14

Monopoly, Competition and Corporate Governance

• Introduction
• The Concept Logic and Benefits of Competition
• Benefits of Competition to Stakeholders
• What is a Good Competition Policy?
• Indian Competition Act
• MRTP Act and Competition Act

Introduction

A monopoly is said to exist where one person or a company controls at least one-third of a local or national market. The attitude of the public in many countries towards complete and partial monopolies has for many years been one of acute and distinct opposition. This has been mainly due to the abuses of monopoly which include: (i) high prices and restricted output; (ii) wrong allocation of resources; (iii) abuse of investors by monopolists painting alluring pictures of high profits and perpetual exploitation of the market; (iv) preventing inventions since a monopolist’s profits do not depend upon continuous progress in production; (v) increasing the instability of the economic system; (vi) unfair trade practices such as price discrimination, secret rebates and so on; (vii) undue economic clout being used to curry political favours; (viii) corruption and bribery; and (ix) concentration of economic power in the hands of a few. It is for these reasons that monopoly has been regarded as a social evil and various measures have been designed in free enterprise economies to control and regulate it or in some cases to eliminate it altogether. Moreover, it is an obvious fact that monopoly with its attendant evils such as practices of dominant firms, high prices for poor quality products, cheating the consumer, unfair trade practices that go against rivals in business, corruption and bribery militates against the very principles of corporate governance. This is the reason why societies that value corporate democracies and better governance practices have enacted anti-monopoly laws that have attempted to (a) prevent monopoly firms from coming into existence, (b) get them dissolved if they exist already or split them into a number of competing firms and (c) prevent monopoly firms from indulging in unfair trade practices such as price discrimination and cut-throat competition.

Basically, the difference between a competitive firm and monopoly firm arises from the fact that in the former, supply of a commodity comes from thousands of sellers, each selling a small quantity with a limited capacity to charge high or different prices, while in the case of the latter, there is only one firm controlling the entire supply or a substantially large portion of supply of the product with a capacity to charge high or different prices.

A competitive firm in a free market economy is preferred to a monopoly for a variety of reasons: (i) the consumer stands to gain under it because of low prices available due to intense competition; (ii) firms avoid wastages and duplication of efforts as they have to be competitive; (iii) firms tend to be efficient in a system of the survival of the fittest and therefore they tend to be so and (iv) they maximise the gains for the society as a whole by deploying resources in the best possible use in the context of consumer’s tastes and preferences. Competition is thus considered to be the best market situation and its link to corporate governance practices the closest.

 

The Concept, Logic and Benefits of Competition

Economists assert that given the resources and technology, an economy is efficient when it is able to provide its consumers with the most desired range of products at minimum cost and this is possible under the mechanism of a competitive market, leading to the determination of equilibrium price. In a particular product segment, marginal cost and marginal utility of a product are exactly balanced at the equilibrium price. Once the efficiency is achieved, it is not possible to reorganise production in order to make someone better off without making someone else worse in that particular situation. In the practical world, however, business decisions are affected more by actual rather than potential competition.

Some of the benefits expected from competitive markets are given below:

• Growth of entrepreneurial culture leading to increase in the number of producers and sellers in the market
• Increase in investment and capital formation leading to increase in supply capabilities
• A strong incentive for developing cost-cutting technologies through sustained research and development efforts
• Reduction in wastage and improvement in efficiency and productivity.
• Greater customer focus and orientation
• Increased possibility for entering and tapping foreign markets
• Conducive environment for growth of international trade and investment.
• Better resource and capacity utilisation
• Wider range of availability of goods and services leading to wider choice for consumers and survival of the fittest whereas the inefficient firm falling by the wayside.

On account of these perceived benefits, governments in free enterprise countries take steps to create and promote competition. This, however, requires a suitable economic system and the constitutional framework as well as an appropriate macroeconomic policy set-up. The transformation of a centrally controlled, planned or socialist economy to a free enterprise system is not easy as was demonstrated in the attempt of erstwhile Soviet-type economies to market-driven economies. It requires major shift in the institutional philosophy of the structure, production system, socio-economic policies and the fundamental philosophy of the government itself. For this, the transition period could be long, painful and problematic. A number of economies in Eastern Europe are facing serious transition problems in the gradual process of liberslisation towards market-oriented system. The movement towards market-based system is generally slow and has to be based on adaptive processes.

Regulation of Competition

While it is important and necessary to promote competition among firms to enable consumers gain maximum advantage from a free market economy, an unregulated competition is bad and may even lead to unmitigated disaster and destruction of the nation’s wealth. Competition particularly between firms of highly unequal strength can be self-destructive. In unregulated markets there can be widespread negative spillover effects. The negative effects could be in the form of information asymmetries, unethical collusions, hostile takeovers, malicious interlocking directorates in companies, transfer pricing, strategic market alliances, unjustified market segmentation and differential pricing and a number of other monopolistic and unfair trade practices. These factors result in anticompetitive outcomes, which underscore the need for regulation of competition.

 

The regulation and protection of competition usually require a competition policy backed by an appropriate legislation. There are the following three basic areas of such competition policy:

• Control of dominance firms by regulation
• Control of mergers to prevent the possibility of emergence of monopolies
• Control of anti-competitive acts such as predatory pricing.

In India we had a long tenure of Monopolies and Restrictive Trade Practices (MRTP) Act, 1969 replaced recently by Competition Act 2002 which was passed in December 2002. In the UK, Competition Act, 1980, empowers the Office of Fair Trading (OFT) to investigate anti-competition practices. In the US, the Anti-trust legislation seeks to control monopoly and restrictive practices in favour of competition. It specifically deals with price discriminations, exclusive dealings and interlocking directorates and shareholdings among competing companies.

Corporate Governance Under Limited Competition

The influence of competition on the practice of corporate governance can be gauged properly if we look at the risks associated with markets where competition is restricted. While there is an increasing liberalisation of markets for goods and services in recent times in several erstwhile socialist countries and mixed economies like India, the need for corporate control is generally overlooked. Regulatory barriers and firm-level practices have tended to limit the scope of competition in takeovers, disinvestments and privatisation, both in industrial and developing countries. In more advanced markets, it was found that as regulatory barriers were imposed on corporate control transactions, managerial efforts and board supervision became weak. Firms try to postpone addressing business problems. Corporate performance generally declines with adverse consequences for shareholders.

 

According to a research study on the US corporate sector in late 1980s, when sharply intensified anti-takeover regulations brought control transactions to a halt, a very large number of the leading firms failed to produce any economic value addition for their capital and R&D expenditures. It was true that many firms produced satisfactory results despite the deteriorating business environment, but the average return on investment capital was surprisingly low.

Constraints to Competition in Developing Countries

Among developing countries, restricted competition in the market for goods and services is a more prevalent situation. There are diverse constraints, ranging from anti-competitive practices by firms to government policy restrictions on ownership and entry. Frequently, entry barriers are disguised as regulation purportedly designed to serve the “public interest”. In fact, these policies usually give the preferred producers and service providers profits in excess of competitive returns. Such profits, however, come from distorted prices, which is truly a hidden tax on consumers.

With easy if not ensured profits and preferential treatment, such firms have little or no incentive to use resources efficiently. At any given time, firms insulated from competition generally incur costs, which are higher than what is possible under the best technical and managerial practices leading to inefficiency in operations. Over time, these losses are compounded by the misallocation of resources as the distorted price and profit signals lead firms to make poor investment decisions. Notwithstanding such inefficient practices, these firms may still produce satisfactory operating and financial results. High prices mask high costs. And the resulting burden is borne by the society as a whole. India’s was a classic example wherein the government adopted between 1951 and 1991 a highly restricted policy in the name of import substitution and protection of home industry, which resulted in gross inefficiency, high prices, shoddy goods and an overheated economy. In such a system, corruption and black money abounded and corporate governance was unheard of.

Banks’ Role in Restraining Emergence of Securities Markets

Banks, which play a predominant role in financial intermediation in developing countries, maintain cozy relationships with established and often well-connected businesses, a natural outcome in a protected and profitable business environment in which both the borrowers and the lenders operate. In some countries, commercial firms also own and control major domestic banks, creating business conglomerates with “in-house” sources of easy financing for themselves, as was the case in India before 20 of these banks were nationalised in 1960s and thereafter. Moreover, bank lending is often determined by political directives, which generally favour large incumbent firms. Some of these practices contributed to the high leverage of leading firms in East Asia, as well as the widespread corporate distress and banking failures in the financial turmoil that occurred in these so-called Tiger Economies in early 1990s. More generally, preferred access to bank credit significantly reduces the need of incumbent firms to rely on securities markets where external financiers often demand transparency and accountability of corporate insiders.

Lack of Competition Promotes Ownership Concentration

Lack of competition accentuates ownership concentration. Owners of incumbent firms have an incentive to retain control of profitable domestic operations. They may choose to remain a private firm or may go public, but without giving up control either by retaining a controlling stake or by issuing non-voting shares. Research findings show that a higher share of the leading firms remains private in less competitive markets. Even within the group of publicly traded companies, a higher proportion of closely held firms are observed in less competitive economies such as India.

While concentrated ownership in individual firms may not cause much concern, there is nonetheless a greater risk of abuse committed by corporate insiders. Unless this risk is mitigated, it is difficult to attract minority and foreign shareholders. Taken to the extreme, ownership concentration and the reliance on internal resources can undermine the development of securities and capital markets, without which corporate governance practices may be too difficult to put in place.

Benefits of Competition to Stakeholders

Competition improves the conduct of managers, as they understand that in such markets only the fittest can survive. This, in turn, improves quality of products and reduces prices for consumers, and maintains or increases market share, and return on shareholders’ investment. Consumers in economies having hitherto restricted competition as in India are reaping these benefits. In a much freer market today they enjoy a wide variety of products and services to choose from, competitive prices, technically updated products and other consumer friendly policies such as easy and installment credit, longer warranties etc. These benefits of competition can be analysed from two aspects: (i) competition in the product market and (ii) competition in the capital market.

 

Competition in the Product Market

Competition is a positive sum game and not a zero sum game. Increased competition can increase shareholder and consumer welfare. Competition provides strong incentives for performance. It aids in defending and expanding market share. It also helps in the provision of accurate information to measure performance, that is, it increases transparency in all operations. Competition to win market share drives greater efficiency and innovation. It passes on lower prices to consumers and eliminates monopoly rents. All this ultimately benefits the consumer.

Impact on management is such that there is a need to actively drive costs down. Benchmark performance measures are available through reference to competitors unlike in monopoly. It encourages a customer-driven market rather than product-driven market. In a competitive market, the consumer is truly the king as it is he who determines the quality and quantity of the products, as reflected in the price mechanism. Competition in product markets is generally associated with allocative and productive efficiency. Competition encourages the supply of goods and services at lowest costs and prices.

Competition in a Capital Market

While the benefits of competition to consumers in the product market can be directly linked to and may reflect corporate governance practices, it may not be so direct in the case of capital market. Often, competition may undermine the development of long-term relation between companies and financial institutions. For example, the willingness of banks to provide rescue finance to firms in financial distress, returns hinge on the expectation that these investments will yield long-term benefits. Where there is competition in financial markets and firms are in financial distress, then the provision of rescue funding by banks may be discouraged. On the other hand, limitations on competition in financial markets may result in monopoly exploitation of borrowing firms. The desire to retain corporate control, i.e. for the ownership of companies drives performance. The threat of takeover acts as discipline on management. The inefficient use of assets and poor strategy or lack of leadership are not rewarded in a competitive environment. Thus a firm that remains competitive will be able to get the required funds through the capital market.

 

Economic Power and Political Influence

Regulatory and private restraints on the competitive process have a deeper ramification. Existing firms tend to be relatively large in size and few in number. They have a definite organisational and financial advantage in influencing the legislative and regulatory agenda. In advanced countries, where there is a depth of informed opinions, competing interests and independent media, powerful commercial interests may not always prevail. But, in most developing countries, competing opinions are more limited. In this context, interest groups are more likely to succeed in furthering their own agendas. It is often alleged that street-smart present generation companies like Reliance, wielding enormous political influence grew much faster than those which preferred to be independent. They could not grow much, although they were in the industry for generations.

The close connection between economic power and political influence is generally recognised. The successful resistance of public enterprises to privatisation programmes is an example that has been encountered over a wide spectrum of geographies, cultural and economic environments, ranging from Ghana to India and Thailand. Another example is the successful opposition of domestic bankers in many countries to the competition of foreign banks as it has been happening in developing countries like India. Even under the stress of a crisis, major conglomerates in East Asia were able to water down unfavourable reforms and stretch out the onset of implementation.

Incumbent firms often use their political influence to entrench the position of management and corporate insiders. In many jurisdictions, they can freeze-out minority shareholders at unfavourable prices, dilute the voting power of minority shareholders by issuing new shares in private placements or use other means that allow them to reject takeover bids without shareholder approval. In spite of the obvious risk to investors, change is not easy to come about.

The ability of existing corporate elite to resist policy reform is a cause for concern. For one thing, inadequate competition limits the access to capital by new or small businesses. Lenders and investors naturally prefer more established firms with significant business advantages. Over time, the industrial structure may be skewed, with a few large conglomerates dominating, and a large number of small firms struggling with little prospect for growth. This has been proved time and again in developing countries like India. Another concern is, with distorted prices that guide business decisions, the pursuit of profits may be detrimental to social welfare. Profitable operations based on domestic prices may actually produce a loss when the inputs and outputs are valued at world market prices. This certainly has been the case with many commodity monopolies in Africa and politically connected conglomerates in East Asia.

Competition and Political Governance

Political governance includes the regulatory environment and process. It involves policy making in the public interest. Monopolisation, or lack of competition generally, can affect political governance and indirectly affect corporate governance. Examples of where political governance has greatly influenced competition include many instances where a few incumbent monopolies who accounted for a large share of markets and were not challenged by entry. Examples are galore in banking, insurance, and transport and communication sectors in India where state monopoly firms dominated the industrial scene for more than 40 years with little room for competition. During the pre-liberalisation era, there was an abundance of state-owned monopolies. The License Raj and high license fees created barriers to entry, thus thwarting competition.

 

Effects of Monopoly on Political Governance

In such a state of affairs,

• The political and economic control may be too concentrated. Democracy and competition get undermined.
• There is reduced political accountability and transparency. There is increased corruption.
• Shareholder interest may be confused or compromised by multiple and conflicting objectives.

Effects of Monopoly on Corporate Governance

Examples abound where due to deliberate state policy and with little objective regulation, politically influential family-owned companies emerge as winners thwarting even the limited competion. Managements are not interested to put in place any corporate governance practices. Their focus is distorted away from commercial objectives towards political influence. Political favours weaken management and accountability. There is lack of transparency, so there is reduced incentive to invest and increased risk in equity markets. The tug-of-war between the Ambani brothers in th recent past and allegations of corporate misgovernance in India’s leading and the most successful industrial conglomerate illustrates and proves this point.

Encouraging Good Governance

Competition in product markets and the demand for corporate control encourage good governance. For good corporate governance, on one hand there are ethics, self-regulation and “fair play”, on the other, there are sharp practices and “cowboy” behaviour.

The reputation effects of external auditors can be very important in enforcing good governance, particularly where there are complexities and other issues that make shareholder monitoring difficult. Takeover codes should not be “captured”, but should maintain a consumer and shareholder focus.

 

Regulating Good Governance

Competition is not always readily available. There are certain areas where there is no competition in the Indian scenario. These include the non-market areas (e.g. defence). They also include natural monopolies, scale effects and network effects. There are many industrial and service segments in the economy, which are still under the tight grip of the government wherein corporate governance is far from reality.

At the same time, competition is not the only solution to the myriad of problems that exist in such economies. There is a need to regulate certain fiduciary relationships. Steps should be taken to prevent exploitation and/or abuse of information. There should be situations of asymmetric information between buyer and seller.

Enforcement of Good Governance

There can be private enforcement through the market mechanism or through voluntary or self-regulation through trade associations if the losers are sufficiently well-informed, concentrated and having the required expertise. Public enforcement is called for if private efforts do not work or if matter is criminal. The positive effects of competition can also reduce the burden of enforcement.

Public enforcement is resorted to where self-regulation and private enforcement will not work in competition policy because consumers or buyers are not sufficiently informed or concentrated to take a company to a court of law. Those who are most likely to bring suit may not be those affected allowing pass-through without blowing the whistle.

Regardless of competition, it is important to have sound rules and regulations. Enforcement is vital, complementary to competitive mechanisms, and often may be required to put in place corporate governance practices.

Challenges to Good Enforcement

The credible threat of detection whether from private or public investigation/monitoring, requires resources. Meaningful sanctions applied in a timely period with correct burden of proof, depend on legal system and legislative and judicial approaches to white-collar crimes. This is a big challenge in the area of international cooperation as globalisation continues.

Competition Agencies and Competition Policies

Ultimately, the key role of competition is to enhance economic freedom. It provides opportunities for new entrepreneurs and firms to compete on economic merits, and not on the ability to garner political favours. More business ideas get to face the market test. Over time, firms with good governance are more likely to succeed, while those without it will be shunned and weeded out.

Competition policy seeks to prevent anti-competitive practices and business developments or policy reforms which may facilitate these practices. It aims to stop unfair business tactics and abuse of market power or political office to gain excess profits. With a clear set of competition rules, the government is in a better position to resist the lobbying of interest groups for preferential treatment. Experience also shows that useful to maintain economic efficiency as the principal policy objective. Encumbering competition policy with other goals, such as employment, regional development and social pluralism, as has been practised in India, tends to compromise the beneficial result.

To be effective, the enforcement agencies should have adequate independence, resources and the necessary powers to review, investigate and initiate prosecution of anti-competitive practices. Effectiveness is also enhanced in most countries, except perhaps those with very large domestic markets, if the enforcement agencies focus on firm behaviour concerning anti-competitive pricing and business practices. Often structural issues such as market share and industry concentration can be addressed through removal of restrictions on foreign trade and investment, as well as domestic barriers to entry.

In addition to enforcement, an important role of competition agencies is to review and spell out the implications of public policies and regulatory practices on competition and efficiency. “This function increases public awareness of the costs and benefits of alternative policies and helps ensure that government policy initiatives do not work at cross-purposes.” Another important role of competition agencies is to collaborate with their counterparts abroad in the sharing of information and experience, as well as in the investigation of cross-country anti-competitive practices, including international cartels, the scale and impact of which is only recently being recognised. In this respect it will be useful to understand the factors that constitute a good competition policy.

The intent of the legislation in India to promote competition is not to prevent the existence of a monopoly across the board. There is a realisation in policy-making circles that in certain industries, the nature of their operations and economies of scale indeed dictate the creation of a monopoly in order to be able to operate and remain viable and profitable as in the case of public utilities such as railways, posts and telegraph departments. This is in significant contrast to the philosophy, which propelled the operation and application of the Monopolies and Restrictive Trade Practices (MRTP) Act, the trigger for which was the existence or impending creation of a monopoly situation in a sector of industry.

What Is a Good Competition Policy?

To accomplish the objectives of free markets a conducive competition policy is regarded for conserving and sustaining the efficiency of open markets. Such a policy should aim at fostering an active competitive environment in which globally competitive firms would emerge with larger investment and higher technological capabilities and would have all policy instruments that would promote competition in markets.

 

A good and effective competition policy with the objective of restraining the emergence of monopolies and bringing in a competitive market that would ensure benefits to the consumers and overall economic efficiency, and at the same time taking cognisance of the specific needs of a developing country like India, should have the following characteristics:

1. It should be capable of controlling the misuse of the market power of dominant firms. It should have a clear perception of dominance and should develop unambiguous criteria for determining the abuse of dominance.
2. It should be able to identify the anti-competitive effects of mergers and acquisitions and provide a prescription to deal with such effects.
3. It should check the barriers to entry, subject to the provisions of industrial policy.
4. It should be able to identify, monitor and prevent collusion, cooperation or alliances between independent firms in various institutional forms such as cartels and trade associations with a view to restricting, suppressing or modifying competition. Collusion may take a number of tacit or explicit forms and may involve output restriction, price fixation, distribution controls or market sharing. In many cases, collusions are designed to prevent the entry of potential firms.
5. It should be capable of monitoring and preventing anti-competitive agreements between business organisations.
6. It should be able to identify restrictive and unfair trade practices and provide a continuous mechanism to prevent them.
7. It must ensure that competition leads to better productivity and efficiency and wider choice to the consumer.
8. The policy should apply to all the major segments of the economy including agriculture, agribusiness, manufacturing, infrastructure, utilities and services.
9. It must provide suitable defenses and protection measures to the marginal/vulnerable or weaker enterprises in the small-scale sector, which have national importance.
10. The policy must factor international forces and influences and work in the national interest.
11. The policy should be able to create a level playing field for various categories of enterprises and must target an optimum degree of competition; which is in the best interest of the economy from the point of view of growth, equity and social justice.

Indian Competition Act

Competition Act is important for businesses in the following three main areas:

• Commercial agreements and trading practices
• Conduct towards competitors, suppliers and customers, especially in the case of firms with a strong market position
• Mergers and acquisitions

Since the adoption of the economic reforms programme in 1991, corporates have been pressing for the scrapping of the MRTP Act. The argument put forward in favour of scrapping it was that the MRTP Act had lost its relevance in the new liberalised era and global competitive markets. It was pointed out that only large companies can survive in the new competitive markets and therefore “size” should not be made a constraint. Accordingly, the government appointed an expert committee headed by S. V. S. Raghavan to examine the whole issue. The Raghavan committee submitted its report to the government in May 2000. The committee proposed the adoption of a new competition law and doing away with the MRTP Act. The Competition Bill, 2001, was introduced in the Lok Sabha in August 2001 and was referred to the Parliamentary Standing Committee on Home Affairs, chaired by Pranab Mukherjee. The committee tabled its report in the Parliament in November 2002. The report contains two different views. While some members favoured the passage of the Bill, some others contended that by enacting the Bill at this stage, India would lose its bargaining power at the WTO negotiations. They have, therefore, suggested that the Bill should not be enacted till 1 January 2005 by which time some decisions on issues such as competition policy, trade and investment and related matters have been taken.

Objectives of the Bill

The basic objectives of the Competition Bill designed to replace the MRTP Act were the following:

1. Encourage competition
2. Prevent abuse of dominant position
3. Protect the consumer
4. Ensure a level playing field to participate in the Indian economy

The spirit behind the Competition Bill is that “big” is no more bad, but hurting competition and consumer interest is. For instance, S. Chakravarty, a member of the Raghavan Committee pointed out: “Size is no longer the issue. It could become only when consumer interest is compromised”.

The Competition Act, 2002

The Competition Act that extends to the whole of India, except Jammu and Kashmir, received the assent of the President on 13 January 2003. The objective of the Act is to provide, keeping in view of the economic development of the country, (i) for the setting up of a commission to prevent practices having adverse effect on competition (ii) to promote and sustain competition in markets (iii) to protect the interests of consumers and (iv) to ensure freedom of trade carried on by other participants in markets in India, and for matters connected therewith or incidental thereto.

 

The NDA Government while introducing the Competition Commission of India (CCI) provided for the appointment of a bureacrat to head it. But the Supreme Court disposing of the petitions field by two advocates, stayed this and the central government was asked to consider amendments to the Act.

The Centre informed the Supreme Court that a technical expert and not a judge would chair the commission which would have a maximum of six members, apart from the chairman. However, there would be an Apellate Tribunal to hear appeals against the orders of the Competition Commission. This tribunal would be headed by a sitting or retired Supreme Court Judge or a Chief Justice of a High Court. The other two members would be experts in competition and other related matters.

Competition Commission of India

The Bill advocated a regulating body called the Competition Commission of India (CCI). The CCI was to be a quasi-judicial body and would have a chairperson and a team comprising two to ten members. The CCI would have separate prosecutorial and investigating wings. It would be entrusted with various powers such as the power to grant interim relief, enquire into certain combinations, impose fines on the guilty, order divisions of an undertaking, pass “cease and desist”, order a demerger and direct payment to be made to aggrieved parties for loss or damage suffered by them. The administration and the enforcement under the Act to be done by the CCI are proactive rather than reactive.

 

The newly formed Competition Commission of India has started regulations and has been planning to bring big-ticket domestic merger and acquisition (M&A) deals under its ambit as these deals are expected to influence competition.¹

However, the commission, taking a global cue, has set certain benchmarks in terms of deal size and company turnover for these competition norms to apply. To start with, M&A deals involving companies with a minimum turnover of Rs. 4,000 crore or groups with a minimum turnover of Rs. 12,000 crore would require a clearance from the commission. Apart from these norms, the commission is also said to have suo moto powers to intervene in any deal, which may directly or indirectly affect competition in any particular industry or segment.²

According to Amitabh Kumar, Director General, Competition Commission of India: “The commission would take up M&A deals, adhering to certain threshold levels, once we complete our initial obligations as mandated by the Competition Commission Act, which include competition, advocacy functions and regulation.”

He said that the commission was finalising its draft regulations, which would essentially function like a rulebook, prescribing the conditions to be met for healthy competition in the domestic industry. “The draft regulations are being prepared after extensive study of overseas experience and other quasi-judicial bodies in India. In fact, two firms practising Competion Law in the UK and Belgium have appreciated the draft.”

The commission has already done intensive interaction with leading industry chambers as well as set up a Competition Advocacy Committee for imparting the scope for a commission of this sort. The commission has also engaged several research projects with various institutes like the Jawaharlal Nehru University (JNU) and a few other organisations.

As it stands today:

• The commission would have suo moto powers to intervene in any M&A deal, which may affect competition in any industry or segment.
• Draft regulations of the commission would function like a rulebook for prescribing conditions for healthy competition.
• Competition Advocacy Committee set up to examine scope for such a commission.
• The commission has engaged in research projects with various institutes, including the Jawaharlal Nehru University and other organisations.

The Three Focus Areas of Competition Act

The focus of the Competition Act was on three identified areas where anti-competitive practices could prevail.

1.  Agreement Amongst Enterprises: The Act deals only with those agreements between enterprises, which have an appreciable adverse effect on competition. This means that all restrictive agreements are not held to be anti-competitive. The rule of reason is to determine whether an agreement is anti-competitive. The objective of the rule of reasons is to determine whether on merits the activity promotes or restrains competition. To determine this, the CCI will consider the structure of the market as well as the action in question. The CCI is vested with the power to enquire into cartels of foreign origin directly as well.

2.  Abuse of Dominance: The Act regulates all agreements, which could result in abuse of dominance. The enterprise should be “dominant” and the agreement should have resulted in “abuse” of the dominance. Dominance has been defined as “the position of strength in the relevant market enjoyed by an undertaking which enables it to operate independent of competitive pressures in the relevant market and also to appreciably affect the relevant market, competition and consumers by its actions.

‘Abuse’ would include agreements charging or paying unfair prices, restriction of quantities, markets and technical development. It includes discriminatory behaviour, predatory pricing and any exercise of market power leading to the presentation, restriction of distortion of competition.

3.  Mergers of Combination Among Enterprises: The Act regulates all mergers, which create a position of dominance post-merger. It is understood that the government would make pre-merger notification if required, voluntary. It also provides for a deemed approval of a merger in the absence of a response from the CCI within a period of 90 days. However, it would be mandatory for financial institutions, foreign institutional investors and venture capitalists to file the details of acquisition with the CCI within a week of entering into an agreement.

The CCI, however will have the power to make an investigation into a merger even after 1 year of the pre-merger notification either suo moto or on a complaint. The Act rules out any post-merger review for individual company mergers, which have a combined turnover of less than Rs 3,000 crore or a combined asset size of upto Rs 1,000 crore in India.

The MRTP Act and the Competition Act

The Competition Act is meant to replace the MRTP Act, which controls and regulates the growth of enterprises. The MRTP Act presumes that all restrictive trade practices are anti-competitive and requires registration of the said agreements. Under the MRTP Act, dominance per se is considered bad. Under the Competition Act it is the “abuse of dominance” that is considered bad. Therefore, the CCI can enquire into any agreement that is in contravention of the Act either in its own knowledge or on receipt of complaints or any reference by the central/state government only if dominance has been abused by an enterprise.

 

The Competition Act in contrast to the MRTP Act is more industry-friendly. It is designed to foster and maintain competition. While the MRTP Act was very reactive, rigid, had no teeth and its Commission acted more like an extended arm of the Department of Corporate Affairs, the Competition Act provides more autonomy to the Competition Commission. It is expected to be more flexible and proactive.

The raison d’etre of the Competition Act is to create an environment conducive to competition. However, in a significant departure from the letter and spirit of the MRTP Act, the Competition Act does not openly condemn the existence of a monopoly in the relevant market. This is reflected in Section 3, which states that enterprises, persons or associations of enterprises or persons shall not enter into agreements in respect of production, supply, distribution, storage, acquisition or control of goods or provision of services, which cause or are likely to cause an “appreciable adverse effect” on competition in India. Such agreements would consequently be considered void. The species of agreements which would be considered to have an “appreciable adverse effect” would be those agreements which directly or indirectly determine purchase or sale prices, limit or control production, supply, markets, technical development, investment or provision of services, share the market by allocation of inter alia geographical area of market, nature of goods or number of customers or which directly or indirectly result in bid rigging or collusive bidding. Specific examples of the types of agreements, which, if they cause an “appreciable adverse effect”, are “tie-in arrangements”.

Section 4 clearly stipulates “No enterprise shall abuse its dominant position.” “Dominant position” is the position of strength enjoyed by an enterprise in the relevant market, which enables it to operate independently of competitive forces prevailing in the market, or affects its competitors or consumers or the relevant market in its favour. Dominant position is abused when an enterprise imposes unfair or discriminatory conditions in purchase or sale of goods or services or in the price in purchase or sale of goods or services. There is also abuse of dominant position when an enterprise limits or restricts production of goods or services or technical or scientific development, acts in a manner which denies market access, prevails upon contracting parties to be contractually bound by acts which are not a part of the intent of the parties as well as by the use of dominant position in one relevant market to enter or protect another relevant market. Again, the philosophy of the Competition Act is reflected in this provision, where it is clarified that a situation of monopoly per se is not against public policy but, rather, the use of the monopoly status such that it operates to the detriment of potential and actual competitors.

The Competition Act is also designed to regulate the operation and activities of “combinations”, a term, which contemplates acquisitions, mergers or amalgamations. A combination is discussed and defined on several levels, including any acquisition where the parties to the acquisition (the acquirer and the enterprise) have assets in India worth more than Rs. 1,000 crore or turnover in excess of Rs. 3,000 crore or within or outside India, in the aggregate, assets worth more than $1,500 million or turnover in excess of $1,500 million. Thus, the operation of the Competition Act is not confined to transactions strictly within the boundaries of India but also such transactions involving entities existing and/or established overseas.

 

It is also important to understand and appreciate the intent of the Competition Act. The objective of the Act is not to prevent the existence of a monopoly across the Board. As has been pointed out earlier, policy-makers have realised that in certain industries, the nature of their operations and economies of scale indeed dictate the creation of a monopoly in order to be able to operate and remain viable and profitable. The word “monopoly” is no longer taboo in corporate and political India.

The Act declares that a person and enterprise are prohibited from entering into a combination, which causes or is likely to cause an “appreciable adverse effect” on competition within the relevant markets in India. Such combinations would be treated as void. A system is provided under the Act wherein at the option of the person or enterprise proposing to enter into a combination may give notice to the Competition Commission of India of such intention providing details of the combination. The Commission, after due deliberation, would give its opinion on the proposed combination. However, entities which are not required to approach the Commission for this purpose are public financial institutions, foreign institutional investors, banks or venture capital funds which are contemplating share subscription, financing or acquisition pursuant to any specific stipulation in a loan agreement or investor agreement.

Restrictions on the Applicability of the Act

The sweep of the Competition Act is not such as to include all agreements within its ambit. Thus, agreements which are entered into in respect of various species of intellectual property rights and which recognise the proprietary rights of one party over the other in respect of trade marks, patents, copyrights, geographical indications, industrial designs and semi-conductors are not within the purview of “anti-competitive agreements”. The inherently monopolistic rights, which are created in favour of bona fide holders of various forms of intellectual property, have been treated as sacrosanct.

Change in the Mindset Needed

Though our policy makers have realised of late the importance of competition for a growing economy in a globalised market, there is still a blurred vision among them in understanding and implementing a competition policy.

Pradeep S. Mehta in his article “Competitiveness via Competition” in Economic Times (23 November 2004) argues: “It is important to understand the distinction between competition policy and competition law. Competition policy, which we do not have, needs to be a stated government intent on how it aims to promote competition in our economy. It will envelop various other policies, viz., investment, trade, labour, consumer etc. to ensure that wherever there are conflicts, decisions to promote competition would get priority. A good example of this is the continuous de-reservation in the SSI sector. A competition law is a market instrument to ensure that firms behave and trade in a fair manner. However, the competition law cannot be a panacea to cure all ills of the market place.”

Mehta further argues that the market place comprising enterprises, farmers and households, consumes a large number of goods and services whose efficiency and competitiveness are determined by the input costs. When the new Competition Act 2002 was being debated, many business interests lobbied against it, for the valid fear that it might be a new avatar of the control regime’s MRTP Commission, and not a modern market regulator. This was based on the assumption that once again like all our new regulatory bodies, we would have retirees manning the system whose knowledge about economics and laws is inadequate. If we take the telecom regulator as an example, the CUTS research shows that the telecom sector’s phenomenal growth as a consequence of increasing competition is unfortunately true only to a partial extent. The incumbent government operator, BSNL, which owns 60% share of the market, reports to the same ministry as the Telecom Regulatory Authority of India (TRAI) does. It gets a more favourable treatment from the government. While TRAI, some of whose members and staff are former BSNL employees, too gives it a preferential treatment. One instance of BSNL’s status leading to anti-competitive outcomes is that it operates an Internet service and offers it to consumers as a package deal at a low cost vis-à-vis the charge on the use of the phone time. However, consumers of other Internet service providers, who obtain the service through landline network of BSNL, are not able to get the same pulse rate as is being charged to Internet consumers of BSNL. Independent ISPs cannot, therefore, compete effectively with BSNL and they are fast losing their consumers.

In the goods sector, particularly the raw material and intermediate goods sector, lack of competition affects our firms. In many areas, there is a dominant player or if there are many, then they implicitly and/or explicitly behave in the same fashion. The chances of abuse are high in India due to high levels of concentration in many goods sectors. We can take the textile input sector, as an example. In this industry, both fabrics and garments, have a high growth potential following the demise of the WTO’s textile quota system of the two critical inputs: Reliance is the dominant player in the polyester staple fiber with a market share of 54%, while Grasim is the dominant player, almost a monopoly, in the viscose staple fiber with 91% of the market share. Per se they may not be indulging in anti-competitive practices but the possibility is distinct.

This adequately makes the point that an effective competition law, including international cooperation to deal with cross-border issues, will not only promote consumer welfare, but also the business welfare, i.e., better competitiveness.

Competition Boosts Corporate Governance

In a competitive environment, firms generally cannot expect to earn excess profits. An industry that generates above-average profits tends to attract new competitors, which bring forth additional supply and drive down profitability. Where natural barriers to entry are high, excess profits may persist and interim regulation may be needed to protect consumers. Over time, however, technological advances and entrepreneurial innovations tend to chip away the natural barriers, unless they are prevented by regulations.

To withstand competition, firms need to rely on operational efficiency. Unless their production and administrative costs are kept below prevailing market prices, which may be determined by efficient competitors at home or abroad, they cannot service their debt and meet shareholders’ expectations. Investors need to evaluate the viability and cash flows of projects, rather than relying on preferential treatments or on market power. Under effective competition, preferential treatment can be quickly detected and brought to light by those who suffer the adverse consequences.

Where competition is intense and global in scope, more firms realise that corporate governance makes good business sense. Investors seek out firms that run the business efficiently, treat shareholders equitably and comply with high standards of disclosure, even when they are not mandatory. By applying good governance, a firm can earn a good reputation and efficient access to finance, which in turn enhances their ability to compete. In effect, good governance becomes an instrument of competitive strategies.

• Abuse of dominance
• Agreement amongst enterprises
• Capital market
• Combination among enterprises
• Competition Commission of India
• Competition policies
• Constraints to competition
• Economic power
• Effects of monopoly
• Good Competition Policy
• Good governance
• Limited competition
• Logic and benefits of competition
• Ownership concentration
• Political governance
• Political influence
• Product market
• Regulation of competition
• Securities markets

1. Explain how a monopoly comes into existence. What are the effects of monopoly on corporate governance?
2. What is competition? What are the benefits competition confers on consumers and the larger society?
3. If competition is beneficial to consumers and the society at large, why is there a need to regulate competition?
4. Discuss the constraints that restrain competition in developing countries.
5. Explain briefly the benefits of competition to different stakeholders in society.
6. Discuss the salient features that should be incorporated in a good competition policy.

• Hewelt, Bye, Applied Economics, Ch. 3.
• Robinson, E.A.G., Monopoly.
• Robinson, Joan, Monopoly.
• Robinson, Joan, The Economics of Imperfect Competition.
• Samuelson, P.A., Economics, Ch. 22.
• Weston, Mitchell and Mutherin, Take-over, Restructuring and Corporate Governance, Pearson Education.