Behavioral Merger Remedies and the Hippocratic Principle
Last Thursday, the FTC settled a challenge to a company’s acquisitions of two key rivals. The two acquisitions, each of which failed to meet the threshold for required reporting under Hart Scott Rodino, occurred in 2005 and 2008. Because the acquired companies have been fully integrated into the acquirer and all distinct operations have been shut down, it was impossible for the Commission to “unscramble the eggs” by imposing a structural remedy that separates the companies or parts thereof. The Commission therefore opted for a behavioral remedy — i.e., a list of restrictions on how the combined company may operate its business in the future. The purported goal of the behavioral remedy is to enhance consumer welfare by restoring competition that was destroyed by the anticompetitive acquisitions.
Commissioner Josh Wright took exception to a couple of the restrictions in the consent order. In a separate statement, he set forth a principle reflecting his concerns that antitrust implementation be both evidence-based and sensitive to error costs. One hopes that the principle he articulated — a version of the Hippocratic maxim, “First, do no harm” — will influence future FTC decisions on behavioral remedies.
The defendant here was Graco, the leading manufacturer of “fast set equipment” (FSE) used by contractors to apply polyurethane foams and coatings. The two companies it purchased, Gusmer in 2005 and GlasCraft in 2008, were its two closest competitors in the North American market for FSE. Graco’s acquisitions of those companies eliminated almost all market competition. In addition, Graco allegedly coerced and threatened FSE distributors so that they would not carry competitors’ products, and it filed a questionable lawsuit against a rival, Gama/PMC, causing FSE distributors to grow leery of that supplier and drop its products. These post-acquisition actions have helped cement Graco’s market power by denying its actual and potential rivals access to the distribution networks they need to effectively market their products.
In light of Graco’s post-acquisition conduct, the consent order agreed to Thursday prohibits Graco from threatening, coercing, or retaliating against distributors who carry its rivals’ products. It also requires settlement of the lawsuit that was impairing Gama/PMC’s access to distributors, and it forbids Graco from bringing a similar suit in the future.
But the order then goes further. It prohibits Graco from entering into exclusive dealing contracts with distributors, and it places limits on Graco’s freedom to give loyalty discounts to distributors. (Specifically, it limits the purchase and inventory levels upon which Graco may condition distributor discounts.)
The problem, in Commissioner Wright’s view, was that there was no evidence that these forbidden activities – exclusive dealing arrangements and loyalty discounts – contributed to the absence of competition in the FSE market. Because exclusive dealing arrangements and loyalty discounts are usually procompetitive, prohibiting their use by Graco in the absence of evidence that they are responsible for the lack of competition in the market or are likely to be used to effect anticompetitive harm rather than to achieve a procompetitive benefit is more likely to hurt than help consumers.
Wright notes (and the Commission acknowledges), for example, that the market for FSE is precisely the sort market in which exclusive dealing arrangements achieve the procompetitive benefit of avoiding “inter-brand free-riding.” Manufacturers of FSE will enhance total sales if they train distributors on the proper use and various complicated features of FSE. Consumers benefit from (and sales are increased by) such training, because the distributors pass along their learning to end-user purchasers. But if one FSE manufacturer trains a distributor on how to use the equipment, other manufacturers whose product is carried by that distributor won’t need to do so themselves. The possibility that they will “take a free-ride” on the manufacturer providing the training tends to dissuade all manufacturers from providing such training, to the detriment of consumers. Exclusive dealing helps out by preventing free-riding and thereby assuring a manufacturer that it will receive the full benefit of its training efforts. By banning exclusive dealing, then, the Commission’s consent order may cause a consumer injury, and there’s no reason to take that risk absent evidence that exclusive dealing has been used – or is likely to be used in the future – to create anticompetitive harm. First, do no harm!
It is important to note that not including exclusive dealing and loyalty discounts on the list of behaviors prohibited by the consent order would not give Graco free rein to use those practices in a manner that causes anticompetitive foreclosure. The Commission or a competitor could always challenge a future exclusive dealing arrangement or loyalty discount if there were evidence that the practice had caused anticompetitive harm. The remainder of the Commission’s behavioral remedy assures that there will be a viable competitor – Gama/PMC – that is in a position to challenge any such conduct, and, in light of the consent order, the Commission and any reviewing court would take any future complaints quite seriously. Doesn’t it make more sense, then, to limit the behavioral remedy to actions that have contributed to the anticompetitive situation at hand and not ban behaviors that may well inure to the benefit of consumers? As Commissioner Wright put it:
A minimum safeguard to ensure [that] remedial provisions … restore competition rather than inadvertently reduce it is to require evidence that the type of conduct being restricted has been, or is likely to be, used anticompetitively to harm consumers.
I think Wright’s right on this one.
Filed under: antitrust, error costs, exclusive dealing, federal trade commission, mergers & acquisitions, regulation