Low market shares and vertical relationships are not an absolute bar to antitrust exposure, as American Express recently discovered. On February 19, 2015, the United States District Court for the Eastern District of New York ruled that American Express’s “anti-steering rules” violate Section 1 of the Sherman Act by unreasonably restraining trade in the market for general purpose credit and charge card network services. The rules – a form of classic vertical restraint – prohibit a merchant accepting the American Express cards from informing a customer that the merchant may prefer another card (Visa, MasterCard or Discover) and “steering” the customer to use that card. Merchants otherwise may choose to do so because the fee they pay to American Express is typically higher than fees paid to other credit card networks. American Express generally has defended these requirements in its contracts with merchants – which it calls Non-Discrimination Provisions (NDPs) – as necessary to preserve its premium brand positioning.
The practices of major credit card issuers and their vertical relationships with merchants have long been a matter of interest to the United States Department of Justice (DOJ). It successfully sued MasterCard and Visa in the late 1990s, challenging bylaws preventing their member banks from issuing credit cards on competing networks, like Discover and American Express. Significant private antitrust litigation also has been pending in numerous cases challenging the credit card issuers’ business practices for almost two decades.
In 2010, DOJ again waded into the credit card wars and sued Visa Inc., MasterCard International Inc. and American Express Company over their respective anti-steering merchant rules. According to DOJ, the rules “prevent merchants from offering consumers discounts, rewards and information about card costs” and result “in consumers paying more for their purchases” because the “rules increase merchants’ costs of doing business.” Several states were also plaintiffs in the suit, and ultimately 17 states joined with DOJ (collectively, “Government” or “plaintiffs”). The plaintiffs alleged that the rules violated Section 1 of the Sherman Act, which prohibits agreements that unreasonably restrain trade.
Visa and MasterCard settled with the Government soon after the complaint was filed, agreeing in a consent judgment to discontinue use of the rules. American Express, on the other hand, publicly justified not settling with the Government by pointing to its comparatively modest market share and to the role NDPs played in maintaining its ability to compete effectively against Visa, MasterCard and Discover.
The Government’s Claims
In litigating the remaining case against American Express, the Government did not argue that American Express’s NDPs were presumptively, or per se, illegal; instead, the Government claimed they violate Section 1 under the so-called “rule of reason” test, the conventional test for assessing the legality of vertical relationships, e.g., distribution restraints between a manufacturer and a downstream distributor. As a result, to prove that the NDPs were unlawful under the rule of reason, the Government needed to show that they had an adverse effect on competition in a relevant market. To meet this burden, the Government was required to prove American Express had market power by providing a detailed industry analysis and a demonstration of significant market share or, alternatively, by proving that the rules had an actual adverse effect, such as increased prices. American Express could rebut this evidence by showing that the rules had procompetitive effects that outweighed their adverse effects.
Based on evidence introduced during the course of a seven-week nonjury trial, the court found that American Express had market power even though it accounted for only 26.4 percent of the volume of general purpose credit and charge card purchases in the United States in 2013. Visa had a 45 percent market share; MasterCard had 23.3 percent; and Discover had 5.3 percent. The court rejected the argument that a firm must have at least 30 percent of the market before market power can be shown.
The court also found that, independently of American Express’s market power, the NDPs had demonstrable adverse effects on competition because they “impaired the competitive process in the network services market, rendering low-price business models untenable, stunting innovation, and resulting in higher prices for merchants and their consumers.”
The court considered, but rejected, American Express’s procompetitive justifications for the NDPs, i.e., that they were needed: (1) to preserve its business model based on a “welcome acceptance” of the American Express card by all participating merchants; and (2) to prevent merchants from “free riding” on the services that American Express provides them. Under the free-riding justification, American Express argued that “merchants could draw Amex cardholders to their establishments through a targeted marketing campaign facilitated by Amex’s investments … only to steer those cardholders to the less expensive card at the register.” The court held that “these purported justifications do not offset, much less overcome, the more widespread and injurious effects of the NDPs on interbrand competition in the relevant market.”
The court’s ruling rests on the specific facts of the case and unique features of the credit card market, but it raises important issues that may have implications well beyond the credit card industry. In assessing antitrust risk, antitrust lawyers and company counsel typically assess behavior through benchmarks or screens based upon antitrust precedent, shortcuts that allow us to counsel clients in an efficient way.
One of the most important analytics is the concept of a market-share screen. Market share is an easy way to begin to assess the competitive significance of either unilateral or coordinated conduct, and, typically, market share below a 30 percent threshold is viewed as competitively benign. Long gone are the days when any increase in market concentration was thought to be presumptively harmful to consumers, whatever the total or combined share.
Likewise, economic and legal developments over the last three decades have recognized that vertical relationships and associated restraints are often procompetitive. These views, inspired by the “Chicago School” of antitrust economics, have gained great credence. Starting with the U.S. Supreme Court’s Sylvania decision in 1977, which held that vertical restraints, such as exclusive sales territories, had to be assessed under the rule of reason and not automatically condemned, the strong trend has been to allow greater antitrust leeway for vertical restraints. In 2007, the Supreme Court in Leegin even went so far as to rule that resale price maintenance – once termed vertical price fixing – had to be assessed under the rule of reason.
The court’s careful and lengthy rule of reason analysis in this case, however, reminds us that these analytical tools are just shortcuts. The pendulum has not swung so far that the combination of low market share and vertical restraints must be treated as per se legal. Indeed, the very concept that an antitrust violation can be proven solely through demonstrating adverse effects – which slowly has been gaining some judicial approval – shows the opposite. As a result, in assessing antitrust risk, companies must always be prepared to go beyond the simple analysis and ask whether behavior may – or does – have adverse competitive impact, despite market conditions that might otherwise suggest that there could be no problems.
American Express is expected to appeal the court’s ruling.