On April 15, 2015, the Eleventh Circuit upheld the decision of the Federal Trade Commission (FTC or Commission) that McWane, Inc. engaged in unlawful monopolization through its "Full Support Program," which the court and the Commission deemed a form of exclusive dealing.1  McWane was the sole domestic producer of certain pipe fittings until the entry of Star Pipe Products, Ltd.  The Full Support Program was designed to encourage customers to buy McWane's full line of domestically produced products and had the effect of limiting the scale of the new entrant, Star.  The FTC used this limitation on Star's scale to establish that Star was substantially foreclosed from the market, and thus, the Program harmed competition.  Despite reviewing de novo the legal question of whether the Program constituted unlawful monopolization, the court deferred significantly to the factual and economic findings of the Commission as the "building blocks" for its review.  The question of anticompetitive harm was hotly contested given that Star entered and took share from McWane despite the existence of the Program.  A particularly interesting aspect of the case was that McWane and dissenting Commissioner Wright took the position that the FTC had not met its burden of establishing substantial foreclosure because it had not precisely calculated a minimum efficient scale for Star as the basis to measure the degree of foreclosure (with McWane and Commissioner Wright proposing that foreclosure could be found only if a competitor is denied the opportunity to operate at minimum efficient scale).  The court declined to require such a calculation.    While the court's decision does not significantly advance the law in the area of exclusive dealing, the case serves as a reminder of the risks companies with strong market positions can face when instituting rebate and loyalty programs-even when such programs result only in partial foreclosure of competition.

Background2

In January 2012, the FTC filed an administrative complaint containing seven counts under Section 5 of the FTC Act related to conduct in the ductile iron pipe fittings industry.  In May 2013, the Administrative Law Judge (ALJ) dismissed three counts, which alleged price-fixing, unlawful information exchange, and an unlawful invitation to collude.3  The ALJ found in favor of the FTC's Complaint Counsel on the

remaining counts.  On appeal, the Commission affirmed only the ALJ's finding of unlawful monopolization against McWane for exclusive dealing practices.4 

The Commission found that McWane monopolized the market for domestically produced ductile iron pipe fittings, products which are used in waterworks projects.  A domestically-produced product market definition was supported by evidence that certain municipal, state, and federal procurement laws restrict the use of imported fittings in certain projects.  McWane was the only domestic manufacturer of fittings until late 2009, when Star began to produce in the United States using contract foundries.  In response to Star's entry, McWane implemented its Full Support Program, which involved informing customers that if they did not buy all of their domestic product requirements from McWane, they risked delayed shipments and the loss of accrued rebates. 

The Commission found that this Program constituted an unlawful exclusive dealing arrangement.  It curtailed Star's entry and growth with distributors and thereby harmed competition.  While Star entered with domestic contract manufacturing, it was not able to gain enough business to justify building or buying its own domestic factory.  As a result, Star remained at a cost disadvantage relative to McWane.  Commissioner Wright issued a lengthy dissent making the argument, among others, that FTC Complaint Counsel had failed to meet its burden of establishing a substantial competitive harm.5  In particular, he took the position that Complaint Counsel did not calculate Star's minimum efficient scale, thus making it impossible to precisely evaluate whether Star's costs were raised by McWane to the point that Star was substantially foreclosed from the market. 

Eleventh Circuit Appeal

On appeal to the Eleventh Circuit, McWane had three main arguments.  First, McWane argued that there was insufficient evidence of a domestically produced fittings market, in part, because the FTC had not performed cross-elasticity of demand calculations.  Second, McWane argued that the Commission's finding of monopoly power was in error given that Star entered and increased its share, even despite the Full Support Program.  Third, McWane argued that there was insufficient evidence that the Full Support Program harmed competition, in part, because the FTC had not calculated a minimum viable scale for Star.  

The court did not agree that cross-elasticity of demand calculations are necessary to establish a relevant market.  Instead, it held that "persistent price differences between domestic fittings and imported fittings, the distinct customers, and the lack of reasonable substitutes" are sufficient evidence to affirm the relevant market definition.6  With respect to the finding of monopoly power, the court recognized that Star's entry and growth to a 10% share in two years did weigh against a finding of market power.  However, the court was "unprepared to say that Star's entry and growth foreclose a finding that McWane possessed monopoly power," and instead affirmed because (i) Star's presence had no constraining effect on McWane's prices, (ii) McWane had a 90% market share, and (iii) capital costs created a significant barrier to entry.7  Lastly, on the evidence of harm, the court concluded that "'clear evidence' or definitive proof of anticompetitive harm" is not required, only a "probable effect" as set forth by the Supreme Court inTampa Electric.8  Accordingly, the court held that the requisite harm from the Program was established through the evidence presented, including that the two largest fittings distributors (accounting for 50-60% of distribution) responded to the Program's announcement by withdrawing business from Star.  The inability to gain more domestic business kept Start from investing in its own domestic facility and dependant on higher cost, contract manufacturing.9 McWane announced plans to "appeal," though it is not clear whether McWane will seek rehearing or petition for certiorari.10

Implications

The Eleventh Circuit's decision in McWane is notable for a few reasons.  First, it underscores the fact that rebate and loyalty programs need not be explicitly exclusive to constitute de facto exclusive dealing.  McWane specifically argued that its program advised customers only that they "may" lose rebates or experience delivery delays.  However, there was an abundance of evidence in the record that customers understood this as a threat and acted accordingly to withhold business from Star.  Companies need to be mindful that any rebate programs or other loyalty policies may readily be considered coercive and rise to the level of exclusive dealing where they have significant market share. 

Second, McWane is a strong reminder that complete foreclosure of competition is not required for a program to constitute unlawful monopolization.  Moreover, there is no absolute test for whether the requisite "substantial" foreclosure has occurred.  The Eleventh Circuit explicitly rejected any requirement for an elevated burden of proof such as the calculation of a minimum efficient scale called for by Commissioner Wright.  While the court did not doubt the economic benefits of such evidence (i.e. to prevent over enforcement), it found no basis to require it in the case law.  More imprecise, or indirect measures of harm can still suffice.  Given the McWane case took over 3 years (not counting the FTC's pre-complaint investigation), companies with significant market share should carefully weigh the benefits of a loyalty program against the risks that the U.S. antitrust authorities might view the program as substantially foreclosing competition.