It is not uncommon for product manufacturers and distributors in China to reach agreements with distributors, wholesalers and retailers to maintain control over product resale prices. This practice, commonly referred to as resale price maintenance (RPM), involves setting a floor or ceiling price on manufactured products which, among other things, has the effect of maintaining a certain level profitability for the manufacturer and/or the reseller.
Over the past year, some of the largest companies doing business in China have faced administrative scrutiny and civil liability for engaging in RPM practices. While administrative enforcement actions by the National Development and Reform Commission (NDRC), the main regulator for price-related antitrust matters in China, has generally taken a strict liability approach, market participants have been uncertain whether Chinese courts would view RPM practices as illegal per se or if the courts would apply a more factor-based "rule of reason" approach.
The cause for this uncertainty primarily lies with China’s anti-monopoly law (AML), which expressly provides that "horizontal agreements"—agreements between players at the same level of the supply chain—are per se illegal, but does not address whether agreements between players at different levels of the supply chain (i.e., vertical agreements, including RPM agreements) are also per se illegal.
Johnson & Johnson v. Rainbow
Guidance on this question came on August 1, 2013, when the Shanghai High Court applied a "rule of reason" approach in a landmark vertical price control case between Rainbow Medical Equipment & Supplies Co. Ltd and Johnson & Johnson (the J&J case). In this case, Rainbow alleged that Johnson & Johnson violated the AML by including minimum resale price provisions in its distribution agreement with Rainbow. In analyzing the case, the court placed the initial burden of proof on Rainbow to present prima facie evidence showing that the RPM practices created an unreasonable restraint on trade and/or competition. Rainbow satisfied this initial hurdle by showing that the RPM agreement at issue had the effect of excluding or restraining competition. After hearing arguments from both sides, the Shanghai High Court overturned a lower court judgment and held that the RPM practices imposed by Johnson & Johnson were in violation of the AML.
The key factors considered by the Shanghai High Court included:
- The level of competition in the marketplace
- The relative negotiating power of the parties
- The strength of the brand
- The defendant’s market share
- The motivation of the defendant in setting the price controls
- Any positive effect that the RPM arrangement may have had on competition
Rainbow was awarded damages of RMB530,000, an amount that is significantly less than the RMB14 million claimed by Rainbow. The court determined damages based on the market profits that would have been made if the RPM agreement were not in place (rather than the profits that would have been earned under the RPM arrangement). Consequential damages were not awarded.
The approach to RPM cases taken by the Shanghai High Court may serve as an influential example to courts in other jurisdictions within China. However, given that court decisions are not binding in China, full clarity on this issue may not come until the Supreme Court issues binding judicial interpretations or an amendment of the AML that specifically addresses this point.
With respect to administrative enforcement actions, there is currently no guidance on whether the decision in the J&J case will have any impact on how the NDRC investigates or enforces allegedly anticompetitive pricing arrangements. Given the current differences between the judicial and administrative approaches to RPM cases, it is entirely possible that a company could prevail in a civil suit involving an alleged violation of the AML and still be subject to NDRC enforcement for the same matter. For this reason, companies that engage in vertical price maintenance agreements are well advised to seek legal counsel to review local distribution contracts, business policies and internal rules with the aim of reducing the likelihood of civil or administrative liability.