Wragge & Co's comments on the Commission's consultation on the draft vertical restraints block exemption and draft guidelines on supply and distribution agreements.
1 The 'safe harbour' threshold of 30%
1.1 The amendment to the so-called 'safe harbour' threshold to include both the supplier's and the buyer's respective shares of 'any relevant market affected by the agreement' is a radical change to the existing VRBE. Wragge & Co, while recognising the Commission's desire to check inappropriate buyer power, considers that the Commission may meet that policy goal by other means that are less disruptive to the generality of inoffensive arrangements, for the following reasons.
1.2 The imposition of the buyer's 30% threshold on all agreements for availability of block exemption will place a substantial burden on the supplier to assess the market share of its customer and arguably downstream players to that customer insofar as they may engage 'any relevant market' affected by the agreement. The existing reference to the supplier's market share alone, save for exclusive supply contracts covering the whole of the EU, has operated well for the duration of the VRBE. The inclusion of the buyer's market share into this safe harbour appears to be a burdensome, possibly superfluous, complication to an existing robust and pragmatic test. The Commission also appears to be adopting this position based on very scant justification, which will far outweigh the disadvantage to the vast generality of standard distribution arrangements.
1.3 The calculation of market share is never a simple calculation in itself – let alone the relevant market(s). In the context of a distribution arrangement, it will result in a supplier wishing to benefit from block exemption having to consider its customers' presence in every geographical and product/service market where it has distribution arrangements in place. This is, of course, subject to the supplier being able to access this data which a customer may understandably be reticent to release for reasons of commercial sensitivity and compliance.
1.4 This potential exchange of commercially sensitive information, necessitated by this change in the safe harbour in order to provide suppliers and buyers with requisite legal certainty, will undermine efforts to prevent the anti-competitive practice of exchanging such information. This is particularly so where both parties may be competitors in other markets. Cumbersome, costly and time consuming arrangements may have to be put in place to mitigate any compliance risk.
1.5 As there is no transitional period in place, the imposition of this requirement will instantly remove many competitive agreements from the safe harbour exemption. These standing agreements will generally represent non-offending, working and established trading relations which will instantly lose the benefit of block exemption.
1.6 The impact of this requirement will be out of all proportion to any possible harm that the Commission may be trying to check arising from undue market power on the buyer's side in distribution arrangements. In such circumstances, it should develop a decisional practice in relation to the withdrawal provision of the VRBE and issue guidelines as to when and in what circumstances it and other relevant competition authorities will intervene.
2 Mixed distribution agreements
2.1 As it stands, the VRBE makes it very difficult for large suppliers to move from an open distribution system to one which allows for some exclusivity in some areas, even where competition is enhanced.
2.2 An example of this would be a move into a new territory: while an exclusive distribution agreement may prove to be the most effective way to maximise sales, a supplier would be unable to implement such an agreement without first having renegotiated all the other contracts within its established distribution system to include the new restriction. If this did not happen, the agreement would be seen as creating hardcore restrictions.
2.3 In practice, this could be an established supplier operating a selective distribution system for goods across each country of the EU, with the exception of Greece. While a Cypriot distributor may have made a small number of active sales into Greece, there had otherwise been no other sales. An exclusive distribution agreement would therefore be the most effective way to maximising sales in Greece with a Greek distributor. Under the current rules, the supplier would need to renegotiate every contract within the distribution system in order to incorporate this restriction; should any distributor be left out, it would result in the restriction being classified as hardcore. The restriction would need to be applied to agreements with distributors even where the distributor had no intention of operating in Greece. The result is that the supplier must balance whether the potential maximised profits from an exclusive agreement in Greece with enduring the long and potentially expensive bureaucratic exercise in updating each contract with each distributor. This cannot therefore represent a facilitation of trade when it actively hampers suppliers' efforts to maximise sales in new territories.
2.4 At present, suppliers must 'reserve' territories in order to distribute their goods as they wish. This cannot be considered to facilitate commerce and, as the example demonstrates, is an approach entirely unsuited when considering established distribution systems.
2.5 In addition, the limited provisions for restrictions on active sales mean that suppliers are forced to consider far more restrictive agreements (such as exclusivity agreements) rather than narrower restrictions which could provide the efficiencies recognised as benefits of active sales restraints without having to annex a entire part of the distribution system to one distributor alone. These efficiencies include investment in staff, facilities and training.
2.6 As the Commission has recognised in other areas (such as permitting bans on passive sales, resale price maintenance) that some restrictions are in fact beneficial to overall competitiveness, particularly where a new brand or territory is being opened up, the Commission should also consider extending the same recognition to mixed distribution agreements with the same objective in order to facilitate competition in the long-term and help establish distributors.
3 Selective distribution and unauthorised distributors
3.1 Our comments above also pertain with respect to the inclusion in the draft VRBE as a hardcore restraint where selective distributors are not permitted to sell to unauthorised distributors in territories where the selective distribution system does not operate.
3.2 In allowing sales to unauthorised distributors, the entire purpose of operating a selective distribution system is undermined. Absent a comprehensive (and expensive) selective distribution system, the supplier will be compromised to the extent that it is able to ensure that its goods are distributed in a manner appropriate to the product and its brand.
4 Article 5: the non-compete of five years
4.1 We are surprised that the Commission has chosen not to amend the five-year time limit on non-compete clauses to the current VRBE (Clause 5 (a)). It is our experience that this clause operates as a 'strait jacket' and it erroneously has led to many distribution arrangements being concluded for five years when a longer or shorter period may be more appropriate in the context of the relevant market and the commercial drivers of the transaction in question. This is contrary to the 'effects based' approach that the Commission espouses. The Commission may find a more reasonable response to be that each non-compete clause is considered on its own merits. As noted above, at para 1.6, the Commission should consider the use of the withdrawal mechanism and the development of guidelines to enable self-assessment, rather than the 'one size fits all approach' which leads to a uniformity of contractual terms, irrespective of commercial/market merits.
5 The permitted ban on passive sales
5.1 The two-year restriction on passive sales by distributors in other territories or to other customer groups where a new brand is being marketed or a new market is being developed, as described at para 56 of the DGL, is a welcome addition.
5.2 However, the Commission may wish to consider enshrining this exception within the VRBE legislation, rather than only in the guidelines, so that it has legal certainty.
6 Active sales and the Internet: definition of 'active sales'
6.1 It is unclear from the DGL exactly what constitutes an active sale in the context of Internet sales.
6.2 For those subject to exclusive distribution agreements, this omission may encourage litigation where Internet sales within their territory or customer groups are disputed.
6.3 The current wording does not fully acknowledge the developments in technology over the past ten years and as a result, the definition does not accurately reflect current market realities.
7 The Internet – the general principle
7.1 The Commission's departure from the simplicity of the current guidelines which established the general principle that every distributor should be free to sell on the Internet is to be regretted. The number of departures from that principle, while a laudable attempt to clarify, risks an emergence of practices that are more to do with avoiding the application of a simple principle, than responding to consumer demand and market dynamics. The Commission's current approach also risks unnecessary litigation. The pace of change of technology and consumer demand is such that one cannot help but question if these loopholes to the general principle will stand the test of time for the next ten years.
7.2 The description provided for 'general advertising and promotion' as passive sales present a similarly confused conclusion. The Commission has neglected the fundamental notion that passive sales are sales which do not arise from directly targeting consumers: yet making allowances for promotion in order for sellers to reach other territories is contradictory to this policy. This new approach creates a great discrepancy in the standard approach to active and passive sales and consequently creates uncertainty and confusion and should be removed.
8 Efficiency defence and the Internet
8.1 The lack of guidance on what the 'efficiency defence' may comprise will be a hindrance to distributors. This failure to extrapolate on this defence is particularly frustrating where the guidance surrounding other sales mechanisms (e.g. resale price maintenance; category management; etc) is relatively thorough by comparison.
9 Resale price maintenance (RPM)
9.1 The recognition that RPM may have a positive impact is welcomed, as is the assertion that the use of a single supportive measure would not be considered in itself a RPM.
9.2 RPM is also an effective method of checking the power of large buyers/powerful retailers. The 'efficiency' exceptions to the hardcore restrictions (introduction of a new product, short-term promotion, no "loss-leader") are a great advantage to suppliers. However, the exceptions should be clarified and imbued with greater legal certainty as regards their relationship with Article 81(3).
9.3 It is our most recent experience that suppliers may wish to re-position a brand or product at a lower price, especially in view of difficult market circumstances, so as to maximise sales at a cost of reduced margin. They are inhibited from achieving this by means of RPM as retailers may refuse to acquiesce for fear of being accused of agreeing a hard core restraint – and maximum prices may have the same effect. It would be helpful if the Commission were to recognise RPM as an appropriate mechanism to achieve the laudable goal of re-positioning a product/brand as a lower price end of the spectrum of the range of competing products.
10 Category management agreements
10.1 While it would be naïve to suggest that category management agreements do not provide any scope for the emergence of anti-competitive behaviour, the Commission may wish to consider lightening their opinion of such agreements in order to take account of established and well-founded evidence which supports an alternative position.
10.2 The UK Competition Commission's Groceries Market Investigation in 2008 stated that no adverse anti-competitive effects were found in relation to category management agreements. While the report was tempered with findings which may better reflect the Commission's stand-point (e.g. that category management facilitated regular meetings and interactions between suppliers that would not otherwise occur), it appears rather blind-sighted to disregard evidence which suggests the heavy-handed approach here may not be entirely appropriate.
10.3 The Commission should give regard to how these practices are not only prevalent but demonstrably beneficial to the market. While the Commission has expressed concerns in the draft guidelines, full consideration has not been given to the operation of category management agreements. In order to prevent market abuses which could emerge, practices have evolved, such as the introduction of "Chinese Walls", to prevent any inference of anti-competitive behaviour and instead facilitate competition.
10.4 Again, the Commission has attempted to affix blanket guidance to a diverse market and in this context, has neglected evidence from Member States which would otherwise undermine its position. The guidelines may even benefit from including the experiences of Member States utilising category management agreements as another dimension to increasing competition overall, rather than only focusing on possible negative consequences.
11 Closing remarks
11.1 The VRBE has proved a very useful tool in facilitating trade and legal certainty since its first implementation. As the markets have developed, it is only correct that the VRBE and its guidelines should evolve to reflect these changes.
11.2 The amended Regulations and guidelines do represent some positive changes which will serve to benefit suppliers and buyers trading within the EU. However, there are examples in this response which indicate that before these changes are implemented, the underlying harm that these changes are seeking to address need to be examined and appropriate guidance be issued, rather prescribe a 'one size fits all approach' be adopted.
11.3 The Commission should also be wary of making sweeping changes which will disrupt what appears to be a well-functioning mechanism (bar the five-year non-compete). The Commission should also be minded of the problems which may arise from attempting to enforce new blanket provisions on diverse and disparate markets.