Nelson Jung, Clifford Chance LLP
This is an extract from the second edition of the E-Commerce Competition Enforcement Guide - published by Global Competition Review. The whole publication is available here.
Selective distribution agreements
Selective distribution agreements allow manufacturers of a product to establish a distribution system in which the products can be bought and resold only by authorised distributors and retailers. Unauthorised dealers are unable to obtain the relevant products and the authorised dealers are permitted to resell only to other members of the system or to the final customer.
The Commission’s Guidelines on Vertical Restraints (the Vertical Guidelines) state that selective distribution agreements ‘restrict on one hand the number of authorised distributions and on the other the possibilities of resale’, with the possible risks to competition consisting of ‘a reduction in intra-brand competition and, especially in case of cumulative effect, foreclosure of certain type(s) of distributors and softening of competition and facilitation of collusion between suppliers or buyers’.
The extent to which the restrictions in selective distribution systems fall within the scope of Article 101(1) TFEU or benefit from exemption under the VABER or Article 101(3) is at least partly dependent on whether the agreement in question is purely qualitative in nature. The Vertical Guidelines state that:
Purely qualitative selective distribution is in general considered to fall outside Article 101(1) for lack of anti-competitive effects, provided that three conditions are satisfied. First, the nature of the product in question must necessitate a selective distribution system, in the sense that such a system must constitute a legitimate requirement, having regard to the nature of the product concerned, to preserve its quality and ensure its proper use. Secondly, resellers must be chosen on the basis of objective criteria of a qualitative nature which are laid down uniformly for all and made available to all potential resellers and are not applied in a discriminatory manner. Thirdly, the criteria laid down must not go beyond what is necessary.
As affirmed by the ECJ in Metro (and therefore often referred to as the Metro criteria), purely qualitative systems that meet these criteria do not fall within the scope of Article 101. Conversely, selective distribution agreements that are not purely qualitative (i.e., do not meet the Metro criteria) fall within the ambit of Article 101. However, that is not to say that they would necessarily fall foul of competition law. Instead, they may be exempted under the VABER as outlined in paragraph 176 of the Vertical Guidelines:
Qualitative and quantitative selective distribution is exempted by the VABER as long as the market share of both supplier and buyer each do not exceed 30%, even if combined with other non-hardcore vertical restraints, such as non-compete or exclusive distribution, provided active selling by the authorised distributors to each other and to end users is not restricted. The VABER exempts selective distribution regardless of the nature of the product concerned and regardless of the nature of the selection criteria.
When the ‘safe harbour’ of exemption under the VABER is not available (e.g., if the market share exceeds 30 per cent), the restrictions could still be justified and therefore benefit from individual exemption under Article 101(3). However, if a selective distribution system is either combined with, or in practice amounts to, a hardcore restriction (such as a complete online sales ban), this not only precludes the agreement from benefiting from the VABER, it also makes it highly unlikely that it can be justified under Article 101(3).
Selective distribution in an e-commerce context
Manufacturers frequently use selective distribution agreements in an entirely legitimate attempt to protect their brand and to gain greater control over key parameters over their distribution system. Such parameters include pre- and after-sales services that will have a material influence on the overall consumer experience and therefore affect the value of the brand.
The rise in popularity of online marketplaces (or platforms) has led to the use of platform bans in selective distribution agreements. As identified in the Commission’s e-commerce sector inquiry, these platform bans range from absolute bans to restrictions on selling on online marketplaces that do not fulfil certain quality criteria. The use of platform bans varies among Member States. From the perspective of competition authorities, the concern is that the rationale for these bans may be to prevent online retailers from undercutting the prices set in manufacturers’ brick-and-mortar stores. To the extent that selective distribution systems are used to undermine price competition from online operators or amount to unjustified online sales bans, rather than being motivated by legitimate concerns to protect the brand, they are now subject to considerable competition enforcement risks.
However, in the Commission’s report on its e-commerce sector inquiry, the Commission found that absolute marketplace bans should not be considered to be hardcore restrictions as defined in the VABER. This finding was based on the grounds that those bans ‘do not generally amount to a de facto prohibition on selling online or restrict the effective use of the internet as a sales channel’.
More recently, the judgment of the European Court of Justice (ECJ) in Coty has shed more light on the extent to which selective distribution systems can be used by manufacturers to restrict distributors in their use of (online) marketplaces.
The Coty case came before the ECJ when the Superior Regional Tribunal of Frankfurt stayed the proceedings in Coty Germany’s (Coty) appeal against a finding that it had infringed Article 101 to refer questions on the interpretation of Article 101(1) and the VABER for a preliminary ruling. Coty, a supplier of luxury cosmetics in Germany, distributed products through members of its selective distribution system. Parfümerie Akzente, an authorised distributor under the selective distribution system, sold Coty’s products through its brick-and-mortar shops, its own online shop, as well as through Amazon’s German marketplace, amazon.de. Coty revised the terms of its selective distribution system to require authorised distributors to make online sales of its products through an ‘electronic shop window’ and to prohibit ‘the recognisable engagement of a third-party undertaking which is not an authorised retailer’ of Coty. Coty had argued that the restrictions it had imposed were necessary to protect the luxurious nature of the cosmetics and the associated brand value.
The ECJ considered that a restriction on sales through discernible third-party platforms was not disproportionate as it did not go beyond what was necessary to protect the quality of Coty’s products. According to the ECJ, the absence of a contractual relationship meant that Coty would be unable to require compliance with quality conditions from the third-party platform as it could from members of its selective distribution system, which would render the selective distribution system ineffective in preserving the quality of the products.
The ECJ found that a restriction on sales through discernible third-party platforms did not amount to a restriction on customers to whom distributors may sell (as forbidden by Article 4(b) of the VABER), as users of third-party platforms cannot be identified as a particular customer category within the group of online purchasers. In addition, it was not a restriction on passive sales by authorised retailers as Coty’s distribution agreements allowed distributors to advertise via the internet and online search engines, such that users were able to find their online offer.
Both the finding of compatibility of platform bans with Article 101(1) and the decision that such a prohibition is not a hardcore restriction under the VABER, are predicated on the ECJ’s finding that the restriction did not amount to a de facto ban on internet sales. The ECJ had previously found, in its Pierre Fabre judgment, that an absolute ban on internet sales does amount to a hardcore restriction of competition by object. In Coty, the ECJ found that a restriction on sales through discernible third-party platforms was distinguishable from an absolute ban on internet sales, as it only restricts a specific kind of online sale.
In its reasoning, the ECJ referred to its previous Copad judgment in determining that the value of a luxury product is not just in its material worth, but also in the ‘aura of luxury’ that is essential to enable consumers to distinguish the product from others. The court therefore reasoned that protection of the aura of luxury may be necessary to preserve a product’s quality, meaning that a selective distribution system with that legitimate purpose would fall outside of Article 101(1) if it meets the criteria for a purely qualitative selective distribution set out in Metro.
As indicated above, a degree of uncertainty regarding the extent to which the luxurious nature of a product can be relied upon to justify restrictions in a selective distribution system had been caused by the ECJ’s previous Pierre Fabre judgment, in which the following paragraph in the ECJ’s judgment suggested that such arrangements do amount to a restriction of competition by object: ‘The aim of maintaining a prestigious image is not a legitimate aim for restricting competition and cannot therefore justify a finding that a contractual clause pursuing such an aim does not fall within Article 101(1) TFEU.’ However, the ECJ’s Coty judgment indicates that its previous ruling in Pierre Fabre was confined to the specific facts of that case, in which the restriction had amounted to a de facto online sales ban. In other words, the luxurious nature of a product may still, as a matter of principle, justify restrictions forming part of a selective distribution system – whether such restrictions fall outside Article 101(1) altogether, benefit from exemption under the VABER, or can be justified under Article 101(3) depends on the facts of the case (e.g., whether the criteria are purely qualitative or quantitative, or whether the restrictions amount to an online sales ban).
Although the Coty judgment has clarified some issues, performing a robust self-assessment remains both important and challenging for businesses, not least as there is still a degree of divergence in approach between different NCAs. For example, for some products, it may not be immediately apparent whether they are sufficiently ‘luxurious’ and different competition authorities may take different approaches to this question.
Restrictions on online sales, whether or not they form part of a selective distribution system, remain an enforcement priority for competition authorities. In 2017, the CMA fined Ping Europe Ltd (Ping), the golf club manufacturer, £1.45 million for having banned two UK retailers from selling its products online. The CMA found that, although Ping was pursuing a genuine commercial aim of promoting in-store custom fitting (which could not be provided by the two retailers), this aim could have been achieved through less restrictive means. As such, its outright online sales ban constituted a breach of Chapter I of the UK’s Competition Act 1998.
Resale price maintenance or RPM is another type of restriction that has been increasingly the focus of competition enforcement in an e-commerce context. When the Commission last revised the VABER in 2010 it consulted widely on whether RPM should remain a black-listed hardcore restriction. Many economists argued that RPM could not be regarded as being, by its nature, injurious to competition such that it would be anticompetitive by object. When there is ample inter-brand competition, there will be a more limited set of circumstances in which such a restriction on intra-brand competition will have material anticompetitive effects. Competition authorities are often flooded with complaints about RPM practices, although the majority of these practices are likely to be competitively benign.
In the language of the VABER, RPM is a ‘restriction of the buyer’s ability to determine the sale price’. In terms of potential competition concerns, paragraph 224 of the Vertical Guidelines states that RPM may:
- ‘facilitate collusion between suppliers by enhancing price transparency in the market, thereby making it easier to detect whether a supplier deviates from the collusive equilibrium by cutting its price’;
- eliminate intra-brand price competition, and also facilitate collusion between the buyers (i.e., at the distribution level);
- ‘soften competition between manufacturers and/or between retailers, in particular when manufacturers use the same distributors to distribute their products and RPM is applied by all or many of them’;
- ‘lower the pressure on the margin of the manufacturer, in particular where the manufacturer has a commitment problem’;
Overall, there are circumstances in which RPM can be harmful to consumer welfare and this restriction is a particular concern for competition authorities when it is used to stifle or prevent price competition from online retailers. As such, the VABER continues to categorise RPM as a hardcore restriction, and in the UK it remains categorised as a cartel-type agreement in relation to which leniency can be sought.
Under EU law, the inclusion of RPM in an agreement gives rise to the presumption that the agreement restricts competition and thus falls within Article 101(1). As a black-listed hardcore restriction under Article 4 VABER, it does not benefit from block exemption and gives rise to the presumption that the agreement is also unlikely to fulfil the conditions of Article 101(3). However, it remains possible (although challenging in many cases in practice) to prove that likely efficiencies result from the agreement and to demonstrate that the conditions of Article 101(3) are fulfilled.
When the Commission decided to continue to categorise RPM as a black-listed hardcore restriction in the VABER 2010, it acknowledged in the Vertical Guidelines that there are a number of scenarios in which this restriction may be justified. By way of example, it can be legitimate to impose RPM for a short period in the context of the promotion of a new product. In essence, if the promotion of a new product is materially facilitated by investments being made by retailers, these retailers would likely not make those investments if they were not protected from price competition at least in the short term. In practice, a genuinely new product (rather than just the next version of the same product with just a different colour or other less material features) could justify a period of approximately three months for RPM.
With the growth of online distribution, another area of law that is highly relevant to RPM also rose to new prominence: the treatment of agency agreements under EU competition law. The concept of ‘genuine agency’ under competition law dates back to the pre-digital era and is anchored in the fact that Article 101 only applies to agreements (or concerted practices) between at least two undertakings. In circumstances in which one of the parties to the agreement, the retailer, acts as a ‘genuine agent’ of the other party, the supplier, the vertical restriction (RPM) falls outside the scope of Article 101 on the basis of a legal fiction by which the retailer is part of the same undertaking as the supplier. Therefore, if the retailer qualifies as a ‘genuine agent’, there is no agreement between two undertakings for the purposes of EU competition law. However, this concept has largely been applied to cases in which physical goods are sold in a bricks-and-mortar setting, for instance, car dealerships. The key question in those settings was the degree of risk the retailer or dealer bears in selling the goods. If the risks are equivalent to those of a ‘commercial employee’, the retailer can be regarded as a ‘genuine agent’ and the pricing restriction imposed on the retailer falls outside Article 101. This would be the case if, for instance, the retailer does not bear any stock risk because the title of the goods does not pass to the retailer: if the warehouse burns down, it is the manufacturer’s, not the retailer’s loss.
Translating the concept of a ‘commercial employee’ or ‘auxiliary organ’ to online distribution is not without its challenges. In most cases involving online platforms or marketplaces, the distributing intermediary (i.e., the retailing platform or marketplace) will not actually buy the relevant products or services and then resell them. Does that mean there can be no RPM? It does not, according to the Commission. The Vertical Guidelines are clear that it is possible for the ‘buyer’ (within the meaning of Article 4a of the VABER) merely to sell on behalf of the supplier, without ownership passing to the buyer at any point. Therefore, it is possible for an online retailer to be an agent selling on behalf of the supplier, but not to qualify as a ‘genuine agent’ for EU competition law purposes. A careful case-by-base analysis is required to determine what level of risk the online retailer or marketplace bears. The Vertical Guidelines mention ‘risks related to market-specific investments’, which are particularly relevant in this context. For example, if an online platform incurs significant marketing expenditure for the benefit of one or more suppliers without any guarantee of recovering those costs, the Commission may argue that this expenditure exposes the online platform to ‘market-specific investment risks’, in which case the online platform may not be regarded as a ‘genuine agent’. Given that online platforms often incur significant costs for different forms of advertising, including pay-per-click advertisement, it is difficult to reach a definitive conclusion as to what their status might be. This is, at least, a residual enforcement risk that should form part of the self-assessment businesses have to conduct.
For many years, the Commission did not pursue RPM cases itself, leaving decentralised enforcement under Regulation 1/2003 to NCAs, which have been rather active on this issue. However, the Commission is no longer leaving this area of law entirely to NCAs and has started taking enforcement action against RPM practices in the aftermath of the e-commerce sector inquiry.
In July 2018, the Commission collectively fined Asus, Denon & Marantz, Philips and Pioneer for imposing fixed or minimum resale prices – its first finding of infringement by RPM in approximately 15 years. The Commission found that the infringing parties had limited price competition among retailers ‘by restricting the ability of their online retailers to set their own retail prices for widely used consumer electronics products such as kitchen appliances, notebooks and hi-fi products’, leading to an increase in consumer prices.
While not featured in the summary of the Commission’s decision, when the Commission announced the launch of its investigation it suggested that the use of algorithms may have had an exacerbating impact:
The four manufacturers intervened particularly with online retailers, who offered their products at low prices. If those retailers did not follow the prices requested by manufacturers, they faced threats or sanctions such as blocking of supplies. Many, including the biggest online retailers, use pricing algorithms which automatically adapt retail prices to those of competitors. In this way, the pricing restrictions imposed on low pricing online retailers typically had a broader impact on overall online prices for the respective consumer electronics products.
The impact of algorithms on competition enforcement remains an issue that competition authorities are researching in more detail. By way of example, the CMA recently published a paper on the anticompetitive use of algorithms, signalling that algorithms will remain relevant in the context of RPM as well as horizontal agreements.
MFN clauses have for a long time been commonplace in contractual arrangements between companies operating at different levels of the supply chain across industry sectors. In general, they prevent the supplier of goods or services from offering them to another third-party wholesaler or retailer (or end consumer) at a lower price than is offered to the party imposing the restriction.
MFNs in an e-commerce context
Similar to RPM, MFNs have been subject to greater scrutiny from competition authorities with the rise of e-commerce. The underlying concern is that these provisions have become more prevalent to restrict price competition between online retailers or marketplaces and therefore threaten to undermine the benefits of online shopping: consumers could easily shop around to find lower prices but are unable to do so when retail prices are ossified across distribution channels as a result of wide retail-MFNs.
The Commission’s perceived inactivity in respect of vertical restrictions, including MFNs, has resulted in different NCAs adopting differing enforcement approaches. The most prominent example is the hotel online booking saga: multiple NCAs initiated enforcement proceedings in respect of clauses imposed by large hotel online booking platforms, including Expedia and Booking.com, which prevented hotels from offering lower prices for the same hotel room on the same night at prices lower than on those booking platforms imposing the MFN restriction. In some jurisdictions, these MFNs were initially categorised as restrictions by object, or by object and effect. The German Federal Cartel Office adopted an infringement decision, while other NCAs did not reach a final view on the nature or legality of these provisions and accepted commitments rather than adopting an infringement decision.
These were industry-wide practices and the imposition of wide retail-MFNs on hotels was predicated on the ability of hotels to prevent their third-party distribution channels (including other online travel agents) from offering lower prices than those set on the platforms imposing the restriction. In other words, the operability of these MFN provisions relied on the hotels imposing price floors (i.e., RPM) for hotel rooms on its other third-party distributors. The contracts between hotels and online travel agents routinely included contractual restrictions preventing online travel agents from setting a price below the one specified by the hotels (which, in turn, were obliged to monitor compliance with these pricing restrictions to adhere to the MFN clause imposed on them). As noted above, questions have been raised as to whether online travel agents qualify as ‘genuine agents’ for the purposes of Article 101. To the extent that they are not, for instance, if they incur significant market-specific investment risks, such as pay-per-click advertisement costs that are incurred irrespective of whether a booking is made, such RPM restrictions on these third-party distribution channels may not benefit from the ‘genuine agency’ exemption and could therefore amount to hardcore restrictions under Article 4a of the VABER.
However, while there continue to be discrepancies in the treatment of MFN clauses by different NCAs in the hotel online booking sector, a general consensus appears to be emerging in the legal categorisation of MFNs more generally: in essence, under the current legislative framework, MFNs are likely to be regarded as restrictions by effect, rather than by object. It has become apparent that the Commission does not tolerate attempts by NCAs, in particular the German Federal Cartel Office, to characterise them as hardcore restrictions or restrictions by object. When NCAs have sought to do so, the Commission has (in the author’s view, correctly) persuaded them to re-frame the legal characterisation.
The VABER is designed to provide legal certainty by setting out black-listed hardcore restrictions that do not benefit from block exemption. To the extent that vertical contractual restrictions do not feature among these hardcore (or object) restrictions, competition authorities should be required to demonstrate that these provisions restrict competition by effect. For example, it is difficult to see how an MFN clause can have anticompetitive effects if it protects a small operator with no market power and if the market is not subject to cumulative effects from a network of MFN provisions.
Similar arguments could, of course, be made about RPM if there is a high degree of inter-brand competition at the supplier level, and the retail level of the supply chain is also competitive. However, RPM falls within the definition of Article 4a of the VABER, as it ‘restricts the ability of the buyer to determine the sale price’. MFN provisions are not caught by this provision and, as a result, cannot be treated the same way even if there are compelling economic arguments to the effect that MFNs can exhibit more harmful effects than RPM. Businesses require and deserve a degree of legal certainty, which would be undermined by characterising MFNs as hardcore restrictions under the existing legislative framework.
The Commission’s findings in its e-commerce sector inquiry confirm that MFNs cannot be classified as hardcore restrictions and therefore require an analysis of effects on a case-by-case basis to determine their legality.
Meanwhile, both the Commission and NCAs continue to examine MFN provisions across different industries.
In its investigation into e-book distribution agreements, the Commission examined clauses in contracts between Amazon and e-book suppliers (publishers) that gave Amazon the right to terms and conditions at least as good as those offered to its competitors. The Commission considered that these clauses could make it more difficult for other e-book platforms to compete with Amazon by reducing publishers’ and competitors’ ability and incentives to develop new and innovative e-books and alternative distribution services. However, the Commission accepted commitments by Amazon that it would, for instance, not enforce relevant clauses requiring publishers to offer Amazon similar non-price and price terms and conditions as those offered to Amazon’s competitors.
At NCA level, the CMA’s market study into digital comparison tools in 2017 found that there were no credible efficiency justifications for wide MFNs that cannot be achieved by less restrictive means. It did, however, take the view that ‘narrow MFNs’ can have pro-competitive benefits that serve to offset any anticompetitive effects, though that would depend on the context. In an investigation into MFN clauses in the online auction sector, the CMA accepted commitments in a case in which the auction platform under investigation allegedly held a dominant position. In another ongoing investigation into MFN clauses in the home insurance sector, which was initiated on the back of its digital comparison tools market study, the CMA is yet to reach a decision.
It remains to be seen whether the anticipated revision of the VABER will result in a legal re-categorisation of MFN clauses. However, even if they were to be categorised as black-listed hardcore restrictions in the next iteration of the VABER, this would not have retroactive effects, meaning that existing contractual arrangements would not be affected, although they would benefit from review under the self-assessment framework.
Geo-blocking and geo-filtering
From the Commission’s perspective, practices known as geo-blocking or geo-filtering constitute material obstacles to achieving its vision of a digital single market. Practices of this nature undermine the ease with which consumers are able to purchase products from another Member State online, rather than crossing the border and buying products in brick-and-mortar shops.
Geo-blocking describes practices by which online retailers refuse to sell to customers residing in other jurisdictions, whether by preventing these customers from accessing the retailers’ websites altogether, by redirecting them to websites in the jurisdiction in which the customer is present, or by refusing to either deliver cross-border or to accept cross-border payments. The Commission’s e-commerce sector inquiry found that the latter two are the most common forms of geo-blocking:
36% of respondent retailers reported that they do not sell cross-border for at least one of the relevant product categories in which they are active. 38% of retailers collect information on the location of the customer in order to implement geo-blocking measures.
Geo-filtering, on the other hand, comprises practices by which online retailers will permit customers to access goods and services cross-border, but will offer different terms or conditions when the customer is in a different Member State. One quarter of respondents to the Commission’s e-commerce sector inquiry indicated that they charged different prices at least for some products, mostly in clothing and shoes (31 per cent).
Unlike the online vertical restrictions summarised above, these practices are generally more difficult to address by virtue of the competition-enforcement tools the Commission has at its disposal. Both geo-blocking and geo-filtering are unilateral practices that generally do not involve an agreement between undertakings, meaning that they are not caught by Article 101 TFEU. Similarly, it would be difficult to characterise them as an abuse of a dominant position, even if these practices are adopted by companies that are found to be dominant.
Following a lengthy consultation period, a different avenue was therefore pursued to combat geo-blocking practices: the Council of the European Union (the Council) adopted Regulation (EU) 2018/302 against geo-blocking (the Geo-Blocking Regulation (GBR)). The GBR came into force on 22 March 2018 in all EU Member States and has applied since 3 December 2018. A key part of the digital single market strategy, the GBR is intended to address unjustified online sales discrimination based on customers’ nationality, place of residence or place of establishment within the internal market.
As became apparent from the Commission’s consultation process, an area of uncertainty relates to the circumstances in which geo-blocking or geo-filtering may be economically justified and therefore not harmful to consumer welfare. Price discrimination may, in fact, have pro-competitive effects. However, the Commission’s political imperative to pursue the (digital) single market is known to, on occasion, override competition economics.
As a matter of principle, the GBR is designed to provide customers throughout the single market with equal access to goods and services covered by the scope of the GBR. As such, traders will face greater challenges if they discriminate between customers with regard to general terms and conditions when they concern: goods that are either delivered in a Member State to which the trader offers delivery or are collected at a location agreed with the customer; electronically supplied services such as cloud, data warehousing and website hosting; and services that are received by the customer in the country where the trader operates.
With regard to website access, the GBR prevents traders from blocking or limiting customers’ access to their online interface for reasons of nationality or place of residence. A clear explanation will have to be provided if a trader blocks or limits access, or redirects customers to a different version of the online interface.
The scope of the GBR may be expanded in future. It is envisaged that, within two years, the Commission will undertake an evaluation of the GBR’s effect on the internal market. This evaluation may include a broadening of the GBR’s relatively limited scope of application such that, in the future, it might also cover certain electronically supplied services that offer copyrighted content such as downloadable music, e-books, software and online games, as well as services in the transport and audiovisual sectors.
Pending review by the Commission, the GBR will not cover services linked to copyright-protected content or works in an intangible form, nor will it cover services such as financial, audio-visual, transport, healthcare and social services. In addition, price differentiation will not be prohibited and, as a consequence, traders will be permitted to offer different general conditions, including prices, and to target certain groups of customers in specific territories.
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