mergers

Question 1

UK Merger Policy

Answer 1

Any potential merger must give details to the OFT. If the OFT is concerned, they can refer the merger to the competition commission which can examine whether the merger is in the public interest.

Question 2

Disadvantages of Mergers

Answer 2

If a merger leads to a significant increase in market share, the new firm could exercise monopoly power. This could lead to:

1. Higher prices leading to allocative inefficiency and a reduction in consumer surplus
2. With increased supernormal profits, the firm can engage in cross subsidisation or predatory pricing increasing barriers to entry in the industry.
3. Mergers can lead to job losses.
4. Motives for mergers may primarily be based on increasing prestige and wages of workers concerned.
5. If the firm becomes too big it may suffer from diseconomies of scale.
6. Other monopoly disadvantages

Question 3

Potential Benefits of Mergers

Answer 3

1. Economies of scale. This occurs when a larger firm with increased output can reduce average costs. This is important for industries with high fixed costs.
2. Mergers can help firms compete on an international level.
3. Mergers may allow greater investment in R&D because the new firm will have more profit. This can lead to a better quality of goods for consumers.

Question 4

Merger Evaluation

Answer 4

The desirability of a merger will depend upon several factors such as:
• Is there scope for economies of scale? – what is the extent of Fixed Costs in the industry?
• Will there be a significant reduction in competition?
• Is the market still contestable? (Is there freedom of entry and exit for other firms?)

Question 5

The competition commission

Answer 5

looks at each individual case and assess its relative merits and demerits.

Question 6

Demergers

Answer 6

Demergers occur when a firm splits itself into two separate companies. Reasons for demergers could include:
• Firms worried over diseconomies of scale. A big firm may become inefficient because it is difficult to retain focus with separate branches. Splitting up enables a more manageable size.
• Protect itself against a hostile takeover.
• Prevent conflict between different aspects of the business.
• Demergers could be imposed by a regulator, concerned the firm has too much monopoly power.