Letter on Boeing McDonnell Douglas Merger

Letter on Boeing McDonnell Douglas Merger

Ralph Nader
P.O. Box 19312, Washington, DC 20036

December 23, 1996

Robert Pitofsky
Federal Trade Commission
Washington, DC

Janet Reno
Attorney General
U.S. Department of Justice
Washington, DC

Dear Chairman Pitofsky and Attorney General Reno:

We are writing to express our opposition to the proposed merger between Boeing and McDonnell Douglas (MD), and to request a meeting with your staffs to discuss this important issue.

As a preliminary matter, we are asking for an investigation into the circumstances surrounding McDonnell Douglas's recent decision to forgo entry into the market for Jumbo jets. According to press reports, Boeing and McDonnell Douglas (MD) have been meeting to discuss a potential merger for three years. (1)

We specifically request an investigation into those discussions, to determine if Boeing and MD discussed MD's possible entry into jumbo jet market, and if the MD decision to reject entry in this market was an outcome of those ongoing discussions. We further request an investigation to determine if Boeing and MD held discussions concerning strategies for limiting technology transfers, in order to deter new entry into the market for commercial aircraft.

General Objections to the Merger

The merger is illegal and contrary to the public interest for the following reasons.

1. The merger would reduce the number of competitors in the market for commercial aircraft from 3 to 2, in a market with large barriers to entry. This reduction in competition will increase the likelihood of collusive behavior between Boeing and Airbus, and eliminate an important competitor in the market for small planes, and a potential competitor in the market for jumbo planes.

2. It would significantly reduce competition for important areas of defense procurement. Press reports indicate Boeing pursued the merger with McDonnell Douglas (MD) precisely because it expected MD to acquire Hughes Electronics Corp., or that MD might acquire the Texas Instruments' defense division, which is up for sale.(2)

3. MD is not a failing firm. Absent the merger, it would remain an important competitor to Boeing in defense procurement, and to Boeing and Airbus in the market for commercial aircraft.

4 As competitors, both Boeing and MD have been profitable and innovative. Boeing owes its current success to its ability to respond favorably to competitive pressures. In the absence of competition, Boeing could enter a period of stagnation which is often a hidden cost of market power.

5. Boeing is already so large that it can use its awesome market power to shield the company from criticism by commercial airlines -- who are increasingly becoming captive customers. In this respect, it is interesting to compare the on-the-record comments with those offered off-the-record, in recent news coverage of the merger.

For example, in a December 19, 1996, New York Times story, when asked about the merger, Robert Crandall from American Airlines said "What's occurred is about as favorable a situation as you can have," and Jake Brace from United Airlines said "We are not losing any sleep over it."(3)

However, in a story two days earlier in the Washington Post "several airline executives, who spoke on the condition that they not be identified" had a different story to tell.(4)

McDonnell Douglas had had little effect on prices for big jets, where the Boeing 747 enjoys a virtual monopoly. But in the case of smaller planes, McDonnell Douglas was described as an "aggressive bidder" with its 160-seat MD-80, for which the company had already recouped its development costs and had lower production costs than competitive models from Boeing or Airbus.

"What would often happen is that MD would come in with a very attractive offer, including a number of concessions, and Boeing and Airbus would be forced to match it," said one executive. McDonnell Douglas would generally lose the competition, he said, but have a "positive impact" on the price and terms of the contract.

Another noted that while McDonnell Douglas was an also-ran for contracts with the major airlines because it did not offer a full line of jets, it remained a strong competitor for the business of second- and third-tier airlines that were not offered the same discounts as big airlines by Airbus and Boeing.

The reticence of Boeing's customers to talk publicly about the merger is evidence that Boeing already has excessive political power, which is derived from its vast market power. With the disappearance of yet another competitor, Boeing's customers will have even fewer opportunities to be candid about important public policy issues involving Boeing.

6. If the United States bends the antitrust laws for Boeing, because it is an important U.S. exporter, the United States will undermine its ability to seek better antitrust enforcement abroad. U.S. efforts to develop global antitrust enforcement regulations will appear hypocritical if there is no antitrust enforcement in the United States in a merger involving the extremely high levels of market concentration in the Boeing-McDonnell Douglas case.

7. If this merger is permitted, it will set a new and dangerous benchmark for permitted mergers, and will likely set off yet another wave of mergers. How could the Government then expect to distinguish this case from TCI and Time-Warner, General Motors and Ford, Coke and Pepsi or other mergers leading to high market concentration (but less concentration than that resulting from the Boeing-MD merger and in industries with lower barriers to entry)? Indeed, how could the government then prevent a merger between United and Delta, or even the consolidation of the entire airline industry as long as foreign competitors were allowed into the domestic market?

The DOJ Horizontal Merger Guidelines

It hardly seems necessary to review the Department of Justice (DOJ) horizontal merger guidelines to see how clearly the merger crosses all known benchmarks for legal mergers. However, consider the following.

Changes in the HHI

While we have yet to complete our own market analysis, press reports put Boeing, Airbus and McDonnell-Douglas (MD) market shares for commercial Aircraft in the neighborhood of 60-65, 30-40 and 5-10 percent, respectively. Assuming, for example, that the correct shares of the current market for new orders of commercial aircraft are 60, 35 and 5 percent, the Herfindahl-Hirschman Index ("HHI") of market concentration would be 4,850 before the merger, and 5,450 after the merger. Under the guidelines, any market with an HHI above 1,800 is considered highly concentrated. The merger would increase the HHI by 600, about six times higher than the threshold of 100 from the guidelines, that are "presumed [to] . . . create or enhance market power or facilitate its exercise."

The relevant market shares would suggest even more devastating impacts for those areas where MD is a more significant player. As indicated above, Boeing presently has a virtual monopoly in the market for jumbo jets, and MD is disadvantaged as a competitor in the market for "major airlines," since it has a limited product line. However, MD is more competitive among "second- and third-tier airlines." By excluding jumbo Jets, the MD market share is more important. And if one looks at the market for "second- and third-tier airlines," the MD share is more important yet.

A similar analysis of concentration in military contracting will need to identify the relative markets where MD and Boeing are current and potential competitors.

Potential Competition

MD clearly has a larger impact on the market than its market share would suggest, due to its role as a potential supplier. This is the point of the Pearlstein article, discussed above, where MD had first order impact on prices and contract terms, even when it was the losing bidder. The same point was made by Standard and Poor's Philip Baggaley, in a December 17, 1996 story in the New York Times.(5)

"The number of orders they may have placed is not a direct indication of the impact they might have on pricing," Philip Baggaley, an airline industry analyst at the Standard & Poor's credit rating agency, said. This fall, for example, Continental Airlines executives boasted about the favorable prices it received from Boeing for its order of 737's. But Continental was widely known to also be in talks with McDonnell Douglas about possibly ordering MD-95 jets, and the prospect of losing a big order to McDonnell Douglas undoubtedly pushed Boeing to lower its prices.

Moreover, MD is one of the few firms that could enter the market for Jumbo jets, and indeed, until it concluded its recently discussions with Boeing over the Merger, MD had been considering such a move. For example, Standard and Poor's December, 1996 Investor's Monthly not only reports MD's "recent decision to forgo building a new generation jumbo jet," but attributes this decision as a major factor in the performance of the stock.

We believe potential competition is very important for commercial airplanes. Because the products are very durable and supplied over long term contracts, and because commercial buyers have the opportunity to buy, lease, maintain or refurbish, or wait until market conditions change, viable potential competition can exert a substantial influence over the existing major producers. As a successful defense contractor with extensive experience in the market for commercial aircraft, MD has the research and development and technical expertise to create new products - a substantial advantage over other potential entrants into the market.

Impact of Merger on Collusion

As noted, we are concerned that the merger will increase the likelihood of collusive behavior between Boeing and Airbus. This is a particular concern in the market for commercial aircraft because it is possible to observe output and to learn about prices and other terms, including warranties and finance, from contracts and reports in the financial and trade press. The ability to observe market conditions and transactions are factors which the merger guidelines indicate make such collusion more likely.

The guidelines point out that a number of mechanisms are available to facilitate collusion or collective action, including "practices not necessarily themselves antitrust violations, such as standardization of pricing or product variables on which firms could compete."

Boeing and Airbus have parallel interests in blocking the entry of a new player in the market for commercial aircraft. One way to block entry is to refuse to license important technology, or to use outside procurement policies to punish or reward firms that help potential rivals. MD has demonstrated a greater willingness to license technology to new entrants than Boeing or Airbus. With MD out of the picture, it is more likely that there will be collusion or tacit collective action between Boeing and Airbus to withhold new technologies from potential entrants. This would be substantially more difficult if MD does not exit the market.

Barriers to Entry

The merger guidelines correctly focus on barriers to entry as an important determinant of the ability of one or more firms to exercise market power. Clearly their are very high barriers to entry in the market for aircraft manufacturing. There are large sunk costs associated with the development of commercial aircraft, significant regulatory processes, patents and other controls on critical technology, and the difficulty of working with a complex web of subcontractors who have close relationships with Boeing or Airbus. As noted above, MD has demonstrated the greatest willingness to license technology to new competitors. Analysts project Boeing and Airbus would operate without additional competition for 15 to 20 years, at a minimum, should this merger take pace.(6)

Closing Comments

Even if the U.S. government has so far displayed little concern about the anti-competitive effects of the merger, other nations appear to be more concerned. Ironically, analysts suggest that the People's Republic of China may alter its purchasing patterns in favor of Airbus if the merger goes through.(7)

As a commercial jet consumer with a minimal role in the production side of the market, China apparently is concerned about the effect of the merger on consumers. Surely U.S. government agencies can be expected to demonstrate as vigorous a commitment to antitrust problems as the People's Republic of China.

As a result of its acquired concentrated economic power, the merger will give dramatic political power to Boeing -- the exact concern that gave rise to our nation's antitrust laws. As one of two or three major defense companies, Boeing will have undue influence in shaping weapons acquisition policy at the Pentagon, as well as on broader defense policy questions.(8)

As the only U.S. commercial jet manufacturer, Boeing will be positioned to unduly influence industry regulation. As a manufacturer with especially widespread manufacturing operations, Boeing will be able to exert strong influence over a range of industrial policy issues. And with its existing status as the largest U.S. exporter enhanced by the merger, Boeing will be positioned to improperly shape U.S. foreign policy on issues relating to China and international trade, among others.

Given the magnitude of the Boeing-McDonnell Douglas proposed merger and the extraordinarily high levels of market concentration involved, we do not perceive how the nation's antitrust authorities can act other than to prevent the merger as a violation of the Clayton Act's proscription against merger and acquisitions where "the effect of such acquisition may be substantially to lessen competition or to tend to create a monopoly."

We would like to meet with your staff to discuss the process for FTC or DOJ review of the proposed merger. Please contact James Love, at 202-387-8030; fax 202-234-5176; love@tap.org.


Ralph Nader

James Love, Director, Economic Studies, Center for Study of Study of Responsive Law

Robert Weissman, Staff Attorney, Center for Study of Responsive Law


1. John Mintz, "Auction Forced Boeing's Hand," Washington Post, Tuesday, December 17 1996; Page D1.

2. Ibid.

3. Adam Bryant, "Airline Execs Not Upset by Boeing Deal," New York Times, December 19, 1996.

4. Steven Pearlstein, "Merger May Raise Tough Antitrust Issues," Washington Post December 17 1996.

5. Adam Bryant, "Analysts are Optimistic About the Proposed Merger," New York Times, December 17, 1996.

6. Adam Bryant, "Analysts are," Ibid.

7. Seth Faison, "New U.S. Muscle May Send China to Europeans Instead," New York Times, December 17 1996; Page D02

8. See Lawrence J.Korb, "A Military Monopoly," New York Times, December 21, 1996