On June 24, leading antitrust economists and attorneys participated in a Federal Trade Commission (FTC) and Department of Justice, Antitrust Division (DOJ) joint public workshop on conditional pricing practices, including loyalty and bundled discounts.  The agencies' objective for the workshop was to advance the economic understanding of the potential harms and benefits of these types of discounts, and to reexamine their treatment under the antitrust laws.1

Loyalty and Bundled Discounts

Antitrust plaintiffs have claimed that certain discounts facilitate anticompetitive exclusion of competitors in violation of Section 2 of the Sherman Act.2 The perceived harm arises when a seller with market power (a "dominant" firm) uses discounts to drive one or more of its competitors out of the market, thereby increasing its market power.  Two common forms of conditional pricing practices are loyalty discounts and bundled discounts.

  • Loyalty Discounts: A seller offers a discount to buyers who purchase all or nearly all of their needs from the seller.  Plaintiffs in cases challenging loyalty discounts typically allege that the discount is so aggressive that competitors of the seller cannot compete, and that the lack of competition leads to higher prices.
  • Bundled Discounts: A seller of multiple products offers a discount to buyers if they purchase two different products.  If the discount is attractive enough, plaintiffs typically allege competitive sellers of the product for which the firm faces more competition (the "competitive product") cannot compete effectively and the lack of competition leads to higher prices for the competitive product.

Weighing Regulatory Objectives for Discounts

Bill Baer, Assistant Attorney General of the DOJ's Antitrust Division, and Maureen Ohlhausen, FTC Commissioner, opened the workshop by identifying the treatment of loyalty and bundled discounts as a complex issue.  They noted a lack of consensus on the subject within the academic and legal communities.  They recognized that lower prices are generally understood to be good for consumers, but asserted that certain types of discounts may, in some cases, lead to anticompetitive harm.

Both Baer and Ohlhausen highlighted the difficulty involved in identifying, regulating, and circumscribing the use of perceived anticompetitive discounts.  They stressed the importance of promoting predictability and fairness in the law, and recognized that conditional pricing arrangements, such as loyalty and bundle discounts, are common throughout the economy.  Ohlhausen also emphasized the need to strike the proper balance between accuracy and efficiency in a regulatory framework.  

FTC and DOJ Areas of Interest for Discounted Pricing  

The agencies' primary interests and concerns about conditional pricing practices seemed most evident during the final session of the workshop, moderated by Deborah Feinstein, Director of the FTC Bureau of Competition, and Renata Hesse, Deputy Assistant Attorney General of the DOJ Antitrust Division.  During this session, Feinstein and Hesse elicited guidance from panelists about key issues that would shape a regulatory approach.  They asked panelists (1) if there was a consensus that the "price-cost" safe harbor should be abandoned, (2) whether the agencies ought to worry about conditional pricing facilitating collusion given that these practices are more commonly thought to have exclusionary effects, and (3) whether, and in what way, the agencies ought to credit cost-saving efficiencies in their analysis.  While most (but not all) panelists generally supported increased scrutiny and more flexible analysis of loyalty and bundled discounts, the panelists were unable to reach consensus on these key questions.  Nonetheless, the questions themselves give some indication of the issues the agencies are interested in, and wrestling with, as they consider next steps.

Fate of the Price-Cost Safe Harbor

A significant topic of discussion throughout the workshop was whether the "price-cost" test should be used to evaluate the competitive effects of loyalty and bundled discounts.  While forms of the price-cost test vary, all require the plaintiff to prove that the defendant sold the competitive product at a price below an appropriate measure of the defendant's costs. The price-cost test originated in predatory pricing cases, in which the plaintiff must prove (1) below-cost pricing and (2) that the discounter is likely to recoup the lost profits through eventual higher prices.3 The test creates an effective safe harbor for discount programs as long as the discounted prices are above an appropriate measure of cost.

Courts are currently split on whether and how to use the price-cost test for bundled discounts.  The Ninth Circuit embraced a price-cost test in 2008 in Cascade Health Solutions v. PeaceHealth as the framework for evaluating bundled discounts.4 The Third Circuit declined to use the test in 2003 in LePage's Inc. v. 3M,5 and declined to use it a second time in 2012 in Z.F. Meritor v. Eaton.6 However, Z.F. Meritorstated that the test could be used when price was the "predominant mechanism of exclusion."7 Courts are also mixed on treatment of loyalty discounts.  While some have evaluated the discounts as a form predatory pricing and apply the price-cost test,8 others have applied an exclusive dealing analysis even when exclusivity is not a condition of the contract.9

A few workshop panelists, including lawyers who counsel clients on discounting issues, supported continued use of the price-cost test.  Supporters noted that a bright-line safe harbor facilitates predictability.  However, the majority of panelists recommended abandoning the test for both bundled and loyalty discounts.   A number of panelists argued that the price-cost test can fail to adequately deter anticompetitive pricing practices because certain above-cost discounts may still have an exclusionary effect.  For instance, a recent entrant could have relatively higher costs and still be excluded by a more efficient dominant competitor's above-cost pricing.  Other panelists argued that the price-cost test is only superficially simple, given the high level of uncertainty involved in measuring prices and costs. 

Among those panelists encouraging the agencies to abandon the price-cost test, there was a mixed bag of recommendations for methods of evaluation to take its place.  Suggestions included the "equally efficient rival" test, under which discounts are not considered exclusionary as long as a hypothetical rival facing the same incremental costs as the defendant could match the discount and still make a sufficient profit such that it could continue to compete effectively.  Others cautioned against a bright-line test or safe harbor, and recommended instead a case-by-case evaluation of a given discount's likely competitive effects. 

Considering Risk of Collusion

Although traditionally the competitive harm, if any, thought to come from conditional pricing arrangements is exclusion, more than one panelist suggested that conditional pricing practices may also facilitate collusive agreements.  Specifically, panelists hypothesized that retailers or distributors might seek loyalty or bundled discounts from upstream sellers to facilitate price coordination at the downstream level.  Such a scheme might aid collusion by increasing transparency in costs among downstream competitors.  Panelists also hypothesized that discounting could reduce the number of upstream competitors, leading to higher upstream prices and higher downstream costs, and ultimately supporting a commitment to higher downstream pricing.  Other panelists cautioned against focusing too much on a collusive theory of harm, because litigants typically do not complain about collusive effects of conditional pricing.

Feinstein and Hesse remained interested in exploring whether the agencies should contemplate potential harm from collusion, and asked how the agencies could identify cases in which there is a risk of collusion.

Crediting Efficiencies

Throughout the workshop, panelists recognized and even highlighted that loyalty and bundled discounts are consistent with sellers' efforts to reduce costs and improve their products. Lower costs and better products are generally thought to be good for consumers. For instance, bundled discounts can lead to lower shipping and restocking costs. Similarly, manufacturers' loyalty discounts can encourage distributors to invest in promoting a product and providing a higher level of service to consumers.  Some panelists emphasized that these sorts of pro-competitive justifications are evident because the same discounting methods are commonly used by non-dominant firms when there is no risk of an exclusionary effect.

In the workshop's concluding session, Feinstein asked the panelists to identify which pro-competitive justifications, or "efficiencies," the agencies ought to credit when evaluating the competitive effects of loyalty and bundled discounts. While the responses ranged, a few panelists questioned whether sellers should be required to use the least restrictive mechanism for achieving the cost savings. The discussion left open whether the agencies ought to credit potential cost-saving effects of a particular discount if a less exclusionary alternative can be identified.

Next Steps

Despite the lack of consensus among the workshop participants, many agreed that more empirical evidence would be critical in order to move forward intelligently. The economic literature regarding conditional pricing is currently dominated by theory rather than data-based analysis.  Similarly, while a number of panelists referenced the importance of considering the potential effects of policy changes in the "real world," no industry representatives (buyers or sellers) were included as workshop panelists.  However, the agencies are accepting public comments on this topic until August 22, 2014.

While it is evident that the FTC and DOJ are interested in the topic, whether and when the agencies might take steps to address conditional pricing practices is unclear.  Even less clear is what form any agency action might take. At the same time, the risk of civil litigation remains and has grown increasingly unpredictable given the circuit split over proper evaluation of these pricing mechanisms.  Companies planning to offer discounts for products with high market shares should remain cautious and seek advice from counsel before implementing loyalty or bundled discounts.10

European Commission Developments:  Per Se Illegality

While the status of conditional pricing practices in the U.S. remains unsettled, earlier this month, The General Court, a constituent court of the Court of Justice of the European Union, upheld the European Commission's €1.06 billion fine of Intel for its loyalty discounts on sales of microprocessors.11 According to the General Court, "exclusivity rebates granted by [a dominant firm] are by their very nature capable of restricting competition."  The court agreed that the European Commission was not required to prove that such discounts are likely to foreclose or actually foreclosed competitors from the market.  The decision effectively renders many loyalty discounts in the EU per se illegal.