WHAT COMPANIES DON T KNOW CAN HURT THEM: MONOPOLIZATION OFFENSES 1

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1 WHAT COMPANIES DON T KNOW CAN HURT THEM: MONOPOLIZATION OFFENSES 1 By Alden L. Atkins, James A. Reeder Jr. and Nicholas N. Shum I. Section 2 of the Sherman Act In contrast to Section 1 of the Sherman Act, which applies only to concerted action, Section 2 reaches the unilateral activity of companies. The statute provides: Every person who shall monopolize, or attempt to monopolize, or conspire or combine with any other person or persons, to monopolize any part of the trade or commerce among the several States, or with foreign nations, shall be deemed guilty of a felony Indeed, the primary Section 2 offenses monopolization and attempted monopolization apply to unilateral activity and can arise in a variety of different contexts in virtually any industry. II. General Contours of Section 2 Claims A. Monopolization Monopolization requires that a company possesses monopoly power and acquires, enhances or maintains that power through exclusionary conduct. As defined by the U.S. Supreme Court, monopoly power constitutes the power to control prices or exclude competition and must be analyzed within a relevant market. 3 The relevant market is comprised of both product and geographic components. A practical way of thinking about the relevant market is by asking: For each product or service that I sell, with whom do I compete (actually and potentially) and where do I compete? Monopoly power can be proven through direct or circumstantial evidence. Because direct evidence that a company controls prices or excludes competitors rarely exists, the typical case involves circumstantial evidence for example, an analysis of whether a defendant has a significant share of the relevant market coupled with barriers to entry. Courts differ on the market share required for monopoly power but, as a general rule, a market share of 70% or greater will create a prima facie showing. 4 In contrast, courts generally say that a market share below 50% is insufficient to have monopoly power, although there are rare exceptions. 5 Entry barriers, which include factors in a particular market such as high capital costs, limited access to inputs or transportation, required regulatory approvals, or patents, affect the analysis as well. When entry barriers to a market are significant, courts are more likely to find monopoly power because there are fewer opportunities for new competitors to act as a check on a monopolist s ability to raise prices. Monopoly power alone is not enough. To run afoul of Section 2 also requires exclusionary conduct or the willful acquisition or maintenance of [monopoly] power as distinguished from growth or development as a consequence of a superior product, business acumen, or historical accident. 6 Whether business conduct is exclusionary or actually procompetitive is hotly debated; in fact, it is sometimes difficult to distinguish robust competition from conduct with

2 long-run anticompetitive effects. 7 As discussed below, the context in which the business conduct occurs must be carefully examined to assess whether it is exclusionary. B. Attempted Monopolization Section 2 not only prohibits monopolization, but attempts to monopolize as well. That is, a company s exclusionary marketing program or pricing program may still violate the federal antitrust laws even if it does not succeed in attaining monopoly power. Government enforcement agencies sometimes use this provision to pursue unsuccessful attempts to engage in anticompetitive activity that cannot be prosecuted as a conspiracy under Section 1. 8 To prove an attempt to monopolize, a defendant must have (1) engaged in exclusionary conduct, (2) with a specific intent to monopolize, while (3) there was a dangerous probability of achieving monopoly power in a relevant market. 9 While monopolization and attempted monopolization both require exclusionary conduct, the other two elements distinguish a claim for attempted monopoly. First, an attempt claim requires the specific intent to build a monopoly, not just the general intent to do the allegedly exclusionary act. 10 While a mere desire to increase market share or win customers from a competitor does not satisfy this standard, practically speaking, courts may imply the requisite specific intent through a company s exclusionary conduct. Second, because an attempted monopoly claim does not require that a company possess monopoly power only a dangerous probability of achieving it the relevant market share analysis is generally loosened. Courts typically hold that an aspiring monopolist that starts with at least 50% market share has a dangerous probability of success. 11 But, as with the monopolization analysis, the market share requirement can vary based on context and is impacted by other factors such as entry barriers. C. Other Monopolization Claims Section 2 also prohibits combinations or conspiracies to monopolize. The essential elements of this offense are (1) the existence of a conspiracy, (2) an overt act in furtherance of the conspiracy, and (3) a specific intention to monopolize. 12 Unlike monopolization and attempted monopolization claims, which reach unilateral conduct, a conspiracy to monopolize requires that companies agree to commit the objectionable conduct. Failing to prove concerted action either directly or indirectly defeats a conspiracy to monopolize claim. In this regard, many of the same principles governing Sherman Act Section 1 claims also apply to conspiracies to monopolize, including the requirement that conspiracies be economically rational. 13 Finally, as with other Section 2 claims, there must be some probability that the defendant will actually achieve a monopoly, although the courts have not reached a consensus on whether a dangerous probability is required if the specific intent to monopolize is otherwise proved. 14 Occasionally, a plaintiff may attempt to raise a shared monopoly or joint monopolization theory under Section 2. In essence, this theory attempts to hold companies that are part of an oligopoly, and are engaged in some parallel but not necessarily collusive conduct, liable under the antitrust laws. While this theory rarely succeeds absent an element of collusion or the achievement of monopoly-like results, companies should still be cognizant of the potential impact of Section 2 here.

3 III. Exclusionary Conduct Arrangements to Watch For Exclusionary conduct is the hallmark of both monopolization and attempted monopolization claims, but spotting exclusionary conduct is not always easy. Business conduct must be evaluated in context to determine whether the conduct produces pro-competitive or anticompetitive effects. Here, it is also important to be mindful that legal conduct may be considered exclusionary if done by a company with monopoly power. Most commonly, exclusionary conduct includes some form of (1) vertical restriction limiting competitor access to markets or supplies or (2) an aggressive marketing or pricing program that poses antitrust risk in the presence of monopoly power. Briefly described below are examples of arrangements that have the potential of being exclusionary. A. Refusals to Deal with Competitors In certain circumstances, refusing to deal with a rival can create liability. While companies normally are free to choose not to do business with someone, when a company has a prior course of dealing with a particular competitor, but suddenly refuses to deal with that competitor, the conduct is more likely to be viewed as exclusionary. Refusing to deal is also more likely to be exclusionary when it is contrary to a company s own short-term economic interests or pursued to monopolize an adjacent market. Additionally, if a monopolist controls an essential facility, such as long-distance telephone lines, and refuses to deal with its competitors, that conduct may be exclusionary. The requirements for liability in this context include: (1) a monopolist s control over an essential facility; (2) a competitor s inability to practically duplicate the facility; (3) the monopolist s denial of use; and (4) the feasibility of providing the facility. 15 Related to essential facilities, companies are currently asserting claims that a supplier with an essential facility is demanding unreasonable prices or restrictive contract terms as a condition of using the essential facility. A monopolists refusal to license acquired patents or other intellectually property rights to competitors presents a unique situation. To the extent a patent has been acquired legally, a company s refusal to license its technology will typically not create liability. Indeed, imposing a duty to license on a company that legally acquired superior technology may actually hinder the innovative process that garnered the patent in the first place. On the other hand, government enforcement agencies are looking closely at firms that are demanding aggressive prices to license patents necessary to make a product that meets industry standards. B. Refusals to Deal with Disloyal Customers/Suppliers Section 2 liabilities can also arise when a company refuses to deal with disloyal customers or suppliers, i.e., coercing them into not doing business with your competitors. For example, a loyalty policy that requires that a supplier not sell your competitor s product may be considered exclusionary if the practice bars a substantial number of rivals or competitors from actually competing. Similarly, the refusal to accept business from customers if they also purchase from one of your competitors raises antitrust concerns if it essentially forces them to boycott a competitor.

4 C. Exclusive Dealing Arrangements that require a buyer to purchase products or services exclusively or predominately from a specific supplier over a substantial period of time are typically known as exclusive dealing. Notably, these arrangements can be procompetitive, even when engaged in by companies with large market shares. As a result, exclusive dealing arrangements only violate Section 2 where the arrangement creates a substantial foreclosure of competition in the relevant market. 16 Moreover, exclusive dealing arrangements may be upheld when a defendant can prove a sufficient business justification. D. Predatory Pricing While low prices are sensibly pro-competitive, pricing below an appropriate measure of costs in order to eliminate competitors in the short run and reduce competition in the long run may constitute exclusionary conduct. To prove predatory pricing, a plaintiff must establish that a company used below-cost pricing and has a reasonable prospect of recouping those costs in the long-run by virtue of raising prices once competition is eliminated. Courts have analyzed below-cost pricing in different manners, but generally pricing below anticipated marginal costs can be considered predatory. 17 E. Tying A tying arrangement is when a company conditions the sale of one product or service on the purchase of another product or service, i.e., the tied product or service. In the Section 2 context, tying will likely constitute exclusionary conduct if a company is using the tie to maintain a monopoly in the tying product market or trying to establish a monopoly in the tied product market. Companies often defend claims of exclusionary tying by asserting that their arrangement is based on efficient manufacturing and distribution and thus a legitimate business purpose. F. Loyalty Discounts Similar to exclusive dealing, when a company offers discounts to a certain customer that agrees to purchase more products or services, it may be considered exclusionary. While simple volume discounts are generally acceptable and pro-competitive, arrangements that require exclusivity or make it too costly as a practical matter for customers to buy from a rival seller can be problematic. In other words, when a competitor offers loyalty discounts and has such a large market share that other competitors cannot offer matching discounts, then the loyalty discount may be exclusionary. G. Bundled Pricing Bundled pricing, a form of loyalty discount, is when a company offers discounts to a customer who makes significant amounts of purchases over various different product lines. For example, a seller of tape might offer discounts to a customer if he buys certain volumes of other office supplies. That would be pro-competitive if the market for tape is highly competitive. If, however, the tape manufacturer has such a large market share that customers have to buy its tape,

5 then customers would rationally have to buy that company s office products rather than forego the discount on tape. 18 Therefore, if there is significant market share, bundled pricing can impair competition in the bundled product line because a rival competing in only one product line cannot make up for the discounts offered to the customer across the multiple product lines. H. Most Favored Nations Clauses A most favored nations clause (MFN clause) is a contractual provision that guarantees a purchaser that its terms will be at least as favorable as those provided to any other customer. These clauses are normally pro-competitive because they ensure that a buyer is getting the lowest price. However, under some conditions, government enforcers have alleged that they are exclusionary. First, MFN clauses may be considered exclusionary if they incentivize an increased cost to rivals (so as to avoid providing the price break to the company with the MFN clause). Second, if an MFN clause facilitates coordinated pricing by competitors, it can violate the antitrust laws. For companies in a competitive market with low market shares, a MFN clause would not normally be considered exclusionary. IV. Conclusion For companies in nearly any industry, Section 2 can present genuine antitrust risks. Monopolization offenses may arise not only from unilateral activity, but also from business conduct considered routine in most circumstances. To determine whether a company s arrangements implicate Section 2 concerns, a company must carefully analyze the relevant market in which it competes and the context in which the business conduct at issue occurs, including the effect it has on competitors ability to compete in that relevant market. As such, the more companies can be kept apprised of the latest developments in this area, the better positioned they will be to ensure their business practices comply with Section 2 of the Sherman Act. ENDNOTES 1 This article is taken from a series of topics presented at What Companies Don t Know Can Hurt Them: A Primer on Key Antitrust Issues, a seminar held at Vinson & Elkins Houston office on September 19, What Companies Don t Know Can Hurt Them: A Primer on Key Antitrust Issues provided a practical approach to dealing with emerging legal developments and key issues in antitrust law. This article comprises Part 2 of a two-part series as featured in the Winter 2013 issue of the Corporate Counsel Section Newsletter U.S.C Verizon Commc ns. v. Law Offices of Curtis V. Trinko, LLP, 540 U.S. 398, 407 (2004). 4 See, e.g., Spirit Airlines v. Northwest Airlines, 431 F.3d 917, (6th Cir. 2005) (explaining that market shares of 70%, 78% and 89% sufficiently supported monopoly power); Heattransfer Corp. vs. Volkswagenwerk, A.G., 553 F.2d 964, 981 (5th Cir. 1977) (citing United States v. E. I. DuPont de Nemours & Co., 351 U.S. 377 (1956)) (explaining 71%-76% market share was sufficient to establish a monopoly power). For a recent opinion surveying federal courts findings on market share and monopoly power, see Kolon Industries, Inc. v. E.I. du Pont Nemours & Co., No. 3:11-cv-622, 2012 WL , at *9-12 (E.D.Va. 2012).

6 5 See, e.g., Bailey v. Allgas, Inc., 284 F.3d 1237, 1250 (11th Cir. 2002) ( A market share at or less than 50 percent is inadequate as a matter of law to constitute monopoly power. ); Blue Cross & Blue Shield v. Marshfield Clinic, 65 F.3d 1406, 1411 (7th Cir. 1995) ( Fifty percent is below any accepted benchmark for inferring monopoly power from market share. ). 6 United States v. Grinnell Corp., 384 U.S. 563, (1966). 7 Copperweld Corp. v. Independence Tube Corp., 467 U.S. 752, (1984). 8 United States v. Am. Airlines, 743 F.2d 1114 (5 th Cir. 1984) (finding a violation of Section 2 by airline CEO who tried unsuccessfully to persuade a competitor to fix prices). 9 Spectrum Sports v. McQuillan, 506 U.S. 447, 456 (1993). 10 In Spectrum Sports, the U.S. Supreme Court explained that a mere desire to increase market share or win customers from a competitor does not satisfy this standard. 506 U.S. at 456. However, courts have held that specific intent may be shown through indirect evidence and implied through a company s conduct. See, e.g, M&M Med. Supplies & Serv. v. Pleasant Valley Hosp., 981 F.2d 160, 166 (4th Cir. 1992) (en banc); William Inglis v. ITT Cont l Baking Co., 668 F.2d 1014, 1029 (1981), cert denied, 459 U.S. 825 (1982). 11 See Kelco Disposal v. Browning-Ferris Indus., 845 F.2d 404, 409 (2d Cir. 1988), aff d on other grounds, 492 U.S. 259 (1989) (finding that 55% market share coupled with other specific market characteristics sufficiently established a dangerous probability to achieve monopoly power); cf. M&M Med. Supplies & Serv., 981 F.2d at 168 (explaining that claims involving between 30% and 50% [market] shares should usually be rejected ). 12 Am. Tobacco Co. v. United States, 328 U.S. 781, 788, 809 (1946). 13 See Matsushita Elec Indus. Co. v. Zenith Radio Corp., 475 U.S. 574, (1986). Moreover, the U.S. Supreme Court s Copperweld doctrine, which states that a parent and its wholly owned subsidiary are incapable of conspiring because they represent a single economic entity, has been applied to conspiracies to monopolize under Section 2. See Surgical Care Ctr. V. Hosp. Dist., 309 F.3d 836, (5th Cir. 2002). 14 For example, the Tenth Circuit holds that proof of a relevant market is not necessary in a Section 2 conspiracy claim. See Lantec, Inc. v. Novell, Inc., 306 F.3d 1003, 1024 n.10 (10th Cir. 2002) (explaining there is a circuit split as to whether proof of a relevant market is a required element of Section 2 conspiracy to monopolize claims). 15 See MCI Commc n v. AT&T Corp., 708 F.2d 1081, (7th Cir. 1983). 16 See Tampa Elec. Co. v. Nashville Coal Co., 365 U.S. 320, (1961). 17 See generally Phillip Areeda & Donald F. Turner, Predatory Pricing and Related Practices Under Section 2 of the Sherman Act, 88 HARV. L. REV. 697 (1975). 18 See LePage s Inc. v. 3M Co., 324 F.3d 141 (3d Cir. 2003) (en banc). Alden L. Atkins is a partner at Vinson & Elkins LLP in Washington D.C. Alden s principal area of practice is complex commercial litigation, with particular emphasis on antitrust, international litigation and arbitration, contractual disputes and false claims act/qui tam. Many of his cases have involved highly complex technical matters in the computer, communications, energy and polymer industries, where the amount at stake frequently involves hundreds of millions of dollars.

7 James A. Reeder, Jr. is a partner at Vinson & Elkins LLP in Houston and currently serves as the Co-Leader of the Antitrust Practice Group. He has extensive experience counseling clients on antitrust matters, with particular expertise in the commercial aviation, energy, entertainment, health care and chemical industries. Jim has also defended clients in litigation involving complex antitrust issues including price-fixing, group boycott, exclusive dealing, tying, monopolization, discriminatory pricing, and conspiracy. Nicholas N. Shum is an associate at Vinson & Elkins LLP in Houston. He assists in representing clients in a variety of matters, including antitrust law, and is a member of the firm s Antitrust Group. This article is intended for educational and informational purposes only and does not constitute legal advice or services. If legal advice is required, the services of a competent professional should be sought. These materials represent the views of and summaries by the author. They do not necessarily reflect the opinions or views of Vinson & Elkins LLP or of any of its other attorneys or clients. They are not guaranteed to be correct, complete, or current, and they are not intended to imply or establish standards of care applicable to any attorney in any particular circumstance.