Merger faces uphill struggle with regulators

COMMENT: 'This is plainly a great deal for the City and for investors, as yesterday's sharp rise in the share price of both companies bears testimony, but is it also good for UK plc?'
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Less than two weeks into Labour's "new dawn", and already the City is presenting the Party's radical young thinkers with an uncomfortable policy dilemma. That assumes, of course, that Brussels allows the new Government some say over Guinness's proposed merger with Grand Metropolitan, and doesn't exercise its right to keep all the action for itself. Legally, this is a merger which falls under the jurisdiction of the European Commission. But since the main competition issues occur in the UK, the bulk of the job losses will be in Britain, and the two companies involved are both British, even Brussels would be hard pressed to ignore British sensitivities on this matter entirely.

This is plainly a great deal for the City and for investors, as yesterday's sharp rise in the share price of both companies bears testimony, but is it also good for UK plc? That's a much tougher question, which is not answered by the bald insistence of Tony Greener and George Bull that it is, and that as a consequence there are no regulatory issues to address. The basic rationale for this merger is that old chestnut, big is beautiful - that the two companies combined will be a much more effective global force than separately.

To be fair, there may be something in this. The two companies are largely complementary on the liquor side, in both brands and geographically. Combine the two brand portfolios and feed them through the two different distribution and marketing networks, and there should be a significant uplift in sales (should being the operative word here). Unfortunately, this argument rather ignores the rest of Grand Met and Guinness. There is nothing that links Pillsbury Foods, Burger King and Guinness Brewing with this commendable rationale, nor does getting as big as the Nestles and Pepsi Cos of this world give GMG Brands anywhere near the same product and cultural cohesion as those two companies enjoy.

From this perspective, Bernard Arnault's alternative approach - which would see IDV, United Distillers, and Moet Hennessy merge under the splendidly Gallic capital structure of three separate shareholding companies - is industrially the rather better solution. The trouble is that Grand Met would never have contemplated demerging IDV, nor would Guinness be prepared to separate its spirits interests from its brewing. But let's leave that for the moment.

Guinness is also right to point out that the world market in spirits is a fragmented one when compared with some other leading consumer products like detergents and soft drinks. Even combined, these two companies would have no more than 10 per cent of the "accessible" world market in spirits. If you take the broader definition of the world spirits market, taking into account unbranded local hooches, then it comes down to less than 5 per cent.

But cut the figures another way and you get a quite different picture. The two companies combined would have 46 per cent of the world market for scotch whisky, 37 per cent for Vodka and 35 per cent for gin. The point is that Britain is already hugely successful in selling these products in export markets. Is it going to be made any more successful by allowing its biggest two players to merge? Take the US, where Guinness and Grand Met have the top three selling scotches between them. Once the spur of competition is removed, it seems more likely they will sell less, though at a higher price, not more.

The situation isn't much better in the UK, where the combined market share of these companies in scotch, gin and vodka is equally alarming. So although Messrs Greener and Bull may be right about all this, regulators are going to take quite a lot of convincing. Even in its new form, Labour is going to be more sceptical still.

Today brings the first Inflation Report to be published since Gordon Brown made the Bank of England independent. As that was only last week, the report will look much the same as it always has. But independence has changed its purpose. In the past it has assumed that interest rates are kept at the existing level and predicted the consequences for the underlying inflation rate. In future, it will have to predict that inflation is going to be on target, or the new Monetary Policy Committee will not have been doing its job properly.

A document that always has to predict on-target inflation will turn into more of an Interest Rate Report, reflecting the committee's analysis of the state of the economy and likely moves in the cost of borrowing during the next quarter. It will become an important means for the Bank to persuade public opinion of the merits of its case.

Today's report must have involved some tricky drafting manoeuvres. In February the Bank issued a stiff warning about inflation prospects, backing up its repeated advice to Kenneth Clarke to raise rates. Since then we have had three months' worth of strong economic data and, last week, a quarter point rise in base rates. It will be hard to argue that the small and belated move is enough to have put inflation right back on track.

Logically, the Bank therefore ought to say that another rise in interest rates is needed, and now that it is operationally independent, it would be free to announce such a move this morning if it wanted. Don't hold your breath though; the signs are that the Bank will wait and see what the Budget brings.

Defence stocks took one look at Robin Cook's Mission Statement and his pledge to put human rights at the heart of British foreign policy and yawned. But is this the right reaction?

The new Foreign Secretary intends to push for international regulation of the arms trade so that no weapons get into the hands of those intent on "external aggression or internal repression". Since intent is partly in the eye of the beholder that could open up quite a big field of candidates, starting with Indonesia and its orders for British Aerospace Hawk "trainer aircraft"

This is bold stuff given that Britain is one of the world's four biggest arms exporters, sports a defence industry with a powerful and well-oiled lobbying machine and a factory in most marginal constituencies.

The downside is that Mr Cook, for now at least, may be a lone voice in his ethical crusade. The argument against taking a unilateral stance on arms sales has always been the one that runs "If we don't sell them the stuff then someone else will." Mr Cook has an answer to this too. He proposes a European code of conduct so that once one member state refuses an export licence on ethical grounds another cannot sneak into its place. Bad news for the French.

As things stand, however, Mr Cook's pledges largely amount to fine words and little more. They may need to be brought into sharper focus by a little practical application. Saudi Arabia does not possess the world's most glittering human rights record and it also happens to be Britain's biggest arms customer. But is Mr Cook brave enough to tinker with the pounds 20bn Al Yamamah deal?

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