166 • Chapter 5 • Competitors and Competition

COMPETITOR IDENTIFICATION AND MARKET DEFINITION

One cannot analyze competition without first identifying the competitors. It is easy to take this for granted. BMW competes with Mercedes and Audi; Tesco competes with Sainsbury; and so forth. Unfortunately, what seems obvious is not always correct or complete. Do the German car makers compete with Jeep and Range Rover? Do Tesco and Sainsbury compete in every town and village, and do they both compete with Pret-a-Manger (a prepared foods carry-out chain)?

Competitor identification begins with the following simple idea: Competitors are the firms whose strategic choices directly affect one another. For example, if Mercedes reduced the price on its sports coupe, BMW would have to consider a pricing response. It follows that Mercedes coupes and BMW coupes are direct competitors. Firms also compete indirectly, when the strategic choices of one affect the performance of the other, but only through the strategic choices of a third firm.1 For example, if Mercedes reduced the price on its sports utility vehicles, Acura might do the same. This might cause Jeep to change price on its Grand Cherokees. In this way Mercedes’ pricing decisions affect Jeep; we should at least consider them to be indirect competitors.

Although managers are conversant with these ideas, it is worthwhile to develop methods to systematize competitor identification. These methods force managers to carefully identify the features that define the markets in which they compete, and often reveal aspects of competition that a “quick and dirty” analysis might miss. It is also important to remember that firms compete in both input and output markets and that the competitors and the nature of competition may be quite different in each one. For example, Poland’s state-owned Halemba coal mine in Ruda Slaska has little or no competition in the local labor market where the mine is the largest employer, but it faces many competitors in its output market.

The Basics of Competitor Identification

Antitrust agencies, such as the U.S. Department of Justice (DOJ) and the European Commission (EC), are responsible for preventing anticompetitive conduct. They examine whether merging firms will monopolize a market and whether existing monopolists are abusing their power. A necessary first step in identifying monopolists is market definition, also known as competitor identification. The DOJ has developed a simple conceptual guideline for market definition. According to the DOJ, a market is well defined, and all of the competitors within it are identified, if a merger among them would lead to a small but significant nontransitory increase in price. This is known as the SSNIP criterion. “Small” is usually defined to be “more than 5 percent,” and “nontransitory” is usually defined to be “at least one year.”

To better understand SSNIP, suppose that BMW and Audi proposed a merger. The EC might object on the grounds that the market in which BMW competes consists of “German luxury cars” and that the list of competitors is therefore limited to BMW, Audi, and Mercedes. The proposed merger would thus lead to excessive market concentration; in antitrust parlance, this would be a “3 to 2” merger because it reduces the number of competitors from three to two. BMW might counter that the market in which it competes consists of all luxury cars and should be expanded to include Lexus, Acura, Infiniti, Range Rover, and other