Avoiding the legal pitfalls of buying and marketing groups.
Editor's Note: During the past ten years, furniture retailers have been involved either as plaintiffs or as defendants in at least seven reported cases based on alleged violations of federal and state antitrust laws. These cases originated in Florida, South Carolina, North Carolina, Kansas, Minnesota, Georgia and Massachusetts. We expect that the number of cases involving furniture retailers will rapidly increase due to Clinton Administration policies which have stepped up federal enforcement of antitrust laws.
Buying and marketing groups are becoming more common and widely accepted in products distribution industries, as well as even in some service industries. The missions of these groups vary. Buying groups focus upon reducing the acquisition cost of products, thereby enhancing the ability of their members to compete with larger players. Marketing groups focus upon developing programs to assist their members in the promotion and sale of products. Usually, these marketing programs are far superior to what an individual member could produce and are provided at a much lower cost to the member. Some groups focus equally in the purchasing and marketing areas.
Whatever its mission, a well-run group creates efficiencies of scale which not only benefit its members, but also benefit the public by reducing the pressure to increase prices, and, in many instances, result in lower prices. In some cases, the benefits a member receives from his group can mean the difference between survival or failure.
As much good as these groups do, they have always been viewed with some degree of suspicion by the federal and state agencies charged with the responsibility for enforcing the antitrust laws. This article will discuss a few of the antitrust issues that confront many home furnishings retailers who belong to these groups and will provide recommendations that will help minimize the exposure of the group and its members.
Enforcement of the antitrust laws comes from three potential sources: namely, federal agencies (i.e., the Federal Trade Commission and the Antitrust Division of the Department of Justice), state agencies (usually a section in the state attorney general's office), and individuals bringing lawsuits for private remedies. During the years of the Reagan administration, there was a definite throttling back of federal enforcement of antitrust laws. The size of the staff charged with the responsibility of enforcing these laws was reduced and the number of cases brought by the federal government dropped off sharply. This trend reversed itself somewhat during the Bush administration. With Clinton in the White House, there is every indication that antitrust enforcement efforts will be stepped up, and, in fact, are being stepped up. During the Reagan years, the state and federal antitrust enforcement agencies were at loggerheads with one another on many issues, the state agencies taking the more aggressive stance in the enforcement of the antitrust laws. The federal agencies seem to have come around to the more aggressive position of the state agencies, so that they are now of one mind. This spells double trouble for those groups who are not strictly in accord with the antitrust laws.
Federal antitrust laws may be enforced against a buying or marketing group (as well as its members, directors, officers and employees) both by governmental officials and by private parties through treble damage actions. In both cases penalties are severe. An individual convicted of a criminal violation of the Sherman Act may be fined as much as $350,000 and imprisoned for up to three years. A corporation convicted of such a criminal offense may be fined as much as $10,000,000. Violation of the Federal Trade Commission Act can result in the issuance of a cease and desist order, which would place extensive governmental restraints on the activities of the group and its members. Failure to obey such an order can result in penalties as much as $10,000 per violation.
Just how do the antitrust laws relate to the operations of a buying or marketing group? Perhaps the problem area most frequently encountered by groups arises when applicants for membership are turned down on the basis of geographical location. Members of a group generally do not want the group to admit a new member which is in direct competition with one of them for several reasons. Some of those reasons may be legitimate and some of them not so legitimate. One of the important benefits a group has to offer is the opportunity for the membership to discuss common problems they are experiencing in the industry. The discussion is more likely to be frank and open if the participants are not in competition with each other. There is less likelihood of an antitrust violation arising within the membership of the group if none of them are competitors. If the group has a marketing program, it can legitimately be argued that having two competitors in the same market area using the same marketing program could result in confusion. Also, a situation known as the "free rider" problem could arise. That occurs when one competitor develops a market for a product or a service identified by a trade name by expending substantial sums of money and another competitor begins using the same product or service, identified by the same trade name in the same marketplace. The second competitor therefore receives an undeserved "free ride" on the efforts of the first competitor.
On the other hand, the motivation for excluding competitors from a given territory can be less than honorable. The members of a group may simply want to keep competitors from being able to purchase from manufacturers at the same low price that they are enjoying through the group's purchasing volume. If an excluded competitor is, in fact, put at a price disadvantage by not being able to belong to the group, he may have a claim against both the manufacturer, the group, and its members under the Robinson-Patman Act which, among other things, protects against price discrimination. Although there are defenses available to Robinson Patman Act claims, they are sometimes difficult to prove. Some groups have solved this problem by permitting competitors to participate in the purchasing programs, but not the marketing programs. In this way, the potential Robinson-Patman Act claims are avoided, while meeting the legitimate concerns of the members.
Another problem, somewhat related, but having much more serious implications, arises when groups allocate sales territories among their membership. The U.S. Supreme Court has ruled this type of market allocation to be per se illegal as a horizontal restraint of trade (SEE GLOSSARY).
Some marketing groups find it very difficult to function without having some means of keeping their members out of each other's territories when it comes to marketing activities. Not only do such marketing groups wish to avoid the "free rider" problem, but they also want to avoid the confusion in the marketplace which could otherwise arise. Suppose the marketing group produced a newspaper advertising format and made it available to each of its members. One can imagine the confusion which would arise if two competing members in the same market used the same format for the same products, but inserted different prices. There is apparently no reported case law which addresses the ability of marketing groups to limit the usage of their marketing services by their members to designated territories. It is arguable however, that such restrictions as to marketing services should not be found to be per se illegal, so long as no restrictions are placed upon the territories within which the members may sell their products or services. In other words, while it may be legal for a group to limit where its marketing programs are used, it would not be legal for the group to limit where its members may sell. Before any group undertakes any such restrictions with regard to marketing activities, it should consult closely with legal counsel.
Perhaps one of the most dangerous areas of antitrust law which confronts buying groups is the prohibition against price fixing. What makes this area of antitrust law so dangerous is that these types of violations can easily occur, sometimes almost unknowingly. Whether done intentionally or unintentionally, price fixing violations are at the very top of the list of priorities of the governmental enforcement agencies. In fact, the enforcement agencies are more likely to seek incarceration for price-fixing offenders than they are for any other type of violation of the antitrust laws.
This discussion will consider two situations commonly encountered by buying and marketing groups which have price fixing implications. The first situation involves those marketing groups which produce catalogs, flyers, or other advertisements for use by their membership with their customers. Many marketing groups insert prices for the products advertised in these materials. This practice exposes a group to a charge of horizontal price fixing which, if proven, is per se illegal (SEE GLOSSARY). The safest practice for a marketing group to follow in this situation is to not include any prices in the materials furnished to the members and let them make their own arrangements with the printer as to what prices will be included in the batch of materials they are purchasing through the group. In many instances, because of varying markets, this is the only approach which is feasible for members of a group who wish to share marketing materials. However, in some industries product prices are fairly uniform throughout the country, and it is feasible for the members of a group to use one set of prices for their advertising materials. Indeed, where the members of a group are fairly small retail stores, they may not be able to afford the cost of catalogs if they have to pay an extra charge for inserting the prices. In such a situation, the group can reduce this exposure to price fixing charges if it will implement the following procedures:
The prices used in the material should be determined by the manufacturers, if at all feasible. If not, then the prices should be chosen by the staff of the marketing group after one-on-one consultations with individual members for input. The discussion of prices within a committee of members is a dangerous practice, particularly if members who sell in the same trade area are present during the discussion.
The materials containing such pricing should not be available to members who compete with each other in the same trade area.
Each member should be given the opportunity to insert its own pricing into the marketing materials.
Some groups avoid the pricing problem by not inserting any prices at all in their catalogs. Each member produces its own price sheet and encloses that price sheet with the catalog.
In 1963, a congressional inquiry was made with the Federal Trade Commission and the Antitrust Division of the Department of Justice as to whether cooperative advertising by a group of independent drug stores would be considered price fixing. The Federal Trade Commission expressed serious concerns over cooperative advertising and indicated that it might very well be price fixing. Sen. Hubert Humphry, himself a pharmacist, made an inquiry of his own when he learned of the FTC response. The Justice Department took a much softer stance and indicated that so long as the true intention of the participants was to save advertising costs and not to fix prices, that this practice would not necessarily be considered price fixing. It is possible to obtain an advisory opinion from Justice with regard to any particular proposed cooperative advertising program.
A second potential problem area exists for groups which hold meetings for their membership. Adam Smith once said:
"People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public on some contrivance to raise prices."
While discussion of prices in and of itself is not against the law, such discussions quite often do lead to either an implicit or sometimes an explicit understanding among the participants of that conversation as to how they will set their prices. Suppose Competitors A and B have an open and frank discussion regarding their pricing policies. Also suppose following their conversation, each independently raised its prices to the same price. Even if they had not discussed this action during their conversation, it would be difficult for them to convince a court of their innocence. One federal court of appeals stated that it was not:
"So naive as to believe that a formal signed-and-sealed contract or written resolution would conceivably be adopted at a meeting of price fixing competitors in this day and age. In fact, the typical price-fixing agreement is usually accomplished in a contrary manner."
What measures can a group take to protect itself and its members from charges of price fixing? The answer lies in the establishment of an effective antitrust law compliance program. Such a program would include written guidelines which would provide basic ground rules as to what can and cannot be discussed at meetings. The group should have legal counsel present at its membership meetings. Many groups balk at incurring this type of expense. Nevertheless, it is money well spent, because not only does it reduce the likelihood of the group becoming enmeshed in an antitrust violation, but it also has a favorable impact upon those governmental officials charged with enforcing the antitrust laws should they have occasion to review the group's practices. Legal counsel can also assist the group in any other legal issues which arise during the course of the meeting. Many times, advice given by legal counsel on the spot of a meeting will affect the group's selection of a particular course of action. The minutes of the organization should be carefully monitored by legal counsel. The minute book is one of the first documents requested by an antitrust enforcement agency during the course of an investigation. Another important aspect of the program is for legal counsel to provide the group members periodic updates on antitrust law in order to increase their awareness of the need for antitrust compliance. These are only a few of the measures that should be incorporated into an effective antitrust compliance program.
Despite the potential legal pitfalls that confront buying and marketing groups, there is no denying that these groups can serve a useful and legitimate purpose in our society. A group that is aware of what these pitfalls are and how to avoid them has already won half of the battle. The rest of the battle will be won by those groups who establish well-designed antitrust compliance programs and carefully adhere to their guidelines. Legal counsel plays an important role in this process. In almost all cases, when businessmen have a legitimate objective in mind, there is a way to accomplish it, even if a slightly different path is required to be followed to that objective than the one the businessman originally had in mind. So it is when a group travels through the obstacle course of antitrust law. Hopefully, this article will help groups identify and negotiate the obstacles.
HORIZONTAL RESTRAINT: A "horizontal restraint" arises when companies at the same distribution level enter into an agreement as to what their respective market territories will be for a given product or service. When this is done through a group to which they belong, this is still considered a horizontal restraint. A vertical restraint, on the other hand, occurs when the market allocation is done by a manufacturer among its distributors. As long as it can be shown that there are legitimate business reasons for the manufacturer making such market allocations, which outweigh the non-competitive effects, such activities are usually upheld under the so-called "rule of reason" which has been applied by the courts to vertical restraints such as these.
PER SE / RULE OF REASON: Traditionally, the courts have applied either a "per se" or "rule of reason" analysis in determining whether a trade practice violates antitrust law. Some practices, such as price fixing and boycotts, are considered so egregious that if the practice is found to exist, it is automatically (per se) found to be illegal without further analysis as to whether the overall effects of the practice are pro-competitive or anti-competitive. If a practice does not fall into one of the per se categories, then the rule of reason analysis is applied by the courts. Under the rule of reason, the court weighs various factors which tend to make the practice pro-competitive as opposed to those factors which tend to make it anti-competitive. Many times, the most important factor considered in a rule of reason analysis is the market share of the parties engaged in the practice.
BUYING GROUP DON'TS
Turn down members on basis of geographical location.
Allocate sales territories among group members.
Use common mailers printed with prices inserted.
Discuss pricing or pricing practices among members.
Exclude competitors to keep them from getting competitive product or pricing.
BUYING GROUP DO'S
Insert separate price sheets in group mailers.
Have written guidelines stating what can and cannot be discussed at group meetings.
Have legal counsel present at membership meetings.
Carefully monitor meeting minutes.
Institute an anti-trust compliance program.
Harry B. Ray is a partner with the firm of Stophel & Stophel, P.C. For almost a decade he has served as legal counsel for several national buying and marketing groups. He is the President-Elect of the Chattanooga Bar Association. © 1994. Stophel & Stophel, P.C. All rights reserved. Send Questions to FURNITURE WORLD at email@example.com.