When competition authorities assess mergers, they tend to focus on short-term price and output effects. But in the pursuit of sustainability and growth objectives, should authorities give more weight to the environmental value mergers can create?

As the European Commission (“EC”) reviews its guidelines, we argue that a narrow focus on prices could be blocking deals that benefit the environment – and that a wider definition of value could bring merger control up to speed with sustainability policy.

Why this matters now: EC and CMA reviews

While antitrust authorities are increasingly willing to recognise sustainability benefits when assessing agreements between firms, merger control has not kept pace. Apart from some high-profile exceptions, such as Vodafone-Three in the UK, few mergers are cleared on efficiency grounds. Green efficiencies are considered even more rarely.

Authorities often lack the tools and experience to quantify these efficiencies, and it’s not always clear how they translate into consumer benefits – particularly where a merger could result in higher prices.

But all of this could be changing. The EC has recently consulted on sustainability in the context of its Horizontal Merger Guidelines, and the UK CMA has announced a review of its approach to merger efficiencies.

In this context, we’ve assessed the types of green efficiencies that might arise from mergers, and how they can generate value for consumers. We believe the biggest challenge is not quantifying these benefits, but changing how merger control defines value. To achieve allocative efficiency in markets linked to environmental harms, competition authorities will need to move beyond a narrow consumer welfare standard – failing to do so risks undermining progress on sustainability and growth.

What are green efficiencies?

Production processes for goods and services demand a lot from the natural world. These processes need land, water, energy and raw materials, and they rely on the environment to absorb the waste products they emit. This means green efficiencies from mergers could in theory take many forms.

But green efficiencies are not qualitatively different from other efficiencies that might arise when firms merge. Economising on resources or improving production processes may benefit the environment at the same time as benefitting the company, just as innovation to improve products or services may also improve firms’ environmental performance.

This means efficiencies considered in previous mergers are a useful starting point for what green efficiencies might look like. Building on the framework developed by Röller, Stennek and Verboven, we identify four categories of green efficiency, set out in Table 1. We describe these four categories in more detail below the table.

Table 1: Four categories of green efficiency

1. Rationalisation of production processes

A merger might mean firms can rationalise production in ways that improve environmental performance. By reallocating production towards cleaner plants, for example, a merged entity could reduce total emissions. Production might also be concentrated closer to input suppliers or customers, in order to reduce the number of long-distance journeys and cut transport emissions.

In more extreme cases, rationalisation might allow production to be consolidated at a single site, generating land savings. In Booker/Makro (2013), the merging food and drink wholesalers argued that where Booker and Makro stores were co-located, the smaller Booker store could be absorbed into the larger Makro premises. Had the redundant sites been decommissioned and the land turned over to conservation, the merger could in principle have generated additional habitat for biodiversity, or carbon sequestration.

Rationalisation could also deliver energy savings. A single large warehouse, for example, typically has a lower surface-area-to-volume ratio than two smaller warehouses with the same total volume, reducing heating and cooling requirements – an effect that has also been documented in the housing sector (see, for example, Otsuka (2017)).

Combining logistics networks is another form of rationalisation. In Tesco/Booker (2017), the merging parties argued they would be able to combine and optimise their national distribution systems, including sharing vehicle fleets. Rather than sending two partially filled trucks on the same route, a merged entity could operate a single fully loaded vehicle. In addition to cost efficiencies, this could reduce transport emissions.

2. Economies of scale

Mergers lead to greater scale, and greater scale can make green investments economically viable where they were previously too costly. This is because producing at higher volumes can allow firms to recover the fixed costs of environmental investments more quickly, while a merger may also reduce the cost of capital.

Arguments of this kind have been raised in past cases. In PKN Orlen/Grupa Lotos (2020), two Polish oil and gas companies argued that their proposed merger would lower their cost of capital and generate investment expenditure savings, allowing them to invest in new biofuels, green hydrogen and carbon capture projects. Although this argument was ultimately rejected by the EC, the case illustrates how economies of scale generated by a merger may, in principle, facilitate environmentally beneficial investment that would not have occurred absent the transaction.

3. Technological progress

Mergers may also drive technological progress that improves environmental performance. This could be through improvement of production processes, leading to reduced energy use or lower pollutant emissions. It could also be through improvements to the products themselves, to make them more environmentally friendly – like making electrical appliances more energy efficient.

A merger can enable technological progress in two ways:

■       First, it can enable knowledge diffusion where the merging firms have different areas of expertise. This type of efficiency was accepted by the EC in Aurubis/Metallo (2020). The parties argued that combining their respective know-how and technologies would improve the extraction of metal components from copper scrap, leading to more efficient recycling processes.

■       Second, bringing together complementary strengths under one roof can stimulate innovation. This argument was advanced in Dow/Dupont (2017), drawing on experience from the earlier merger between Dow and Eli Lilly. That transaction combined Lilly’s expertise in bacterial strain development with Dow’s manufacturing process technology, reducing manufacturing costs and enabling the development of a new insecticide.

4. Purchasing economies

Another way that mergers can generate green efficiencies is through increased buyer power. Merging parties often argue that a transaction allows them to procure inputs at lower prices (Coop/Somerfield (2008), Tesco/Booker (2017), Siemens/Alstom (2019)). That logic can be extended to include a green dimension: greater purchasing scale might make greener inputs, like organic vegetables or metal-free leather, commercially viable.

The effect can also run in the opposite direction. In Aurubis/Metallo, the EC initially issued a Statement of Objections over concerns that the increased buyer power of the merging entity would allow it to drive down prices for copper scrap, harming suppliers and impeding the functioning of a market for a product that is crucial to the circular economy. These concerns were dismissed in the final decision.

How should authorities assess the benefits from green gains?

To satisfy the efficiencies test applied by competition authorities and be considered as offsetting anticompetitive harm, merging parties must demonstrate that an efficiency (i) benefits consumers, (ii) is merger specific, and (iii) is verifiable, as set out in the EC’s Horizontal Merger Guidelines.

Where green efficiencies can be verified and shown to be merger specific, the next question is how the value they generate should be defined and quantified – and whether it offsets any anticompetitive harm.

In some cases, this value can be captured within authorities’ existing frameworks, for example by assessing the extent to which cost savings are passed through to consumers. In other cases, a different approach may be required: authorities might need to consider the ‘non-market’ value of the green benefit in question.

‘Plain green’ assessments

In some cases, efficiencies with green benefits also reduce firms’ production costs. Where (i) these efficiencies reduce variable costs, and (ii) competition remains effective post-merger, the merged firm is likely to pass these savings on to consumers – so competition authorities can use their existing framework for assessment.

Green efficiencies can reduce merging parties’ variable costs in two ways:

■       On an input basis: Firms may be able to reduce their use of inputs that are both costly and environmentally harmful. For example, a merger may facilitate sharing of technical know-how, improving resource efficiency, such as water use. This would both lower water consumption and the firm’s water costs.

■       On a production basis: Firms might be required by law or regulation to internalise environmental externalities, meaning a merger that reduces environmental harm can also reduce the merged firm’s production costs. For example, in markets governed by emissions trading schemes in the UK and EU, companies are required to purchase emissions certificates in proportion to their emissions. Improvements in production processes that lower emissions would reduce the number of certificates required, generating cost savings for the merged firm.

In practice, variable cost savings are only likely to arise in a subset of mergers. To capture the value of green efficiencies across a wider range of mergers, authorities will need to use alternative approaches.

‘Green fringe’ assessments

There are two common situations that are less likely to be captured by competition authorities’ standard approaches:

■       Green efficiencies that take the form of fixed cost savings: Take the land-saving example discussed earlier: where a merger allows the parties to operate one site where there were previously two, the associated saving – lower land rental or ownership costs – is likely to be a fixed cost reduction. So while the move to a single site might deliver genuine environmental benefits, the cost saving may not be passed on to consumers through lower prices.

■       Green efficiencies that don’t generate cost savings at all: Some environmental benefits arise without affecting the firm’s cost base. Consider the new insecticide brought to market by the Dow/Eli Lilly merger, described above. If this was less harmful to pollinators than competing products, it would deliver an environmental benefit – but if it was no cheaper to produce and did not affect resource use or emissions, it would not generate cost savings and therefore would not mean a price reduction for consumers.

Quantification is the easy part

In these ‘green fringe’ cases, authorities may need to look for alternative evidence that green efficiencies generate genuine consumer benefits capable of offsetting anticompetitive harm.

The EC and other authorities have already explored methods for quantifying sustainability benefits in the context of sustainability agreements (see section 9 of the EC’s Revised Horizontal Guidelines). The environmental economics toolbox offers a range of established evaluation methods, from economy-wide marginal abatement cost estimates to survey-based estimates of consumers’ willingness to pay for environmental improvements.

The main challenge, therefore, is not how to quantify green benefits, but how to define the assessment boundaries – because existing frameworks are not likely to be sufficient when applied to green fringe efficiencies.

(Re)defining the boundaries

Merger control is still narrowly focused on consumer welfare within the ‘relevant market’. This means green efficiencies are typically only assessed on how they benefit consumers in the market that the merged firm sells into – even where a value to society as a whole can be quantified.

Green efficiencies sit uncomfortably within this narrow framing. Environmental harms are classic negative externalities: costs generated by markets but borne outside them, and therefore not adequately factored into firms’ production decisions or consumers’ purchasing choices. A test that requires green efficiencies to generate benefits that compensate consumers within the relevant market is therefore at odds with the nature of the problem that those efficiencies address. Where the costs of environmental harm fall largely outside the market, so too will the benefits of reducing that harm.

Focusing narrowly on consumer welfare could mean that the value of green efficiencies ends up being determined by the size of the affected market. In some cases, authorities might be satisfied that a significant part of the benefits would accrue to consumers – for example in utility markets where most of the population are both consumers and beneficiaries of green improvements.

But in markets that have fewer consumers but a high environmental footprint, mergers delivering substantial green gains could fail to satisfy existing tests, despite the value they would generate for society.

When higher prices can improve market outcomes

That would be an economically inefficient outcome. Markets characterised by environmental externalities are not allocatively efficient. Prices in these markets sit below the fully costed marginal cost of production because environmental harms are not factored in. Low prices are not a sign of market efficiency but of market failure: they encourage overconsumption of goods that damage wider society.

Mergers that deliver green efficiencies could help correct this imbalance. In some instances, such mergers may lead to higher prices for consumers. Where a less environmentally damaging market outcome is possible, but only under higher levels of concentration than the status quo, the competitive outcome under that higher concentration may better reflect the true cost of the product once environmental factors are considered.

Prices that reflect the full societal cost of a product or service are better able to perform their signalling role and guide markets towards allocative efficiency. On this basis, a merger that reduces environmental harm can improve allocative efficiency, even where it raises prices for consumers.

What this means for merger policy

In our response to the EC’s public consultation, we urged the Commission to embed sustainability within its efficiency framework. By explicitly recognising that green efficiencies can improve allocative efficiency, the EC can bring merger control into line with the EU’s climate and sustainability objectives. The goal should not just be to minimise prices in the short term, but to support markets that allocate resources in ways that maximise societal wellbeing over time.

There are also broader economic considerations. Mergers that deliver green efficiencies can complement the growth and resilience objectives now shaping competition policy debates. The preservation of natural systems is fundamental to long-term economic performance. With more than half of global economic output estimated to depend on nature and its services, transactions that help sustain these underlying assets can also support the foundations of future growth.

A precedent for the future?

There is a precedent of this line of reasoning. In 2023, the Australian Competition and Consumer Commission cleared a merger between two energy companies, Brookfield and Origin, because it would benefit the public by accelerating the rollout of renewable energy. This was despite concerns it would lessen competition in energy markets. The deal subsequently collapsed, but not because of regulatory intervention.

We are watching closely to see whether similar thinking emerges on this side of the Indian Ocean.