Articles

The new approach to resale price maintenance – anti trust law

Boardroom June 2008/The Professional Accountant July 2008
By Sanusha Govender

Resale price maintenance (RPM) is an arrangement/agreement between a supplier (manufacturer) and its distributors (resellers), that the distributor will resell products that were supplied at a particular price determined by the supplier.

The United States Supreme Court overruled the almost century long decision of Dr Miles Medical Co v John C Park & Sons Co .220 U.S. 373 (1911) (Dr Miles) in June 2007 in the matter of Leegin Creative Leather Products Inc v PSKS Inc127 S. Ct.2705 (2007) (Leegin). The court had to determine whether vertical RPM agreements would continue to be deemed per se illegal under section 1 of the Sherman Antitrust Act 15 U.S. (Sherman Act). The court held that the rule of reason was the appropriate standard for evaluating vertical price restraints. In the Dr Miles decision, the court held that an agreement between a manufacturer and its dealers to fix the minimum price at which its medicine could be sold was per se illegal under section 1 of the Sherman Act. Dr Miles has been followed for decades by the American courts until Leegin petitioned the Supreme Court requesting that this decision be overruled.

Leegin refused to sell to retailers that discounted Brighton products below the suggested prices. Leegin's reasoning on implementing this policy was to give its retailers sufficient margin to provide their customers with professional service and further that discounting harmed its brand image and reputation.

The court stated that a rule of reason standard be utilised to evaluate the pro- and anti-competitive effects of RPM. The rule of reason requires that the "fact finder weigh all the circumstances of a case when determining whether a restrictive practice should be prohibited as imposing an unreasonable restraint on competition" (Continental T.V, Inc v GTE Sylvania Inc 433 U.S. 36, 49 (1977). Different factors need to be taken into account; for example information about the business in question, the nature and effect of the restraint and market power. This would enable a court to distinguish between the anti-competitive effects and the pro-competitive effects as not all forms of RPM are anti-competitive.

Some of the pro-competitive effects of RPM are summarised below:

• By permitting a supplier to control the price at which its goods are sold could promote interbrand competition (which is competition between suppliers of the same type of product) and consumer welfare. This is important because the purpose of the Sherman Act (as does the South African Competition Act 89 of 1998 (the Act)) is to promote competition.

• RPM would afford consumers more options so that they could choose among lower prices, lower service brands as opposed to higher prices and higher service brands or average brands (Leegin Page 10 – opinion of the court).

• It could prevent retailers from “free riding”. Free riding occurs when a distributor will charge a higher price as a result of marketing and promotions costs in respect of goods or services sold and other distributors will sell the same goods or services at a lower price because they do not need to market or promote the goods or services. However, this problem could be easily solved by the manufacturer marketing its own products instead. The difficulty in this is determining how often free riding occurs and when it is serious enough to warrant legal protection.

• It facilitates market entry for new firms and brands.

Some of the anti-competitive effects of RPM are summarised below:

• By a distributor setting a selling price, this could reduce intrabrand competition (which is competition between retailers selling the same brand). However, this can be curtailed if retailers invest in other means of selling the product, for example offering services to its customers thus promoting the product.

• RPM use can be utilised to obtain monopoly of profits.

• RPM can be used to facilitate a supplier cartel alternatively a retailer cartel. A supplier cartel is unlikely when there is only a single supplier who is not a dominant firm and it uses RPM.

• It could prohibit a reseller or manufacturer from providing discounts to its customers or retailers especially in the instance of a falling demand.

• RPM can be abused by a powerful supplier. (This is more likely to occur in the instance where the supplier has market power.)

• A consequence of RPM is that it may stabilise prices and/or lead to higher retail prices.

• There is the danger that RPMs per se prohibition may prevent a manufacturer from developing its business strategies.

It therefore cannot be stated with confidence that all RPM “always or almost always” restricts competition.

The difference between the antitrust law in the United States and Competition Law in South Africa is that the Sherman Act is treated as a common law statute, and its prohibition in section 1 evolves to meet changing economic conditions. In terms of South African law, section 5(2) of the Act contains an outright prohibition on the practice of minimum resale price maintenance. However, section 5(3) provides that a supplier may recommend a minimum resale price to the reseller of a good or service provided the supplier makes it clear to the reseller that the recommendation is not binding and the product must have the words “recommended price” appearing next to the stated price.

Maximum resale price is not per se prohibited but is determined according to the “rule of reason”. In my opinion this could have the same effect as minimum resale price maintenance, the only exception being that the reseller would be able to provide discounts to its customers.

In the matter of The Competition Commission of South Africa v Federal Mogul Aftermarket Southern Africa (Pty) Limited and Others Case No 08/CR/Mar01, the Tribunal confirmed that a company will be regarded as having engaged in the prohibited practice of RPM if the supplier or distributor has knowledge of the price at which they are expected to sell the goods or services and further, if a penalty is imposed for not complying with the proposed price. Despite the fact that this approach has been criticised by several economists, it has been followed throughout the world.

Leegin’s decision has set a new precedent for the courts in the United States that vertical price agreements be assessed under this rule which will be assessed case by case, whether our legislatures will adopt the US courts approach or not, is something that only time will tell. The rule of reason approach could result in the United States court bringing its own administrative judgment when deciding on cases. It is not easy for the courts to identify the instances when the benefits of RPM are likely to outweigh the anti competitive effects. The rule of reason approach would also result in increased litigation costs, as each case would be decided on its own basis, and extensive research will have to be conducted and experts required. In the dissenting judgment of Leegin, Breyer J, suggested that the per se rule should have been modified to allow certain exceptions instead of overruling Dr Miles decision. It is submitted that the dissenting judgment would be the more logical approach as it would allow the courts to develop its jurisprudence by way of exceptions to the prohibition.

The United States courts develop their jurisprudence to meet changing conditions. However, in South Africa the primary source of law in Competition law is the Competition Act as interpreted by the Competition Tribunal and Competition Appeal Court. It is submitted that it is unnecessary for South African legislature to follow or consider Leegin’s approach at this point in time as South Africa is a developing country. It is further submitted that legislature should, however, take cognisance of the dissenting judgment and that our per se prohibition should have certain exceptions in time and as our nation develops.

It will be interesting to see how the United States lower courts will in future deal with RPM matters before it, as the Supreme Court has said that the lower courts should develop substantive standards and procedural rules for evaluating RPM under the rule of reason. I am sure that once the case law develops and the actual effects of RPM are felt by the Americans, the "rule of reason" will be tightened so to speak.