Background for the Microsoft Case: Antitrust Law and Anticompetitive Activity

1
Background for the Microsoft Case Antitrust Law
and Anticompetitive Activity
Session 14
MT214 Technology, Business, and Public
Policy Vanderbilt University School of Engineering
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Conduct vs. Structural Cases

• Conduct Cases
• allege specific anticompetitive practices
  (conduct) by the firm
• Structural Cases
• based on structural imperfections in the relevant
  market that led to the concentration in the
  industry

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Practices Covered by Conduct Cases

• Horizontal Market Control
• monopolies (attempts to corner an entire market)
• conspiracies (e.g., price-fixing)
• predatory pricing/price discrimination
• when intended to drive out (not just meet)
  competition
• horizontal allocation of markets among
  competitors
• Source Antitrust and Competitive Strategy in
  the 1990s, pp. 2, 5

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Practices Covered by Conduct Cases

• Vertical Market Control
• tying contracts (with intermediaries)
• Distributors/resellers/retailers
• Original Equipment Manufacturers (OEMs)
• exclusive dealing contracts
• e.g., exclusionary licenses
• resale price maintenance
• refusals to deal
• Source Antitrust and Competitive Strategy in
  the 1990s, pp. 2, 5

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Remedies for Conduct Cases

• Fines
• Imprisonment of key officials
• Damaged parties (competitors, customers,
  distributors) may recover civil damages in court

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Structural Cases

• Based on structural imperfections in the
  relevant market that led to the concentration in
  the industry
• Scale economies
• High fixed or upfront costs (operating leverage)
• High buyer switching costs
• Experience curve effects
• High entry costs
• Network externalities
• Dependence on specialized complementary products

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Barrier to Entry Scale Effects

• Variable Costs
• Direct Labor
• Material
• Supplies
• Energy

• Fixed Costs
• Salaries
• Equipment
• lease/finance charges
• Buildings
• rent/mortgage pmts
• Insurance

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High vs. Low Fixed Cost Businesses

• Low Fixed Cost
• Retailing/Distribution
• Light Manufacturing
• Professional Services
• Personal Services
• (plumbing, electrical...)

• High Fixed or Upfront Cost
• Software
• Utilities
• Heavy Manufacturing
• Airlines

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Effect of High Fixed Costs on Market Behavior
Premium on Share vs. Unit Profit
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Buyer Switching Costs

• Potential write-offs of existing capital
  equipment
• Retraining costs
• e.g., the Dvorak vs. QWERTY keyboards
• Installation and set-up costs
• Customization costs
• e.g., application development
• Support costs
• e.g., renegotiating support contracts
• Transaction costs
• The (often hidden) costs that are incurred when a
  purchaser buys a product through an open market
  transaction with a seller

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Transaction Costs Incurred When Switching
Suppliers

• Search costs
• buyers and sellers finding each other in an open
  market (e.g., advertising)
• Information costs
• costs to buyers and sellers of qualifying each
  other
• Bargaining costs
• communication and negotiating terms and
  conditions
• Decision costs
• evaluation of alternatives, reaching internal
  agreement, obtaining purchasing approval

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Result
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Effect of Experience

• As you gain experience, you should get
• faster processing time/throughput
• faster set-up/changeover time
• higher yield
• more favorable supply contracts
• more efficient processes

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Impact of Experience on Cost
a
b
Technological Frontier
c
New Entrant
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Network Externalities(Also known as Metcalfes
Law)

• value of product increases for each customer as
  customer base grows
• telephone/video conferencing
• data networking
• communities of interest (Friends and Family)

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Illustration of Effect of Network Externalities
subscribers to a network
2
3
4
5
Subscribers
12
20
2
6
Links
(n)x(n-1) n2
value of network (no. of subscribers)2
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Complementary Products
Cars and Car Insurance

• When products are complementary, sales of one
  product generally pull through sales of its
  complements.

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Specialized Complements

• Effect when complements are mutually specialized
  to each other... a closed-loop system
• VCR machines - videotapes
• operating systems - application developers
• credit cards - merchants/customers
• data bases - users/cases (e.g., credit rating)
• portal websites - viewers/sellers
• ticket outlets - patrons/entertainers

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Impact of Structural Effects on Market
Concentration

• Significant advantage to leader
• even if lead is only slight
• Market instability
• winner-take-most

Revenue
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Remedies for Structural Cases

• Regulation
• Prevent price-fixing, monopolistic pricing
• e.g., price regulation
• e.g., disclosure requirements (transparency)
• Structural Separation (Chinese walls)
• Reduce opportunities for tying, vertical
  restraint-of-trade
• e.g., Bell Cos. customer premises equipment vs.
  network
• e.g., Apple (Claris spinout)
• Divestiture of Businesses
• Counteract scale economies
• e.g., Standard Oil - multiple oil companies
• e.g., ATT - long-distance vs. local

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The Microsoft 1999 Antitrust Case

• DoJ allegations ...
• Exclusionary Licenses
• With PC Manufacturers
• Tying Contracts
• browser/O/S

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Recent History

• Oct., 2000 Judge Jackson issues finding of fact
• Microsoft has a monopoly in operating system
  software
• Microsoft has abused its monopoly power
• Apr. 2001 Jackson issues conclusion at law
• structural separation into O/S co., application
  co., perhaps an Internet browser co.
• Summer, 2001 Appeals court overturns structural
  remedy
• based on improper judicial conduct
• Fall, 2001 Remedy phase remanded to new
  district court
• Finding of fact upheld

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Your Assignment

• As the new federal judge assigned to the case,
  determine whether to impose a structural or
  conduct remedy or both
• Specify the exact remedy
• Explain your reasoning
• Whichever decision you make, it will be appealed
  by one of the parties.