Big is Not Necessarily Bad When Powerful Buyers Control the Purse Strings

Some pundits have argued that the antitrust agencies should adopt a “big is bad” approach to merger reviews to prevent further consolidation of large companies. But Joseph Simons, the nominee to be Chairman of the Federal Trade Commission (FTC), understands that “big is not necessarily bad.” On February 14, 2018, Simons made clear in his testimony at his Senate Commerce Committee’s nomination hearing that his FTC will focus on harms to the consumer and competitive effects due to market power, as opposed to condemning companies due simply to their size. One factor in any such analysis must be the power of customers.

Broadcom’s offer to acquire Qualcomm is a case in point. While Broadcom’s acquisition of Qualcomm would combine two large semiconductor companies and create the third largest in the world, the merger raises few, if any, significant competitive problems. One reason is that the vast majority of Broadcom’s and Qualcomm’s businesses and product lines complement each other, and therefore, their combination does not raise substantial horizontal antitrust concerns.  And in the few instances where they do compete, Broadcom has publicly stated its intention to divest Qualcomm’s overlapping businesses in Wi-Fi networking processors and in RF front end (RFFE) chips to an appropriate buyer that would resolve the relatively minor competition concerns raised by the acquisition.

Nevertheless, there are pundits who wrongly claim that given the size of the deal, there must be competitive concerns. Those advocates raise that a spectrum of vulnerable customers could be exploited at will. However, in their haste to reach conclusions, they dismiss or ignore a key principle in merger law that no antitrust violation exists if large sophisticated customers are able to protect themselves. This begs the question: Can Broadcom, through this acquisition, act in an anticompetitive fashion when downstream buyers, such as Apple and Samsung, themselves have substantial market power?

By any measure, be it revenues or semiconductor spend, semiconductor buyers including Apple and Samsung are powerful players in the industry. In 2017, Apple and Samsung’s revenues were approximately $229 and $222 billion respectively, while their semiconductor spends were roughly $39 and $43 billion.  Moreover, these two customers combined account for about 40 percent of Qualcomm’s 2017 revenue.  This number suggests that post-merger Broadcom will have no choice but to keep Apple and Samsung satisfied, or will risk losing a phenomenally large part of its revenue. The combined company will not have any increased ability or economic incentive to bully buyers, but rather an incentive to satisfy its customers’ demands to keep them from moving their business to other competitors.

Apple, for one, has of late proven to be one tough customer. For example, while Apple actually purchases most of its chips from Dialog Semiconductor, Dialog is walking on pins and needles ever since Apple announced in December 2017 that it may bring iPhone chip design in-house. Apple’s threat is credible as demonstrated by Dialog’s stock price plummeting following the announcement. Regarding Qualcomm, Apple is pushing its weight around by taking a dual approach. First, Apple is litigating its claims against Qualcomm’s egregious licensing practices that have squeezed excessive royalties and imposed onerous terms on its customers.  Second, Apple is showing Qualcomm who is the boss by shifting its purchases of modem chips for its future smart phones away from Qualcomm to Intel and MediaTek, Inc.  These maneuvers by Apple are evidence of its power, especially with respect to its ability to shift purchases away from Qualcomm, which has a dominant share in modem chips in excess of 50 percent, to MediaTek and Intel, which only have 25 percent and 6 percent unit share, respectively.

Moreover, Apple and Samsung are not alone among powerful buyers.  A combined Broadcom-Qualcomm would need to deal with a number of other hefty smartphone manufacturers, including: Huawei, which had $92 billion in revenue last year and spent approximately $14 billion on chips; BBK Electronics, which spent about $12 billion on chips; LG Electronics, which had $58 billion in revenue in 2017 and spent some $6.5 billion on chips; and Xiaomi, which had $18 billion in revenues last year.  Further, these large customers such as Apple, Samsung, Huawei, and LG have each developed a sophistical internal semiconductor design capability and use their own chips in a number of their high end platforms.  Not only do they have the ability to switch external vendors, they build their own semiconductor chips that compete with what both Broadcom and Qualcomm offer.  Accordingly, Broadcom’s incentives would be to continue to keep these Broadcom and Qualcomm customers satisfied.

In sum, in addition to the fact that Broadcom and Qualcomm have largely complementary businesses, this transaction should not pose antitrust concerns because the customers of both companies are themselves large and highly sophisticated firms. As demonstrated by Apple’s response to Qualcomm’s illegal strong-armed tactics, these sophisticated buyers can exert countervailing power against the combined company because they have the ability and wherewithal to shift a large proportion of their business to other semiconductor manufacturers due, in part, to the competitive nature of the industry even following this acquisition.  Indeed, these power buyers have exhibited their willingness and ability to credibly threaten to vertically integrate or sponsor new entry as Apple basically is doing with Intel on modem chips.

Plain and simple, consumers have little to fear from this deal because the immediate buyers can’t be exploited after the merger.