Recently, I have been thinking about the question : when can a company profit from a merger? Mergers requires a company to pay fees to bankers and consultants, and the post-merger period is often very challenging to the new management, when there may be power struggles and culture clashes. The more I think about it, the more I feel that the answer lies in a related question : what is the optimal number of companies in a market.
From the point of view of maximizing value for the consumer, a market supplied by 2-5 companies should be ideal in terms of efficiency. Clearly, with only one company in a market, the monopolistic company will be able to rip off customers. On the other hand, if the industry is very fragmented and hundreds of companies exist, every company has duplicate backoffice functions and minimal buying power, and there are plenty of economies of scale to be achieved. (This is a common situation in less developed economies, where small businesses dominate.) The ideal situation is to have a few companies, large enough to reap economies of scale, yet compete with each other to keep prices down for consumers. This is true for most markets in mature economies. For example, despite the hundreds of brands of cereals available at your local grocer, the cereal industry is an oligopoly dominated by 4 giant companies : Kellogg, Gerenal Mills, Quaker Oats, and Post. Oligopolies are also important in markets where research and development is critical and expensive, but ideas are quickly copied by competitors. To invest in R&D, a company must have a large enough market share to spread out its research costs, and to make its research worthwhile even if it is copied by competitors.
However, in other markets, variety and personal choice are more important than having goods and services provided at the lowest cost. The apparel industry, for example, is populated by hundreds of boutique designer houses and companies, reflecting the diverse and ever-changing fashion choices demanded by consumers. Markets that are subject to rapid technological change (typically because R&D is very cheap in those markets; a grad student or two can come up with industry-changing ideas) are also not conducive to mergers. Small companies are typically more nimble and innovative than large ones, and it is pointless to achieve economies of scale and specialized knowledge in delivering a product when the product is going to change in a couple of years.
In short, some markets are conducive to mergers, and companies which successively pull off mergers in those markets can achieve a size and market position to dominate that market for years to come, while in other markets, mergers are pointless and typically lead to disasters.
