourie,F.C.v.N. & Smith,A. (1995).The South African Cement Cartel: A reply to Leach.South African Journal of Economics. Vol.63:1,pp.91-102.

Fourie,F.C.v.N. & Smith,A. (1998).The Concentration-Profits Stalemate I: Causality andinterpretation problems. South African Journal of Economics. Vol. 64:4, pp. 558-583.

Fourie,F.C.v.N. & Smith,A. (1999) The Concentration-Profits Stalemate II: Ideological Riftsand Methodological Stress. South African Journal of Economics. Vol. 67:1, pp. 65-94.

Fox,E.M.(2000). Equality, discrimination and competition law: lessons from and for SouthAfrica and Indonesia. Harvard International Law Journal, Spring 2000.

GNI.(2000). Analysis of the short-term insurance industry. Annexure D of the form CC(4)(2)lodged by GNI. Unpublished.

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