McDermott Will & Emery has a strategic alliance with MWE China Law Offices, a separate law firm based in Shanghai. This China Law Alert was authored by MWE China Law Offices lawyer Alex An.
A Shanghai court recently decided the first case involving vertical monopoly agreements (i.e., between supplier and distributor) since China’s Anti-Monopoly Law (AML) came into effect in 2008. Of note, the court found that resale price maintenance by itself does not constitute a monopoly agreement. However, given that other courts and AML enforcement authorities can impose fines for illegal resale price maintenance, market players should not assume the practice is legal in China.
On 18 May 2012, Johnson & Johnson (Shanghai) Medical Equipment Co. Ltd. and Johnson & Johnson (China) Medical Equipment Co. Ltd. (Johnson & Johnson) won a price monopoly lawsuit brought by a distributor, Beijing Rainbow Medical Equipment Technology & Trading Co. Ltd. (Rainbow). This case was the first anti-monopoly case involving vertical monopoly agreements (i.e., between supplier and distributor) since China’s Anti-Monopoly Law (AML) came into effect in August 2008. In particular, it concerned (amongst other things) the fixing of the minimum price at which the distributor could resell the product supplied by Johnson & Johnson, or resale price maintenance.
In January 2008, Johnson & Johnson entered into a distribution agreement with Rainbow that restricted Rainbow from selling the products outside its designated area and from selling below the minimum price as set by Johnson & Johnson (Set Price). Specifically, Johnson & Johnson issued a Designated Area Certification (授权区域证明书) that allowed Rainbow to sell within a certain area (Designated Area).
In March 2008, Rainbow was bidding for a project outside the Designated Area at a price that was lower than the Set Price. Johnson & Johnson terminated Rainbow’s distribution rights for the original Designated Area, then stopped supply of all products on the grounds that Rainbow was selling them below the Set Price and soliciting business from outside its Designated Area. Johnson & Johnson also confiscated the performance bond of RMB 20,000 that Rainbow deposited with Johnson & Johnson.
Rainbow subsequently filed a lawsuit alleging Johnson & Johnson had engaged in resale price maintenance with the purpose of eliminating competition, and thus violated Article 14.2 of the AML, and claiming damages in an amount of some RMB 14 million (approx. US$2.3 million).
Johnson & Johnson argued Rainbow’s lawsuit was groundless in both law and on the facts, claiming first that the concerned agreement had been entered into before the AML came into force. It asserted that the AML cannot be applicable retrospectively to the price clause with Rainbow. Second, in the alternative, it was argued that the agreement was not a “monopoly agreement” according to the AML, which defines it as “agreement … that may eliminate or restrict competition”. Johnson & Johnson submitted that competition was fierce in the market for the products related to the agreement and that Johnson & Johnson did not have a dominant market position, therefore the price mechanism in the agreement does not have an effect of restricting or eliminating competition.
Third, it was argued by Johnson & Johnson that the plaintiff Rainbow cannot properly be a plaintiff, because if the distribution agreement violated the AML, then Rainbow also violated the law. Rainbow and Johnson & Johnson entered into the agreement and executed it jointly, so the plaintiff also directly participated in and executed any monopoly agreement contrary to the AML. Without the involvement of the plaintiff, the defendant could not carry out an alleged monopoly agreement. Johnson & Johnson asserted the AML protects the market public order—the interests and rights of consumers and social public interests—however the AML does not protect the interests and rights of a participant and performer of a monopolistic practice. Finally, Johnson & Johnson argued that the dispute between the plaintiff and defendant is simply a contractual dispute, which has nothing to do with the AML, so the AML does not apply to this case.
The case was heard before Shanghai No. 1 Intermediate People’s Court (Court), which took the view that three conditions must be met to hold the defendant liable for a monopolistic conduct:
- The defendant engaged in monopolistic conduct.
- The plaintiff suffered damages.
- There is a causation between the monopolistic conduct and the damages.
In this Johnson & Johnson case, the distribution agreement indeed required a minimum resale price to be followed by Rainbow. However, the Court found that in order to determine whether such a provision is a monopoly agreement or not, it should be further considered whether the provision restricts or eliminates competition. Because Rainbow provided no evidence proving the market share of the product in the relevant market, of the level of competition in the relevant market, or of the supply situation and price changes in the relevant market, the Court took the view that Rainbow failed to meet its burden of proof. Furthermore, the Court also stated that Rainbow’s damages mainly resulted from the contract dispute between the parties, which had no direct relationship with the resale price maintenance clause in the contract. Based on the above reasons, the Court rejected Rainbow’s claims.
From the judgment, it can be seen that Shanghai No. 1 Intermediate Court holds the view that a resale price maintenance clause by itself is not a vertical monopoly agreement, so that resale price maintenance is not a per se violation of the AML. The Court seems to have taken the view that such a clause should not be deemed a monopoly agreement unless it is shown that the agreement restricts or eliminates competition.
At the same time, the Court also considered whether or not the defendant had a dominant market position. The Court may have been influenced by assertions there was no evidence regarding the defendant being dominant on the relevant market. However, the AML does not provide a market power or market share that would be deemed sufficiently high to restrict competition if there were a minimum resale price. While Article 15 of the AML provides for some exemptions from the AML for certain types of monopoly agreements, none of these exemptions are related to dominance or market power/share. Further, the Court did not give reasons in its judgment to justify why it allows what appears to be a direct violation of the AML: namely, resale price maintenance.
The last part of the judgement also puts into question whether any finding was clearly made by the Court with respect to resale price maintenance. By stating that Rainbow’s damages mainly resulted from the contract dispute between the parties, which had no direct relationship with the resale price maintenance clause, the Court could be saying its opinion on the AML aspects of the case were only observations that it may or may not follow in the future.
It is interesting to note that the judgment was made only some days before China’s Supreme People’s Court issued a new judicial interpretation of anti-monopoly disputes (Interpretation) on 1 June 2012. (For details of the Interpretation, see China’s Anti-Monopoly Law Makes it Easier to Sue in Cases of Anti-Competitive Conduct). Unlike horizontal agreements between competitors, this Interpretation did not provide any guidance on how to try a case related to vertical agreements, such as distribution agreements. For disputes concerning a horizontal monopoly agreement between competitors (such as an agreement involving price fixing, market-sharing or collective boycotts), the Interpretation shifts the burden of proof to the defendant to prove the agreement does not have any effect of eliminating or restricting competition. Whether this Interpretation might influence a court in a subsequent case involving resale price maintenance remains to be seen.
As a comparison to the decision of the Shanghai No. 1 Intermediate Court, there are at least two earlier cases of resale price maintenance involving the National Development and Reform Commission (NDRC), one of the enforcement authorities for the AML. In both cases resale price maintenance was considered as contrary to the AML without any suggestion that it must first be proven the agreement “may eliminate or restrict competition”. In March 2012 the NDRC was reported to have started an investigation after the State Administration of Radio, Film and Television (SARFT) planned to impose a price floor that would have prohibited the sale or resale of movie tickets at more than a 30 per cent discount. In another earlier case, in September 2010, the NDRC was reported to have required/requested the Publishers Association of China, the Books and Periodicals Distribution Association of China, and China Xinhua Bookstore Association to change a rule that prohibited internet retailers from selling new books at more than 15 per cent off the cover price and book retailers from selling new books published within a year at a discount. Both these cases demonstrate the NDRC considered resale price maintenance was contrary to the AML without necessarily undertaking an in-depth investigation proving that the resale price maintenance may restrict competition.
In view of the apparent approach of the NDRC, considerable care should be taken by market players in China before concluding that the decision of the Shanghai No. 1 Intermediate Court means resale price maintenance is legal unless a claimant can prove the resale price maintenance clause may restrict competition. Not only the courts but also the AML enforcement authorities can take action and impose heavy fines for illegal resale price maintenance. It should be remembered that the NDRC can impose administrative fines of up to 10 per cent of annual revenues for behaviour the NDRC considers a breach of the AML. At the same time, there is an absence of detailed guidelines by China’s enforcement authorities on many aspects of vertical agreements and none on resale price maintenance. Also, it should not be forgotten that the AML is very similar to EU competition law, and the EU Commission has, except in rare circumstances, for many years considered resale price maintenance as a “hardcore restriction” of competition (see for example para. 11 of EU Commission De Minimus Notice 2001/C368/07). In view of the above, based on a decision in one intermediate court, there would be a very real danger in concluding that retail price maintenance is acceptable in China except when it is proven that the resale price maintenance may restrict competition.