Online Distribution and Vertical Agreements: Insights from the EU
The internet provides a powerful tool to reach a large and diverse base of consumers. However, it also presents certain challenges for suppliers and manufacturers. For example, a manufacturer may have concerns about the impact of online discounting on the brand image of their products. This may provide an incentive for the manufacturer to restrict a distributor’s use of the internet to market and sell products. In fact, online auction giant eBay submitted to the Productivity Commission’s inquiry into the retail industry that exclusive distribution agreements were a key impediment to trading for many sellers on its website, with many manufacturers attempting to restrict online sales and suppliers imposing conditions on sales.
The ACCC states in its latest Compliance and Enforcement Policy that it will prioritise enforcement activity against conduct which may impede emerging competition between online traders or limit the ability of small businesses to effectively compete online. However, the Policy does not address the types of restrictions which will give rise to competition issues.
The EU has grappled with the protection of online competition against terms designed to prevent or discourage competition on this platform. While the European experience is not directly translatable to Australia due to some significant differences between EU and Australian law, the more detailed views provided by the European Commission provides some insights into online competition issues that have arisen in that jurisdiction. The European Commission’s Guidelines on Vertical Restraints (Guidelines) include a discussion of how European competition law applies to restrictions on online distribution.
The Guidelines state that ‘[i]n principle, every distributor must be allowed to use the internet to sell products.’ The types of restrictions on online distribution which the European Commission considers especially harmful (or “hardcore”) include agreements which:
- limit the proportion of overall sales a distributor can make over the internet;
- impose a higher price on the distributor for products which they intend to resell online (although a supplier may pay a fixed fee to the distributor to support their off-line activity); or
- require the distributor not to make ‘passive’ sales to customers outside a distributor’s exclusive territorial allocation. However, the supplier in an exclusive distribution agreement may require that a distributor not actively market to customers outside their territorial allocation.
According to the Guidelines, a supplier may impose conditions on distributors selling on the internet which are equivalent to those imposed on distributors selling off-line. They may also require that a distributor have at least one bricks and mortar outlet. However, any conditions imposed on distributors must be imposed for a legitimate purpose (e.g. to preserve the quality of service or to ensure proper consumer use of goods).
Under European law, agreements which have as their object or effect the prevention, restriction or distortion of competition within the European internal market are prima facie prohibited. An object offence will be established where conduct leads to the necessary consequence that competition will be restricted, regardless of the actual intention of the parties. This is determined with reference to the specific legal and economic context of the arrangement. As such, in the EU certain restrictions in agreements between firms operating in different functional levels of a market are prohibited regardless of their actual effect on competition. EU regulations provide a blanket exemption for arrangement between firms at different functional levels of the production or distribution chain with market shares below 30%. This is unless that restriction is a hardcore restriction, in which case the arrangement will not obtain the benefit of the vertical block exemption.
Australian competition law contains a broad restriction that captures vertical arrangements (as well as horizontal arrangements). This provision captures all contracts, agreements and understandings which would have the purpose or be likely to have the effect of substantially lessening competition in a market. Unfortunately, judicial consideration of the application of this provision to vertical arrangements has been limited. Many of the types of restrictions that the European Guidelines cover in their discussion of the internet could be considered a form of exclusive dealing. However, for the prohibition on exclusive dealing to apply, the restriction must have the purpose or likely effect of substantially lessening competition. If supplier concentration is low in the relevant market or there is rigorous inter-brand competition, an exclusive dealing arrangement will typically not have any such impact on competition.