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Anti trust in capital intensive commodity businesses?


scorpioncapital
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Why is there anti trust issues in commodity businesses with high capital costs (mergers for example)? I mean if money was raised (or money was almost free) and someone decided to own it all or maybe 80 percent, how could the government justify fragmenting the industry ? For example standard oil. Or any modern day duopoly. Is the goal of government to keep an industry fragmented? Couldn't they regulate pricing Instead ?

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Why is there anti trust issues in commodity businesses with high capital costs (mergers for example)? I mean if money was raised (or money was almost free) and someone decided to own it all or maybe 80 percent, how could the government justify fragmenting the industry ? For example standard oil. Or any modern day duopoly. Is the goal of government to keep an industry fragmented? Couldn't they regulate pricing Instead ?

 

Yes, the goal is to keep the industry "fragmented," i.e., preserve competition, with price regulation begin a last resort for industries in which we do not believe competition is possible, e.g., natural gas delivery to your house in which overbuilding with a second set of natural gas lines is not economically viable.

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Ok, interesting. Would this impact the desire of players to commit large capital, knowing the return will be dispersed among the fragments which won't be allowed to consolidate and thus limit the return potential for the investment to be made?

Also, is it conceivable that this could lead to the perverse situation where a player could go bankrupt or dilute shareholders into really poor performance because it can't be bought up by a bigger player on the ground that it would then eliminate a competitor?

 

 

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Ok, interesting. Would this impact the desire of players to commit large capital, knowing the return will be dispersed among the fragments which won't be allowed to consolidate and thus limit the return potential for the investment to be made?

Also, is it conceivable that this could lead to the perverse situation where a player could go bankrupt or dilute shareholders into really poor performance because it can't be bought up by a bigger player on the ground that it would then eliminate a competitor?

 

Sounds like the big banks

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The beauty of commodity businesses is that most have been around for a very long time. So you have a lot of historical data to fall back on. (For example the fracking industry to use something semi-recent)

 

Alternatively, you can invert: Do we see large sources of untapped commodities in the US which people are unwilling to invest massive extraction capital due to no-to-low profitability? I would argue not really.

 

To the banks - there isn't a lack of funding towards financial commodity products. More like there is an excess of funding as the returns are generally spectacular, not sub-par.

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The difference between antitrust in the US and the EU is that in the EU it is meant to protect competitors, in the US it is meant to protect competition. That's why large mergers in concentrated industries are usually a no-go.  The exception is that they will usually allow a merger with a competitor who is going under, since it would disappear anyway.   

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I guess we also have a bit of a poor view looking only at public markets. For example, I follow some semi-commodity businesses, say in automation IT, or basic material processing. As public investors we only see the public stocks. But probably there are many smaller private businesses too. However I did recently see some anti-trust cases where the government was willing to prevent a combination on the grounds that *future* advantage would be suppressed in a critical/new industry. Of course, if such a company would go bankrupt between now and then, the government could be accused of picking winners and losers. I'm also remembering the fuel cell industry in the 2000s. I think this technology didn't really pan out. There were not too many mergers though as capital just didn't want to flow into it.

I do see some duopoly, or let's say up to 4 major players in some industries and no more. I don't understand why there are 3 or 4 of them and not more. I also don't understand why Standard Oil was disbanded many decades ago. Was oil not viewed as a 'commodity' back then, or did John Rockefeller do something somewhat shady to his competitors?

 

"in the US it is meant to protect competition"

 

Can you elaborate on the difference between protecting competitors and protecting competition?

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Ok, interesting. Would this impact the desire of players to commit large capital, knowing the return will be dispersed among the fragments which won't be allowed to consolidate and thus limit the return potential for the investment to be made?

Also, is it conceivable that this could lead to the perverse situation where a player could go bankrupt or dilute shareholders into really poor performance because it can't be bought up by a bigger player on the ground that it would then eliminate a competitor?

 

You can look at the real world examples of this.  Is there a lack of capital investment in, for example, airlines and chemicals?

 

You are also neglecting that fact that monopoly often leads to underinvestment (in infrastructure and R&D) because a monopolist often has no need to innovate.

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Sounds like it's a judgement call to balance all the interests.

 

Monopolies lead to underinvestment and high returns...until someone steps in. Either new technology or regulation perhaps?

 

Commodity businesses have high investment and lower returns - and here...I guess do we see consolidation or trying to become large 'block' duopolies or monopolies to corner pricing? I'm sure the government also tries to balance this out, although the bar would have to be pretty high.

 

While I can see a world where very few monopolists last in the very long term, there are definite medium term advantages, let's call them advantages-lite. But I still don't understand the stable equilibrium of 3-4 big players and nobody else. I wonder why nobody else gets in beyond that, while I can maybe see why government would prevent 4 becoming 1.

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or did John Rockefeller do something somewhat shady to his competitors?

 

Somewhat shady? The guy pretty much invented corporate monopoly practices, or at least was one of the first to apply them industrially (pun notwithstanding).

 

I'm not historian but from my brief reading of Wikipedia, the reporter who exposed Standard Oil's shady practices and contributed greatly to its dissolution was Ida Tarbell (https://en.wikipedia.org/wiki/Ida_Tarbell#Standard_Oil), who in the process of her research, practically invented the methods of investigative-journalism and the famous term "muckraker".

 

Here is one such instance of Standard Oil's practices:

 

Another break in the story came from within Standard Oil itself and proved that the company was still using illegal and shady practices. An office boy working at the Standard Oil headquarters was given the job of destroying records which included evidence that railroads were giving the company advance information about refiner's shipments.[79] This allowed them to undercut the refiners. The young man happened to notice his Sunday school teacher's name on several documents. The teacher was a refiner, and the young man took the papers to his teacher who passed them along to Tarbell in 1904.

 

This website has some more: https://www.crf-usa.org/bill-of-rights-in-action/bria-16-2-b-rockefeller-and-the-standard-oil-monopoly.html

 

In 1871, Rockefeller helped form a secret alliance of railroads and refiners. They planned to control freight rates and oil prices by cooperating with one another. The deal collapsed when the railroads backed out. But before this happened, Rockefeller used the threat of this deal to intimidate more than 20 Cleveland refiners to sell out to Standard Oil at bargain prices. When the so-called "Cleveland Massacre" ended in March 1872, Standard controlled 25 percent of the U.S. oil industry.

 

Rockefeller saw Standard Oil's takeover of the Cleveland refiners as inevitable. He said it illustrated "the battle of the new idea of cooperation against competition."

 

In 1874, Standard started acquiring new oil pipeline networks. This enabled the company to cut off the flow of crude oil to refineries Rockefeller wanted to buy. When a rival company attempted to build a competing pipeline across Pennsylvania, Standard Oil bought up land along the way to block it. Rockefeller also resorted to outright bribery of Pennsylvania legislators. In the end, Rockefeller made a deal with the other company, which gave Standard Oil ownership of nearly all the oil pipelines in the nation.

 

During the 1880s, Standard Oil divided the United States into 11 districts for selling kerosene and other oil products. To stimulate demand, the company sold or even gave away cheap lamps and stoves. It also created phony companies that appeared to compete with Standard Oil, their real owner. When independent companies tried to compete, Standard Oil quickly cut prices--sometimes below cost--to drive them out of business. Then Standard raised prices to recoup its losses.

 

 

 

 

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Another thing: commodity producers should have low ROIs. Someone who sat in a Macro-econ classroom more recently than I may be better to explain it, but their returns should match the marginal utility curve.

 

Why? Because it's a commodity. By definition, the product is standardized and anyone can product it - there is no differentiating factor to justify increased ROIs above the marginal curve.

 

In other words, if we can both as easily dig rocks, why should your gravel cost more than mine?

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I do see some duopoly, or let's say up to 4 major players in some industries and no more. I don't understand why there are 3 or 4 of them and not more. I also don't understand why Standard Oil was disbanded many decades ago. Was oil not viewed as a 'commodity' back then, or did John Rockefeller do something somewhat shady to his competitors?

 

I believe this has been discussed in many other threads.  Industry structure is often driven by the minimum efficient scale and the economics of scale (or lack thereof) in an industry.  An industry that has high minimum efficient scale and large economies of scale will tend towards few competitors.  For example, if you need 20% of the market to be competitive, how many competitors can there really be? On the other hand, an industry with minimal economies of scale and low barriers to entry often will have many competitors.

 

What does the fact that oil is a commodity have to do with whether a monopolist can impose a deadweight loss?  Or are you suggesting that monopolies are impossible in "commodity" industries due to the lack of barriers to entry?  Note that the Standard Oil monopoly started in refining and then moved downstream to distribution and was achieved, in part, through mergers.

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Another thing: commodity producers should have low ROIs. Someone who sat in a Macro-econ classroom more recently than I may be better to explain it, but their returns should match the marginal utility curve.

 

Why? Because it's a commodity. By definition, the product is standardized and anyone can product it - there is no differentiating factor to justify increased ROIs above the marginal curve.

 

In other words, if we can both as easily dig rocks, why should your gravel cost more than mine?

 

Yes, that is why profit in commodity industries comes from having lower costs and sometimes other factors, such as regulations.  To take your example, rocks are commodities, but rock pits are often great businesses because you can't economically transport rocks very far and NIMBYism makes it very difficult to permit a new rock pit in growing areas close to where rocks are needed. 

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"For example, if you need 20% of the market to be competitive, how many competitors can there really be? On the other hand, an industry with minimal economies of scale and low barriers to entry often will have many competitors."

 

Ok, it sounds like this is partially a case of first mover advantage. Not because they have any advantage but because they can get that critical mass and the next entrant will need more capital and/or there is less space. Let's say you do need 20% of the market to be competitive - and get it. There are 5 players. Now we are saying the government would decide not to allow more consolidation to 1 or 2?

The first mover advantage is interesting  because I can foresee several cases where simply being first gets you a semi-permanent position in that sub-industry. Maybe it's not particularly profitable or it's cyclical but there just isn't much room for someone else. Then your company is kind of a public service almost, at least for shareholders wanting a reasonable return.

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Just to add some twists  ;)

 

We (the people) do the trust busting - so that we control the beast, and the beast doesn't control us.

Even friends in low places recognize that it's a really bad idea to have a single all-powerful god-father. Power is shared for a reason, it's a lot healthier for all involved, and time at the top (for all) is a limited term engagement.

 

When you're the biggest, and there are no competitors - it's just smart business to routinely extort.

Lots of ways by which to do this, but ultimately if I screw up - you the people bail me out, and keep both your ongoing employment and way of life. Not much different to the pusher, withholding from the addicted, to get what he/she wants. Europe.

 

The US has literally distrusted size since Day-1 of the constitution. Much closer to those from low places, much healthier as a result, and much more robust. However, the main difference is resolution via greed and glory, versus simply sleeping with the fishes. And notably, the US approach has a lot of similarities to dictatorships - so Trumps 'choice of buds' is hardly surprising!

 

SD

 

 

 

 

 

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The first mover advantage is interesting  because I can foresee several cases where simply being first gets you a semi-permanent position in that sub-industry. Maybe it's not particularly profitable or it's cyclical but there just isn't much room for someone else. Then your company is kind of a public service almost, at least for shareholders wanting a reasonable return.

 

Yes, there are industries where the same handful (or less) of companies have essentially the same market share year after year.  I've never looked at it myself, but I understand Lubrizol is/was a good example of this.

 

But not all such industries produce outsize profits to the handful (or less) of participants.  The strategies and tactics of oligopolies are complex and cartels are hard to hold together because cheating is so profitable. 

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"The US has literally distrusted size since Day-1 of the constitution."

 

It's interesting because while this may be so there are some counter-examples. For example US cable/broadband. Far more consolidated than in Europe. You definitely have bigger size in USA than Europe on this one. Another example maybe is the tech companies. Then you have politicians like Trump pushing 'Our Great Companies' as a global unit. I wonder if the distrust of size is breaking down , or may reverse. There is talk for example of examining the tech giants by US anti-trust recently.

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"The US has literally distrusted size since Day-1 of the constitution."

 

It's interesting because while this may be so there are some counter-examples. For example US cable/broadband. Far more consolidated than in Europe. You definitely have bigger size in USA than Europe on this one. Another example maybe is the tech companies. Then you have politicians like Trump pushing 'Our Great Companies' as a global unit. I wonder if the distrust of size is breaking down , or may reverse. There is talk for example of examining the tech giants by US anti-trust recently.

 

My post was just recognition that the US has much more in systematic institutional 'checks and balances'. For the most part, no sole institution is allowed to have all the power - baring rare exceptions (Fed Reserve). In-fighting, and competition, used as a tool to keep the outcome reasonably fair.

 

The problem with a multi-national (oil, tech, drugs, ag, etc.) is that they are multi-national.

Threaten a US tech giant, and it just moves its HQ elsewhere - becoming a French, German, or even a Canadian multi-national. Cutting off the US market in retaliation (& creating a domestic rival), is not a solution either; the babe either gets strangled in the crib , or just bought out (5-10 yrs later), when everyone is friends again. No effective control.

 

Hence think of trust-busting as little more than a centralized to decentralized re-organization, and done for petty much the same reasons.

SD

 

 

 

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Another thing: commodity producers should have low ROIs. Someone who sat in a Macro-econ classroom more recently than I may be better to explain it, but their returns should match the marginal utility curve.

 

Why? Because it's a commodity. By definition, the product is standardized and anyone can product it - there is no differentiating factor to justify increased ROIs above the marginal curve.

 

In other words, if we can both as easily dig rocks, why should your gravel cost more than mine?

 

Yes, that is why profit in commodity industries comes from having lower costs and sometimes other factors, such as regulations.  To take your example, rocks are commodities, but rock pits are often great businesses because you can't economically transport rocks very far and NIMBYism makes it very difficult to permit a new rock pit in growing areas close to where rocks are needed.

 

We all know that rock pits are unicorns, not blood sucking vampire commodity businesses

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The first mover advantage is interesting  because I can foresee several cases where simply being first gets you a semi-permanent position in that sub-industry. Maybe it's not particularly profitable or it's cyclical but there just isn't much room for someone else. Then your company is kind of a public service almost, at least for shareholders wanting a reasonable return.

 

Yes, there are industries where the same handful (or less) of companies have essentially the same market share year after year.  I've never looked at it myself, but I understand Lubrizol is/was a good example of this.

 

But not all such industries produce outsize profits to the handful (or less) of participants.  The strategies and tactics of oligopolies are complex and cartels are hard to hold together because cheating is so profitable.

 

For another more fun example, take a look at how the hemp industry was killed by Dupont and others (https://www.hemphelps.org/why-hemp-is-illegal/).

 

Actually, the 2018 farm bill re-legalized hemp federally, so I hope (although it probably won't happen due to local building codes) that hemp is used in more industrial settings where it does provide both cost and performance improvement in certain areas (https://www.engineering.com/BIM/ArticleID/19056/Not-Just-a-Pipe-Dream-Hemp-as-a-Building-Material.aspx)

 

In fact, funny story is that the old generations of my family were hemp importers to the US in the late 1800s and early 1900s. After the 30s and then the 2nd great war, they moved to growing tobacco (the original "marihuana").

 

 

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Another thing: commodity producers should have low ROIs. Someone who sat in a Macro-econ classroom more recently than I may be better to explain it, but their returns should match the marginal utility curve.

 

Why? Because it's a commodity. By definition, the product is standardized and anyone can product it - there is no differentiating factor to justify increased ROIs above the marginal curve.

 

In other words, if we can both as easily dig rocks, why should your gravel cost more than mine?

 

I disagree. There is no reason why production costs should be the same for different commodity producers. You may for instance have land that has different characteristics than another producer eg. Saudi Arabia vs US. Also in industries with many producers its usually the case some producers are vastly more effective and efficient than others because they are smarter and better at what they do. Rockefeller for instance was more efficient than most commodity producers of his day.

 

Economic theory assumes everyone has the same information. Even if they do its irrelevant. Some producers are horribly incompetent and stupid. Even if they had the same information they would still mismanage things.

 

The Theory of Perfect Competition requires as its assumptions that the things being bought/sold is a commodity, firms can enter/exit without cost, perfect mobility of factors of production, buyers/sellers have perfect information,  etc. If all the assumptions hold than perhaps you will have some theorem about economic profit being zero. In this theory all firms have the same production cost curve....but in reality this is least likely to happen if the industry is filled with lots of small producers.

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I may have been unclear - I was talking about price, not costs. Prices of commodities are identical (by definition, else it is not a commodity). Prices should follow the curve - the only way to improve returns is as you mention to lower costs of production.

 

Monopolies circumvent this by improving returns by raising costs above this curve.

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For example, I've always been amazed. Everywhere I travel in Europe, North America, Asia the price per litre of gas for your car is approximately the same. Plus-minus but about the same..Regardless if the country is poor or rich and if the cost is more onerous in the poorer ones. Yet you take something like cable broadband and there I see price differences far greater than oil! For example, in Ukraine or Romania I can get 4g lte unlimited for under $10 USD, sometimes $5 USD. In Canada or USA, the same thing would cost say $30 to $40 usd. There has to be something going on. Is oil a better business because everywhere you sell it you get the same price? Or is cable just a horrible subsidized non profitable business in some places vs others? And why the difference in outcomes for various lines of businesses? Is government the reason or something else?

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Yet you take something like cable broadband and there I see price differences far greater than oil! For example, in Ukraine or Romania I can get 4g lte unlimited for under $10 USD, sometimes $5 USD. In Canada or USA, the same thing would cost say $30 to $40 usd. There has to be something going on. Is oil a better business because everywhere you sell it you get the same price? Or is cable just a horrible subsidized non profitable business in some places vs others? And why the difference in outcomes for various lines of businesses? Is government the reason or something else?

 

FWIW, as far as telecom/broadband/video is concerned I think the US/CA and to some extend Mexico is the exception from the rule, while Europe is the norm. In Europe for example telecom and TV was run by state owned monopolies, which even when privatized did not allow for escalating prices like in the US. TV for example was free in Europe, even satellite TV, it was solely ad supported. Once you start there, it becomes pretty hard to charge the equivalent of $100/month for it.

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And that's something I see, current (or former) state built projects. It's a different model. Similar to alot of the issues between USA and China where many projects are state funded or built. For the consumer it actually looks great in one place vs the other but there may be other consequences for investors. I would think globalization has changed the nature of anti-trust. I also see anti-trust agencies acting for political reasons to protect a domestic competitor with very little objective balancing or protecting all interests function. It sometimes feels like anti-trust bodies are treating some players as State favoured enterprises. Fascinating world we live in!

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