On Fiat-Chrysler’s Merger Proposal to Renault: Too Broad?

 As Renault was considering Fiat Chrysler’s proposal to merge, industry executives and analysts believed “that carmakers must link up to share the cost of a transition from internal combustion engines to avoid being run over by fast-moving tech industry challengers like Tesla or Uber.”[1] To be sure, (b)y purchasing parts together, combining their manufacturing operations and sharing the cost of research and development,” the merger could “eventually save 5 billion euros per year,” according to Fiat.[2] The R & D would include funds spent on developing new models as well as on high tech oriented to the future. Although significant efficiency could be achieved due to under-used factories and all the money going into product development, the basic problem was one of insufficient scale (i.e., revenue) to support (i.e., finance) the very costly research and development needed on electric and/or self-diving cars. In its statement, Fiat Chrysler pointed to “the need to take bold decisions to capture at scale the opportunities created by the transformation of the auto industry in areas like connectivity, electrification, and autonomous driving.”[3] The insufficient scale was particularly troubling given the declining E.U. auto market at a time when Tesla, Google and Uber were making progress on electric and self-driving cars. Fiat Chrysler could really use the expertise at Renault and Nissan on electric cars. I'm not sure, however, that a merger was the optimal route forward.

As with nearly everything, potential downsides existed. First, the merger would dilute the shares that the state of France already had in Renault from being its largest stockholder. Second, political leaders in that state as well as Italy would doubtless “fight to preserve as many jobs” in the respective states as possible.[4] In its analysis, however, The New York Times claimed at the time that it would be difficult for the merged company to avoid job cuts, given that the companies’ respective companies were operating below capacity.

So perhaps the anticipated savings of €5 million were optimistic, which raises the question: why not an alliance to fund a shared R&D center where work would be done on high cost, future revenue electrification and self-driving cars? Pushing for a full-blown merger would risk clashing corporate cultures. Also, the inevitable politics as duplicate management positions are eliminated would not be cost-free. Furthermore, the alliance between Renault and Nissan, already strained, could suffer or break apart in the event of a merger but not another alliance.

The basic problem was not enough scale (i.e., revenue) in either company to finance the heavy cost of R&D without compensating revenue in the short or medium term. When the gains from other efficiencies are not the main point of a merger, an alliance or partnership focused on the main problem may have been a better fit.

The problem of scale in terms of having enough money to finance the high-tech research need not incur the disproportional costs that come with increased organizational size and complexity. The costs of integration organizationally, for example, increase disproportionately with organizational size (and complexity).[5] Empire-building, a political as much as economic propensity at the upper level of organizations, can give rise to optimistic forecasts of savings from various efficiencies from mergers while the financial downsides are minimized. We could note, for example, the skepticism regarding Fiat Chrysler’s claim that no jobs would be lost and no factories would be closed. If the urgency for the merger was due to the advances by Tesla, etc., then perhaps a better proposal would have been delimited by that main problem rather than blown up to the form of a complete merger.

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[1] Jack Ewing et al, “Renault Considering Fiat’s Offer to Merge Into a New Auto Giant,” The New York Times, May 27, 2019

[2] Ibid.

[3] Ibid.

[4] Ibid.

[5] James D. Thompson, Organizations in Action: Social Science Bases of Administrative Theory (London: Routledge, 2003).

A Weak Economy as a Competitive Advantage to the Largest Corporations

Size matters, at least in the business world. Richard Fuld, the last CEO and Chairman of Lehman Brothers, overextended "his" bank with risky real-estate and financial derivatives in part so Lehman Brothers would be as big as Goldman Sachs. 

Empire-building (and ego) aside, the largest corporations can indeed perform differently than smaller firms in an economy. In April 2013, it was clear that the biggest companies were outpacing smaller ones. Analysts estimated profits for the 100 largest companies in the Standard & Poor’s 500 stock-index to rise 6.6% in the second quarter, while earnings for the bottom 100 were expected to fall by 1.6 percent. Of all the profits earned by the companies in the S&P 500, 22% would be coming from the 10 largest companies, enabling them relatively more wherewithal with which to gain still more market share. Put another way, beyond a certain point, organizational size can protect or buffer a company in the midst of a languid economy. It is not only the market mechanism that accounts for this phenomenon.
One benefit enjoyed by the big corporations is being able to profit from other markets around the world and thus make up for a slow market at home. Smaller firms, with little or no access globally, are more constrained in the sense of being limited to the conditions of the domestic economy. Additionally, large companies enjoy easier access to credit. A bad economy need not keep the biggies from making investments in expanding operations still more, hence building on their existing size-advantage. There appears to be a certain threshold in organizational size beyond which the size of a company's operations can act as a buffer mitigating the negative effects of a slowing economy. It may even be that the market mechanism itself rewards size, and in so doing facilitates the shift from competition to oligopoly or even monopoly in a given market. This does not necessarily result in greater efficiency in business or benefits for the consumer.

Once an organization reaches a certain size, diseconomies of scale kick in. Further increases in size bring disproportionate increases in costs, which counter the earlier economies of scale. As argued by Thompson in Organizations in Action (1967), as organizational size increases, the cost of integrating the various divisions and departments increases more than proportionately. In fact, coordination and integration can become virtually impossible once an organization has reached a certain size. For example, banks like JPMorgan and Bank of America may be so large that they cannot be effectively managed, not to mention in a cost-efficient way.

In addition to the impact from the market mechanism and business, federal legislation can benefit the largest corporations disproportionately or even exclusively, thereby widening the gap between the "haves" and "have nots." For example, federal budget-cutting tends to hurt small business more than large corporations. Also, large corporations like G.E. can afford to lure tax experts away from the IRS in order to minimize the corporate income tax liability. In fact, G.E. got away with zero tax in 2010, despite having earned billions of dollars in the U.S. that year. 
Furthermore, large corporations have considerably more lobbying power than do small companies. With some strategically-placed political campaign contributions, a large company can get its particular situation explicitly exempted in proposed tax legislation. In some cases, the companies or their lobbying group have even given the tax-writing Congressional staff the legislative language--saving the staff some work.

A large corporation can even create a sustainable competitive advantage for itself by getting Congress to increase the tax burden on smaller firms! Applied to the formulation of regulations by regulatory agencies, a large company with exclusive access to domestic and even international market data can "give" it to the regulators, who depend on such data in crafting regulations that will be effective in the market. Of course, the company can use its informational asset as leverage with which to sway regulators to soften the regulations in a way that benefits the company over its competitors. Even the prospect of future, well-compensated employment can influence a regulator to see to it that the future employer will not face regulations that are too costly. Otherwise, the eventual salary of the regulator-turned-regulatee could be lower amid the lower profits from costly regulations. This use of assets to sway regulators to go easy on the company (but not its competitors!) is known as the strategic use of regulation. I submit that organizational size facilitates such use because the assets that can be used as leverage are more valuable to regulators.

The power of large corporations over public policy and regulations is not the market mechanism at work; rather, it is a manifestation of plutocracy at the expense of representative democracy and the public interest. In a plutocracy, the good of the part trumps the good of the whole. This is sub-optimal for the whole because the interest of a part is not necessarily in line with the interest of the whole. Accordingly, public policy can be justified in countering the “artificial” advantages of organizational size in the political arena. Furthermore, even the size bias of the market mechanism and business itself could be reduced or even countered as per the public interest in more competitive markets in place of oligopolies and monopolies. This would take thinking systemically from the perspective of the public interest.

Source:

Nelson Schwartz, “As Wall St. Soars in Tough Era, Company Size Is a Big Factor,” The New York Times, April 15, 2013.