On March 31, 2009, Hogan & Hartson submitted written comments on two draft regulations regarding monopolistic agreements and abuse of dominant market positions to the Chinese government. On April 27, 2009, the Anti-Monopoly and Anti-Unfair Competition Enforcement Bureau (CEB) of the State Administration for Industry and Commerce (SAIC) of PRC announced it was seeking public comments on its drafts of the Relevant Provisions on Prohibiting Monopolistic Agreement Acts (the Draft Monopolistic Agreement Provisions) and the Relevant Regulations on Prohibiting the Abuse of Dominant Market Positions (the Draft Dominance Provisions). A briefing of these draft provisions was issued in the edition of China Antitrust Update on April 29, 2009.
Our lawyers have participated in a number of programs and information exchanges related to a variety of specific subjects that are of interest to SAIC, including the Draft Provisions for which SAIC announced it was seeking public comment on April 29, 2009. In particular, on May 8, 2009, CEB invited lawyers from Hogan & Hartson’s Beijing office and other antitrust experts from selected law firms and multinational companies to participate in a closed-door meeting to discuss the Draft Provisions. This edition of China Antitrust Update will brief you on the highlights of the comments that we have submitted to CEB.
Comments Applicable to Both Provisions
The first section of our comments addresses several issues that concern both the Monopolistic Agreement Provisions and the Dominance Provisions (collectively, the Draft Provisions).
Pricing-Related Acts and Non-Pricing-Related Acts
China’s anti-monopoly enforcement authority is split three-ways among the Ministry of Commerce (MOFCOM), SAIC and the National Development and Reform Commission (NDRC). SAIC investigates monopolistic agreements, abuse of dominant market positions, and anti-competitive abuse of administrative power (excluding pricing-related agreements or abuse), while NDRC investigates pricing-related agreements or abuse. However, in practice it may be difficult to establish a clear-cut division between “pricing-related” and “non-pricingrelated” acts so as to avoid overlapping or conflicting regulatory authorities (i.e., SAIC and NDRC).
We recommended that both the Draft Provisions clarify the allocation of power between SAIC and NDRC. These rules should specify whether both SAIC and NDRC will handle these covert monopolistic pricing acts, and if not, how SAIC and NDRC will divide their regulatory power.
Rules for the Method of Setting Fines
Anti-monopoly enforcement authorities generally use a two-step methodology to determine the specific amounts of fines: First, the authority determines a base amount for each violator, and second, it adjusts that base amount upwards or downwards. The base amount is usually a proportion of the turnover of the violator, and the authority often enjoys wide discretion in setting the percentages. We believe that to achieve certainty, the rules on the method of setting fines must be clear and unambiguous, including the rules for the calculation of “turnover,” the determination of the base fine amount, and the adjustments to the base fine amount.
First, we have advised that if a violator is a member of a group, its turnover should be the “aggregate turnover” of the group as a whole. Companies that have direct or indirect controlling relationships with a business operator should be regarded as part of the group. Therefore, we have advised that both Draft Provisions clarify the definition of “control,” and have pointed out two possible approaches. One approach is to learn from countries and regions with advanced competition laws. Many developed competition laws, such as the EC Merger Regulation, include a test of control, together with a list of affiliated business operators, for the purpose of calculating the turnover of business operators involved in a concentration, which may serve as a reference for the purpose of calculating the turnover of business operators. An alternative approach is to borrow from the Interim Measures for the Notification of Concentrations between Business Operators (the Notification Measures), which MOFCAM soon may adopt as its official definition of “control.”
Second, we have recommended that SAIC consider only the turnover of the business operator to which the violation directly or indirectly relates in the relevant market, which normally is the amount a business operator has earned from its violation in the preceding financial year. This rule is important for those business operators that are engaged in selling various types of products and/or providing various types of services, only part of which are involved in the violation.
Third, the turnover for the purpose of setting fines should be the amount before deductions of sales rebates, value added tax, and other taxes directly related to the turnover. It is important to distinguish this “gross turnover” from the “net turnover” when evaluating whether the business operators meet the pre-concentration notification thresholds. The final text of the Notification Measures may provide that turnover includes the income that a business operator has earned from the sale of products and the provision of services in its preceding financial year, deducting all types of taxes and their related fiscal contributions. If both Draft Provisions fail to specify the “gross turnover” rule, business operators may argue that the “net turnover” rule as stated in the Notification Measures should be taken as reference, thus causing different interpretations between SAIC and business operators.
- Clarification of the Determination of the Base Fine Amount
Both Draft Provisions reiterate Article 49 of the AML, which requires that when setting a specific fine, enforcement authorities must take various factors into account, such as the nature, extent, and duration of the violation. We have highlighted the following two problems that the current drafts have:
- The draft Provisions fail to include a number of factors that are also important for the determination of base fine amounts, including the combined market share of all the business operators concerned, and whether or not the violation has been committed.
- In order to fully account for the duration of the participation of each business operator, the amount determined on the basis of the turnover should be multiplied by the number of years of its participation in the violation, and periods of less than six months should be counted as half a year and periods between six months and one year should be counted as a full year.
- Rules for the Adjustments to the Base Fine Amount Should be Clarified
After a base fine amount is set, SAIC and its provincial-level branches (collectively the AICs) should then make adjustments by taking into account various factors influencing business operators’ conduct. Unfortunately, both Draft Provisions lack such rules. In order to ensure the transparency, certainty and impartiality of its decisions, we have recommended that SAIC consider providing more detailed rules for the upward or downward adjustments.
We have advised that, both aggravating circumstances, which may result in the increase of the base amount, and mitigating circumstances, which may result in the reduction of the base amount, be considered during the adjustment. Aggravating circumstances include where the business operator continues or repeats a violation, refuses to cooperate with or obstruct AICs’ investigations, or leads or instigates the violation. Mitigating circumstances include where the business operator immediately terminates the violation following AICs’ investigations, proves that the violation was a negligent act, proves its limited involvement and failure to implement the offending agreement, effective cooperation with AICs outside the leniency program’s scope and beyond its legal obligation, or proves that its act has been authorized or encouraged by public authorities or by law.
Comments on the Monopolistic Agreement Provisions
De Minimis Rule
We have advised that SAIC apply a de minimis rule by adopting a “market share” criterion in Article 2 of the Monopolistic Agreement Provisions, whereby agreements without any appreciable effects within China will not be brought to the attention of the AML. SAIC may also consider adopting a general exemption of agreements between small and medium-sized enterprises (SMEs) with a definition of SMEs that suits China’s economic reality. However, the challenge with an exemption for SMEs arises when all the SMEs in a particular market enter into agreements that, if evaluated individually, are exempt, but may have a market-wide anticompetitive effect. Therefore, SAIC may consider adding a caveat that allows AICs to examine agreements among SMEs when a certain percentage (for example 30 percent) of the market is affected.
Hardcore Restrictions and the Rule of Illegal Per Se
We have advised that the Monopolistic Agreement Provisions clearly state from the outset that hardcore restrictions cannot be exempted under Article 15 of the AML. There are at least three advantages in establishing this system:
- It helps crack down on hardcore restrictions as their harmful effects are universally recognized.
- This illegal per se approach gives certainty to business operators on the absolute illegality of hardcore restrictions, which generates both predictability and deterrence.
- It gives officials a certain degree of certainty and clout in handling competition cases, which is particularly important in the early stage of their enforcement of the AML when they are relatively inexperienced.
Hardcore restrictions include agreements that have as their objective restriction of competition by means of price fixing (subject to administration by NDRC), limitation of output or sales, or allocation of customers or markets. The first two directly lead to customers paying higher prices or not receiving desirable quantities. The allocation of customers or markets reduces the choices available to customers and therefore also leads to increased prices or reduced output. It can therefore be presumed that these restrictions have negative market effects, and they are therefore almost always prohibited.
- Clarification of Conditions to Qualify for Immunity from Fines
To ensure the effectiveness of the leniency program, we have advised that SAIC borrow from EU competition law to clarify the immunity rules in the Monopolistic Agreement Provisions by adding conditions. In addition to the Monopolistic Agreement Provisions’ requirement that the business operator should be the first to submit information and offer important evidence on the monopolistic agreement, we have suggested the following additional conditions:
- The business operator cooperates genuinely, fully, on a continuous basis and expeditiously throughout the investigation;
- The business operator ended its involvement in the cartel immediately following its application, except for what the authority would view as reasonably necessary to preserve the integrity of the inspections; and
- When contemplating making its application to the authority, the business operator must not have destroyed, falsified or concealed evidence of the alleged cartel nor disclosed the fact or any of the content of its contemplated application, except to other competition authorities.
We have also advised that SAIC clarify that if all the conditions are met, the AICs must (rather than may as stated in the current draft provision) grant immunity from the fines. This is important because if a business operator cannot confidently predict that the AICs will grant immunity, it may weigh the risks and decide against self reporting and cooperation.
- Clarification of Conditions to Qualify for Reduction of Fines
We hold the view that business operators reporting alleged monopolistic agreement which do not meet the immunity conditions should still be eligible for a reduction of a fine. The conditions to qualify for reductions should be the same as those to qualify for immunity, except that the qualified business operator does not need to be the first one to submit information, and that the AICs should use different criteria to assess the evidence provided by the business operator. The first condition is self-evident, but the second condition needs some explanation.
Article 12 of the Monopolistic Agreement Provisions also requires a reporting business operator to provide “important evidence,” which refers to evidence that is sufficient for the initiation of an investigation or that play a critical role in determining a monopolistic agreement act, to qualify for reduction of fines, and the provisions contain the same requirement for immunity from fines. In our view, however, when the AICs are determining to grant reduction of fines, as the investigation of alleged cartel has already been initiated, or the violation has already been found, the evidence should be assessed on the criterion of whether it offers significant “added value” to the evidence already in AICs’ possession. We have therefore advised that the Monopolistic Agreement Provisions adopt an “added-value” criterion, which is different from the “important” criterion, where the reduction of fines is concerned. The “added value” may be defined as the extent to which the evidence strengthens, by its very nature and/or its level of detail, AICs’ ability to prove the cartel.
- Add Flexibility into the Scope of Reduction of Fines
As for the scope of reduction of fines, Article 13 of the Monopolistic Agreement Provisions provides that AICs will take into account all the relevant factors, including the ranking in timing of a business operator’s proactive report and importance of the evidence. Article 13 also provides that the second reporting business operator will receive a 50 percent reduction in fine, and the third a 30 percent reduction. We have advised that instead of prescribing specific percentages of fine reductions, the Monopolistic Agreement Provisions provide a range of reduction of fines to allow a certain degree of flexibility.
In addition, in the current draft, it is not clear whether the fourth whistleblower or any subsequent whistleblowers can also enjoy reduced fines. The number of business operators that are qualified for reduction of fines may differ from case to case, and it is not reasonable to apply the reduction of fines only to the first three qualified business operators.
We have proposed the following fine reduction rules for qualified business operators:
- The first enjoys a 30 percent to 50 percent reduction;
- The second enjoys a 20 percent-30 percent reduction; and
- Subsequent qualified business operators enjoy a reduction of up to 20 percent of the fine.
Voluntary Notification System
We hold the view that neither a mandatory notification system nor a system relying entirely on self-assessment is appropriate for China’s current competition regime. A reasonable compromise may combine a voluntary notification system with self-assessment. Namely, business operators may opt to notify their agreements to the AICs for individual exemption, but they may also choose to self-assess whether their agreements meet the conditions for exemption under Article 15 of the AML.
It is likely that a voluntary notification system will help keep AICs’ workload at a more reasonable level. It will also assist AICs in understanding actual market conditions and contractual arrangements in the real world. Consequently, AICs would be positioned to improve the notification regime. As China’s competition law regime evolves, the whole notification system could be abolished. However, a compromise solution as described above could allow business operators and AICs to learn from each other during the initial implementation period of the AML.
We have advised that flexible rules be established regarding AICs’ determination of notified agreements, and the point in time at which an agreement should be notified. Business operators should be allowed to submit a notification as soon as they have agreed on the final text of their agreement without necessarily having signed the agreement. In addition, voluntary notifications should not be conditioned on a notification of the agreement immediately after its conclusion. The parties should be allowed to submit their agreement for notification at any point in the future, being potentially exposed to fines for the period before such notification.
Comments on the Dominance Provisions
Factors to be Considered for Determining Dominance
We believe that the provisions contained in Article 5 of the Dominance Provisions are in general consistent with international competition principles. We also welcome the positive developments in the detailed explanations of the various factors, which may provide business operators with necessary guidance. Our comments focus on the rules concerning market shares.
- Additional Weight to Maintenance of Market Shares
We have advised that Article 5(a) of the Dominance Provisions give additional weight to the assessment of whether market shares have been or could be maintained over a significant period of time when using market shares to assess a business operator’s dominance, so that no business operator will be presumed to hold a dominant market position only because it holds a high market share in a very short period due to unexpected market changes.
- Clarification of Rules for the Calculation of Market Shares
Article 5(a) of the Dominance Provisions provides only a simple test for the calculation of market shares: the proportion of a business operator’s turnover or sales volume of a specific product in the relevant market, which presents two problems. First, it fails to provide clear rules for the sources of the data for market share calculations. We have suggested that if no official data gathered by the government authorities, or publicly available data from a third party are available, the best available data should be taken.
Second, Article 5(a) considers a business operator’s turnover and sales volume for market share calculations, which may be insufficient. In practice, market shares, in particular for heterogeneous products, are most often defined in value terms, expressed by turnover. However, other methods of calculation, such as quantities, production capacities and volume of orders, can also be useful. We have recommended that Article 5(a) incorporate these methods.
We have suggested that a finding of collective dominance require detailed economic and factual analysis. A high combined market share may be a necessary condition for collective market dominance, but it is not sufficient. Therefore, a high combined market share should not lead to the establishment of a presumption that collective dominance exists. Instead, a full and detailed factual and economic analysis should be conducted. In addition, the burden of proof should be borne by the AICs, rather than being shifted to business operators under investigation.
Analysis under the Rule of Reason
We have advised that SAIC incorporate in Article 13 of the Dominance Provisions the objective necessity defense and the efficiency defense to guide dominant business operators on how to justify their acts. We have recommended that Article 13 clarify these defenses by incorporating the following detailed rules:
As for the objective necessity defense, whether a conduct is objectively necessary and proportionate must be determined on factors external to the dominant business operators.
With regards to the efficiency defense, SAIC should consider that a dominant business operator may justify conduct leading to foreclosure of competitors on the ground of efficiencies that are sufficient to guarantee that no net harm to consumers is likely to arise. The dominant business operator will generally be expected to demonstrate that the following cumulative conditions are fulfilled: (i) efficiencies have been, or are likely to be, realized as a result of the conduct; (ii) the conduct is indispensable to these efficiencies;(iii) the likely efficiencies outweigh any likely negative effects on competition and consumer welfare in the affected market; and (iv) the conduct does not eliminate effective competition.
Abuse of Intellectual Property (IP) Rights
Many jurisdictions, such as the European Union and the United States, have adopted guidelines particularly focusing on IP-rights-related anti-monopoly issues. In our view, the Chinese authorities should consider adopting similar guidelines. However, in the absence of such guidelines, the Dominance Provisions should address relevant issues to some extent.
- Clarification of General Principles of Applying IP Rights Related Anti-Monopoly Rules
We have advised that the Dominance Provisions add an article clarifying at least three general principles of applying anti-monopoly rules that relate to IP rights. For anti-monopoly enforcement, AICs will essentially treat IP rights as any other form of tangible or intangible property. Additionally, AICs should not presume that a patent, copyright, or trade secret necessarily confers market power upon its owner. If a patent or another form of IP rights confers market power, that market power does not by itself oppose the AML. Nor does such market power obligate the IP rights owner to license the use of that property to others. Finally, restraints in IP rights licensing arrangements should be evaluated under the Rule of Reason.
- Provision of Examples of Conducts Constituting “Abuse of IP Rights”
We have advised that the Dominance Provisions provide certain examples in order to provide business operators with necessary guidance. In this regard, many provisions in existing laws and regulations may serve as SAIC’s reference.
For example, Article 329 of the Contract Law of the PRC provides, “A technology contract which illegally monopolizes technology, impairs technological advancement or infringes on the technology of a third party, is invalid.” In an interpretation of the article issued by the Supreme People’s Court of the PRC on November 30, 2004, the Court enumerates the situations that fall under Article 329. Other examples include Article 30 of the Foreign Trade Law, Article 48 of the Patent Law, and Article 29 of the Regulations on Administration of Import and Export of Technologies.
In general, we hold the view that the provisions proposed in both Draft Provisions are in line with international competition principles, but we have recommended that SAIC clarify certain issues and improve certain methodologies to enhance its enforcement of the provisions under the AML.
In addition to the comments summarized above, we have also advised that SAIC publish cases and the reasoning behind AICs’ decisions to guide business operators and denote deterrence.