On July 27th, the chief executives of four (Alphabet, Amazon, Apple and Facebook) of the world’s most prominent technology companies will appear before the US Congress as part of an ongoing antitrust investigation into their market power.[i] This is the latest in a series of developments that includes federal and state-level investigations in the US into the market practices of these companies. Back in 2018, as part of Sustainalytics publication, ESG Risks on the Horizon, our team had noted that the antitrust related scrutiny of major technology companies is likely to persist given the market concentration these companies had established within the digital economy. While there is significant uncertainty as to the ultimate regulatory response, given the outsized position of these four companies in the S&P 500 and sustainability indices, this type of regulatory and market scrutiny is an area that is important for investors to examine in terms of long-term risks to the enterprise value of these companies.
A Brief History: Just Google it!
When it comes online business models, the European Commission (EC) was the first regulatory agency to look into the market practices of tech companies when it launched a formal investigation into Google in 2010. Starting in 2017, the EC levied three multi-billion-dollar fines against Google exceeding USD 9 billion in total along with requiring changes to how it does business in certain segments[ii]. The crux of the European regulatory view was and remains that Google’s dominance has a negative effect on the online ecosystem as it prevented smaller competitors from offering comparable goods and services along with reducing consumer choice. A similar view did not take hold in the US until recently given that the existing antitrust regulatory framework there is largely focused on pricing as a signal to determine abuse of market power.
Over the past year, tech companies have been at the forefront of several controversies related to anti-competitive behaviour. 2019 marked the start of major anti-trust investigations lead by both the US Department of Justice (DOJ) and the European Commission. The hearing on July 27th is the first time that all CEOs from four tech companies will be in front of US lawmakers and marks the first time that Jeff Bezos, Amazon’s CEO takes part in a congressional hearing. The table below provides an overview of the ongoing investigations for all four companies[iii] and demonstrates a convergence of sorts on both the EU and US side to examine the issue of digital market concentration with respect to these four companies.
|Alphabet||US DOJ, US FTC, European Commission, US States|
|Amazon||US DOJ, US FTC, European Commission|
|Apple||US DOJ, US FTC, European Commission|
|US DOJ, US FTC, European Commission, US States|
The Network Effect: A Win for Consumers?
All four companies have to been able to leverage the network effect to secure leading market positions for their offerings making it increasingly challenging for smaller players to succeed in the digital ecosystem. The network effect refers to the economic concept that states that a service becomes more valuable as more people utilize it, a characteristic that is particularly valuable in the digital ecosystem. For example, Alphabet’s Google has established competitive economic moat from network effects as the gateway to the internet through its online search offering. As a result, it has able to secure leading positions for its comparison shopping, online advertising, and mobile offerings. This has, without doubt, created benefits for consumers in terms of convenience and cost, a point that is hard to argue against.
The Ethics of Market Dominance
Our research indicates that all four companies have weak management of business ethics-related risks, which includes anti-competitive practices along with issues such as taxation, while also subject to high overall exposure to the issue Rating (Fig. 1). This, in part, stems from a combination of inadequate management systems to mitigate antitrust concerns over the long term but also the frequency of investigations, fines and lawsuits associated with their exercise of market power. As part of the broader business ethics assessment, we also examine issues such as taxation, which is another area of where these companies are facing significant regulatory pushback. A case in point is Alphabet and its main subsidiary Google. Google has been the subject of regulatory scrutiny in the EU since 2010 and while it has attempted to address the EC’s concerns, it has so far been unsuccessful and continues to appeal the three penalties that have been levied against it. Fundamentally, Google and most tech companies have a philosophical difference in what they view as anticompetitive behaviour. In Google’s view, they have simply built better solutions that have resulted in its market dominance.
Exhibit 1: Business Ethics Management Score and ESG Risk Rating Score
Source: Sustainalytics, 2020
Risk to Social License?
Despite their lacklustre performance on business ethics management, the share price of all four companies experienced positive momentum in the past few months and often were a haven from market volatility caused by COVID-19. For example, Amazon’s share price has increased by almost 25% since the beginning of the year, driven by its position as the leading e-commerce solution in developed markets like North America.[iv] While these companies are attractive investments and rightfully so given their market positions and scale, we think that it is important to examine the implications associated with their market power and how they manage it. They all have the financial resources to absorb major penalties, it is this social license to operate that may be subject to erosion from expanding regulatory and civil society scrutiny.