Gains from multinational competition for cross-border firm acquisition

Koska, Onur A. Article Gains from multinational competition for cross-border firm acquisition Economics: The Open-Access, Open-Assessment E-Journal Provided in Cooperation with: Kiel Institute for the World Economy – Leibniz Center for Research on Global Economic Challenges Suggested Citation: Koska, Onur A. (2019) : Gains from multinational competition for cross-border firm acquisition, Economics: The Open-Access, Open-Assessment E-Journal, ISSN 1864-6042, Kiel Institute for the World Economy (IfW), Kiel, Vol. 13, Iss. 2019-20, pp. 1-19, https://doi.org/10.5018/economics-ejournal.ja.2019-20 This Version is available at: https://hdl.handle.net/10419/193914 Standard-Nutzungsbedingungen: Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden. Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen. Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in EconStor may be saved and copied for your personal and scholarly purposes. You are not to copy documents for public or commercial purposes, to exhibit the documents publicly, to make them publicly available on the internet, or to distribute or otherwise use the documents in public. If the documents have been made available under an Open Content Licence (especially Creative Commons Licences), you may exercise further usage rights as specified in the indicated licence. https://creativecommons.org/licenses/by/4.0/ Vol. 13, 2019-20 | March 11, 2019 | http://dx.doi.org/10.5018/economics-ejournal.ja.2019-20 Gains from multinational competition for cross-border firm acquisition Onur A. Koska Abstract This study shows that when there is multinational competition for foreign acquisition, the strategic use of a consumer welfare argument in regulating foreign market entry leads to a preemptive foreign acquisition. Even under fierce competition, foreign acquisition will emerge as part of a non-cooperative equilibrium (although multinationals would have gained more had they been able to credibly commit to a cooperative equilibrium of independent foreign sales, either via greenfield investment or trade under complete liberalization) which increases local welfare by more than both the case without foreign market entry and the case with foreign market entry via independent foreign sales. (Published in Special Issue FDI and multinational corporations) JEL F23 Keywords Cross-border firm acquisitions; foreign market entry regulations; greenfield investment; trade; consumer welfare Authors Onur A. Koska, Department of Economics, Middle East Technical University (METU), Cankaya 06800, Ankara, Turkey, [email protected] Citation Onur A. Koska (2019). Gains from multinational competition for cross-border firm acquisition. Economics: The Open-Access, Open-Assessment E-Journal, 13 (2019-20): 1–19. http://dx.doi.org/10.5018/economics-ejournal.ja.2019-20 Received January 29, 2018 Published as Economics Discussion Paper February 19, 2018 Revised May 22, 2018 Accepted January 29, 2019 Published March 11, 2019 © Author(s) 2019. Licensed under the Creative Commons License - Attribution 4.0 International (CC BY 4.0) Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) 1 Introduction Multinational firms have been playing a crucial role for economic integration: acquisitions of existing foreign assets in host countries have surpassed investments in new assets (greenfield investment), and multinational sales through foreign affiliates have outnumbered exports since the 1980s. According to the traditional models of foreign direct investment (FDI) (such as the knowledge capital model by Markusen, 1984; Horstmann and Markusen, 1992; Markusen and Venables, 1998; and the proximity-concentration trade off and the tariff-jumping hypothesis articulated by Brainard, 1993; 1997), undertaking FDI forgoes economies of scale at the plant level (as firms incur plant-level fixed FDI costs to locate their production and services close to consumers). That said, by undertaking FDI, firms can well benefit from firm-level economies of scale (generated by their intangible assets) and can avoid trade-related costs. In general, the literature has shown that horizontal FDI (that duplicates the production process in a foreign country) is encouraged by large market size, high trade and transport costs and low plant-level fixed investment costs (e.g., see Navaretti and Venables, 2004). That is, there is a threshold fixed investment cost (the level of which is determined by market size, trade costs, and firms’ marginal costs) below which horizontal FDI is more profitable than trade (e.g., see Antrás and Yeaple 2014). 1 This, however, leads to the conclusion that, as most countries liberalized trade and foreign investments around the same time, and as trade costs have been gradually decreased (and they have been significantly low), the probability of horizontal FDI should substantially decrease. This conclusion, however, does not consider cross-border mergers and acquisitions, which are in most cases subject to certain enforcement practices and/or foreign market entry regulations. This study thus (i) models cross-border firm acquisitions as an alternative foreign market entry mode; (ii) focuses on a specific foreign market entry regulation, in which a consumer-welfare argument is strategically used; 2 and (iii) allows for competitive bidding for foreign acquisition. In particular, the model focuses on multinational competition for potential cross-border firm acquisition, for which there is a minimum output requirement imposed by the host country as part of its foreign market entry regulation. In a simple oligopolistic market entry model, this study shows that cross-border firm acquisitions may emerge as the equilibrium foreign market entry mode even when they will have earned multinationals less profits compared to trade in the times of complete trade liberalization abolishing trade costs, and/or compared to greenfield investment 1 In particular, low trade costs warrant even a lower fixed investment cost threshold below which FDI will be more profitable than trade. Alternatively, in a trade model with monopolistic competition and firm heterogeneity, Helpman et al. (2004) show that there is sorting by productivity thresholds determining firms’ foreign market entry modes. By the same token, in a simple linear Cournot model with constant marginal production costs and firm heterogeneity, it is straightforward to show that (e.g., see Koska et al. 2018a), unless there is prohibitively large fixed investment cost, denoted F , (so FDI is not profitable for any firm), or unless there is negligibly small F (so FDI is more profitable than trade for all firms), for any F , there is a corresponding threshold cost type, denoted λ(F) , such that firms with marginal cost c∗<λ(F)will prefer FDI over trade, and those with c∗>λ(F)will prefer trade over FDI. 2 A consumer welfare argument that can be considered the common practice in most countries as documented by Breinlich et al. (2017) challenges mergers and acquisitions on the basis whether they lessen competition and adversely affect consumers. www.economics-ejournal.org 2 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) when fixed costs are small, and when there is no significant fixed cost saving among different entry modes.3 Recent FDI models take into account cross-border mergers and acquisitions and study optimal foreign market entry modes (e.g., see Görg, 2000; Das and Sengupta, 2001; Bjorvatn, 2004; Norbäck and Persson, 2004; Müller, 2007; Fatica, 2010; Koska 2015) and their welfare implications and optimal government policies (e.g., Barros and Cabral, 1994; Head and Ries, 1997; Horn and Levinsohn, 2001; Mattoo et al., 2004; Saggi and Yildiz, 2006; Norbäck and Persson, 2007). This literature shows that the optimal foreign market entry mode is determined mainly according to the trade-off between trade costs, fixed investment costs, and firm acquisition costs. 4 As for welfare implications, it is well established that greenfield entry may reduce welfare, especially if foreign entrants are not sufficiently productive. Similarly, cross-border mergers and acquisitions can be optimal for a foreign firm, although they can be anticompetitive and decrease welfare by increasing market concentration, especially if efficiency gains are not sufficient. 5 Most studies in this literature focus on a single foreign firm’s market entry, and thus they abstract from important implications of strategic bidding competition among multinationals for foreign acquisitions. Given the extent of multinational activities around the globe, however, competition among multinationals is inevitable. As for the studies looking at the welfare implications of a foreign firm’s market entry and the optimal government policy, they focus only on foreign ownership restrictions (e.g., see Norbäck and Persson, 2007; or Bose et al., 2011), or on competition policies by antitrust authorities (e.g., see Horn and Levinsohn, 2001; or Kejzar, 2011). While Bose et al. (2011) show that it is optimal to impose ceilings on foreign ownership of domestic firms (especially if the government’s objective is to maximize domestic shareholders’ gains), Norbäck and Persson (2007) find that it is optimal to allow not only for greenfield entry, but also for cross-border mergers and acquisitions at the same time. This latter finding is consistent with the empirical evidence that most countries have removed restrictions on foreign ownership and do not make a distinction between greenfield entry and foreign acquisitions; see UNCTAD (2000), for details. The literature is, however, silent on whether host countries that liberalize trade and remove restrictions on foreign ownership can avoid 3 Helpman et al. (2004) document that some firms may prefer FDI over exporting also in situations where trade is liberalized, so long as there are sufficient transport costs. Alternatively, Koska et al. (2018a) show that if there is ex ante incomplete cost information, and if FDI can serve as a signal of high productivity, then greenfield FDI can be optimal even when trade and transport costs are zero. Similarly, Koska (2019) finds that also FDI through acquisition of a local firm can be the optimal entry mode in the times of complete trade liberalization. 4 In particular, it can be argued that foreign acquisitions can be more profitable than greenfield entry, especially when the cost of shared ownership is relatively low, and/or when foreign acquisitions generate significant synergies (reducing production costs) among firms (e.g., see Raff et al., 2006; 2009; 2012). 5 The Industrial Organization (IO) literature on mergers and acquisitions shows that a merger is profitable only if it includes at least 80 per cent of the total number of firms in the market so that there is no substantial business stealing by the firms that do not participate in the merger, which is referred to as the merger paradox (see Salant et al., 1983). The literature shows that such a merger paradox can be avoided especially when a merger leads to sufficient efficiency gains as in Perry and Porter (1985); when there is convex demand as in Hennessy (2000); when products are sufficiently differentiated as in Lommerud and Sorgard (1997); and/or when firms compete in a market of strategic complements as in Deneckere and Davidson (1985). www.economics-ejournal.org 3 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) detrimental welfare effects of FDI, especially through a foreign market entry regulation favoring consumer welfare. The IO literature has already scrutinized, to some extent, the implications of a consumer-welfare argument employed as a competition policy practice. That is, the IO literature focuses on mergers between firms that are already competing in the same market and on the application of a consumersurplus standard in approvals of domestic mergers; see, for example, Dertwinkel-Kalt and Wey (2016); Nocke and Whinston (2010); and Goppelsroeder et al. (2008). In the case of domestic acquisitions, any transfer of surplus among firms still contributes to total welfare. With foreign market entry, however, some surplus is transferred from local agents to multinationals (which may not retain their profits in the host country). Foreign acquisition will increase consumer welfare (relative to the case when there is no foreign market entry), while transferring local profits abroad. That is, an antitrust authority would approve such foreign acquisitions based on consumer welfare, although such foreign market entry would be welfare decreasing (especially had there been no sufficient efficiency gains). Alternatively, as the current study would like to demonstrate, the host country can incorporate a consumer welfare argument into its foreign market entry regulation, and can better address the detrimental welfare effects of FDI. The important implications of incorporating a consumer welfare argument into foreign market entry regulations have been overlooked, especially in the context of potential cross-border firm acquisitions by the trade and FDI literature. The exception is Koska (2019) that takes on board a minimum output requirement (based on a consumer-welfare argument) imposed by the host country as part of its foreign market entry regulation. In Koska (2019), there is seller competition (local firms compete to sell their business to a foreign firm), although there is only one foreign firm entering the host country. In contrast, this paper focuses on buyer competition (foreign firms compete to acquire a local firm). Norbäck and Persson (2008) take both types of competition on board (and they consider an oligopolistic market structure) and study different types of firm buyouts (domestic vs foreign and hostile vs preemptive takeover), although they do not consider any foreign market entry regulation, nor do they look at welfare implications. This study, thus, extends discussions of both Koska (2019) and Norbäck and Persson (2008). The model focuses on two potential foreign entrants (with their headquarters outside the host country) competing for foreign acquisition of a local firm and scrutinizes the implications of imposing a minimum output requirement for cross-border firm acquisitions on foreign market entry behavior and welfare. The idea follows the observation that (i) multinationals do negotiate with host countries before their foreign market entry; and that (ii) certain production requirements can be imposed by host countries on foreign market entry. Moreover, anecdotal evidence shows that host countries might try to exploit competition among multinationals to help local firms earn higher rents for their scarce and valuable domestic assets. 6 In general, detrimental effects of mergers and acquisitions on consumers are minimized when the merged firms (or the new entity) behave 6 See, for example, the role Chinese government officials played in the bidding competition between SABMiller (British brewer) and Anheuser-Busch (American brewer) for Harbin Brewery (Chinese brewer) as discussed in Norbäck and Persson (2008). www.economics-ejournal.org 4 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) more aggressively in terms of production. Although host countries that liberalize trade and remove restrictions on foreign ownership lose some important policy tools, this study shows that they can still strategically regulate their markets further for foreign market entry so as to increase local welfare. The idea is to strategically use a consumer welfare argument and impose a minimum output requirement for foreign acquisitions. In a linear Cournot model with constant marginal production costs, introducing a minimum output requirement for foreign acquisitions implies that only those with sufficient efficiency gains will be incentive compatible for foreign acquiring firms. As is demonstrated in this study, when the minimum output requirement is determined in a way that consumers will have gained (should there be a foreign firm acquisition), also the acquired local firm will have gained by receiving a higher acquisition price (especially through the bidding competition between the foreign firms). In particular, this study shows that in a non-cooperative equilibrium, a host country can lead a foreign firm to acquire the local firm for purely preemptive reasons (so long as there is competition for the local firm’s assets). 7 Consequently, a host country can substantially gain in terms of local welfare, and can even trap multinationals in a "prisoner’s dilemma" situation, especially when there is fierce competition for foreign acquisition. Although multinationals could have gained more had they been able to credibly commit to independent foreign sales (either via greenfield FDI or trade) following complete liberalization, they will have a strong incentive to deviate from such mutually beneficial "cooperative" equilibrium, and thus will end up bidding up the acquisition price to the extent that they will earn less in a non-cooperative equilibrium. The rest of the paper is organized as follows. Section 2 introduces the model. Section 3 details the minimum output requirement warranted by the strategic use of a consumer welfare argument in regulating foreign market entry, and solves the model for the equilibrium market entry modes. In particular, this section shows that when there is multinational competition for potential foreign acquisition, the strategic use of a consumer welfare argument in regulating foreign market entry leads the multinationals to compete for potential foreign acquisition for purely preemptive reasons. Section 4 scrutinizes the welfare implications of the model. This section demonstrates that when there is multinational competition for potential cross-border firm acquisition, any foreign acquisition that fulfills the minimum output requirement leads to higher local welfare as compared to the case multinationals enter the host country by independent foreign sales (or compared to the initial case without foreign market entry). Finally, Section 5 concludes the study. 2 The model The model considers a host country market initially served by a monopoly local firm, denoted firm l . Following the stylized facts on multinationals such that their intangible assets enable them to 7 As will be clear in Section 3, efficiency gains are the key in such a preemptive motive for foreign acquisitions. Also Molnar (2007) shows that such preemptive firm acquisitions are empirically supported by US data. www.economics-ejournal.org 5 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) penetrate oligopolistic markets, the model assumes that entry to this market is restricted: that is, similar to Koska (2019) and Koska et al. (2018a), firms that are willing to produce for this market need Z units of a specific factor to develop intangible assets within firm boundaries so as to be able to produce at all. The aggregate supply of this factor is strictly less than 4Z and the outside option of this factor determines its wage, which is normalized to unity. Therefore, the model focuses on a single local firm (already invested in specific factor Z ) and two potential entrants with their headquarters outside the host country (to avoid dissipation of their knowledge capital), namely multinational firms 1 and 2 . 8 Note that investment in specific factor Z only makes the firms productive for the host country market, and thus fixed cost Z plays no role in determining foreign market entry modes. All firms are risk neutral and produce a homogeneous good. Following the common observation in most countries, the model assumes that the multinationals have a cost advantage over the local firm. 9 The multinational firms are identical in their ex-ante (constant) marginal cost of production (especially when they both export, or undertake greenfield investment, under complete liberalization), denoted c1=c2=c∗ , while the local monopoly firm’s constant marginal cost of production is cl=c>c∗, where c∈(0,1). Alternatively, one of the multinationals can acquire existing assets of the local firm. It should be noted that although the two multinationals are ex ante identical in their production costs, foreign acquisition leads them to differ in their ex-post productivity. The idea is that efficiency gains generated by foreign acquisition of the local firm are different among multinationals, especially when different foreign assets are combined with local assets. In particular, foreign acquisition enables the acquiring multinational and the acquired local firm to combine their assets, and thus to decrease marginal production costs. Let θk∈[0,θ] , k∈ {1,2} , denote the ex-post marginal cost of the multinational after having acquired existing assets of firm l . As in Koska (2019), θ is the upper bound that is implied by the strategic use of a consumer welfare argument in regulating foreign market entry, which warrants a minimum output requirement for foreign acquisition, that is, any foreign takeover that generates sufficient synergies such that θk≤θ , k∈ {1,2} (so that it fulfills the minimum output requirement) will be allowed by the host country as part of its foreign market entry regulation; see Condition 1.10 8 The model assumes two foreign firms that have already maintained capacity in different countries, and thus refers to these firms as multinationals. 9 The model assumes a local firm (without capacity anywhere but the host country) and two foreign firms that have already maintained capacity in different countries and they owe their superior productivity to their large R&D investments and intensive use of professional and technical workers generating proprietary knowledge. This merely follows the stylized facts on multinationals. For instance, Müller (2007: 95) reports that it is the common observation that local firms in many markets in Central and Eastern Europe generally possess a less efficient production technology compared to multinational firms entering those markets. 10 It will be clear in Section 3 that θ is determined through commitment to a minimum output level in the case of foreign acquisition as the outcome of negotiations between the host country and the multinationals. As the focus of the study is multinational competition for potential foreign acquisition, the cases that θk>θ,k∈ {1,2} (those that do not qualify for the minimum output requirement) are assumed away. Also it should be noted that the specifics of the model do not allow for domestic firm entry (e.g., some specific foreign intangible assets are required to penetrate a local monopoly/duopoly market, and local assets only together with more efficient foreign assets generate synergies and fulfills the minimum output requirement given by Condition 1). www.economics-ejournal.org 6 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) Consumers’ preferences in the host country can be represented by a quadratic utility function that leads to the linear inverse demand function given by P(Q) = (1−Q) , where P is the market price of the homogeneous good and Q stands for aggregate output. Total production (or sales) if both multinationals opt for alternative market entry modes (other than foreign acquisition), referred to as independent foreign sales, Qf=qf l+∑kqf k , comprises the two multinationals’ total outputs ∑kqf k , k∈ {1,2} , and the local firm’s output qf l , where superscript f stands for independent foreign sales, and subscript l represents the local firm. 11 If one of the two multinationals enters the host country by acquiring existing assets of the local firm, then there will be a duopoly market structure, in which case total sales, Qa=qa kl +qe −k - if multinational k acquires the local assets - will comprise the acquiring multinational’s output qa kl and the non-acquiring multinational’s output qe −k , k∈ {1,2} . Note that superscript a represents foreign acquisition of the local firm, and superscript e represents the non-acquiring multinational competing against foreign acquisition by independent foreign sales. Consistent with this notation, πf l and πf k , k∈ {1,2} , represent, respectively, the local firm’s and the multinationals’ profits when the multinationals penetrate the host country market by independent foreign sales, and πa k and πe −k represent those when multinational k , k∈ {1,2} , acquires local firm l . In the case of foreign acquisition of the local firm, the local firm earns the acquisition price, denoted Ω , which is determined endogenously. The interaction between firms takes place such that if foreign market entry is allowed by the host country in the first stage, then following the negotiations for foreign market entry with the host country, first the multinationals’ foreign market entry modes are sorted (see Section 3 for details), then given the multinationals’ foreign market entry modes, following their entry, all active firms in the market compete by quantities. The game is solved backwards. In the last stage of the game (once the multinationals’ entry modes are sorted), all active firms in the market engage in Cournot competition. Given the linear inverse demand function for a homogeneous good and the firms’ constant marginal costs of production, in a linear Cournot oligopoly model, all firms make their output decisions simultaneously. The objective is to maximize profits, given by πi(·) = (p(Q)−ci)qi , where i∈ {l,1,2} . The maximized firm profits thus can be expressed as a function of optimal firm outputs: π∗ i=−(∂p(Q)/∂qi)(q∗ i)2 , where (∂p(Q)/∂qi) = −1 , and thus, π∗ i= (q∗ i)2 , where i∈ {l,1,2} . Cournot solutions for the optimal quantities produced by each firm ( q∗ i ) in each case (i.e., monopoly, independent foreign sales by the two multinationals (oligopoly), and foreign acquisition of the local firm by one multinational (duopoly)), and the corresponding maximized profits are given below. Consider first the case without any foreign market entry by either multinational in the host country (or the case the host country does not allow for foreign market entry), which is referred to as the local monopoly case. The local firm will be able to maintain its monopoly power, and will produce at the output level of qm l= (1−c)/2 and will earn monopoly profit πm l= (1−c)2/4 , where superscript mrepresents the monopoly case. 11 Throughout the study, exporting to the host country or undertaking greenfield investment in the host country is referred to as independent foreign sales. www.economics-ejournal.org 7 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) Suppose now the market is completely liberalized for trade and foreign ownership, and market entry by foreign firms is allowed (which should be determined by the host country in the first stage of the game; see Section 4): in this context, exporting requires no trade costs under complete trade liberalization, and the differences in fixed costs among alternative entry modes are normalized to zero such that the multinationals are indifferent between trade and greenfield investment. 12 If both multinationals opt for independent foreign sales, and the three firms compete by quantities, then the local firm’s output will be qf l= (1−3c+2c∗)/4 , and the two multinationals’ outputs will be qf 1=qf 2= (1−2c∗+c)/4. We can write each firm’s profit as πf 1=πf 2=1−2c∗+c 42 ;πf l=1−3c+2c∗ 42 .(1) It is clear from eq.(1) that in the case of oligopolistic market structure, a firm produces and earns more the smaller is its marginal production cost, while it produces and earns less the smaller the rivals’ costs. Also, comparing eq.(1) with the monopoly outcome, it is straightforward to show that (i) market entry decreases the average industry marginal cost and increases competition with which the local firm’s sales and profits decrease; and (ii) an increase in competition decreases the market price and increases aggregate sales. Note that the model assumes (1−3c+2c∗)>0 such that there is no crowding-out effect of market entry by multinationals. If multinational k∈ {1,2} acquires the existing assets of local firm l , and the other multinational competes against foreign acquisition by independent foreign sales, then the acquiring firm’s output will be qa kl = (1−2θk+c∗)/3 , and the non-acquiring multinational’s output will be qe −k= (1−2c∗+θk)/3, and their profits will be, respectively: πa kl =1−2θk+c∗ 32 ;πe −k=1−2c∗+θk 32 ,(2) where πa kl is multinational k ’s gross profits from foreign acquisition, and θk is its ex-post marginal cost of production. In case of foreign acquisition, acquiring multinational k will have to pay acquired firm l an acquisition price ( Ω ), which is determined endogenously; see the next section. Thus, the net return from foreign acquisition to multinational k is πa k=πa kl(θk)−Ω , and to the acquired firm is Ω . Foreign acquisition decreases competition by decreasing the number of firms by one as compared to the case that both multinationals enter the market by independent foreign sales. To offset the negative impact of a decrease in the number of firms on aggregate output, sufficient synergies in foreign acquisition (a sufficiently low ex-post marginal cost of production) is warranted. The next section shows that a minimum output requirement for foreign acquisition as part of the foreign market entry regulation not only warrants sufficient synergies but also can be used strategically to transfer surplus from multinationals to the local firm. 12 In particular, as in Koska (2019), the model can easily accommodate some non-prohibitive fixed investment and per-unit trade costs without changing the results qualitatively, although the exposition of the model will be more tedious without any further insight. www.economics-ejournal.org 8 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) local welfare increases. As for the change in local welfare with foreign acquisition relative to the monopoly case, however, comparing Wagiven by eq.(11) with Wmgiven by eq.(10) shows that Proposition 4 Multinational competition for preemptive foreign acquisition that fulfills the minimum output requirement, given by Condition 1, bids up the local firm’s gain to the extent that together with the increase in consumer welfare guaranteed by Condition 1, local welfare with foreign acquisition is always greater than that with local monopoly. Although the local firm’s gain from foreign acquisition of its assets by the ex-post more efficient multinational relative to the monopoly case is smaller, multinational competition for foreign acquisition earns the local firm a significantly high acquisition price. In contrast to Koska (2019), the strategic use of a consumer welfare argument in regulating foreign market entry, which warrants a minimum output requirement for foreign acquisition as given by Condition 1, guarantees a level of consumer welfare that is always sufficient to surpass the decrease in the local firm’s profit. Given these results, the following policy implication would be immediate: Corollary 1 Complete trade and investment liberalization together with the strategic use of a consumer welfare argument in regulating foreign market entry and the corresponding minimum output requirement as defined by Condition 1 will not hurt the host country insofar as there is also multinational competition for foreign acquisition. Similar to Norbäck and Persson (2007) and Koska (2019), it can be argued that it would not be optimal for the host country to ban foreign acquisition and permit trade or greenfield entry. This is also the empirically relevant case as reported by UNCTAD (2000). Additionally, the results suggest that the host country might opt for complete liberalization and strategically use a consumer welfare argument in regulating foreign market entry, by imposing a minimum output requirement for foreign acquisition given by Condition 1. This holds not only for any permissible trade or greenfield entry, but also for some cases where independent foreign sales decrease local welfare relative to local monopoly. That is, the host country might still consider liberalizing the market and using the consumer-surplus standard strategically so as to lead multinationals to compete for preemptive foreign acquisition. 5 Concluding remarks In a simple oligopolistic market entry model, this study has scrutinized the implications of multinational competition for cross-border firm acquisition (for which there is a minimum output requirement warranted by the strategic use of a consumer welfare argument in regulating foreign market entry) on multinationals’ foreign market entry behavior and on local welfare. The results have shown that when strategically using a consumer welfare argument in regulating foreign market www.economics-ejournal.org 15 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) entry, the host country is not hurt, but can gain substantially in terms of welfare, especially when there is also multinational competition for foreign acquisition. In particular, this study has shown that cross-border firm acquisition may emerge as an equilibrium foreign market entry mode even when it is less profitable than trade or greenfield entry in the times of complete liberalization (which is expected to be the case especially when there is fierce multinational competition for foreign acquisition). By strategically using a consumer welfare argument in regulating foreign market entry, and thus by allowing for foreign market entry and imposing a minimum output requirement for foreign acquisition, the host country can lead multinationals to compete for foreign acquisition for purely preemptive reasons. The outcome of this is not only higher consumer welfare, but also a significantly high acquisition price improving welfare relative to the monopoly case, to trade, and to greenfield entry. There are different avenues by which this paper can be extended. For instance, some non-prohibitive trade and investment costs can be included in the model. In such a case, the multinationals’ outside options will be determined by the proximity-concentration trade-off as detailed in Section 1. All the results will then follow. By the same token, the model has assumed a single local firm for simplicity. It is also rather straightforward to extend the model to local competition prior to market entry of foreign firms. The results are not sensitive to this assumption. As is already mentioned in Section 1, in Koska (2019), there is, to some extent, local competition, although there is only one foreign firm entering the host country. In contrast, this paper focuses on multinational competition for foreign acquisition of a local firm. Norbäck and Persson (2008) take both types of competition on board (and they consider an oligopolistic market structure), although they do not consider a minimum output requirement for acquisitions, nor do they look at welfare implications. Following both Koska (2019) and Norbäck and Persson (2008), under a minimum output requirement as detailed in this paper, it is straightforward to show that there is always a preemptive takeover so long as local firms are identical and foreign firms compete for acquisition of the same local firm. In such a case, the results still will qualify, though there will be some level effect, especially on outside profits and acquisition prices (firms’ valuations). By contrast, introducing firm heterogeneity among local firms will complicate the model. The reason is that it is not clear whether the most (or the least) productive local firm will always be targeted for firm acquisition: for different constellations of parameter values different local firms may be targeted; see Pagnozzi and Rosato (2016) for the case of complete information, and Koska et al. (2018b) for the case of incomplete information. An interesting extension of the model, however, would be to relax the assumption of homogeneous goods. In the context that consumers love variety, this would warrant a modification of the consumer-welfare argument used strategically in regulating foreign market entry, and could generate some interesting welfare results. As such an extension deserves its own model, it is left to future research. Acknowledgements This research was conducted while I was visiting the Microeconomics Unit of the Department of Economics at the University of Kiel, and I would like to thank Prof. Horst Raff for helpful discussions and for his hospitality. www.economics-ejournal.org 16 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) References [1] Antràs, P., Yeaple, S.R. 2014. Multinational firms and the structure of international trade. Handbook of International Economics, 4: 55-130. https://doi.org/10.1016/B978-0-444-54314-1.00002-1 [2] Barros, P.P., Cabral, L. 1994. Merger policy in open economies. European Economic Review, 38(5): 1041–1055. https://doi.org/10.1016/0014-2921(94)90036-1 [3] Bjorvatn, K. 2004. Economic integration and the profitability of cross-border mergers and acquisitions. European Economic Review, 48(6): 1211–1226. https://doi.org/10.1016/j.euroecorev.2004.03.007 [4] Brainard, S.L. 1993. A simple theory of multinational corporations and trade with a trade-off between proximity and concentration. NBER Working Paper. No. 4269. Cambridge: National Bureau of Economic Research. https://www.nber.org/papers/w4269 [5] Brainard, S.L. 1997. An empirical assessment of the proximityconcentration trade-off between multinational sales and trade. American Economic Review 87, 520–544. https://www.jstor.org/stable/2951362 [6] Bose, G., Ghosh, A., Dasgupta, S. 2011. Cross-border acquisitions and optimal government policy. Economic Record, 87(278): 427–437. https://doi.org/10.1111/j.1475-4932.2011.00727.x [7] Breinlich, H., Nocke, V., Schutz, N. 2017. International aspects of merger policy: a survey. International Journal of Industrial Organization, 50(1): 415–429. https://doi.org/10.1016/j.ijindorg.2016.05.001 [8] Das, S.P., Sengupta, S. 2001. Asymmetric information, bargaining, and international mergers. Journal of Economics & Management Strategy, 10(4): 565–590. https://doi.org/10.1111/j.1430-9134.2001.00565.x [9] Deneckere, R., Davidson, C. 1985. Incentive to form coalitions with Bertrand competition. Rand Journal of Economics, 16(4): 473–486. https://www.jstor.org/stable/2555507 [10] Dertwinkel-Kalt, M., Wey, C. 2016. Merger remedies in oligopoly under a consumer welfare standard. Journal of Law, Economics, and Organization, 32(1): 150–179. https://doi.org/10.1093/jleo/ewv013 [11] Fatica, S. 2010. Investment liberalization and cross-border acquisitions: the effect of partial foreign ownership. Review of International Economics, 18(2): 320–333. https://doi.org/10.1111/j.1467-9396.2010.00866.x [12] Goppelsroeder, M., Schinkel, M.P., Tuinstra, J. 2008. Quantifying the scope for efficiency defense in merger control: the Werden-Froeb index. Journal of Industrial Economics, 56(4): 778–808. https://doi.org/10.1111/j.14676451.2008.00360.x [13] Görg, H. 2000. Analysing foreign market entry – the choice between greenfield investment and acquisitions. Journal of Economic Studies, 27(3): 165–181. https://doi.org/10.1108/EUM0000000005350 [14] Head, K., Ries, J. 1997. International mergers and welfare under decentralized competition policy. Canadian Journal of Economics, 30(4): 1104–1123. https://www.jstor.org/stable/136312 [15] Helpman, E., Melitz, M.J., Yeaple, S.R. 2004. Export versus FDI with heterogeneous firms. American Economic Review 94(1), 300–316.http://www.jstor.org/stable/3592780 [16] Hennessy, D.A. 2000. Cournot oligopoly conditions under which any horizontal merger is profitable. Review of Industrial Organization, 17(3): 277–284. https://www.jstor.org/stable/41798956 [17] Horn, H., Levinsohn, J. 2001. Merger policies and trade liberalisation. Economic Journal, 111(470): 244–276. https://doi.org/10.1111/1468-0297.00607 [18] Horstmann I.J., Markusen, J.R. 1992. Endogenous market structures in international trade (natura facit saltum). Journal of International Economics, 32(1–2): 109–129. https://doi.org/10.1016/0022-1996(92)90038-L www.economics-ejournal.org 17 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) [19] Kejzar, K.Z. 2011. Does foreign direct investment induce domestic mergers? Open Economies Review, 22(2): 271–291. https://link.springer.com/article/10.1007/s11079-009-9123-y [20] Koska, O.A. 2015. A model of competition between multinationals. METU Studies in Development, 42(2) (2015), 271–298.http://www2.feas.metu.edu.tr/metusd/ojs/index.php/metusd/article/view/731 [21] Koska, O.A. 2019. A consumer-surplus standard in foreign acquisitions, foreign direct investment, and welfare. Review of World Economics, 155(1):149–179, https://doi.org/10.1007/s10290-018-0324-6 [22] Koska, O.A., Onur, I., Stähler, F. 2018a. The scope of auctions in the presence of downstream interactions and information externalities. Journal of Economics, 125(2): 107–136.https://doi.org/10.1007/s00712-017-0590-0 [23] Koska, O.A., Long, N.V., Stähler, F. 2018b. Foreign direct investment as a signal. Review of International Economics, 26(1): 60–83.https://doi.org/10.1111/roie.12303 [24] Lommerud, K.E., Sorgard, L. 1997. Merger and product range rivalry. International Journal of Industrial Organization, 16(1): 21–42. https://doi.org/10.1016/S0167-7187(96)01042-9 [25] Markusen, J.R. 1984. Multinationals, multi-plant economies, and the gains from trade. Journal of International Economics, 16(3–4): 205–226. https://doi.org/10.1016/S0022-1996(84)80001-X [26] Markusen, J.R., Venables, A.J. 1998. Multinational firms and the new trade theory. Journal of International Economics, 46(2): 183–203. https://doi.org/10.1016/S0022-1996(97)00052-4 [27] Mattoo, A., Olarreaga, M., Saggi, K. 2004. Mode of foreign entry, technology transfer, and FDI policy. Journal of Development Economics, 75(1): 95–111. https://doi.org/10.1016/j.jdeveco.2003.08.002 [28] Molnar, J. 2007. Pre-emptive horizontal mergers: theory and evidence. Bank of Finland Research Discussion Papers 17/2007. Helsinki: Bank of Finland. https://www.econstor.eu/handle/10419/108044 [29] Müller, T. 2007. Analyzing modes of foreign entry: greenfield investment versus acquisition. Review of International Economics, 15(1): 93–111. https://doi.org/10.1111/j.1467-9396.2006.00634.x [30] Navaretti, B.G., Venables, A.J. 2004. Multinational firms in the world economy. Princeton: Princeton University Press. [31] Nocke, V., Whinston, M.D. 2010. Dynamic merger review. Journal of Political Economy, 118(6): 1200–1251. http://www.journals.uchicago.edu/doi/abs/10.1086/658161 [32] Norbäck, P-J. and Persson, L. 2004. Privatization and foreign competition. Journal of International Economics, 62(2): 409–416. https://doi.org/10.1016/S0022-1996(03)00049-7 [33] Norbäck, P-J. and Persson, L. 2007. Investment liberalization - why a restrictive cross-border merger policy can be counterproductive. Journal of International Economics, 72(2): 366–380. https://doi.org/10.1016/j.jinteco.2006.09.004 [34] Norbäck, P-J. and Persson, L. 2008. Globalization and profitability of cross-border mergers and acquisitions. Economic Theory, 35(2): 241. http://www.jstor.org/stable/40282858 [35] Pagnozzi, M., Rosato, A. 2016. Entry by takeover: auctions vs. bilateral negotiations. International Journal of Industrial Organization 44(1), 68–84. https://doi.org/10.1016/j.ijindorg.2015.10.009 [36] Raff, H., Ryan, M., Stähler, F. 2006. Asset ownership and foreign-market entry. CESifo Working Paper. No. 1676. Munich: Center for Economic Studies and Ifo Institute for Economic Research. [37] Raff, H., Ryan, M., Stähler, F. 2009. The choice of market entry mode: greenfield investment, M&A and joint venture. International Review of Economics and Finance, 18(1): 3–10. https://doi.org/10.1016/j.iref.2008.02.006 www.economics-ejournal.org 18 Economics: The Open-Access, Open-Assessment E-Journal 13 (2019-20) [38] Raff, H., Ryan, M., Stähler, F. 2012. Firm productivity and the foreign-market entry decision. Journal of Economics & Management Strategy, 21(3): 849–871. https://doi.org/10.1111/j.1530-9134.2012.00346.x [39] Saggi, K., Yildiz, H.M. 2006. On the international linkages between trade and merger policies. Review of International Economics, 14(2): 212–225. https://doi.org/10.1111/j.1467-9396.2006.00571.x [40] Salant, S., Switzer, S., Reynolds, R.J. 1983. Losses from horizontal merger: the effects of an exogenous change in industry structure on Cournot-Nash equilibrium. Quarterly Journal of Economics, 98(2): 185–199. https://www.jstor.org/stable/1885620 [41] UNCTAD 2000. World Investment Report 2000: Cross-border mergers and acquisitions and development. New York and Geneva: United Nations. www.economics-ejournal.org 19 Please note: You are most sincerely encouraged to participate in the open assessment of this article. You can do so by either recommending the article or by posting your comments. Please go to: http://dx.doi.org/10.5018/economics-ejournal.ja.2019-20 The Editor © Author(s) 2019. Licensed under the Creative Commons License - Attribution 4.0 International (CC BY 4.0)