Abstract
This paper studies the possibility of different types of mergers when firms produce vertically and horizontally differentiated products. Two firms produce a better quality product, while the third firm produces a lower quality product and the firms compete in quantities. The merger of two firms that produce better-quality products is possible if the quality difference (net of cost) or the horizontal product differentiation are high. However, if the quality difference (net of cost) and the horizontal product differentiation are neither too high nor too low, then the firm that produces the better quality product will merge with the firm that produces a lower quality product. Welfare may increase after the merger between the two firms that produce different quality products. However, if the two firms that produce the better quality product merge then welfare always falls.
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Notes
Ashenfelter et al. (2013) mentions that in U.S. each year thousands of mergers are proposed to the U.S. Federal Trade Commission and U.S. Department of Justice. After filing, the merging firms must wait while the antitrust authority attempts to identify and block mergers that would increase consumer prices and thereby reduce consumer surplus.
Gugler et al. (2003) analyzes the effects of mergers around the world over the past 15 years.
In India around the mid-1990s, soft-drink giant the Coca-Cola company bought out a well known domestic soft drink brand Thums Up and immediately after this takeover, the company cut down on the advertisement of Thums Up, cut down on it’s supplies to markets and tried to promote Coco-Cola brand more aggressively leading to loss of market share of the Thums Up brand quite substantially. The consumers were not happy to see this dilution of the brand and none of the soft drinks variety was close to the taste of Thums Up as perceived by the consumers (Thumps Up “taste the thunder" which was the tag line of the advertisement). After several years the company re position the brand and it is now a flagship brand of the Coco-Cola company at least in the Indian market (see Dutta 2022). Brand rationalization after merger is a common feature whenever the merging firms have competing brand in the same market. In 2005, the merger of Proctor and Gamble, a US consumer goods company and Gillette, the world’s largest manufacturer of shaving products made them one of the largest consumer products company. However, the product portfolio was rationalized over time and some under-performing brands were sold off.
Under the discrete choice approach there exists the “spokes model” of non-localized spatial competition as a tool for oligopoly analysis developed by Chen and Riordan (2007).
Studies of product differentiation that follow the representative consumer model are Spence (1976), Dixit and Stiglitz (1977), Dixit (1979), Singh and Vives (1984), Hackner (2000) etc. For a detailed review of literature following this tradition as well as the linear demand system, one can see Choné and Linnemer (2020) and Martin (2009). Shubik and Levitan (1980) however considers an aggregate linear demand, differentiated product specification in which total demand at identical prices is constant with respect to changes in the number of varieties. Belleflamme and Peitz (2015) mentions that “Also preferences in these representative consumer models can be specified on an underlying characteristics space. The idea here is that a product is a bundle of different characteristics. A consumer has preferences over these bundles.”
There is another demand system developed by Sutton (1997) and later used by Symeonidis (1999) that characterizes horizontally and vertically differentiated product markets simultaneously. However, they follow the representative consumer model and there too the demand is linear. For analytical simplicity (Symeonidis 1999) also considers that the marginal costs are constant in a study on collusion. This approach is quite similar to Hackner (2000) as followed in our paper.
These costs also include the promotional costs of marketing the brand as well as the production cost of the specific quality associated with the brand.
Sen and Narula (2021) assumes that \(\alpha _{1}>\alpha _{2}=\alpha _{3}\) and \(c_{1}>c_{2}=c_{3}\).
It is always better to produce both the goods in comparison to not producing either of the two products.
It is also to be noted in this context that merger between firm 1 and firm 3 and merger of firm 2 and firm 3 are equivalent to each other.
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The authors thank Rajit Biswas for the valuable suggestions and comments. We are grateful to the two anonymous referees of this journal for providing some insightful comments which helped us to improve our paper significantly. The usual disclaimer applies. The authors declare that there is no conflict of interest.
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Sen, N., Sinha, U.B. When to merge with a lower quality producer?. J Econ 138, 165–188 (2023). https://doi.org/10.1007/s00712-022-00807-6
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DOI: https://doi.org/10.1007/s00712-022-00807-6