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

Intermediate conclusion based on an analysis of the downstream market

Low transport costs are an important success factor for a recycling business, and these costs are reduced by a location that for the operator is ideal for access to the downstream market. More specifically, it is having the freedom to choose the least costly means of transport that gives one recycling business a definite competitive advantage over its competitors. Preferential or exclusive access at reduced cost to multi-modal hubs of transportation networks is an essential factor for the activities under study. In this respect, the recycler's degree of economic contestability is influenced by (i) the burden of investment required to equip an area for moving goods as inexpensively as possible (by navigable waterway), (ii) the cost of this means of transport and (iii) whether or not other existing or potential operators can use the same network within the reference area for collection. These economic conditions together increase the competitiveness of the historic operator compared with other existing recyclers.

Research into the assets necessary to carry on the business leads to the conclusion that for the downstream market, the recycler's degree of external economic contestability is low. This analysis is strengthened if the double view of "upstream market - downstream market" is taken into account. Whether the recycler has exclusive access to the assets (for instance, a site in a port area equipped for processing materials and used for loading and transporting them) or whether he does not (for instance, a site in the centre of a geographic collection area with high potential), location reduces his economic contestability compared with new operators (external contestability) or with upstream operators who want to compete with the historic operator.

However, the nature of the assets used to gain a competitive position and sustain transactions when the quality of the good is uncertain increases exposure to external contestation from environmental and health organisations. There are two reasons for this. The first is that it is economically impossible to avoid social contestation by relocating; the second is that, given the geographical position of the principal customer and what defines an ideal location, the business is bound to be near an urban area sensitive to any nuisance it causes. A site like this causes the residents to adopt a "challenging vigilance". However, vigilance does not inevitably result in a real social contestation for the recycling business.

A study of the methods of strategic mechanisms organizing the exchanges of recycled materials in the downstream market adds to the analysis of the recycler's level of external economic contestability.

External economic contestability is significantly reduced by the nature of the market demand (the quality produced is specific, because of the production equipment); by the near-impossibility of having several competing downstream customers (reduced access to national and international markets); and by solutions to the uncertainty over the quality of the batches of material delivered to the downstream market. However, the recycler remains exposed to an intermediate level of internal economic contestability, because vertical integration by the steel manufacturer poses a real entry threat, quite apart from its impact on activities in upstream part of the branch. The steel manufacturer has location assets that allow him to develop a similar activity, and if he integrates vertically the activities of the recycling firm, he could resolve the problems of uncertainty over the quality of the supply.

However, among the assets that the upstream market needs to function properly is the complex incentive mechanism the recycler uses to prevent the collectors form reverting to defection in spite of information and expertise asymmetries. This is an intangible asset that reduces the level of internal economic contestability i.e. the exposure to the threat generate by a downstream operator integrating vertically. The conditions defined in the Contestable Management model are thus fulfilled: the recycler is presumed to be significantly exposed to the threat of external social contestation on health and environmental issues. By their nature, the activities in question invite a challenging vigilance from residents and public authorities.

However, taking anticipatory measures to lower the threat may also result, not from the direct exposure of the recycler, but of his customer, the steel manufacturer. Given the economic relationship between the established recycler and his principal steel-making customer, the steel manufacturer may become an active intermediary of the threat of environmentally-based social protest. The steel manufacturer is himself exposed to challenging vigilance, or even a more generalised protest, because of his activities(33). Because the recycler is captive, the steel manufacturer has a means of encouraging his supplier to respect particular compliance requirements regarding site management, as distinct from the technical specifications concerning the quality of the material to be delivered. The compliance required may be based on legislation or on certification standards.

(33) For instance, smoke from some steel plants may be accused of discharging dioxin into the surrounding area.