International Industrial Management II

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1 Lehrstuhl für Industrie, Energie und Umwelt International Industrial Management II Break-Even (Example: Airbus A380) Mergers & Acquisitions HHI & CRn Mag. Florian Pützl Universität Wien Fakultät für Wirtschaftswissenschaften Lehrstuhl für Industrie, Energie und Umwelt Supplement: Price Discrimination Geographic Price Differentiation Automotive Industry: Graph - Selected Models: EU-Commission Report: sectors/motor_vehicles/prices/report.html UK SK SE RO PL LV LT HU EE DK CZ BG SI PT NL MT LU 193,4 275,1 Clothing Industry: Levis 501: German Online-Shop: 79, American Online-Shop: $46 ( approx. 33, at an exchange rate of 1 = $ 1,4) Florian Pützl 2011, WS 2011 Page 2 IT IE FR FI ES EL DE CY BE AT Price Index (incl tax) Mercedes Benz E 220 CDI VW Golf 80 PS Trendline

Industry: Graph - Selected Models: EU-Commission Report: http://ec.europa.eu/comm/competition/ sectors/motor_vehicles/prices/report.

2 Break-Even Example: Airbus A 380 Development Costs: ~ 13bn (I) Unit Price: ~ 264m (p) Production Cost/Unit.: ~ 212m. (c) (own estimation*) Break Even Point: ( p c) x = I ( ) x = x = = Break-Even Point: units Why using a Break-Even-Interval? Generous Discounts for Launch Customers (~ 10m./plane) p = [255m,264m] x = [250, 300] Quelle: Source: Economist.com, BBC Business News, Aviationexplorer, Der Spiegel & Wikipedia. *c.f..: Jurist, Dinkin, Livingston; When Physics, Economics, and Reality Collide - The Challenge of Cheap Orbital Access, Working Paper Florian Pützl 2011, WS 2011 Page 3 Business and Mergers Objectives Business Objectives: Profit maximization & cost minimization, equivalent in a competitive market Maximization of profitability and maximization of internal rates of return. Profit maximization in compliance with MES (MES-Minimum Efficiency Scale) power & market shares e.g. via Mergers LRAC: Long Range Average Costs Quelle: Florian Pützl 2011, WS 2011 Page 4

airliners.net Source: Economist.com, BBC Business News, Aviationexplorer, Der Spiegel & Wikipedia. *c.f.

3 Targets of Mergers Growth: Internal (natural) growth: through demand growth (installation of capacity) External growth: through Merges & Acquisitions, from a management perspective: friendly or hostile takeover Synergy effects: Rationalization, cost reductions, reduction of duplications, know-how transfer. The complete is more than the sum of its pieces. Risk spreading Florian Pützl 2011, WS 2011 Page 5 Types of Mergers & Acquisitions Horizontal Mergers & Acquisitions: Within an industry within the same production stages, e.g. Daimler & Chrysler, UniCredit & BACA Vertical Mergers & Acquisitions: Within the entire manufacturing/production process upstream and downstream (w.r.t production stages), e.g. GM & Fisher Body Lateral or Diversifying Mergers & Acquisitions: Between different industries, e.g. General Electric Florian Pützl 2011, WS 2011 Page 6

Risk spreading Florian Pützl 2011, WS 2011 Page 5 Types of Mergers & Acquisitions Horizontal Mergers & Acquisitions: Within an industry within the same production stages, e.g. Daimler & Chrysler, UniCredit & BACA Vertical Mergers & Acquisitions: Within the entire manufacturing/production process upstream and downstream (w.

4 Types of Mergers & Acquisitions A) horizontal OEM A1 & OEM A2 Consumer Industry A Industry B Industry C B) vertical OEM A & supplier A and/or distributor A C) diversifying OEM A & OEM B/C and/or supplier B/C and/or distributor B/C B OEM A B A C C Raw Material Florian Pützl 2011, WS 2011 Page 7 Motives for M&A Horizontal M&A: External growth, developing new customer groups, market power, synergy effects, scale economies (procurement, sales & financing), etc. Vertical M&A: Reduction of transaction costs, reduction of inter-firm dependence (holdup), synergy effects, minimizing risks, avoidance of double-marginalization, scale economies. Diversifying/Lateral M&A: External growth, R&D transfer (e.g. GE), managerial hybris, development of new markets, diversification of risk (risk spreading through portfolios portfolio effects), scale economies. Florian Pützl 2011, WS 2011 Page 8

synergy effects, scale economies (procurement, sales & financing), etc.

5 Motives for M&A Critical Considerations Minimization of Risk (Hold-Up): 30% of all M&A are suboptimal in economic terms. In the context of vertical integration: M&A vs. Dual/Multi Sourcing. Synergy Effects: Mostly overvalued. Reduced net effect due to information asymmetry and opportunistic behavior. Risk Spreading Portfolio: Monster-Organization fuzzy core competences (c.f. outsourcing-wave, separation, spin-offs & concentration on core competences beginning in the late 1990s) Scale Economies (procurement, sales, financing): Certain combination of firm sizes are more suitable to potentiate scale economies. Florian Pützl 2011, WS 2011 Page 9 Motives for M&A Scale Economies Cost of Capital c K (i) f(c K,s): function of cost of capital contingent to firm size (s). c K (i): cost of capital of firm i, i=[a,b,c,ma,b,mb,c] c K (A) f(c K,s) c K (B) c K (M A,B ) c K (C) c K (M B,C ) A B M A,B C M B,C s Florian Pützl 2011, WS 2011 Page 10

ects: Mostly overvalued. Reduced net eff

6 Top 20 Mergers The bulk of M&A in the last years have been horizontal mergers: Florian Pützl 2011, WS 2011 Page 11 Merger Classification (according to D.C. Mueller) Around 30% of all M&A are profitable (i.e. increase in profit and/or market power) Quelle: Gugler, K., Mueller, D.C., Yurtoglu, B.B., Zuhlehner, Ch., The effects of mergers: an international comparison, International Journal of Industrial Organization, 21, 2003, pp Florian Pützl 2011, WS 2011 Page 12

, Mueller, D.C., Yurtoglu, B.B., Zuhlehner, Ch.

7 Structure & Merger Guidelines Through M&A market structures are changed as the industry concentration increases (less firms with higher market shares each). To avoid potential drawbacks e.g. EU Merger Guidelines Basis for Merger Guidelines are industry concentration measures, such as the Concentration Ratio (CR)-Method or the Herfindahl-Hirschmann- Index (HHI). Florian Pützl 2011, WS 2011 Page 13 Concentration Ratios: CRn & CR4 CRn: is an indicator for the relative size of a firm in relation to the total industry. The n-firm CR is the percentage of market output produced by the n largest firms in the market. CR4: four-firm concentration ratio market share of the 4 largest firms CR4 Examples: Structure Agriculture: 5% Monopoly Sheet metal: 9% Soap & Detergents: 63% Oligopoly Aircraft: 79% Monopol. Comp. Perfect Comp. 50% 100% CR4 in % Florian Pützl 2011, WS 2011 Page 14

The n-firm CR is the percentage of market output produced by the n largest firms in the market.

8 Herfindahl-Hirschmann-Index HHI is a measure for the size of a firm and an indicator of competition between firms. A reduction of the HHI indicates a reduction in market power and an increase in industry competition, et vice versa. Definition: HHI = n 2 ( s i ) HHI [ 0;10.000] i= 1 s i...market share of firm i Florian Pützl 2011, WS 2011 Page 15 Calculation of the HHI Example: 13 firms in a market/industry: Merger 4&5 Merger 1&7 Company Output OS Output OS Output OS 47, , , , , , ,37 546, ,37 546, ,37 546, ,28 86,1184 9,28 86,1184 9,28 86, ,89 34, ,42 130,4164 5,89 34, ,53 30, ,53 30, ,43 11,7649 3,43 11,7649 3,43 11, ,29 5,2441 2,29 5, Σ 8 1,96 3,8416 1,96 3,8416 1,96 3, ,28 0,0784 0,28 0,0784 0,28 0, ,01 0,0001 0,01 0,0001 0,01 0, ,02 0,0004 0,02 0,0004 0,02 0, ,02 0,0004 0,02 0,0004 0,02 0, ,01 0,0001 0,01 0,0001 0,01 0,0001 HHI delta HHI Merger 4&5 Merger 1&7 Company Profit PS Profit PS Profit PS 1 36, , , , , , ,55 704, ,55 704, ,55 704, ,26 175, ,26 175, ,26 175, ,11 82, ,18 330,5124 9,11 82, ,07 82, ,07 82, ,85 8,1225 2,85 8,1225 2,85 8, ,54 0,2916 0,54 0, ,44 2,0736 1,44 2,0736 1,44 2, ,22 0,0484 0,22 0,0484 0,22 0, ,01 0,0001 0,01 0,0001 0,01 0, ,01 0,0001 0,01 0,0001 0,01 0, ,01 0,0001 0,01 0,0001 0,01 0, HHI delta HHI Merger 4&5 new HHI 3080 delta HHI 65 Merger 1&7 new HHI 3234 delta HHI 219 n ( ) 2 n HHI = s i ( ) 2 Merger 1&7 HHI = s i i= 1 Merger 4&5 new HHI 2586 delta HHI 165 new HHI 2461 delta HHI 40 i= 1 Florian Pützl 2011, WS 2011 Page 16

..market share of firm i Florian Pützl 2011, WS 2011 Page 15 Calculation of the HHI Example: 13 firms in a market/industry: Merger 4&5 Merger 1&7 Company Output OS Output OS Output OS 47,92 2296,3264

9 CRn vs. HHI Assumptions: Industry consisting of 16 firms, where the 6 largest firms have an aggregate market share of 90%. 1 st Case: each of the 6 firms has a market share of 15%. 2 nd Case: the largest firm has a market share of 80%, the other 5 firms 2% each. In both cases the remaining firms in the industry have an aggregate market share of 10%, which is equally distributed among the remaining competitors. Calculation: HHI CRn Company Case 1 Case 2 Company Case 1 Case % 80% % 2% % 2% % 2% % 2% % 2% Rest (10) 10% 10% HHI CR6 90% 90% Results: The CRn sheds no light on the competitive situation, as the results are the same for both, near perfect competition (1 st case) as well as for the quasi-monopoly situation (2 nd case). Florian Pützl 2011, WS 2011 Page 17 HHI for US NAICS Industries Source: Concentration Ratios in Manufacturing 1997 Economic Census - U.S. Department of Commerce, Economics and Statistics Administration, U.S. CENSUS BUREAU Florian Pützl 2011, WS 2011 Page 18

In both cases the remaining firms in the industry have an aggregate market share of 10%, which is equally distributed among the remaining competitors.

10 HHI & Merger Guidelines As the HHI is subject to significant changes due to M&A it is a suitable tool to evaluate the impact of a specific M&A. Thus, the HHI has been implemented in the merger guidelines for pre-evaluation of merger cases. EU & US Screening Thresholds: In case of high switching costs, HHI ΔHHI entry barriers, etc. M&A can arise competitive EU Screening Threshold Competitive Concern > 250 concern even though they Competitive Concern > 2000 > 150 take place in markets with rather low concentration. US Screening Threshold Competitive Concern > 100 The Screening Rules in the first Competitive Concern > 1800 > 50 place serve as a tool for a No Competitive Concerns for HHI < 1000 for any ΔHHI preliminary evaluation of the merger case! Florian Pützl 2011, WS 2011 Page 19 HHI - Example Company Pre-Merger Data Merger 1&5 Merger 4& Rest HHI 2200 HHI 2550 HHI 2300 delta HHI 350 delta HHI 100 HHI < 2000 HHI < 2000 delta HHI > 150 delta HHI < 150 Competitive Concern! No general Concern Florian Pützl 2011, WS 2011 Page 20

M&A can arise competitive EU Screening Threshold Competitive Concern 1000-2000 > 250 concern even though they Competitive Concern > 2000 > 150 take place in markets with rather low concentration.

11 HHI - Example Company Pre-Merger Data Merger 1&5 Merger 4& Rest HHI 2200 HHI 2550 HHI 2300 delta HHI 350 delta HHI 100 HHI < 2000 HHI < 2000 ΔHHI > 150 ΔHHI < 150 Competitive Concern! No general Concern Florian Pützl 2011, WS 2011 Page 21

15 225 15 225 HHI 2200 HHI 2550 HHI 2300 delta HHI 350 delta HHI 100 HHI < 2000 HHI < 2000

MM, EFES EN. Marc Mathieu

MM, EFES EN. Marc Mathieu MM, EFES EN Marc Mathieu La Tribune Hewitt EUROPEAN EMPLOYEE OWNERSHIP ACROSS THE CRISIS Numbers 2006/2007/2008/2009 2009 2008 2007 2006 Employee owners 9.3 million 9.0 million 8.4 million Employees' share