This article is written by Himanshi Garewal from Tamil Nadu National Law University, Tiruchirappalli and the article is edited by Khushi Sharma (Trainee Associate, Blog iPleaders).
This article has been published by Diganth Raj Sehgal.
Table of Contents
Introduction
The Competition Act, 2002 (“the Act”) was enforced with an objective to regulate markets in pursuance to keep them competitive. Market economy accomplishes better in the presence of competition. The economic reasoning behind free-market economy is that freely performing markets lead to the efficient allocation of a nation’s scarce resources and provide consumers with a plethora of choices. The Act regulates any kind of anti-competitive behaviour by market players to ensure a competitive environment and consumer welfare.
The Act prohibits agreements that bear anticompetitive conduct. Section 3 of the Act specifically deals with Anti-competitive agreements. Further, Anti-competitive agreements can be classified in two kinds: Horizontal Agreements and Vertical Agreements.
Precisely, the Vertical Agreements are Agreements between firms performing at different levels of the production or distribution chain. For instance, agreements between manufacturers and distributors.
Example 1: a manufacturer of clothing has an agreement with the retailer that entails the retailer to promote the products in return for lower prices.
Example 2: an agreement between a retailer and manufacturer wherein retailer consents to purchase or deal goods with only a single manufacturer.
Example 3: an agreement where the manufacturer intends to supply a single or selected number of retailers.
Grasping the concept of vertical agreements
Firstly, the term ‘Agreement’ is defined under Section 2(b) of the Act which states an Agreement encompassses:
1. arrangement; or
2. understanding; or
3. action in concert.
The arrangement or understanding or action can be formal or can be in embodiment of written form. Also, the arrangement or understanding or action can be informal or can be in embodiment of unwritten form. The arrangement or understanding or action can be enforced by law. Also, it can be that the arrangement or understanding or action is not enforced by law.
Under the combined reading of Sections 3(1) and 3(2) of the Act, the Anti-Competitive agreements are prohibited.
Any agreement formed between the following parties:
1. Enterprises; or
2. Association of enterprises; or
3. Persons; or
4. Association of persons.
In relation to production, supply, distribution, storage, acquisition or control of goods or provision of services, such that the said Agreement formed causes or likely to cause an Appreciable Adverse Effect on Competition (AAEC) is prohibited. Further, such an Agreement shall be void in the eyes of the Competition Law.
Section 3(4) of the Act deals with vertical agreements. In accordance with Section 3(4), the vertical agreements are entered amongst Enterprises or Persons at different stages or levels of the production chain in different markets in relation to production, supply, distribution, storage, sale or price of or trade in goods or provision of services.
Production chain at different stages/levels making a vertical agreement.
In simple words, in order to have a vertical agreement, an agreement can be entered between raw material supplier and manufacturer; between manufacturer and wholesaler; between wholesaler and retailer, since each of them is on the different stages of the production chain. The agreement can be related to production, supply, distribution, storage, sale or price of the trade-in goods or provisions of service.
It is pertinent to note that in circumstances where vertical agreement contravenes Section 3(1) of the Act, that is, causes or likely to cause an AAEC on competition shall be prohibited and shall be void.
Vertical Agreement and Role of Market Power
It is pertinent to note that, unlike horizontal agreements, vertical agreements do not include a fusion of market power. However, the vertical agreements impact competition in the market only in the circumstance of firms inflicting vertical restraint has a high degree of market power. Also, in such circumstances, competition from other firms’ products (intra brand competition) is definient. In contrast, in the circumstance wherein the firm imposing vertical restraint has not adequate market power or there exists adequate intra-brand competition, then the prohibition on competition between the distributors and retailers pertaining to the identical brand may not impact on competition in the market. Hence, the factor of market power must be assessed meticulously while determining cases of vertical agreements.
The vertical agreements are not per se anti-competitive but considered to be anti-competitive, if these agreements cause or likely to cause AAEC in India. If vertical agreements are met with factors stipulated under Section 19(3) of the Act. For instance, these agreements foreclose the market, limit inter-brand and intrabrand competition in the relevant market then such vertical agreements are anticompetitive and void.
Types of vertical agreements
Vertical Agreements can be categorised into five kinds:
1. Tie-in arrangement;
2. Exclusive supply agreement;
3. Exclusive distribution agreement;
4. Refusal to deal;
5. Resale price maintenance.
Tie-in arrangement
Tie-in arrangements is an agreement wherein a seller sells one desirable product on a precondition that buyers shall purchase a second less desirable product or service. The former product shall be known as a tying product and the latter shall be known as a tied product. It is not required that the tying product and the tied product must be identical to each other in characteristics. Not all tie-in
arrangements are illegal and not all illegal tie-in arrangements are per se illegal. The plaintiff who raises the claim of per se impingement, has the burden of proof to satisfy the following conditions:
1. The seller has put condition that sale of one product shall be done on the purchase of the second product by the buyer
2. The two products bear different characteristics and are separate products. 3. The seller has adequate position in the irrelevant market for the tying product in pursuance to execute the tie-in.
It is precisely noted, for the factor of offence of tying under the ambit of the Act, it is vital that the consumer has been coerced into buying both the tying and tied product that in consequence by virtue of their characteristics or commercial utilization bear no link with the issue of main contract.
At some instances the tie-in arrangement and bundling seems to be alike. However both are technically different.
The competition law concerns that could arise from tying or bundling in a relevant market are the followings:
1. Likelihood of foreclosure on the market of tied product.
2. High entry barriers in both the market of tying and tied products.
It should be noted that tie-in arrangements can cause “abuse” in view of Section 4(2)(d) of the Act, that constitutes listing as abuse as well. Prominently, presence of dominance in the market of tying products is a requisite factor for determining whether tying is abusive in competition. Hence, the first and foremost factor in the alleged case of abusive tying is to erect that the firm possesses a dominant position in the market of tying products. In addition tie-in arrangement concerns the competition law since such agreements restrict competitors free access to the market for the tied product due to the firm imposing tying conditions has the competence to leverage in another relevant market. That conclusively is abuse of dominance. Forbye, the consumers are coerced to renounce their free choices between competing products. In light of Section 4(2)(d) of the Act does not mandate factual evidence of foreclosure but it is sufficient to manifest that tie-in arrangement could create a foreclosure effect on the market.
Exclusivity
Exclusive arrangements mandate a buyer to purchase all of its essential or a huge part only from one dominant seller or arrangements which mandate a supplier to sell all of its products or services or a huge part to a dominant player.
There are two kinds of exclusive agreements, these are:
1. Exclusive distribution agreement- includes any agreement to limit, restrict or withhold the output or supply of any goods or allocate any area or market for the disposal or sale of the goods
2. Exclusive Supply agreement- includes any agreement restricting in any manner the purchaser in the course of his trade from acquiring or otherwise dealing in any goods other than those of the seller or any other person
The exclusivity aspect may not be always present as a contractual clause and the same can be manifested from the way of conducting of parties engaged.
The exclusivity poses a serious concern in circumstances of dominant enterprises and their suppliers since exclusive supply agreement entered by dominant enterprise can impulsively lead to foreclosure of market to competitors. Thus, in circumstances of adequate and sufficient market power the exclusive agreements can be a source of abuse of dominance.
The other possible competition concerns with respect to exclusive agreements are primarily restricted intra-brand competition and partitioning of market which eventually leads to price discrimination. Forbye, when a large number of suppliers induce exclusive distribution, this practice can induce collouison, both at the suppliers stage and the distributors stage.
However, the exclusive agreements bear pro-competitive effects as well. For instance, safeguard on investment done by sellers, avoid the occurrence of free riding from buyers end in circumstance of buyer’s exclusive agreement and avoid free riding upon investments done from the buyers end in circumstance of supplier exclusive agreement. Further, it helps in keeping a good brand image by thrusting uniformity and quality authentication on distributors.
Refusal to deal
Refusal to deal is a concept wherein one firm denies or refuses to sell to another firm, desiring to sell only at a price that is recognized to be excessive pricing or is desiring to sell under conditions that are implausible. The keypoint of competition uneasiness arises when a firm has a dominant position and denies or refuses to deal with another firm and that refusal proves to be detrimental to the competition and consumers.
The refusal to deal can embody in the following conducts, these are:
1. Refusal to supply a product or service (that are obtainable from market) to non-competitors
2. Refusal to supply a product or service (that are obtainable from market) to competitors 3. Cease supplying to third parties
4. Denial to supply a product or service that has never been accessible on the market 5. Denial to grant licensing of Intellectual Property rights
Resale Price Maintenance (RPM)
In accordance with Explanation to Section 3(4) of the Act, the RPM is defined as, includes any agreement to sell goods on condition that the prices to be charged on the resale by the purchaser shall be the prices stipulated by the seller unless it is clearly stated that prices lower than those prices may be charged. With the mechanism of RPM, a manufacturer and its distributors consent that distributors shall sell manufacturers product at price stipulated. In circumstances where the reseller denies to keep up with the prices, either furtively or openly, the manufacturer can opt to cease doing business with the reseller.
RPM can be carried through individually or collectively. Under the ambit of individual RPM, the supplier stipulates the retail prices at which the products are to resold. Likewise, under the ambit of collective RPM, suppliers stipulate the retail prices. When RPM is executed, the price of products are imposed alike regardless of distinct location, quality and characteristics.
Section 3(4)(e) of the Act does not specify with regard to anti-competitive aspects of RPM. but, here are two classifications pertaining to RPM that are recognized as anti-competitive. These are as follow:
1. Fixed price: it is a contract where prices are fixed for a product and no adjustments are allowed unless specified in the contract. The contract is subjected to negotiations when there are specifications present in the contract. The contract puts the contractactor to a potential maximum risk emanating from cost escalations.
2. Minimum resale price: in this aspect of agreement, a manufacturer stipulates a minimum price above which the retailers shall sell the products. The manufacturer in such a scenario keeps watch on the conduct of retailers in order to make certain their conduct is in accordance with the condition imposed on them. In circumstance, it is fetched that retailers are deviating from pricing below the stipulated price, they are terminated or subjected to termination.
It is prominent to note that vertical restraints such as RPM can avoid price competition amongst wholesalers, distributors or dealers which conclusively impact on consumers adversely. An agreement of RPM is subject to the rule of reason. Section 3 of the Act mandates that such agreements should be scrutinized meticulously and if fetched to be causing or likely to cause AAEC then such an agreement is void.
Conclusion
Vertical agreements are not illegal per se and subjected to rule of reason scrutiny by the competition law regulators. Any kind of vertical restraint agreement is scrutinized considering both the anti-competitive and pro-competitive aspects of it. If efficiencies emanating from pro-competitive aspects of agreement outweigh the anti-competitive aspects then such vertical restraint shall not be considered as causing or likely to cause AAEC on competition, thus the agreement shall be lawful. In contrast, when anti-competitive aspects of vertical restraint agreement outweigh pro-competitive aspects that inevitably causing or likely to cause AAEC on competition then vertical restraint agreement shall void and the Competition Commission of India can impose penalty upon the parties to the agreement under Section 27 of the Act after the completion of the all inquiries by the Commission.
References
● The Competition Act, 2002
● Abir Roy, Competition Law in India, 2nd Edition
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