On June 28, 2007, the Supreme Court overruled a 96-year-old precedent to hold that minimum resale price maintenance plans are no longer subject to a per se ban under the Sherman Act. Leegin Creative Leather Prods. v. PSKS, Inc., 2007 WL 1835892 (June 28, 2007), overruling Dr. Miles Medical Co. v. John D. Park & Sons Co., 220 U.S. 373 (1911). Minimum resale price maintenance plans are agreements between actors at different levels of the distribution chain as to the price to be charged by resellers to their downstream customers.

Prior to Leegin, such agreements were illegal irrespective of the rationale. Now, minimum resale price maintenance plans will be evaluated under the Rule of Reason. Under the Rule of Reason, the procompetitive benefits of an agreement are weighed against the anticompetitive harms. If on balance the harms outweigh the benefits, the agreement is illegal.

While the effect of Leegin on the federal legal status of resale price maintenance is clear, the full implications of the ruling are much less so. It is possible that the aftermath of Leegin will parallel the aftermath of the Court’s 1977 opinion involving GTE Sylvania, in which the Court’s imposition of the Rule of Reason to test the lawfulness of non-price vertical restraints in place of a per se rule effectively rendered such vertical restraints per se legal in the ensuing years. However, the Supreme Court in Leegin did not purport to change the antitrust laws of the various states, many of which have long treated resale price maintenance as per se illegal. Thus, the Court has left the issue with material confusion. This legal update attempts to highlight some steps that might mitigate exposure in this still risky area.

The lengthy history of litigation challenges of resale price maintenance programs indicates that, no matter how well-conceived a manufacturer’s plan may be, such plans frequently create fierce tensions between the manufacturer and members of its distribution system. Those tensions will continue, and the fact that Leegin appears to shift to manufacturers greater authority for adopting such plans does not diminish the need for careful consultation before putting such plans in place.

One of the more remarkable aspects of Leegin is its apparent failure to take account of the profound changes that have occurred in distribution and retailing in various markets in recent years and in the shift of power toward distributors and retailers. It would seem that adoption of new resale maintenance plans cannot in some industries be the exclusive province of the manufacturer. The need of the manufacturer to take account of the interests of distributors and retailers without caving in to their every demand is an old phenomenon in the resale price cases.

Typically, under Colgate, the manufacturer was deemed not to have agreed upon the resale price when it simply announced its preferred price and refused to deal with a reseller that deviated from that price. In reality, the facts were never so clear-cut. In the past, antitrust exposure often turned on the extent to which a manufacturer’s actions seemed to be unilateral. That issue will be important after Leegin because of the extent of give-and-take between manufacturers and big retailers. A well-conceived plan will anticipate this give-and -take and will instruct appropriate personnel about how such dialogues are to be handled.

Because Leegin did not change state laws relating to resale price maintenance, it is possible that a plan that complies with the federal antitrust laws will violate state law. Given the opposition to overruling Dr. Miles by certain states, aggressive review of minimum resale price maintenance plans from various quarters can be anticipated. In the short term, moving forward with broad agreements as to minimum resale prices may be risky. A more cautious approach is suggested.

A Leegin Plan

If one does not have market power in a relevant market, a minimum resale price maintenance plan is unlikely to violate the Sherman Act. It may still violate some state laws.

Before it adopts a Leegin plan, a manufacturer would have to consider several steps:

• Survey the market. Determine whether the product market is sufficiently differentiated to sustain a minimum resale price maintenance plan.
• Determine whether a sufficient number of customers would not switch in the face of its price increase to make the price increase unprofitable.
• Determine whether there are power buyers, what their likely response is and whether their interests are compatible.
• Establish that the plan will promote some of the competitive benefits described by the Court as sometimes flowing from resale price maintenance – i.e., enhancement of interbrand competition, reduction of free riding, increasing service and fostering new entry.
• Address potential arbitrage. A Leegin plan in states that still outlaw resale price maintenance would be unsustainable. If a sufficient number of customers are able to switch to vendors in these states either directly or by shopping over the Internet, the Leegin plan may fail.
• Confirm that price discrimination will not upset the plan. While the Supreme Court said nothing about the Robinson-Patman Act, its encouragement of resale maintenance plans may create a nasty brew in markets where the influence of power buyers is already putting less favored resellers at a serious disadvantage and where the imposition of a resale maintenance plan may be more easily sustained by some resellers than by their rivals.

Some Possible Applications

One might consider using Leegin plans for short time frames. They may be particularly useful where initial demand is quite high and initial purchasers (first movers) are price insensitive. Once initial high-value demand is satisfied, lower the Leegin price to tap second tier high-value demand. Continue until all high-value demand is satisfied, and eliminate the plan entirely. The pricing and time frame would be dictated by the realities of the market, of course. For example:

• Many people purchased Daniel Powter’s single “Bad Day” via download. Few bought his album, though. The single was priced the same as all the other, less popular, songs on the album. One might consider selling the better singles from an album at a premium under a Leegin plan, dropping price over time.
• A few large chains are offering the last Harry Potter novel at a steep discount. Impose Leegin pricing restrictions for the first few months after release, and then drop to the next tier or eliminate the plan.
• Original automotive parts are frequently counterfeited and sold at a considerable discount. Consumer confusion is a major source of revenue for the counterfeiters. One might consider positioning the original parts as a “premium” substitute for the cheap counterfeits. Impose a Leegin plan. Any product sold for less than the Leegin price would be a counterfeit. This approach would work best where the counterfeits were significantly less reliable than the originals. If the products were true substitutes, premium branding may only drive consumers away faster.
• Leegin pricing is best suited for premium brands like BMW, Mercedes, Cadillac and Lexus, among others. Leegin pricing may eliminate complaints from competing same-brand dealers about discounting and free riding. Leegin pricing may also be used on individual vehicles within a badge where demand is high and purchasers are generally price insensitive, like the Toyota Prius, but where across-the-board price increases may not be tolerated.
• One might also use Leegin pricing for cutting-edge consumer electronics like the newest mobile phone (e.g., iPhone), LCD television, highest density memory chip or newest camera.

Incompatible State Law

Unless or until state laws dealing with resale price maintenance are brought into line with Leegin, the adoption of any nationwide resale maintenance plan would entail substantial risk. Until such changes occur, a manufacturer could consider several options. One is to ban sales to any entity within a state that has a per se rule against resale price maintenance. A second would be to create a hybrid Leegin/Colgate plan. Distributors in a per se state would be subject to Colgate restrictions. Distributors outside of those states would be subject to resale price maintenance. Consideration would also have to be given to reserving the Internet and other national distribution channels for the manufacturer.

If one does not keep control over those channels, consumers may be able to turn to distributors who are not subject to Leegin plans to arbitrage the price differences. Alternatively, a manufacturer could make the pricing merely suggested retail pricing in states where resale price maintenance is still per se illegal.

Some Afterthoughts

Many times distributors will have a better sense of demand for a product than manufacturers. If a manufacturer imposes an unwanted, and potentially unworkable, Leegin plan on a distributor, the initial response should always be a dialogue. The better the proof that an attempt to raise prices will drive consumers away and ultimately be unprofitable, the less likely the manufacturer will want to pursue it. Now that Dr. Miles is overruled, the dialogue between manufacturer and distributor over the appropriate downstream price is legal (and can be quite helpful). Certainly, care should be taken to avoid discussion of minimum resale price maintenance plans that effect consumers in a state where resale price maintenance is still per se illegal.

Of course, an ill-conceived and executed Leegin plan can raise potential liability issues. Absent market power, such plans, even if ill-conceived and executed, will likely not violate the Sherman Act under a Rule of Reason. It is important in these instances to be cognizant of the states in which the plan is active. If the Leegin plan affects competition in a state where resale price maintenance is still per se illegal and the manufacturer is unwilling to enter a dialogue, consider raising the issue with the local attorney general or bringing suit.

For further information, please contact:

Eugene J. Meigher
202.857.6048
meigher.eugene@arentfox.com

David H. Evans
202.857.6493
evans.david@arentfox.com