Documentation

11- 4-93 THU 19:33 RSchwind~ p - 0:2 Court File No.: CT..SS-1 COMP EU UON TRilruNAlJTIUB'UNAL DIS LA CONCURRENCE. lN THE MATI'BR OF an application by tbe Director of lnYesdgation and Research under subsection 64(1) of the COflfpetition Act, R.S.C.1CJ70, c. C-23, as amended; ANO IN nf! MATTER OP a l..iMlted l~artnenhip formed to comblne U1e Of.>l:Htiuns uf the 'Rescr'ICC and hgasus computer ~tion systems;

AND IN THB MATT2R OF The Gemini Group Automated Distnbution Systems Inc; AND IN: THE MA1TBR OP~ appl!Oltion by the Director of Investigation and Research under section 106 of thr. <".nmpr.titlnn Ad, R.$.C. 198.5, c. C-34, as amended, to vary the Consent Order of the Tribunal dated July 7, 1989

'BETW liEN: The Din.."Ctor of Invcstl.gati.on and Research Applicent COMPETITION TRIBUNAL TRl8UNAL OE Ln, CONCURRENCE • and. File No. {!,, f ..- 2 g / t Air ca.nada, No. ~ qcssler (/ ~ ,+.. PW A Corporation, JU<.,t._ • lfL1/ ~,, • &, ,UJ J.- Canadian Airlines International ltd., ----- ; r rhe Gemlnt Group lm\ited Partnership, . . • t tJ T _ 1-- The Gemll\J Group A1110mated Diltribution Systems Inc., Exh1b1t No . _l}.:. -:: 311p1 f - Covia Canada Corp., No. ije la pieca j E..i._ Covia Canada Partnership Corp. Fiie(j on ?/J!l!_ _ ,J_r:j_ fi); /I::, () Respondertts Deposee le~. L ~· Registrar :.:::::::;;:. •and· Greffi&r Consumer$' Association of Canada, ( , ) . American Airlines, Inc., E Att11mt'y C"'lt'111111l of M1mitu~, ,..., ,,:; Po Alliance of C~"•cHtin 'l'ra:vel Associations, s ;,;,.) r&a E NCl'J Bios Computing Corporation, s () IBM Canada Ltd., VIA Reil Canada Int.,

Uniaya Canada Ir..::., Cuum.il uf Canadian Airlil"lt!lli Bmpluyees, Attorney Generel of Alberta IntervenotS

AFflDAv rr Of PROFESSOR RICHARD W. SCHWINDT

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1 1- 4-93 THU 19:33 RSchwind~ AFPJDAVIT l, -RICl-IARD W. SCHWINDT, of the Town of Mt. Lehman in the Province of British Columbia, MAKE OATH AND SAY AS FOLLOWS:

1. I a:rn an ~~ociate Prufe1$l)Or of Economic; and Busine!i!' Administration with the Department of Economics and the Faculty of Business Administration at SI.Mon Fraser University, British Columbia;

z. .Now shown to me and marked as Exhibit HA" to this my Affidavit is a oopy of my curriculum vitae.

3. I have been asked by Osler, Hoskin & Harcourt to provide my opinion on the remedies proposed by The Director of Investigation and Research ln these proceedings.

4. The contents of the report atUched as Exhibit 11 B" to this ·my Affidavit and the opini~na expressed therein are true to the best of my kn·owledge, information and· belief.

s. I do not have any in~est as either an investor or a lender in Gemini or any of the partners or shareholders the;reof, nor do I have any financial interest in the .outcome of the~ proceedings.

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11- 4-93 THU 19:34 RSchwind~ P.04 -3-6. 1 make this affidavit pursuant to Rule 42(1) of the Competition Tribunal Rula.

SWORN BEFORB ME at the·~of, ) ) HkrS°"' in the Province of ) pt ) British Columbia on the 1.f' day ) ~~ s9€ ) Richard W. Schwindt of November, 1993. ) ) ) )

Commissioner for Taking Affidavits, etc.

DAVIO PA111!RSON Darrtotor • soHcltor 1101 • 1100 TRETHEWEY STREET CL!AftlftOOK, a.c. Vil IR1 NOV 4 '93 22:32 6048561833 PAGE.004

11- 4-93 THU 19:34 RSchwindt ···-·•••••••••••••••••••••••••••••••••••••••••w ............. , ................., ........... ,. This is Exhfbit" A "reftmd to in the tiffida11it

of Rjchard W. Schwindt swom before me hmin, thl' ___ _, day of µev . 1 n 0---==---S.JLr v----A Commissioner, etc.

Barrlater a Sollcltor '201 • 2710 TRITHl!WEY STREET CLIARIAOOK, a.o. var IR1 NOV 4 '93 22:33

p - 0 !5

u ,r_ r -Y _ - __ 1993

DAVID PAITERSON 6048561833 PAGE.005

11- 4-93 THU 19:35 RSchwindt P.06 August, 1993 CURRICULUM VITAE Richard Schwindt

Office: Department of Economics and Faculty of Business Administration Simon Fraser University Burnaby, British Columbia Canada, VSA 1S6 Telephone (604) 291-4166 FAX (604) 291-4920 Home: 4989 Ross Road Mt. Lehman, British Columbia Canada, VOX 1V O Telephone (604) 856-2145 FAX (604) 856-1833

Education: A.B. 1967 (Economics, with distinction) University of California, Berkeley Ph.D. 1973 (Economics) University of California, Berkeley--Specializations: Industrial Organization, Antitrust Policy and International Trade-Thesis Supervisor: Joe S. Bain Jr. Honors, Awards, Grants: -Phi Beta Kappa (1967) -Special Career Fellow, Berkeley (1967-1971) -Graduate In-Trust Award, Berkeley (1971-1972) -President's Research Grant, Simon Fraser University (1974 and 1978) ~Canada Council Research Grant (1978) -Max Bell Foundation Research Grant (1983-1984) -Research Fellow. University of Tromso and Norwegian School of Economics and Business Administration (1986) -Exce11ence in Teaching Award, Simon Fraser University (1991) Teaching Interests: Industrial Organization Public Policy towards Business Business, Government and Society Business Strategy NOV 4 '93 22:33 6048561833 PAGE.006

2 Employment: -Instructor, thf:n Assist,mt Prnfc!i&u1·, llum .A8l$ociatc Professo~. I le-part 1lk"11l uf Et:uuomic~ and Faculty of Hucinom; Administration, Simon Fraser University (1972-present) -Visiting Associate Professor, Helsinki School of Economics and Business Administration (Spring Term 1986, 1987, 1988, 1989, 1990, 1991, 1992, 1993) -C.ommiliisioner, Province of British Columbia, Resources Compensation Commission (1992) Publications: A. Books, Monographs, Technic:al Stuuics; Report oft lle Commission ofl nquiry_into Compensation for the 1a1ango/ J<esource Interests (V1ctona, B.C.: Queen's Pnnter, 1992) R. Schwindt, sole Commissioner Business Administration Reading Li~ts and Course Outlines. third edition, 14 volumes (Duke Station, NC: E110 Rive1' Prc;ss, 1991) An Analysis of Venlcal lnregratfon and Diversification Strategies in tlie Canadian Forest Sector, Research MonograJ?h (Vancouver: Forest Economies and Policy A1\aly:m; Pruj~(..i, University of British Columbia, 1985) Business Administration Reading Lists and Course Outlines, (co-edited with James W. Dean) second edition, 12 volumes (Duke Station, NC: Eno River Pres!\t 1985) Industrial 0'8.anization of tire l'acific Fisheries, Research Monoiraph (Vancouver: Commi&l\ion on Pncific Fisheries Policy, 19"81) RtJ,'iinP:t'i Admini~rrnriorr Readina Lists and Coursa Outlinos, ( oo edited with James W. Dean) first edition, 14 volumes (Duke Station. NC: Eno River Press, 1981) The Existence and Extrci.se of Corporate Powar · A Case Study of MacMillan Bloedel Limited, Study 15 (Ottawa: Royal Commission ort Corporate Concenti'aLiuu, 1977) The Real Cost of the British Columbia Milk Board (with H. Grubel) (Vancouver: Fraser Institute, 1977) B. Chapters in Books: ''The Regulation of Salmon Aquaculture: an International Overview," (with T. Bjorndal) In K. Ileen, R. Mor1alu111 auu F. Utter, eds. Salmon Aquaculture (Oxford: Blackwell, 1993) pages 209-219

"Iult:llectual PmJJr.rty Rfghts: Anti-competitive Abuses and Competition Pohcy Antidotes," (with S. Globerman) in RS. Khcmani and W.T Stanbury editors, Cunudiun Competition Law and Policy at tlie Centenary (Halifax: Institute for Research on Public Policy, 1991) pages 463·496.

11- 4-93 THU 19:38 RSchwind~ P.02 'fe stin~ HYjlothese~ aboul Business·Government Relations: A ~tlt~~~~~ ~~~.F.~E~~J~' (~1n Raea1Ch Issues and EmpfricaJ Studies (Greenwich, CN.: JAi Press Inc., 1990) pages 289-322 (note: revision of a 1985 paper). -rhe Structure of Salmon Markets: Implications for Forecasting,• (with T. Bjorndal), In D. Devoretz, ed., Salmon Price For«asts for tlle 1990s (Vancouver: Department of Fisheries and Oceans, 1990). "The British Columbia Forest Sector," Chapter 6, and 'The Pacific Salmon Fishery," Chapter 7, in T.Gunton and J.Richards eds., Resource Rents and Public Policy in We.stem Canada (Halifax: Institute for Research on Public Policy, 1987) pages 18l-248 "The Dual: the Market and Planning, "Chapter 7 in J.Richards and D.Kerr eds., Canada, U?tat'.f uft (Edmonton: NeWest Prcs.5, 1986} pages 113-127 "Business-Government Relations: Towards a. Synthesis and T~t or HY)>!>thcs!s," (with S.Oloberman) in V.V.Murray ed., Tlreories of Busi~ss-Oovemment Relations (Toronto: Trans-Canada Press, 1985) pages 243-263 "Business and Society: a Review of the Work of the Royal Commission; In P.Gorecki and W. Stanbury eds., Perspectives on tlie Royal Commission on CorfJPrate Concentration (Scarborough, Ont.: Butterwonhs, 1979) pages 271·301 •A Pessimistic View of Specialization A~reements, • In N.Orvik ed., Caruula and the European Comm1u11ty (Kingston. OnL: Centre for International Relations, 1978) pages 64-75 C.Artldes: "An International Analysis of the Industrial Economics of Salmon Aquaculture," (with T. Bjorndal), International Institute of Fisheries Economics and Trade: Proceedings of tlze W JJienniaJ Conference, 1992, pages 1031-1046. "Have a Hean: lncreasin~ the Supply of Transplant Organs for Inrants and Children," (with A.Vin1ng),Joumal of Polley Analysis and Management, Vol.7, No.4, Fall 1988, pages 706-710 "Proposal for a Future Delivery Market for Transplant Organs,• (with A. Vinl ng), Journal of Health Politics, Policy and LaW, No. 3, Fall, 1986, pages 483-500 'The Organization of Vertically Related Transactions in the Canadian Forest Products Industries," (with S.Globerman), Journal of Economic Bel1avior and Organization, Vol. 7, 1986, pages 199-212 "Testing Hypotheses about Business-Government Relations: A Study of the British Columbia Forest Products Industry,• (with S.Globerman), Research in Corporrlte Social I'erformance and Poliey··A Researc/1/oumal, Vol. 7, 1985, pages 103-136 NOV 4 '93 22:38 6048561833 PAGE.002

11- 4-93 THU 19139 RSehwl~d~

~ 'Harve~ting Cana~ian Fish and Ren~: AP artial Re~ew of the ~~!~~{~~~~~~~~mZ·:l~llh pages 347-367 · "Struc:tural Change In the Canadian Pacific Salmon Fishery," Tise Canadian Joumal of Regio11Q/ Science, No. 2. Autumn, 1984, pages 195-210 'Structure of the British Columbia, Washin1ton and Oregon Hotel Industries-A U>mparative Analysis, (with T.Var) JoumQ/ of Travel Researcli, No. 1, Summer, 1980, pages 2-8 •A dvenising, Direct Foreign Investment and Canadian Identity," (with B.Schoner), Canadian R4view of Studies in Nation"alism, No. 1, Spring, 1980, pages 127-150 "'The Pearse Commission and Industrial Organization of the British Columbia Forest Industry," B.C Studies, No. 41, Spring, 1979, pages 3-35 "Industrial Structure of the British Columbia Traveller Accommodation Sector: An Apf.lication of the Industrial Organization Model to Service ndustrles." (with T.Var) JoumQ/ of Travel Research, No. 4, Spring, 19'78, pages 21-29 "Bank Acl Revision In canada: Pa'it and Potential Effects on Markel Structure and Competition,• (with James W. Dean) Banca NazlonQ/e de/ Lavoro··Qua11erly Review, No. 116, March 1976, pages 19-49 "Compc:titlon In C&nadian Financial Markets," (with James W. Dean) Proceedings of a Conference on Bank Structure and Competillon, Federal Reserve Bank of Chicago, 1974, pages 196-200 D. Book Reviews and Abstracts: "A Taxonomy of International Bankfne-•(with James W. Dean), abstracted in Atlantic Econom1cJoumal, No. 3, September 1985, page 82 Review of David W. Green, The Canadian Financial System Sinu 1965, In CanadianJouma/ of Economics, No.3, August 1977,(with James W. Dean) pages 518-519

Con.orultancy: Anti-trust lltlgadon support for the Bureau of Competition Policy in cases Involving:

merger in the pulp and paper Industry lumber milllng and plywood manufacture petroleum refining merger in dairy processing refusal to deal in automobile parts tied selllng in computer maintenance services merger in t'ood services supply merger in flour milling

Private sector anti-trust litigation support In cases Involving: heavy con.~truction equipment distribution motion picture distribution building materials buying group practices metalurgical coal retail grocery distribution automobile Insurance

" ........ - ... -:. ............................ _.. ..... _...._ .._._ ...... "······· 7"18 u Exhibit " B "refontl to I• tM olfldavlt of Ric:bcnl W. Schwindt u.~ l'WOm &efor1 ,,.. Jaemn, thu --4./-----uy of NOCI. 1993 m-A Comminionn, 1tc. DAVID PATTERSON larrl•ter • Sollcltor not . 2790 TR!THIWEY STREET Cll!ARIROOIC, •.c. var :IR1 NOV 4 '93 22:40 6048561833 PAGE.003

11- 4-93 THU 19:44 RSchwindt P.02 I have been asked by Osler Hoskin and Harcourt to provide my opinion, as an economist, on the consequences of the proposed remedies in the matter of the Director of Investigation and Research v. Air Canada et al.

At the outset it should be recognized that the proposed remedies have been developed within the context of very definite findings. My opinion is conditioned by

a number of givens which are set out below.

A Givens 1. The survival of Canadian Airlines International (CAI) would have positive effects on the level of competition in the domestic Canadian airline indusuy.

This implies that the failure of CAI and the subsequent dispersal of assets would not facilitate the entry of other air carriers. It also assumes that current restrictions on foreign ownership of Canadian air carriers and cabotagc rights remain unchanged.

2. The original Coruent Order properly addressed the competition issues raised by the erger which resulted in tire creation of Gemini. Specifically, the operation of Gemini, as conditioned by the Conse1ZI Order, did not and is not likely to result in a substantial lessening ofc ompetition in either the Canadian airline or computer reservation system (CRS) markets in Canada.

I have reviewed the original U.S. avit Aeronautic Board's (CAB) rules dealing with CRS operations, the terms of the original Consent Order and the findings of the Competition Tribunal as set out in its Order of April 22, 1993. I am satisfied that with the benefit of hindsight it is possible to conclude that the Gemini merger, as conditioned by the Consent Order, "passed the test" in terms of the Merger Enforcement Guidelines of the Director of Investigation and Research (DIR).

In general, a merger will be found to be likely to prevent or lessen competition substantially when the parties to the merger would more likeJy be in a position to exercise a materially greater degree of market power in a substantial part of a market for two years or more, than if the merger did not proceed in whole or in part.1

Certainly if Gemini had resulted directly in a substantial lessening of competition, say, through facilitation of collusion by the airline partners the situation would be very different. In such a case, reconsideration of the merger and

1 Guidelin~s, p. i.. NOV 4 '93 22:42 6048561833 PAGE.002

11- 4-93 THU 19:44 RSchwind~ P.03 2 contemplation of extreme remedies (e.g., unwinding) clearly would be in order. 3. The swvival of CAI is contingent upon an alliance wills AMR, and such an alliance is conriJisent upon CAi's extrication from Gemini. This assumption is based upon the evidence of the Director of Investigation and Research (DIR) which was accepted by the Competition Tribunal. I am not in a position to test the proposition that the proposed alliance is the only, or best means to preserve CAI, or that the alliance is truly contingent upon an unwinding of Gemini.

4. The costs to tlie remaining Gemini partners of the withdrawal of CAI exceed the d/J'ect costs associated with tire transfer of assets as set out in tlie DIR'$ proposed remedies.

Under the terms of the proposed remedies the direct costs of transferring the "Canadian Data Base" and "such other assets" to CAI will be borne by PWA and CAI. There are, however, additional opportunity costs (e.g., foregone revenues) borne by the remaining partners for which there will be no compensation under the terms of the proposed remedies.

B. Merits of the Proposed Remedies To evaluate the merits of the proposed remedies, some criteria must be imposed. Conventionally, economists attempt to appraise public policy in terms of efficiency and equity (i.e., fairness).

1. The Context Economists generally assume that under normal conditions private contracting results in the allocation of resources to their bjghest value use. In the case at hand normal conditions do not prevail, in part, because of government participation in the contracting process.

CAI is in financial difficulty and has "shopped" for a partner or purchaser. Its best offer has come from AMR Corporation, the parent of American Airlines. AMR has offered CAI an equity investment of $246 million for a 25 percent voting interest In the company. The terms of the offer require that CAI be free of any

liability to Gemini. Presumably the value of the participation to AMR would be lower (and the offer would be lower) if CAI remains liable to Gemini. In the result, CAi's shareholders have an incentive to minimize (at the extreme, nullify) this obligation. Symmetrically, the remaining Gemini partners have an incentive to maximize the obligation and to insure that it is discharged. At issue is who will bear the cost of CAJ's liability to Gemini?

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11- 4-93 THU 19:45 RSchwindt P.04 3 Under norma1 conditions liability for damages would be borne by CAI and the extent of damages would be determined either through negotiations or the courts. In this instance negotiations have been complicated by the existence of public policy concerns resulting in government intervention. The DIR has

concluded that the failure of CAI will have anti-competitive effects on the domestic airline market and consequently would generate significant social welfare costs. In

effect, stalled negotiations might frustrate the participation of AMR and lead to the failure of CAI. CAI perceives that in pursuit of social welfare goals, government

will facilitate the AMR transaction by minimizing or nullifying its obligations to Gemini. On the other hand, the other Gemini partners perceive no advantage in

facilitating CArs low cost or no cost exit from the partnership.

The DIR's proposed remedies, if implemented, would minimize CArs financial liabillty to Gemini. In effectt the remaining partners would be forced to bear the costs (other than the immediate costs of switching the hosting of CAI from Gemini to Sabre) of CArs exit from the partnership. This raises both efficiency and equity concerns.

2. Direct Efficiency Consequences of the Proposed Remedies From an efficiency perspective there is no clear rationale for imposing the costs of CAi's exit from Gemini on the remaining partners. Given Air Canada's financial difffcultles, admittedly not as severe as CArs, this additional burden could

have manifoldt but difficult to identify, impacts. The loss of revenues and/or increased costs of operating Gemini without CAI would have to be made up in some

manner and this would f mpact on the operations of the partners. Bearing these costs would increase the fragility of Air Canada's financial position. Similarly, it is difficult to identify the impacts on CAI if it were required to fulfill its financial obligations to Gemini. However, it is arguable that CAI shareholders would accept a tower price from AMR given the alternative. Since CAI is technically bankrupt the options are a lower payment from AMR or accepting the break-up value of the airline. Presumably the former is preferable to the latter.

In any event, there is no clear efficiency rationale for imposing the exit costs on the remaining Gemini partners. There are, however, equity and ancillary efficiency considerations which argue against imposing the costs in this way.

3. Equity Considerations The primary equity issue raised by the proposed remedies involves a redistribution of wealth. Dissolution of the merger (or any of the alternative remedies proposed by the DIR) effectively imposes costs upon a direct competitor,

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4 Air Canada, the other partners. and potentially other hosted services and suppliers. In normal circumstances competition policy commonly results in reallocations of wealth. Specifically, effective policy curbs the exercise of market power which in tum reduces monopoly returns. From an equity perspective this is generally viewed as acceptable because in competitive markets enterprises are not expected to, and have no right to receive such super~normal returns. In the case at hand. however, the remedies impose substantial costs upon parties to the merger who have not reaped monopoly returns as a result of the merger. In this sense, the proposed remedies raise serious equity concerns because they entail an arbitrary imposition of costs.

From a fairness perspective there is no reason to assume that Air Canada shareholdel"St and the other stakeholders in Gemini, are less worthy than the owners of CAI. Indeed, it might be argued that investors in CAI voluntarily assumed the rl.iiik and therefore should bear the costs of poor economic performance.

4. Ancillary Efficiency Considerations The proposed remedies run the risk of introducing inefficiencies beyond this tran.'iaction. Broadly, the implementation of these remedies will introduce uncertainty about the stability of understandings reached with the Director of Investigation and Research, either in the form of consent orders or other undertakings. This in turn could have wider ranging adverse effects if it discourages mergers that are otherwise efficiency enhancing.

The Consent Order in this case appears to have done what it was intended to do. The Order was recognized as behavioural, it constrained the manner in whf ch the partnership and the partners were to operate. The parties, including Air

Canada, fulfilled the expectations of the Order. Moreover. there is no evidence that changed circumstances have allowed the partnership or the partners to behave in a manner which evades the Jetter or the spirit of the Order. Now, as a result of changed struct1,Iral circumstances (the impending failure of CAI) and the behaviour of a competitor not party to the Order (the alliance condition imposed by AMR) the merger is viewed as anti-competitive by the DIR. Clearly, extcma11y influenced structural changes and the behaviour of third parties could not be foreseen, and cannot be controlled, by the partnership or the partners.

Implementation of the proposed remedies will have several adverse effects on the consent order process. First, parties to such orders will have to consider the likelihood that exogenous structural changes will render their merger anti· competitive and subject to a forced unwinding. This uncertainty, which will complicate negotiations with the DIR, will increase as the period of exposure to review increases. Put differently, if structural changes in the distant future can

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11- 4-93 THU 19:47 P.06 RSchwind~ trigger a review, this generates greater uncertainty over the durability of a merger or a consent order conditioning a merger.2

Second, because the remedies accommodate conditions imposed by a third party, this would provide an incentive to third parties to attach such conditions in the hopes that government will enforce them. This too will complicate the framing of consent orders because parties will have to consider not only future structural change, but also the strategic behaviour of competitors and other private interests.

Finally, the use of the bJunt instrument of dissolution will further complicate the consent order process. At present there are very limited options open to the

DIR and the Competition Tribunal in the event of a finding of "changed circumstances" as set out in section 106 of the Competition Act. Either the parties agree to a revised order or the merger is dissolved. Because it can be far costlier to unwind a merger than to enter into one, parties may be forced to agree to terms which they would not have agreed to in pre-merger consent order negotiations. In the result, parties to a consent order wiJI have to consider possible hold-up strategies should the merger be reviewed under the changed circumstances provisions of the