On April 15, 2021, the State Administration of Market Regulation (SAMR) fined Yangtze River Pharmaceutical Group (Yangtze River), a Chinese pharmaceutical company, RMB764 million (approximately USD118 million) for engaging in resale price maintenance (RPM) in violation of China’s Anti-Monopoly Law (AML)1. The published penalty decision reflects the SAMR’s renewed prioritization of RPM enforcement in the life sciences sector and underscores the challenges to defending RPM practices under the AML.
RPM, or “vertical price fixing,” encompasses both “direct” agreements between suppliers and resellers to fix or restrict downstream resale pricing, as well as “indirect” compulsion to follow pricing guidance (such as threatening or punishing low-pricing distributors). The lawfulness of RPM varies between jurisdictions, reflecting divergent judgments of the trade-off between restricting “intra-brand” competition among a single supplier’s own distributors and promoting “inter-brand” competition between rival suppliers. While RPM remains illegal per se in many jurisdictions, others allow RPM through a case by case balancing of anticompetitive harms against pro-competitive benefits.
China’s AML addresses RPM by broadly prohibiting any “monopoly agreement” — defined as “an agreement, decision or other concerted practice which eliminates or restricts competition” — between a business operator and its trading counterparty to “fix the resale price” or “minimum resale price” to third parties2. Such arrangements may, however, be exempt from prohibition if the business operators can demonstrate that the conduct advances certain public benefits, does not significantly restrict competition, and benefits consumers3.
Chinese competition authorities have penalized domestic and foreign firms for RPM practices in diverse industries, including the automotive, personal care, and life sciences sectors. However, past decisions of Chinese courts and enforcement agencies have taken different approaches when determining whether a challenged RPM practice actually harms competition or might otherwise be permissible. The Antitrust Guidelines for the Automotive Industry of the State Council Anti-Monopoly Commission (Guidelines for the Automotive Industry) suggest several scenarios in which vertical price fixing would be lawful under the AML (such as temporary restrictions on distributors’ resale pricing of new energy vehicles)4.
In 2018, the Supreme People’s Court determined in Yutai v. Hainan Price Bureau that RPM may be presumed to violate the AML without evidence of actual anticompetitive effects, with the respondent parties bearing the burden of establishing any asserted exemption from prohibition5. The Supreme People’s Court’s approach of “prohibition in principle with exceptions for exemptions” (“原则禁止 + 例外豁免”, pinyin: Yuan Ze Jin Zhi Li Wai Huo Mian) preserved the possibility of justifying RPM in certain circumstances, but did not clarify the situations in which such exemptions might be available. The SAMR’s decision in Yangtze River is among the SAMR’s first published RPM cases since the Supreme People Court’s ruling in Yutai v. Hainan Price Bureau.
Summary of Yangtze River Decision
The SAMR’s analysis focused on Yangtze River’s distribution practices in the retail pharmaceutical market sector from 2015 to 2019 involving five products: (1) Lanqin Oral Liquid, (2) Bailemian Capsules, (3) Radix Astragali, (4) Epalrestat Tablets, and (5) Suhuang Cough Capsules. The SAMR found that Yangtze River’s end-users include both medical institutions such as hospitals and individual retail consumers. Yangtze River’s retail distributors included: (a) tier-1 and tier-2 distributors, (b) retail drug stores, and (c) large-size pharmacy chains.
The SAMR found that Yangtze River engaged in various RPM practices. They included:
- incorporating terms restricting or fixing resale prices or retail prices into bilateral distribution agreements between Yangtze River and tier-1 distributors as well as “tripartite” agreements between Yangtze River, tier-1 distributors, and tier-2 distributors;
- issuing written or oral notifications requiring retail distributors to adjust resale prices in compliance with Yangtze River’s pricing policies;
- punishing and threatening to punish retail distributors for violations of Yangtze River’s pricing policies by reducing incentives, withholding reimbursement, restricting product supplies, and termination;
- engaging third parties to monitor the retail distributors’ online retail prices of Yangtze River’s key products on e-commerce platforms; and
- establishing an internal national price administration committee to formulate and implement the resale price policies.
The SAMR analyzed the competitive effects of Yangtze River’s RPM practices.
First, the SAMR found that Yangtze River had strong incentives to restrict resale prices in the retail distribution channel for the purpose of maintaining higher prices in the separate distribution channel of direct sales to medical institutions. The SAMR noted that Yangtze River routinely participated in government or hospital tenders as a supplier, and that such tenders usually consider various retail prices as references. The SAMR found that maintaining retail prices at high levels enables Yangtze River to maintain its tender prices at higher levels in sales to hospitals and public health systems. The SAMR specifically cited Yangtze River’s internal documents explaining the goal of “strengthening price maintenance and initiating the removal of lower transaction price records in various places in the early stage, so as to better manage the price collection links in later purchases and price negotiations.”
Second, the SAMR characterized Yangtze River as a “leading” and “pivotal” domestic supplier of pharmaceuticals. The SAMR found that the pharmaceutical sector has low concentration, and cited several product categories in which Yangtze River ranked highly. However, the SAMR’s notice did not incorporate explicit findings on product market definition, or include specific estimates of Yangtze River’s market shares in any product market. Nevertheless, the SAMR notice found that Yangtze’s “dominant” position resulted in its downstream distributors’ “dependence.”
In this vein, the SAMR found that the inclusion of territorial restrictions in its distribution agreements reinforced the effect of its pricing restrictions. The AML does not explicitly prohibit suppliers from restricting distributors’ sales territories. The Guidelines for the Automotive Industry suggest that vertical agreements restricting distributors from engaging in active sales outside of their assigned territories are generally permissible6. Although the SAMR did not find that Yangtze River’s enforcement of distributors’ territorial restrictions itself violated the AML, the SAMR viewed the territorial restraints as increasing the anticompetitive effects of the RPM.
Third, the SAMR found that Yangtze River’s RPM practices had actually resulted in significant price increases. This conclusion relied on a formal economic analysis of the actual price effects of Yangtze River’s RPM practices (including a comparison of observed prices to a simulation of likely competitive pricing in Shanghai absent of vertical price restrictions). The SAMR then emphasized the particular public policy harms of high prices in the pharmaceutical industry.
The SAMR rejected Yangtze River’s claims that it had not actually enforced any resale pricing restrictions through punitive measures. Beyond evidence of several instances of actual enforcement, the SAMR cited the conclusion of the Expert Advisory Group of the State Council’s Antimonopoly Committee that the threat of penalties alone sufficed to enforce the resale price restrictions.
Presumption of Illegality
Yangtze River contended that in order to establish a violation of the AML, the SAMR had the burden of showing not only that Yangtze River had engaged in RPM conduct but also that the RPM conduct had actually caused the restriction or elimination of competition in a relevant market. Yangtze River maintained that its market shares were too low to enable it to affect pricing within any relevant market. (As noted above, the SAMR decision did not formally define the relevant product markets or include findings on Yangtze River’s market share).
However, the SAMR rejected the argument that it was required to show actual anticompetitive effects, following the decision of the Supreme People’s Court in Yutai v. Hainan Price Bureau. The SAMR stated that “… (T)he purpose of reaching a resale price fixing or restriction agreement between a business operator and its counterparty in a transaction is to eliminate competition. (Such agreement) has the effect of eliminating and restricting competition. The applicable principle in dealing with such agreements should be ‘Prohibition in Principle with Exceptions for Exemptions’.”
The SAMR also dismissed Yangtze River’s claim that consistent reductions in Yangtze River’s direct prices to its T1 distributors demonstrated the absence of competitive harm, on grounds that harms from RPM stemmed from the prices to end-users.
Failure to Establish Exemptions
Yangtze River maintained that its RPM practices should be “exempted” from prohibition on two grounds.
First, Yangtze River contended that short-term RPM for new products may be exempted as a measure “for improving technology and researching and directing new products.” (Although not mentioned in the SAMR decision, the Guidelines for the Automotive Industry similarly suggest that transitional pricing restrictions during product launches might be permissible). However, the SAMR rejected this argument on factual grounds, finding that Yangtze River had been marketing its five core pharmaceutical products for over five years.
Second, Yangtze River contended that its RPM practices may be exempted as measure “for the realization of energy conservation, environmental protection, disaster relief, and other social and public interests.” According to the SAMR’s decision, Yangtze River claimed its RPM measures “prevented low-price competition between distributors and pharmacies, thereby encouraging distributors and retail pharmacies to increase investment in the distribution channels, ensure the quality of pharmaceutical products, and achieve the purpose of safeguarding social public interests.” In rejecting this defense, the SAMR emphasized that ensuring product quality and safety is a basic regulatory requirement of the pharmaceutical sector regardless of commercial considerations. Yangtze River thus “failed to prove that fixing and restricting prices increased the distributors’ motivation and ability to increase investment in distribution,” and the SAMR found “no evidence that distributors used the corresponding profit to improve distribution.”
With respect to both asserted exemptions, the SAMR further found that Yangtze River “failed to prove that the corresponding actions would not severely restrict competition in the relevant market and enable consumers to share the resulting benefits.”
Yangtze River was fined RMB764,007.948, representing 3% of its 2018 revenues, and ordered to cease its infringing conduct.
The SAMR, a national-level agency of the central government, coordinated the investigation with 27 of its provincial level counterparts to collect evidence from Yangtze River and its customers. The evidence included direct witness statements, as well as documentary evidence including emails and WeChat instant messaging records. The SAMR engaged external economists to conduct economic analysis, and conferred with external advisors on the legal and policy implications of Yangtze River’s asserted defenses.
The SAMR’s rejection of Yangtze River’s defenses confirms the strong presumption of the illegality of RPM and the potentially high burden of proving that an RPM practice actually advances an exemptible purpose, does not severely restrict competition, and benefits consumers. Critically, however, the SAMR’s finding that Yangtze River failed to establish its justifications on these facts does not foreclose the possibility of such defenses in other cases. Pharmaceuticals are highly regulated, competing products with the same active pharmaceutical ingredients are often homogenous with weak brand associations among consumers, and procurement for the public health system substantially impacts market conditions. The possibility remains that the SAMR might accept defenses for RPM in other contexts (such as the distribution of branded consumer goods) where it might be easier to establish the consumer welfare benefits of promoting inter-brand competition by incentivizing distributors to invest point-of-sale consumer service and promotions while preventing other distributors from “free-riding” on their investments. Absent more concrete guidance from the SAMR regarding circumstances in which RPM is permissible, companies active in China should adopt policies prohibiting direct and indirect RPM, train personnel on competition issues, and take steps to verify compliance.