Distribution, Competition, and Antitrust / Intellectual Property (IP) Law

Northern District of California Addresses Functional Discounts, Price Discrimination Claims

Chrysler 1959

Chrysler 1959 (Photo credit: Wikipedia)

In Mathew Enterprise, Inc. v. Chrysler Group, LLC, 2014 U.S. Dist. LEXIS 95522 (N.D. Cal. July 11, 2014) (Freeman, J.), the court dismissed certain Robinson-Patman Act price discrimination claims and allowed others to proceed, and in so doing addressed the contours of the functional availability defense.

The plaintiff is a car dealership. It alleged that Chrysler grants “volume growth” incentives which function as a subsidy and amount to roughly $700 per vehicle sold by a qualifying dealer. The plaintiff alleged that Chrysler allowed competing dealerships to be established in plaintiff’s area but did not adjust the formula by which plaintiff could qualify for volume growth incentives. That is, plaintiff’s sales objectives continued to be based on its past year’s sales without consideration of the reduction of sales expected due to the addition of new dealerships in the market.

In addition to its allegations about volume growth incentives, the plaintiff further alleged that Chrysler provided disguised reductions in the net prices of vehicles to a competing dealership in the form of below-market rent subsidies which were not also provided to plaintiff.

On Chrysler’s motion to dismiss, the court held that plaintiff had adequately alleged that the volume growth incentives were not functionally available to it. “Defendant’s incentive program could not be applied in an even-handed manner, Plaintiff alleges, because its formula as applied to Plaintiff took into account Plaintiff’s prior year sales, while the formulas put in place for the [competing] dealerships did not, because neither new dealer had prior-year sales.” The court also held that plaintiff had plausibly alleged an effect on competition in the form of sales diversions. “Although Plaintiff acknowledges that other factors contributed to its declining sales, such as increased competition and geographic convenience to customers, those others factors are not more plausible than Plaintiff’s allegations of diverted sales.”

As to the rental subsidies, however, the court held that a rental agreement itself is not a commodity within the reach of the Robinson-Patman Act, and that the plaintiff had not plead facts that would permit the court to infer that the rental agreement in some way was tied to the volume of cars sold. Therefore, the court rejected plaintiff’s argument that the rental agreement was a “disguised discount.”

Is Razor and Blade Pricing a Myth?

A heavy duty style safety razor. This is a fun...

(Photo credit: Wikipedia)

Speaking of razor and blade pricing, I just recently found this 2010 paper by Randal C. Picker entitled “The Razors-and-Blades Myth(s).”  From the abstract:

Gillette’s 1904 patents gave it the power to block entry into the installed base of handles that it would create. While other firms could and did enter the multi-blade market with their own handles and blades, no one could produce Gillette handles or blades during the life of the patents.

From 1904-1921, Gillette could have played razors-and-blades – low-price or free handles and expensive blades – but it did not do so. Gillette set a high price for its handle – high as measured by the price of competing razors and the prices of other contemporaneous goods – and fought to maintain those high prices during the life of the patents. For whatever it is worth, the firm understood to have invented razors-and-blades as a business strategy did not play that strategy at the point that it was best situated to do so.

It was at the point of the expiration of the 1904 patents that Gillette started to play something like razors-and-blades, though the actual facts are much more interesting than that. Before the expiration of the 1904 patents, the multi-blade market was segmented, with Gillette occupying the high end with razor sets listing at $5.00 and other brands such as Ever-Ready and Gem Junior occupying the low-end with sets listing at $1.00.

Given Gillette’s high handle prices, it had to fear entry in handles, but it had a solution to that entry: it dropped its handle prices to match those of its multi-blade competitors. And Gillette simultaneously introduced a new patented razor handle sold at its traditional high price point. Gillette was now selling a product line, with the old-style Gillette priced to compete at the low-end and the new Gillette occupying the high end. Gillette foreclosed low-end entry by doing it itself and yet it also offered an upgrade path with the new handle.

But what of the blades? Gillette’s pricing strategy for blades showed a remarkable stickiness, indeed, sticky doesn’t begin to capture it. By 1909, the Gillette list price for a dozen blades was $1 and Gillette maintained that price until 1924, though there clearly was discounting off of list as Sears sold for around 80 cents during most of that time. In 1924, Gillette reduced the number of blades from 12 to 10 and maintained the $1.00 list price, so a real price jump if not a nominal one. That was Gillette’s blade pricing strategy.

In sum: “Gillette hadn’t played razors-and-blades when it could have during the life of the 1904 patents and didn’t seem well situated to do so after their expiration, but it was exactly at that point that Gillette played something like razors-and-blades and that was when it made the most money. Razors-and-blades seems to have worked at the point where the theory suggests that it shouldn’t have.”

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Drug Makers Win Summary Judgment on De Minimis Price Discrimination Claim

A recent case reminds us that price discrimination under the Robinson-Patman Act may be so de minimis that it is not actionable.

In Drug Mart Pharmacy Corp. v. American Home Products Corp. (No. 1:93-cv-05148-ILG-SMG) (August 16, 2012) (a so-called secondary line discrimination case involving disfavored retailers), retail pharmacies brought a Robinson-Patman Act price discrimination claim against various drug manufacturers, alleging that the manufacturers had effectively given price breaks to hospitals, HMOs, and mail order pharmacies but not to the smaller retailers. Plaintiffs argued that they could identify specific customers lost to competitors as a result of the price discrimination, and selected a test sample of plaintiffs to evaluate.

Upon evaluation, the 28 sample plaintiffs were only able to match 5,147 potential lost customers (about 3% of their customer base) and 15,043 potential lost transactions.

On these facts, the court concluded that the plaintiffs had failed to demonstrate an anti-competitive effect or antitrust injury. Although FTC v. Morton Salt Co., 334 U.S. 37 (1948), allows an inference of anti-competitive effect where there is a significant price difference over a substantial period of time, this presumption is subject to rebuttal, and here the plaintiffs themselves undertook an extensive, costly, and time-consuming effort to trace the customers they claim to have lost to favored purchasers because of price discrimination, but “essentially c[a]me up empty.”

Additionally, plaintiffs could not show antitrust injury, because they could not match up any alleged losses with gains to favored customers — at least not beyond a de minimis amount.

Price discrimination is not per se unlawful, and winning a price discrimination case, while not impossible, is in fact very difficult.

Sixth Circuit Rules that Competing End Users Can Bring Price Discrimination Claims

English: Lightning over Las Cruces, New Mexico...

(Photo credit: Wikipedia)

In Williams v. Duke Energy International, Inc., No. 10-3604 (6th Cir. June 4, 2012), plaintiffs alleged that Duke paid unlawful and substantial electricity rebates to certain large customers, including General Motors, in exchange for the withdrawal by those customers of objections to a rate-stabilization plan that Duke was attempting to have approved by Ohio regulators.

The Sixth Circuit held that electricity is a commodity within the meaning of the Robinson-Patman Act.  It also found that plaintiffs had stated a price discrimination claim, because one subclass of plaintiffs, sellers of goods and services, competed in the same market as the favored customers and alleged that they lost profits as a result of the discriminatory rebates and the competitive advantage provided to favored customers.  “Defendants’ contention that the [Robinson-Patman Act] applies only to the resale of a purchased product is not consistent with case law.”

Usually price discrimination between and among end users is not problematic.  Williams is a reminder that such discrimination is usually not problematic because the end users aren’t in competition with each other.  Sometimes, however, they are.

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Patent Tying: Does Price Discrimination Promote Innovation? (Part 3)

Returning to the subject of patent tying, price discrimination, and the promotion of innovation, Christopher Leslie’s recent article comes to the following conclusions:

1. Tying law should apply equally to patent tie-ins as to other tie-ins.

2. Tying law generally should be “fixed” by requiring proof of anticompetitive effects.  In other words, per se treatment should be jettisoned.  (In reality, although many courts still speak of “per se” illegal tying offenses, they often analyze competitive effects.  But there is language in some relatively recent cases suggesting that the offense of per se illegal tying may still exist.)

3. So long as the elements of a tying claim (including anticompetitive effects) are proven, then the fact that the patentee was using the tie-in as a metering device should be irrelevant.

I personally suggest that point no. 2 above makes eminent sense.  Point no. 3 at least has the advantage of simplicity of administration.  But I find, perhaps surprisingly, that point no. 1 is the most interesting one.  For one thing, it may be overbroad.  Patent law, after all, distinguishes between staple products (those that have uses unrelated to the patented product) and non-staple products (which are specially designed for use with the patented product).  Sale of a non-staple product can, at least under certain circumstances, amount to contributory patent infringement.  So if non-staple products are in some sense within the scope of the patent grant, why shouldn’t a patentee be able to engage in metered tying without worrying about tying law?

Additionally, the existence of a patent is probably some evidence of at least some sort of innovation in the patented product.  In the ordinary tying case involving unpatented products, there may be no such presumption.  And although some patentees can directly meter usage instead of using a tie in, as Leslie suggests, in some cases that may not be possible.  For example, suppose a company has a patent on a razor design, which utilizes unpatented blades.  Each consumer may buy only one razor, which lasts many years (or decades).  As a practical matter, it may not be possible to meter the razor usage — but it is relatively easy to meter the blade usage.

So perhaps the rule should be: as to staple products, or as to tied products where metering of the tying, patented product is a practical alternative, the tying rules should be the same.

 

Patent Tying: Does Price Discrimination Promote Innovation? (Part 2)

In the last post on this topic, I summarized arguments in favor of metered patent tying, as developed in a recent article by Christopher Leslie. There are, of course, arguments against the practice. Leslie summarizes them as follows:

1. The patentee is already rewarded for innovation. The patentee already has the power to charge higher prices for the patented product.

2. Metered tying isn’t calibrated to produce the optimal reward. For most of the 20th century, metered tying constituted (per se) patent misuse, yet firms innovated. The evidence that metered tying is necessary to promote innovation is lacking.

3. Overinvestment. Patent grants produce a “winner-takes-all” reward, which may cause an R&D race by a number of firms. This excessive research activity may be inefficient. Metered tying may exacerbate the problem.

4. Metered tying may not foster innovation. There is an absence of empirical evidence on this point. Additionally, the innovation argument, even if true, has no limiting principle. Why couldn’t companies defend a price-fixing charge on the basis that their activity fostered innovation?

5. Metered tying may reduce innovation in the tied product market. Fewer firms may mean less innovation. A smaller available tied product market provides less incentive for competitors to innovate in that market. The patentee may not have robust incentives to innovate in the tied product market, either. Finally, the tie could force rivals to enter two markets concurrently, impeding competition and innovation.

I’ll finish some thoughts on this in a final post.

Patent Tying: Does Price Discrimination Promote Innovation?

Christopher Leslie has a thoughtful article in this month’s issue of the Antitrust Law Journal entitled “Patent Tying, Price Discrimination, and Innovation.”  I thought I would take a post or two to riff on a few of the ideas presented.

Patents, of course, give their owners certain exclusive rights.  These are thought to foster innovation by allowing firms to recoup their R&D costs.  Absent patents, other firms would free ride on innovators’ efforts, which would reduce the incentive to innovate in the first place.

But patents also create inefficiencies.  Patent owners will likely price their patented products at higher price points.  Some consumers, who would have purchased a product at the competitive price (because they value the product more than it costs at the competitive price), will not buy the higher-priced patented product.  Rivals cannot meet this demand because of the patent.  And so the overall economic system suffers a deadweight loss or inefficiency.

Some commentators have proposed that price discrimination in a tied, metered product is appropriate, efficiency-enhancing, and an antitrust defense to a patented product tie.  Here’s the argument: suppose a manufacturer receives a patent on a sophisticated new type of color copier – one that performs functions no other copiers can perform.  The manufacturer could price its product at a premium, but then some customers who would otherwise buy it will be priced out of the market.  So the manufacturer engages in “metered tying” – it will sell the copier at a lower price point, but only to those customers who buy special, non-patented paper from the manufacturer.  The manufacturer charges for the paper by the page, so that customers who use more paper pay more.  This type of metered tying accomplishes price discrimination – those customers who want the patented product more will pay more for it through the metering.  If the metering is perfectly calibrated, the manufacturer may be able to capture – and thereby eliminate – the entire deadweight loss.

This sort of patent tying may (and often does) violate the patent laws and constitute patent misuse.  But the question is, should there be a special rule for antitrust purposes – should price discrimination through metered tying be allowable under the Sherman and Clayton Acts?

Leslie outlines the arguments that have been advanced in favor of such a defense.  Metered tying rewards past innovation and promotes future innovation.  Also, in the view of some, patentees can price discriminate as to patented products themselves, and so should be able to discriminate as to tied products.  In other words, price discrimination as to tied products is an exercise of the power inherent in the patent grant, not an extension of that power.

There are, of course, responses to these arguments.  I’ll summarize those in the next post.

Refusal to Deal Is Not a Robinson-Patman Act Violation

In Fresh N’ Pure Distributors, Inc. v. Foremost Farms USA (E.D. Wis. No. 2:11-cv-00470-AEG) (Nov. 28, 2011), a distributor’s supplier was purchased by a competitor of the distributor. Later, the new owner refused to sell its products to the distributor. The distributor sued. The district court dismissed the distributor’s Robinson-Patman Act claim. A refusal to deal, the court held, “generally does not violate the Robison-Patman Act because one who unsuccessfully seeks to purchase a commodity cannot be a ‘purchaser’ within the meaning of the Act.” The plaintiff managed to save its breach of contract claims by their whiskers.

Moral of the story: claims under the Robinson-Patman Act require two or more actual sales, and a discrimination in price. Refusals to deal don’t count.

The Critical Importance of Geographic Market Definition

In a recent (and unpublished) decision by the California Court of Appeal for the First District, the court affirmed a summary judgment in favor of a gasoline refiner in a price-discrimination case brought pursuant to California’s Business and Professions Code.  The reason?  The plaintiff had not hired an expert, and did not have evidence to support her claim that her station competed with, and should have been charged the same as, similarly-branded stations located within five miles.

The opinion is hereEl Sineitti v. Conoco Phillips Co. (Aug. 24, 2011).

Is Price Discrimination Good or Bad?

“Discrimination” is a negative word.  It is associated with age discrimination, discrimination based on race, etc.  So, perhaps unconsciously, we tend to think that “price discrimination” is also an evil to be avoided.

But is it?

As I’ve already mentioned in this blog, price discrimination essentially means charging different customers different prices.  That doesn’t sound terribly nefarious.

Before discussing the issue further, let’s note a few basic types of price discrimination (here, we’re talking about discrimination as to end-users or ultimate customers).  In increasing order of individualization, we have:

Group pricing.  Here, a company will charge different classes of customers different prices.  Think about introductory offers for newspaper or magazine subscriptions, or for health club memberships.

Versioned or branded pricing.  Here, a company will allow customers to essentially select a group themselves by selecting a version or a brand of a product.  For example, a computer device manufacturer may sell a branded product at a higher price, and sell the exact same product under a generic name at a lower price.  More technically-informed consumers can select the lower-priced product.  More brand-conscious consumers can select the higher-priced product.  The various brands or versions have greater or lesser attraction to various groups of consumers.

Individualized pricing.  Here, a company will charge individual consumers different prices for the same product — and will presumably offer the product at the maximum price each customer is willing to pay.  Professional services may be offered under such a pricing scheme.  Large, complex, and expensive equipment sold to sophisticated buyers might also be priced uniquely for each customer.  Car dealerships — although they of course have sticker prices — also to a large extent engage in individualized pricing.

As we move from group to branded to individualized pricing, transaction costs are likely to go up.  That is, it is cheaper to set a single price for every bottle of soda that you sell than to set multiple pricing tiers or to haggle over soda pricing with individual buyers.  Why, then, do companies ever engage in price discrimination?

The answer is that companies can sell to more consumers if they engage in price discrimination.  For example, suppose a bottle of soda costs $0.50 to manufacture and transport to the point of sale.  And suppose that the soda company’s profit-maximizing price for each bottle is $1.50.  If the company sells to everyone at $1.50, it will lose some higher-priced sales, because some people will be willing to pay more than $1.50 for soda (e.g., people attending a baseball game and who are very thirsty).  Secondly, the soda company will lose sales to people willing to pay more than $0.50 but less than $1.50.  Price discrimination may allow the company to capture these otherwise lost sales.

Under this theory, price discrimination can actually increase consumer (and overall) welfare.  By engaging in price discrimination, the soda company can sell to additional, thirsty customers who otherwise would not have soda to drink.

So why is price discrimination ever thought to be a bad idea, and why is it sometimes unlawful?  I will address that question in an upcoming post.

 

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