As a horizontal merger, the companies overlap within the “installed base” large regional aircraft segment. GE is a manufacturer, financer, servicer leaser and buyer of engines for this segment and Honeywell is a manufacturer and servicer of the same. Vertically, there is integration with GE Capital to finance a finished “bundle” of GE engine and Honeywell non-engine aerospace equipment (avionics) parts. The most significant synergies created by the merger were derived from the combined engine manufacturing capabilities of the two companies and the complementary services each company provided to the other to control the value chain.
First, GE’s vertical integration of financing through GE Capital created a competitive advantage for GE to sell engines at a discounted rate, allowing it to win contracts. This advantage was perpetuated, since the airlines benefitted from commonality in the fleet. Honeywell would be helped tremendously by this financing advantage and the ability of both companies to bundle both the engine and avionics products together would put them at a distinct advantage in project bids.
Specifically in the “installed base” segment, airlines would be incentivized to make one bundled purchase of both sets of equipment, which would not only generate revenue for GE in the short run but also go a long way in securing future contracts with airlines due to the benefits of standardization. Table 1 shows estimates of the value of 20% revenue growth by Honeywell as a result of this synergy. Second, MRO synergy would enable GE to continue to grow its aftermarket services business, which had quickly grown into the majority revenue share by 2000.
The addition of Honeywell would broaden the scope of the service contracts to include avionics products, and reinforce the incentive for airlines to purchase GE / Honeywell products. Table 2 shows Honeywell and GE combined revenue growth of GE as a result of this synergy. Finally, the combined manufacturing capabilities of the two companies in the large regional aircraft segment provides fixed cost savings for each company and especially Honeywell by merging management expertise and manufacturing capabilities. Table 3 shows the reduction in COGS for Honeywell as a result of this synergy.
Table 4 shows the combined benefits of all three synergies. Market Definition of GE’s dominance in the large jet engine segments was a benefit to GE because the European Commission did not segment it further to just regional aircraft, nor did the Commission separate the MRO market into its own segment, of which both Honeywell and GE had significant market share (although its divestiture was cited as a condition in the DOJ ruling). To GE’s detriment, however, the Commission defined the market in terms of “installed base” engines that were still in production and did not include those out of production.
Also, the calculation of market share in joint ventures hurt GE in the market share calculations. Most of the Commission’s concerns in the merger seemed to revolve around the potential of the merger to force competitors such as Rolls Royce and Pratt & Whitney out of the market, which would then lead to “market foreclosure”. I believe the DOJ took a longer term perspective of the market, and the Commission’s refusal to include out of service aircraft is an indicator of this line of reasoning.
In my view, and perhaps the DOJ, GE’s ability to sell engines and avionics at a lower price than the current competition may be an advantage but it is certainly not anticompetitive. There is nothing preventing the other companies from making a better engine or a cheaper engine in order to sway standardization trends. If anything, these efficiencies are a benefit to the consumer as the cost saving are passed on from the airline. Recommendations I believe the merger should have been approved because the market effects of the conglomerate actually increase efficiencies in the market – savings which can be passed on to consumers.
Further, the merger does not create any new products- the competing engine manufacturers are more than capable of continuing to produce engines that compete with GE and Honeywell, if not on price then on functionality or any other aspect. That said, I also recommend the divestiture of the MRO arm of both GE and Honeywell, not only because the role in servicing could create a conflict of interest, but because it is outside of the realm of both company’s core competency. The continued revenue growth of the MRO arm could threaten to sap resources from more innovative projects.