Cases and Precedents: Vertical Restraints

Overview

The Competition Act, 2002 (Competition Act) is the primary Indian law dealing with vertical restraints. The Competition Act seeks to prohibit only those vertical restraints that cause, or are likely to cause, an appreciable adverse effect on competition (AAEC) in India – with the larger objective of promoting and sustaining competition in markets.

Types of conduct

The Competition Act contains a non-exhaustive list of vertical agreements that may be prohibited only if, upon an investigation, the CCI can establish that they cause, or are likely to cause, an AAEC in India. The types of vertical restraints expressly identified in the Competition Act include:

  • tie-in arrangements: a purchaser of goods is required to purchase any other goods as a condition of purchase;
  • exclusive supply agreements: which restrict, in any manner, the purchaser from acquiring or otherwise dealing with the goods of the seller or any person;
  • exclusive distribution agreements: which limit, restrict or withhold the supply of goods or allocate any area or market for the disposal or sale of goods;
  • refusal to deal: which restricts, or is likely to restrict, by any method, the person or persons from or to whom goods are bought and sold; and
  • resale price maintenance: any agreement wherein goods are sold on the condition that the resale price shall be the price stipulated by the seller, unless clearly stated that prices lower than those prices may be charged.

Jurisdiction

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restrictions, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the National Company Appellate Tribunal (NCLAT); and decisions of the NCLAT may then be contested before the Supreme Court of India.

Who is covered

The prohibition on vertical restraints applies to all “enterprises”, including public entities performing non-sovereign economic functions. Sovereign functions of the government include activities of the government dealing with atomic energy, currency, defence, space etc. In other words, if a public entity is engaged in an economic activity, its conduct would be subject to scrutiny under the Competition Act.

The CCI can assume jurisdiction over enterprises located outside India, so long as the vertical restrictions imposed by such enterprises impact competitive conditions in India. The CCI often probes enterprises domiciled outside India. For example, in 2011, the CCI dismissed on merits the allegations of vertical restrictions allegedly imposed by Intel Corporation (a Delaware corporation) and its Indian subsidiary by fixing targets and incentives, restricting distributors from dealing with competitors’ products and determining the resale price for their distributors. Even in a pure internet context, the CCI will have jurisdiction to assess extraterritorial vertical restrictions if it considers such restrictions to impact the conditions of competition in India.

Framework of assessment

The CCI is required to weigh the likely pro-competitive benefits against the potential anticompetitive harm arising from a vertical restriction. The likely anticompetitive harms that the CCI may examine include:

  • creation of barriers to new entrants in the market;
  • driving existing competitors out of the market; and
  • foreclosure of competition by hindering entry into the market.

The pro-competitive benefits that the CCI is likely to examine to see if they offset the anticompetitive harms arising out of a vertical restraint, include:

  • accrual of benefits to consumers;
  • improvements in production or distribution of goods or provision of services; and
  • promotion of technical, scientific and economic development by means of
  • production or distribution of goods or provision of services.

The Competition Act does not expressly require the CCI to consider the market share of the supplier while assessing vertical restraints. In practice, the CCI typically only finds vertical restrictions to raise concerns when they are enforced by enterprises enjoying some degree of market power. On several occasions, the CCI has summarily rejected allegations of vertical restraints where the suppliers’ market shares were insignificant. The CCI dismissed allegations of resale price maintenance against manufacturers of Vivo mobile handsets in India on account of low (and declining) market shares, low turnover and high degree of inter-brand competition in the Indian smartphone market (Tamil Nadu Consumer Products Distributors Association v Fangs Technology Private Limited (Case No. 15 of 2018)). Equally, the CCI has considered the presence of other players in the market to infer that inter-brand competition in the FMCG sector was not affected (Ghanshyam Dass Vij v Bajaj Corp Ltd & Ors (Case No. 68 of 2013)).

Penalty

The CCI may directly penalise erring enterprises and need not approach a court to enforce its decisions. For anticompetitive vertical restrictions, the CCI can levy a penalty up to 10% of the average relevant turnover for three preceding financial years (from the date of the CCI’s decision) of the contravening enterprise. Equally, the CCI may direct the erring enterprise to cease and desist from carrying on with the anticompetitive vertical restraint and change their business practices. Notably, the CCI can also penalise the individual office holders responsible for the conduct of the business of the enterprise found guilty of contravening the provisions of the Competition Act.

Non-selective distribution

Relevant legislation

The Competition Act is the primary Indian law dealing with vertical restraints. Exclusive distribution agreements are defined under section 3(4)(c) of the Competition Act and include all agreements aimed at limiting, restricting or witholding the output or supply of any goods or allocate any area or market for the disposal or sale of the goods. Further, the CCI has described an exclusive distribution agreement as an arrangement between the supplier and distributor wherein the distributor sells the products within a defined area or to a particular group or category of customers. As with other vertical restraints specified under the Competition Act, exclusive distribution agreements including territorial restrictions or selective distribution are not treated as per se anticompetitive and require a rule of reason analysis for actual or potential AAEC which may be attributed to them.

Regulators

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restraints, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the NCLAT; and decisions of the NCLAT may then be contested before the Supreme Court of India.

Principles

Exclusive distribution agreements have to be assessed for actual or potential AAEC under a rule of reason approach, based on factors provided under section 19(3) of the Competition Act. These factors include both potential anticompetitive effects that may be caused by the exclusive distribution agreement (such as creation of entry barriers for new entrants; driving out existing competitors; and market foreclosure); and pro-competitive benefits (such as consumer benefit; improvement in production of goods or provision of services; and technical, scientific and economic development by means of production or distribution of goods or provision of services). The CCI in the past has held that exclusive distribution agreements particularly affect intra-brand competition as they restrict entry of other players into the market. It may also affect inter-brand competition since they limit the outlets of distribution, thereby impeding competition among players engaged in several similar services. It has also noted that such an arrangement can be objectively justified on certain grounds such as addressing free riding problem, efficient management of sales of products, and increase in efficiency in sales or distribution. (In re: Shri Ghanshyam Dass Vij v M/s Bajaj Corp Ltd and Ors (Case No. 68 of 2013) (Ghanshyam)). Further, while it is not a prerequisite under the Competition Act, the CCI’s assessment of vertical restraint also depends on the market power of the concerned entities. For instance, in Ghanshyam, it observed that since the supplier was not a leading brand in the FMCG segment in India, the territorial restrictions imposed by it on its distributors were unlikely to result in any AAEC in the relevant markets.

As such, easy availability of substitutes (subsisting inter-brand competition), availability of single brand products through multiple distribution channels (high intra-brand competition), including by allowing passive sales, may considerably mitigate the anticompetitive concerns of exclusive distribution restraints. For instance, the CCI has has held that any territorial restrictions imposed by a supplier across all its distributors (such that each distributor has been appointed exclusively by the supplier for each of the specified territories, respectively), without restricting passive sales, will not adversely affect intra-brand competition in the relevant markets (In re: M/s KC Marketing and OPPO Mobile MU Private Limited (Case No. 34 0f 2018) (OPPO) & M/s Karni Communications and Anr v Haicheng Vivo Mobile and Or (Case No. 35 0f 2018) (Vivo)). Notably, in both the OPPO and the Vivo cases, the distributors were not restricted from dealing in competing brands and the suppliers also did not have a substantial market power in the relevant market for smartphones in India, respectively, to affect either inter-brand or intra-brand competition.

In the OPPO case, it was also alleged that the supplier had restricted the distributors from undertaking online sales. However, the CCI noted that since the supplier did not exercise substantial market power and its products were also easily available to the end-customers through multiple channels, the restriction on online sales was unlikely to result in any AAEC in the smartphone market in India.

Selective Distribution

The Competition Act is the primary Indian law dealing with vertical restraints. Selective distribution restraints (eg, restrictions from selling competing brands, cross-supply bans), subject to a rule of reason analysis, are proscribed under section 3(4)(b) of the Competition Act as exclusive supply agreements. Exclusive supply agreements include agreements restricting in any manner the purchaser, in the course of his trade, from acquiring or otherwise dealing in any goods other than those of the seller or any other person. Selective distribution restraints may also be characterised as refusal to deal agreements under section 3(4)(d) of the Competition Act. A refusal to deal agreement includes any agreement which restricts, or is likely to restrict, by any method, the persons or classes of persons to whom goods are sold or from whom goods are bought.

Regulators

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restrictions, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the NCLAT; and decisions of the NCLAT may then be contested before the Supreme Court of India.

Principles

The Competition Act does not presume vertical restraints to necessarily always cause an AAEC. AAEC has to be assessed in each case, based on factors provided under section 19(3) of the Competition Act. These factors include both potential anticompetitive effects which may be caused by the exclusive supply agreement (such as creation of entry barriers for new entrants; driving out existing competitors; and market foreclosure); and pro-competitive benefits (such as consumer benefit; improvement in production of goods or provision of services; and technical, scientific and economic development by means of production or distribution of goods or provision of services). Further, while it is not a prerequisite under the Competition Act, the CCI’s assessment of vertical restraints also depends on the market power of the concerned entities. Specifically in relation to exclusive supply agreements, it has held that if a supplier has substantial market power and enters into an exclusive supply agreement with a purchaser to create a barrier to entry for other suppliers, the contract can be seen as exclusionary (In re: Vijay Gopal v Inox Leisure Ltd and Anr (Case No. 29 of 2018)). Therefore, for an allegation of exclusive supply agreement to materialise under section 3(4)(b) (and refusal to deal under section 3(4)(d)) of the Competition Act, the concerned entities will have to be shown as having significant market power in the relevant markets.

For instance, clauses imposed by automobile manufacturers on their authorised dealers, preventing the latter from procuring spare parts from anyone other than the former or their authorised vendors, have been viewed by the CCI as anticompetitive exclusive supply and refusal to deal agreements under section 3(4)(b) and (d) of the Competition Act, respectively (Shamsher Kataria v Honda Siels and Ors (Case No. 03 of 2011)).

Similarly, if an automobile manufacturer prevents its authorised dealers either through contractual clauses (de jure) or in practice (de facto), from investing in or establishing dealerships of automobiles belonging to competing brands, such clauses/practice may amount to exclusive supply and refusal to deal agreements under section 3(4)(b) and (d) of the Competition Act, respectively. However, the CCI has held that if a clause merely requires that a dealer must seek written permission from the manufacturer before investing in or establishing a dealership of a competing brand of automobiles, it may not violate section 3(4)(b) and (d) of the Competition Act, as the dealer is not prevented from dealing in automobiles of competing brands. It has further held that such clauses may be justified in ensuring the commercial viability of an automobile manufacturer’s dealership. They also prevent the dealers from free-riding on the investments made by the manufacturer towards its dealerships (by diverting funds and resources to dealerships of the competing brands) (In re: FX Enterprises Solutions India Private Ltd v Hyundai Motors India Ltd (Case No. 36 and 82 of 2014)).

Resale Price Maintenance

Relevant legislation

The Competition Act is the primary Indian law dealing with vertical restraints. Resale price maintenance agreements have been defined under section 3(4)(e) of the Competition Act to include any agreement to sell goods on condition that the prices to be charged on the resale by the purchaser shall be the prices stipulated by the seller, unless it is clearly stated that prices lower than those prices may be charged. As with other vertical restraints, resale price maintenance agreements are also not treated as per se anticompetitive and require a rule of reason analysis for actual or potential AAEC which may be attributed to them.

Regulators

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restrictions, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the NCLAT; and decisions of the NCLAT may then be contested before the Supreme Court of India.

Principles

Resale price maintenance agreements have to be assessed for actual or potential AAEC under a rule of reason approach, based on factors provided under section 19(3) of the Competition Act. These factors include both potential anticompetitive effects which may be caused by the resale price maintenance conditions (such as creation of entry barriers for new entrants; driving out existing competitors; and market foreclosure); and pro-competitive benefits (such as consumer benefit; improvement in production of goods or provision of services; and technical, scientific and economic development by means of production or distribution of goods or provision of services). Further, while it is not a prerequisite under the Competition Act, CCI’s assessment of vertical restraint also depends on the market power of the concerned entities. Specifically in relation to resale price maintenance agreements, the CCI has observed that even if a supplier controls the prices of its products in the market, such conduct would not cause AAEC unless the supplier holds significant market power in the relevant market (M/s Counfreedise v Timex Group India Ltd (Case No. 55 of 2017)). It has also specified that resale is a must for an allegation of resale price maintenance to materialise and any sales undertaken by an agent of a supplier will not be a ‘resale’ in terms of section 3(4)(e) of the Competition Act (In re: Samir Agarwal v ANI Technologies Pvt Ltd and Ors (Case No. 37 of 2018)).

The CCI has acknowledged that resale price agreements can materialise in various forms such as fixing distribution margins, maximum discounts, making the grant of rebates or the sharing of promotional costs conditional on adhering to a given price level, linking a resale price to the resale prices of competitors. Further, practices such as using threats, intimidation, warnings, penalties, delay or suspension of deliveries to ensure that resellers comply with the prices fixed by the supplier might also be viewed as measures implemented to maintain the resale price of goods. For instance, the CCI has observed that fixing maximum discounts and ensuring their implementation through ‘mystery shoppers’ and penalising the erring resellers, is a resale price maintenance mechanism in contravention of section 3(4)(e) of the Competition Act (In re: FX Enterprises Solutions India Private Ltd v Hyundai Motors India Ltd (Case No. 36 and 82 of 2014)).

Territorial Restrictions (including online)

Relevant legislation

Territorial restrictions (including online sales bans, online platform bans, customer group bans), are proscribed under section 3(4)(c) of the Competition Act as exclusive distribution agreements, subject to a rule of reason analysis of actual or potential AAEC attributable to them. They may also be viewed as refusal to deal agreements under 3(4)(d) of the Competition Act.

Regulators

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restrictions, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the NCLAT; and decisions of the NCLAT may then be contested before the Supreme Court of India.

Principles

Territorial restrictions in the nature of online sales bans, online platform bans, and customer group bans would most likely be assessed as exclusive distribution or refusal to deal agreements under section 3(4)(c) and (d) of the Competition Act, respectively.

Non-compete obligations

Relevant legislation

The Competition Act is the primary Indian law dealing with vertical restraints. A tie-in agreement is proscribed under section 3(4)(a) of the Competition Act as any agreement that requires a purchaser of goods, as a condition for purchasing the goods, to purchase some other goods. As with other vertical restraints specified under the Competition Act, tie-in agreements are also not treated as per se anticompetitive and require a rule of reason analysis for actual or potential AAEC which may be attributable to them.

Non-compete obligations in the nature of single branding and purchase quotas would most likely be assessed as exclusive supply or refusal to deal agreements under section 3(4)(b) and (d) of the Competition Act, respectively.

Regulators

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restrictions, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the NCLAT; and decisions of the NCLAT may then be contested before the Supreme Court of India.

Principles

Tie-in agreements have to be assessed for actual or potential AAEC under a rule of reason approach, based on factors provided under section 19(3) of the Competition Act. These factors include both potential anticompetitive effects which may be caused by the exclusive supply agreement (such as creation of entry barriers for new entrants; driving out existing competitors; and market foreclosure); and pro-competitive benefits (such as consumer benefit; improvement in production of goods or provision of services; and technical, scientific and economic development by means of production or distribution of goods or provision of services). Additionally, specifically in relation to a tie-in agreement, the CCI has held that the following prerequisites must be satisfied:

  • the presence of two separate products or services capable of being tied;
  • the seller must have sufficient economic power with respect to the tying product to appreciably restrain free competition in the market for the tied product; and
  • the tying arrangement must affect a substantial amount of commerce (Sonam Sharma v Apple Inc and Ors (Case No. 24 of 2011)).

Accordingly, the CCI has acknowledged that absent substantial market power with the supplier of the tying product, a tie-in agreement is unlikely to result in any AAEC in the relevant markets. The CCI has also acknowledged that tie-in agreements may result in pro-competitive benefits in the form of assembly benefits (economies of scale and scope), quality improvement, and may also address pricing inefficiencies. For instance, it has held that tying warranty claims on automobiles to procurement of compressed natural gas (CNG) kits; and oils and lubricants from designated suppliers would likely be viewed as a tie-in agreement in terms of section 3(4)(a) of the Competition Act (In re: FX Enterprises Solutions India Private Ltd v Hyundai Motors India Ltd (Case No. 36 and 82 of 2014)). That said, the CCI observed that the tie-in agreements in relation to the CNG kits were justified as the CNG kits were specifically designed for Hyundai cars. Further, it also held that the supplier had a legitimate interest in tying warranty claims to use of specified brands of CNG kits and oils and lubricants, since, it would be the supplier who would be bearing the costs of warranty.

Non-compete obligations in the nature of single branding and purchase quotas would most likely be assessed as exclusive supply or refusal to deal agreements under section 3(4)(c) and (d) of the Competition Act, respectively.

Parity clauses (including MFN)

Relevant legislation

Parity clauses have not been expressly included under the Competition Act. The CCI in its recently published report on Market Study on E-Commerce in India (2020) has specified that parity clauses may be assessed under section 3(4) of the Competition Act, under a rule of reason framework. Accordingly, as with other vertical restraints, parity clauses will not be presumed to be anticompetitive per se and will be asessed for actual or potential AAEC based on factors provided under section 19(3) of the Competition Act. These factors include both potential anticompetitive effects which may be caused by the exclusive supply agreement (such as creation of entry barriers for new entrants; driving out existing competitors; and market foreclosure); and pro-competitive benefits (such as consumer benefit; improvement in production of goods or provision of services; and technical, scientific and economic development by means of production or distribution of goods or provision of services). Indeed, the CCI has also noted that price parity clauses imposed on competing e-commerce marketplaces may prevent the problem of free-riding.

Regulators

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restrictions, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the NCLAT; and decisions of the NCLAT may then be contested before the Supreme Court of India.

Principles

The CCI is currently investigating parity clauses imposed by MakeMyTrip, an online travel aggregator on the hotels listed on its platforms in India. While it is yet to issue its conclusive findings on the issue, preliminarily, it is of the view that wide parity clauses appear problematic, may result in inflated commissions and reduce the incentive for lower-cost online travel aggregators to enter the market. These observations are consistent with the CCI’s findings in its report on e-commerce in India (2020), which states that price parity clauses may cause a tacit understanding among the existing platforms, and disincentivise them from competing on margins which may result in high margins. Further, given this tacit understanding, it may also prevent new entrants from entering the relevant market, who may have otherwise been able to do so by offering lower prices to end customers (by competing with the incumbents on margins).

Other

Relevant legislation

The Competition Act is the primary Indian law dealing with vertical restraints. It contains a non-exhaustive list of vertical agreements under section 3(4), which may be prohibited if, subject to a rule of reason assessment, they are concluded to be either actually or potentially causinng AAEC in a relevant market in India. The types of vertical restraints expressly identified in the Competition Act include:

  • tie-in arrangements: a purchaser of goods is required to purchase any other goods as a condition of purchase;
  • exclusive supply agreements: which restrict, in any manner, the purchaser from acquiring or otherwise dealing with the goods of the seller or any person;
  • exclusive distribution agreements: which limit, restrict or withhold the supply of goods or allocate any area or market for the disposal or sale of goods;
  • refusal to deal: which restricts, or is likely to restrict, by any method, the person or persons from or to whom goods are bought and sold; and
  • resale price maintenance: any agreement wherein goods are sold on the condition that the resale price shall be the price stipulated by the seller, unless clearly stated that prices lower than those prices may be charged.

Regulators

The CCI is the primary authority responsible for enforcing the prohibitions on anticompetitive vertical restraints across all sectors. In its review of vertical restrictions, the CCI is assisted by its investigative arm – the Director General. Decisions of the CCI may be contested before the NCLAT; and decisions of the NCLAT may then be contested before the Supreme Court of India.

Principles

As with the vertical restraints identified under section 3(4) of the Competition Act, all other vertical restraints would also be assessed by the CCI under a rule of reason analysis for any actual or potential AAEC, in terms of section 19(3) of the Competition Act. These factors include both potential anticompetitive effects which may be caused by the exclusive supply agreement (such as: creation of entry barriers for new entrants; driving out existing competitors; and market foreclosure); and pro-competitive benefits (such as: consumer benefit; improvement in production of goods or provision of services; and technical, scientific and economic development by means of production or distribution of goods or provision of services).

The categories of vertical restraints identified above have been attributed an expansive scope by the CCI and would cover most of the instances of vertical restraints. Indeed, all other forms of anticompetitive vertical restraints can also be examined under section 3(4) of the Competition Act, as has been the case of parity clauses, which are not expressly listed under section 3(4).

Authors:

Rahul Rai, Of-Counsel
Gaurav Bansal, Senior Associate

Published In:Global Competition Review
Date: September 23, 2020