Antitrust: the Sherman Act

CHAPTER 49 ANTITRUST: THE SHERMAN ACT

I. OBJECTIVES: This chapter is designed to acquaint students with the sociohistorical origins of the federal antitrust laws, the nature of the current antitrust policy debate, and the fundamental attributes of the Sherman Act. After reading the chapter and attending class, a student should: A. Understand the social forces and policy assumptions that produced the Sherman Act. B. Have a general grasp of the difference between "Chicago School" antitrust policy and traditional antitrust policy views. C. Understand the necessary prerequisites for federal antitrust jurisdiction and the basic penalties for Sherman Act violations. D. Understand the difference between per se and rule of reason analysis in antitrust cases. E. Be able to identify the basic types of business behavior that can violate Sections 1 and 2 of the Sherman Act and the legal standards applicable to such behavior.

II. ANSWERS TO INTRODUCTORY PROBLEM: A. No, not without additional facts tending to indicate that XYZ’s decision to have its prices parallel those of a competitor were the result of joint action (e.g., an implied agreement) on the part of XYZ and the competitor. As phrased, the question seems to refer only to unilateral action on XYZ’s part. Unilateral action does not violate Sherman Act § 1. B. In either instance (competitors agree to charge a certain maximum price or competitors agree to charge a certain minimum price), there would be horizontal price-fixing, a per se violation of Sherman Act § 1. C. If XYZ and its dealers agree on a maximum price, there would be vertical maximum price- fixing, which receives rule of reason treatment. This means that there might--or might not-- be a violation of Sherman Act § 1, depending on whether the justifications for the agreement outweigh the harm to competition. However, if XYZ and its dealers agree on a minimum price, there would be a per se violation of § 1. All vertical price-fixing other than vertical maximum price-fixing receives per se treatment. D. If XYZ and its dealers agree on exclusive sales territories within which the dealers will operate, a vertical restraint on distribution (a vertical non-price restraint) has occurred. This behavior receives rule of reason treatment, which means that there might--or might not--be a violation of Sherman Act § 1, depending on whether the justifications for the agreement outweigh the harm to competition. E. The “you must also buy product #2 if you want to buy product #1” scenario involves a tying agreement, which violates Sherman Act § 1 (and sometimes Clayton Act § 3) if certain necessary elements described in the text are present. F. If XYZ and other widget makers agree on exclusive geographic areas of operation, there would be a horizontal division of markets. Most divisions of this nature are classified as per se violations of Sherman Act § 1. G. If XYZ and other widget makers agree not to purchase materials from a certain supplier, they have agreed on a horizontal boycott. Although group boycotts generally are classified as per se violations of Sherman Act § 1, the reality is that some boycotts receive per se treatment

Business Law: The Ethical, Global, and E-Commerce Environment, 12E 9 whereas others receive rule of reason analysis. Horizontal boycotts, however, seem more likely than vertical boycotts to be considered per se violations. H. No. Having monopoly power is not a violation of Sherman Act § 2. That statutory section prohibits monopolization. The minimal facts set forth in the question indicate that XYZ would have acquired monopoly power on the merits of its reputation for producing high- quality widgets, rather than on some anti-competitive basis. Hence, XYZ would not have committed monopolization.

III. SUGGESTIONS FOR LECTURE PREPARATION: A. Introduction 1. Discuss the sociohistorical forces that led to the passage of the Sherman Act. Note the economic populism inherent in the traditional antitrust assumption that fragmented market structures are a prerequisite of competition. a. Note also the paradox inherent in the passage of the antitrust laws: free markets must be regulated if they are to be preserved. b. Note also that critics who agree with traditional antitrust assumptions could argue that the antitrust laws have been unsuccessful in achieving their basic goals, given the concentration that typifies many industries. Of course, one can only speculate about the structure industry would have assumed in the absence of antitrust regulation. B. The Antitrust Policy Debate 1. Contrast "Chicago School" analysis with traditional antitrust thinking. 2. What forces have contributed to the rise of Chicago School theories? Some candidates are: a. Concerns over the competitive position of the U.S. in world markets. This may explain the Chicago School emphasis on economic efficiency. b. The fact that conservative administrations were in power at the federal level during much of the past two decades. c. The perceptions of many critics that antitrust law had taken a wrong turn during the 1960s and 1970s. d. The fact that Chicago School approaches seek to legitimize certain business behaviors that previously were held to be contrary to antitrust policy. In other words, Chicago School critics have said a number of things that many people have wanted to hear. 3. You may wish to discuss the extent to which the prevailing political winds may help shape antitrust policy and the level of aggressiveness (or lack thereof) with which the government takes antitrust enforcement action. Note the role the federal judiciary plays in influencing the directions in which antitrust law moves. Over the past two decades, many judges who are receptive to Chicago School views have been appointed to the federal bench. C. Jurisdiction, Types of Antitrust Cases, and Standing 1. Discuss the basic prerequisite for federal antitrust jurisdiction: some significant impact on interstate commerce or on our foreign commerce. Note the constitutional basis for this limitation on the power of the federal government to regulate business behavior. a. Point out how easy it is to demonstrate some interstate commerce nexus for most business behavior, given the nature of our national economy.

10 Chapter 49: Antitrust: The Sherman Act Example: Summit Health Ltd. v. Pinhas, 500 U.S. 322 (1991) (Los Angeles hospital's actions with regard to peer review system had sufficient connection with interstate commerce to support federal antitrust jurisdiction). b. Note the international reach of our antitrust laws. Stress the fact that before the activities of foreign firms, or of U.S. firms in foreign markets, will be subject to antitrust scrutiny, some impact either on our domestic or foreign commerce must be shown. You may also wish to point out that attempts to expand the international scope of our antitrust laws present a potential conflict between our antitrust policy and our foreign policy. If you wish to go into greater detail at this point, you may consider assigning the foreign commerce material in the next chapter. 2. Discuss the types of antitrust cases, noting the essential differences between criminal cases and civil cases. Also note that either the government or a private plaintiff may bring a civil suit. a. Note the role of nolo contendere pleas in resolving certain criminal antitrust cases. Explain the similar role played by consent decrees in many civil antitrust cases brought by the government. b. Discuss the basic penalties for criminal violations of the Sherman Act. Note the recent trend toward tougher antitrust penalties. c. Discuss the potentially available remedies in civil antitrust litigation. Note courts' broad-ranging injunctive powers. Stress the treble damages remedy for successful private plaintiffs--a remedy that virtually assures a fair amount of civil antitrust litigation even during those periods when the prevailing political winds contemplate a less-than-aggressive enforcement posture by the federal government. What do students think about proposals to limit the recovery of treble damages to cases involving per se violations of the Sherman Act? 3. Discuss the standing requirement for private antitrust plaintiffs: they must show that they have suffered a direct antitrust injury as a result of the challenged behavior. a. Discuss the Illinois Brick decision limiting standing to "direct purchasers," and the Court's reasons for denying standing to "indirect purchasers." Illinois Brick has been quite controversial. In California v. ARC America Corp., 490 U.S. 93 (1989) the Supreme Court held that state statutes allowing indirect purchasers to recover damages for antitrust violations were not preempted by Illinois Brick. In Kansas v. Utilicorp United, Inc., 497 U.S. 199 (1990), however, the Court resolved a split among the circuits and refused to recognize an exception to Illinois Brick that would have allowed public utility customers to recover overcharges by utility suppliers, despite the argument that regulated utilities passed along the entire amount of the overcharges. Example: Problem Case #1 (no antitrust injury proven). D. Section 1--Restraints of Trade 1. Discuss the language and intent of Section 1: the statute is aimed at joint action in restraint of trade. Its basic policy is that there should be no cooperation among competitors in making basic competitive decisions. Hence, the requirement of proof of concerted action is a prerequisite to Section 1 liability. This confronts antitrust enforcers and plaintiffs with two basic dilemmas: a. How separate must two entities be before their joint actions will be subject to Sherman Act scrutiny? You may wish to discuss Copperweld Corp. v. Independence Tube Corp., 467 U.S. 752 (1984), and the demise of the "intra-enterprise conspiracy doctrine" at this point. The lower federal courts have differed on the reach of

Business Law: The Ethical, Global, and E-Commerce Environment, 12E 11 Copperweld. For instance, compare Wilcox Dev. Co. v. First Interstate Bank, 605 F. Supp. 592 (D. Or. 1985) (Copperweld does not prevent finding of conspiracy among "sister companies" that were subsidiaries of same parent company) with Greenwood Utils. Comm'n v. Mississippi Power Co., 751 F.2d 1484 (5th Cir. 1985) (Copperweld bars finding of conspiracy among "sister companies"). b. When will parallel business behavior justify the inference that a conspiracy exists in violation of Section 1? Note that pure "conscious parallelism," standing alone, is not enough to prove a statutory violation. Point out the difficulties of proving something more than conscious parallelism in oligopolistic markets. Example: Problem Case #5. 2. Per Se versus Rule of Reason Analysis. Note that even though the language of Section 1 condemns all contracts, combinations, and conspiracies in restraint of trade, the Court has long held (since the 1911 Standard Oil decision) that Section 1 applies only to behavior that "unreasonably" restrains trade. Of course, any contract "restrains trade" to some extent (if I contract with A, I'm not contracting with B or C). Contrast the "per se" and "rule of reason" analyses. In particular, explain defendants' ability to offer justifications for their behavior when rule of reason treatment applies, and defendants' inability to do so when per se treatment applies. Note the current trend in favor of moving away from per se analysis. This trend is a definite result of the influence of Chicago School antitrust thinking. Although per se and rule of reason are the two judicial treatments that dominate Section 1 cases, a third treatment (not discussed in the text) is occasionally applied. Known as “quick look” treatment, this intermediate form of analysis calls for the court to presume that the behavior in question is anti-competitive unless the defendants demonstrate some pro-competitive effect stemming from the behavior. Upon such a showing by the defendants, rule of reason analysis triggered. If no such showing is made by the defendants, the behavior receives per se treatment. 3. Price-Fixing. Distinguish between horizontal price-fixing and vertical price-fixing. Note that nearly all price-fixing agreements are per se unlawful. a. Note the wide variety of behavior that may be classified as horizontal price-fixing. Remind the students that an express agreement to fix prices need not be shown by the government or a private plaintiff. An implied agreement is sufficient. Also note that price-fixing may be committed by both sellers and buyers. 1) Note that horizontal price-fixing is likely to be classified as per se illegal for the foreseeable future. Chicago School theorists do not object to this, because it fits with their argument that antitrust policy should be anticonspiracy policy. The only point of departure concerns agreements to fix maximum prices. Some Chicago School theorists argue that such agreements can, in some cases, result in savings to consumers. Nevertheless, the Supreme Court has continued to adhere to the per se rule for horizontal price-fixing, regardless of whether minimum or maximum prices are fixed. Example: Problem Case #4. Denny's Marina, Inc. v. Renfro Productions, Inc. (p. 1110): The Seventh Circuit Court of Appeals holds that the district court erroneously failed to give per se treatment to a horizontal price-fixing agreement. Points for Discussion: Discuss why the alleged price-fixing conspiracy involved in this case would be considered horizontal in nature. Note, as the court emphasizes, that concerted action amounting to price-fixing may be found to have existed even in the absence of an explicit agreement to fix prices. (Indeed, most defendants in price-fixing cases are smart enough not to have expressly 12 Chapter 49: Antitrust: The Sherman Act agreed to set prices with their competitors). Implied agreements based on conduct, if proven to the satisfaction of the court or jury, will suffice for purposes of Section 1. As the court points out, concerted action by dealers to protect themselves against price competition by discounters--essentially what Denny's Marina alleged here--has long been seen as price-fixing. Why would the district court have imposed on the plaintiff a requirement of proving not only the existence of a price-fixing conspiracy but also (and erroneously, according to the Seventh Circuit) a requirement of proving a substantial potential for impact on competition on the central Indiana market? Perhaps it was because of the frequently noted statement by courts and commentators that "the antitrust laws were enacted for the protection of competition, not competitors." Perhaps it was because a showing at least similar to what the district court mandated is effectively required in cases under Sherman Act Section 2, the Clayton and Robinson-Patman Acts (as Chapter 49 reveals), and even in some Sherman Act Section 1 cases (the ones governed, however, by rule of reason analysis). Perhaps the district court was influenced by an increasing tendency of the Supreme Court in recent years: to shift (or at least hint at shifting) certain behaviors from the per se camp to the rule of reason camp. The Supreme Court, however, has not approved such a shift with regard to horizontal price-fixing. Unwilling to affirm a departure from the longstanding per se treatment of horizontal price-fixing without clear authorization from the Supreme Court, the Seventh Circuit reversed the district court. Note, as the district court perhaps failed to appreciate, that when per se analysis is the governing approach, the requisite harm to competition is effectively presumed to exist. Among the rationales for per se treatment is one of judicial economy. The Supreme Court has explained the per se rule by noting that history has taught that certain behaviors will almost invariably harm competition. Therefore, the reasoning goes, when one of those behaviors is proven to have occurred, it is safe to presume the harm to competition instead of requiring the expenditure of judicial resources on the issue of whether the harm actually occurred. One may question just how "safe" this presumption really is, as many commentators (and perhaps the district court in this case) have done, but the Supreme Court has continued to express it in regard to the per se rule. Note, however, that the plaintiff is not guaranteed of winning a Section 1 case even when the existence of per se behavior has been proven. The existence of per se behavior may eliminate the need for proof of harm to competition, but it does not eliminate the plaintiff's need to prove, in order to recover damages, that he, she, or it suffered direct antitrust injury as a result of the defendants' wrongful acts. See Problem Case #1. b. Discuss vertical price-fixing (resale price maintenance) and the reasons why manufacturers have significant incentives to gain control over the price at which their products are resold. Controlling minimum resale price may maintain a product's image, encourage dealers to furnish service or promotional activities they may be unwilling to furnish in an environment of vigorous price competition, and encourage dealers to continue to sell the manufacturer's product (something they may be unwilling to do if competition forces prices to unprofitable levels). Control of maximum resale prices prevents dealers who are isolated from competition from exploiting this situation by raising prices (and thereby selling fewer units). 1) Point out that despite the reasons why manufacturers might wish to control resale prices, vertical price-fixing has historically received per se treatment. The

Business Law: The Ethical, Global, and E-Commerce Environment, 12E 13 Supreme Court made a limited exception to this rule in 1997 by holding, in State Oil Co. v. Khan (discussed below), that vertical maximum price-fixing will be examined under the rule of reason analysis. Vertical price-fixing other than maximum price-fixing continues to receive per se treatment. State Oil Co. v. Khan (p. 1112): Accepting the invitation of the Seventh Circuit Court of Appeals, the Supreme Court overrules a longstanding precedent and requires the use of the rule of reason analysis--instead of per se treatment--in cases involving vertical fixing of maximum prices. Points for Discussion: If not for the then not-yet overruled Albrecht decision, the Seventh Circuit would have dumped the per se rule and opted for the rule of reason approach in vertical maximum price-fixing (VMPF) cases. The Seventh Circuit's opinion, written by Judge Posner, showed why Albrecht's per se classification for VMPF had been undercut by later decisions. The Supreme Court agreed with Judge Posner's analysis. In addition, the Court concluded that the rationales supporting rule of reason treatment for vertical non-price restraints seemed generally applicable in VMPF cases. Finally, as the Court confessed, it was no longer convinced that VMPF invariably possessed the pernicious effects necessary to justify the per se classification. Agreeing that the time had come to change the governing rules, the Court officially overruled Albrecht and established rule of reason treatment as the controlling analysis in VMPF cases. Now that rule of reason analysis applies to VMPF, some of the previously discussed reasons why manufacturers wish to control resale prices may become relevant to the necessary process of balancing justifications for the behavior against the harm to competition resulting from it. Ask the class to identify other possible justifications for VMPF (e.g., benefit to consumers, etc.). Now that rule of reason treatment has been extended to VMPF, are other forms of vertical price-fixing likely future candidates for a similar switch in form of analysis? What about horizontal maximum price-fixing? Conclude the discussion by emphasizing/re-emphasizing an important message: that with the exception of VMPF, every variety of price-fixing--whether vertical or horizontal--continues to receive per se treatment. 2) Discuss the unilateral refusal to deal (the "Colgate doctrine") as a device for lawfully controlling resale price. Note that the Court has closely policed this Section 1 "loophole" by insisting that the defendant's actions be purely unilateral. The Colgate rule is partly the product of the Section 1 emphasis on concerted action, but is also a manifestation of the traditional solicitude shown for the freedom of independent businesspersons to choose those with whom they deal. Plainly, when a manufacturer is successful in controlling resale price via unilateral refusals to deal, the economic harm is identical to that resulting from a per se illegal resale price maintenance agreement. 4. Division of Markets. Differentiate between horizontal and vertical division of market schemes. a. Horizontal division of markets agreements traditionally have been treated as per se unlawful. Note, however, the tendency of some of the lower federal courts to respond to critics of the Topco decision by distinguishing between "naked" and "ancillary" restraints, condemning the former to per se illegality but treating the latter under the rule of reason.

14 Chapter 49: Antitrust: The Sherman Act Examples: Problem Case #2, plus Palmer v. BRG of Georgia, Inc., 498 U.S. 46 (1990) (giving per se treatment to horizontal geographical division of markets for bar review course services). b. Most vertical nonprice restraints are now governed by the rule of reason, thanks to Continental T.V., Inc. v. GTE Sylvania, Inc., 433 U.S. 36 (U.S. Sup. Ct. 1977). 1) In that case, a manufacturer's franchise system that included location restrictions on franchisee sales was upheld under the rule of reason. In so holding, the Court overruled a 1967 decision that had placed vertical nonprice restraints in the per se category. In Sylvania, the Court observed that per se illegality should be applied only to practices that always have a negative effect on competition and can never be justified. Vertical market restrictions do not meet this test even though they restrict intrabrand competition (e.g., competition among Sylvania dealers), because they can be used to promote interbrand competition (e.g., competition between Sylvania dealers and dealers of other brands). By allowing franchisees some freedom from intrabrand competition, manufacturers may be able to attract more competent franchisees and induce franchisees to participate in promotional and service activities in which they might otherwise refuse to take part. The Court therefore held that vertical market restraints should henceforth be judged under the rule of reason. 2) Point out that some kinds of vertical market restraints may still be unlawful under the rule of reason. In particular, vertical market restraints imposed by manufacturers enjoying a large market share or significantly favorable product differentiation would still appear to be in jeopardy, given the aggravated effect of restricting intrabrand competition in such cases and the small likelihood of any offsetting positive impact on interbrand competition (manufacturers in such a position don't need any help). What are the "real world" effects of Sylvania? It should be tougher for discounters to get brand-name goods (assuming that the manufacturer is serious about the vertical restraint on distribution). Also, individual dealers have lost a measure of freedom in terms of deciding to whom to sell and where to sell. Although preserving such freedom was a basic theme of classic cases such as Colgate and G.E. (on consignment dealing), that theme gets lost in the shuffle here. Perhaps the Court is saying that business efficiency is simply more important today than this species of dealer freedom. On the other hand, one could argue that Sylvania ultimately preserves dealer freedom by removing the incentives manufacturers might otherwise have to vertically integrate their operations. Orson, Inc. v. Miramax Film Corp. (p. 1115): The Third Circuit Court of Appeals affirms the district court's grant of summary judgment in favor of defendant Miramax on Orson's section 1 challenges to Miramax's movie distribution practices. Miramax's distribution of movies to a theater in competition with Orson's made any arrangement between Miramax and the competitor vertical in nature. This meant that the rule of reason applied. Under the rule of reason, Miramax's use of clearances (exclusive licenses) in dealing with Orson's competitor did not violate section 1. Points for Discussion: Note the court's mentioning of sound reasons why Miramax might frequently deal with Orson's competitor through the use of exclusive licenses. Among other reasons, the competitor's Ritz theaters were well-established, profitable, and capable of seating many more patrons than Orson's Roxy theater. These factors would lead to greater financial rewards for Miramax, given how licenses were typically structured. Even so, Miramax did Business Law: The Ethical, Global, and E-Commerce Environment, 12E 15 not deal only with the operator of the Ritz theaters. Miramax sometimes licensed films to Orson's Roxy theater and to the theaters of other firms. The court was unwilling to conclude that Miramax and the operator of the Ritz theaters were engaged in a conspiracy to drive the Roxy out of business. As for Orson's attack on the exclusive licenses themselves, the court noted that though they harmed intrabrand competition (i.e., the Roxy could not show the same movie at the same time as the Ritz), the exclusive licenses fostered significant interbrand competition. The record revealed that the Roxy, the Ritz theaters, and other theaters in the relevant geographic area were actively vying for the films of 59 different distributors. There was ample interbrand competition going on. 5. Group Boycotts. Concerted refusals to deal have long been held to constitute per se violations of Section 1. For a classic case, see Klor's, Inc. v. Broadway-Hale Stores, 359 U.S. 207 (U.S. Sup. Ct. 1959). Recently, however, several cracks have appeared in this per se analysis. a. Discuss Monsanto and Sharp (noted in the text). b. Discuss Northwest Wholesale Stationers (noted in the text), focusing on the Court's extension of rule of reason treatment to the particular horizontal boycott before it as well as on the Court's apparent reluctance to mandate rule of reason analysis for all horizontal boycotts. In his opinion for the Court (as edited by the authors for a previous edition of the textbook), Justice Brennan commented on prior group boycott cases and provided general guidance for when the per se rule should be applied: "Cases to which this Court has applied the per se approach have generally involved joint efforts by a firm or firms to disadvantage competitors by either directly denying or persuading or coercing suppliers or customers to deny relationships the competitors need in the competitive struggle. In these cases, the boycott often cut off access to a supply, facility, or market necessary to enable the boycotted firm to compete, and frequently the boycotting firms possessed a dominant position in the relevant market. In addition, the practices were generally not justified by plausible arguments that they were intended to enhance overall efficiency and make markets more competitive. Under such circumstances the likelihood of anticompetitive effects is clear and the possibility of countervailing procompetitive effects is remote." According to the Court, "not every cooperative activity involving a restraint or exclusion will share with the per se forbidden boycotts the likelihood of predominantly anticompetitive consequences." Justice Brennan then observed that wholesale purchasing cooperatives such as the one at issue in Northwest Wholesale Stationers are not likely to result in predominantly anticompetitive effects. Instead, such cooperative arrangements appeared to be designed to increase economic efficiency and render markets more competitive by enabling smaller retailers to compete more effectively with larger retailers. Moreover, the Court reasoned that the purchasing cooperative's expulsion of a member (what gave rise to this case) would not necessarily produce an anticompetitive effect unless the purchasing cooperative possessed "market power or exclusive access to an element essential to effective competition. Absent such a showing with respect to a cooperative buying arrangement, courts should apply a rule of reason analysis." You may also wish to note two other Supreme Court decisions involving horizontal boycotts. In FTC v. Indiana Federation of Dentists, 476 U.S. 447 (1986), the Court upheld an FTC cease and desist order against a dentists' organization that had promulgated a policy requiring its members to withhold x-rays from dental insurers

16 Chapter 49: Antitrust: The Sherman Act seeking to evaluate patients' benefits claims. The Court found the challenged behavior to be a violation of Section 1 of the Sherman Act, and hence an unfair method of competition in violation of Section 5 of the FTC Act. Significant, for our purposes, is the fact that the Court applied a rule of reason analysis rather than a per se approach. In FTC v. Superior Court Trial Lawyers Association, 493 U.S. 411 (1990), however, the Court required application of the per se rule to a group boycott by Washington, D.C. attorneys who regularly represented indigent criminal defendants. The boycotting attorneys agreed among themselves not to accept new cases until D.C. authorized higher hourly rates of pay for their services. Two factors seem to explain the Court's insistence on the per se rule rather than the rule of reason option chosen in Northwest Wholesale Stationers and Indiana Federation of Dentists: (1) the attorneys' agreement arguably fit within Justice Brennan's description, in Northwest Wholesale Stationers, of the sorts of boycott cases for which per se treatment was appropriate; and (2) the attorneys' agreement also had attributes of horizontal price-fixing, which receives per se treatment. Additional Example: Problem Case #3. 6. Tying Agreements. Explain the nature of a tying agreement and identify the harm to competition traditionally associated with such agreements. The seller's competitors in the sale of the tied product are foreclosed from competing for the share of the market covered by the seller's tying agreements. From an economic standpoint, the seller is attempting to extend its market power in the tying product into the market for the tied product. Note also that there is no legitimate reason why a buyer would want to enter into a tying arrangement. This latter fact helps explain why tying agreements traditionally were treated fairly harshly. a. Note that tying contracts may also violate Section 3 of the Clayton Act if they involve commodities. b. Point out that the Court has made it more difficult for plaintiffs to win tying cases by insisting on a higher degree of proof of the seller's market power in the tying product and by recognizing, particularly in franchise cases, that what may at first appear to be two separate products may in fact be integral components in a single business system.

Example: Problem Case #7 (defendant lacks sufficient market power in tying product). 1) As the Eastman Kodak case (to be discussed shortly) reveals, however, the Court has not completely yielded to defendants' arguments regarding tying arrangements. c. Students sometimes ask how much in terms of sales of the tied product is necessary to satisfy the "not insubstantial" amount of commerce element. The seminal case on this point is the Supreme Court's 1947 opinion in International Salt Co. v. United States, which suggested $500,000 per year in sales of the tied product as the appropriate figure. Given inflation, this figure is obviously suspect. The tying cases decided since International Salt, however, have involved amounts as low as $200,000, and in one case, $61,000. d. Discuss the recognized justifications for (or defenses to) tying liability. 1) New Business. Note that this defense is available only for a limited time. See Siegel v. Chicken Delight, Inc., 448 F.2d 43 (9th Cir. 1971). 2) Quality Control/Protection of Goodwill. This defense is rarely successful because, in most cases, the seller's legitimate objectives could be lawfully

Business Law: The Ethical, Global, and E-Commerce Environment, 12E 17 achieved by requiring customers to use products of a specified grade or quality rather than by requiring them to purchase such products from the seller. The Siegel case cited above addresses this point also. e. Discuss the Chicago School criticisms of the traditional judicial treatment of tying contracts. Eastman Kodak Co. v. Image Technical Services, Inc., p. 1119): The Supreme Court holds that the existence of considerable competition between the defendant and other firms in the equipment market does not automatically mean that the defendant cannot have market power in the "aftermarkets," for purposes of a case in which the defendant is alleged to have unlawfully tied the purchase of service to the purchase of replacement parts. Points for Discussion: Note the posture in which the case reached the Court: review of a reversal (by the Court of Appeals) of a grant of summary judgment to the defendant, Kodak. This posture explains why the Court gives the plaintiffs (the ISOs) the benefit of all justifiable inferences. Use this case as a way of reviewing the elements of a prohibited tying arrangement, as set forth in the text. Note that the Court had little trouble reaching the conclusion that a reasonable trier of fact could find the first two elements (two distinct items and seller will not allow one to be purchased without the other) to be present. With Kodak seeming to concede the fourth element (arrangement affects substantial volume of commerce in tied product), the remaining focus was on the third element: whether Kodak possessed sufficient economic power in the replacement parts market to effectively require buyers to purchase service as well. Note that even though the ISOs' claim evidently alleged the unlawful tying of service (the tied item) to parts (the tying item), much of the Court's discussion of the market power issue was phrased in terms of "the aftermarkets." In using this term, the Court was referring to both parts and service. The ISOs attempted to demonstrate Kodak's economic power in the parts market by pointing to the facts that Kodak manufactures many replacement parts and has control over the availability of parts it does not manufacture. Kodak countered by arguing that even if it possessed a monopoly share of the parts market, it could not actually actually exercise the market power necessary for a violation of the Sherman Act. According to Kodak, the existence of competition among Kodak and other firms in the equipment (photocopiers and micrographic equipment) market meant that Kodak could not raise prices for its parts and service (the aftermarkets) above what would be charged in a competitive market. If it were to raise parts and service prices above what would be charged in a competitive market, any increase in profits experienced as a result by Kodak would at least be offset, according to Kodak's argument, by a loss in profits from reduced sales of equipment. Kodak reasoned that its equipment sales would significantly lessen under such a scenario, because consumers would begin purchasing equipment that carried more attractively priced parts and service options than Kodak provided. What Kodak sought from the Court was a blanket rule that competition in the equipment market necessarily precludes a conclusion that an equipment maker possesses market power in the aftermarkets, for purposes of tying arrangement claims against the equipment maker with regard to its aftermarkets sales policies. In others words, Kodak effectively sought a "reverse per se" rule: that a valid tying arrangement claim with regard to aftermarkets cannot, as a matter of law, exist when there is competition in the equipment market. The Court declined to accommodate Kodak, noting that "[l]egal presumptions that rest on formalistic distinctions rather than actual market realities are generally disfavored in antitrust law." Instead, the Court noted that it "prefer[s] to resolve antitrust claims on

18 Chapter 49: Antitrust: The Sherman Act a case-by-case basis, focusing on the particular facts disclosed by the record . . . and the economic reality of the market at issue." Note that the statement just quoted is the type of thing the Court has stated in support of extending rule of reason treatment to certain behaviors--a treatment carrying the potential to work in favor of antitrust defendants. Here, however, the court makes the statement in support of a ruling that benefits plaintiffs. Explain the Court's reasons for refusing to adopt the rule urged by Kodak: (1) the possibility that there could be an "optimum price" at which Kodak could exceed the competitive price levels for parts and service without the parts and service price being so high that consumers would cease purchasing Kodak equipment; and (2) the significant information and switching costs that would be likely to "create a less responsive connection between service and parts prices and equipment sales." To further explain reason #2, use hypothetical cases involving a business that needs a photocopier quickly and is located near a Kodak dealer, and another business that already has a Kodak photocopier when Kodak initiates price increases regarding parts and service. This decision was hailed by small businesses that provide service and perform repairs with regard to equipment manufactured and sold by someone else. The decision was a disappointment not only to Kodak and similarly situated firms but also to some antitrust commentators who anticipated a contrary ruling, in view of the generally pro-defendant thrust of a number of the Court's antitrust decisions during roughly the past decade. Additional Example: United States v. Microsoft Corp., 253 F.3d 34 (D.C. Cir. 2001) (reversing the district court’s holding that Microsoft unlawfully tied its Internet Explorer Browser to its Windows operating system). See the text’s discussion, at p. 1118, of this aspect of the D.C Circuit’s decision. That court’s decision on the monopolization issues appears later in the chapter as a text case. 7. Discuss reciprocal dealing agreements, the threat they pose to competition under traditional analyses, and the approach that the courts have traditionally taken to judging their legality. 8. Discuss exclusive dealing agreements and requirements contracts. Note that while the potential harm to competition from such agreements is similar to that involved in tying contracts, exclusive dealing and requirements contracts can sometimes benefit both parties. The legal standards applicable to such agreements are discussed in detail in the next chapter. Example: Problem Case #6. 9. Discuss joint ventures, noting that they can sometimes amount to contracts in restraint of trade in violation of Section 1. Note the impact of the National Cooperative Research and Production Act on joint venture enforcement. Discuss the concerns that motivated Congress to enact the statute to facilitate joint research ventures and later to amend the statute to facilitate joint production ventures. E. Section 2--Monopolization 1. Note that the language of Section 2 does not outlaw monopolies--it outlaws the act of "monopolizing." A single firm can be guilty of "monopolizing" or "attempting to monopolize" under Section 2. Refer the students to the discussion of this point at the beginning of the chapter. 2. To prove monopolization, the plaintiff must show that the defendant had both an intent to monopolize and monopoly power.

Business Law: The Ethical, Global, and E-Commerce Environment, 12E 19 a. Monopoly power has been defined as the power to fix prices or exclude competitors. It is ordinarily proven by demonstrating that the defendant has captured a high percentage share of the relevant market (roughly 70% or more). There are two components to the relevant market test: the relevant geographic market and the relevant product market. 1) Relevant geographic market--This part of the test is determined by economic realities. Where do the sellers of the product in question compete and to whom may buyers turn for alternative sources of supply? 2) Relevant product market--This part of the test is proven by demonstrating what products, if any, are functionally interchangeable with the defendant's product. The idea here is that the defendant's power to raise prices is limited by the availability of substitute products. This concept is related to the basic economic concept of cross-elasticity of demand. Discuss the DuPont case mentioned in the text. b. Early Section 2 cases, most notably the Court's opinion in the Standard Oil case, required a showing that the defendant either acquired monopoly power by predatory or coercive means or abused monopoly power once it was acquired. Under this approach, would-be monopolists were free to acquire monopoly power so long as they acted "reasonably" in doing so. This approach emasculated Section 2 and paved the way for the Clayton Act. c. In 1945, Judge Learned Hand's decision in the Alcoa case provided the modern definition of monopoly power: the willful acquisition or maintenance of monopoly power in a relevant market, as opposed to growth as a consequence of superior product, business acumen, or historical accident. If a defendant intentionally acquires monopoly power, or consciously tries to maintain it after acquiring it, intent to monopolize has been proven. United States v. Microsoft Corp. (p. 1124): The D.C. Circuit Court of Appeals affirms the federal district court’s determination that Microsoft engaged in monopolization of the worldwide market for Intel-compatible operating systems. Points for Discussion: This case almost certainly has been the most-publicized antitrust litigation in history. The edited version that appears in the text is longer than other cases in the book because the case is especially timely and important and because instructors may wish to have the added detail available in order to facilitate class discussion of the legal and public policy issues present in the case. Discuss each of the elements the government had to prove in order to establish that Microsoft engaged in monopolization: (1) that Microsoft possessed monopoly power in the relevant market; and (2) that Microsoft exhibited intent to monopolize. Ask the class what factors caused the district court and the D.C. Circuit to define the relevant market as the worldwide licensing of Intel-compatible operating systems. Note the significance of the applications barrier to entry. In addition, note the huge share of the relevant market allegedly possessed by Microsoft--95 percent. Regarding the second element of the monopolization claim, ask the class what conduct by Microsoft was considered to be predatory, exclusionary, or otherwise anti-competitive and therefore evidence of intent to monopolize. Note the D.C. Circuit’s discussions of Microsoft's actions with regard to software vendors and developers of middleware applications. Discuss the court's comments on Microsoft's attempts to combat the browser threat through its commingling of browser and non- browser code and through its dealings with PC manufacturers, Internet access providers, and Apple Computer. Note the court's discussion of the means used by

20 Chapter 49: Antitrust: The Sherman Act Microsoft to counteract the threat posed by Java. What do your students think of the court’s assessment Microsoft's conduct as a whole? Do they agree that Microsoft "placed an oppressive thumb on the scale of competitive fortune, thereby effectively guaranteeing its continued dominance in the relevant market"? (The quoted language comes from the district court’s opinion.) What do your students think of Microsoft's contention that the firm had revolutionalized the state of computing and had greatly benefited consumers and society, but was now being penalized for its success? As noted in the Cyberlaw in Action box that appears at p. 1131 of the text, the D.C. Circuit concluded that the district court’s order of divestiture was not the appropriate remedy for the monopolization engaged in by Microsoft. Note the matters raised in the Cyberlaw box’s discussion of the settlement agreement later reached by Microsoft and the U.S. government. The Global Business Environment box that appears earlier in the chapter (at p. 1123) reveals that Microsoft faced similar legal action in the European Union. When the text and later this instructor’s manual went to press, the European Commission’s case against Microsoft had not reached final resolution.

Additional Examples: Problem Cases #8 and #9. You may also want to discuss the Court's decision in Aspen Skiing Co. v. Aspen Highlands Skiing Corp., 472 U.S. 585 (1985). There, the Court affirmed a Tenth Circuit holding that the defendant, the operator of three of the four downhill ski slopes in Aspen, Colorado, monopolized the market for downhill skiing services by denying the plaintiff (the operator of the fourth slope) continued access to a multi-area ticket that allowed skiers to ski on any of the slopes. Although it recognized that a firm with monopoly power has no general duty to engage in joint marketing with a competitor, the Court observed that "the absence of an unqualified duty to cooperate does not mean that every time a firm declines to participate in a cooperative venture, that decision may not have evidentiary significance, or may not give rise to liability in certain circumstances." Influential factors in the Court's decision included the strong consumer demand for the multi-area ticket and the adverse impact the denial of access to it had upon consumers, the plaintiff's loss of market share subsequent to the denial of access, and the lack of any efficiency justification for the defendant's conduct. 3. Discuss attempted monopolization and what must be proven to establish a violation of this portion of Section 2. a. Note the importance of establishing the boundaries (geographic and product-related) of the relevant market as to which attempted monopolization occurred. The government’s failure to establish those boundaries was a key reason why the D.C. Circuit, in the Microsoft case, reversed the district court’s holding that Microsoft had attempted to monopolize the Web browser market. (See the text’s discussion, at p. 1130, of this aspect of Microsoft.) Additional example: Problem Case #11. b. Note the Supreme Court's skepticism in recent years regarding predatory pricing claims--another indication of the impact of Chicago School ideas on the Court. You may wish to refer at this point to Brooke Group Ltd. v. Brown & Williamson Tobacco Corp., a Chapter 50 case that addresses predatory pricing claims under the Robinson- Patman Act but contains discussion relevant to predatory pricing allegations under Sherman Act Section 2. See also the Ethics in Action box that appears in the text at p. 1132. 4. Discuss conspiracy to monopolize and the disagreement among the lower federal courts concerning the elements of proof required for a violation of this portion of Section 2. The

Business Law: The Ethical, Global, and E-Commerce Environment, 12E 21 Supreme Court precedent alluded to in the text's discussion is Spectrum Sports v. McQuillen, 506 U.S. 447 (U.S. Sup. Ct. 1993). Although Spectrum Sports was an attempted monopolization case rather than a conspiracy case, it nonetheless would seem to shed light on the proper resolution of this disagreement among the lower courts. An approach that deemphasizes the need for proof of the relevant market may be vulnerable to criticism, after Spectrum Sports (which appears as Problem Case #11).

IV. RECOMMENDED REFERENCES: A. PHILLIP E. AREEDA & HERBERT HOVENKAMP, ANTITRUST LAW (rev. ed. 1995). B. PHILLIP E. AREEDA & LOUIS KAPLOW, ANTITRUST ANALYSIS: PROBLEMS, TEXT, CASES (5th ed. 1997). C. HERBERT HOVENKAMP, FEDERAL ANTITRUST POLICY (1994). D. ROBERT BORK, THE ANTITRUST PARADOX (rev. ed. 1993). E. Norman W. Hawker, Maximum Resale Price Maintenance Under the Rule of Reason, 51 BAYLOR L. REV. 441 (1999). F. Herbert Hovenkamp, Market Power in Aftermarkets: Antitrust Policy and the Kodak Case, 40 UCLA L. REV. 1447 (1993).

V. ANSWERS TO PROBLEM CASES: 1. In Atlantic Richfield Co. v. USA Petroleum Co., 495 U.S. 328 (U.S. Sup. Ct. 1990), the Supreme Court held that USA could not show antitrust injury resulting from ARCO's actions, even if it were assumed that ARCO's actions were per se unlawful. USA may not have been able to raise its prices as much as it wanted to (because too great an increase would render it unable to compete effectively with ARCO's dealers) but that is not the same as antitrust injury--at least when any maximum price allegedly fixed by ARCO and its dealers was above predatory levels. The Court's reasoning seems to indicate that the only party likely to be able to complain successfully about a vertical maximum price-fixing scheme would be a dealer who has clear proof of the scheme's existence and has been forced out of business (or is in danger of this) because the mandated maximum prices are too low to enable the dealer to remain in business. As for whether vertical maximum price-fixing is governed by the per se rule, the Supreme Court noted that it was assuming, arguendo, the correctness of such treatment for that configuration of price-fixing case. This rather lukewarm endorsement, coupled with other hints dropped by the Court, led to speculation that the Court could be willing to switch from per se treatment to rule of reason treatment for maximum price-fixing of a vertical nature. That speculation became reality in State Oil Co. v. Khan, a 1997 decision that appears in the text. Therefore, vertical maximum price-fixing is now evaluated under the rule of reason. 2. No. This was a horizontal agreement between two competitors to refrain from competing for each other's existing accounts. Plainly a form of customer allocation, this agreement was a "naked restraint" triggering application of the per se rule of illegality. The defendants did not articulate any procompetitive justifications for the restrictions imposed by the agreement. The absence of such justifications undercut their argument for applying the rule of reason. United States v. Cooperative Theatres of Ohio, Inc., 845 F.2d 1367 (6th Cir. 1988). 3. No. The Supreme Court held that the per se group boycott rule does not apply "to a buyer's decision to buy from one seller rather than another, when that decision cannot be justified in

22 Chapter 49: Antitrust: The Sherman Act terms of ordinary competitive objectives." The Court noted that precedent cases dealing with boycotts tended to limit the use of the per se rule to cases involving horizontal agreements among direct competitors. This case, however, involved only a vertical agreement and a vertical restraint that deprived a supplier of a potential customer. In addition, the Court observed that the freedom to switch suppliers "lies close to the heart of the competitive process that the antitrust laws seek to encourage." Although Discon alleged that Materiel hoped to drive Discon out of the market in order to prevent Discon from revealing its behavior to New York Telephone or to the relevant regulatory agency, any such motive on the part of Materiel did not turn its behavior into a boycott for purposes of the Court's precedents. Moreover, Discon's allegation of harm to itself did not automatically show injury to competition--especially where the complaint's description of the removal business suggested that entry into the business was relatively easy. Finally, to apply the per se rule in this case would be to transform cases involving business behavior that is improper for various reasons (e.g., fraud, nepotism, or personal pique) into antitrust cases. Nynex Corp. v. Discon, Inc., 525 U.S. 128 (U.S. Sup. Ct. 1998). 4. No. The Supreme Court ruled that the fee agreement amounted to horizontal price-fixing, a per se violation of Section 1 of the Sherman Act. It made no difference to the Court that maximum (as opposed to minimum) prices were being fixed. The Court rejected the defendants' argument that the fee agreement could benefit consumers, noting that when per se treatment applies, such alleged justifications cannot be offered. Although the Court acknowledged that the activities of the professions might sometimes necessitate antitrust standards that are different from those applied to ordinary businesses, it ruled that this was not such a case. The Court left unresolved the question of how to determine when the activities of professions are such that different antitrust standards are necessary. Arizona v. Maricopa County Medical Society, 457 U.S. 332 (U.S. Sup. Ct. 1982). 5. Yes. It is well established that evidence of informal communications among several parties does not unambiguously support an inference of conspiracy. Such mutual awareness, without more, amounts to no more than conscious parallelism, which is not enough to support an antitrust conspiracy case. The defendants offered legitimate business reasons for the actions MFI claimed were evidence of an illegal conspiracy. No evidence offered by MFI adequately refuted the possibility that each defendant, acting independently, decided that the difference in services provided by buyers' brokers required a different policy than for standard sellers' brokers. Market Force, Inc. v. Wauwatosa Realty Co., 906 F.2d 1167 (7th Cir. 1990). 6. No. The concerts performed at the ballpark faced competition from other concerts, both indoors and out of doors. Moreover, the reasonableness of this restraint was supported by the fact that both Triple-A and Law had legitimate business reasons for entering such an agreement. Triple-A lacked the capital to develop the facility. Once Law had invested in the facility, it had a legitimate interest in preventing competitors such as Gemini from free-riding on its investment. In addition, Law had a legitimate interest in recouping that investment. The net effect of this agreement, in fact, was to enhance (rather than restrain) competition, as it resulted in the creation of a new concert area that had not previously existed. If not for the contract, there would have been no competition to restrain. Gemini Concerts, Inc. v. Triple-A Baseball Club Assocs., 664 F. Supp. 24 (D. Me. 1987). 7. No. Grappone did not prove the significant "market power" requirement the Supreme Court established in the Jefferson Parish case for per se tying liability. Grappone did not provide evidence that SNE could raise prices significantly above the competitive level; in fact, the evidence was to the contrary. Subaru's market share was minuscule. If the fact that Jefferson Parish Hospital received 30 percent of all hospital patients living in East Jefferson Parish did not show market power, far smaller figures could not show the contrary here. Grappone made no showing that Subarus had any special or unique features, such as patents or

Business Law: The Ethical, Global, and E-Commerce Environment, 12E 23 copyrights, that might have demonstrated market power. Without the use of per se rules, Grappone could not show a violation of the antitrust laws, for the tie's anticompetitive effects did not outweigh its legitimate (and here, procompetitive) business justifications. The record did not establish any actual anticompetitive effect in the tied product market. Grappone, Inc. v. Subaru of New England, Inc., 858 F.2d 792 (1st Cir. 1988). 8. The Supreme Court held that fire-protection services and burglary-protection services were not too different to be part of the same market. The Court saw no barrier to combining, in a single market, different services or products if that combination was consistent with commercial realities. The relevant product/service market, according to the Court, was the central station service, which offered various property protection services. Application of the interchangeability test revealed that there was no real substitute for central station service in terms of the scope of the protection provided. According to the Court, the central station service market should be see as national, given Grinnell and other companies conducted their businesses. The Court went on to conclude that in view of Girnnell's various exclusionary practices (including, but not limited to, predatory pricing and its history of acquisitions), Grinnell engaged in monopolization. United States v. Grinnell Corp., 384 U.S. 563 (U.S. Sup. Ct. 1963). 9. No. The federal district court noted that in order to determine whether e-mail advertising was the relevant product or service market, it needed to consider whether there were any reasonably interchangeable substitutes for Martindale's e-mail advertising to AOL subscribers. The court found numerous reasonable substitutes for e-mail advertising. These substitutes included use of the World Wide Web, direct mail, billboards, television, newspapers, radio, or leaflets to disseminate advertisements. In addition, other e-mail subscription services (i.e., not involving AOL) were available and needed to be considered as part of the relevant market. The court refused to restrict the relevant market to AOL subscribers "because it is improper to define a market simply by identifying a group of consumers who have purchased a given product." Instead, the court noted, "the market consists of the array of 'interchangeable' products that those consumers confronted when making their making their product selection." Because AOL subscribers "could have chosen another paid e-mail service or a free e-mail service, . . . those entities are part of the relevant market." The court went on to dismiss Martindale's counterclaim against AOL. America Online, Inc. v. Greatdeals.net, 49 F. Supp. 2d 851 (E.D. Va. 1999). 10. No. The Supreme Court concluded that East Jefferson lacked sufficient market power as a provider of medical services. The Court observed that Hyde's only argument for invoking the per se rule against tying was premised on the preference of persons residing in Jefferson Parish to go to East Jefferson, the closest hospital. Thirty percent preferred East Jefferson--a preference that was not indicative of significant market power. The fact that 70 percent of the patients residing in Jefferson Parish entered hospitals other than East Jefferson caused the Court to conclude that East Jefferson's supposed dominance over persons residing in Jefferson Parish was far from overwhelming. Hence, Hyde failed to prove a critical element of a per se illegal tying arrangement. Jefferson Parish Hospital Dist. No. 2 v. Hyde, 466 U.S. 2 (U.S. Sup. Ct. 1984). 11. No. The U.S. Supreme Court noted that the precedent relied upon by the Ninth Circuit was poorly reasoned and erroneously decided. The Supreme Court held that a critical element of an attempted monopolization claim--a dangerous probability that the defendant would obtain monopoly power--could not be determined without proof of a relevant market and the defendant's ability to lessen or destroy competition in it. Spectrum Sports, Inc. v. McQuillen, 506 U.S. 447 (U.S. Sup. Ct. 1993).

24 Chapter 49: Antitrust: The Sherman Act VI. ANSWER TO ONLINE RESEARCH PROBLEM:

An investigation by the Justice Department’s Antitrust Division revealed the existence of a worldwide cartel involving various producers of vitamins. Members of the cartel had agreed on how much of various products each vitamin producer would make, how much each would charge, and the companies to which the vitamin producers would sell their products. The Justice Department concluded that the cartel’s concerted activities affected more than $5 billion in commerce in the United States. Numerous companies such as General Mills and Procter & Gamble were victimized by this cartel when they purchased vitamin products from cartel members. Consumers who were the ultimate purchasers also paid inflated prices as a result. As stated on the Justice Department’s website (www.usdoj.gov), “for nearly a decade, every American consumer--anyone who took a vitamin,, drank a glass of milk, or had a bowl of cereal--ended up paying more so that the conspirators could reap hundreds of millions of dollars in additional revenues.” The Justice Department obtained convictions of firms from the United States, Switzerland, Germany, Canada, Japan, and still other nations. In 1999, fines totaling more than $850 million were imposed on convicted firms. Various corporate executives also were convicted and sentenced to imprisonment.

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