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Vertical integration is all the rage as companies scramble to compete in artificial intelligence and decarbonization. They believe that exerting more influence over suppliers and sales channels will help them accelerate innovation and weather geopolitical disruption. But is it better to buy the necessary supplies and smart equipment, develop them in-house or find a way to form a partnership?
Last year, General Motors bought a lithium mine to secure crucial minerals for its electric vehicles. Chinese rival BYD already controls most of its supply chain, down to the ships that transport its cars, and is reportedly looking to make acquisitions as it looks to expand.
Apple this week announced a partnership with OpenAI to integrate ChatGPT into its devices. It is trying to overtake rival Microsoft, which was involved early in the AI start-up and has now invested $13 billion and integrated its technology into multiple products. Meanwhile, Google owner Alphabet, an early AI leader due to its purchase of DeepMind in 2014, is building its own large language models and has recently ramped up development of its own chips to power its offerings.
Many companies have very good reasons for vertical combinations that go beyond mastering and taking advantage of cutting-edge technology. Close connections often increase efficiency and the ability to recover from supply chain disruptions. Direct ownership also makes it easier to monitor labor abuses, foreign bribery and other regulatory violations, while simplifying the calculation of carbon emissions.
But competition watchdogs are increasingly concerned that vertical integration can also advance less laudable goals. In areas where technology is still developing, powerful companies can try to steal a march on rivals – and independent entrepreneurs – by using their power over key inputs or sales channels to foreclose competition.
For years, U.S. enforcers have focused primarily on horizontal deals, where harm to competition is easier to prove because they involve combinations of direct rivals. To the extent that they expressed concerns when large companies moved up or down the value chain, these were largely allayed by promises not to abuse market power, such as with concert promoter Live Nation’s purchase of Ticketmaster in 2010.
But that is starting to change. Under Chairwoman Lina Khan, the Federal Trade Commission tried to stop Microsoft, which makes game consoles, from acquiring gaming group Activision, and Meta from acquiring Within, a virtual reality company. These challenges failed, but the FTC had more success when it tried to stop the biotech group Illumina from buying Grail, a company that makes cancer screening tests.
A federal appeals court agreed that the FTC was right to worry that Illumina’s dominance in DNA sequencing testing gave it too much power over potential competitors to Grail in the nascent screening market. EU enforcers were even stricter, fining Illumina €432 million for completing the merger without Brussels’ consent. Illumina’s CEO has lost his job and the company plans to relaunch Grail through an initial public offering this month.
More cases are in the works, including some that reconsider previous clemency. The Justice Department filed a lawsuit last month to shut down Live Nation, saying it now stifles competition as it manages music performances and controls arenas while dominating concert ticket sales.
Business leaders should be wary of seeing this as a brief hiatus in the Biden administration that will disappear if Donald Trump retakes the presidency in November. His Justice Department started this trend when it filed the first vertical merger lawsuit in more than four decades, seeking to block AT&T’s purchase of Time Warner.
Although that lawsuit failed, Republican-appointed judges have proven sympathetic to some of the other claims. The author of the Illumina decision was appointed by George HW Bush. “The courts are much more receptive. . . than people think they are. This is not just a right-left issue,” said Rebecca Allensworth, a Vanderbilt law professor. “I don’t see any of this going away.”
Chief executives hoping to stay out of the regulatory crosshairs would do well to keep a simple rule in mind: not all vertical integration is the same. Companies that innovate generally avoid criticism unless they abuse existing power by illegally linking two products. And buying an already successful company to deny competitors entry is very different from licensing the technology.
Total control has its advantages. Freedom from antitrust investigations is not one of them.
brooke.masters@ft.com
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