Market Structure of the Industry - Case Study Example

Full topic and Section # of Introduction The paper with the critical analysis of the global issue “General Electric/Honeywell Mergers”, moreover, the analysis of European commission and US department of justice is also taken in account. The paper provides an overview of the case with a detail overview of aircraft industrial structure. The most important section is the analysis of the case with the help of theory of industrial organization. It shows that after the merger what will be the market structure and the outcome of this merger. Overview of Case The case mainly deals with the critical analysis on the effect of merger between the two giant, US base companies, General Electric and Honey well. The decision of their mergers will affect the single product manufacturing firms that are the competitors of these two firms. The case actually revolves around an issue that this merger will directly influence the operations of their competitors mainly dealing in aircraft and its accessories. The antitrust agencies have views that oppose this merger as this will directly affect their competitors through “anti-competitive effect”. Different theories are given by European commission which is against this merger while department of justice in US favor the merger. The overall case sounds the affect of this merger by providing different theories and a critical analysis on the view of EU commission and DoJ (department of Justice) is given to find out the end result. Market Structure of the Industry Aircraft Engines market The industry of aircraft mainly divided into different categories according to the parts manufactured by the firms, which will clearly define the segments in the Aircraft industry. These categories are 1. Large Commercial Jets: the large commercial jets market consists of Airbus and Boeings. This category is further divided into two sub-categories as wide-bodied (twin Aisle) and narrow-bodied (single Aisle) aircrafts. 2. Regional jet Aircraft: there are four major regional aircraft manufacturer and this category is again sub-divided into large and small aircraft. The European commission stated that there is still; growth seeing in this market which will be destructive if the merger between the two will proceed. 3. Corporate jet Aircraft: the corporate aircrafts are small aircrafts bought by high net worth individuals or by the corporations. Non-Avionics and Avionics Market 1. Non-Avionics Market: this market includes manufacturing of basic aircraft accessories like wheel, brakes, landing gears, lightings, environmental control and auxiliary power units. 2. Avionics Market: the avionics include the products that are used for communication and navigation of the aircrafts during the external flying. The market is divided into two main areas as large commercial aircraft (LCA) and regional corporate jet. Airframes In total aircraft markets there are two major markets as major customers and major financers. The major financers are those who used to finance or invest in the aircraft market where as, the major customers are the one that buy the aircrafts. Leasing companies The leasing companies are the firms that provide the aircrafts to the consumers on leasing. These leasing companies are the one that play an important role and provide aircrafts to the end users on the leasing. Why the firms have been challenged The firms General Electric and Honeywell are challenged by the European Union and other competitors due to many reasons that directly affect the operations of their competitors. What are these major factors that are the basis of this challenge are given as: Bundling The bundling of these two major firms directly will directly provide them competitive effect. The competitors of the firms like Rolls Royce and many other present in the market dealing with a single product line will be in danger. The monopoly is achieved by these two and this will effect at global level. They will become the Giant in aircraft industry and become a great barrier for others. In fact they can use the “Price” factor to win the global market. Archimedean Leveraging The GE is providing services of leasing as “GE capital aviation services”. These leasing services will be more enhanced after the two mergers. This leasing service will provide a monopoly to the general electric and will also destroy the business of other leasing firms. This will financially break the financial sector of different companies and will be the great barrier for the firm. This is the second most important factor for which the firms challenged these two firms. Vertical and horizontal effects: The above two issues deal with portfolio and conglomerate theories whereas, this part of the paper shows the arguments on traditional anti-trust areas as vertical and horizontal effects. Due to these mergers the firms will be able diversify horizontally and vertically by acquisition of all small firms and competitors. The two firms with better research and development and low cost-strategy by using the mutual resources will be able to buy and acquisition of other competitors and firms dealing in aircraft line. Arguments of defendants The defendants, such as GE, Honeywell and DoJ explained that the firms merged gain more efficiency and effectiveness. Though they argued that the horizontal acquisition is not possible as different types of products related to aircrafts are formed at global level and this is not possible by the two firms to takeover other firms. The only reason for their merger is to gain the efficiency by sharing different resources and capital. The arbitrage capital outlay is controlled by the firms to control the share price of the firms and the market position. Final decision of the court The court hearing last for 18 months to 2 years and the reason was to deeply investigate the case. The final decision was that the merger between the two is possible but under standard of review. These standards are provided to control the economic factors that will be affected by the mergers. The control on the two mergers is must and standards provided to the two firms must be followed so that they together can not affect the global economy. Assessment of decision The mergers are of three types and these are 1. Vertical merger 2. Horizontal merger and 3. Conglomerate merger Conglomerate merger The two firms merged that is known as conglomerate merger. In conglomerate merger the two firms have nothing to do with each other rather they merged for three purposes 1. For the extension of production 2. For the extension of the market and 3. Pure conglomerate; nothing to do with each other Market structure after merger The section will detail the assessment or the future of this merger by using the theory of industrial organization. Industrial organization is the theory of economics that define the different market structure according to the type of industries and market of the region. Taking above case in hand, if the two firms merged together than the market structure will be “Monopoly” Monopoly In monopolistic situation the firm has sufficient control over the good or services. The two firms are already considering as the giant in the aircraft industry. When the two firms merge to work together then they can better deal with their market and products. The firms will mutual share their resources and expertise to control over their cost and already they have mentioned that they are merging to gain efficiency. As they will be able to become more efficient, this is providing a great threat to the competitors specially dealing in single line products. The monopoly is achieved as they will become price maker. Price maker: the two firms together will be efficient to make the price of the goods and products. Therefore, the most important threat is that the competition in the aircraft industry will diminish and the prices will be in control of these two firms. This is the biggest advantage that these two firms will take after merging. The outcomes of this market structure (monopoly) is given as 1. Price discrimination: the price is the very first factor that is affected by the monopoly structure. In monopolistic structure the prices are set by the firms that are leading in the market. Thus, the two firms when merge, than they will be the price maker. This will directly affect the operations and sales of their competitors as they have to take other factors in account to compete with these two firms. The price discrimination will be the first degree discrimination in which all the control over price is taken by these two firms. 2. Product differentiation: as already mentioned by the two firms that they are merging to provide more efficiency by enhancing the quality of products. Therefore, they will share their resources and expertise will develop a better research and development structure and all these together will be able to provide a better product to the end users. This not only provides a better product but will also be very cost-effective as they will share the internal cost. 3. Durable goods: the other factor or output of this merger will be the durable good provided by these two firms. The utility of time do not give extra cost and remain durable over a long period of time. 4. Barrier to enter: the output of the merger will be a great barrier for the other firms to enter in the aircraft market. This barrier to entry will keep the monopolistic structure of the market and thus the both will rule the aircraft industry. 5. Secondary markets: the secondary market is the financial market which is also affected by the merger of above two firms. As General Electric is dealing with the leasing of the aircraft industry, thus this again provides a monopoly in the financial market and the consumers will face with a fixed price product with same interest rate. In this sector, the choices of the consumers will be limited to the only products produced by these two firms. Efficiency Defence General Electric fails to achieve the efficiency for which they merge with Honeywell and thus they are now required to rule out the market in way that it must strengthen the consumer welfare. According to Jack Welch the general electric want to achieve efficiency by using Honeywell assets and they want to add six sigma and e-business initiative to reduce their cost up to $1.5 billion. But what was the end result? The General electric fails to achieve this cost saving. There are two main factors through which the GE wants to achieve the efficiency defence and these are Allocation of Honeywell capital GE decided to use and allocate the Honeywell assets to reduce their internal cost to achieve the efficiency. For an internal capital market to work in more efficient way, the firm has to equalize its cost of capital with market based cost in order to gain maximum efficiency. GE uses strong financial budgeting methods to prevent any risk and loss but still the firm faces different interest rate hurdle and other problems and thus they were not able to achieve the efficiency for what they proceed their merging. According to DoJ, the efficiency was not achieved only because of the delay during the court hearing. This time period, 2 years, changes many situations and thus causes the problems. Dealing with merger synergies Deployment of GE intangible assets was another factor that was taken in account by the firm to create efficiency. Six sigma and other quality programs were decided, but eh firms faces problems in combining their intangible assets and thus the results were opposite to as expected. Though, the firm’s procedures and processes were fine but they face problems while combing their intangible assets. This was again a major hurdle for the firm to provide defensive efficiency. Market reaction to GE Honeywell Usually in such type of mergers, the competitors will not gain effective resources to gain the efficiencies and thus they are hurt, but in the GE Honeywell case the competitor’s uses different phenomena’s to gain efficiencies. For instance, Royal Royce uses benchmarking technique to reduce their cost and gain efficient way to compete. This result: the GE and Honeywell were unable to react in their market with the competitors and fail to achieve efficiencies for which they were merged. Williamson Contribution Williamson is the famous economist and according to him when the firms go for horizontal merger than it would invariably reduces the welfare, however, if the competitors become more cost-effective than the welfare enhancement is possible. The above graph shows that the average cost of the firms decreases only when the firms are effective enough to lower their internal cost in order to compete with their competitors. Taking the case of General electric and Honeywell, the competitors of these firms are not the price maker but they can achieve efficiency to lower their price by reducing their internal and extra costs. Once they have achieved the efficiency in lowering their over all average cost, they will be able to deal with the prices to compete in the market. Furthermore, the welfare is neutral when the A1 and A2 values are equal to each other. The value of A1 and A2 are measured as A1 = ½ (P) (Q) Where as A2 = (AC) (Q m) If A1 = A2 than the welfare is consider to be neutral Conclusion The merger of the above two firms is possible but the two will greatly impact the position of the global market. When the corporations become too giant than they need to regulate by the government rules as these organizations can not harm the other businesses in the world. Therefore, it is concluded that the merger of the two is possible only when they will operate within the limits and boundaries provided by the government rules and regulations. The control over the two is very important and this is only done by providing standards and regulations that keep the firms on the right track. Moreover, the operations of the above two should not affect the primary and secondary market of the world and must provide efficient ways to other firms. The merger within the two can lower their internal cost to provide efficiency but once they become the prime maker at global market than the two will be a big threat for all the industries dealing at global level. References Alan M. Rugman and Richard M. Hodgetts (March 2000) “International Business”, Third Edition. Anant K. Sundaram, J. Stewart Black, (1995) “The International Business Environment” First Edition. Charles W.L. Hill, Gareth R, Jones (2003) “Strategic Management” 6th Edition Robert S. Pindyck, Daniel L. Rubinfeld (2004) “Microeconomics” 1st Edition N. Gregory Mankiw (1998) “Principles of Microeconomics” 1st Edition Richard G. Lipsey, Alec Chrystal (2003) “Economics” 10th Edition Read More