You studied killer acquisitions in the pharmaceutical industry. Is this a useful way of thinking about acquisitions in technology, where large firms frequently buy up smaller companies to get expertise?
My paper with Colleen Cunningham (London Business School) and Song Ma (Yale SOM) is the first to study the phenomenon of killer acquisitions. These are acquisitions in which an incumbent acquires an innovative target firm solely to discontinue the target’s innovation projects and thereby preempt future competition. Without a killer acquisition, these future or nascent competitors would reduce the future profitability of the incumbent acquirer because they would deliver lower prices, more variety, and potentially higher quality to consumers.
As you point out, the empirical part of the paper focuses on the pharmaceutical industry, where we document significant evidence for the widespread prevalence of killer acquisitions. However, our extensive theoretical analysis applies to pretty much any R&D-intensive industry in which new entrants can disrupt the profits of incumbents with their innovations. The focus on the pharmaceutical industry is not because we believe that this is the only or even the most likely candidate industry for killer acquisitions to occur. It just happens to be an industry for which there is detailed required disclosure of research projects, and that makes it ideally suited for our empirical analysis.
In our research, we find little evidence that large incumbents use acquisitions of potential entrants to acquire expertise either through “acquihires” (i.e., buying firms to get access to the firm’s talented researchers and engineers) or through buying firms with expertise in particular molecular areas. That’s particularly interesting because one of the received wisdoms in this industry was that acquisitions by large incumbents were critical to realizing synergies in drug development and bringing drugs to market quickly and efficiently.
But ruling out the two aforementioned alternative rationales for acquisitions is more difficult in the tech industry. There is little or no disclosure of details on research projects and hence it is difficult to know what happens to research projects both before and after acquisitions. However, motivated by our analysis, there is a study by the FTC underway to examine past acquisitions by large technology companies, which may yield empirical evidence on killer acquisitions in the tech industry.
In pharma, killer acquisitions prevent new drugs from reaching the market and potentially saving lives. What’s the harm from killer acquisitions in tech?
There has been much debate about the existence and harm of killer acquisitions in the tech industry. The most recent congressional antitrust report highlights these concerns. The House antitrust subcommittee’s hearing on antitrust issues in tech hearings also unearthed a number of emails in which tech leaders floated the idea of buying smaller competitors before they “grow to a large scale that could be very disruptive.” Just last year the DOJ filed suit to block the acquisition of the fintech startup Plaid by Visa. In court filings it emerged that the acquisition was motivated by Visa’s view that Plaid was a disruptive threat to Visa’s profitability and that Visa likened Plaid to a dangerous volcano waiting to erupt.
“An important aspect of product quality in the tech industry is privacy, and there is increasing evidence that the continued dominance of incumbents and their acquisition of potential competitors has led to a deterioration of privacy standards.”
Although killer acquisitions in tech are not directly harmful to the health of consumers or patients, there are still potentially significant adverse effects. First, the lack of competition allows firms to charge higher prices to consumers. Note that in the case of social media platforms, these consumers can be both advertisers and the users of social media (the absence of price effects—many tech platforms charge a price of zero to one side of the market—is often cited as a defense by tech firms, but it tends to focus on only one of the two sides of the market). Second, even if price effects are absent, killer acquisitions can reduce product variety and quality, thus harming consumers. Third, an important aspect of product quality in the tech industry is privacy, and there is increasing evidence that the continued dominance of incumbents and their acquisition of potential competitors has led to a deterioration of privacy standards. Finally, it is important to remember that killer acquisitions are the most extreme example of a nascent competitor acquisition. Rather than outright killing the development of competing products, acquirers may just let new projects wither on the vine or underinvest in quality.
Will Biden’s executive order make a difference? What else does government need to do to prevent these acquisitions?
I think the executive order is a step in the right direction. It is quite far reaching because it orders every part of the Federal government—not just the antitrust enforcers—to focus on creating fair competition and to reduce product and labor market power, especially in concentrated markets. Furthermore, the executive order is not confined to a few specific industries, but includes industries from railroads and shipping to pharmaceuticals and agriculture. It is also encouraging that the executive order acknowledges that killer acquisitions impede competition.
It is, however, a bit too early to tell how effective the executive order will be. Effective antitrust policy, not just as it relates to killer acquisitions but more generally, requires that antitrust authorities (i) are sufficiently well-informed to identify anticompetitive conduct, (ii) have sufficient resources to investigate offenders, and (iii) can win antitrust lawsuits in court.
“Stricter disclosure rules (e.g., lower transaction value reporting thresholds for mergers and acquisitions) would help antitrust agencies to detect killer acquisitions as well as deter them from occurring in the first place.”
On the first point, our research suggests that stricter disclosure rules (e.g., lower transaction value reporting thresholds for mergers and acquisitions) would help antitrust agencies to detect killer acquisitions as well as deter them from occurring in the first place. On the second point, there is broad agreement among academics in antitrust law and industrial organization that antitrust agencies are chronically underfunded and that funding for them should be increased. Finally, and perhaps most importantly, there might have to be changes to the antitrust laws themselves and to how courts and judges rule on antitrust decisions. Currently, the burden of proof is on antitrust enforcers to show that a merger is anticompetitive and harmful to costumers. This is a very difficult burden of proof, especially when it comes to killer acquisitions where the harm is to future competition. The antitrust agencies have to convincingly show that under the counterfactual scenario in which the merger does not occur there would be more innovation and thus greater consumer surplus, even though the innovation has not yet occurred.