Horizontal, vertical and conglomerate integration

Overview

Horizontal integration, vertical integration and conglomerate integration.

What you need to know

Answer each one before you reveal it.

Questions from this subtopic

Each one with the model answer underneath.

1. 1

   What is horizontal integration, and what form does it take?

   Model answer

   Horizontal integration is the combination of two firms operating at the same stage of production in the same industry, such as two supermarket chains or two airlines joining together. Both firms produce competing products, so the combination directly reduces the number of independent sellers in the market. It is the form of integration that raises market concentration most directly.

2. 2

   Analyse three motives for horizontal integration.

   Model answer

   The combined firm can spread the same overheads, marketing spend and distribution network over a much larger output, so it captures economies of scale and cuts unit costs. It removes a direct competitor, which makes demand for its output less elastic and allows a higher price with a smaller loss of sales. It also gains bargaining power over suppliers, since it now accounts for a larger share of their orders and can demand lower input prices.

3. 3

   Evaluate the case for allowing a horizontal merger between two large firms in the same market.

   Model answer

   The merger may deliver substantial economies of scale, allowing production at a lower unit cost, and the resulting profits may fund research and investment that raise dynamic efficiency, so consumers can gain if part of the saving is passed on. Against this, removing a competitor makes demand less elastic and gives the merged firm the ability to raise price and restrict output, which reduces allocative efficiency and transfers surplus from consumers to the firm. Reduced competitive pressure also invites X inefficiency, so the cost savings may never be realised. The judgement depends on how many effective rivals remain, how contestable the market is, and whether the promised savings are credible and likely to reach consumers.

4. 4

   What is vertical integration, and what are its two directions?

   Model answer

   Vertical integration is the combination of two firms at different stages of the same production chain. Backward integration is a move towards the source of supply, such as a brewer buying a hop farm or a supermarket buying a dairy. Forward integration is a move towards the final consumer, such as a manufacturer buying the retail chain that sells its products.

5. 5

   Analyse three motives for backward vertical integration.

   Model answer

   It secures the supply of an essential input, so the firm is not exposed to a supplier withholding delivery or being disrupted. It removes the supplier's profit margin from the chain, so the input is obtained at cost rather than at a marked-up price. It also gives direct control over the quality, specification and timing of supply, which matters where the input is critical to the final product's reputation.

6. 6

   Analyse three motives for forward vertical integration.

   Model answer

   It guarantees the producer an outlet for its output, so it is not at the mercy of retailers who might drop the product or favour a rival. It captures the retail margin, so the profit that previously went to the distributor stays within the firm. It also gives control over how the product is presented, priced and serviced at the point of sale, and provides direct information about what customers are buying.

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