Federal Trade Commission v. Advocate Health Care Network, 103116 FED7, 16-2492

Docket Nº:16-2492
Opinion Judge:Hamilton, Circuit Judge.
Party Name:Federal Trade Commission and State of Illinois, Plaintiffs-Appellants, v. Advocate Health Care Network, et al., Defendants-Appellees.
Judge Panel:Before Wood, Chief Judge, and Bauer and Hamilton, Circuit Judges.
Case Date:October 31, 2016
Court:United States Courts of Appeals, Court of Appeals for the Seventh Circuit

Federal Trade Commission and State of Illinois, Plaintiffs-Appellants,


Advocate Health Care Network, et al., Defendants-Appellees.

No. 16-2492

United States Court of Appeals, Seventh Circuit

October 31, 2016

Argued August 19, 2016

Appeal from the United States District Court for the Northern District of Illinois, Eastern Division. No. 15 C11473 - Jorge L. Alonso, Judge.

Before Wood, Chief Judge, and Bauer and Hamilton, Circuit Judges.

Hamilton, Circuit Judge.

This horizontal merger case under the Clayton Act depends on proper definition of geographic markets for hospitals. Defendants Advocate Health Care Network and NorthShore University HealthSystem both operate hospital networks in Chicago's northern suburbs. They propose to merge. Section 7 of the Clayton Act forbids asset acquisitions that may lessen competition in any "section of the country." 15 U.S.C. § 18. The Federal Trade Commission and the State of Illinois sued in district court to enjoin the proposed Advocate-NorthShore merger while the Commission considers the issue through its ordinary but slower administrative process. See 15 U.S.C. § 53(b); 15 U.S.C. § 26; Hawaii v. Standard Oil Co. of California, 405 U.S. 251, 260-61 (1972).

To obtain an injunction, plaintiffs had to demonstrate a likelihood of success on the merits. 15 U.S.C. § 53(b); 15 U.S.C. § 26; West Allis Memorial Hospital, Inc. v. Bowen, 852 F.2d 251, 253 (7th Cir. 1988). To show that the merger may lessen competition, the Commission and Illinois had to identify a relevant geographic market where anticompetitive effects of the merger would be felt. See United States v. Philadelphia National Bank, 374 U.S. 321, 357 (1963); Brown Shoe Co. v. United States, 370 U.S. 294, 323 (1962). Plaintiffs relied on a method called the hypothetical monopolist test. That test asks what would happen if a single firm became the sole seller in a proposed region. If such a firm could profitably raise prices above competitive levels, that region is a relevant geographic market. In re Southeastern Milk Antitrust Litig., 739 F.3d 262, 277-78 (6th Cir. 2014). The Commission's expert economist, Dr. Steven Tenn, chose an eleven-hospital candidate region and determined that it passed the hypothetical monopolist test.

The district court denied the motion for preliminary injunction. Federal Trade Comm'n v. Advocate Health Care, No. 15 C 11473, 2016 WL 3387163 (N.D. Ill. June 20, 2016). It found that the plaintiffs had not demonstrated a likelihood of success because they had not shown a relevant geographic market. Id. at ""5. The plaintiffs appealed, and the district court stayed the merger pending appeal. That stay remains in place.

Even with the deference we give a district court's findings of fact, the district court's geographic market finding here was clearly erroneous. The court treated Dr. Tenn's analysis as if its logic were circular, but the hypothetical monopolist test instead uses an iterative process, first proposing a region and then using available data to test the likely results of a price increase in that region. Also, the evidence was not equivocal on two points central to the commercial reality of hospital competition in this market: most patients prefer to receive hospital care close to home, and insurers cannot market healthcare plans to employers with employees in Chicago's northern suburbs without including at least some of the merging hospitals in their networks. The district court rejected that evidence because of some patients' willingness to travel for hospital care. The court's analysis erred by overlooking the market power created by the remaining patients' preferences, something economists have called the "silent majority" fallacy.

Part I lays out the facts of the proposed merger, the relevant economics, and the district court proceedings. Part II-A discusses briefly the relevant product market, which is not disputed. Part II-B addresses the disputed issue of the relevant geographic market, looking at the issue first generally and then with respect to hospitals. Part III explains what we see as the errors in the district court's analysis of the geographic market: in Part III-A, mistaking the nature of the hypothetical monopolist test; in Part III-B, the role that academic medical centers play in markets for general acute care; in Part III-C, patients' preferences for convenient local hospitals; and in Part III-D, the "silent majority" fallacy.

I. The Proposed Merger and the District Court Proceedings

In the United States today, most hospital care is bought in two stages. In the first, which is highly price-sensitive, insurers and hospitals negotiate to determine whether the hospitals will be in the insurers' networks and how much the insurers will pay them. Gregory Vistnes, Hospitals, Mergers, and Two-Stage Competition, 67 Antitrust L.J. 671, 674-75 (2000). In the second stage, hospitals compete to attract patients, based primarily on non-price factors like convenience and reputation for quality. Id. at 677, 682. Concerns about potential misuse of market power resulting from a merger must take into account this two-stage process.

Chicago area providers of hospital care include defendant NorthShore University HealthSystem, which has four hospitals in Chicago's north suburbs. The area surrounding NorthShore's hospitals has roughly eight other hospitals. Two of those hospitals belong to defendant Advocate Health Care Network, which has a total of nine hospitals in the Chicago area. A map of Chicago area hospitals included in the record is an appendix to this opinion.

In September 2014, Advocate and NorthShore announced that they intended to merge. The Federal Trade Commission and the State of Illinois took action in December 2015 by filing a complaint in the Northern District of Illinois seeking a preliminary injunction against the merger. The court heard six days of evidence on that motion. Executives from several major insurers testified. Some of the details of their testimony are under seal, but they testified unequivocally that it would be difficult or impossible to market a network to employers in metropolitan Chicago that excludes both NorthShore and Advocate. Additional evidence shows that no health insurance product has been successfully marketed to employers in Chicago without offering access to either NorthShore hospitals or Advocate hospitals.

The court also heard testimony from several economic experts, including Dr. Tenn. He used the "hypothetical monopolist test" to identify the geographic market relevant to the case. That test asks whether a single firm controlling all output of a product within a given region would be able to raise prices profitably a bit above competitive levels. Economists and antitrust cognoscenti refer to such a price increase as a "SSNIP, " a "small but significant [usually five percent] and non-transitory increase in price." U.S. Dep't of Justice & Federal Trade Comm'n, Horizontal Merger Guidelines 9 (2010). Dr. Tenn simulated the market's response to a price increase imposed by a monopolist controlling NorthShore's hospitals and the two nearby Advocate hospitals. He found that the monopolist could profitably impose the increase. He therefore concluded that the contiguous area including just those six party hospitals is a relevant geographic market.

Dr. Tenn also chose a larger candidate market to test, using three criteria. First, he distinguished between local hospitals and academic medical centers, which he rather inauspiciously called "destination hospitals."1 Academic medical centers draw patients from across the Chicago area, including the northern suburbs, even though they are not in the northern suburbs. Dr. Tenn excluded those hospitals from his candidate market, reasoning that patients require insurers to provide them more local and convenient hospital options. Second, Dr. Tenn identified hospitals that had at least a two percent share of the admissions from the same areas the parties' hospitals drew from. Finally, he included only hospitals that drew from both Advocate's and NorthShore's service areas.

Those criteria produced an eleven-hospital candidate market: the six party hospitals and five other nearby hospitals, without any academic medical centers. Dr. Tenn simulated the response to a price increase by a hypothetical firm controlling those eleven hospitals. He again found that the price increase would be profitable. He therefore concluded that the area around the eleven hospitals is a relevant geographic market. The plaintiffs focused their arguments on the larger, eleven-hospital market both in the district court and on appeal; they and we refer to it as the North Shore Area.

To test how robust his results were, Dr. Tenn also tested another, larger market, selected using less restrictive criteria. He added hospitals that drew only one percent of admissions from either NorthShore or Advocate's service areas, indicating a fifteen-hospital market. That area included Presence St. Francis, a hospital close to NorthShore's Evanston hospital. Dr. Tenn concluded that the larger area also passed the hypothetical monopolist test.

As part of his simulations, Dr. Tenn calculated the percentage of patients at each of the North Shore Area hospitals who would turn to each of the other available hospitals if their first choice hospital were closed. For example, he determined that if Advocate's Lutheran General Hospital closed, 9.3 percent of its patients would likely go to NorthShore's Evanston Hospital instead. These measures are called diversion ratios. Dr. Tenn calculated that for 48 percent of patients in the North Shore Area, both their first and second choice hospitals were inside the Commission's proposed...

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