As you might know, I am an antitrust attorney. And I write a blog on antitrust and competition law. So, as you may expect, I follow antitrust developments somewhat obsessively at times. As a result, I have a good sense of the practical antitrust implications of certain cases, investigations, or prospective mergers.
I don’t have a crystal ball or anything. Nor do I have any inside information. And since human beings—judges or agency officials—make the relevant decisions, nobody can actually predict what will happen.
But by now, I can review a complaint or a motion to dismiss or description of facts and have a good sense of the strength and risk of the antitrust issues. I think I also have a decent idea how the major antitrust agencies—the FTC and Department of Justice—focus their priorities and like to resolve investigations, cases, and mergers. Like I said, I can’t predict anything with certainty, but there is a high learning curve for antitrust (probably more than most specialties) and I’ve spent a lot of time and effort climbing that curve.
Enough about me—for now anyway.
Let’s talk about antitrust and company stock performance. The obvious scenario is a merger. Two companies, perhaps competitors, announce a merger or acquisition. It isn’t a dead-on-antitrust-arrival merger between the first and second leading companies in a product and geographic market that is easily defined. Instead, it is the sort of merger where the markets are somewhat complicated, perhaps in flux, and it isn’t entirely clear whether an antitrust agency will challenge it or a court will stop it.
There is a lot of merger and acquisition arbitrage and analysis out there, where hedge funds and other investment funds try to predict whether the merger will go through. In fact, people from the investment world often call people from the antitrust world to try to understand what will likely happen.
Again, decisions are made by human beings, so predicting what will actually happen in any one case is impossible. But if you know antitrust quite well and follow the antitrust agencies closely, you can make an educated guess about what will happen. And since there is such a high learning curve to understand antitrust generally and because following antitrust developments takes a lot of time, there are relatively few people that can make the best guesses about what will happen. And most of them are busy litigating or working on antitrust matters rather than hanging out on Wall Street guessing about mergers.
The other point about antitrust and mergers is that the antitrust issues for a merger are material. In fact, they may be everything. So if you can make a better guess about what will happen in antitrust review of mergers than most people that are guessing, perhaps you have an advantage over the market.
This isn’t controversial or a surprise. Investment people constantly try to make money off mergers, so of course they will think to analyze the antitrust issues relating to a merger.
But what about antitrust lawsuits? Sure, when a case is filed against a would-be monopolist and the plaintiff asks for a trillion dollars trebled, the monopolist’s stock will probably suffer. But plaintiffs often ask for an inflated damage number that garners attention but doesn’t approximate likely damages.
If you are considering buying or selling the stock, do you read the complaint, the motions to dismiss, important discovery rulings? Maybe, but probably not. And if you do, you may not have the antitrust knowledge or background to understand how strong the case is and make a good guess at the likely resolution or the risk involved. So the market is probably not entirely efficient for the stock of a company involved in a serious antitrust lawsuit.
I can’t say this about every investment firm, but I think I can safely say that most investment firms probably don’t have someone with extensive antitrust experience fully analyze the actual merits of these cases.
And relevant here—antitrust cases are almost always material. They are often bet-the-company cases, or at least bet-the-company’s practice case. So the resolution of the case will likely affect the stock price.
What do I mean by bet-the-company’s practice? Let’s say a competitor sues a possible monopolist based upon the dominant company’s loyalty discount program, or their exclusive deals with distributors, or their highly effective tying arrangements. The range of the damages or settlement amount is likely to be material, so that is important, of course.
But I think many people underestimate the potential effect of the case on the actual conduct. Setting aside whether it is an antitrust violation (which in reality does not always coincide with the competitive effects of a practice) perhaps the defendant uses loyalty discounts very effectively? Maybe those discounts make a material difference in their profits, either because of efficiencies or competitive effects? Or maybe the defendant’s exclusive dealing agreements with retailers add five to ten percent to their profits (either from greater revenues or reduced costs)?
Putting aside the verdict or settlement, the case could affect the defendants’ use of those pricing and distribution tools. If, for example, there is a lawsuit and an FTC investigation of defendant’s loyalty discounts or exclusive dealing agreements, the dominant company might stop the practice altogether during the litigation. That by itself could, in some circumstances, have a material effect on the company’s numbers.
Here’s another scenario: A company is part of an industry in which an antitrust enforcer in another country starts to investigate. The investigation is either announced or leaks. You are considering buying or selling stock in that company, but it wasn’t named in the investigation, so maybe you don’t see the investigation on the wires. And it isn’t the EU investigating, so it doesn’t receive the publicity in the US that an EU investigation would generate.
But the investigation involves concerted conduct in the company’s industry—maybe price-fixing or market allocation. If you follow antitrust and competition developments closely, you know that antitrust enforcers in different jurisdictions communicate about these sorts of issues. So maybe the investigation combined with your own analysis of the company and its industry mates in the US (perhaps rising prices not due to obvious factors like rising input prices, etc.) leads you to short the stock. Then boom, a few months later, it leaks that the Department of Justice is investigating the industry and the company. The stock drops. You win because you shorted it.
Of course, like anything else in investing, you can’t predict any one of the events with complete accuracy. But the high learning curve of antitrust combined with the time commitment of following antitrust developments means that one that is sufficiently educated could probably outguess most of the market. And if you give yourself enough chances—events—to guess, you might be able to beat the market on a systematic basis.
Sort of like blackjack, but you have the edge. You may lose any one or two or three hands, but over time with enough hands, if you have the odds in your favor, you will win.
So my idea is an antitrust hedge fund. What do you think?
I like the idea too. But it turns out that it is tough to start a hedge fund unless you have a history in the industry. And I don’t.
But maybe you do? If so, perhaps we should start a hedge fund together? It might be fun. Give me a call.