The automotive industry faces intense scrutiny from antitrust regulators around the world. In China, the National Development and Reform Commission (NDRC) fined a range of vehicle makers in 2016 for antitrust violations, including FAW-Volkswagen, Audi, Chrysler, Mercedes-Benz, and Nissan. Against this background and in an atmosphere of heightened vigilance, the Draft Antitrust Guidelines for the Automotive Industry (the Draft Guidelines) released by the NDRC last year have received significant attention from stakeholders both within the automotive industry itself, and beyond. In this e-bulletin, we examine the Draft Guidelines, their impact on the automotive industry, and any potential implications they may have on the general application of antitrust law in China.
The Draft Guidelines illustrate the increased scrutiny by regulators of the automotive industry, which is echoed by the recent introduction of the "Automobile Sales Management Measures" (the Auto Sales Rules) by the Ministry of Commerce (MOFCOM) last month. The Auto Sales Rules, which will take effect on 1 July 2017, contain various provisions aimed at regulating antitrust breaches by automotive suppliers and distributors. For example, Article 24 of the Auto Sales Rules contains various restrictions against bundling of sales and after-sales services, restricting resales between distributors, and restricting dealers from supplying parts or other after-sales services to other suppliers.
Both the Draft Guidelines and the Auto Sales Rules are aimed at improving competition in the automotive sector and hence provide useful guidance as to how regulators will deal with the industry. However, as we discuss below, until cross-sector guidance (or indeed specific guidance for other sectors) is released, the application of the Draft Guidelines may spill over to other industries. We set out below an overview of the Draft Guidelines, and discuss key takeaways and potential wider applications.
The Draft Guidelines
The Draft Guidelines were issued for public comment on 23 March 2016. In recognition of the "importance of the automotive industry" (and in line with the NDRC's current enforcement agenda, where the automotive industry is one of the targeted industries), the Draft Guidelines are designed to "prevent and prohibit anti-competitive conduct in relation to the automotive sector", and are expected to be finalised this year (2017).
The Draft Guidelines are sector-specific in that they are stated to apply only to the automotive industry. However, for the reasons set out below, it is possible that they will have a wider application.
Vertical agreements: Relevant provisions under the AML
Article 14 of the AML prohibits business operators at different levels of the supply chain from reaching any restrictive agreements with their trading parties, including, amongst others, resale price maintenance and any other monopolistic agreements as determined by the Anti-monopoly Law Enforcement Agency under the State Council.
The Article 15 Exemption
Notwithstanding the above, agreements that are prohibited under Article 14 of the AML may be rendered permissible through Article 15 if (amongst other things) they: (i) improve operational efficiency; (ii) increase the competitiveness of SMEs; (iii) advance public interests; (iv) mitigate the impact of economic recessions; or (v) safeguard the justifiable interests in foreign trade and foreign economic cooperation. Until the publication of the Draft Guidelines, there was no guidance on the application of Article 15. Whilst there remains uncertainty as to how PRC regulators will approach and interpret these exemptions the Draft Guidelines nevertheless provide welcome guidance on the issue.
Some of the justifications in Article 15 can be found in other jurisdictions – for example, with some notable exceptions (e.g. those containing resale price maintenance), vertical arrangements in the EU generally attract a lower level of scrutiny on the grounds that they commonly contribute to the improvement of operational efficiency. Indeed, under EU competition law, many vertical arrangements benefit from a "Block Exemption", and the European Commission has published a large body of guidance on this issue. Whilst such overseas guidance and experience may be informative in China, this is by no means certain. Nonetheless, several aspects of the Draft Guidelines resemble the position taken by the European Commission in its guidance, and this has led many to speculate that the application of Article 15 in the PRC could follow a similar approach.
Key takeaways from the Draft Guidelines
1. Resale Price Maintenance (Part 2, paragraph 3(2))
Resale price maintenance (RPM) refers to the situation whereby a supplier specifies a minimum or fixed selling price to which the distributor must adhere when re-selling the goods. RPM is explicitly prohibited in China – see Article 14 of the AML.According to the Draft Guidelines, however, an RPM arrangement may be permissible if it can be shown that the RPM arrangement gives rise to efficiencies. The Draft Guidelines provide several examples of this, including:
- short term RPM for the promotion of "new energy" vehicles;
- government tenders;
- where the distributor merely acts as an "outsourced service provider" (e.g. delivery and invoicing), while the automobile manufacturer has already negotiated the sale with the customer; and
- in relation to e-commerce platforms, where the distributor only acts as a "middle-man", that is, an interface between manufacturer and consumer.
2. Vertical territorial restraints (Part 2, paragraph 3(4))
Vertical territorial restraints refer to a manufacturer imposing a "location clause" on its distributors, restricting the territory into which the distributors can sell the goods.
In China, there has been considerable uncertainty relating to the legal position of territorial restraints. The State Administration for Industry and Commerce Rules on Prohibition of Abuse of Market Dominance prohibit an undertaking with a dominant market position from "imposing unreasonable transaction terms on the other party to the transaction, without justifiable cause", and one of such unreasonable transaction terms is the imposition of "unreasonable restrictions on the geographic area into which the goods may be sold". The scope of "unreasonable restriction" is unclear, and until the publication of the Draft Guidelines, there had been no official guidance on this issue.
The Draft Guidelines provide that territorial restraints imposed by an automotive business operator without significant market power (that is, generally, with less than 25%-30% market share) usually have efficiency benefits and will likely be exempted under Article 15, as long as any applicable territorial restraints are: (i) imposed for "justified reasons"; and (ii) certain conditions are met, including (amongst others):
- distributors are allowed to carry out passive sales (see further below);
- distributors are not restricted from cross-supplying other distributors; and
- distributors are not restricted from selling spare parts required for motor vehicle repair services to end-users.
Notably, in order to be permissible under the Draft Guidelines, any restrictions must relate only to "active" sales and must not relate to "passive" sales. Restrictions on active sales (i.e. actively approaching individual customers by, for instance, (often unsolicited) direct mail or visits, or actively approaching a specific customer group through advertisements or other promotions specifically targeted at that customer group) are permitted, whereas restrictions on passive sales (i.e. merely responding to unsolicited orders from individual customers) are not permitted if the supplier is to rely upon the principles in the Draft Guidelines to justify the territorial restraints.
This bears a certain degree of resemblance to the EU Vertical Agreements Block Exemption Regulation (VABER), which provides a "safe harbour" for any territorial restraints where both the supplier's and the distributor's respective market shares do not exceed 30%. Under the VABER, the safe harbour will apply only where: (i) the restriction relates only to active sales but not passive sales; (ii) the restriction relates only to sales into territories allocated exclusively to another distributor, or reserved exclusively to the supplier itself; and (iii) the restriction does not limit sales by the distributor's customers, who must be free to make sales to anyone in any territories.
However, unlike the Draft Guidelines, VABER has general application and is not sector-specific. In China, some are speculating that if a supplier outside the automotive industry imposes a territorial restraint on its distributor that otherwise satisfies the criteria set out in the Draft Guidelines, the efficiency exemption under Article 15 of the AML should apply in a similar manner. The argument is that such a restraint will bear similar efficiency benefits. However, this broader application is by no means certain, and it remains to be seen how the NDRC will approach such arguments in a context beyond the automotive industry.
3. Market definition
The Draft Guidelines provide guidance on market definition in respect of the automotive industry. While "any definition of the relevant market should be based on the normal substitutability analysis" (Part 1, paragraph 2), at a basic level, the Draft Guidelines acknowledge that automotive distribution can be divided into wholesale and retail, and the after-sales service market can be divided into the after-sales distribution of parts and after-sales service and maintenance.
Potential wider application?
Whilst the Draft Guidelines are ostensibly sector-specific, the above examples may potentially be used to support similar efficiency arguments in a wider context, for example, where a new innovative product is launched. In the EU, for example, it is recognised in the European Commission's Guidelines on Vertical Restraints that "RPM may be helpful during the introductory period of expanding demand to induce distributors to better take into account the manufacturer's interest to promote the product". Similarly in Hong Kong, the relevant Guidelines issued by the Hong Kong Competition Commission refer to similar potential justifications for RPM (see our previous e-bulletin).
It seems plausible that the sector-specific Draft Guidelines could have more far-reaching potential implications, chiefly because the issues addressed by the Draft Guidelines are also faced by many other industries with similar business models. However, it remains to be seen how the NDRC will view such arguments in a wider context. Importantly, the Draft Guidelines also bring, at least within the automotive industry, the PRC position regarding vertical arrangements closer to the approach adopted in other jurisdictions, most notably the EU.
As the name suggests, the Draft Guidelines are still in draft form, but they are expected to be finalised at some point this year. Businesses should pay close attention to this legislative development and take heed of their potentially wide-ranging implications.