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Report n°2: An integrated approach to economic and social contestability in business

Location and the downstream market

An important factor for the economic viability of recycling is a location close to the downstream market (meaning closer to the steel manufacturers who use recycled scrap metal), as this reduces the cost of transporting the material recycling produces. The materials may be transported by navigable waterway, rail or lorry. Whether or not the recycler can choose the least costly method (in view of the value of the material transported) depends on the available infrastructures for storage and loading and on what means of transport may be used to deliver to the customer. The means of transport identified differ (i) in what it costs to make them accessible, and (ii) in whether or not the recycler has exclusive access to the least expensive means of transport compatible with the customer's requirements. In this context, the cost of access means the cost of investment to connect the recycler's site to a public network over which the recycled material can be transported.

For recycling firms, the cost of access to the road network will generally be low: roads are essentially a public good and there is no rivalry or exclusivity in their use. The historic operator and new entrants both have equal access to this mode of transport. In the absence of other factors, and if the road network is the least expensive, its status as a public good means that the historic operator is exposed to external economic contestability. The situation is not generally the same for the two other modes of transport used.

To access the rail network, a recycling business must manage its production site to allow loading directly into the wagons, so the site must be near an existing freight line. The likelihood of the recycler being on a railway line (given the existing opportunities for freight transport) and the cost of the investment required to extend the line to a recycling site already equipped to current standards, are both factors that reduce the new competitor's chances of becoming established. A new entrant would have to satisfy two conditions to compete with the established business. He would have to site his business near an existing network; and he would need the investment funds to connect the recycling site to this network. There is thus a barrier to the entry of any new recycling operator who wants to compete with a historic recycler. He is unlikely to find an old industrial site within the boundaries of his targeted collection area that is already partly equipped(26), particularly one that is already linked to the rail network.

Similarly, transport via navigable waterway (using barges) assumes access to a port area with suitable facilities, and, ideally, the development of the business of recycling scrap metal in the port area itself(27). The costs required to equip such an area are again a barrier to entry, even ignoring the authorisations required and any legal restrictions. The new recycler would have to bear the cost of investment in specific assets even before he bought the first batches of material for recycling, assuming he was in a position to rely on collectors in business in his chosen collection area. At any rate, as a strategy, it is a long way from "hit and run".

The features of the location required for the business's downstream market are such that a potential new entrant cannot in the long-term challenge the economic position of a historic operator unless he has access to the least costly transport network. The exposure of the established recycler to external economic contestation by competitors is thus low; and the threat presented by the arrival of a new entrant at this level in the trading environment is hardly a real one. This conclusion is corroborated by two additional observations.

Firstly, the recycler will use several modes of transport, both for obtaining supplies and for delivering to the downstream market. The business must therefore be situated at the centre of several transport networks and access to them must cost as little as possible. Not many options fulfil this condition. Secondly, when the recycler occupies a site in a port area well-served by the three modes of transport, he will generally have a long-term lease. The specific investment both parties make means the contract is very likely to be renewed at the end of its term. This also reduces the probability of entry by a competitor.

This reduced exposure to the threat of contestation from a competitor means that relocation is associated with a significant opportunity cost: the chances of alternative premises offering the same advantages are very small, or even non-existent. It follows that the established recycler will be careful to anticipate any issues affecting his right to carry on business in the area where he is installed.

Using the same approach as we did for the input markets, we will now enhance the picture of economic contestability for the recycling operator, by considering the economic conditions of transaction between the recycler and his downstream customers.

(26) The new operator would need authorisation to use the site in question for the planned business

(27) This would make it easier to load the material coming from the shredder, and allow the recycler to change the composition of the material directly when loading into the barge.