SYNOPSIS: The most recent mega-mergers have little to do with synergy and lots to do with market power.
t was a big week for business consolidation. After imposing some additional restrictions, the Federal Communications Commission gave a green light to the merger of AOL and Time Warner. Meanwhile, American Airlines announced a deal to take over ailing T.W.A., a deal that would leave American and United with half the domestic market, and would probably lead to further mergers among the remaining airlines.
Are these deals likely to increase the combined profits of the merging companies? Maybe and yes. Are they likely to be good for consumers? Maybe and no. And there's a reason for that contrast. The AOL-Time Warner merger will take place under rules intended to ensure that the deal doesn't come at the expense of consumers. It's not yet clear whether American's takeover of T.W.A. will be subject to any comparable restrictions. And more generally, it's unclear whether the federal government will continue to police mergers to make sure that they are good, not bad, for the economy as a whole.
Broadly speaking, there are two business justifications for mergers. The one business leaders like to talk about is "synergy" — the idea that the new whole is more than the sum of its parts, allowing profits to rise without hurting consumers. The other justification, which doesn't get mentioned in polite company, is market power — the ability to restrict the choices of consumers and charge them higher prices.
The key fact about synergy is that it's elusive. It's very difficult to know in advance whether it's strong enough to justify a merger.
A case in point is the troubled marriage between Daimler and Chrysler, where market power hardly entered the picture, since their products barely competed. How many car buyers are wavering between a Mercedes and a minivan? But the savings from shared design and production that were supposed to make the deal worthwhile have yet to materialize, while the costs — the usual clash of corporate cultures magnified by the difference in national cultures — have been all too clear.
By contrast, mergers based on market power don't depend on fuzzy math. There was nothing elusive about the benefits to John D. Rockefeller when his Standard Oil Trust took control of America's oil industry.
So how do we class last week's mergers? The rhetoric of the AOL- Time Warner deal has been all about synergy; but consumer groups have feared that it's really about forcing cable customers to use AOL for Internet access and forcing AOL subscribers to download Time Warner content. Fortunately, regulators have done a lot to limit the new media giant's market power. The merged company will not be allowed to discriminate in favor of its own content; it will be required to allow other Internet service providers to offer high-speed access over its cables; and future generations of AOL's popular instant messaging system will have to be made interoperable with those of rivals. These restrictions mean that AOL Time Warner's future profits will depend on whether it really is able to deliver the promised synergies; being big won't be its own reward.
By contrast, as currently proposed the American-T.W.A. deal seems to have little to do with synergy, and a lot to do with market power. The deal would actually be part of an industry- wide consolidation that would also allow United to take over US Airways, and give both United and American more power to raise prices without fear that customers might choose another carrier. So should the deal be prevented? Unfortunately, it's not that simple: T.W.A. is on the edge of collapse, so some kind of takeover is inevitable. But one hopes that the regulators will look very hard at this deal, and try to move the ongoing restructuring of the airline industry in a direction that preserves at least some effective competition.
The point is that what's good for business is sometimes good for America, but not always. If a merger is about synergy, it's good if the synergy actually materializes — and that's a judgment best left to the businessmen themselves. But if a merger is about enhancing market power, it should either be blocked or subjected to restrictions that turn it into something more benign. The price of good mergers is eternal vigilance.
One wonders, however, whether that vigilance will be maintained. Both Republicans on the F.C.C. were opposed to any restrictions on AOL Time Warner. A sign of things to come?
Originally published in The New York Times, 1.14.01