Distribution, Competition, and Antitrust / IP Law

Selling Direct to End-Users Does Not Equal Unfair Competition

So the court held in Weco Supply Co., Inc. v. The Sherwin-Williams Co., No. 1:10-CV-00171 AWI BAM (E.D. Cal. May 25, 2012) (Ishii, J.).

The plaintiff, a “jobber” (i.e., a non-exclusive distributor), complained when its supplier began selling directly to its end-user customers. (The supplier argued it did so to preserve the end-users’ business after the distributor began offering other manufacturers’ products.)

The court held that although Sherwin-Williams’ conduct undoubtedly harmed Weco’s commercial interests, a factfinder could not reasonably find that Sherwin-Williams engaged in “unfair competition” under the California Supreme Court’s Cel-Tech standard. Weco presented no evidence tending to show that Sherwin-Williams’ conduct raised the price to consumers, harmed allocative efficiency, or diminished the quality of paint sold. In fact, prices offered by Sherwin-Williams to end-users were lower than the prices offered by Weco. (Nevertheless, Sherwin-Williams’ sales to the end-users were profitable.)

In short, there’s nothing unfair about a manufacturer selling directly to customers in competition with its distributor.  Of course, contractual rights, if they exist, can give rise to particular supplier obligations.

Can My Supplier Refuse to Sell Products to Me?

Supply Chain

Wholesalers, distributors, and retailers are dependent upon their suppliers for a supply of products. What happens when your supplier decides it no longer wants to deal with you? Is that lawful?

The answer, of course, depends on the facts. Let’s break the question down into various possibilities. The main dividing line is between unilateral actions by the supplier and “concerted” actions (that is, actions in furtherance of an agreement or understanding with other firms or companies).

I’ll cover basic competition law here; keep in mind that you may also have contract or promissory estoppel claims.

Unilateral action

If your supplier decides all by itself that it no longer wants to do business with you, it is generally within its rights to do so under the competition laws if it does not have “market power.” The concept of market power can become technically complicated, but it essentially means the power to raise prices above competitive levels for some significant period of time. Market power may not be immediately obvious, so we often use market share as a simple proxy for market power, at least to obtain a quick sense of the situation.

So how does this work in practice? If you are buying widgets, your supplier accounts for 90% of the widget market, and it suddenly decides to stop selling to you, it is possible you are looking at an anti-competitive action that might violate the special rules that apply to monopolists or would-be monopolists. You would have to develop more facts to assess the strength of any such argument.

If your supplier’s market share is less than 40%, it is very unlikely that you have such a claim. Above 60% to 70%, you may, and in between 40% and 60% is a bit of a grey area (although some courts have held that certain percentages in this range either are, or are not, sufficient). Details of the market structure (are there significant barriers to entry? are there significant barriers to other firms’ expansion?) may be important.

Just because your supplier has market power and has terminated you, however, does not necessarily mean that you have a good claim. You would still need to prove that the termination has harmed competition; harm to your business is not by itself enough. For example, all things being equal, the termination of one of many distributors may not be competitively significant. On the other hand, if a supplier terminates all distributors that carry products of the supplier’s competitor – and the supplier has market power – then a claim is in theory possible. But again, proving harm to competition can require a detailed understanding of the marketplace and the distribution system.

Lacking market power, however, a supplier generally has the right to do business with whom it pleases. That’s the “American way.”

Concerted action

What if your supplier terminates you because your competitors complain to the supplier? For example, they might complain that your pricing is “too low” and is hurting the market or their business.

The central principle remains that a supplier can do business with whom it likes. It can terminate a distributor for pricing reasons – even if it has previously received complaints from other distributors. Such a sequence of events is not by itself sufficient to establish an unlawful agreement or concerted action.

But if there is evidence of an actual agreement between a supplier and some distributors to terminate another price-cutting distributor in order to raise, maintain, or stabilize pricing, such an agreement may be illegal. Developing the evidence of such an agreement in order to establish something more than dealer complaints followed by a termination can be challenging, but it is not impossible.

Concerted action involving multiple suppliers can also pose competition law issues. Such an agreement may amount to a “group boycott” that could be challenged under federal or state antitrust law.

Summary

Most supplier terminations are entirely lawful. But occasionally some cross the line, either because the supplier has market power and the supplier is exercising it to harm competition, or because the supplier has agreed with other firms to terminate a price-cutting distributor. In such cases, a careful analysis of the facts is required.

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