I. Background
Antitrust compliance properly focuses on agreements and communications between competitors because of the heightened risk associated with such conduct. Yet overreaching restrictions on distributors or customers can pose antitrust risk as well. This article provides a brief update on developments in the antitrust law of vertical restraints and highlights areas that continue to be complex, or areas where the law appears to be evolving. In-house counsel may wish to consider reviewing corporate compliance policies and distribution agreements to account for these changes.
In particular, few areas of antitrust law have generated as much uncertainty as the treatment of resale price maintenance. In 2007, for example, the U.S. Supreme Court reversed a century of precedent by holding that minimum resale price maintenance was not per se illegal.1 While Leegin relaxed the antitrust standard at the federal level, no such relief has been available at the state level because antitrust authorities and courts in several states (e.g., California, New York, Illinois, Maryland, Michigan, and Kansas) continue to treat minimum resale price maintenance as per se violations.
There has also been an evolution, albeit a rather quiet one, with regard to the treatment of exclusive dealing contracts by the Department of Justice (the "DOJ") and the Federal Trade Commission (the "FTC"). The changes suggest a more aggressive posture toward vertical restraints at the federal agency level and in the economic literature. We discuss these below.
II. Resale Price Maintenance
Resale price maintenance is an agreement under which a manufacturer and distributor agree to the price at which the distributor may resell the manufacturer's product. Maximum resale price maintenance prevents resellers from increasing resale prices and such agreements are not unlawful absent some evidence of harm to consumers. Minimum resale price maintenance involves an agreement preventing the reseller from lowering the resale price below a specified level. Before Leegin, minimum resale price maintenance was per se illegal,2 and a plaintiff did not need to show consumer harm.
Federal courts now recognize that minimum resale price maintenance can promote competition between brands ("interbrand competition") by preventing free-riding and fostering new entry. But minimum resale price maintenance can also harm competition. Courts are likely to be most concerned where minimum resale price maintenance facilitates monopolization or collusion, is used by firms with market power, or is used by many firms in a market. As indicated above, however, several states consider resale price maintenance to be per se unlawful. Thus, engaging in minimum resale price maintenance must balance the risk of facing state antitrust suits alleging the practice is per se unlawful against the benefit of the program. Even under state law holding the practice to be unlawful per se, companies are well advised to be able to demonstrate the resale price maintenance program was designed to be and was, in fact, procompetitive.
III. Exclusive Dealing
Antitrust law is evolving in the area of exclusive dealing. Exclusive dealing involves one company agreeing to buy or sell all or almost all of its products from another company. Properly employed, exclusive dealing can promote interbrand competition, align manufacturer and distributor incentives, and prevent free-riding by business partners. But exclusive dealing can also reduce competition by foreclosing rivals from the market, preventing or inhibiting entry, raising rivals' costs, or denying rivals access to important resources or minimum sales levels needed to compete. As a general matter, the courts have typically required plaintiffs to show that exclusive dealing agreements were not short term and had harmed consumers. Recent DOJ and FTC enforcement suggests a more aggressive approach to exclusive dealing.
While exclusive contracts with durations of less than one year were once presumptively lawful, the DOJ has successfully persuaded a court that an exclusive dealing contract with a duration of less than one year was unlawful.3 Thus, it may no longer be sufficient to place great weight on the short-term duration of a contract in the risk assessment of an exclusive dealing arrangement.
Also noteworthy was a DOJ enforcement action concluding that exclusive dealing could be shown using the defendant's discount structure.4 In United Regional, the DOJ alleged that United Regional Heath System offered discounts to insurers in exchange for an agreement to exclude competing hospitals from the insurers' healthcare networks and that such discounts created de facto exclusivity. To determine whether the discounts were exclusionary, the DOJ estimated the number of patients that would switch to an alternative hospital. These were called the "contestable units." The DOJ then attributed the entire discount to those units to calculate a "net price" for the contestable units, which was lower than the invoice price. Because the resulting net price was below the cost of serving the contestable units, the DOJ concluded that the discounts created an economic exclusive dealing contract.5 This approach marks a significant change in exclusive dealing.
The FTC has also been more aggressive in this area. In two recent actions, the FTC alleged that denying access to a significant channel of distribution or class of customer constituted an unlawful exclusionary practice.6 Notably, there was little evidence of consumer harm.7 In addition, government economists have given speeches discussing the risks associated with contracts that "reference rivals," including exclusive dealing, market share discounts and most favored nations clauses.8
Thus, the DOJ and FTC have been enforcing exclusive dealing contracts more aggressively than in the past, and the economic literature may be supporting the increasingly aggressive posture toward exclusive dealing. We note that such agency developments have a way of finding their way into private actions.
IV. Tying
Tying occurs where a supplier agrees to sell one product (the "tying" product) but only on the condition that the buyer also purchases a different product (the "tied" product). Historically, tying has been considered per se illegal in the United States where three elements are met: (1) two products are tied; (2) the company selling the products has market power in the tying product; and (3) more than an insubstantial amount of commerce in the tied product is affected. Some courts have also evaluated whether the tying arrangements forestall interbrand competition, deny access to consumers, create entry barriers, or, most significantly, extend market power from the tying product into the tied product market. Notwithstanding per se treatment, courts may consider the efficiencies associated with the tie, especially where the practice is necessary for efficient manufacturing and distribution (e.g., software components).
A recent Ninth Circuit case suggests that courts are not quick to condemn tying contracts. In March 2012, for example, the Ninth Circuit affirmed the dismissal of a consumer class action alleging agreements between television programmers and cable distributors requiring that high-demand cable channels and low-demand be sold to consumers in a single package. In Brantley v. NBC Universal, Inc.,9 the plaintiffs alleged that these programmer-distributor agreements harmed consumers by forcing them to pay higher prices for the package of cable television channels than they would pay for separate channels. The Ninth Circuit held that these allegations were insufficient to show competitive injury to the market for the tied product (e.g., low-demand channels), particularly where the agreements did not prevent other programmers from marketing low-demand channels separately. Moreover, the Ninth Circuit rejected plaintiffs' suggestion that increased consumer prices alone can be the basis for antitrust liability, pointing in particular to the Supreme Court's holding in Leegin that minimum resale price maintenance can have procompetitive benefits.
While the Ninth Circuit's approach in Brantley may be comforting, corporate counsel should keep in mind that Brantley does not stand for the proposition that tying arrangements are presumptively lawful. The rule that tying is per se illegal may be waning, but tying can pose considerable antitrust risk, particularly when the firms have market power and have no legitimate reason for the tie-in contract.
V. Vertical Customer and Territorial Restrictions
Agreements that limit the territories or customers to whom a distributor may resell a product or service can also pose antitrust risks. Customer and territorial restraints have procompetitive benefits; they can prevent free-riding and enhance interbrand competition. At the same time, these restraints can be anticompetitive to the extent that they reduce competition among distributors of the same brands of products or services ("intrabrand competition").
These restrictions are rarely challenged because courts typically find that interbrand competition is the focus of antitrust law, not intrabrand competition. When evaluating customer and territorial restraints, courts are likely to balance any harm to intrabrand competition with benefits to interbrand competition. To the extent that the restraints are supported by a clearly articulated business rationale, courts are more likely to accept their legitimacy. Where companies have high market shares, however, customer and territorial restrictions that might otherwise be seen as benign or beneficial may be a cause for concern. Although there appears to be little recent enforcement on vertical customer and territorial restrictions, it continues to be advisable to include them in corporate compliance programs.
VI. Price Discrimination
Price discrimination occurs where a seller charges competing buyers different prices for products (not services) of like grade and quality. To constitute an antitrust violation under the Robinson-Patman Act, price discrimination must involve at least two actual and contemporaneous sales to different buyers at different net prices, and the discrimination must cause a substantial lessening of competition or a tendency towards monopoly.
Price discrimination can be illegal if it causes injury at any level of the distribution chain. "Primary line" injury, for example, can arise where a seller sells to a favored customer or customers at a price below cost and the seller recoups its losses after its competition is eliminated. This is the same as a predatory pricing standard. "Secondary line" injury, by contrast, can arise where a seller offers a lower price to a buyer that eliminates competition between the preferred buyer and the buyer's competitors. Courts will infer an injury to competition in a secondary line case where there is a price difference over time, there are low margins, and there is keen competition between the favored and disfavored buyers. The inference of competitive injury can be rebutted by breaking the casual link between the discrimination and any lost sales or with proof that the disfavored buyer prospered and any other evidence that competition was not reduced or threatened. Taking it a step further, "tertiary line" injury can arise where a seller offers a lower price to a buyer that reduces competition between the buyer's customers and a competitor of the buyer's customers.
Even if price discrimination is proven, there are a number of affirmative defenses that can justify the practice. First, one defense is that the challenged discounts were reasonably available to all customers. Second, liability can be limited where the price difference is justified by lower costs of manufacturing, selling, or delivering the product. Volume discounts, for example, can be justified by lower transaction costs. Third, lower prices can be justified where prices were offered to meet, but not beat, a lower price from a competitor. Finally, the difference may be justified by changed market conditions.
Despite these defenses, businesses should be aware of the risks inherent in price discrimination and monitor their prices and discounts to avoid allegations of price discrimination. Discounts should be designed for legitimate business reasons, and price schedules should be made available to all buyers. Particularly for sellers with high market shares, a cautious approach towards pricing and discounts to different buyers may help avoid unexpected legal battles at a later date.
VII. Conclusion
Vertical restraints do not carry the risks associated with agreements between competitors. But the evolution in the antitrust analysis of vertical restraints suggests that certain practices may continue to entail uncertainty and risk (e.g., minimum resale price maintenance under state law and exclusive dealing). Other areas of vertical restraints law have not changed all that much, but, even there, antitrust risks remain. Accordingly, it may be time to review resale price and exclusive dealing policies to ensure they reflect the uncertainty and recent developments in the law.
Footnotes
* This article is taken from a series of topics presented
at "What Companies Don't Know Can Hurt Them: A Primer on
Key Antitrust Issues," a seminar held at Vinson &
Elkins' Houston office on September 19, 2012.
"What Companies Don't Know Can Hurt Them: A Primer on Key
Antitrust Issues" provided a practical approach to dealing
with emerging legal developments and key issues in antitrust law.
This article comprises Part 2 of a two-part series as featured in
the Winter 2013 issue of the Corporate Counsel Section
Newsletter.
1 Leegin Creative Leather Products, Inc. v. PSKS, Inc., 551 U.S. 877 (2007).
2 Dr. Miles Med. Co. v. John D. Park & Sons Co., 220 U.S. 373, 407-08 (1911).
3 Compare Roland Mach. Co. v. Dresser Indus., 749 F.2d 380, 395 (7th Cir. 1984) (holding that exclusivity provisions of less than one year are presumptively lawful), with United States v. Dentsply Int'l, Inc., 399 F.3d 181 (3d Cir. 2005) (holding that an exclusive agreement was unlawful even thought it was of short duration).
4 Competitive Impact Statement, United States v. United Reg'l Health Care Sys., Civ. No. 7:11-cv-00030 (N.D. Tex. Sept. 29 2011).
5 Id.
6 Complaint, In the Matter of Pool Corporation, FTC File No. 101-0115, ¶¶ 18, 28 (Nov. 21, 2011), available at http://www.ftc.gov/os/caselist/1010115/111121poolcorpcmpt.pdf; Complaint, In the Matter of Sigma Corp, FTC File No. 101-0080, ¶¶ 46, 54-55 (Jan. 4, 2012), available at http://ftc.gov/os/caselist/1010080/120104sigmacmpt.pdf.
7 See, generally, Dissenting Statement of J. Thomas Rosch, In the Matter of Pool Corporation, FTC File No. 101-0115 (Nov. 21, 2011), available at http://www.ftc.gov/os/caselist/1010115/111121poolcorpstatementrosch.pdf; Statement of Commissioner J. Thomas Rosch, Concurring in Part and Dissenting In Part, In the Matter of McWane, Inc. and Star Pipe Prods., Ltd., and In the Matter of Sigma Corp. (Jan. 4, 2012), available at http://ftc.gov/os/caselist/1010080/120104sigmastatement.pdf.
8 See Fiona Scott-Morton, Dep. Asst. Att'y Gen., Speech, Contracts that Reference Rivals, at Georgetown University Law Center Antitrust Seminar (Apr. 5, 2012), available at http://www.justice.gov/atr/public/speeches/281965.pdf.
9 675 F.3d 1192 (9th Cir. 2012).
Originally published in the State Bar of Texas Corporate Counsel Section Newsletter, Spring 2013
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.
