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UNITED STATES v. GENERAL DYNAMICS CORP.

April 13, 1972

UNITED STATES OF AMERICA, PLAINTIFF,
v.
GENERAL DYNAMICS CORPORATION ET AL., DEFENDANTS.



The opinion of the court was delivered by: Robson, Chief Judge.

DECISION ON THE MERITS

In this antitrust divestiture action, the Government attacks the 1966 merger of General Dynamics Corporation with The United Electric Coal Companies (United Electric). The Government bases its complaint upon the contention that the General Dynamics-United Electric merger violated Section 7 of the Clayton Act. 15 U.S.C. § 18.*fn1 The jurisdiction of the court pursuant to 15 U.S.C. § 25 is undisputed. After a trial on the merits and evaluation of the massive quantity of evidence submitted by the parties,*fn2 this court is of the opinion that judgment should be rendered for the defendants.

I. THE DEFENDANTS

General Dynamics

The defendant General Dynamics Corporation (General Dynamics) is a Delaware corporation with its principal executive offices located in New York. General Dynamics is a large, diversified corporation selling to government services and agencies, as well as to industrial and commercial customers. Over 85 per cent of General Dynamics' annual sales are to government services and agencies, and principally consist of aircraft, space, communications, and marine products. General Dynamics' sales to industrial and commercial consumers include commercial communication equipment, building materials, lime, machinery, and the subject of this litigation: coal.

The evidence at trial reveals that General Dynamics acquired Material Service Corporation (Material Service) in 1959, as part of its attempt to diversify into commercial, nondefense business. Material Service was at that time a midwest producer and supplier of building materials, concrete, coal and limestone; it owned all of the stock of the defendant Freeman Coal Mining Corporation (Freeman) and 34 per cent of the outstanding stock of the defendant United Electric.

At the time of the General Dynamics-Material Service merger, General Dynamics was also seeking diversification through development of commercial products stemming from such subsidiary programs as the Convair 880/990 jet transport; Canadair's commercial turbo-prop CL-44 and CL-540 aircraft; General Atomic's nuclear research maritime and power reactors; Liquid Carbonic's industrial gases; and Stromberg-Carlson's telephone and high fidelity sound equipment. By the time of trial, however, these diversification ventures had been discontinued or sold, with the exception of Stromberg-Carlson's communication equipment business. In the early 1960's, General Dynamic's Convair Division phased out its commercial jet transport production program. During 1967, General Dynamics sold General Atomic to Gulf Oil Corporation, and in 1969, as a result of an adverse decision in United States v. General Dynamics Corp., 258 F. Supp. 36 (S.D.N.Y. 1966), it sold Liquid Carbonic to Houston Natural Gas Corporation.

Freeman Coal Mining Corporation

The defendant Freeman is an Illinois corporation headquartered in Chicago, Illinois. Freeman was acquired by the Burton Coal Company in 1922, the same year it acquired its first mine, the Bobby Dick, located in Williamson County, Illinois. Throughout its history, Freeman's mining operations have been centered in Jefferson, Franklin and Williamson counties in the Southern Illinois Freight Rate District.*fn3 In addition, it has operated the Crown Mine in the Springfield Freight Rate District located in central Illinois.

Material Service acquired Freeman and the assets of Burton Coal Company, both of which were in bankruptcy, in 1942. Empire Building Corporation which, like Material Service, was controlled by the Henry Crown family, acquired the stock of the Chicago, Wilmington & Franklin Coal Company (CW&F) in 1954. After the acquisition of CW&F stock by Empire Building Corporation, Freeman operated the mines of CW&F and sold the coal which they produced. Thus from 1955 forward CW&F and Freeman were, for all practical purposes, one coal company.

Among 37 coal producers in the midwest, Freeman ranks eighth in terms of coal reserves in Illinois, Indiana and western Kentucky, but controls less than four per cent of the total midwest reserves controlled by these companies in 1968. Of the nine "leading" Illinois coal producers*fn4 reporting their coal reserves, Freeman ranks sixth in reserve holdings. Of the 11 "leading" producers in the three-state area, Freeman ranks seventh in reserve holdings. Freeman controls 6.5 per cent of the more than 2 billion tons of coal reserves dedicated to existing mines in Illinois, Indiana and western Kentucky as of 1968.

While Freeman's reserves in central Illinois are of relatively low BTU value*fn5 and have a sulphur content of over three per cent, substantially all of the reserves and production at Freeman's Orient mines are high quality, high BTU coal with a sulphur content of less than 2.5 per cent, and ranging as low as one per cent. Approximately one-half of Freeman's other reserves in Williamson and Jefferson counties have a sulphur content of less than 1.5 per cent.

Approximately eight per cent of Freeman's production is sold for metallurgical purposes, and an additional 10 to 11 per cent is sold as dust.*fn6 All of Freeman's mines are deep shaft operations and, aside from its relationship with United Electric, Freeman does not appear to have ever operated any strip mines and apparently possesses neither experience nor expertise in strip mining. None of Freeman's mines or coal reserves are located in a Freight Rate District in which United Electric operates a mine or controls reserves.

The United Electric Coal Companies

The defendant United Electric was formed in 1919 as a consolidation of several coal properties located in the vicinity of Danville, Illinois. United Electric presently operates only the following four strip or open pit mines, all of which are in Illinois: the Cuba Mine located in Fulton County and opened in the early 1920's; the Fidelity Mine located in Perry County and opened in 1928; the Buckheart Mine located in Fulton County and opened in 1937, and the Banner Mine located in Fulton and Peoria counties and opened in 1960. In addition, United Electric has operated the following strip mines for the periods of time indicated: the Freeburg Mine located in St. Clair County, Illinois, was reopened in 1936, having been idle since 1933, and was closed in 1949; the Solar Mine located in Schuyler County, Illinois, was opened in 1945 and was closed in 1949; the Buffalo Creek Mine located near Madisonville, Kentucky, was opened in 1947 and was closed in 1959; the Skyline Mine located in Breathitt County, Kentucky, was opened in 1952 and was closed in 1956; and, finally, the Mary Moore Mine located in Vermillion County, Illinois, was opened in 1955 and was closed in 1965 upon the exhaustion of strippable reserves. United Electric also had a small deep coal mine in the 1920's and an underground mining operation at its Buffalo Creek Mine from June of 1952 until 1954. The evidence indicates that although United Electric was the largest strip coal mining company in Illinois in 1948, during the succeeding 20 years it opened only two new mines in the midwest (Banner and Mary Moore) and closed four mines (Solar, Freeburg, Buffalo Creek, and Mary Moore). Furthermore, it was shown at trial that the Cuba Mine was likely to close in the immediate future, while the Banner Mine would be exhausted in approximately five years.

Ownership and management of United Electric remained essentially the same from the late 1930's until 1954, when Material Service acquired 10 per cent of United Electric's stock. This acquisition was disclosed that year to both the Government and United Electric's stockholders. During the course of the next few years, Material Service increased its ownership in United Electric; by 1959, Material Service controlled more than one-third of United Electric's outstanding stock. That year Material Service (and Freeman, its wholly-owned coal subsidiary) requested and received representation on United Electric's Board of Directors. As a result, Frank Nugent, President of Freeman, was made Chairman of United Electric's Executive Committee.

With the affiliation of Freeman and United Electric thus formalized in 1959, common control of the two coal companies was achieved.*fn7 This development was immediately disclosed to the public, as well as to competitors and customers of both Freeman and United Electric. Within months, Material Service was itself acquired by General Dynamics. An investigation by the Antitrust Division of the Department of Justice ensued, during which the Government was furnished information with respect to the stock ownership of Freeman and United Electric. No further action was taken by the Government.

During the early 1960's, General Dynamics continued to purchase United Electric stock, and, by 1966, immediately prior to its tender offer for the balance of United Electric's outstanding shares, General Dynamics held 66.15 per cent of the outstanding shares of United Electric's stock. In addition, throughout this period, the Material Service Profit Sharing Trust owned approximately 6.8 per cent of the outstanding stock of United Electric. General Dynamic's control of United Electric was continually disclosed to the public throughout the 1960's.

At the Board Meeting of General Dynamics on September 30, 1966, the directors authorized a tender offer to purchase the remaining outstanding shares of United Electric. That tender offer was successful: as of December, 1966, General Dynamics had acquired at least 90 per cent of the outstanding shares of United Electric stock, and shortly thereafter United Electric became a wholly-owned subsidiary of General Dynamics. The Government then filed this action on September 22, 1967, challenging the legality of the United Electric-General Dynamics affiliation under Section 7 of the Clayton Act.

The four operating United Electric mines (Cuba, Buckheart, Banner, and Fidelity) produced 5,750,000 tons of coal in 1967. As of December 31, 1969, United Electric's midwest coal reserves were down to approximately 118,000,000 tons.*fn8 Only 52,000,000 tons, consisting of Illinois strip reserves dedicated to United Electric's four existing mines, were shown at trial to be economically mineable. Significantly, all but 4 million tons of the economically recoverable coal reserves of United Electric have been sold under long term contracts. The balance of United Electric's coal reserves consists essentially of strip reserves at the Industry Field in McDonough and Schuyler counties in Illinois, and undeveloped deep reserves in the Round Prairie Field in the Belleville Freight Rate District.

Among 37 coal producers in Illinois, Indiana, and western Kentucky, United Electric ranks eleventh in coal reserves, with less than one per cent of the total midwest reserves controlled by these companies in 1968. Of the nine "leading" Illinois producers*fn9 that reported their reserves, United Electric ranked eighth in reserve holdings. Of the 11 "leading" producers in the three-state area, United Electric ranked tenth in reserve holdings. Of the more than 2 billion tons of coal reserves dedicated to existing mines in Illinois, Indiana and western Kentucky, United Electric controlled 52,033,304 tons (of which only 4 million tons were contractually uncommitted) or approximately 2.5 per cent.

In contrast with Freeman, all of United Electric's production and coal reserves have an average sulphur content greater than 2.5 per cent. Furthermore, United Electric produces virtually no metallurgical coal. Combining statistically the reserves and production of United Electric and Freeman the result is as follows: The two companies together control 4.81 per cent of the total coal reserves in Illinois, Indiana and western Kentucky,*fn10 and account for 10.9 per cent of the area's production, a more than 10 per cent decrease in the combination's percentage of such production since 1959.

II. BACKGROUND OF THE COAL INDUSTRY

Coal mining today is undergoing a period of rapid and pervasive change. Major readjustment in the structure and patterns of coal production and distribution has been required, and continues to be required.*fn11

Changes in the Demand for Coal

     Emergence of Utility Demand as the Principal Market for
                              Coal

As a result of market losses to other forms of energy, the utility market has become the mainstay of coal production, although the use of coal has not kept pace with the growth of utility output. In the utility market, coal also faces competition from other sources of energy, including not only natural gas, oil, and nuclear fuel, but also such emerging competitors as pumped storage*fn13 and geothermal energy.*fn14 The evidence clearly indicates that coal's present dominant position in the utility industry will suffer increasing erosion, and nuclear energy may eventually displace coal entirely as an energy source for midwest utilities. Ernest Tremmel, Director of the Division of Industrial Participation of the United States Atomic Energy Commission, testified that, in the long term, electricity could be generated at the lowest cost by a utility system combining nuclear and pumped storage facilities, together with gas turbine peaking units.

More immediately, air pollution abatement regulations will have an adverse impact on coal during the next 10 to 20 years due to their effect on interfuel competition and consumption patterns of coal. A number of witnesses testified that there is and will continue to be a tendency to turn to other fuels, such as gas, oil, and nuclear energy, as a means of coping with air pollution abatement regulations. The net effect of this trend will be an increase in the consumption of these fuels at the expense of coal. In their report to the Federal Power Commission, the West Central Region Advisory Committee*fn15 predicted that in the midwest, coal's share of the electric utility market would decline from 72.2 per cent in 1966 to 22.2 per cent by 1990, and nuclear energy's share will increase from one per cent to 69.7 per cent in the same period. The report specifically stated that:

    "During the period 1970-1990, electric generation
  will be dependent upon five basic forms of energy —
  coal, gas, oil, hydro, and nuclear. . . . Coal,
  however, will be faced with continuing

  pressures from other forms of energy, and based on
  present trends the most significant competition will
  be from nuclear energy." Defendants' Exhibit 257, p.
  II-9.

Thus, the competitive situation within the energy market as a whole is already more fluid than it has ever been before and will become increasingly so in the future. Dr. Bruce C. Netschert, an expert in energy economics, testified that:

    "Competition is today more severe, more keen, among
  the fuels and between the fuels and between the fuels
  and electricity, and . . . intersubstitutability is
  also greater than it has been before. . . . [B]oth
  this competition and this intersubstitutability is
  likely to increase in the future. The choice facing
  the consumer is wider than ever before and will
  become still wider. Netschert Deposition, p. 53.

Changes in the Production of Coal

The fact that coal continues to be one of the suppliers of the energy requirements of the electric utilities reflects the success of coal producers in delivering coal at a low cost per BTU.*fn16 That coal producers have been able to do this, despite sharply rising costs, reflects the technological revolution that has led to enormous increases in productivity, and to the ability to negotiate bulk shipment and unit train freight rates. The testimony and exhibits indicate that both coal prices and coal rail rates have increased far less than other prices in the economy.

Since 1947, despite a substantial rise in the level of the wholesale price index and labor costs, the delivered price of energy from coal has remained relatively stable. In fact, allowing for inflation, the price of coal at the mine mouth today is actually less than it was at the beginning of the postwar period. Defendants' Exhibit 85, Tables XX, XXI, XXIV. Since World War II, wage costs and fringe benefits have increased markedly in the coal industry. There has been a virtual revolution in mining technology, with the introduction of wholly new techniques, significant improvement in old techniques and a substantial increase in scale. The evidence shows that the effect of these technological changes has been to increase productivity (as measured in output per man-day) sufficiently to enable the f.o.b. mine price of coal to be kept competitive and relatively stable in the face of general inflation in wholesale prices. E.g., Defendants' Exhibit 85, p. 4. Since World War II, the increased competitive pressure on coal in the utility market has led to increased pressure on the railroads to offer lower rates and has generated major technological innovations in railroad transportation, such as the unit train, which have permitted lower freight rates.

Changes in the Structure of the Coal Industry

The effect of the changes since World War II in the patterns of coal consumption and marketing, in labor costs, in mining technology, in productivity, in coal preparation procedures and in transportation costs has been to enhance the economies of scale production and to greatly increase capital requirements. This, in turn, has led to an increase in the size of mines. The parties stipulated that 83 per cent of the coal produced in 1967 in Illinois, Indiana and western Kentucky, for example, was produced at mines with annual production exceeding 1 million tons; and 49 per cent from mines producing more than 2 million tons a year. Moreover, of the 36 mines placed in operation or announced in Illinois, Indiana and western Kentucky since 1958, none was smaller than 500,000 tons annual capacity, 29 were of a 1,200,000 tons annual production size or greater, and 20 produced or will produce 2 million tons or more per year. Defendants' Exhibit 87, Table 4. Clearly, mines of this size can only be operated by large coal producers. A 2 million ton strip mine, for example, would cost between $12.7 million and $23.5 million to construct, depending upon the overburden ratio,*fn17 and would necessitate 40 million tons of coal reserves. Defendants' Exhibit 87, Table 5a.

There are fundamental differences between the mines of the eleven "leading" coal producers (as designated by the Government) in Illinois, Indiana and western Kentucky and the mines of the approximately 26 other coal producers. The latter are typically located in the West Kentucky or Southern Illinois Freight Rate Districts; have extremely limited coal reserves; produce small annual tonnages; operate only under very favorable strip mining conditions or are shallow deep mines; do not have substantial processing facilities; have limited transportation facilities; and usually sell through agents or dealers rather than directly to customers. These smaller producers rarely sell under long-term contracts with utilities. They do not and cannot constitute a substantial supply source for the energy requirements of electric utilities. As the testimony of a number of witnesses indicated, small producers are, for all practical purposes, in a "different business."*fn18

The increasing predominance of the electrical utilities as purchasers of steam coal, the increase in the designed capacity of new electric generation units, and utilities' insistence on a large, reliable, and low-price source of fuel over the 20 or 30-year life of a generating facility, have led to the emergence and survival of coal producers with large reserves, developing large mines which are devoted to serving a small number of customers on long-term contracts. The progressive disappearance of the small coal producers reflects the disappearance of the railroad market and the decline of the space heating market, the retail market and spot coal purchases by utilities.

Not only is this litigation devoid of any signs of anticompetitive performance and behavior in the coal industry, but rather the past performance of the industry suggests there has been intense competition among coal producers. The intense competition which midwest coal producers face is likely to increase even more in light of competition from nuclear energy and other alternative fuels, growing concern with air pollution, pressures from large, informed and capable buyers of coal, and the presence of a substantial number of viable coal competitors. From all of the evidence presented at trial, it appears that coal producers will be under continuing pressure to reduce costs and keep prices low if they are to continue to serve their last remaining large market for steam coal.

The Principal Market for Coal: The Utility Industry

Since 1946, a constantly increasing percentage of total coal production has gone to electric utilities as railroad, retail, and industrial markets have been lost to other fuels. See Defendants' Exhibit 85, Table I; Defendants' Exhibit 216. This trend was true in the midwest and will undoubtedly continue, according to the evidence presented by at least two knowledgeable witnesses.*fn19 Thus, while some 70 per cent of United Electric's 1967 sales were to electric utilities, by January 1, 1969, more than 82 per cent of United Electric's mineable reserves had been sold to electric utilities under long-term contracts. In 1967, approximately 75 per cent of the coal production in Illinois, Indiana and western Kentucky was shipped to electric utility generating stations. In each of the years 1965 through 1967, the largest coal customers in Illinois were steam electric utilities. It is undisputed that in 1967, 72 per cent and 89 per cent of the coal produced, respectively, in the Fulton-Peoria and Belleville Freight Rate Districts, where all of the mines of United Electric are located, was sold to electric utilities. Ninety-five per cent and 71 per cent of the coal produced, respectively, in the Springfield and Southern Illinois Freight Rate Districts, where all of the mines of Freeman are located, was sold to electric utilities.

The evidence demonstrates that in considering whether a particular coal mine can compete for the business of an existing power plant, several factors must be weighed. These include the cost of coal at the mine, the location of the mine relative to the consumer's plant, transportation costs, the BTU content of the coal and the suitability of the physical and chemical properties of the coal produced by a given mine for the particular plant facility involved. In the case of a new utility plant, coal supply arrangements are almost always made prior to plant construction, since the facility's coal burning equipment will be specially designed to handle the type of coal that is to be made available. Arrangements for transportation of the coal are also likely to be made in advance. As a result, the location and design of a plant are frequently determined by the coal supply arrangements that can be made.

Because of (1) the need to assure a supply of coal that satisfies the physical and chemical requirements of the equipment designed, (2) the complexities of administering multiple coal contracts, and (3) the development of large-scale transportation arrangements with their attendant economies, coal supply for large power plants is likely to be developed with relatively few producers. Indeed, many plants are supplied by only a single producer from a single mine opened specifically to serve that single facility. Such supply arrangements also exist in the case of mine-mouth generating plants where the adjacent mining property is expected to meet the lifetime requirements of the plant. In arranging for its coal supply, a utility will not only seek the lowest possible price per BTU of delivered coal, it will also seek assurance of the coal supplier's capability of providing the required quantities of coal over a long period of time. Utilities are therefore concerned about the reliability of the coal supplier and his past record of performance in satisfying contractual commitments. As one of the consumer witnesses emphasized, when a utility is arranging for the fuel supply for a modern generating station representing an investment of several hundred million dollars, it wants "to know that the people you sign a contract with are able to produce on their end of it."*fn20

The testimony also indicates that a utility consumer will weigh heavily its previous experience with potential suppliers and will carefully investigate the availability of adequate coal reserves within the supplier's control to satisfy the contractual commitments. The utility will seek independent geological verification of the existence and size of the coal reserve and the physical and chemical properties of the coal, as well as the producer's technological capabilities.*fn21 Since 1947, the average size of steam-electric generating plants, and units within those plants, has increased enormously. By 1966 the average size of new units being installed was almost as large as the combined total size of all units at existing plants. Defendants' Exhibit 86, Table following p. 9. The increasing size of electric power generating units and plants has been accompanied by an increase in the quantity of coal required at such facilities. A large, modern coal-fired generating unit of a thousand megawatt capacity would require, over its 30-year life, a total of 70 million tons, or approximately 2 1/2 million tons of coal annually. A plant containing three such units (a size shown by the evidence likely to become commonplace) would, therefore, require committed mineable reserves of well over 200 million tons.

A 1000 megawatt plant may cost as much as 150 to 200 million dollars. This major investment can be jeopardized by a disruption in the supply of coal. Utilities are, therefore, concerned with assuring the supply of coal to such a plant over its life. In addition, utilities desire to establish in advance, as closely as possible, what fuel costs will be for the life of the plant. For these reasons, utilities typically arrange long-term contracts for all or at least a major portion of the total fuel requirements for the life of the plant. Illustratively, of the 74 million tons of coal purchased in 1967 by midwest utilities (other than municipal utilities) from mines in Illinois, Indiana and western Kentucky, it is undisputed that approximately 76 per cent was purchased under contracts of five years or longer and 43 per cent was purchased under contracts of 15 years or longer duration.

The long-term contractual commitments are not only required from the consumer's standpoint, but are also necessary from the viewpoint of the coal supplier.*fn22 Such commitments may require the development of new mining capacity. As a rule of thumb, a mine capable of producing a million tons of coal annually required, in 1969, an investment of between six to ten million dollars. Coal producers have been reluctant to invest in new mining capacity in the absence of long-term contractual commitments for the major portion of the mine's capacity. Furthermore, such long-term contractual commitments are often required before financing for the development of new capacity can be obtained by the producer.

This trend toward long-term contractual commitments to meet the total requirements of a particular electric power generating plant has tended to eliminate the spot market for coal. From time to time, a utility consumer may purchase small quantities of coal on the spot market and long-term contracts are often written to permit some flexibility in this regard. However, because utilities are increasingly arranging for bulk transportation of coal supply on a long-term basis, the opportunities for spot purchases are declining except in those cases in which small mines may be located in such proximity to make them capable of providing some relatively small deliveries at low cost. Moreover, the rail rate cost advantages of trainload deliveries compared to carload deliveries are such as to limit the desirability of such spot purchases. The growing practice ...


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