Vertical Merger

A merger between two business firms that have a buyer-seller relationship.

Business mergers can take two forms: horizontal and vertical. In a horizontal merger, one firm acquires another firm that produces and sells an identical or similar product in the same geographic area. This type of merger eliminates competition between the two firms. In a vertical merger, one firm acquires either a customer or a supplier. Because horizontal mergers pose a direct threat to competition, they have been regulated more aggressively by the federal government than vertical mergers. Nevertheless, vertical mergers may, in some circumstances, be anticompetitive and violate federal antitrust laws. Firms vertically integrate for many reasons. Some of the most common are to reduce uncertainty over the availability or quality of supplies or the demand for output, to take advantage of available economies of Integration, to protect against monopolistic practices of either suppliers or buyers with which the firm must otherwise deal, and to reduce transactions costs such as sales taxes and marketing expenses. Through a vertical merger, the acquiring firm may lower its cost of production and distribution and make more productive use of its resources.

Vertical mergers are subject to the provisions of the Clayton Act (15 U.S.C.A. § 12 et seq.) governing transactions that come within the ambit of antitrust acts. Vertical integration by merger does not reduce the total number of economic entities operating at one level of the market, but it may change patterns of industry behavior. Suppliers may lose a market for their goods, retail outlets may be deprived of supplies, and competitors may find that both supplies and outlets are blocked. Vertical mergers may also be anticompetitive because their entrenched market power may discourage new businesses from entering the market.

The U.S. Supreme Court has decided only three vertical merger cases under section 7 of the Clayton Act since 1950. In the first case, United States v. E. I. du Pont de Nemours & Co., 353 U.S. 586, 77 S. Ct. 872, 1 L. Ed. 2d 1057 (1957), the Court upset the general assumption that section 7 did not apply to vertical mergers. After finding that du Pont's acquisition of 23 percent of General Motors (GM) stock foreclosed sales to GM by other suppliers of automotive paints and fabric, the Court held that the vertical merger had an illegal anticompetitive effect.

The next vertical merger case to come before the Court, Brown Shoe Co. v. United States, 370 U.S. 294, 82 S. Ct. 1502, 8 L. Ed. 2d 510 (1962), remains the leading decision in this area of Antitrust Law. The Court stated that the "primary vice of a vertical merger" is the foreclosure of competitors, which acts as a "clog on competition" and "deprive[s] … rivals of a fair opportunity to compete." The Court noted that market share would be an important, but seldom decisive consideration. The Court identified other "economic and historical factors" that would determine the legality of the merger. The first and "most important such factor" was the nature and purpose of the arrangement. Another was the trend toward concentration in the industry.

In the only other vertical merger case decided by the Supreme Court, Ford Motor Co. v. United States, 405 U.S. 562, 92 S. Ct. 1142, 31 L. Ed. 2d 492 (1972), the Court condemned Ford's attempted acquisition of Autolite, a spark plug manufacturer, and emphasized the heightened barriers that the merger would pose to other companies that attempted to enter the market. The Court also emphasized that Ford's argument that the acquisition had made Autolite a more effective competitor was irrelevant.

Cross-references

Mergers and Acquisitions; Monopoly; Restraint of Trade; Unfair Competition.