VOLUME I, ISSUE 2 | ISSN: 2456-3595 INTERNATIONAL JOURNAL OF LEGAL INSIGHT

ANTITRUST CASES - RULE OF REASON AND PER SE ILLEGAL

Chaitra Yadwad

ABSTRACT

The purpose of this article is to examine various agreements provided under Section 3 of the
Competition Act, 2002, i.e., Horizontal and Vertical Agreements, and mainly to examine the
criteria of the rule of reason and the per se illegal concept in the decision of antitrust cases
concerning the elimination of competition between agreeing parties. This Article contains two
major sections. The first section attempts to highlight aforementioned agreements under
Section 3 of the Competition Act, 2002 including the sub-agreements under the said
agreements, and gives an understanding of per se illegal rule and rule of reason. It elucidates
the application of these rules. The second section attempts to identify the economic reasoning
in the judicial development of the rule of reason through an examination of key case laws
beginning from Trans Missouri freight case to Broadcast Music v. Columbia Broadcast Music.
It highlights the major developments and distinctions made between those agreements which
hinder the existing competition in the market and those which do not and instead lead to
economic development and are pro-competitive and in some cases, reasonable restraints.

Keywords: Agreements, Illegal Rule, Rule of Reason.

INTRODUCTION

There are two basic ways in which antitrust cases can be interpreted, per se and rule of reason.
The per se says that an agreement or a conduct is illegal merely because it is very obvious that
it was made to distort competition and that the same goal could have been achieved by some
other method in a less damaging way. The rule of reason looks at the economic realities of
various conducts. The rule of reason and per se rule, which were two opposing methods of
analyzing conduct, found its origin in Section 1 of the Sherman Act. This premise was based
on the classification of Section 1 practices as either pro-competitive practices or anti-
competitive practices. Thus, pro-competitive conduct should receive the benefit of doubt under
the rule of reason that considers all of its possible competitive justification and beneficial
effects.1 Anti-competitive practices, on the other hand, should be summarily condemned under

* Chaitra Yadwad, Student, School of Law, Christ University, Bengaluru.

1
Chicago Board of Trade v. United States, 246 US 231, 238 (1918).

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the per se rule without giving a defendant the opportunity to prove that a restraint may have a
redeeming beneficial purpose.2 Traditionally, the rule of reason was construed as a decision for
the defendant and the per se rule, a victory for the plaintiff.

Section 3 of the Indian Competition Act, 2002 talks about anti-competitive agreements. Anti-
competitive agreements are classified into two broad categories:

1. Horizontal Agreements: Section 3(3) of Competition Act, 2002 envisages horizontal

agreements as agreements between competitors operating at the same level in the economic
process, i.e., enterprises engaged in broadly the same activity. These are the agreements
between producers or between wholesalers or between retailers, dealing in similar kinds of
products. There are four types of Horizontal Agreements stated under Section 3(3) of the
Competition Act:

(a) Agreements regarding Prices: These include all agreements that directly or indirectly fix
the purchase or sale price.

(b) Agreements regarding Quantities: These include agreements aimed at limiting or

controlling production, supply, markets, technical development, investment or provision of
services.

(c) Agreements regarding Bids (Collusive Bidding or Bid-Rigging): These include tenders
submitted as a result of any joint activity or agreement.

(d) Agreements regarding Market Sharing: These include agreements for sharing of markets or
sources of production or provision of services by way of allocation of geographical area of
market or type of goods or services or number of customers in the market or any other similar
way.

2. Vertical Agreements: Section 3(4) of the Competition Act, 2002 deals with Vertical
Agreements. Such agreements are between non-competing undertakings at different levels of
manufacturing and distributing process. These are agreements between manufacturers of
components and manufacturers of products, between producers and wholesalers or between

2
Arizona v. Maricopa County Medical Society, 457 US 332, 344 (1982).

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producers, wholesalers and retailers. There are five types of Vertical Agreements stated under
Section 3(4) of the said Act:

(a) Tie-in Agreement: An agreement between a seller and a buyer under which the
seller agrees to sell a product or service (the tying product) to the buyer only on the condition
that the buyer also purchases a different (or tied) product from the seller is a Tie-in Agreement.

(b) Exclusive Supply Agreement.

(c) Exclusive Distribution Agreement.

(d) Refusal to Deal: A Refusal to Deal may be against another competitor; for example, if one
business refuses to do business with another company, customer or supplier, unless they agree
to cease business with another company, the agreement would be a refusal to deal.

(e) Resale Price Maintenance: Resale Price Maintenance or Vertical Price Fixing is a practice
in which the manufacturers seek to fix the minimum or maximum retail price of their products.
The manufacturer may impose the retail price on the retailer or it may be a joint agreement
between the two parties on the prices to be charged.

In considering whether an agreement has the effect of undue restraint on trade, the courts adopts
two separate approaches (1) Per se Illegal, that an agreement is presumed to be unreasonable
and therefore illegal and no argument is needed to justify its reasonableness and (2) Rule of
Reason, that an agreement is not presumed per se unreasonable but is assessed in its legal and
economic perspective to determine whether the restraint imposed is such that it merely
regulates and perhaps, promotes competition or whether it is such that it may suppress or even
destroy the competition. Section 3(3) of the Competition Act states that Horizontal Agreements
are considered Per se Illegal whereas Section 3(4) of the Competition Act states that Rule of
Reason is to be applied to Vertical Agreements.

Under modern Antitrust theories, the traditional illegal per se categories create more of
a presumption of unreasonableness.3 The court carefully narrowed the per se treatment and
began issuing guidelines. It explicitly held that Courts and Agencies seeking to apply the per
se rule must:

3
FTC v. Indiana Federation of Dentists, 476 U.S. 447 (1986).

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3. Carefully examine market conditions; and

4. Absent good evidence of competitive behavior, avoid broadening per se treatment to new or
innovative business relationships.4

CASE LAWS

1. United States v. Trans-Missouri Freight Association5 involved the attempt of eighteen

western railroads to fix freight rates by mutual agreement. The government brought suit to
dissolve the association under the Sherman Antitrust Act. By a 5 to 4 decision, the Supreme
Court held that the Sherman Act did apply to railroads and that it prohibited all contracts in
restraint of interstate or foreign commerce, not merely those in which the restraint was
unreasonable. Justice Edward Douglass W
do not contravene the act, became substantially the majority view fourteen years later in the
Standard Oil and American Tobacco cases.

2. In Addyston Pipe and Steel Co. v. United States6, there were six defendants who entered into
a combination and conspiracy among themselves by which they agreed that there should be no
competition between them in any of the States or Territories mentioned in the agreement
(comprising of thirty six in all) in regard to the manufacture and sale of cast-iron pipe.
The defendants were pipe makers who were operating in agreement. When municipalities
offered projects available to the lowest bidder, all companies but the one designated would
overbid, guaranteeing the success of the designated low bidder if no bidder outside the group
submitted a bid.

The government argued that some antitrust violations, such as bid rigging, were egregious anti-
competitive acts and that they were always illegal (the so-
asserted that it was a reasonable restraint of trade and that the Sherman Act could not be meant

4
Ibid.
5
166 U.S. 290 (1897).
6
175 U.S. 211 (1899).

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to prevent such restraints. The Appeals Court noted that it would be impossible for the Sherman
Act to prohibit every restraint of trade. Therefore, reasonable restraints were permitted only if
the restraint is ancillary to the main purpose of the agreement. If the primary purpose is to
restrain trade, then the agreement is invalid and in this case, the restraint was direct and
therefore, invalid. Therefore, a distinction was established between Naked Restraints (illegal
per se) and Ancillary Restraints (permissible restraints). The following are the Permissible
Ancillary restraints: a) by the seller of property/business not to compete with buyer in a way
that reduces its value; b) by a retiring partner not to compete with the firm; c) by a partnership
binding a partner not to interfere with the business of the firm; d) by the buyer of property not
to use it in competition with business retained by the seller; and e) by an assistant, servant, or
agent not to compete with a former employer.

The trial court dismissed the petition and thereafter, an appeal was made to the Court of
Appeals. This case was appealed to the Supreme Court and on appeal, the defendants argued
on three points. First, Commerce Clause of the constitution did not empower Congress to
regulate private agreements. Second, even if Congress possessed the authority to regulate

id not

in fact directly restrained trade.

3. In Northern Securities Co. v. United States7, a Corporation called the Northern Securities
Company was formed and the purpose was to acquire stock in two railroads, the Northern
Pacific and the Great Northern. Both ran trains across the northern part of the United States of
America. The Government filed a suit to break up Northern Securities on the grounds that such
a company violated the Sherman Antitrust Act. It was argued by the government that simply
by forming a company that owned stock in two competing railroads Morgan and Hill would be
acting to discourage competition in the railroad business in the northern part of the country.
The corporation claimed that the government did not have any authority to regulate the
purchase of stocks in a company. Instead, the State Government has the right to regulate.
Finally, the United States Supreme Court ruled that the Federal Government had the right to
break up a corporation called the Northern Securities Company. Further, certain rules were laid
down such as every combination or conspiracy extinguishing competition is illegal, natural

7
193 U.S. 197 (1904)

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effect of competition is to increase commerce and any agreement that prevents this play of
competition restrains trade and commerce, instead of promoting it, et cetera.

4. Standard Oil Co. of New Jersey v. United States8 occasioned the birth of Rule of Reason.
By 1880, Standard Oil was using its large market share of refining capacity to begin integrating
the backward into oil exploration and crude oil distribution and the forward into retail
distribution of its refined products to stores and eventually, service stations throughout the
United States. Standard Oil allegedly used its size and clout to undercut competitors in multiple
- -pricing and threats to suppliers
and distributors who did business with Standard's competitors.

The government sought to prosecute Standard Oil under the Sherman Antitrust Act. The main
issue before the Court was whether it was within the power of Congress to prevent one
company from acquiring numerous others through means that might have been considered legal
in common law, but still posed a significant constraint on competition by mere virtue of their
size and market power, as implied by the Antitrust Act.

Over a period of decades, the Standard Oil Company of New Jersey had virtually purchased all
the oil refining companies in the United States. Initially, the growth of Standard Oil was driven
by superior refining technology and consistency in the kerosene products that was the prime
utility of oil in the early decades of the company's existence. The management of Standard Oil
then reinvested their profits in the acquisition of most of the refining capacity in the Cleveland
area, then a center of oil refining, until Standard Oil controlled the refining capacity of that key
production market. By 1870, Standard Oil was producing about 10% of the United States
output of refined oil.9 This quickly increased to 20% through the elimination of competitors in
the Cleveland area.

The Court concluded that these facts were within the power of Congress to regulate under
the Commerce Clause
could refer to any number of normal or usual contracts that do not harm the public. It concluded

further pinpointed three such consequences: higher prices, reduced output, and reduced quality.

8
221 U.S. 1 (1911).
9
Dudley Dillard, Economic Development of the North Atlantic Community 409-410 (1967).

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The Court concluded that a contract offended the Sherman Act only if the contract restrained

that the Court identified. The Court suggested that a broader meaning would ban normal and
usual contracts, and would thus infringe liberty of contract. The Court endorsed the rule of
reason enunciated by William Howard Taft in Addyston Pipe and Steel Company v. United
States. The Court concluded, however, that the behavior of the Standard Oil Company went
beyond the limitations of this rule. Therefore it was held by the court that Rule of Reason, i.e.,

actions taken by the companies.

5. In Broadcast Music v. Columbia Broadcasting System 10, the TV network CBS filed
an antitrust suit against licensing agencies alleging that the system by which these agencies
received fees for the issuance of blanket licenses to perform copyrighted musical compositions
amounted to illegal price fixing
Broadcast Music to Columbia Broadcasting System of blanket licenses to copyright musical
compositions at fees negotiated by them is price fixing per se unlawful under the antitru

The Supreme Court held that blanket licenses issued by Broadcast Music did not necessarily
constitute price fixing. The judgment was unanimous in holding that such practice should
instead be examined under the Rule of Reason to determine if it is unlawful.

CONCLUSION

There is a basic distinction between cases that focus on the nature of the restraint and those that
focus on the nature of the market. In general, the former involves restraints that are traditionally
considered per se illegal or restraints that, on the basis of long experience, are considered likely
to have adverse consequences. All the other restraints fall in the latter category.
tive
effects in a particular case or indirect inferences based on market shares in defined markets.
One method is not necessarily more truncated than the other. In general, there is symmetry

based on inferences can be rebutted by inferences, but a case based on specific facts will require
specific facts in rebuttal. Hence, each case should be observed differently and according to the
facts of each case, the nature of competition, whether it is harmful or not should be considered.

10
441 U.S. 1 (1979).

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A blanket use of per se illegal rule will hinder the effective competition and technological
development. Therefore, Rule of Reason should be restored, whenever required.

**********

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