On April 27, 2016, Invibio—a supplier of polyetheretherketone (“PEEK”) used in medical implants—agreed to settle charges asserted by the Federal Trade Commission (“FTC”) that its exclusive supply contracts with medical device manufacturers, including some of the world’s largest, violated Section 5 of the Federal Trade Commission Act, 15 U.S.C. § 45. This consent decree may signal a renewed interest at the agency to scrutinize exclusive contract arrangements. The decree also serves as a reminder that, while exclusive contracts are not per se unlawful, companies that have market power and use exclusive contracts face risks under the antitrust and consumer protection laws.
According to the FTC’s complaint, around 1999, Invibio began to market, as then the only supplier, medical implant-grade PEEK. Invibio required its customer manufacturers to enter into long-term exclusive supply contracts. By 2013, two other PEEK suppliers had received regulatory approval and were selling implant-grade PEEK in competition with Invibio, but at prices significantly below Invibio’s. In response, Invibio expanded the scope and use of its exclusive contracts or offered financial discounts in exchange for continued exclusivity, and otherwise threatened to withhold PEEK from customers who resisted. The FTC alleged that manufacturers were forced to comply, enabling Invibio to use its exclusive contracts to maintain monopoly power, extract supracompetitive prices, and stifle competition in the worldwide market for implant-grade PEEK used in at least one device cleared by FDA.
Invibio agreed to an FTC consent decree that, among other restrictions: (a) prohibits Invibio from entering exclusive supply contracts and preventing current customers from seeking alternative sources of PEEK; (b) allows certain Invibio customers to modify existing contracts to void exclusivity requirements; (c) bars Invibio from using pricing policies in new contracts to effectively create exclusive deals; and (d) requires Invibio to establish an antitrust compliance program.
It is common for companies to engage in exclusive supply contracts, especially if they are entering new markets and need to establish stable and dedicated supply chains. In an exclusive supply agreement, a seller typically prevents a buyer from buying certain goods or services from the seller’s rivals for a limited time period. The arrangement can take many forms, such as requirement contracts, where buyers must purchase all or most of a given set of goods and services from a seller; a pricing policy, where buyers are financially incentivized to not contract with a sellers’ rivals; or an agreement outright preventing buyers from purchasing from a seller’s rivals. Although less common, the arrangement can also flow upstream, i.e., a buyer imposing an exclusive restriction on a supplier.
Exclusive agreements, however, can run afoul of the federal antitrust laws. While there are a number of federal statutes that can be implicated, the most common is a violation of Clayton Act Section 3, where the arrangement substantially lessens competition or tends to create a monopoly. However, Section 3 only applies to the sale of actual goods or commodities, and does not apply to service contracts, consignments, sales of intangibles, etc. Alternatively, the FTC may challenge the arrangement under Section 5 of the FTC Act, as was done against Invibio, contending the arrangement is an unfair or deceptive commercial act.
Either way, courts and the FTC do not treat exclusive deals as per se unlawful. Rather, they apply a modified rule of reason analysis, examining the procompetitive and anticompetitive effects of the arrangement. They also look at the extent of foreclosure of the market, with a focus on the ability of the supplier to raise rivals’ costs. This analysis may also include assessing the ability of the buyer to reach the market, the duration of the agreement, the level of the distribution chain where the restraint is imposed (e.g., wholesale v. retail), the extent to which others in the market impose such restrictions, and other considerations.
In other words, although a company with market power is not forbidden from entering into exclusive contracts, it can be subject to claims of unlawful conduct if it also engages in other exclusionary conduct. For example, as alleged in the FTC’s complaint, Invibio possessed monopoly power by the time new market entrants were able to supply PEEK. But it used its power and contracts to lock up the largest and most sophisticated customers, thereby neutering the prospect and benefits of competition from new market entrants. It entered into additional exclusive agreements, inserted more exclusive terms into agreements, limited exclusivity exceptions, and restricted other contract terms to prevent customers from switching to competing suppliers. It also threatened to withhold PEEK supply or regulatory support to maintain exclusivity. In short, the FTC deemed the combined effect of Invibio’s conduct to be an abuse of its market power.
This case serves as a reminder that exclusive contracts can be an important tool in a business’s market strategy, but they should be executed with care. Start-ups with market power that use exclusive contracts, especially as a means to enter new markets, should not assume, as Invibio apparently did, that once they establish a strong foothold they can continue the exclusive contracting scheme indefinitely. Eventually, as other companies enter the market, actions taken to solidify market power through exclusive contracts may come under a microscope. And, once examined, there is a greater risk that the contracts will be found unlawful, especially if done in consort with other exclusionary conduct to maintain market power.