DOJ Loses First Vertical Merger Suit Brought In Decades As Federal Judge Approves AT&T's Acquisition Of Time Warner

On June 12, 2018, following a six-week-long bench trial, Judge Richard J. Leon of the United States District Court for the District of Columbia ruled that AT&T's proposed acquisition of Time Warner does not violate the antitrust laws, rejecting the United States Department of Justice's (DOJ) challenge to the merger. This case—the first vertical merger challenge tried by the Justice Department since 1977—demonstrates the difficulty in challenging mergers where a competitor is not eliminated by the transaction.

The Deal

On October 22, 2016, AT&T announced that it had reached an agreement with Time Warner under which AT&T would acquire Time Warner in a stock-and-cash transaction with a total equity value of $85.4 billion. AT&T is the world's largest telecommunications company and the country's second-largest wireless telephone company. AT&T also owns DirecTV, the nation's largest distributor of traditional subscription television. Time Warner owns HBO and Turner Broadcasting System, which includes many of the country's top television networks, such as TNT, TBS and CNN.

Vertical Theories of Anticompetitive Harm

Section 7 of the Clayton Act prohibits mergers and acquisitions where the effect of the transaction "may be substantially to lessen competition, or to tend to create a monopoly." A vertical transaction is one that is between two firms that operate at different levels of the value chain. There are three theories of how a vertical merger can violate Section 7.

Foreclosure. Firm U (the upstream firm) and Firm D (the downstream firm) combine. If U produces a critical input for D and D's rival R, then the combined U-D can refuse to sell U's product to R, cutting R off from the critical input and driving R out of business. This is the classical theory of vertical harm.

Raising rivals' costs (RRC). This is a weakened version of the foreclosure theory. U now produces an important input for the downstream firms. Rather than U-D cutting off R, U-D simply raises the price to R. Now, some of the customers R loses will "divert" to D. Before the merger, U earns nothing from the diversion, but after the merger, U "recaptures" some of its lost profits from the price increases. This is the modern theory on which most vertical merger challenges are grounded and the DOJ's primary theory of anticompetitive harm in the AT&T/Time Warner case. Note that if U cannot refuse to deal with R, then U cannot "hold out" and prices should not change postmerger. For this reason, the agencies have traditionally resolved vertical concerns through behavioral relief solutions that require mandatory dealing.

Anticompetitive information conduits. Premerger, U knows competitively valuable information through its dealings with R. After the merger, U can share this information with D to competitively advantage D and disadvantage R. Historically, the agencies have accepted behavioral consent decree relief, imposing information firewalls on U so that it cannot share competitively sensitive information with D.

The Lawsuit

Although AT&T was willing to accept behavioral restrictions in the form of an arbitration commitment, which the DOJ in the Obama administration had accepted in Comcast/NBCUniversal—a similar transaction—here, the DOJ rejected behavioral relief as inadequate to ensure effective competition remained postmerger. When the merging parties declined to accept a divestiture solution to resolve the DOJ's vertical concerns, the DOJ brought suit to enjoin the merger.

On November 20, 2017, the DOJ filed a lawsuit to block the proposed merger, alleging that it would harm consumers under the RRC theory by giving the combined firm increased bargaining leverage such that it could raise prices to AT&T's rival traditional video distributors. The DOJ also alleged that the merger would give the...