The Supreme Court's recent decision in Leegin Creative Leather Prods., Inc. v. PSKS, Inc., 1 dramatically alters the relationship between manufacturers and distributors by permitting manufacturers, under certain circumstances, to exert greater influence and control over the prices charged by distributors. The Leegin case creates such a fundamental change in the law that all manufacturers should consider the import of the decision on their business, including whether to adopt policies or enter into agreements with distributors concerning resale prices.
The Legal Landscape Before Leegin
In Leegin, the Supreme Court overturned almost 100 years of jurisprudence, first established in Dr. Miles Medical Co. v. John D. Park & Sons Co, 2 that made it a per se violation of Section 1 of the Sherman Act for manufacturers and distributors to agree upon minimum resale prices. By requiring application of the per se rule to resale price maintenance agreements in Dr. Miles, the Supreme Court deemed such agreements to be presumptively anti-competitive, and therefore prohibited proof from being introduced concerning whether such agreements had procompetitive benefits for consumers.
Shortly after the Dr. Miles decision, the Supreme Court held in U.S. v. Colgate & Co. 3 that a manufacturer who unilaterally announces a suggested resale price policy and refuses to supply distributors that do not comply, does not violate Section 1 of the Sherman Act because no concerted conduct is involved.
After Colgate, many manufacturers adopted suggested resale price policies and many continue to have such policies today. However, manufacturers have often had great difficulty enforcing their policies in a manner consistent with Colgate because of a lack of judicial uniformity and clarity concerning when permissible "exposition, persuasion and argument"4 crossed the line into coercion such that a de facto agreement was said to have existed.5
Thus, for the past 100 years manufacturers have been placed in the untenable position of choosing between the safest legal option, which involved terminating distributors without issuing any warnings or having any conversations with violating distributors, or employing other more practical business measures involving a dialogue with violating distributors but doing so with significant legal risks.
The Leegin Decision
Leegin is a manufacturer of leather goods and accessories that distributes primarily to small boutiques and independent stores. Leegin adopted a policy whereby it refused to sell products to retailers that charged prices below its suggested prices. The purpose of the policy was to maintain Leegin's brand image and give retailers enough margin to provide excellent customer service. Leegin, like many other manufacturers before it, implemented its policy poorly by engaging in conduct that could be construed as constituting an agreement. Specifically, Leegin adopted a marketing strategy that, in part, required retailers to pledge to sell the company's products at its suggested resale prices.
Defendant PSKS operated a women's apparel store known as Kay's Kloset, which sold goods by approximately 75 different manufacturers; Leegin's products constituted 40 to 50 percent of the company's profits. Leegin refused to supply Kay's Kloset after learning that it had discounted products below the suggested resale prices. Kay's Kloset filed suit in the United States District Court for the Eastern District of Texas, alleging that Leegin engaged in unlawful resale price maintenance in violation of Section 1 of the Sherman Act.
During the trial, Leegin attempted to introduce expert testimony concerning the procompetitive effects of its pricing policy. Leegin's expert opined that resale price maintenance could be pro-competitive by promoting interbrand competition (i.e., competition between competing brands) and eliminating "free riding" (for example, when a consumer obtains assistance with a product from a full service retailer and then ultimately purchases it from a lower priced retailer that does not provide such services). The expert also opined that the resale price maintenance agreement which Leegin was alleged to have entered into was pro-competitive for these very reasons. The trial court barred the testimony of Leegin's experts on the basis that such pro-competitive justifications were irrelevant under the per se rule established in Dr. Miles. The jury returned a substantial verdict against Leegin.
On appeal, the Fifth Circuit upheld the trial court's decision, also relying on the per se rule established in Dr. Miles. When the case reached the Supreme Court, the issue presented was whether resale price maintenance agreements should be adjudicated under the per se rule (i.e., where a plaintiff need only prove the existence of an agreement) or the rule of reason (i.e., where a plaintiff must prove both the existence of an agreement and that the agreement had a net anticompetitive effect in the relevant market).
The Supreme Court determined that there are numerous situations where resale price maintenance agreements can have a procompetitive effect on interbrand competition, and also that there are situations where a deleterious effect can result. Because of the diversity of possible economic consequences from such conduct, the Supreme Court held that resale price maintenance agreements, such as that at issue in Leegin, should no longer be adjudicated under the per se rule, but instead under the rule of reason. In doing so, the Court harmonized the legal standards applied to resale price maintenance agreements with other types of agreements typically entered into between manufacturers and distributors (e.g., a manufacturer's allocation of exclusive territories to distributors). Additionally, the Court remanded the Leegin case for consideration consistent with its decision.
Options Available Post- Leegin
Leegin arguably "opens the door" for manufacturers to exert greater influence and control over resale prices. Now, post- Leegin, a manufacturer might choose to enter into a contract with its distributors to set minimum resale prices. This option allows a manufacturer to exert greater control over distributor pricing, as well as the levels of service that justify such increased pricing. In fact, distributors could be liable for breach of contract if they sell covered products below the agreed upon minimum prices.
The potential risk to a manufacturer choosing this option is that in a lawsuit where a Section 1 violation is alleged, the agreement element of the Sherman Act would be easily satisfied because the defendant manufacturer entered into a contract concerning resale prices. The effect of Leegin, however, is that a plaintiff must also prove that the anti-competitive effects of the resale price maintenance agreement outweigh any procompetitive benefits. Therefore, it is imperative that before a manufacturer enters into such an agreement, it must carefully analyze the market in which it operates and the potential impact that a resale price maintenance agreement could have on competition.
Alternatively, a manufacturer might choose to adopt a suggested resale price policy or continue to implement its current suggested resale price policy. Aside from a manufacturer not involving itself at all in a distributor's resale prices, this is the most conservative and litigation-averse option because an antitrust plaintiff would need to prove that the manufacturer's policy was implemented improperly such that a de facto agreement would exist and that the anticompetitive effects of the agreement outweigh the procompetitive benefits.
Leegin has reduced the risks associated with this alternative option because many manufacturers, even with the best intentions of complying with Colgate, had difficulty controlling the coercive conduct that certain sales employees used to induce compliance with pricing policies. Prior to Leegin, such conduct often resulted in liability, but now such conduct must be coupled with a showing of anticompetitive effect in the relevant market. In other words, plaintiffs are now more likely to be dissuaded from filing an antitrust lawsuit alleging unlawful resale price maintenance because there are additional proofs, some which will result in an expensive "battle of the experts."
Last, a manufacturer might consider it prudent to wait and see how resale price maintenance agreements are treated by lower courts under the rule of reason before deciding on a course of action. Indeed, the Supreme Court highlighted the unknown variables when it stated that "[a]s courts gain experience considering the effects of these restraints by applying the rule of reason over the course of decisions, they can establish the litigation structure to ensure the rule operates to eliminate anticompetitive restraints from the market and to provide more guidance to business. Courts can, for example, devise rules over time for offering proof, or even presumptions where justified, to make the rule of reason a fair and efficient way to prohibit anticompetitive restraints and to promote procompetitive ones."6
The Supreme Court's decision in Leegin fundamentally changes the relationship between manufacturers and distributors concerning resale prices. Every manufacturer should evaluate its need for minimum resale prices, the potential impact in the marketplace in which it operates and the new legal framework created by the Supreme Court.
1 127 S. Ct. 2705 (June 28, 2007).
2 220 U.S. 373 (1911).
3 50 U.S. 300 (1919).
4 See, e.g., Acquaire v. Canada Dry Bottling Co., 24 F.3d 401, 410 (2d Cir. 1994) ("Evidence of pricing suggestions, persuasion, conversations, arguments, exposition, or pressure is not sufficient to establish coercion necessary to transgress 1 of the Sherman Act").
5 See, e.g., Yentsch v. Texaco, Inc., 630 F.2d 46, 52 (2d Cir. 1980) ("We think there was sufficient evidence here, although just barely, to find an illegal combination to maintain resale prices").
6 Leegin , 127 S. Ct. at 2720.
Michael Hahn is an Associate in the Litigation Department and Antitrust Practice Group of Lowenstein Sandler. He focuses his practice on complex commercial litigation, including class action, antitrust, consumer fraud, civil RICO, telecommunications, business tort and contract matters. This article first appeared in the August 6, 2007 issue of NJCCA's eNewsletter at http://news.acca.com/accnj/issues/2007-08-06/1.html.