European Union: Modernising the Law on Vertical Agreements

In summary

Important developments concerning vertical restraints in the European Union are expected to emerge from the European Commission’s revision of the Vertical Block Exemption Regulation and the Guidelines on Vertical Restraints. Several stakeholders have provided their feedback, highlighting the need for reform that reflects the most recent developments in case law, provides more legal certainty and takes stock of how the market has developed. The Commission is considering several options to update the rule book on vertical restraints so that it offers clear guidance to companies in the self-assessment of their agreements.

Discussion points

• Revising the VBER will entail balancing false positives and false negatives
• Legal framework should be flexible enough to capture future market developments
• A more economic approach implies heightened reliance on economic evidence
• Limited guidance for self-assessment results in legal uncertainty

Referenced in this article

• Cases AT 40413, AT 40414, AT 40420, AT 40422, AT 40424, Video Games
• Case C-228/18, Budapest Bank, EU:C:2020:265
• Case AT 40528, Melia
• Case C-307/18, Generics, EU:C:2020:52
• Case AT 40433, Film merchandise
• Case AT 40436, Ancillary sports merchandise
• Case AT 40428, Guess
• Case AT 40465, Asus

Introduction

Major developments in respect of vertical agreements expected in the years to come have been put in motion over the past few years. Some major aspects that will be introduced by the reform of the vertical rules are a more economic treatment of resale price maintenance (RPM), a distinction between permitted and forbidden most-favoured-nation (MFN) clauses and guidance on the admissibility of online sales restrictions for all product categories.

The European Commission (EC) conducted an evaluation of Commission Regulation No. 330/2010^[1] (VBER) and the Guidelines on Vertical Restraints (the Vertical Guidelines). The EC findings were boiled down in a staff working document (the staff working document),^[2] which underscores the need for a revision of the legal framework to better reflect recent market changes and facilitate self-assessment. The new set of rules is expected to be adopted by March 2022.

The review process is in full swing, and over the past few years the EC has gathered feedback from member states’ competition authorities (NCAs) and interested third parties. The EC asked for feedback on the inception impact assessment, which summarises the main areas for a potential revision of the VBER, and launched a four-month public consultation.

The main concerns raised by interested parties were RPM clauses, MFN clauses, dual distribution relationships, agency distribution agreements, online sales restrictions (including in respect of search advertising and price comparison), agreements pursuing sustainability objectives and non-compete clauses.

The EC will focus on those topics in its review of the VBER and of the Vertical Guidelines. Those are the areas where the main recent changes happened in respect of vertical restraints and where the most important future developments are likely to occur.

In addition to providing clarifications, the EC is considering extending the VBER (eg, to online sales restrictions) and to exclude certain practices from the block exemption (eg, MFN clauses) in the interest of providing businesses with more legal certainty and reducing the likelihood of anticompetitive effects arising from vertical agreements.

Proposals for review

RPM restrictions

RPM restrictions refer to clauses whereby a supplier sets a fixed or minimum price at which the distributor can resell its product. RPM clauses are considered to be hardcore restrictions and do not benefit from the safe harbour provided by the VBER. As a result, the decisional practice of the EC is adamant in categorising RPMs as unlawful,^[3] which resulted in general avoidance of RPM clauses, including pro-competitive ones.

As the Vertical Guidelines recognise, however, certain RPM clauses may lead to efficiencies, such as when they relate to the launch of a new product (to increase demand) or to avoid the undercutting of a coordinated short-term, low-price campaign. Recent economic thinking ascribes a number of pro-competitive effects of RPM clauses. For example, by guaranteeing a minimum gross mark-up for retailers, they reduce freeriding and incentivise investments in pre-sale services. This may facilitate the launch of a new product as customers are more willing to pay a premium for a retail pre-sale service when they are not familiar with the characteristics of newly produced goods. RPM may also reduce issues of double mark-up, which would otherwise reduce the quantity of products sold by retailers.

The increasing awareness of the economic benefits entailed by RPM is likely to act as a catalyst for changes to the VBER and the Vertical Guidelines. The rigid approach that seemed carved in stone under the EC’s decisional practice can conceivably have a new outlook, particularly in light of recent developments in the case law of the EU courts.

EU courts have recently established that an analysis of the economic and legal context is necessary to determine whether an infringement can be considered by object. In Budapest Bank, the Court of Justice of the European Union (CJEU) concluded that an in-depth examination must be carried out when there are strong indications suggesting that an agreement is capable of having pro-competitive or at least ambivalent effects on competition. The counterfactual represented by the absence of the agreement must be taken into consideration before prematurely concluding a restriction by object.^[4]

In Generics, the CJEU held that agreements with the object of restricting competition (and for which an assessment of their effects would not be necessary) can only be considered as such when they clearly reveal a sufficient degree of harm to competition, taking into account the nature of the products or services affected and the correlated market structure.^[5]

Those rulings confirm that even restrictions which would prima facie be seen as hardcore may fall outside the scope of article 101(1) of the Treaty on the Functioning of the European Union (TFEU). Against this background, any pro-competitive effects should be taken into account.

The EC will have to reconcile the treatment of RPMs under the revised VBER and the Vertical Guidelines with this case law, in view of the pro-competitive effects that they have proven to generate. The outright prohibition of RPMs now appears to be too rigorous, and the current lack of guidance on the circumstances under which efficiencies may be argued suggest the need for a review. This is the most sought-after among the various areas of intervention as RPMs have been gaining momentum over the past few years and are set to be prioritised in the agendas of NCAs.^[6]

The EC acknowledged the need for a more lenient approach to RPM restrictions in its staff working document,^[7] and it suggests doing so by providing more clarity on the efficiencies that RPMs can generate to benefit from the exemption of article 101(3) of the TFEU.^[8] The removal of RPMs from the list of hardcore restrictions, and a transition to a more effects-based approach, would be welcomed.

Alternatively, the EC should further elaborate on the exceptions to the prohibition (eg, on the definition of ‘new products’ and the acceptable duration of RPMs for their launch), taking into account the evidence supporting pro-competitive effects. Particularly where RPMs are limited in time and effects, to promote products requiring significant investments or adopted in markets with strong inter-brand competition, a case-by-case analysis of the effects is likely to view those clauses as acceptable from a competition perspective.

A midway solution would be to provide for a specific de minimis threshold applicable to RPMs. This would allow smaller businesses to benefit from the efficiencies of RPMs in markets where inter-brand competition is likely significant (or there is an interest in strengthening it) and anti-competitive effects from the use of RPMs are unlikely or immaterial.

A tangential area where the EC is expected to clarify its stance is in respect of recommended or maximum resale prices, price ranges, and possibly fixed resale prices used as an alternative to (and with similar effects as) maximum resale prices. In particular, the reference to pressure or incentives making use of recommended or maximum resale prices falling outside the application of the VBER is in need of clarification.^[9] The EC is also expected to provide guidance on restrictions on the maximum level of discounts (along the lines of RPM clauses).^[10]

MFN clauses

MFN or parity clauses require a company to offer the same or better (price and non-price) conditions (eg, on inventory, availability, quality and choice) to its contract party as it offers on other sales channels (including on the company’s own direct sales channels).

NCAs have identified anti-competitive effects of those clauses, particularly when they cover competing (online) platforms and intermediaries.^[11] Using MFNs, platforms may restrict a supplier’s ability to offer better terms elsewhere and, in turn, reduce the competitiveness of rival platforms.

The EC acknowledged the uncertainty surrounding the effects and the treatment of MFNs and is expected to provide more guidance.^[12] Uncertainty has resulted in inconsistencies in national antitrust enforcement.

In Germany, a decision of the Federal Cartel Office banned both wide and narrow MFNs on the basis that these restricted competition between online travel agencies and hotels and discouraged hotels from reducing their prices on competing platforms. The decision was later overturned by the Düsseldorf Higher Regional Court, which took the view that narrow MFNs may serve as ancillary restraints to the agreement between online travel agencies and hotels, thereby falling outside the scope of article 101(1) of the TFEU.^[13]

In France, the French Competition Authority accepted commitments from an online travel agency to drop wide MFNs and maintain the right to use narrow MFNs. The ‘Macron Law’ later extended the prohibition to also cover narrow MFNs.^[14]

Similarly, Austria and Italy have adopted strict approaches towards MFNs at the legislative level. The Austrian parliament passed a bill to ban all types of price parity clauses in the hotel industry, pursuant to which online travel agencies will not be able to restrict the prices that hotel operators offer on alternative channels, online and offline.

The Italian Competition Authority allowed narrow MFNs to be applied by online travel agencies in a commitment decision.^[15] Wide and narrow MFNs were subsequently banned by law.^[16]

The Belgian Competition Authority also carried out an investigation on a real estate online portal over its MFN clauses used in contracts with software developers who listed real estate announcements on its website. However, the investigation was later closed following the online portal’s commitments to remove all MFN clauses from its agreements and to refrain from including those restrictions over a period of five years.^[17]

NCAs in Sweden and the United Kingdom have been allowing narrow MFNs but banning wide MFNs. The Swedish Competition Authority investigated an online travel agency over MFN clauses imposed on hotels and accepted commitments to narrow MFNs so that they apply solely to prices offered by hotels on their website, thereby leaving them free to determine prices and conditions to offer to other online travel agencies and offline channels.^[18]

The UK Competition and Markets Authority launched an investigation into wide MFN clauses used by a price comparison website in 2017. The company was found to have breached competition law as it prevented home insurers from offering lower prices on other comparison websites. It was ultimately fined.^[19] Narrow MFNs were left outside the scope of the decision.

In the midst of this context, a number of online travel agencies voluntarily extended their commitments to certain NCAs not to impose price parity clauses in their agreements with hotels; this conservative approach was likely dictated by the uncertainty on how MFNs would be treated.^[20]

In light of this divergence among NCAs, the EC is expected to take a stance and provide clarity on the assessment of MFNs, including on the distinction between wide and narrow MFNs.^[21]

Against this background, the EC will have to decide whether to include in the list of restrictions excluded from the VBER obligations that require parity relative to specific types of sales channels or all sales channels. Depending on the approach, the EC may allow certain (narrow) MFN clauses to be exempted (eg, as they relate solely to the supplier’s own direct sales channels) on the basis that they are more likely to create efficiencies than anticompetitive effects.

Dual distribution relationships

The growing importance of e-commerce has reduced the distance between companies and customers, and manufacturers have been increasingly developing their online presence. By establishing their own online sales channel, upstream producers are, in many instances, competing directly with downstream retailers.

Dual distribution occurs when manufacturers distribute both directly to end customers (through their own platforms) and through independent distributors. In those cases, the manufacturer is active both at the production and at the retail level, thereby competing with its distributors. Dual distribution relationships could, therefore, be considered (horizontal) agreements between competitors.

Companies engaging in dual distribution are in a peculiar position from a competition law standpoint as they compete with other manufacturers at the upstream production level and with their distributors at the downstream distribution level. This position may prove particularly intricate when it comes to the assessment of information exchange between the manufacturer and the distributor.

Article 2(4) of the VBER provides an exception for dual distribution. When the VBER was adopted, this exemption was expected to have limited scope and apply in cases where the retail activities of suppliers were negligible and unlikely to give rise to horizontal competition concerns. With the growth of online commerce, the relevance of dual distribution has increased significantly. The question now is whether this exemption is still justified and, if so, whether its scope should be reconsidered.

As information exchange effectively takes place between retail competitors, there is uncertainty on the extent to which sharing sensitive commercial information in the context of dual distribution can be admissible and, more specifically, whether the vertical dimension should prevail over the horizontal one when identifying applicable rules.^[22] The exchange of information within this context can be considered neutral or pro-competitive for a number of reasons: it offers an opportunity to the manufacturer to monitor the performance of its retailers and allows the manufacturer to tailor its behaviour and better anticipate and react to market changes.

Protocols for information exchange in the context of a dual distribution should take this into account and set out to what extent a distributor can provide information to the manufacturer regarding its retail sales and stocks of the manufacturer’s products. This would, in turn, facilitate the manufacturer’s identification of an effective strategy when planning production and distribution strategy, thereby leading to better adaptation to market needs and fostering innovation.

Market participants have also noted that the scope of article 4 of the VBER is too narrow as it does not encompass market players perceived to be in a comparable dual distribution situation to that of manufacturers, such as wholesalers and importers.

In this context, the EC is considering whether to remove the exemption altogether. However, the removal tout court would result in a material increase in the cost of doing business, owing to the reduction in legal certainty and increasing prevalence of this type of relationship.

The EC may instead limit the scope of the dual distribution exception to cases in which concerns are unlikely, for example, by introducing a market share threshold at the retail level. The threshold would allow a line to be drawn between scenarios where horizontal issues are unlikely or negligible and those where concerns should be assessed under the provisions on horizontal agreements.

Agency distribution

During the evaluation phase, a number of stakeholders advocated for additional clarity on a number of aspects regarding agency distribution agreements.^[23] Many digital platforms are using agency models, for example, to allow suppliers tighter controls over pricing. But there is increasing uncertainty on whether those agency models are genuine.^[24] The EC is called to provide guidance on the criteria to determine whether distribution agreements with new forms of modern intermediaries constitute genuine agency agreements.

The emergence of new business models (eg, pure marketplaces or fulfilment wholesalers) bears the question of whether the existing framework captures all possible circumstances. Agency agreements will be considered genuine only when the agent is not responsible for the risks arising from activities carried out on behalf of the principal. When it comes to online platforms, the assessment of the risk borne by the intermediary or the agent hinges on a factual analysis of the investments that have been made and the activities that will be undertaken.

In February 2021, the EC published a paper seeking to clarify how article 101 of the TFEU may be applied to situations where a distributor also acts as agent on behalf of the same supplier. In those circumstances, an agent may be incentivised to price the products sold as an independent distributor the same way as those sold under the agency agreement (for which the supplier decides the pricing policy).

A similar concern encompasses the distinction between investments as distributor, for which the supplier is not responsible, and market-specific investments relating to the agency function, which should be reimbursed by the supplier or principal.^[25] Whenever a clear distinction between the agency-related activities and those concerning the distribution is not possible, there is a risk of the agent or distributor being influenced by the terms of the agency agreement, particularly regarding price setting, also for the products it distributes independently. This may result in the agreement falling within the scope of article 101(1) of the TFEU.^[26]

The EC will have to clarify what risks the agent can bear while preserving its status as a single economic unit together with the principal, such as those relating to discounts and after-sales policies. A well-defined frame of reference will undoubtedly generate ripple effects on existing and future agency relationships.

Online sales restrictions

The EC considers online sales as a form of passive sales, and a full ban falls within the category of hardcore restrictions and does not benefit from the safe harbour provided by the VBER. This rigorous approach is applied to a wide range of online restrictions. The rationale being that by limiting online sales, consumers are deprived of the possibility to have a greater choice and lower prices.

Restrictions of online sales may, however, take more attenuate forms and be limited to the imposition of qualitative criteria in selective distribution systems. This was the object of a recent judgment by the CJEU.^[27] The expectation is that the EC will reflect this judgment in the revised VBER, determining the extent to which the exception to online sales restrictions also applies to sectors other than luxury. On this subject, CJEU judge Nils Wahl, who served as advocate general in the proceedings, stressed that the scope of the ruling should also cover high-end (not just luxury) products.^[28]

Brick-and-mortar shops are left with little incentive to invest in promoting a product if online distributors that focus mainly on price and do not offer comparable pre-sales services are able to freeride on their investments. The main pro-competitive efficiency of online sales restrictions is the promotion of investments by or in brick-and-mortar shops (eg, in the form of differentiated remuneration depending on the channel or different levels of discounts).^[29] This increases choice for consumers and the variety of inter- and intra-brand competition.

At the same time, the protection of a supplier’s brand image, which is usually the justification for online sales or online platform bans, may be used as a pretext to reduce the number of online sellers and limit price transparency and price competition.

As price competition cannot be presumed to be more beneficial than quality competition, and given the broad spectrum of online sales restrictions, a case-by-case analysis is probably the best approach to determine whether a specific restriction could be objectively justified. Guidance is expected from the EC.

The EC is also looking at two types of indirect measures making online sales more difficult and categorised as hardcore restrictions by the Vertical Guidelines:

• dual pricing: charging the same distributor a higher wholesale price for products intended to be sold online than for products sold offline; and
• equivalence principle: imposing criteria for online sales that are not equivalent to criteria imposed for sales in physical shops in the context of selective distribution.^[30]

The possibility to instantaneously obtain and compare product and price information online poses a risk of freeriding on the investments of brick-and-mortar shops. Stakeholders have, therefore, asked the EC to rethink the rules on dual pricing, which prevent them from incentivising investments in physical stores by not allowing them to differentiate wholesale prices based on the costs of each channel. The expectation is that the new VBER will include a specific exemption for dual pricing, and the Vertical Guidelines will explain under which circumstances dual pricing may amount to a ban on online sales.

On a related point, the EC has also noted that existing vertical rules lack adequate provisions on the assessment of restrictions to the use of price comparison websites and online search advertising. The EC anticipated a stringent approach towards price comparison websites bans as they appear less likely to have pro-competitive effects than online platform bans.^[31] Similarly, online search advertising is seen as facilitating entry and expansion by smaller companies, and any restriction to its use is likely to fall within the scope of article 101(1) of the TFEU.^[32]

In Guess,^[33] which sets the first EU precedent on online advertising, the EC found that the implementation by a clothing company of a strategy aimed at controlling the expansion of online sales by its independent distributors through the restriction of the online use of its brand names and trademark as keywords for the purposes of online search advertising amounted to a by-object restriction, as they led to the partitioning of the national markets in the European Union. The EC did not clarify whether different types of restrictions in the online search advertising space would be admissible, and it is expected that the EC will take the opportunity of the VBER reform to do so.

The EC announced draft changes to EU antitrust rules governing online sales for retailers and makers of consumer goods such as perfume, sportswear and electronics by May 2021. The EC will not wait to complete the review process of the VBER as it considers providing rules and guidance on online sales a priority given the growth of e-commerce during the covid-19 pandemic.

Finally, the revised legal framework appraising online sales restriction will be, in all likelihood, harmonised with the Geo-blocking Regulation^[34] in view of recent decisional practice. The EC prohibited ‘geo-blocking’ restrictions in the Guess case mentioned above, where retailers in a selective distribution system were prohibited from certain online selling and advertising activities and from selling cross-border. The EC concluded that this led to the partitioning of the European market and to artificially high retail prices, in particular in central and eastern European countries.

More recently, the EC fined a number of PC video game publishers that were found to have contractually restricted cross-border sales of their products on the basis of the geographical location of their users,^[35] as well as a hotel group for having imposed clauses on tour operators aimed at discriminating between consumers based on their country of residence.^[36]

Restrictions of cross-border sales in licensing agreements have also been thoroughly examined by the EC in a number of recent cases started after its e-commerce sector inquiry.^[37] Sanctioned companies had implemented direct territorial restrictions (eg, obligations to refer orders beyond designated areas) and indirect measures that would allow them to ensure compliance with those restrictions (eg, audits).

Agreements favouring sustainability objectives

In recent years, there have been increasing discussions on whether fostering sustainability objectives could be considered an objective justification to otherwise anticompetitive agreements.

In line with the objectives of the European Green Deal, the EC is expected to include specific considerations on sustainability objectives and how best to achieve them in an antitrust-compliant manner. With the adoption of new rules and guidelines on vertical agreements, the EC has the opportunity to take a proactive approach to promoting sustainability through EU competition policy. An integration of the VBER with provisions relating to efficiency arguments under article 101(3) of the TFEU^[38] would appear as the more practical functional approach.

Non-compete clauses

Another change being considered relates to non-compete obligations. Currently, non-compete clauses of indefinite duration or exceeding five years are excluded from the VBER and require self-assessment under article 101 of the TFEU. Tacitly renewable non-compete obligations beyond a period of five years are deemed to be for an indefinite duration.

The main competition concerns relating to non-compete obligations stem from their capacity to reduce competition between competing brands sold through the same channel (eg, retail store or online marketplace).

The EC’s evaluation indicated that the exclusion may be too broad and cover non-compete clauses that satisfy the conditions of article 101(3) of the TFEU, thereby creating an unnecessary administrative burden for businesses. In particular, the EC refers to tacitly renewable non-compete obligations where the buyer has the right to terminate or renegotiate the agreement at any time. In those cases, the current approach would require a periodic renegotiation of contracts, despite the parties’ willingness to continue their relationship beyond five years, which translates in unjustifiable transaction costs.

The EC is, therefore, considering whether to block-exempt tacitly renewable non-compete obligations for the duration of the agreement, provided that the buyer can terminate or renegotiate the agreement at any time with a reasonable notice period and at reasonable cost. This is a welcome and pragmatic solution given the unlikely impact of those clauses on competition whenever the agreement can be terminated on short notice.

Conclusion

Significant market developments and changes to the decisional practice of the EC and of the NCAs, as well as novelties in the jurisprudence of national and EU courts have resulted in the need to revise the VBER and the Vertical Guidelines. The competitive landscape has changed significantly since their adoption in 2010, and the EC is now aligning the law and guidance with the practice, with the difficult task of devising rules that will withstand the test of time.

The feedback received suggests that the current legal framework is useful to navigate the concerns relating to possible vertical restraints, but some uncertainty remains regarding a number of admissible practices (eg, online sales restrictions in light of the judgment in Case C-230/16). Hence, the revised VBER and Vertical Guidelines are expected to provide more guidance and legal certainty to vertical relationships.

While the current set of rules have proved to effectively capture the vast majority of business practices and adequately discern between lawful and unlawful behaviour, in revising the VBER the EC is expected to focus on reducing false positives of current rules (eg, RPM and MFN clauses) and clarify rules whose importance has increased over time (eg, dual distribution relationships).

The expectation is that the revised VBER and Vertical Guidelines will provide the necessary legal certainty to foster the establishment of innovative business relationships under the aegis of a coherent and modernised regulatory framework.

Notes