1 October, 2015
THE FINAL COUNTDOWN TO THE HONG KONG COMPETITION ORDINANCE
After more than three years on the statute books (and barring any last minute legislative delays), there are now less than three months to go until the full implementation of the Hong Kong Competition Ordinance ("Ordinance"). As such, businesses should be taking this opportunity to audit their existing agreements and practices for compliance with the Ordinance. One of the key issues under the Ordinance (and one which sparked a significant amount of debate during the drafting of the accompanying Guidelines by the Hong Kong Competition Commission ("HKCC")) is resale price maintenance ("RPM").
RPM generates significant interest worldwide: approaches vary between a strict (per se) approach and quite permissive regimes. For instance, until recently in Taiwan, RPM was considered to be per se illegal and has been the subject of extensive enforcement action in recent years. By contrast, in Singapore, a broadly worded exemption (that seems to extend to RPM) is in place to provide safe harbours for vertical arrangements (although this exemption may not be absolute). The HKCC has adopted a quite strict approach to RPM, albeit that RPM may be acceptable in limited circumstances.
1. What is Resale Price Maintenance and why is there such a debate about RPM?
RPM occurs where a manufacturer or supplier establishes a fixed or minimum resale price (or, in some circumstances, a maximum or recommended resale price) which a distributor or retailer must observe when reselling the contract goods or services. RPM can be achieved directly (for example, by including an express term in the distribution agreement), or indirectly, for example, by fixing the level of discount the distributor can grant from a prescribed price level, by imposing penalties on those distributors who fail to adhere to the prescribed price, or by offering incentives or reward for observance of the given price.
There has been significant debate over the appropriate treatment of RPM, as RPM can potentially have both pro-competitive and anti-competitive effects. RPM may harm competition, for example, by building up barriers for new entrants who will be unable to gain market traction, or by undercutting existing market players on price. Intra-brand competition is also likely to be impaired as resellers no longer compete on price.
On the other hand, RPM can potentially enhance competition on non-price aspects, which may have some benefits for customers. By way of example, in hi-tech product markets, RPM can have the effect of reducing free riding in respect of pre-sales services and can thus maintain incentives for resellers to offer these services.
Such debate informs the divergent enforcement approaches adopted by regulators in different jurisdictions. In Taiwan, for example, RPM has, until recently, been considered to be "per se" illegal and has been the subject of extensive enforcement action in recent years. The European Commission also maintains a relatively staunch anti-RPM stance. At the other end of the spectrum is Singapore, whereas the US (at least at a federal level) and many other jurisdictions adopt a "middle ground" by applying a "rule of reason" effects-based assessment of RPM.
2. Why might RPM be an issue in Hong Kong?
RPM is reportedly commonplace in Hong Kong. Perhaps because of this, it appears that the HKCC has given considerable thought as to how best to approach the issue when enforcing the Ordinance. In drafting the guidelines accompanying the Ordinance ("Guidelines"), the HKCC seems to have contemplated different approaches, at one point apparently considering some form of exemption for vertical agreements (and potentially RPM) and at another, viewing RPM as having the 'object' of harming competition. In the final version of the Guidelines, it has adopted a middle ground, taking the view that "RPM arrangements have an inherent potential to harm competition in Hong Kong" but recognising that, "in certain cases, RPM arrangements may be made for a pro-competitive purpose" and therefore would not automatically infringe the First Conduct Rule in all cases.
3. How is Resale Price Maintenance addressed under the Ordinance?
RPM under the Ordinance
The prohibition on anti-competitive agreements in the First Conduct Rule applies to any agreement, concerted practice or decision which has the object or effect of preventing, restricting or distorting competition in Hong Kong. Absent a specific exclusion for vertical agreements, it is clear that vertical arrangement involving RPM can fall within the scope of the First Conduct Rule, which has been confirmed in the Guideline on the First Conduct Rule.
Again, in the Ordinance, agreements constituting "serious anti-competitive conduct” ("SAC") are not specifically confined to horizontal agreements. The definition of SAC covers classic horizontal agreements, such as market allocating and bid-rigging. However, the HKCC further notes in the Guideline on the First Conduct Rule that SAC can be interpreted to include vertical price fixing, i.e. RPM.
RPM under the Guideline
The final Guidelines were published by the HKCC on 27 July 2015, including the Guideline on the First Conduct Rule. The Guidelines provide invaluable guidance for businesses as to the general approach the HKCC intends to apply.
In the Guidelines, the HKCC is clear that RPM constituting fixed or minimum resale prices may infringe the First Conduct Rule. However, as to whether such RPM infringes the Ordinance in individual cases, the HKCC has adopted an enforcement framework which allows it considerable discretion.
This discretion of the HKCC can be summarised as follows:
- The HKCC takes the view that RPM "may" have the "object" of harming competition without any requirement for the HKCC to establish it has actually affected competition on the market;
- However, not all RPM will automatically be regarded as having the object of restricting competition. The HKCC notes that it will consider the content of the agreement establishing the RPM, the way the arrangement is implemented by the parties, and the relevant context;
- The HKCC may also consider RPM to be SAC in certain circumstances;
- If RPM does not have the object of restricting competition, the HKCC will assess whether it nevertheless causes harm to competition by way of its effects; and
- Where RPM is prima facie a violation of the First Conduct Rule, it may still be justified on the economic efficiency ground under Section 1 of Schedule 1 to the Ordinance.
In addition, the Guidelines provide a couple of examples as to the circumstances in which RPM is likely to be considered as an object infringement of the Ordinance (e.g. where the RPM is implemented merely to protect the undertaking from competitive pricing). The Guidelines also provide some hypothetical examples where RPM "possibly" would not constitute an object infringement (e.g. where utilised in a franchise distribution system for the purposes of organising a short term coordinated promotional price campaign). In terms of the efficiency justification, the HKCC provides examples of where such arguments may be made, for example to avoid free-riders, but makes it clear that compelling evidence would be required in order for such arguments to be accepted.
Overall, while the HKCC's approach that not all RPM amounts to an object infringement is welcome, and while the Guidelines provide some helpful examples of such circumstances, the guidance is carefully caveated and the HKCC retains considerable flexibility as to assessment in individual cases. The examples of conduct that is unlikely to infringe the First Conduct Rule (at least by object) are narrowly drawn, and there is limited explanation of the type of RPM conduct that could be considered SAC. This provides relatively little in terms of legal certainty as to the circumstances in which RPM may, in practice, be acceptable. Further guidance may be provided after the full implementation of the Ordinance by the decisional practice of the HKCC and the Tribunal.
4. What are the implications for businesses?
Given that the HKCC will not start enforcement until the full implementation of the Ordinance, it still remains to be seen how the HKCC will, in practice, exercise its powers and discretion under the Ordinance regarding RPM in Hong Kong. However, the trend of increased enforcement on RPM in mainland China and the EU may be relevant.
In recent years, Mainland China has strictly scrutinized RPM in various sectors, including automotive distribution, high-end liquor and optical lenses. Given its proximity, such trends in China may have some reference value for the potential enforcement focus in Hong Kong. In the EU, enforcement has taken place at national level in a number of sectors including luxury watches, portable navigation devices and luxury perfumes.
In Hong Kong, RPM apparently has received great attention from businesses in different sectors and trade. In the nine months to 31 March 2015, amongst the enquiries received by the HKCC, RPM was reported to be the second most asked about issue (after cartels).
In the remaining few months before full implementation of the Ordinance, therefore, businesses should review and assess carefully their contractual arrangements to ensure that resale pricing freedom for downstream entities is preserved both in writing and in practice. For example, rewards or incentives must not be linked to resale pricing, and penalties such as reduction of supply or termination of contract should not be linked to resale prices (with any genuine reasons for termination or reduction carefully recorded in writing). Companies should also ensure that clear compliance policies, procedures and training are in place.
Finally, it is important for businesses active on a regional basis in Asia-Pacific to note that the level of enforcement in respect of RPM varies from jurisdiction to jurisdiction, and that adjustments may need to be made to ensure compliance in a particular jurisdiction.
For further information, please contact:
Mark Jephcott, Partner, Herbert Smith Freehills
mark.jephcott@hsf.com
