The Court of Appeal has recently upheld the highest penalty imposed in New Zealand to date for a breach of the Commerce Act 1986 (Telecom Corporation of New Zealand Ltd v Commerce Commission [2012] NZCA 344). In the High Court, Rodney Hansen J had ordered Telecom to pay a penalty of $12 million for contravention of s 36 of the Act. The Court of Appeal held that this penalty was "by no means excessive given the extent of the breach". Although the Court's emphasis on deterrence as the primary consideration in imposing a penalty is well accepted, the Court's effective marginalisation of commercial gain as a particular matter to which the courts must have regard appears at odds with the intention of the Act.

The decision confirms a trend evident in penalty judgments for some time. That is, the Commission, defendants, and courts usually proceed on the basis that the commercial gain from the conduct in question cannot be readily ascertained so that decisions about penalty are guided by more subjective considerations. While those considerations are nevertheless relevant matters, the Court's approach appears to read down the statutory direction that the Court "must have regard to all relevant matters, in particular ... the nature and extent of any commercial gain" in a manner inconsistent with the words of the Act. It also leaves observers of such cases struggling to identify the objective factors that justify one penalty figure rather than another.

The High Court's liability judgment

The proceedings related to the ability of rival telecommunications service providers (TSPs) to connect to potential customers through Telecom's network. The connection between the customer's premises and the TSP's own network is what is known as a "data tail".

In a judgment dated 9 October 2009, the High Court held that Telecom had breached s 36 of the Act by using its dominant position/market power in wholesale and retail markets for data transmission for the purpose of deterring potential or existing competitors (Commerce Commission v Telecom HC Auckland CIV-2004-404-1333, 9 October 2009 ("liability judgment")). The Commission had claimed, and the Court agreed, that some of the wholesale prices charged by Telecom for access to its network (or the data tails) were so high, in relation to retail prices, as to cause a "price squeeze", i.e., Telecom's prices in the upstream wholesale market prevented competitors from profitably operating in the downstream retail market. The Court held that aspects of Telecom's pricing breached the Efficient Component Pricing Rule (ECPR) endorsed by the Privy Council in Telecom Corporation of New Zealand Ltd v Clear Communications Ltd [1995] 1 NZLR 385 (PC) as the appropriate pricing model.

The High Court penalty judgment

In a separate judgment dated 19 April 2011, Rodney Hansen J dealt with penalties ("penalty judgment"). The Commission sought a penalty pursuant to s 80(1) of the Act which provides for the imposition of such pecuniary penalty "as the Court determines to be appropriate". The Court's discretion to impose a penalty is subject to the provisions of s 80(2A) and (2B). Section 80(2A) provides that in determining an appropriate penalty, "the Court must have regard to all relevant matters, in particular: (a) any exemplary damages awarded; and (b) in the case of a body corporate, the nature and extent of any commercial gain." Section 80(2B) specifies the maximum amount of the pecuniary penalty for each act or omission.

Rodney Hansen J held that Telecom's gain could not be "readily ascertained" (in terms of s 80(2B)). Accordingly, the maximum penalty was the greater of either $10 million or 10% of Telecom's turnover, which amounted to $279.2 million. Rodney Hansen J referred to the breach as a result of a "deliberate strategy, apparently sanctioned at the highest levels of Telecom, to price data tails at a level that would preclude price competition between Telecom and other TSPs" but acknowledged that "for the most part", Telecom's regime was ECPR-compliant and the violations affected only a small proportion of its data transmission business." The Court then held that after weighing all relevant matters, a penalty of $12 million was warranted.

Telecom appealed the penalty judgment on the grounds that the High Court failed to provide any rational connection between the $12 million penalty imposed and the objects of general and specific deterrence, which should be informed by commercial gain, or at least some analysis of the size of the affected market and thus the impact on competition in the market. (Telecom separately appealed the liability judgment and that appeal was denied, and a cross-appeal by the Commission allowed).

The Court of Appeal decision upholding the pecuniary penalty

The Court of Appeal noted that many of Telecom's arguments on appeal were based on the proposition that penalties should be related to commercial gain. The Court noted that this was an important consideration, but was not the sole or even primary consideration. The primary consideration is deterrence and penalties had to be set at a level that would achieve both specific and general deterrence. In other words (at [72(a)]):

The need to set the penalty at a realistic level to deter Telecom from engaging in similar conduct in the future, and also to achieve general deterrence by sending a strong signal to the business community that such conduct by dominant firms will result in heavy penalties.

The Court of Appeal quickly dismissed Telecom's argument that the High Court erred in holding that its pricing had significant exclusionary effects on competition and that it obtained significant (albeit unquantifiable) commercial gain from its pricing. Orthodox economic theory predicts that the presence of competition in a market will drive down retail prices so that any excess profits or cost inefficiencies will be eliminated over time. Because Telecom had created a price squeeze, this had an assumed effect both on price competition and upon competitive dynamics in the market, with a corresponding reduction in efficiency incentives.

Telecom submitted that the High Court erred in concluding that the goal of specific deterrence requires that a penalty take into account the size and resources of the contravening firm. However, the Court of Appeal held that it was correct that the penalty "should reflect the size and financial circumstances of Telecom and its position of influence and importance in the telecommunications industry." The Court referred to Carter Holt Harvey Building Products Group Ltd v Commerce Commission (2001) 10 TCLR 247 (CA) where it said

It is commonly accepted that it requires higher monetary penalties to constitute deterrence to affluent parties than to "indigent" ones.

Telecom also argued that the High Court erred in failing to acknowledge the importance of proportionality in relation to other penalties imposed under s 80. The Court of Appeal acknowledged that penalties in analogous cases may provide guidance to the Court to ensure that there is parity of treatment in similar circumstances. However, each case will have differing circumstances in terms of conduct, size, market power and responsibility for the contraventions. Those facts complicate any attempt to compare penalties imposed in one case with those in another. The Court stated that the fact that the $12 million penalty imposed by the High Court is the highest penalty imposed in New Zealand to date for a breach of the Act is not, of itself, an indication that the penalty is excessive.

Telecom further argued the High Court erred in giving weight to two Australian penalty judgments. Although the Court of Appeal noted that caution is required in referring to Australian authority, it was open to the Court to consider relevant Australian precedents given the similarity between the wording of s 80 of the Commerce Act and s 76 of the Trade Practices Act (now s 76 of the Competition and Consumer Act 2010 (Cth)).

What guidance does this offer?

Where there is a finding of breach of the Act, the Courts will consider penalty with a mind to deterring not only the party involved from engaging in similar conduct, but also deterring others in the business community. This appears to be the primary motivator for the Court in the Telecom case and is the accepted goal of penalties. The level of penalty will also be influenced by matters including the severity of the contravention, the deliberateness of the conduct, the duration of the conduct, the nature and extent of the commercial gain from the conduct, the size and influence of the party in the industry, and the seniority of the employees or officers involved in the contravention. These are all matters that the courts have previously considered in determining penalties under the Act (see, e.g., Commerce Commission v Qantas Airways Ltd HC Auckland CIV-2008-404-8366, 11 May 2011) and are rightly relevant matters to be considered by the Courts. However, the Court of Appeal's judgment appears to miss the opportunity to emphasis the role of commercial gain as a particular matter to which the Courts must have regard and to require parties to put before the Court evidence that could be used to provide (to use Telecom's term) a "rational connection" between penalties and objects of deterrence.

First Published in NZ Lawyer 21 September 2012.