Business Law Groupwork

EMBA11 Group 2 Stanelle, Tari, Estep, Nguyen, Mildren

Any price charged could be illegal Lower than your competitors could be predatory Higher than your competitors could be gouging Same as your competitors could be price-fixing

Horizontal Price Fixing Vertical Pricing Fixing Price Gouging Antitrust Cartels and Monopoly Predatory Pricing Price Discrimination Tying of Products

Created in reaction to a public outcry over trusts

(late 19th century corporate monopolies that dominated U.S. manufacturing and mining)

Trusts took their name from the device of business incorporation called trusteeship
(this consolidated control of industries by transferring stock in exchange for trust certificates)

Rapid industrialization in the late 1800s increased market competition and rivals sought greater security and profits in cartels (mutual agreements to fix prices and control output) Creation of trusts brought entire industries under the control of a few powerful people
(e.g. Oil and steel lay in the hands of the corporate giants John D. Rockefeller and J. P. Morgan)

By the 1880s, abuses by the trusts brought demands for reform

The 1890 Sherman Act

Prohibits contracts, combinations, and conspiracies in restraint of trade and monopolization Includes criminal penalties when enforced by the government Violation can result in substantial fines and, for individual transgressors, prison terms In addition, court orders restraining future violations are also available Enforced primarily by the Antitrust Division of the Justice Department

The 1914 Clayton Act

Amended in 1936 by the Robinson-Patman Act and in 1950 by the Celler-Kefauver Antimerger Act Deals with exclusive dealing arrangements, tie-in sales, price discrimination, M&A, interlocking directorates Carries only civil penalties Jointly enforced by the Antitrust Division and the Federal Trade Commission (FTC) FTC in practice has responsibility for anticompetitive price discrimination Establishes triple damages in private suits

The 1914 Federal Trade Commission Act

Established a new government agency with broad authority to regulate unfair and deceptive business practices The agency can issue a cease and desist order telling firms that certain practices must be stopped Less cumbersome than court processes (strict rules of evidence and juries) Firms can still appeal an FTC order to a court Somewhat a catch all enactment that gives even broader powers than the Sherman Act

Not all countries have Antitrust Laws

(Complete list can be found at www.justice.gov)

International guidelines established by

OECD World Trade Organization International Competition Network
Map Illustrating Global existence of Antitrust laws Source Anti trust blog

European Union
Covers - Cartels, Monopolies, Mergers, State Aid Enforced by Directorate-General for Competition but managed by national agencies
UK, Office of Fair Trading and Competition Commission France, Conceal de la Concurrence

Horizontal price fixing is an agreement between competitors or businesses at the same level of competition arranging to set a common price. It is the most direct way to reduce competition. Includes:
Setting prices (including maximum prices) Setting the terms of sale Setting quantity/quality of goods to be manufactured or made available for sale Rigging bids

Price fixing can be prosecuted as a criminal offense under Section 1 of the Sherman Antitrust Act

Can be viewed as a per se violation of Sherman Act regardless of impact or efficiency of the act
The reason why collusion is treated as a paramount offense is it could lead to monopoly-like outcomes, including monopoly profits shared by colluding parties Courts broadly define price fixing. Credit terms and discounts cannot be fixed since inextricably related to price

But it is permitted in some markets; where allowed, referred to as resale or retail price maintenance

Criminal penalties for price fixing 1890-1990

2007 British Airways and Korean Air Lines fined over $1 Billion for fixing fuel surcharges from 2004-2006 2008 LG, Chungwa Picture Tubes, and Sharp plead guilty and agree to pay $585 Million in criminal fines for colluding to fix prices of LCD panels

The EU has stipulations similar to the US against horizontal price fixing and collusion
In the EU, rare exceptions are made when they benefit consumers from technological innovation International price fixing by private entities can be prosecuted under the antitrust laws of many countries

Before 1995, less than 1% of firms accused of price fixing were foreign firms; after 1997, foreign firms account for over 50%

In addition to formal agreements, the law also covers activities that have price fixing effects, i.e. merely discussing pricing plans with competitors (conscious parallelism) Competitors must be careful about even giving the appearance of collusion. Be prepared to show facts supporting the exercise of an individual business judgment in making a pricing decision Businesspeople with advanced degrees, such as MBAs, should expect more severe penalties, such as longer prison sentences, as they "should know better In addition to fines, civil actions (especially class actions) can have serious financial consequences. Litigation for price fixing is not uncommon

U.S. Justice Dept. views collusion as a hard crime punishable by prison sentences Liability for antitrust violations is joint and several, i.e. each conspirator could be liable for the losses caused by all of the violators Fines/Prison Sentences Imposed in U.S. DOJ Price Fixing Cases

Vertical Price Fixing refers to the manipulation and control of pricing in the supply or distribution chain Unless a manufacturer sells its product directly through its own retail outlet, it has very little control of the end customer pricing Manufacturers desire to control end customer pricing
To protect their brand image To avoid consumer free riding from full service retailers and buying at discount retailers. e.g. test driving a car at Gainesville Ford and then buying from a discount online dealer in Texas To avoid price gouging on new highly sought after products, e.g. new iPhone

Also referred to as Resale Price Maintenance A manufacturer cannot legally dictate the end customer price charged by a retailer Manufacturers can however establish
A Manufacturers Suggested Retail Price (MSRP) A Maximum Retail A Minimum Retail Price (RPM)

Some argue that Resale Price Maintenance has less to do with Price fixing and more to do with management of retailer incentives A Minimum Price maintenance allows alignment of interests of retailers and manufacturers Restricting price at the retail level enhances other forms of non-price competition brand identity, service The fact that a retailer is following the MSRP is not enough to show price fixing; the plaintiff must show actual agreement of the pricing

1911 Supreme Court determines minimum retail pricing is illegal under the 1890 Sherman Act 1919 United States v. Colgate Co. established the right of a company to go beyond announcing its MSRP and refusal to deal with wholesalers and retailers who do not conform to such prices 2007 Leegin Creative Leather Products, Inc. v. PSKS, Inc. Supreme Court overturned previous ruling on minimum price fixing. The law now requires that courts use the rule of reason to decide on a case by case basis if manufacturers demanding minimum prices for their goods are violating federal antitrust laws Attempts were made by legislators to reverse the Leegin decision with the 2009 Discount Pricing Consumer Protection Act (now thought to be abandoned)

The EU, Canada and Australia have very similar rules to the US An example of long term vertical price fixing comes from a cozy arrangement in the UK Starting January 1st 1900 the main UK book publishers refused to sell to booksellers that discounted their MSPR This process continued until 1962 when it was evaluated by the restrictive practices court. The court determined it was to the benefit of the industry that important, but low volume works were subsidized by best sellers This practice continue until the early nineties, when the practice was finally challenged by large retailers - Dillons and Waterstones

Law from the 2007 Leegin Creative Leather Products, Inc. v. PSKS, Inc. case is new and untested Concerns that it might conflict with prior contracts, franchise laws and even state law Horizontal price fixing remains illegal and manufacturers must be careful to avoid minimum price requests from groups of dealers as this could lead to the manufacturer becoming embroiled in the dealer groups horizontal pricing conspiracy

In 2004, Hurricanes Charley, Frances, Jeanne, and Ivan devastated Florida In the midst of the recovery, price gouging profiteers preyed upon hurricane victims Over 6,000 reports of price gouging were confirmed by the Attorney Generals Office during the declared state of emergency covering these hurricanes Fortunately, Florida's price gouging law protected these consumers

Typically defined as a sharp increase in the price of basic necessities over a short period of time either immediately prior to or following a natural disaster, to a level that is higher than is considered reasonable or fair

Florida Statute 501.160 states that during a state of emergency, it is unlawful to sell, lease, offer to sell, or offer for lease essential commodities, dwelling units, or self-storage facilities for an amount that grossly exceeds the average price for that commodity during the 30 days before the declaration of the state of emergency, unless the seller can justify the price by showing increases in its prices or market trends

Following the Hurricane Andrew disaster in Florida and Louisiana, there were widespread reports of price gouging at many retailers, by contractors and other individuals
Bob Crawford, Floridas Commissioner of Agriculture and Consumer Services said of Hurricane Faye:
We had quite a bit of price gouging during Hurricane Andrew, but it seems to be more rampant this time. Bottled water will be $0.75 one day, and then the next day it will be $3 or $4. Weve had complaints of plywood marked up 200 to 300 percent.

Most countries outside the US have little protection of consumers for price-gouging, regardless of the cause

To date, 31 states have enacted Anti Price-Gouging legislation

In general 12 of the remaining 19 states have either taken enforcement action without Anti PriceGouging laws or considered an Anti Price-Gouging bill that ultimately failed

Price gouging, at its worst, prevents those without the ability to pay from obtaining the most basic of needs, including food, water, shelter and medicine

This leaves the question, how much should prices be able to increase to compensate merchants for additional costs and risks, before gouging occurs
No clear answer exists to this question, with many states implementing 10% to 25% limits for price increases during states of emergency

A cartel is an agreement among competing firms. It is an organization of producers or manufacturers that agree to fix prices, marketing, and production A monopoly exists when a specific individual or an enterprise has sufficient control over a particular product or service to determine significantly the terms on which other individuals shall have access to it

Competition law, known in the United States as antitrust law, are laws that promote or maintain market competition by regulating anti-competition conduct Issues associated with cartels and monopolies:
Limiting Supply Predatory Pricing Price Discrimination Refusal to Deal & Exclusive Dealing Tying & Product Bundling

Laws governing competition can be traced back over 2,000 years to the Roman empire and medieval times In the US the Sherman Antitrust Act outlawed all contracts, combinations and conspiracies that unreasonably restrain interstate and foreign trade. This includes cartel violations, such as price fixing, bid rigging and customer allocation.

The EUs competition law explicitly forbids cartels and related practices in its article 81 of the Treaty of Rome. Since The Treaty of Lisbon came into effect, the 81 EG is replaced by 101 AEUV. In the public cartel, a government is involved to enforce the cartel agreement, and the government's sovereignty shields such cartels from legal actions A government-granted monopoly (also called a de jure monopoly) is a form of coercive monopoly by which a government grants exclusive privilege to a private individual or firm to the sole provider of a good or serve

It has been suggested that for a cartel or monopoly to be formed, government assistance, whether overt or covert, is required Increased competition from free trade puts significant pressure on cartels and monopolies

Predatory prices are an investment in a future monopoly, a sacrifice of todays profits for tomorrows. The investment must be recouped. If a monopoly price later is impossible, then the sequence is unprofitable and we may infer that the low price now is not predatory. Judge Easterbrook

Pricing below cost to injure rival firms and thus induce their exit:
Predator sets price very low (below marginal cost) Rival firms cannot compete and exits the market Predator firm becomes a monopolist and increases price to monopoly price

Cases involving allegations of unfair, predatory pricing have been tried in the US courts system as:
Monopolization cases under the Sherman Act Price discrimination cases under the Clayton Act

Many economists believe predatory pricing is unsustainable long term

The question becomes - When is a low price predatory and when is it competitive In Brooke Group v. Brown & Williamson Tobacco, Supreme Court defined two fundamental prerequisites that plaintiffs must satisfy in predatory pricing cases:
1. Prices were set below some "appropriate measure" of its costs
(The Court failed to state explicitly what the measure would be)

2. Reasonable expectation that predator would subsequently be able to recoup its investment in those below-cost prices

The Court has repeatedly shown its skepticism about cases of predatory pricing
Predatory pricing schemes are rarely tried Even when tried, they are even more rarely successful

1970 Matsushita Electronic Industrial Co. v. Zenith Radio Corp.

Zenith claimed that the seven firms were pricing their TVs and other electronic appliances below cost in the US market The Supreme Court said that the plaintiffs arguments did not make sense economically with respect to the industrys market structure Firms did not possess significant market power Unlikely for predators to recoup losses from predation No evidence of conspiracy

Brooke Group v. Brown & Williamson Tobacco

Plaintiff accused Brown & Williamson of charging below-cost prices in the market for generic (low-priced) cigarettes In the case the Supreme Court established two fundamental prerequisites for predatory pricing cases

A case often presented by detractors of the predatory pricing laws is the case of Dow Chemicals
1904 Herbert Dow invented a cheaper way of producing Bromine He started exporting and competing against the German Brominkartel The Germans retaliated by discounting their products tin the US Dow outsmarted his competitors by buying much of the discounted Bromine and sold it back to the Germans at a discounted price

In 2000 Germany's federal cartel office found Wal-Mart guilty of predatory pricing practices
It had sold household staples like milk, flour and butter below its wholesale costs Recouping of investment was not considered Regulators acted to prevent Wal-Mart and other big chains from using ''unfair'' tactics to devastate smaller stores

Predation is a very costly way in which to enhance market power If firms are pricing below cost, the cost of predation can be
Severe for the predator Profits for predator would be higher under normal competition versus under possible predation

There are three other reasons why firms would still proceed with predation:
Low-cost signaling Build a reputation Stunt growing markets

Price Discrimination in Anti-Trust pricing is defined as the illegal charging of different prices to different purchasers of goods or services that are of like grade and quality, when the price differences are not justified by cost differences The Robinson-Patman Act, established in 1936, was intended to curb monopolization and preserve competition

Price discrimination occurs if the different prices charged result in substantial injury to:
1. Buyers' competition (injury in the secondary line) - The buyers must compete geographically and on the same functional level. If both purchasers are ultimate consumers and do not compete in resale of the product, no violation can be found 2. Sellers' competition (injury in the primary line) The lower discriminatory (predatory) price damages the sellers competitors by making them lose business

Section 2 of the Clayton Act The Robinson-Patman Act Interesting Cases: Brooke Group Ltd. v. Brown & Williamson Tobacco Corp. Volvo Trucks North America, Inc. v. Reeder-Simco GMC, Inc. Feesers v. Michael Foods and Sodexho Recent Supreme Court rulings emphasis: To satisfy the competitive injury requirement, plaintiff must prove that the different purchasers are competing in the same bid markets, and that the defendants illegal price discrimination has injured the plaintiffs ability to compete

Article 82 of EU law focuses on combating illegal price discrimination

Unlike the US, Article 82 requires that the party engaging in price discrimination has some form of dominant market power

Managers need to be aware: Similar pricing should be used when goods of like grade and quality are sold to different customers of the same geographical area and functional level Lagging or resentful rivals may use the RP Act as a misguided and wasteful way to battle a leading competitor

Bundling is a legal marketing strategy where a company offers several products for sale as one combined product Occasionally, bundling can represent an unfair use of market power and be used to limit consumer choice Tying is making the sale of one good conditional on the customer purchasing a second (perhaps unrelated) good
Industry examples: Software suites, Cable/Internet services, Fast Food (value meals), Printers & Ink, Razors & Razorblades

Horizontal Tying conditional sale of unrelated goods Vertical Tying conditional sale of related goods Economic Power sellers degree of market influence
Four conditions to establish unlawful tying:
1. 2. 3. 4. Two separate products/services involved Purchase of good A is conditional upon the additional purchase of good B Seller has sufficient market or economic power Affects a substantial amount of interstate commerce in the product category

Most states have laws against tying Sherman AntiTrust Act Clayton Act Bank Holding Company Act Amendments of 1970 Magnuson-Moss Warranty Act
Interesting Cases: Jefferson Parish Hospital District v. Hyde, 466 U.S. Illinois Tool Works v. Independent Ink United States v. Microsoft

Article 102 of the Treaty on the Functioning of the European Union Section 2(d) addresses Tying No unconnected supplementary obligations Microsofts Windows Media Player - 497 million fine

Use caution when constructing bundled packages of goods and services Be particularly careful if a package includes unrelated products Watch out for broad discrepancies between product margin realization Loss leaders are acceptable under certain circumstances Generally, package solutions should not exploit market power to limit competition or consumer choice