The long-awaited draft guidelines, which are required prior to the substantive implementation of the Competition Ordinance (Cap. 619) (Ordinance), were released for public comment on 9 October 2014. This article outlines the draft guidelines and briefly looks at issues of specific concern to the construction industry in Hong Kong.
The Commission has released six draft guidelines:
- First Conduct Rule
- Second Conduct Rule
- Merger Rule
- Investigations, and
- Applications for a Decision under Sections 9 and 24 (Exclusions and Exemptions) and Section 15 Block Exemption Orders.
The first three relate to substantive rules, whilst the latter three relate to procedural and enforcement rules. In drafting these guidelines, the Commission aims to clarify the policies underlying the Ordinance with a view to assisting businesses operating in Hong Kong to familiarise themselves with the Ordinance. When finalised, the guidelines will reflect the Commission's interpretation of the Ordinance and provide guidance on how the Commission will undertake its functions under the Ordinance.
First Conduct Rule (FCR)
While it has been clear for some time that the FCR would apply to horizontal agreements (agreements between competing undertakings), the guidelines have clarified that the rule captures both horizontal and vertical arrangements (whether they are agreements or concerted practices between undertakings) which have the object or effect of preventing, restricting or distorting competition, unless there is a compelling efficiency justification (such as, for example, joint ventures).
In practice, most vertical arrangements between undertakings which operate across the supply chain would not likely have an objectof harming competition, therefore the Commission would consider the actual or likely effect upon competition (although cases of resale price management agreements would generally be considered to have the object of harming competition). The Commission will permit the setting of recommended or maximum resale prices, provided it does not result in anti-competitive effects. It is therefore imperative to ensure that such practices are not in fact price monitoring systems or that they act as fixed or minimum prices — which would be treated as resale price management.
In Hong Kong, cartel conduct in the construction industry had already received judicial attention even prior to the enactment of the Competition Ordinance. A 2010 case concerned cartel conduct by a group of suppliers of stainless steel gates. The suppliers, who were the only contractors approved by the Hong Kong Housing Authority to supply gates for their housing projects, colluded on the minimum tender prices to be submitted to the main contractors of the Authority. When a main contractor invited tenders from some or all of the suppliers, the group would designate one supplier who would put in a tender at the agreed minimum tender price. If the other suppliers tendered, they only did so at a higher price with the view to enhancing the chances of the designated supplier in obtaining the contract. Although the Court was unable to take action as the Ordinance was not enacted at the time, it was nevertheless critical of such conduct. There is no doubt that such conduct would lead to sanctions by the Court under the FCR after the Ordinance comes into full force.
The FCR also applies to 'decisions' made by an association of undertakings (such as a trade association or professional body). An undertaking would breach the FCR if it made or gave effect to a decision of an association which had the object or effect of harming competition in Hong Kong.
Generally speaking, the Commission would consider a decision of an association to fall within the FCR even if it was not binding on its members and even if the members did not comply with the decision. Where an association had made a non-binding recommendation to its members, the Commission would consider whether it was in effect a decision under the FCR by determining whether the recommendation amounted to an objective intention to coordinate the conduct of members of the association. Examples of non-binding decisions of a trade association would include non-binding fee scales, reference sales and/or purchasing prices of trade.
However, agreements or concerted practices between undertakings (including undertakings acting under decisions or non-binding recommendations of an association) would be exempt from the scope of the FCR if the combined turnover of the undertakings does not exceed HK$200 million.
In Australia, participants in a cartel met regularly over coffee to discuss and agree on who would submit or win particular tenders were fined more than HK$100 million, underscoring the principles that anti-competitive agreements between undertakings do not need to be in writing and can occur in informal settings. Caution must be exercised at social events and informal gatherings where competitors and members belonging to the same trade association or professional body may be present as these can create high risk environments for cartel conduct and may lead to enforcement action by the Commission under the FCR.
Agreements which enhances overall economic efficiency would be exempt from the FCR, though the exemption would act as a defence, with the onus of proof on the undertaking to demonstrate such efficiency. The FCR does not apply to conduct which involves two or more entities if they are part of the same undertaking.
Second Conduct Rule (SCR)
The SCR applies where an undertaking with a substantial degree of market power, abuses its market power by engaging in conduct which has the object or effect of preventing, restricting, or distorting competition in Hong Kong. The draft guidelines, in line with international best practice and consistent with the Ordinance, confirm that market definition will be determined by reference to factors such as product and geographic market boundaries. Depending on the specific facts of the conduct in question, markets may be global, regional or limited to or smaller than Hong Kong.
The definition of substantial market power does not specify a threshold for ascertaining whether substantial market power will be presumed (or not). Rather, the Commission proposes to adopt an internationally recognised test which looks to an undertaking's ability to act with minimal regard to competitive constraints. Market share is a relevant but not conclusive factor. Other factors include ease of entry and expansion, as well as buyer power, all of which have the capacity to prevent a firm from having substantial market power even if it has a high market share. Participants in the construction industry in a strong market position must exercise caution in engaging in conduct which may breach the SCR, including exclusionary conduct such as a refusal to supply.
The SCR guidelines also set out various non-exhaustive types of conduct which may be considered by the Commission to be an abuse of a substantial degree of market power, such as predatory pricing, refusals to deal and exclusive dealing. In particular, the Commission noted that where an undertaking with substantial market power abuses its power through an arrangement, such as a vertical restraint, it is possible for that conduct to contravene both the FCR and SCR, depending on the facts of the case. A hypothetical example provided under the guidelines illustrates that where a glass manufacturer who supplies glass for windows to construction companies in Hong Kong offers discounts for reaching certain volume targets, and assuming the glass manufacturer has substantial market power, it would be unlikely to be viewed by the Commission as having an object or effect of restricting competition since such a discount would be less likely to have the effect of foreclosing other competitors when compared to individualised or retroactive rebates. Furthermore, the fact that such a discount is linked solely to the volume of the purchases and based on cost savings to the manufacturer would unlikely raise concerns under the SCR.
Finally, all undertakings with turnover under HK$40 million (or HK$200 million in aggregate if more than one undertaking was concerned, including associations) are exempt from the scope of the SCR. It is anticipated that further guidance would be provided by the Commission to clarify how turnover would be calculated.
Complaints and Investigations
The draft guidelines on complaints are largely procedural and describe the manner and form in which complaints may be made. A key aspect of the complaints process is to encourage complainants to come forward on possible contraventions of the Ordinance, underlined by the lack of specific formal requirements before a complaint is to be considered by the Commission.
Nevertheless, the draft guidelines make it clear that the Commission will maintain its own discretion in pursuing violations of the Ordinance, with a view to prioritising its investigations into matters which affect the public interest and not only the interest of the complainant. This may alleviate certain concerns that a complaint driven system may lead to frivolous or abusive investigations.
Apply for a decision or an exemption?
The Ordinance contains a number of exclusions and exemptions that have the effect of providing immunities to undertakings for conduct which would otherwise contravene the FCR and/or the SCR. Unlike competition regimes in other jurisdictions, there is no requirement for undertakings to apply for a Commission decision or block exemption order in order to take advantage of these exclusions and exemptions.
Therefore, the Commission will only exercise its powers, particular its block exemption powers, in limited circumstances. The Commission, once the Ordinance has substantively come into force, will be empowered to consider and determine whether specific agreements or conduct would be excluded or exempt from the FCR or the SCR by way of a decision, or issue block exemption orders which would exempt specific categories of agreements which enhance overall economic efficiency.
Compliance is critical!
Aligned with international practice and standards, the release of the draft guidelines is a welcomed step towards the eventual full implementation of the Competition Ordinance and provides detailed guidance on how the Commission intends to interpret and enforce the Ordinance once it comes into full force, anticipated to be in late 2015.
The Commission in all likelihood will subsequently release detailed SME focused materials, such as guidelines on its enforcement priorities and leniency policy, the calculation of turnover, and the application of the competition rules.
For construction companies in Hong Kong, adequate and effective compliance systems are important to protect the business and its staff from potential breaches of the Ordinance. In particular, staff in high risk areas (such as those involved in tendering and procurement, pricing, contracting and participation in industry associations) would benefit from tailored training with a view to ensuring that the practical application and effect of the Ordinance are properly understood.