COMPETITION TRIBUNAL OF SOUTH AFRICA
Case No.: 90/LM/Aug07
In the matter between:
Bayne Investments (Pty) Ltd Acquiring Firm
and
Clidet 451 (Pty) Ltd Target Firm
_______________________________________________________________
Panel : Y Carrim (Presiding Member), L Reyburn (Tribunal
Member), and U Bhoola (Tribunal Member)
Heard on : 28 November 2007
Decided on : 28 November 2007
Reasons : 21 January 2008
REASONS FOR DECISION
Approval
1] On 28 November 2007, the Tribunal approved this transaction conditionally.
The reasons for that decision are set out below.
The transaction and merging parties
2] Bayne Investments (Pty) Ltd is acquiring the entire issued share capital of
Clidet 451 (Pty) Ltd.
3] The target firm, Clidet 451(Pty) Ltd (“Clidet 451”), is owned by Capstone 453
(Pty) Ltd, a wholly owned subsidiary of FirstRand Bank Ltd and four individual
shareholders Dimitrios Alexandropoulos, Gert Beukes, Leigh Randall Pollard
and Roelof Theunis Johannes Vorster. Clidet 451 owns Wood Chemicals
South Africa (Pty) Ltd (“Woodchem”) a producer of formaldehyde and
formaldehyde resin. Woodchem’s production facilities are owned by its
subsidiary, Mosselbank (Pty) Ltd. Woodchem is it the ultimate target firm in
this transaction.
4] The acquiring firm, Bayne Investments (Pty) Ltd is ultimately owned by
Steinhoff International Holdings Ltd (“Steinhoff International”), a public
company listed on the JSE Limited. Woodchem, the target, has a long term
supply agreement with PG Bison Limited (“PG Bison”), another subsidiary of
Steinhoff International, to supply it with formaldehyde resin. The transaction
results in the vertical integration of Steinhoff International/P G Bison and
Woodchem.
Rationale for the transaction
5] FirstRand Bank, the largest indirect shareholder of the target firm Woodchem,
approached its largest customer, PG Bison, with a view to selling the business
2
following its decision to exit the business. The reason why
FirstRand/Woodchem approached P G Bison, rather than any other party,
was because it was concerned that PG Bison was likely to set up its own
internal formaldehyde plant which would have a negative impact on
Woodchem who sells 93% of its production to PG Bison. If that happened,
FirstRand could lose its largest customer. The proposed transaction will
therefore enable Woodchem to remain a viable business.
6] From the perspective of the acquiring firm the proposed transaction will
formalise PG Bison’s existing long term supply relationship with
Woodchem and ensure a continuous supply of formaldehyde resin to its
operations.
The relevant markets
7] The Commission identified two upstream and two downstream markets
relevant to this transaction. The two relevant upstream product markets are
the market for the manufacture and supply of pure formaldehyde and
formaldehyde resin. The two downstream product markets are the market for
the production and supply of raw and upgraded particle board and the market
for the production and supply of raw and upgraded medium density fibre
board.
8] In the downstream markets, PG Bison is one of the largest South African
producers of particle board and medium density fibre board (“MDF”), both of
which can be upgraded with various decorative surfaces for use in kitchens,
offices, furniture and shop fitting manufacturing industries. PG Bison has
manufacturing facilities in Piet Retief, Stellenbosch and Pietermaritzburg
where it produces particle board and in Boksburg where its produces MDF.
3
The geographic markets for particle board and MDF are national, as decided
by this Tribunal in the PG Bison and Inzuzo merger. 1
9] In the upstream markets, Woodchem produces pure formaldehyde as well
as formaldehyde resin. Pure formaldehyde, urea and methanol are used to
produce formaldehyde resin which is used in the manufacturing of particle
board, plywood, veneers and other wood products. Approximately 87% of
all formaldehyde produced in South Africa is used for the production of
formaldehyde resin. A small quantity of raw formaldehyde is also sold to
other resin manufacturers as well as PG Bison who use it to produce
melamine formaldehyde resin. For this reason we do not deal with the
market for the manufacture of pure formaldehyde any further.
10] The merging parties indicated that formaldehyde resin is highly unstable
with a very limited shelf life. However, the Commission found that current
transport patterns suggest that it is transported nationally, over long
distances in specialised trucks rather than locally or regionally. This is in
spite of high transport costs, which could be up to 17% of the price of
formaldehyde resin and up to 40% of the price of formaldehyde.
Accordingly we concluded that the upstream geographic market for
formaldehyde is national.
Market shares
Formaldehyde resin
11] The merging parties claim that Resinkem (Pty) Ltd (“Resinkem”) is
currently the largest player in the formaldehyde market. However
1 See Tribunal case No: 12/LM/Feb04
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Woodchem is in the process of expanding its formaldehyde plant capacity
and as from 2008, will be the largest player in that market. Another smaller
player in the market is Formalchem (Pty) Ltd (“Formalchem”). However
Formalchem is vertically integrated with Magnaboard (Pty) Ltd
(“Magnaboard”), a competitor of PG Bison. All of the formaldehyde resin
produced by Formalchem is used internally by Magnaboard and none is
supplied to third parties. Hence we do not regard Formalchem as a
competitor in the market.
12] The estimated market shares of the two formaldehyde producers in South
Africa, based on capacity, are as follows:
Competitor Tonnes of
formaldehyde resin
2008
Market share
Woodchem 110 000 63.4%
Resinkem 63 500 36.5%
Total 173 500 100%
Woodchem is the largest producer of formaldehyde resin and the only
producer that will have excess product available in 2008.
Particle Board and MDF
13] In the downstream markets, there are three producers of particle board,
PG Bison, Sonae and Magna and two producers of MDF namely PG Bison
and Sonae. A fourth producer, namely William Tell, participates in the
particle board market but uses its particle board in its internal furniture
production process. 2 William Tell is therefore not regarded as a competitor
2 William Tell sources its formaldehyde resin from Resinkem.
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in the market for the production of particle board.
14] Both particle board and MDF are imported into the country. MDF is
imported to a greater extent than particle board. Imports of MDF, according
to the Commission’s investigation, acts as a competitive restraint on prices
whereas the same cannot be said of particle board. The market shares,
based on supply, are as follows:
Competitor Particle board MDF
PG Bison 47% 59%
Sonae 39% 8%
Magna 8%
Imports 6% 33%
Effect on competition
15] In the course of the Commission’s investigation, a few customers and
competitors of Woodchem expressed the view that a merger between PG
Bison and Woodchem could result in input foreclosure and coordination
between rivals.
16] In general, vertical mergers could cause harm to competition in several
ways. Harm to competition could arise when a transaction increases the
likelihood of the merged entity foreclosing its rivals either upstream
(customer foreclosure) or downstream (input foreclosure) by refusing to
supply or by raising rivals’ costs. A vertical transaction could also increase
the possibility of coordination among either upstream or downstream
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competitors and may also enhance a regulated firm’s ability to evade
regulation.
17] We consider the concerns raised by Woodchem’s customers and
competitors below and also consider barriers to entry and any efficiency
arguments that may counter the possible anticompetitive effects of the
transaction.
Foreclosure
18] Woodchem entered the South African market during 1999 by securing a 10
year supply agreement with PG Bison. 3 Since then PG Bison has not
bought formaldehyde resin from any other producer, its sole supplier being
Woodchem. PG Bison’s requirements represent approximately 93% of
Woodchem’s total production of formaldehyde resin. In October 2007,
Woodchem also entered into a three year supply agreement with Sonae,
PG Bisons’ largest competitor. Sonae, however, also sources
formaldehyde resin from Resinkem.
19] In our view, customer foreclosure, as a result of this transaction is unlikely
given that PG Bison has had a long term supply agreement with
Woodchem prior to the merger and does not intend to source
formaldehyde resin from any other producer.
20] During the Commission’s investigation, it became apparent that both
Sonae and William Tell, competitors of P G Bison, were concerned that
Woodchem might refuse to supply them with formaldehyde resin post
merger. However, Sonae’s concerns fell away as a result of the supply
agreement concluded by it with Woodchem during 2007. William Tell
3 According to the merging parties until Woodchem’s entry in 1999 Resinkem supplied 95% of all
resin to the particle board industry.
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planned to expand its production of particle board in 2008 and would have
to source more formaldehyde resin from Woodchem since Resinkem, its
current supplier, did not have excess capacity available. It was concerned
that Woodchem might refuse to supply it, particularly in times of short
supply.
21] The Commission found that input foreclosure would not be profitable for
the merged entity in the MDF market because the level of imports were
relatively high in this market and exercised a constraint on the price of
domestic MDF. In the event of an increase in resin prices or a refusal to
supply by the merged entity to its downstream competitors, the
manufacturers of MDF could turn to cheaper imports of MDF. PG Bison,
Sonae and William Tell also indicated to the Commission that they were all
expanding their particle board capacity but not their MDF production.
Imports will therefore remain relatively high in this product market and thus
act as a restraint on local prices.
22] However, the Commission found that in the case of particle board it would
be profitable for the merged entity to engage in input foreclosure by raising
the costs of formaldehyde resin to PG Bison’s rivals.
23] The Commission calculated that in order to justify the loss of profits as a
result of input foreclosure the merged entity would, in the case of particle
board, have to increase the price of particle board by 1.6%. In order for PG
Bison to achieve this it would have to increase its rivals’ costs by raising
resin prices by between 8 – 16%. Imported formaldehyde resin costs
between 15 – 20% more than local formaldehyde and delivery would take
approximately 6 weeks. In the event that the merged entity raised the
price of resin, Woodchem’s customers could not easily turn to imports
since these are not a viable option. The demand for particle board is also
since these are not a viable option. The demand for particle board is also
relatively price inelastic and it would thus be possible for PG Bison to pass
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a small price increase of 1.6% on to consumers in order to make this
strategy profitable. Only 6% of particle board is imported and this will not
increase much more due to planned capacity expansion by PG Bison and
Sonae. Imports will therefore not constrain any price increases of local
particle board.
24] In light of the above concerns the Commission recommended that the
Tribunal impose certain supply conditions on the merging parties, which we
discuss at the end of this reasons.
Cooperation
25] The Commission submitted that while it appeared, at first glance, that the
merger would increase the likelihood of coordination or ability to monitor
existing collusive arrangements in the downstream market, this was not the
case. Since resin is used in fixed proportions to produce particle board
and MDF, it would appear that post merger PG Bison would be better able
to monitor Sonae’s output through its purchases of resin from Woodchem.
However, the supply contract between Sonae and Woodchem is not limited
to fixed quantities of resin but allows Sonae to vary its resin purchase
substantially. Sonae also stockpiles substantial amounts of product at the
beginning of the year in anticipation of the run up to the Christmas period
which makes it more difficult to monitor its sales of boards during the year.
Moreover, the fact that Sonae also exports particle board to the EU makes
it more difficult for PG Bison to predict how much of its output Sonae will
allocate to exports and how much it would sell on the domestic market.
26] Hence it is unlikely that the transaction will increase the likelihood of
collusion or coordination in the downstream markets.
Barriers to entry
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27] Entry into the formaldehyde market is characterised by high capital costs
and high levels of technical expertise and regulatory restrictions. A permit
from the Department of Minerals and Energy is required to establish a
formaldehyde plant. The estimated cost of establishing a plant is between
R160 – R200 million and it could take approximately 2.5 years for a facility
to come on line.
28] Barriers to entry in the downstream market are also relatively high,
characterised by high capital costs and long lead times due to the need for
environmental impact assessments. An important inhibiting factor in the
downstream market is the shortage of fibre resources, or wood chips,
which is an important input into particle board and MDF.
29] It is also highly likely that any new entrant into the particle board and MDF
markets will find it very difficult to source formaldehyde resin from existing
producers as Woodchem’s total capacity post its expansion will be 110 000
tonnes of which 80 000 will go to PG Bison and 20 000 to Sonae.
Currently, Woodchem also supplies about 6000 tonnes to niche players.
Thus only between 1500 3500 tonnes of Formaldehyde resin will
potentially be available to new entrants unless Resinkem or Formalchem
increase their capacity. Though Sonae has indicated that it might at some
time in the future consider entry into the upstream market, this seems
unlikely at this stage.
30] In order to be able to defend itself against a foreclosure strategy by the
merged entity, a new entrant in the market would have to enter at both the
upstream and downstream markets levels simultaneously, as was done by
William Tell. This would increase the cost of entry considerably.
Efficiency arguments
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31] The merging parties did not provide any efficiency arguments and the
Commission found that the merger would not give rise to substantial
efficiencies.
Conclusion
32] We find that the transaction raises foreclosure concerns in the particle
board market. Barriers to entry in both the upstream and downstream
markets are very high. The transaction does not give rise to any
efficiencies which could offset the possible harm to competition. The
Commission found that a structural remedy, such as requiring a divestiture
or separation of the resin production business was not feasible because
Woodchem’s plant is on one site and is run as an integrated entity that
does not appear to be readily divisible. In any event, P G Bison was
purchasing Woodchem precisely because it sought to ensure continued
supply of formaldehyde resin.
33] We agree with the Commission’s recommendation that a behavioural
remedy, ensuring that Woodchem continues to supply existing customers
on a nondiscriminatory basis, would in this case adequately address the
foreclosure concerns raised above.
34] The Commission recommended that the conditions be imposed for a time
period of 10 years. Although the merging parties did not oppose the
conditions, they submitted that the time period was excessive. They
pointed out that an environmental assessment should not take longer than
two to four years and that a time period of three years should be sufficient
to build a new plant. Moreover, they argued, William Tell had also recently
concluded a supply agreement with Resinkem and was unlikely to
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approach Woodchem for any supply, a fact which the Tribunal requested
the Commission to investigate. Subsequent to the hearing William Tell
informed the Commission that it was negotiating a supply agreement with
Resinkem which should be finalized soon.
35] Sonae had a three year supply agreement with Woodchem. In the event
that Sonae decided to enter the formaldehyde market after the expiry of its
agreement with Woodchem, and given that barriers to entry are high, it
would take an additional three to four years for Sonae, or any other
entrant, to enter the downstream market. Having regard to the above, we
found that imposing the condition for a period of eight, rather than ten
years was more appropriate.
36] This merger does not give rise to any public interest issues and is
approved on the conditions set out below:
1. Wood Chemicals South Africa (Pty) Ltd (“Woodchem”) will continue to
supply Sonae Novobord (Pty) Ltd (“Sonae”) with Resin at the price,
volumes and quality that Woodchem was supplying Sonae at the date
of the approval of the merger in terms of the supply agreement
between Woodchem and Sonae dated 4 October 2007 (“the Supply
Agreement”) (including the provisions of this Supply Agreement relating
to price, volume, product specifications and quality).
2. On the written request of any particle board producer (“the Applicant
Producer”), Woodchem will, subject to:
i) the availability of sufficient production capacity to meet the
demand of its existing customers (including PG Bison Ltd) at the
date of such request;
ii) the availability of raw materials;
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iii) product composition and specifications; and
iv) the credit profile of the Applicant Producer,
enter into an agreement for the supply of resin with the Applicant
Producer on terms that are nondiscriminatory as regards price,
volumes and quality when compared with the terms and conditions
applicable to supplies to its existing customers and the merging parties’
own internal resin requirements.
3. In the event of production stoppages or resin shortages for whatever
reason, such that Woodchem is unable to supply more than 95% of the
monthly resin requirements of all its existing customers (including the
merging parties’ internal resin requirements), Woodchem will reduce its
supply to each customer and to its subsidiaries and associated entities
prorata to the volumes of resin supplied to each customer and its
subsidiaries and associated entities during the preceding six months,
provided, that each customer has complied with its obligations in terms
of its supply arrangements.
4. In the event of a dispute between any particle board producer
aggrieved by any alleged specific failure or refusal of the merged entity
to comply with its obligation in terms of these conditions to supply to
customers on a nondiscriminatory basis and pro rata supplies in the
event of a production stoppage or resin shortage supply, the merged
entity will, if the aggrieved particle board producer so requires, and
subject to any necessary pro rata adjustment in volumes provided for in
3 above, continue to supply resin on the same terms as such products
were supplied to that particle board producer immediately before the
dispute arose, provided that the aggrieved particle board producer
complies with its obligations in terms of its supply arrangements.
5. In the event that the Competition Commission has reasonable grounds
5. In the event that the Competition Commission has reasonable grounds
to believe that the conditions herein are not being complied with by the
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merging parties, the Competition Commission may request Woodchem
to furnish to it the following reports in writing, on fifteen days’ prior
written notice:
5.1 a report/s signed by a responsible person, indicating the
volumes of resin and the prices at which such resin has been
supplied to:
a) businesses within the merged entity and any of its
subsidiary or associated entities; and
b) any other particle board producer pursuant to the above
conditions, for such period as may be specified by the
Competition Commission in its request;
5.2 an independent auditor’s certificate confirming the correctness
of, or qualifying, as the case may be, information provided for
any specific financial year set out in the reports referred to in
5.1 above;
5.3 a report setting out details regarding any reduction of supply of
resin in the circumstances contemplated in paragraph 3 above.
6. The conditions set herein will apply for a period of 8 years from the
date of the Competition Tribunal’s order in relation to this transaction.
7. The Competition Commission or the merging parties may at any time,
on good cause shown, approach the Competition Tribunal for these
conditions to be lifted, revised or amended.
______________
Y Carrim
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Concurring: L Reyburn and U Bhoola
Tribunal Researcher : R Badenhorst
For the merging parties : Deneys Reitz Inc
For the Commission : D Motsamai, M Ngobese, R Hawthorne
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