Exclusive Dealing: Anticompetitive Considerations from a US and EU perspective

Exclusive dealing is a nuanced and often controversial practice in antitrust economics. While it can offer clear benefits to companies and consumers, it also has the potential to stifle competition and harm market dynamics. In this blog, we'll explore what exclusive dealing is, when it crosses the line into anti-competitive behavior, and how it is evaluated in the United States, the European Union, and the United Kingdom. By examining key legislation and important case law, we can better understand how authorities strike a balance between encouraging efficient business practices and maintaining competitive markets. To understand exclusive dealing, we need to start with a clear definition and a grasp of its implications.

What is Exclusive Dealing?

Exclusive dealing occurs when a supplier or manufacturer conditions its agreement with a buyer on the buyer's commitment to deal only with them, or to purchase a significant portion of their needs exclusively from that supplier. In simpler terms, the buyer agrees not to source certain products or services from competing suppliers. This kind of arrangement can take different forms, such as an exclusive supply contract, an exclusive distribution agreement, or a non-compete obligation.

Not all exclusive dealing agreements are harmful or illegal. In fact, many such arrangements can promote efficiency by incentivizing firms to invest in better product promotion, support services, and supply chain management. However, exclusive dealing can also have harmful effects, particularly when it is used by dominant firms to prevent competitors from gaining market access. When these arrangements are used to maintain or extend monopoly power, they can reduce consumer choice, increase prices, and stifle innovation.

U.S. Legislation on Exclusive Dealing

Antitrust law in the United States provides the legal framework for evaluating exclusive dealing. These laws aim to protect competition by preventing practices that could harm consumers and restrict market entry. In this section, we’ll outline the key pieces of legislation — including the Sherman Act, the Clayton Act, and the Federal Trade Commission Act — that regulate exclusive dealing and establish criteria for when such arrangements become illegal.

In the United States, exclusive dealing is addressed through three primary pieces of antitrust legislation, which form the basis for evaluating the legality of these agreements. Let’s take a closer look at the laws that play a central role in regulating exclusive dealing in the U.S.

1. The Sherman Act:
   The Sherman Act is one of the cornerstone pieces of U.S. antitrust law. Section 1 makes it illegal for companies to enter into agreements that restrain trade or commerce. This includes both horizontal and vertical restraints, like exclusive dealing, if they substantially harm competition. Section 2 addresses the issue of monopolization or attempts to monopolize. If exclusive dealing arrangements contribute to a company’s monopoly power or attempt to maintain such a monopoly, they could be in violation of this section.
2. The Clayton Act:
   The Clayton Act expands on the Sherman Act by addressing specific anti-competitive practices not covered by the Sherman Act. Section 3 of the Clayton Act is particularly relevant to exclusive dealing, as it prohibits contracts that may lessen competition or create monopolies. For exclusive dealing to violate this section, it must significantly restrict a competitor’s ability to compete in the marketplace or substantially lessen competition in a way that harms consumers.
3. The Federal Trade Commission (FTC) Act:
   The FTC Act empowers the Federal Trade Commission to prohibit “unfair methods of competition,” giving the agency a broad mandate to regulate practices that harm competition. Under Section 5, exclusive dealing agreements can be scrutinized if they’re deemed harmful to market competition, even if they don’t technically violate the Sherman or Clayton Acts.

These laws work together to provide a framework for identifying and addressing harmful exclusive dealing practices. Courts and regulatory agencies rely on these statutes to assess whether an exclusive dealing arrangement promotes efficiency or unfairly restricts competition.

Key U.S. Case Law Examples

When it comes to determining whether exclusive dealing is anti-competitive, case law provides critical insights. Courts have interpreted exclusive dealing agreements in a variety of ways, and several landmark cases in U.S. antitrust law have helped shape the understanding of these agreements. Let’s take a look at some of the key cases:

1. U.S. Healthcare, Inc. v. Healthsource, Inc. (1993):
   In this case, Healthsource entered into exclusivity contracts with 25% of New Hampshire’s primary care doctors. The court found no violation of the Sherman Act, reasoning that the plaintiff couldn’t show that the exclusivity agreements significantly foreclosed competitors from accessing the market. This case demonstrates that to successfully challenge exclusive dealing under U.S. law, plaintiffs must prove that the agreement has a substantial and unreasonable effect on competition.
2. Omega Environmental, Inc. v. Gilbarco, Inc. (1997):
   Omega sued Gilbarco for refusing to sell equipment to retailers who also carried products from competing manufacturers. The court ruled that the arrangement did not violate the Clayton Act, noting that it only affected about 38% of the market and that the agreement was short-term and could be terminated easily. This case highlights that the duration and market impact of exclusive agreements are critical factors in evaluating their legality.
3. United States v. Microsoft Corp. (2001):
   In this high-profile case, Microsoft was accused of using exclusive agreements to maintain its monopoly over PC operating systems. The court ruled that these exclusive deals violated Section 2 of the Sherman Act because they helped Microsoft extend its monopoly in the operating system market, even though the company failed to provide valid business justifications for the exclusivity. This case underscores that exclusive dealing agreements can be deemed illegal if they serve to entrench monopoly power without legitimate business reasons.
4. Stop & Shop Supermarket Co. v. Blue Cross & Blue Shield of R.I. (2004):
   In this case, the court suggested that foreclosure levels below 30-40% are unlikely to be of concern. This decision provides a benchmark for courts to evaluate the impact of exclusive dealing on competition, indicating that low levels of market foreclosure may not raise significant concerns.
5. United States v. Dentsply International, Inc. (2005):
   Dentsply’s policy required dealers to only carry its products, thereby preventing competitors from gaining a foothold in the market for dental supplies. The court ruled that even short-term, informal exclusive deals could violate antitrust laws if they had the effect of maintaining a monopoly. This case reinforces the principle that the impact of exclusive dealing arrangements matters more than their duration.

The Department of Justice (DoJ) guidelines also provide helpful insights into when exclusive dealing is likely to violate antitrust laws. If exclusive arrangements restrict less than 30% of the market, they are less likely to be deemed anti-competitive. However, plaintiffs must demonstrate that the anti-competitive effects of the agreement outweigh the potential benefits it provides, such as more efficient distribution or better product promotion. These guidelines help ensure that exclusive deals are only challenged when they genuinely harm competition.

How Do Courts Assess Exclusive Dealing?

When evaluating exclusive dealing agreements, courts use a set of established criteria to determine whether an arrangement harms competition. This section explains the key factors courts consider, such as the percentage of market foreclosure, the firm’s market power, and the net effects of the agreement. Understanding these criteria is essential for determining whether an exclusive dealing practice crosses the line from beneficial to harmful.

1. Market Foreclosure Test:
   This test evaluates how much of the market is effectively closed off to competitors by the exclusive agreement. If a significant portion — usually more than 30% — is blocked, the arrangement may be anti-competitive. The idea is that if competitors are unable to access key distribution channels or suppliers, they may be unable to compete effectively.
2. Market Power Test:
   This test assesses whether the firm imposing the exclusive dealing agreement has significant market power. A company with more than 50% of the market share is often seen as possessing monopoly power. If such a company enters into exclusive arrangements, these deals are more likely to harm competition by excluding rivals and maintaining the company’s dominant position.
3. Net Effects Test:
   This test involves a comprehensive analysis of the overall effects of the agreement on the market. Economists weigh both the pro-competitive benefits (such as improved distribution or marketing) against the potential harms (like reduced competition, higher prices, or lower innovation). If the negative effects outweigh the benefits, the agreement is likely to be illegal.

Ultimately, the primary concern of any antitrust law is whether consumers are harmed. If exclusive dealing leads to higher prices, less choice, or reduced innovation, it is likely to be deemed anti-competitive. The consumer welfare standard ensures that antitrust laws prioritize the interests of the public.

We can attempt to put the complex process of evaluating exclusive dealing arrangements in a few steps, and here’s how it would look:

Step 1: Does the agreement restrict competition?

Step 2: Does the agreement block more than 30% of the market?

Step 3: Does the firm have market power (i.e., more than 50% of the market)?

Step 4: Do the anti-competitive effects outweigh the pro-competitive benefits?

Step 5: Is there harm to consumer output or an increase in prices?

Exclusive Dealing in the EU and UK

Exclusive dealing in the EU and UK is subject to similar rules as in the U.S., but the regulatory frameworks differ. Most exclusive agreements in the EU and UK are considered vertical agreements, meaning they are between companies at different stages of the supply chain. These agreements can foster efficiency and innovation, but they also pose risks. The main concerns include:

• Foreclosure of competitors: If exclusive arrangements block key players from entering the market, they may inhibit competition.
• Reduction of intra-brand competition: Exclusive dealing can reduce competition between sellers of the same brand, which can harm consumers by limiting choices.

Understanding these risks is essential for regulators to assess whether the benefits of exclusive dealing outweigh its potential harms. In the European Union and the United Kingdom, exclusive dealing is governed by similar principles, though the legal framework differs slightly.

Key Legislation

• Article 101 of the Treaty on the Functioning of the European Union (TFEU) prohibits anti-competitive agreements but allows exemptions if the agreements produce economic benefits that outweigh their restrictive effects.
• Article 102 of the TFEU prohibits firms with a dominant market position from engaging in abusive practices, including exclusive dealing.
• The UK Competition Act 1998 mirrors these provisions, ensuring consistency between UK and EU competition law.

The Vertical Agreements Block Exemption (VABE)

The VABE provides a safe harbor for most vertical agreements, such as exclusive dealing, if certain conditions are met. Specifically, the market share of each party to the agreement must be below 30%, and the agreement must not contain any "hardcore restrictions" like price-fixing. Non-compete obligations lasting more than five years are generally excluded from this exemption.

Notable EU and UK Cases

Case law in the EU and UK illustrates how courts apply competition rules to exclusive dealing practices. In this section, we’ll review significant cases like Tomra Systems v. European Commission, Gascoigne Halman v. Agents’ Mutual, and the Amazon and Apple investigation. These cases shed light on how European and UK courts balance the potential harms and benefits of exclusive dealing, and they offer insights into the legal standards applied in different contexts.

1. Tomra Systems ASA v. European Commission (2010):
   Tomra, a manufacturer of reverse vending machines, entered into exclusivity agreements that foreclosed 40% of the market. The court ruled this level of foreclosure was considerable and anti-competitive.
2. Gascoigne Halman v. Agents’ Mutual (2019):
   In this UK case, an estate agent’s agreement to list properties on a single portal was found to be lawful. The court ruled that the agreement did not harm competition because the firm did not have significant market power, and the arrangement supported a new market entrant.
3. Amazon and Apple (2017):
   Following an investigation, Apple and Amazon ended an exclusivity deal that made Audible the sole provider of audiobooks on iTunes. The European Commission welcomed the termination, noting it restored competition in the audiobook market.

Exclusive dealing represents a balancing act between promoting efficiency and preventing anti-competitive harm. When used responsibly, these agreements can improve product distribution and benefit consumers. However, when they restrict market access for competitors, they can entrench monopolies and reduce consumer choice. Antitrust laws in the U.S., EU, and UK provide frameworks to identify and curb harmful exclusive dealing while allowing pro-competitive practices to thrive. By understanding these legal principles and case precedents, businesses and regulators can better navigate the fine line between efficiency and competition.