The Baxter Healthcare Appeal: Misuse Of Market Power

On 11 August 2008, the Full Court of the Federal Court of Australia handed down a decision upholding an appeal by the Australian Competition & Consumer Commission (ACCC) from a decision of the trial judge in 2005 in relation to whether or not Baxter engaged in a misuse of market power by offering anticompetitive "bundles" of medical fluid products in response to request for tenders by State Purchasing Authorities (SPAs) between 1998 and 2001. The ACCC was largely successful with its appeal. As there has been a significant degree of concern over the effectiveness of section 46 of the Trade Practices Act 1974 (TPA), the Baxter decision is significant in its own right as an example of a successful section 46 case. It is also significant because it gives guidance on the kinds of circumstances where firms submitting tenders can "bundle" various goods or services at prices that might be found to contravene the TPA.

Section 46 of the TPA sets out that a corporation will engage in a misuse of market power where it:

• possesses a "substantial degree of power in a market"

• "takes advantage" of that power

• and does so for any of the following proscribed purposes:

It is worth noting that the Baxter case was run under section 46 of the TPA as it was in force between 1998 and 2001. Section 46 of the TPA was amended in 2007 with the intention of making it easier for plaintiffs, including the ACCC, to prove the "market power" and "taking advantage" elements of the contravention. Baxter Healthcare has recently filed a notice with the High Court seeking special leave to appeal the decision of the Full Court. Appeals to the High Court can only be made if the High Court grants leave to do so. If Baxter is granted leave by the High Court to appeal, it will perhaps provide the High Court with its first opportunity to comment (albeit in a comparative way only) on the recent amendments to section 46.

Background to the case

Baxter was the dominant supplier in Australia of large-volume sterile fluid products (sterile fluids) used to treat patients in hospitals. Baxter also supplied peritoneal dialysis fluids (PD fluids) used primarily for patients on dialysis. Unlike the sterile fluids market, the PD fluids market was generally competitive and included a number of alternative suppliers. PD fluids could also be imported, because unlike the "high volume low value" sterile fluid products (which were mostly water), Australian suppliers of PD fluids were exposed to real import competition.

Between 1998 and 2001, Baxter negotiated supply contracts with SPAs for each of New South Wales, South Australia, Western Australia, Queensland and the ACT. The ACCC alleged that prior to entering into each contract, Baxter offered "prohibitively high item-by item prices (the so-called "cherry pick" prices)" to each SPA in which sterile fluid products and PD fluids were separately available. In addition, Baxter Healthcare made a "bundled" offer in which Baxter sought exclusive supply contracts for sterile fluids and PD fluids (ie the products in which it faced significant competition) for lengthy periods. The bundled prices were alleged to be "significantly lower" than the item-by-item prices, thus constituting a misuse of market power.

At trial, a single judge of the Federal Court found that Baxter Healthcare had engaged in a misuse of market power in contravention of section 46 of the TPA in only one of the five instances alleged by the ACCC – namely, in relation to the South Australian supply agreement in 2001 (called "Offer 1A"), where Baxter was said to have made a "point blank refusal" to offer unbundled prices including any discount for volume.

In any event, the trial judge held that as the SPAs were each government authorities, the TPA did not bind the Crown and, by implication, Baxter. After two appeals, the question of whether the TPA could apply to the impugned conduct was ultimately determined by the High Court, which found in favour of the ACCC. (There were also appeals by each party in relation to contraventions of section 47 of the TPA, which prohibits exclusive dealing with a purpose or effect of "substantially lessening competition", but this article focuses only on the contraventions of section 46).

The ACCC and Baxter Healthcare each appealed the trial judge's substantive decision on whether Baxter had contravened section 46 of the TPA. On the one hand, the ACCC claimed the trial judge erred by finding that Baxter had not contravened section 46 for tenders in Queensland, NSW, Victoria and Western Australia. On the other hand, Baxter claimed the trial judge should not have found it contravened section 46 in respect of the one instance in South Australia (or anywhere else).

The Appeal

A majority judges in the Full Court of the Federal Court (Mansfield and Gyles JJ) upheld the ACCC's argument that all five tenders – not just 'Offer 1A' in South Australia – by Baxter constituted a misuse of market power.

The majority found that Baxter possessed 'market power' in the sterile fluids market – satisfying the first limb of section 46. This finding was shared by Dowsett J in dissent and also by the trial judge.

The critical difference between the Full Court majority and the trial judge was the majority's finding that Baxter had contravened the second limb of section 46 in all instances alleged by the ACCC. The trial judge found that Baxter had 'taken advantage' of its market power in South Australia (only) because although an unbundled offer for the supply of sterile fluids and PD fluids had been sought by the SPA, Baxter made a "point blank refusal" to offer any discount for sterile fluids when offered on an unbundled basis. As for Baxter's offers to the other SPAs, the trial judge found that Baxter's "item-by-item prices were not intended to be accepted ... [b]ut they were intended to be taken seriously by the SPAs." Nonetheless, the trial judge found that he was unable to conclude that "Baxter would not or could not have structured bids in the way impugned in the absence of its market power." Importantly, there was an "absence of analysis of the item-by-item prices as monopoly prices" that would have allowed such a conclusion.

The majority judges in the Full Court disagreed with the trial judge that actual evidence of "monopoly prices" was needed. Rather, the majority focussed on the existence of an "alternative offer strategy", where Baxter offered high item-by-item prices against much lower bundled prices combined with an exclusivity requirement. Mansfield J stated "it is not merely the fact of alternative tenders which is significant. It is that the item-by-item prices were relatively so high compared to the alternative bundled offer, and were also so much higher than had previously been paid by any relevant SPA that Baxter did not regard those prices as "serious"."

Finally, the majority concluded that the trial judge's assessment that Baxter possessed the necessary anti-competitive purpose was correct - ie that Baxter had a purpose of "deterring or preventing" competitive conduct. The majority rejected the ACCC's submission that Baxter also had a separate purpose of "eliminating or substantially damaging" its competitors. The majority found Baxter's "purpose, [as] the primary judge found, was to deter or prevent [Baxter's competitors for PD fluids] from engaging in competitive conduct in the PD fluids market by shutting them out from effectively being able to compete in that market." The "shutting out" was achieved by putting forward bids that Baxter's competitors could not match and that the SPAs could only accept "at a significant cost penalty".

Justice Dowsett dissented. While his Honour agreed with the majority's conclusion that Baxter possessed a substantial degree of market power and accepted that Baxter might have taken advantage of that power, he disagreed that Baxter had any anti-competitive purpose proscribed by the TPA. His Honour stated he was "unable to discern the difference between trying to win a tender and trying to prevent competitors from winning (or being "realistically competitive")." His Honour also stated that "the vice addressed by s 46 is exercising market power with a proscribed purpose, not bundling, creating a cross-market effect or exercising market power without a proscribed purpose." His Honour further stated that it "is difficult to identify likely criteria for distinguishing between trying to win a tender and trying to make a competitive bid uncompetitive."

Implications

The appeal decision highlights the difficulty that corporations, particularly those that might have significant market power, face when making decisions about bundling products in response to tenders, particularly where an exclusivity requirement is sought.

By contrast to the decision of the trial judge, the majority judges in the appeal did not require an analysis of "monopoly prices" but instead stated that the real vice was simply adopting an "alternative offer strategy" containing prices that were not "serious". Dowsett J, in dissent, also disagreed that analysis of "monopoly prices" is required. His Honour held that in relation to whether Baxter had taken advantage of its market power, the "real point was that the bids contained no offers for the supply of sterile fluids alone, at prices which reflected reasonable discount for volume." No guidance was given as to what might constitute a "reasonable discount" or are "serious", however.

The key concern of Dowsett J in dissent was that he was "unable to discern the difference between trying to win a tender [which is a lawful purpose] and trying to prevent competitors from winning (or being "realistically competitive")" is noteworthy. As the majority and the trial judge evidently did not share his conclusion on purpose, the appeal decision highlights that the proscribed anti-competitive purpose will be readily established if a firm with market power has been found to have taken advantage of that power.

Finally, the decision will have implications for government authorities in how they might conduct their tenders. As the trial judge and appeal judges noted, the SPAs had encouraged bundled bidding during the relevant period. However, Mansfield J noted that "NSW/Victorian negotiations in 2003 also suggest that the impugned conduct may have been averted by those SPAs restructuring their tender processes. I also anticipate that, in the light of the High Court decision [in which the SPAs and Baxter were found not to be immune from the TPA], the SPAs of the States may more generally have reconsidered the structure of their tender processes". While these statements were made in the specific context of health state purchasing authorities, they should also be read carefully by governmental purchasing authorities in other sectors, particularly where bundled tenders are actively sought.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.