Author: Jarod Bona
If you are looking for controversy, you came to the right place. Today, we discuss resale price maintenance, one of the most contentious issues in all of antitrust. If you look around and see a bunch of antitrust economists, hide your screen so they don’t start arguing with each other. Trust me; you don’t want to be stuck in the crossfire of that.
Let’s start with some background: A resale price maintenance agreement is a deal between, for example, a supplier and a retailer that the retailer will not sell the supplier’s product to an end user (or anyone, for that matter) for less than a certain amount. It is a straight vertical price-fixing agreement.
That type of agreement has a storied—and controversial—past. Over a hundred years ago, the Supreme Court in a case called Dr. Miles declared that this type of vertical price fixing is per se illegal under the federal antitrust laws. This is a designation that is now almost exclusively limited to horizontal agreements.
During the ensuing hundred years or so, economists and lawyers debated whether resale price maintenance (RPM) should be a per se antitrust violation. After all, there are procompetitive reasons for certain RPM agreements and the per se label is only supposed to apply to activity that is universally anticompetitive.
After a trail of similar issues over the years, the question again landed in the Supreme Court’s lap in a case called Leegin in 2007. In a highly controversial decision that led to backlash in certain states, the Supreme Court lifted the per se veil from these controversial vertical agreements and declared that, at least as far as federal antitrust law is concerned, courts should analyze resale price maintenance under the rule of reason (mostly).
You can read more about Leegin and how courts analyze these agreements here. And if you want to learn more about how certain states, like California, handle resale price maintenance agreements, you can read this article. Finally, if you are looking for a loophole to resale price maintenance agreements, read our article about Colgate policies and related issues.
Minimum advertised pricing policies (MAP) are related to resale price maintenance: you can read our article on MAP pricing and antitrust here. You might also want to read Steven Cernak’s article about the four questions you should ask before worrying about the antitrust risks of new distributor restraints. And you can listen to a podcast with Molly Donovan and Steve Cernak about MAP Pricing here.
Now that you are done with the extra reading, we can move on.
There is little doubt that RPM agreements can, in many circumstances, create pro-competitive benefits. For example, let’s stay you design, make, and sell really high-end clothing. You use quality materials and the clothing isn’t cheap to make. Your marketing centers on quality and many celebrities wear your label. And—not surprisingly—your outfits cost a lot to buy. Interestingly, you did some A/B testing and your sales volume actually went up when prices were higher.
You have a luxury brand and you compete on quality. And higher price, for many people, is a proxy for quality.
So you enter into a resale price maintenance agreement with your retailers. They aren’t permitted to sell your clothes for less than an agreed-upon amount. (The reality is that we would likely recommend that you create a Colgate policy instead, which doesn’t involve an agreement). You can read about the difference between a Colgate policy and Resale Price Maintenance Agreement here.
This is a pro-competitive application of a resale price maintenance agreement. You improve your ability to compete with other clothing companies because the agreement helps to preserve your “luxury” cachet.
Fancy lawyers and economists would say that you increased interbrand competition by reducing intrabrand competition. But don’t worry about that unnecessarily confusing description unless you are a fancy lawyer or economist.
There are, of course, other procompetitive reasons for RPM agreements, like encouraging retailers to put in the resources to demonstrate your product to customers, or at least to place nice signs in the store about your product.
Horizontal Antitrust Conspiracies
Now, let’s talk about some of the bad stuff. Under antitrust and competition law, what people worry about most are horizontal conspiracies to restrain trade. Cartels are inherently unstable and usually end up self-destructing. But the profits from them are so great and the harm to consumers so severe that antitrust law singles them out for special harsh treatment, including criminal prosecution under certain circumstances. (By the way, if the government is investigating for antitrust violations, consider whether you should hire your own antitrust counsel).
But resale price maintenance agreements are vertical agreements, not horizontal.
How do RPM agreements relate to horizontal antitrust conspiracies?
Remember when we talked about how the Supreme Court in Leegin removed the per se violation label from resale price maintenance agreements? Good.
Well, it wasn’t quite that simple. The Court recognized the debates about whether resale price maintenance can be pro-competitive and, inevitably, had to remove the per se label because there was little doubt that there are strong arguments that it can.
But the Court was also concerned about potential anticompetitive effects of the vertical pricing agreements and, in fact, directed future courts to look more closely at certain issues.
For purposes of this article, we will focus on two specific anticompetitive concerns, which arise in certain circumstances.
First, the Court stated that “[r]esale price maintenance should be subject to more careful scrutiny … if many competing manufacturers adopt the practice” (897). The concern here is that RPM agreements may make it easier for suppliers to conspire with each other to fix prices.
Cartels are usually unstable because each member has a financial incentive to cheat to sell more volume by slightly lowering their price to one or more purchasers. If, however, all suppliers adopt RPM agreements, it is easier for them to “enforce” the cartel because “cheating” price cuts are harder to hide in those circumstances.
So if you are considering whether to adopt an RPM (or even a Colgate policy) and everyone else in your industry engages in vertical price fixing, you should take extra cautions. There could, of course, be specific reasons why everyone—individually rather than collectively—would adopt an RPM or Colgate policy in your industry. But expect extra scrutiny.
Second, according to the Supreme Court, “[i]f there is evidence retailers were the impetus for a vertical price restraint, there is a greater likelihood that the restraints facilitates a retailer cartel or supports a dominant, inefficient retailer.” (897-98).
Let’s say that you are an established retailer with some market power or a lot of market power selling a particular type of product—maybe toys—and you notice that there are these new competitors coming into the market. They don’t care so much about your established name or the way you do business. Instead, they just want to cut prices and sell as many toys as they can. You hate them.
Some of your once loyal customers no longer visit your tastefully decorated store. Instead, to your disappointment, they go to your new rivals’ stores, which don’t even have paint on the wall. You have lost a lot of respect for these customers, who now just seem like money-grubbing traitors to you.
Luckily, you have market power and a lot of market power if you combine it with some of the other established retailers with tastefully decorated stores like yours. The idea makes its way around the industry—not an agreement, more like an idea floating around—that if the toy manufacturers (who have less market power than you and your fellow established retailers) set up RPM agreements, or even Colgate policies, your new rivals would be out of luck.
Here is how it would work: You and other retailers would pressure the toy suppliers to set up a minimum price for each toy. If the pressure doesn’t work, you could offer them a share of the additional profits you’d receive from getting rid of the new retailer that sells everything just above cost.
Once the suppliers set minimum prices, the new retailer loses its biggest (and only) advantage. It can’t beat you on price anymore.
It works; the suppliers set minimum prices and the cost-cutter eventually exits the market. And all your customers come back.
You celebrate until you receive the summons for the antitrust lawsuit against you.
This, of course, is an anticompetitive story to vertical price-fixing. When the pressure comes from one or more retailers, courts are likely to be more suspicious. In this case, there may have been horizontal collusion among some retailers or it may just have been an inefficient retailer with market power (you) that led to RPM or Colgate policies. In either case, there is a good chance that a Court or antitrust agency will find an antitrust violation.
If your market is such that one retailer seems to be spearheading or coordinating RPM or other restraints by several manufacturers, you might want to read about hub-and-spoke antitrust conspiracies. Your kids might enjoy this article on the same topic.
Resale price maintenance is full of landmines. If you are involved in an industry with these or similar arrangements, you should talk to an antitrust attorney.
photo credit: Sam T (samm4mrox) DSC_2133 Minions via photopin (license)