It is no secret that competition enforcers talk to each other. They share ideas and experiences, case information and, quite often, exchange positions on enforcement priorities. In recent years, the enforcers have shifted their focus from the traditional industry sectors, to retail and fast-moving consumer goods. Many have pointed at the financial crisis for this policy shift, and such an argument is undoubtedly an intuitive one to make. Whatever the reason, the fact of the matter is that the retail and fast-moving goods sector is now experiencing more scrutiny from antitrust watchdogs than ever before.
Whenever a new official is appointed to a big enforcement agency (such as the European Commission, the Office of Fair Trading or Bundeskartelamt), we can safely say that the inaugural speech will feature both the words 'cartel' and 'evil' popping up together in a sentence or two. The former EU Competition Commissioner, Ms Kroes, would probably add a medical metaphor to go along (cartel = evil, mutant, tumour, virus), but the listeners are always reminded, one way or another, that a cartel will be judged as being public enemy number one. However, the old-school heavy industry cartels are no longer appealing to an average person's attention span. How many people are hurt by fixed elevator prices? Probably not too many. Bread and milk price tags, on the other hand, hurt consumers every day.
More scrutiny and less certainty
From the first sector inquiry into retail, to complex cases and painfully high fines, enforcers have undoubtedly accumulated a great deal of information and experience with regard to how the sector works. At the same time, however, they have exposed the sector to a great deal of scrutiny. Some controversial decisions and even more controversial investigations have contributed to a great deal of uncertainty. While certain issues have been addressed in the EC's new vertical guidelines and similar NCA documents, many issues still remain. Moreover, many EU-gravitating countries, including Serbia, do not apply the guidelines directly. As a result, local retailers and companies active in fast-moving goods are exposed to more scrutiny and less certainty.
Take as an example a multinational company having its business operations in the EU and outside the EU. For the company's EU operations, the competition law has become one of the most important compliance aspects: as the aggregate of fines grew exponentially in the EU, so did competition/antitrust departments. For years, countries outside of the EU, including Serbia, Croatia, Macedonia or Bosnia-Herzegovina have not been considered as being critical for the purposes of competition law.
There was a general awareness that competition laws existed in such countries, but as long as no notable fines were being reported, the competition law aspect was not a critical matter. Then, in 2009, many Balkan countries (Serbia, Croatia, Macedonia and Bosnia-Herzegovina) decided to renovate their laws. Some have reported widespread sector probes, mainly in the retail and fast-moving goods sectors. Fairly quickly, a myriad of non-EU countries were placed on the map.
As a result EU-based companies are now organising and attending antitrust training on a regular basis, conducting mock dawn raids and organising numerous events aimed at tightening compliance requirements and making sure that employees are aware of, and lawyers are vigilant in enforcing, a zero tolerance policy.
Snapshot from Serbia
To illustrate the problem, from the total sum of the fines issued in Serbia (around €10 million, or $13.7 million), 70% have hit the retail sector and 29% have affected the dairy industry. (For the record the remaining 1% went to a communal grave operator and the national veterinary chamber.) To make things worse, the retailers hit by the fines were actually leniency applicants. The competition authority decided to disallow the leniency application and apply the new, more restrictive leniency guidelines against the companies in question.
Another investigation was launched in 2009, probing into certain information exchange issues. In all of those cases, the authority made references to a number of issues identified by the national authorities from various EU member states. Much of those trends have arisen more recently such as the repeated communication of recommended prices, maximum prices by agreeing on minimal mark-up, promotion periods, off-invoice rebates, and so on. A similar approach is being taken in other countries as well – it is almost as if the PowerPoint slides from various international conferences emerge and materialise into fully-fledged competition policies among the participants. Serbia is no exception.
Why retail?
Reason one: big numbers. In the past, there was a presumption amongst enforcers that anti-competitive behaviour is more likely among manufacturers, primarily those involved in production or refining of more generic products, such as sugar or cement. There was a general sentiment that the more complex the industry, the less likely there being collusion.
In principle, the presumption was correct in that retailers are not very likely (and sometimes are outright unable) to agree on the prices of thousands of articles (stock-keeping units, or SKUs). However, it is now obvious that their suppliers can, to some extent, facilitate the process and ensure that retailers adhere to certain price ranges, or other issues directly related to an effective competition between the retailers. The large number of players involved is now working against the retailers – the greater the number of suppliers, the more frequent the risk of collusion.
Reason two is transition. In most countries in transition, the retail sector is the first one to boom. In transitional economies it is retail consumption which has the highest growth rates. The same goes for fast-moving consumer goods. Simultaneously, the end consumers in those countries are rather price-sensitive. Consequently the retailers are an ideal target for competition scrutiny.
Reason three: economic turmoil. No particular explanation is necessary here – in the eyes of many the regulatory focus is closely related to the state of the economy.
Identifying the problem
The broken policy
It is arguable that retailers are scrutinised unfairly. Firstly, they are being judged on the basis of rules designed for manufacturers and specifically the manufacturers in industries that are more susceptive to collusion and cartels. We should take a look at the European policy towards resale price maintenance (RPM), the scheme in which suppliers agree with their customers prices those customers should charge. On the one hand, enforcers are consistently taking a negative approach towards RPM – apart from the narrow exceptions suggested in the new vertical guidelines. Seemingly preoccupied with the settled case law of the courts throughout Europe, they are dismissive of the notion that RPM may not necessarily be harming to competition (as opposed to the US courts which are taking the effect-based approach). However, looking from the perspective of retailers, the notion that RPM is a bogeyman is unfounded.
The competition law was designed around the manufacturers and, to some extent, specialised distributors and importers. When it comes to retailers, however, EU case law does not pay enough attention to the prevailing issues around which companies compete. For example, while the manufacturers compete between each other primarily on prices, the retailers compete on a whole array of points: quality of service (pre- and after-sales), assortment, distance from the consumers, and so on.
A point could be made that some retailers do compete on prices, for example the so-called budget supermarkets; however, the fact of the matter is that the budget retailers compete on cheap assortments, not individual articles. Empirically, the budget stores will more often have a smaller assortment of cheaper or bulk SKUs than an average store. Their suppliers on the other hand will not have an incentive to protect the brand by using RPM as a tool, because they will have already positioned themselves in the budget niche.
An additional problem with punishing retailers for RPM is the fact that by and large retailers do not want it. They are in most cases forced to accept RPM as the supplier's business practice. In some of the cases (for example, the 'toys case' in France), retailers have been sanctioned for RPM even when they would clearly protest against the practice, even taking action to alleviate the harm caused by the practice (in this particular case, by granting cash rebates to consumers).
Promo periods
Another example is the issue with the coordination of promotional periods. Based on the general principles from established case law, the traditional antitrust policy will sanction any type of collusion between competitors, or competitors and their suppliers, including agreements related to promotional periods.
For example, a supplier cannot restrict a customer regarding retail prices, or the amount of stock it is allowed to stockpile during the promo period. At the same time, the retailer needs to have sufficient stock to be able to comply with consumer protection and trade regulations. Based on the strict antitrust policy on vertical agreements, even if certain vertical restraints are agreed as an exception, and for a limited period of time, it will still be illegal.
This policy of per se illegality (saying something is illegal regardless of whether or not it has a negative effect) is the subject of much controversy among policy makers, enforcers and practitioners. Various enforcement officials compare this policy to traffic lights, and say that if a traffic light is red at three in the morning, a driver would still need to stop and wait for it to change to green.
As a small digression, policymakers might want to look at an unusual traffic experiment in the town of Drachten, the Netherlands, whose local resident (and world renowned traffic expert) Hans Monderman, proposed to the town council that all traffic lights and signals be removed. The project was called Shared space, based on the notion that the drivers and pedestrians will pay more attention to traffic if they are not distracted by the traffic lights and signs. The results of the experiments were amazing, in fact so amazing that a German town decided to copy the experiment four years later. The statistics have shown a decline in traffic accidents from an average of eight, to an average of zero.
In effect, although the red light argument seems intuitive, there is no rational justification to explain why a driver would be required to wait a couple of minutes at an empty junction. Accordingly, many junctions in Europe have more and more traffic sensors which essentially reverse the red light timetable to give drivers green light whenever a junction is empty.
Going back to the issue at hand (promotional periods), the per se restrictions imposed by the traditional views of the European antitrust law prohibit a myriad of issues on which the retailers and their suppliers would like to agree on during promotional periods. At least two examples can be presented to show how such prohibition is detrimental to competition and to the ultimate consumers.
The first example is this: Unless the parties agree on the maximum stock they can purchase for the promotional periods, the retailers would be able to order higher quantities to obtain stock above their needs, in order to profit from the margin once the promotional period has ended (alternatively, they could extend the promotional period and affect the promotions organised by other retailers). This is detrimental to competition and consumers in two ways; first, the retailers with better financial standing can profit from the scheme exponentially; second, since the suppliers already cut into their margin for the purpose of promotion, they are unable to budget for the total expense and can theoretically end up losing more. The end result is that they will not organise the promotional periods or would impose significant restrictions on the promotional periods.
In the second example, unless the parties agree on an exclusive promotion (that is, ensure that on one hand the retailer will not promote a competing products and, on the other hand, that the particular article will not be offered by competing retailers), both the supplier and the retailer will be less likely to engage in the promotion altogether.
All in all, until the policies are re-examined in order to allow an effect-based approach, the uncertainty facing retailers will be more detrimental to competition than any threat of collusion among them and their retailers.
Disproportionate fines
Another issue arising in connection with the retailers is the issue of fines. Fines are also conceptually tied to manufacturing-based companies; for example, the limit to fines of 10% of the undertakings' annual turnover. This cap clearly hurts retailers more than anyone else since they need a significantly higher turnover to make the same profit. In addition, a retailer's turnover is based on retail prices which are higher than the supply prices.
Despite all of this, most EU jurisdictions disallow the leniency applications to parties in vertical agreements. In effect this means that some members of a cartel of coffee producers can get away with a price fixing scheme directed towards millions of consumers, while their customers, the retailers, cannot even get immunity or a meaningful reduction, despite being forced into the scheme.
The manifestation of the problem
Empirically, the retail sector has always looked competitive. The big numbers factor plays in favour of the consumers and effectively prevents any high-scale collusion among retailers. Even the retailers in oligopolies compete with each other fiercely. While it is true that fewer competitors make collusion more likely, the retail oligopolies often feature at least one maverick, while the stronger competitors seem most comfortable targeting niche customers. In effect this leads to more competition, not less.
On the other hand there is no evidence that retailers would compete more fiercely if a higher regulatory pressure was to be applied. The traffic light parable also plays in the retailer-supplier setting. Faced with business uncertainty and regulatory pressure, retailers would play it safe and would be more predictable. Economic evidence (as well as theoretical models, such as the game theory) unequivocally suggests that predictability and certainty weakens competition.
The uncertainty will not only be manifested by less competition. It will also be quantified and transferred to end consumers. This additional scrutiny will show as the cost of uncertainty and will translate into marginal price increases.
Recommendations
A conservative one ...
It might be pretentious to call for a reform of the entire EU competition policy. However, changes can be made on national levels. In their fight against cartels, national enforcers should make the retailers their partners, not their enemies. Regulatory pressure can be loosened in many ways – by allowing effect-based exceptions from the traditional rules, by promoting the model of bona fide self-assessment, and by other methods.
...and a bold one, the antitrust holiday
Allow a one-off antitrust holiday for retailers and monitor what happens. In other words, allow for a full immunity to all sorts of vertical arrangements between retailers and their suppliers, for one year. The retailers are already committed to customer niches, as are suppliers to theirs. It can be argued that buyer power on the side of the consumers (particularly in times of an economic crisis), stands in contrast to the motives which generally inspire the suppliers and retailers to engage in vertical and triangular collusion (also known as hub and spoke).
Most certainly the idea could be seen as somewhat extraordinary, even bordering on the absurd. But most certainly the Drachten traffic experiment faced opposition and rational counter-arguments in one or two debates in the town council and ultimately the benefits were, and are, too good to be ignored.
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About the author
Rastko Petakovic has headed the competition department of Karanovic & Nikolic since 2007. In December 2009, he was promoted to partner. He advises clients on all competition, antitrust and trade matters in Serbia and is ranked by independent directories as the best competition lawyer in the country. He has been a member of the team in many transactions in Serbia, Macedonia, Montenegro and Bosnia-Herzegovina. |
Contact information
Rastko Petakovic
Karanovic & Nikolic
Resavska 23
11 000 Belgrade, Serbia
T: +381 (11) 3094 200
F: +381 (11) 3094 223
E:knserbia@karanovic-nikolic.com
W:www.karanovic-nikolic.com |