Competition in the digital age: learning from the European Commission’s Guess decision

The continued rise of e-commerce means that consumers have more choice about how they buy their products and from whom – unless, of course, manufacturers put in place clauses that limit how retailers can sell these goods and where consumers can buy them from. Neil Hodge investigates what manufacturers are doing, how the authorities are tackling manufacturers’ behaviour and what in-house counsel can learn from the European Commission’s recent investigation into the luxury clothing company Guess. 

Competition authorities within the European Union have long suspected that the Single Market might not necessarily be a fair market for online sales and in May 2015 the European Commission, the EU’s executive body, launched its e-commerce inquiry on the basis of EU competition rules. When it published its final report in May 2017, the Commission found that manufacturers were leveraging their position to carve out a stronger online market presence, often through forcing retailers to sign up to restrictive agreements that hamstrung the way they could sell merchandise. In fact, more than one in ten of the retailers surveyed experienced cross-border sales restrictions in their distribution agreements.

Among its key findings, the report found that over the course of a decade a large proportion of manufacturers had decided to sell their products directly to consumers through their own online retail shops. This increasingly put them into direct competition with their distributors. It also found that manufacturers were making greater use of selective distribution systems, where the products can only be sold by pre-selected authorised sellers to preserve brand quality, as well as increased use of contractual restrictions to better control product distribution. Such restrictions could take various forms, including pricing restrictions, marketplace (platform) bans, restrictions on the use of price comparison tools and exclusion of pure online players from distribution networks.

The Commission said that while some of these practices may be justified – for example, in order to improve the quality of product distribution – others may unduly prevent consumers from benefiting from greater product choice and lower prices, which would warrant further enforcement action. And such actions have been forthcoming.

On 17 December 2018 the Commission fined luxury clothing company Guess €40 million, after launching a formal investigation into the company’s practices in June. The Commission found Guess guilty of ‘geo-blocking’ to maintain artificially high retail prices in some EU countries, in breach of EU competition rules. Through the use of distribution agreements, Guess restricted retailers from online advertising and selling cross-border to consumers in other EU Member States, in particular in central and eastern European countries.

The decision marks the first EU competition case on territorial restrictions since the EU’s Geo-blocking Regulation,^[1] which prohibits attempts to undermine online shopping and cross-border sales through geographic restrictions, came into force on 3 December 2018.

Guess operates a selective distribution system in the European Economic Area (EEA) which allows the company to lawfully restrict sales to ‘authorised distributors’.

Distribution systems must comply with EU competition rules, however. In particular, consumers must still be free to purchase from any retailer authorised by a manufacturer, including across national borders. At the same time, authorised retailers must be free to offer the products covered by the distribution contract online, to advertise and sell them across borders and to set their resale prices by themselves.

The Commission found that between 1 January 2014 to 31 October 2017 Guess’ distribution agreements restricted authorised retailers from using the Guess brand names and trademarks for the purposes of online search advertising, or from selling online without the company’s prior specific authorisation. Retailers were also restricted, for example, from selling to consumers located outside of allocated territories.

These restrictive agreements allowed Guess to charge consumers in central and eastern European EU countries on average five to ten per cent more than elsewhere in Europe over nearly four years. Consequently, Guess’ agreements infringed Article 101 of the Treaty on the Functioning of the European Union (TFEU), which underpins the Single Market and which prohibits agreements between companies that prevent, restrict or distort competition.

Responding to the investigation and fine in its report on its third quarter results, Guess stated that ‘The Company has already made certain changes to its business practices and agreements in response to these proceedings, and the Company believes that such changes have not had, and will not have, a material impact on its ongoing business operations within the European Union. No further modifications to the Company’s business practices and agreements related to these proceedings are anticipated.’

Guy Harles, partner in the Luxembourg office of law firm Arendt & Medernach and Co-Chair of the IBA Corporate and M&A Law Committee, says that ‘this case is a reminder that manufacturers should not dictate the terms of a resale price with authorised sellers.’

‘The rules of the EU Single Market are clear,’ adds Harles. ‘Consumers must be free to purchase from any retailer authorised by a manufacturer, including across national borders. At the same time, authorised retailers must be free to offer these products online, to advertise and sell them across borders, and to set the resale prices themselves.’

Philippe-Emmanuel Partsch, partner in charge of the EU Financial & Competition Law practice of Arendt & Medernach, says that the decision provides a ‘clear cut’ demonstration to all companies that the Commission will not tolerate unfair practices in vertical agreements between manufacturers and retailers. He also says that the Commission was ‘absolutely correct’ in its assessment of Guess’ breaches of EU competition law, adding that the Commission’s objections regarding infringements were ‘an open and shut case of violations of competition rules.’

The case is notable for other reasons, too. Guess received a 50 per cent fine reduction after it admitted infringing competition rules at an early stage of the investigation and for co-operating ‘beyond its legal obligation to do so’ by revealing infringements that the Commission was not even aware of at the time.

Leniency in financial penalties is usually reserved for cartel cases, but the Commission has recently taken the view that a reduction in fines can occur in vertical cases too. In fact, the Guess case is the third instance of this (after Austrian waste management firm, Ara, and a group of consumer electronics manufacturers – Asus, Denon & Marantz, Philips and Pioneer – were similarly rewarded for their full and early co-operation).

The significance of early cooperation should not be lost on in-house counsel. ‘The case shows the benefits of putting your hands up to an infringement early and of fully cooperating with the regulator from the outset in the hope of reducing any subsequent financial penalty,’ says Partsch.

The Commission is not the only authority with concerns about unfair retail practices, especially regarding online sales. In late 2018 the Dutch Authority for Consumers & Markets conducted dawn raids to investigate possible vertical price-fixing of consumer goods by manufacturers and (web)shops. Germany’s competition authority, the Bundeskartellamt, in its December 2017 decision found that sports apparel company Asics could not forbid its dealers from using price comparison sites as there was no danger of the products’ quality being lowered by a price reduction. In the United States the Federal Trade Commission decided in November 2018 that contact lens retailer 1-800 Contacts broke the law by entering into agreements with rivals that prevented them from using the trademarked term ‘1-800 Contacts’ to trigger search ads.

Competition lawyers believe that the Commission is likely to consider online advertising and sales restrictions in its upcoming review of the Vertical Agreements Block Exemption Regulation (VABER) and guidelines – the bedrock of EU competition law in vertical arrangements. The Regulation is due to expire on 31 May 2022 and the Commission has already begun to assess whether these rules are still effective in the age of e-commerce and given the way in which retail is evolving, especially in relation to new forms of online sales restrictions, online advertising and the increasing market power of resale sites and online marketplaces.

With changes likely to happen in the near future, coupled with a greater appetite by the Commission to both investigate and penalise infringements, lawyers urge in-house counsel to review the kinds of distribution agreements that they have in place with retailers and third parties to see if they comply with EU competition rules.

‘This is the first time the Commission has established this type of infringement’, says Floris ten Have, a partner at Dutch law firm Stibbe, adding that Guess’ fine for vertical restraints ‘marks a new dot on the Commission’s radar’. He believes that the Commission considers that these restrictions are being used as a tool to allow manufacturers to obtain a preferential listing and potentially keep bidding prices down. He believes it is essential for companies to check their distribution contracts.

‘It may just be a matter of time before more vertical competition issues, including online search advertising restrictions, come under fire,’ says ten Have. ‘If and when they do, it makes sense for companies to consider which approach to follow during the antitrust investigation procedure.’

Ten Have recommends that legal counsel working for retailers should immediately familiarise themselves with the new geo-blocking rules and review existing terms and conditions within distribution agreements. They should also check payment practices, marketing material and logistical/delivery arrangements to ensure any potential cross-border barriers to a customer’s access to online purchasing or payment are identified and removed or re-drafted as necessary.

Partsch says the Guess case serves as a timely reminder to all companies to check the sales (and resale) arrangements they might have in place with retailers and examine whether their contract terms may prevent or inhibit these companies from doing their business.

‘The Guess ruling will push in-house lawyers to review their organisations’ distribution arrangements, especially in light of the Geo-blocking Regulation, which bans territorial discrimination towards end customers,’ he says. ‘Those companies that have a high level of market share, in particular, will need to pay close attention to distribution arrangements as they will have a more immediate impact on a wider range of consumers than competitors with lower market share and any restrictions on retailers will be more difficult to justify.’

Partsch also believes that the EU is more stringent about enforcing rules against minimum resale pricing than other major markets such as the US, which will allow the practice ‘in some circumstances’. ‘In the EU, resale price maintenance is seldom possible, only being allowed in certain, very strict circumstances,’ he says.

However, lawyers also point out that the Guess decision does not necessarily produce the level of clarity regarding selective distribution agreements and brand protection that organisations and in-house lawyers would like. For example, on 6 December 2017 the Court of Justice of the European Union (CJEU) handed down its preliminary ruling in Case C-230/16 Coty Germany GmbH v Parfümerie Akzente GmbH, whereby it confirmed that a supplier of luxury goods may prohibit authorised retailers from selling its products on third party platforms, such as eBay.

This suggested, says ten Have, that selective distribution agreements are acceptable under EU law and that restrictions on sales via discernible third-party platforms to protect a luxury image are permissible – provided that it does not give rise to a de facto prohibition on online sales. Furthermore, says ten Have, prior to the Guess case, the Coty judgment may have implied to some organisations that ‘it is arguably permissible to restrict sales via discounters or retailers which primarily operate on a secondary market’.

However, several law firms believe that the Commission has taken the view that both judgments are entirely separate: the Commission barely discussed Coty in its Guess decision. As such, neither case may serve as the ‘black and white’ template that in-house lawyers want to assure them that the selective distribution agreements they have in place with third parties are strictly compliant.

‘There may be some similarities between the Guess and Coty cases, but in general terms it is best to regard them as two entirely separate rulings – the rationale behind one decision does not necessarily help with trying to explain the rationale behind the other,’ says ten Have. 

There is little doubt that the Commission’s focus on fair business conduct in e-commerce is set to continue and that selective distribution agreements (and other potentially restrictive clauses) are likely to come under closer scrutiny. But while such clauses may be a powerful tool to protect brand integrity, manufacturers must bear in mind that while they can ‘cherry pick’ the retailers they want to push their products, any attempts to absolutely control online, cross-border or intra-network sales will be met with probable enforcement action.

Note

^[1] https://eur-lex.europa.eu/legal-content/EN/TXT/?uri=uriserv:OJ.LI.2018.060.01.0001.01.ENG&toc=OJ:L:2018:060I:TOC