Chapter 7 Antitrust Law

HORIZONTAL RESTRAINT OF TRADE V VERTICAL

Horizontal - occurs when business operate at same level and generally in same market (i.e. GM, Ford, Chrysler) - businesses are competitors - ex: cartel, rival firms coming together to purposely restrain trade - can be rule of reason or per se Vertical - occurs when two or more firms in the distribution chain enter into a contract or conspire to restrain trade - involves vertical chain; distributor-wholesaler-retailer-customer - can be rule of reason or per se

Smithian Model

Adam Smith - economist in the late 1700s - individual choice and self organized firms preferred - felt government could not make best use of society's resources - need to rely on self-interest and profit - capitalism will bring fastest pace of technology and wealth - self-corrective force of competition replaces and improves upon parental role of government - competition is not present, government intervention is needed to protect consumers and promote wealth - Anti-Trust is one example of the need for government to protect when competition is not present

What is anticompetitive?

Anticompetitive practices are deliberate actions by firms to harm their competitors rather than improving their own products and services - antitrust law is designed to prevent and punish anticompetitive practices

THE COURTS AND ANTITRUST ANALYSIS

Antitrust law is dynamic - changes with business and society change and as more is learned about costs and benefits to society from different business agreements, arrangements, and activities The Two Rules 1. Per Se - automatically held to be illegal - cause is irrelevant - no defenses or justifications can justify - found in antitrust areas thought to be inherently anticompetitive - if per se, only issue remaining is the type and amount of damages 2. Rule of Reason - much more flexible standard - allows some antitrust violations as long as reasonable - can not be unreasonable level of antitrust violation - many factors the court can consider Critical question becomes: which rule of antitrust law is appropriate and the courts can change from one to the other or carve our as exception?

HORIZONTAL EXCHANGE OF INFORMATION

Is trading information between businesses good or bad? - depends on what information is exchanged - is consumer harmed or benefited? - reduce waste and inefficiency? - does the sharing of information help business in violating the spirit of Antitrust laws? - never talk price - need to do it publicly Conspiracy to Restrain Information FTC v Indiana Federation of Dentists (1986) - Indiana had rule that dentists could not share information with insurance companies (including X-rays) - insurance companies wanted to see X-rays to see if dental work was necessary - U.S. Supreme Court ruled Federation of Dentists rule was illegal based on rule of reason because there was no pro-competitive reason for the ban on sharing information

ENFORCEMENT PENALTIES

Two agencies enforce: - DOJ - FTC Private, non-governmental parties - individuals and businesses have right to sue alleged violators of antitrust law under Sherman or Clayton - get treble damages, attorney fees, court costs - majority (90%) of Antitrust law is private and if they are they cannot bring action under FTC Criminal Sanctions - DOJ, Antitrust Division is the only one that can bring criminal cases - Towards individual: jail time (3 years) or 350,000 fine or 10 mil fine under corporations - civil action by the government through injunction, civil damages, and regulation Remedies Available 1. injunctions 2. monetary 3. additional remedies include divest, or get rid of, a given subsidiary to avoid antitrust problems

Competition

lifeblood of capitalism Values of capitalism 1. efficiency 2. opportunity 3. individual liberty want competition in economy to deliver best set of rules for society as a whole want wide range of choices so customers can choose the most efficient and responsive firms which rewards entrepreneurship, efficiency, and risk taking individual firms do not want a lot of competition because it reduces profit and force costly change individual firms want to reduce competition and this gives rise to monopolies

MARKET DIVISIONS

*Horizontal Market Divisions* - division of market among competitors based on geography, product, or functional term - functional - dividing up customers such as one firm sell only to retailers and another firm sells only to wholesalers - court concerned with eliminating competition within divided areas - ex: 3 automobile manufacturers dividing up sales area geographically (would be unfair and create monopolies) U.S. v Suntar Roofing, Inc (1990) - Suntar Roofing and Ronin Roofing agreed to customer allocation plan dividing customers in Kansas City, Kansas between them - they could charge whatever they want in their geographic region - Government brought criminal charges against them under Section 1 of Sherman - Rule - horizontal market divisions are per se illegal so long as it involves more than one company *Vertical Market Divisions* Two types: 1. Territorial restraints - manufacturer tells retailer where they can sell product 2. Customer restrictions - restrictions on who you can sell to, such as wholesalers only White Motor Co. v U.S. (1963) - truck company required dealers to sell trucks only in exclusive territory around their dealerships - sold directly to governmental entities, thereby keeping other dealers from selling to those customers - slammed with section 1 violation - company argued that it was small and the industry was dominated by large companies so it was necessary to force dealers to concentrate on the competition not with each other - Rule - upheld with rule of reason approach Continental TV v GTE Sylvania (1977) - Sylvania terminated Continental as dealer - Continental sued based on claim that Sylvania was trying to monopolize - Sylvania decided to sell TVs directly to franchised retailers and to give them territorial restrictions - Rule - upheld with rule of reason approach Business Electronic Corporation v Sharp Electronics Corporation (1988) - gives manufacturers freedom to have wide control in selecting dealers to distribute their products - firmly established rule of reason unless a conspiracy can be shown or direct price-fixing is involved - absent price fixing, vertical market divisions are clearly rule of reason

Overview of the 3

*Sherman Antitrust Act of 1890* - essentially outlaws trust in the U.S. and empowered government to break up existing trusts but it did not protect consumers from anticompetitive practices and was ineffictive in dismantling well established trust - public dissatisfied with inaction, became a major issue of 1912 presidential race - 1911: U.S. v Standard Oil of New Jersey establishes rule of reason - *broad and punitive* - enforced by Department of Justice (DOJ) and can be civil/criminal *Clayton Antitrust Act of 1914* - Congress tries to address issues with Sherman with Clayton - directly outlawed anticompetitive practices leading to monopolization - addressed activities that could lead to trusts and monopolies while Sherman addressed mainly outcomes, trusts, and monopolies themselves - *specific and restrictive* *Federal Trade Commission Act of 1914* - created Federal Trade Commission (FTC) - regulated unfair methods of competition and deceptive acts and practices - covers everything not covered by Sherman/Clayton

Pre-Merger Notification

- *Hart-Scott-Rodino* Antitrust Improvement Act of 1976 - requirement of notification prior to merger to: the FTC and DOJ - purpose was to give government time to decide if oppose said merger on antitrust grounds - applies to mergers over $70 mil in value - 30 day time period notice - government can sue to stop merger during the time period

PRICE DISCRIMINATION

- Clayton, Section 2 always restricted price discrimination but it was unclear and had loopholes - Robinson-Patman Act (1936) amends Clayton Section 2: a manufacurer cannot sell the same product to different purchasers for different prices without justification - Section 2a is one of the most controversial areas in antitrust law - used to protect small stores from large chain stores - majority of cases are private Predatory Pricing - major type of price discrimination - manufacturer sells low in one area to drive out competition then raise prices once competition is gone from the market - difficult to win - always predatory or just aggressive competition? Elements to price discrimination - defendant must price product below cost - defendant then able to monopolize the market - monopoly lasted long enough for defendant to recoup losses suffered to drive competition out of business Defenses 1. Volume discounts - is consumer hurt or helped by volume discounts? 2. Cost justification - ex: difference in transportation costs 3. Changing conditions - deterioration of perishable goods, obsolescence of seasonal goods, court ordered sale 4. Meeting competition - when one company puts a product on sale, seller can meet (not beat) the competition's price

Determining Market Power

- FTC and DOJ have issued guidelines for when you can and cannot merge First factor is looking at the concentration of market power - determined by *Herfindahl-Hirschman Index* (HHI) - between 1000-1800 is moderately concentrated so merger may be stopped depending on circumstances - 1800+ is highly concentrated and merger will probably be challenged - will also look at other factors like ease of entry into market, economic efficiency, financial condition, politics Market power - ability of one or more firms profitably to maintain prices above competitive levels for a significant period of time Market share - percentage of relevant market controlled by firm Product market - interchangeable products (future or potential use) - have enough producers so that if one raise prices, consumers can go to others Geographic market - where product is sold - local, state, regional, national, international - also influenced by price of product - influenced by product buyers - what and how the consumer purchases the product - *relevant market is product market + geographic market*

Clayton Antitrust Act of 1914

- Sherman ineffective in many areas - Clayton used to supplement and fill in gaps - Sherman tries to prevent monopoly before or after it occurs - Clayton only has to prove significant probability of reducing competition (had to prove it was already reduced under Sherman) - deals with probable harms so only civil and monetary damages - enforced by FTC or DOJ Four Major Provisions 1. Price discrimination - charge different buyers' different prices without justification - charge above market prices in one area where they are the only supplier to offset losses made in other markets where rival firms compete and they charge way below market prices - gains advantage over competition and thus eliminates them 2. Exclusionary Practices/Exclusive Dealing - where one firm is given exclusive right, to the exclusion of others, to buy, sell, or trade another's product - substantially lessens competition or tend to create a monopoly - sometimes good reasons: help firms reduce selling and advertising costs - these situations are only a threat when the arrangement applies to a substantial share of products in a particular market 3. Tying Arrangements - seller requires a buyer to purchase a "tied" product as a condition of purchasing the desired tying product - forces buyer to make an all-or-nothing purchase - seller can than use market power over one product while preventing competition over another product in which it has little or no market power - only applies to exchange of goods, not services

European/International Reguglation

- U.S. businesses operate globally and may be subject to international antitrust regulation under U.S. law - European Union (EU) has been very aggressive in antitrust regulation of U.S. businesses - EU can block mergers on Antitrust grounds if the companies both do business in EU - need to be mindful of global antitrust regulation

PRICE FIXING

- almost certain to be a violation of Sherman - issue is, per se or rule of reason? *Horizontal Price Fixing Case Law* Crawford v McConnahade (before Sherman) - farmers and grain merchants U.S. v Trenton Potteries (1927) - monopoly on bathroom fixtures - ruled creating monopoly per se hurts consumers Appalachian Coal (1929) - leader, set price, other companies followed - per se approach: you did it, you pay! - rule of reason: was to get out of the Great Depression, case DISMISSED U.S. v Socony-Vacuum Oil Co (1940) - independent TX and LA oilmen caught overproducing due to recently discovered oil fields and lack of demand due to depression - they entered into agreement with major refining companies to limit production in market and thereby raise prices - per se violation CBS v Broadcast Music Inc (ASGAP) - sets rate to pay copyright for music - ASGAP & BMI were price fixing Arizona v Maricopa County Medical Society (1982) - two medical societies formed foundations for medicare care as alternative to existing health insurance plans - doctors joining had to agree not to charge more than the maximum fees set by foundation - found per se illegal NCAA v Board of Regents of the University of Oklahoma - over television airing rights - NCAA sets contract for everybody; 5 games per year excluding bowl games - technically horizontal price fixing since EVERYONE can only be shown 5 times Federal Trade Commission v Superior Trial Lawyers Association (1990) - attorneys demanded better pay for more work or they wouldn't work - didn't increase pay so they didn't work - FTC filed complaint claiming unreasonable restraint of trade - ruled for STLA in lower courts - overturned in Supreme Court, said they were horizontal price fixing *Vertical Price Fixing Case Law* Dr. Miles Medical Company v John D. Park and Sons (1911) - one of the first Supreme Court cases on resale price maintenance (RPM) - manufacturer tells buyer that they must sell the product for a stated amount, never below a certain price, used to protect integrity of product - Dr. Miles (producer) told buyer to not sell patented medicines below a certain price - Supreme court ruled manufacturer can sell product at any price they want, but once sold they cannot have control over the price - deemed per se illegal Problems with Per Se: - small businesses claim RPM helps them compete with larger firms - larger firms cannot usually provide services smaller ones provide - due to RPM due to volume discounts, smaller stores cannot compete and provide services - smaller stores argued that if a reasonable RPM scheme is set, they can compete and provide services as well Leegin (2007) - specifically overruled Dr. Miles case - made maximum price fixing handled under rule of reason - Supreme Court reasoning was some RPMs could be pro-competitive and enhance the marketplace, thus rule of reason was appropriate

Once a Section 7 Case is Made by the Government

- defendant must try to prove merger does not have anti-competitive effects which is very difficult to prove Defenses: *When Mergers are Allowed* - failing firm - lack of power in industry (U.S. v General Dynamics 1974 about hard and soft coal) - power-buyer defense (allow market to be dominated by 2 or 3 large powerhouses i.e. Coke and Pepsi) - government can always use potential competition to block merger

HORIZONTAL GROUP BOYCOTTS

- group boycott is refusal to deal - horizontal boycott if two competitors agree not to deal with each others competitors on the same level of competition; purpose was to eliminate or discipline a competitor of the boycotting group - Supreme court is clear - if boycott involves horizontal agreements it is per se illegal

Government Response to Pre-Merger Notification

- if government files suit to block merger it is usually under Section 7 of Clayton, amended by *Celler-Kefauver* in 1950 - avoid mergers that substantially lessens competition - usually done by determining market power

EXCLUSIONARY PRACTICES

- main concern of antitrust law is to be sure that firms with market power cannot control markets in which they do business *Tying Arrangements (tie-in sales)* - AKA tie-in sales - sale of one product conditioned upon required purchase of another product - ex: selling first product cheap then price gouging second product - legal tying arrangements: advertising techniques like BOGO free/half-off - International Business Machines Corp v U.S. (1936): IBM leased tabulation machines that required consumers to buy expensive cards to run. Ruled to be a violation of section 3 of Clayton, IBM tried to use technology requirements defense, LOST. - Northern Pacific Railway Company v U.S. (1958): tying product was land, tied product was shipment of goods on railroad. Ruled violation of section 1 of Sherman since it exploited railway's monopoly power - Datagate Inc. v Hewlett-Packard Co. (1995): HP had a tie-in contract with Rockwell International worth 100k a year. Issue was having only one contract enough to be antitrust violation? Decision: yes, because it affected a substantial volume of commerce and sales Government issued guidelines (per se, if:) - tied product and tying product are separate - seller has market power in tying product - evidence of substantial adverse effect in two tied product markets - *"per se with a twist"* (only applies for tie-in) *Exlusive-Dealing Contracts* - contracts under which a seller stops a buyer from purchasing the seller's competitive products - prohibited under section 3 of Clayton - however, rule of reason is used Standard Oil Co. of California v U.S. (1949) - U.S. found exclusive-dealing contracts with Standard Oil and independent stations in 7 states that restricted entry into market - found in violation of Clayton Section 3 *Boycotts* - when a group conspires to prevent the carrying on of business or to harm a business - group can be anyone: consumer, union, retailer, wholesaler, supplier - associated with price fixing schemes or other restraint of trade - found per se illegal if the group possesses market power and boycott is intended to restrict or exclude a competitor Eastern States Retail Lumber Dealers Assn. v U.S. (1904) - ESRLDA tries to boycott wholesalers who sold to the public - found per se illegal FTC v Superior Court Trial Lawyers Association (1990) - noted earlier

Federal Trade Commission Act (1914)

- most important part is section 5 - prohibits "unfair methods of competition in or affecting commerce, and unfair or deceptive acts or practices in or affecting commerce" - any business activity that may create a monopoly by unfairly eliminating or excluding competitors from the marketplace is condemned - used to regulate all forms of anticompetitive behavior not covered by Sherman or Clayton - "catch-all law" - establishes the Federal Trade Commission as agency empowered to investigate and enforce antitrust law

Sherman Antitrust Act of 1890

- primarily directed at trusts, specifically SOT - "trust buster" act - very broad terms with important provisions in section 1 and 2 Section 1 - "Restraints of Trade - every contract, combination in the form of trust or otherwise, or conspiracy, in restraint of trade or commerce among the several States, or with foreign nations, is hereby declared to be illegal" - makes it a criminal felony to engage in any contract to restrain trade - restraint of trade is agreement between 2+ parties that substantially reduces competition - does NOT require a contract between parties - does NOT cover unilateral actions to restrain trade - Courts divided section 1 violations into two categories to avoid ambiguity 1. Per Se violations - deemed blatantly anticompetitive - automatic violations (historically: price fixing, group boycotts, refusal to deal, market divisions) - strong - if courts find violation per se: they must find party guilty of Sherman violation and must address it 2. Rule of Reason violations - not automatic - do restrain trade and may lessen competition to some degree - however, may create benefits that outweigh damage they do - courts reserve right to: weigh evidence and determine whether agreement is defensible on the grounds that it benefits all of society Section 2 - "Monopolization (anticompetitive behavior) - every person who shall monopolize, or combine or conspire with any other person or persons, to monopolize any part of the trade or commerce among the several states, or with foreign nations, shall be deemed guilty of a felony." - only outlaws any *ATTEMPT* to monopolize, does not outlaw monopolies - there are legal monopolies who through legal and fair means; provides a superior product and does not subvert benefits of market competition AND refrains from maintaining its status through anti-competitive means and allows competitors to readily enter the market - courts look for intent to monopolize by making it harder for rival firms to compete and do not seek to improve their own product quality or efficiency Requirements for violation of section 2 - firm must be shown to acquire monopolistic power and engaged in willful attempts to acquire or maintain that power - not a legal tool for preventing monopolies BEFORE they arise - means of punishing successful, anticompetitive attempts to CREATE and SUSTAIN monopolies - difficult to prove

Clayton Antitrust Act of 1914 - 4. Mergers (Section 7) contd

1. Intro - joining of two or more companies into one - best known antitrust activity is review and prevention of mergers - prevented when they substantially lessen competition or tend to create a monopoly in any line of commerce - not all mergers fall into section 7 violation - if it does fall into section 7: it reduces consumer choice and lessens the efficiency of markets for the sake of profits 2. Firm Concentration - proportion of the relevant market served by the largest firms in the market - higher the market share in the hands of a few firms, the more they violate section 7 - not always the appropriate basis to show that potential merger will lessen competition 3. Barriers to Entry in the Relevant Market - any characteristics of the relevant market that make it particularly difficult for new firms to enter and thereby compete with established firms - more complex criteria - more substantial the barriers to entry are, the more likely they will lessen competition and be prohibited - common types: licensing requirements, large-scale investments, access to scarce resources - if potential competitors cannot offer products to buyers, the market is less competitive and more likely to be blocked Four Distinct Types of Mergers 1. Horizontal Mergers - mergers between firms that compete in the same market - (i.e. United and Continental) 2. Vertical Mergers - two firms in the same chain of production and distribution combine into one firm (supplier-customer merger) - removes competition by grouping a broader array of operations into a single firm improves efficiency of production but also excludes competitors from the market - (i.e. GM buying their suppliers) 3. Market Extension Mergers - can be vertical or horizontal and have two types: - Geographic: mergers between two firms in the same product market but not in the same geographic market (i.e. Blue Bell [TX] and Purple Rabbit [WV]) - Product Market Extension - mergers between two firms in similar fields of business but not in exact business field (i.e. Blue Bell and ice cream cone manufacturer) 4. Conglomerate or Diversification Mergers - mergers between firms that operate in distinct and unrelated marketss - neither horizontal or vertical - can substantially reduce threat of competition that may harm consumers - want to prevent merger that reduce the threat of competition but not actual competition - (i.e. RGR and Nabisco) 5. Interlocking Directorates, Section 8 - having the same people sit on competing corporations' board of directors

Exceptions to Major Antitrust Laws

Natural Monopolies - total production costs for a single firm serving a market are lower than total production costs for a group of competitive firms serving that same market - some monopolies offer lower rather than higher prices - does not exclude competitors - serves as many consumers as competitive market - usually controlled by various government/public utility commissions that normally set prices Individual Exemptions - labor unions - must solely act in the interest of their membership and cannot include any non-labor affiliates - regulated by National Labor Relations Act Agricultural Cooperatives or Associates - are not for profit organizations that work to assist farmers by providing them with loans, price, and resources - exempt by *Clayton* and *Capper-Volstead Act* of 1992 State Action Exemptions - actions by state that lead to and/or regulate monopolies - liquor, logging, firearms - foreign trade - *Baseball (MLB only)* - Political Action Committees

Powerful Trusts Created

U.S. government began efforts to preserve competitive markets in the last part of the 1800s due to John D. Rockefeller's creation of the Standard Oil Trust - he took over competitiors, transferred their stock to bypass existing laws - 1870: he controlled most of the oil industry from producer to consumer - 1882: controlled most of the world's oil industry - made a lot of enemies *Ohio Supreme Court* dissolved SOT in 1892 geographically - Standard Oil of New Jersey (Exxon-Mobil) - Standard Oil of California (Chevron) Railroad Trusts - railroads dominated by trusts in 1880s - used market power to increase prices almost at will - public reaction negative so Congress passed Interstate Commerce Act to regulate railroads and was a first step in protecting consumers and small businesses - needed more -> Sherman Antitrust Act of 1890