UK: Microsoft Loses Watershed Anti-Trust Appeal

Last Updated: 18 October 2007

Article by Robert Bell, Competition Partner, Nabarro.

The European Commission secured a convincing victory on 17 September 2007 in the latest round of its long running anti-trust battle with Microsoft when the European Court of First Instance (CFI) upheld the Commission’s earlier 2004 Decision and its record fine of €497m against Microsoft.

The Commission’s Decision is confirmed in its entirety apart from one or two procedural issues relating to the Commission’s appointment of a Monitoring Trustee to enforce its earlier Decision. The effect of the ruling will force Microsoft to open up their products to greater competition and the Commission believes it will bring greater consumer choice.

Although Microsoft can still appeal to the full European Court of Justice on a point of law the latest judgment is a particular welcome boost for the European Commission and its embattled Competition Commissioner, Neelie Kroes, who has lost several high profile anti-trust cases lately.

The effect of this decision will be wide-ranging for the technology industry and beyond.

Benchmark for Competitive Conduct: The CFI’s ruling sets down a benchmark for the type and standard of behaviour market leading companies in Europe are required to adopt when dealing with their competitors. In our view it extends the circumstances in which the Commission will be able to force dominant companies to grant compulsory licences to their competitors. It also provides guidance to market leading technology companies on when attempts to add extra features or functionality to existing products or by combining their products could create competition concerns.

US/EU Differ on Remedies: The CFI’s backing of the Commission’s findings highlight a difference of opinion between US and European anti-trust regulators about how best to stimulate innovation and encourage future investment whilst protecting competition. US anti-trust regulators have been highly critical in the past about what they see as the European Commission’s "heavy-handed" remedies. The US believes that the object of anti-trust law is to benefit and protect consumers and not competitors. It feels the EU ruling is more geared to helping competitors and could chill innovation to the detriment of consumers. The Commission of course disagrees and believes encouraging vigorous competition will bring in its wake improved consumer choice and benefits.

Anti-trust Crackdown on Technology Industry: One immediate impact of this judgment will be to embolden the Commission to adopt more vigorous anti-trust enforcement action in the technology industry. Many industry commentators now expect a crackdown on the technology industry in the aftermath of this judgment. The judgment is the long awaited affirmation of the European Commission’s competition policy towards the technology sector. Their previous success against the past "giants" of the technology industry as far back as 1984 has been very mixed. The IBM Undertaking (1984) and later the Digital Undertaking (1997) signalled only qualified success for their anti-trust enforcement activities in this sector as neither case proceeded to a Decision nor received judicial blessing. In the Microsoft case they have achieved both and this provides the Commission with a solid foundation on which to base future enforcement activities.

The Decision

On 23 March 2004 the European Commission adopted a Decision finding that Microsoft had abused its dominant position under Article 82 of the EC Treaty for engaging in certain types of anti-competitive conduct, which are discussed in more detail below. The Commission fined Microsoft €497m – a record fine for an anti-trust infringement in Europe.

The abusive conduct in question was as follows:

  • Microsoft had refused to supply its competitors with interoperability information with Windows domain architecture to allow them to use that information to develop and distribute products competing with Microsoft’s own work group server operating systems products;
  • Microsoft tied Windows Media Player with its own Windows PC Operating System thereby foreclosing third parties.

In order to assist the Commission in monitoring Microsoft’s compliance with the Decision the Decision itself provided for a Monitoring Trustee to be appointed by the Commission. The Trustee’s primary responsibility was to raise opinions on whether Microsoft was complying with the Decision and its enforcement at the request of either the Commission or third parties. He was to have access to Microsoft’s information, documents, premises and employees as well as the source code of the relevant Microsoft products. All costs to the Monitoring Trustee were to be borne by Microsoft.

On 7 June 2004 Microsoft brought an action before the Court of First Instance challenging the Commission’s Decision and seeking its annulment and/or a substantial reduction of the fine imposed upon it.

CFI Judgment

On 17 September 2007 the CFI delivered its judgment, essentially upholding the Commission’s 2004 Decision and the record fine imposed on Microsoft. However, it was critical of the European Commission’s use of the Monitoring Trustee. We have examined the CFI’s detailed reasoning below.

Refusal to supply interoperability information

The Court upheld the Commission’s findings that Microsoft, as a dominant undertaking in the Client PC Operating Systems Market, had to make available its communications protocols to allow their competitors to develop competing work group server operating systems which could interface with Microsoft’s operating system software.

In approving the Commission’s approach the CFI said the Commission was only seeking for Microsoft to supply the specifications of certain protocols and not the source code of Microsoft’s products. There was also an issue as to whether the communications protocols were covered by intellectual property rights or not. The Court said it was not necessary to decide this issue as the Commission had put its case on the basis that the protocols were, in fact, protected by intellectual property rights. Therefore Microsoft was refusing to grant a licence for those rights to third parties.

The Court therefore had to consider whether, in the circumstances, the Commission was right in ordering a compulsory licence of that interoperability information to third parties.

Holders of IPRs are, in general terms, free to decide to whom they wish to licence their IPRs. However, a refusal to licence by a dominant undertaking may constitute an abuse of a dominant position in certain circumstances.

For an abuse to be proved three conditions must be satisfied:

  • The refusal must relate to a product or service indispensable to exercise of an activity on a neighbouring market;
  • Refusal must be of such a kind as to exclude any effective competition on that market;
  • Refusal must prevent the appearance of a new product for which there is potential consumer demand.

Provided these conditions are satisfied and in the absence of any objective justification the refusal to grant a licence may constitute an abuse of a dominant position.

In the present case the Court upheld the Commission’s conclusion that Microsoft had abused its dominant position by refusing to supply the communications protocols as they foreclosed third parties from developing competing work server products, which were interoperable with the Windows domain architecture. The Commission rejected Microsoft’s arguments that the refusal was objectively justified. Without the communications protocols it was impossible for third parties to produce and market compatible work server products.

Bundling of Windows Media Player

The Commission considered that Microsoft had unlawfully bundled Windows Client PC Operating System with Windows Media Player thereby foreclosing the third party providers of their own proprietary media players from the market.

The Court upheld the Commission’s findings and concluded that its case on abusive tying was correct and consistent with Community law.

The Court observed that for a case of abusive tying to be made out the following factors had to be present:

  • The undertaking concerned had to have a dominant position on the market of the tying product;
  • The tying product and the tied product must be two separate products;
  • Consumers must not have a chance to obtain the tying product without the tied product;
  • The practice must appreciably foreclose competition.

The Court held the Commission was right in holding that an unlawful tie existed because of the following:

  • Windows Operating System software being system software was a different type of product to Windows Media Player which was application software;
  • There were third parties like Real Networks which designed and supplied competing products independently of operating system software;
  • Microsoft develops and markets Windows Media Player separately for other operating systems;
  • Windows Media Player can be downloaded independently of the Windows Operating System and that a number of consumers continue to acquire competing Media Players separately.

The effect of the tie was that consumers were unable to acquire Windows Media Player without Windows Operating System software. The Court did not consider it relevant that Microsoft does not charge a separate price for the Windows Media Player nor the fact that consumers are not obliged to use Windows Media Player within the integrated product.

Microsoft only supplied OEMs with the tied version bundled with Windows Media Player. This had the inevitable consequence of altering the balance of competition in favour of Microsoft and to the detriment of other media player providers. The effect was to give Microsoft an unparalleled advantage with respect to distribution of its products and ensure the ubiquity of Windows Media Player on client PCs throughout the world thereby tipping the market very convincingly in Microsoft’s favour.

The Court dismissed Microsoft’s arguments of objective justification for the bundling and held that Microsoft had to make available to consumers a version of Windows Operating System without Windows Media Player, although it could continue to offer its bundled version if it so wished.

Monitoring Trustee

The Court held that the Commission had gone far beyond its powers by the appointment of a Monitoring Trustee with his own powers of investigation and also one capable of being called upon to act not only by the Commission but also by third parties.

The Court, in particular, criticised the obligation imposed on Microsoft to allow the Monitoring Trustee independently of the Commission access to information, documents, premises and employees as well as source codes. The Court found that the Commission had no authority to grant to the Monitoring Trustee powers, which the Commission itself was not authorised to confer on third parties. It also concluded that there was no provision of Community law, which authorised the Commission to require an undertaking to bear costs, which the Commission itself incurs as a result of monitoring the implementation of its remedies.

The Court therefore annulled the Decision in so far as it related to Microsoft submitting to the appointment of a Monitoring Trustee.

Effects of the Judgement on the Technology Industry

Crackdown

One effect of the Court ruling is likely to be that the Commission will vigorously campaign to enforce the EC Competition Rules in the technology industry and a crackdown can be expected. Cases involving Intel, Qualcomm, Rambus and other aspects of Microsoft’s behaviour are likely now to be advanced. In addition new anti-trust guidelines on the application of Article 82 which were put on ice due to this case are now likely to be published.

Compulsory Licence

On a more technical legal level a number of key issues emerge from this Judgment. By far the most important is the clarification of the circumstances in which a dominant undertaking can be made to licence its own intellectual property rights to third parties, usually its competitors.

The main point of interest is the very liberal definition of what constitutes a "new product or service". Compulsory licences are only available when they are indispensable to the creation of a new "product or service". There has been considerable debate as to how novel or how innovative a product or service has to be compared to those already present in the market to satisfy the new product/service criterion.

The Court’s judgment backs the Commission’s broad interpretation of what constitutes a "new product or service". In the Commission’s Decision the Commission held that a new product could be "innovative work group operating software features"; it did not matter that Microsoft produced similar type products.

The CFI states that the circumstances relating to the appearance of a new product must be assessed under Article 82(b) of the EC Treaty. This prohibits abusive practices, which consist in limiting production or technical developments to the prejudice of consumers. The Court agreed with the Commission’s findings that Microsoft limited technical development to the prejudice of consumers. The CFI observed that Microsoft’s advantage had been retained by its refusal to licence which discouraged its competitors from developing and marketing group server systems with innovative features to the prejudice of consumers (see para 653 of the CFI judgement).

Judicial confirmation of the Commission’s stance considerably lowers the barrier of how novel a product or services has to be before it is declared a "new product or service". Even though there may be a competitive product or service of a similar type already offered on the market, what matters most is that the product or service in question must possess some form of innovative feature or functionality to qualify. It could also potentially cover upgrades or new models of existing products.

The judgment also analyses what constitutes a neighbouring market. Prior to IMS Health (2004) ECR I-5039 the accepted wisdom was that neighbouring markets effectively always referred to a downstream market and that a dominant undertaking could not be forced to licence a competitor to permit him to compete in the former’s primary market.

However, the IMS Health case, as approved by the CFI in Microsoft, has opened up this debate. The Court observed that for the purposes of a compulsory licence you have to distinguish two markets; namely a market constituted by that product or service and on which the undertaking refusing to supply holds a dominant position (Originating Market) and a neighbouring market on which the product or service is used in the manufacture of another product or for the supply of another service (Neighbouring Market).

The Court observed that even if the product or service on the Originating Market is not marketed separately this does not exclude the possibility of it being a separate market. It was sufficient that a potential market or even a hypothetical market could be identified and that there was actual demand for the product or service on the part of the undertaking seeking the licence.

IMS Health had developed a Brick Structure into which they inputted pharmaceutical sales data to create a specific way of displaying data sold to pharmaceutical companies to aid distribution of their products. NDC, a competitor, wanted to licence the Brick Structure framework. They had their own data to input. IMS Health regarded the Brick Structure with the accompanying data as their primary product but the Commission created a hypothetical Originating Market for the licensing of the Brick Structure to enable NDC to have access to the Brick Structure and thereby compete.

The Microsoft case did not need to advance the debate on this issue as arguably the Originating Market and the Neighbouring Market were clear. However it is interesting to note that the Court quoted the IMS Health case with approval.

Therefore when one joins together the Court’s willingness to accept a hypothetical Originating Market as in IMS Health with the liberal definition of "new product or service" in Microsoft, this amounts to a significant extension of the powers of the Commission to order compulsory licences. In fact the law appears to be perilously close to forcing dominant undertakings to hand over essential inputs to permit competitors to compete with them head to head on their primary markets.

Tying

As technology companies are continually striving to add new functionalities to their products, those in a dominant position need to be particularly aware that they could be exposed to regulatory challenge. This case highlights the dangers.

The Court concedes in its judgment that the technology industry is an industry in constant and rapid evolution so that what initially appears to be separate products may subsequently be regarded as forming a single product both from a technological aspect and from the aspect of the competition rules. This concession appears to suggest that products at different stages of the evolutionary cycle may need to be treated differently but in each case an individual analysis of the facts is required.

The controversial issue in relation to the Court’s ruling on tying relates to the circumstances in which there can be said to be two separate and distinct products. Microsoft contended that its inclusion of Windows Media Player with its Windows Operating System was "product integration" and that separate consumer demand for media player did not appreciably exist. However, the Court agreed with the Commission’s findings. Whether products are distinct must be assessed by reference to consumer demand; the nature and technical features of the products, the market context and the history of the development of the products concerned as well as the dominant undertaking’s own commercial business practices.

Therefore companies need to adopt a common sense approach as to what constitutes a separate product by investigating the market background, the common practices of the market participants, the functionalities of the products in question and whether by common usage they are linked or connected.

The judgment indicated that where products are available separately this is an indication that there is likely to be sufficient consumer demand for its separate provision. When this is twinned with the chance of substantial foreclosure of competitors unlawful tying is likely to exist.

Individual effects

The importance of the Microsoft Decision will be felt far beyond the main protagonists. The effect on individual technology companies will depend upon the scope of their activities and individual facts of each case.

For software developers it will open up opportunities to obtain interface information of not only Microsoft but also other dominant companies’ domain architecture to create compatible application programs. It will also promote some protection to those, which have developed niche applications (e.g. media players) from being foreclosed from the markets due to "heavy handed product integration practices" of dominant companies.

Hardware manufacturers can now invest more confidently in producing downstream products, which will be compatible with the Microsoft operating system thereby boosting innovation and consumer choice. The case will also sound a warning note to all other dominant companies not to frustrate the emergence of new competing hardware system products on a neighbouring market.

The judgment is good news for IT and value added data providers. To those who depend on a raw material input to produce valued added downstream products or services the Court’s affirmation of the Commission’s Decision is likely to expand the circumstances when dominant companies will be required to offer essential inputs for service providers to produce downstream products. The very generous interpretation of the definition of "new products or service" is likely to allow some providers to seek licences to produce competing products of a type already made available on the market usually by the dominant company itself provided there is some element of innovation.

Contact details: r.bell@nabarro.com. Tel: + 44 (0)207 524 6452

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.

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