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The limited liability effect: Implications for anticompetitive horizontal mergers

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  • Bernard Franck
  • Nicolas Le Pape
Abstract
We consider an industry including both leveraged and unleveraged firms engaged in a sequential decision‐making process. At the first stage a firm and its bank, considering the production cost uncertainty and the probability distribution of the random shock, evaluate a bankruptcy risk; at the second stage firms engage in Cournot competition. By introducing an additional upstream stage we examine how incentives to merge with competitors are altered when shareholders of leveraged firms are protected by the limited liability. We demonstrate that a merger increases the probability of bankruptcy for the merged firm if the merger involves only leveraged firms, but this probability decreases if the merger involves at least one unleveraged firm. The welfare loss associated with anticompetitive effects of mergers is lower when the coalition gathers unleveraged firms rather than leveraged ones. Consequently, we argue that in evaluating proposed mergers Competition Authorities should take into account the financial structure of both merging firms and outsiders.

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  • Bernard Franck & Nicolas Le Pape, 2020. "The limited liability effect: Implications for anticompetitive horizontal mergers," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 22(6), pages 2082-2102, December.
    • Handle: RePEc:bla:jpbect:v:22:y:2020:i:6:p:2082-2102
    DOI: 10.1111/jpet.12441
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    2. Rabah Amir & Joana Resende & Bernard Sinclair‐Desgagné, 2020. "Introduction to the thematic issue on “Regulation in health, environmental and innovation sectors”," Journal of Public Economic Theory, Association for Public Economic Theory, vol. 22(6), pages 1740-1745, December.

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