LAW COMPETITION LAW Horizontal agreements and their types

14 Pages·2015·0.54 MB·English

LAW

COMPETITION LAW

Horizontal agreements and their types
Q1: E-TEXT
Module ID: 10 Horizontal Agreements and their types

Module Overview:
This module is an introductory module on horizontal agreements covered under the
competition law. It will deal with the basics of horizontal agreements, types of such
agreements, reasons for collusion by businesses and regulation of such agreements
by the competition authority. It will also cover horizontal agreements like market
allocation, controlling production and bid rigging. The module will also discuss
cartelisation and the ways to detect and prevent cartelisation.

Subject Name: Law
Paper Name: Competition Law
Module ID: 10

Pre-requisites:
Competition law is an economic law and thus an understanding of various market
structures like monopoly and oligopoly will help readers better understand the
reasons for businesses colluding to gain market power. Basic knowledge about
microeconomics will also help in appreciating the adverse effects the horizontal
anticompetitive agreements can have on economy and consumers and the reasons
for regulating such conduct.

Objectives:
After reading this module, the readers will be able to appreciate as to why the
anticompetitive effects of the horizontal agreements and practices need to be
regulated by the competition law. Further, the readers will learn regarding the
different types of horizontal agreements. A reader will realise as to why cartels which
are a form of horizontal agreements are given stern treatment under the competition
laws worldwide. Further, the reader will also understand as to why there is more
international convergence and consensus in dealing with hard-core cartels which
have anticompetitive effects on consumers across the borders.

Keywords: Cartels, horizontal agreements, price fixing, international cartels, bid
rigging, leniency programme
Module Introduction:
Broadly for the purposes of the competition law, agreements between the market
players may be classified as either horizontal or vertical. Horizontal agreements
occur between the enterprises at the same level and have potential to adversely
affect the competition if intended to do so. Cartels are one form of horizontal
agreements which due to their pernicious effects on the competition consumers and
the economy are the focus of the enforcement domain of the competition authorities
worldwide.

Learning outcomes:
Through this module, the readers are expected to learn:
 Definition and nature of Horizontal Agreements
 Types of Horizontal Agreements
 Cartels, bid rigging, price fixingagreements
 Detecting cartels
 Leniency programme to detect cartel
1. Agreements in restraint of trade
A restraint of trade is simply some kind of agreed provision that is designed to
restrain another's trade or prohibiting agreements that ran counter to public
policy, unless the reasonableness of an agreement could be shown.One of
the earliest instances of trade restraints has been recorded in the English
Common Law system in the doctrine of ‘Restraint of Trade’ which
became the precursor to modern competition law.
There is always a possibility that market players can coordinate their actions
to achieve a position so that they can indulge in anticompetitive practices.
Thus the firms can collude and control production and raise prices. Collusion
can be defined as a situation where firms coordinate their actions to reach
anti-competitive outcomes and gain higher profits. Collusion can be explicit or
tacit. Some anticompetitive agreements may be open, but most are secret.
Sometimes they can be in form of less formal agreements and can also form
part of “agreement between companies” or in the decisions or rules of
professional associations.

As depicted belowi, there is a strong linkage between competition law, and
economic development of a country. Thus control of anticompetitive practices
including horizontal anticompetitive agreements lead to economic welfare.

Figure 1: Competition Law, Policy and Economic Development (Source: UNCTAD (2010))

1. Horizontal Agreements
Horizontal agreements are those between competitors, i.e., entities at the
same level of distribution. Vertical agreements are those between parties on
different levels of the chain of distribution, such as between a manufacturer
and a distributor, or between a wholesaler and a retailer. Agreements through
which restraints are imposed between competitors have traditionally been
denominated as horizontal agreements, and those imposed by agreement
between firms at different levels of distribution as vertical
agreements.Horizontal agreements can prompt violations of competition law
because such agreements may include clauses which restrict competition.
It can be said that all anticompetitive effects are of necessity horizontal, since
all competition is horizontal, but that such horizontal effects can result from
either horizontal or vertical agreementsii. Figure 2 depicts the horizontal and
vertical relation between different players in tyre market.

Rubber Supplier HORIZONTAL Rubber Supplier
V V
E Tyre HORIZONTAL TyreManufacturer E
R Manufacturer R
T T
I I
C C
A TyreWholesaler TyreWholesaler A
HORIZONTAL
L L
Retail shop HORIZONTAL Retail shop
Figure 2: Horizontal & Vertical relation between market players

From the figure 2, it is clear that the vertical agreements are between firms in
a purchaser–seller relationship, whereas, the horizontal agreements are
between the competitors. Generally it has been seen that vertical agreements
are givena lenient treatment than the horizontal agreements under the
provisions of the Competition law. The reason for such differential treatment
is that the horizontal agreements are more likely to reduce competition than
the vertical agreements. Horizontal agreements like price fixing and market
sharing are agreements which by their nature are almost always considered
detrimental to the competition. Generally, horizontal agreements are
synonymously referred to as cartels in competition law terminology across the
world.

2. Typology of Horizontal Agreements
There can be innumerable ways in which market players interact and conduct
their business in a market. Collusion in form of horizontal agreements can
take various forms. It is pertinent to discuss here the major ways in which
market players indulge in horizontal anticompetitive agreements.

a. Price fixing
Agreements through which the companies mutually set the prices that they
want to charge in the market are called price fixing agreements. Imagine a
market where four firms manufacturing cement agree to sell their products at
a fixed price. Although, sometimes a slight increase in the price of each
product hardly matters to a consumer;such price fixing will ultimately generate
huge profits for the colluders. Other types of price-fixing agreements include
agreements that jointly predetermine the size of profit margins, the extent of
discounts andthe level of price increases. Price fixing agreements can take
various forms including the following:
 Agreement on price increase
 Agreement to adhere to published prices
 Agreement not to sell unless it is on the agreed price terms
 Agreement on a standard pricing formula
 Agreement regarding providing, eliminating or establishing
methodof providing discounts
 Agreement on credit terms that will be offered to customers
 Agreement to eliminategoods and services offered at low
prices from the market, thereby limiting supply and raising the
prices
 Agreement between cartel members not to change or reduce
prices without notifying each other
As is evident from the nature and objectives of the price fixing agreements
described above, such horizontal anticompetitive agreements are aimed at
furthering the goal of members of the cartelof earning huge profits at the
expense of the consumers.
b. Market Sharing
Another common horizontal agreement amongst competitors is market
sharing. These are also called market allocation and market division
agreements. Under such agreements, the competitors agree to divide
amongst themselves specific territories, customers, or products. Such
market allocating actions are restrictive in nature because they leave no
room for competition in the market. For example, an agreement amongst
competitors to allot certain customers to particular sellers and toallocate
or divide sale territories would be anticompetitive.

Trucking Cartel in India
Eliminating competition in the market by fixing the freight rates without
liberty to the members of the truck operator union to negotiate freight
rates individually is common in the trucking industry in India. The
M.R.T.P. Commission passed ‘Cease & Desist’ order against Bharatpur
Truck Operators Union (order dated 24.8.1984 in RTP Enquiry
No.10/1982), Goods Truck Operators Union, Faridabad, (order dated
13.12.1989 in RTP Enquiry No.13.13.1987, Rohtak Public Goods Motor
Union (order dated 25.8.1984 in RTP Enquiry No.250/10983. In the
absence of any penalty provision, however, no fines could be imposed. As
readers will observe in later modules, under new competition regime in India
heavy penalty can be imposed for cartel behaviour.
Source: Competition Commission of Indiawebsite (www.cci.gov.in)

c. Bid-rigging
Bid rigging takes place when bidders collude and keep the bid amount at
a pre-determined level. Such pre-determination is by way of intentional
manipulation by the members of the bidding group. Bidders could be
actual or potential ones but they collude and act in concert. Bid rigging is
the way that conspiring competitors effectively raise prices where
purchasers-- often various departments and authorities of the
Government acquire goods or services by soliciting competing bids.
There can be different forms of bid rigging:
 Subcontract bid-rigging: Under this type of bid-rigging the
conspirators agree not to submit bids, or to submit cover bids that
are intended not to be successful, on the condition that some
parts of the successful bidder's contract will be subcontracted to
them.
 Complementary bidding: It is also known as cover bidding or
courtesy bidding. It involves a situation where some of the bidders
bid an amount which is too high or contains unacceptable
conditions. Thus, in essence, cover bidding might give the
impression of competitive bidding. In reality, suppliers agree to
submit symbolic bids that are unreasonably high to succeed.
 Bid suppression occurs where some of the conspirators agree not
to submit a bid so that another conspirator can successfully win
the contract.
 Bid rotation occurs where the bidders take turns being the
designated successful bidder, for example, each conspirator is
designated to be the successful bidder on certain contracts, with
conspirators designated to win other contracts. This is a form of
market allocation, where the conspirators allocate or apportion
markets, products, customers or geographic territories among
themselves, so that each will get a "fair share" of the total
business, without having to truly compete with the others for that
business.

It has been seen generally that the above discussed forms of bid-rigging
are not mutually exclusive of one another. One can see two or more of
these practices occurring at the same time in a tender process. For
example, if one member of the bidding ring is designated to win a
particular contract, that bidder's conspirators could avoid winning either
by not bidding (which will be bid suppression), or by submitting a high bid
(which implies cover bidding).
Bid Rigging

Consider a situation where two firms X and Y bid for supplying products to a
government department which has floated a tender for the same. In a
competitive scenario, both the firms X and Y will submitcompeting bids. Later
on, these firms decide together that Firm Y will submit a bid superior to Firm
X’s and that if Firm Y is awarded the government tender, it will subcontract
part of the work to Firm X. This conduct of determining the winner before the
competitive process of bidding will be illegal under competition law because
Firm X and Firm Y have agreed not to compete for the tender, thereby
hampering competition. Here, both the firms are colluding and if successful
will gain extra illegal profits at the expense of the government department.

d. Output limitation
There can be a scenario where competitors agree to restrict and control
the production thereby controlling the supply in the market. Output
restrictions can take place through various forms including agreements
on production volumes and agreements on sales volumes. The objective
of controlling and limiting supplies is to create scarcity in the market and
subsequently raise prices in the market. Such output restriction
agreements lead to dead weight loss in the society.For example, in a US
Lysine Cartel caseiii, five competing Lysine producers met and allocated
the annual ‘sales volume’ quotas among themselves, they acknowledged
the provision as being of ‘vital importance to overall scheme to control the
industry.
3. Cartels: Entering the Egregious Zone
A cartel can be described as a mutual agreement which can be written or oral
or oral aimed at regulating trade terms and conditions between buyers and
sellers. Put simply, a cartel is an agreement between competitors not to
compete with each other. India recognised cartelisation as a crime against
the public as early as in 400 BC. Kautilay in his treatise ‘Arthashastra’
visualised price fixing and cartels like situations in the market and thus
prescribed standards and punishments for dealing with traders indulging in
cartels. From the writings in Arthashastra, it appears that traders cannot be
trusted as they have a propensity to form cartels to fix prices and make
excessive profits as also to deal in stolen property. Arthashastra prescribed
heavy fines to discourage such offences by traders and with a view to protect
consumers.Adam Smith viewed cartels with a tone of sarcasm as:
People of the same trade seldom meet together, even for merriment
and diversion, but the conversation ends in a conspiracy against the
public, or in some contrivance to raise prices. It is impossible indeed to
prevent such meetings, by any law which either could be executed, or
would be consistent with liberty and justice. But though the law cannot
hinder people of the same trade from sometimes assembling together,
it ought to do nothing to facilitate such assemblies; much less to render
them necessaryiv.
The 1998 OECD Recommendation proclaimed that cartels are “the most
egregious violations of competition lawv.” Thus, cartels are considered as
most pernicious form of anticompetitive activities and cartels exist at national
and international level also. Cartels harm consumers, businesses and the
economy by increasing prices, reducing choice and distorting innovation
processes. Thus, businesses forming cartels achieve greater profits for less
effort to the detriment of consumers and the economy as a whole.
The definition of hard core cartel as given by OECD is: ‘an anticompetitive
agreement, anticompetitive concerted practice or anticompetitive
arrangement by companies to fix prices, make rigged bids (collusive tenders),
establish output restrictions or quotas or share or divide markets by allocating
customers, suppliers, territories, or lines of commerce… the most egregious
violations of competition law’vi.
At its core, a cartel is an agreement between competitors not to compete with
each other. Thus, the three common components of a cartel are: an
agreement; between competitors; to restrict competition. Cartel members may
agree on such matters as price fixing, total industry output, market shares,
allocation of customers, allocation of territories, bid rigging, establishment of
common sales agencies, and the division of profits or a combination of these.
Generally it has been seen that the members of a cartel try to conceal their
activities to avoid detection. Usually cartels function in secrecy and one can
see ‘quiet life agreements’ in cartel cycles, which implies that cartels become
passive for agreed time to avoid detection. It has also been seen that
continuation of cartels is ensured through retaliation threats. In such a case,
the cartel members retaliate through temporary price cuts to take business
away from the cheating member. Compensation scheme is also one of the
methods which the cartel members undertake in order to discourage cheating
by the cartel members. Thus, if a member of a cartel is found to have sold
more than the agreed volume, then that cheating member has to compensate
the other members for the loss caused.
The regulation of cartel activity has become the priority for competition
authorities worldwide. An international cartel is said to exist, when not all of
the enterprises in a cartel are based in the same country or when the cartel
affects markets of more than one country.

International Vitamins Cartel
Leading producers of vitamins including Roche AG and BASF of Germany,
Rhone-Poulenc of France, Takeda Chemical of Japan formed a cartel
dividing up the world market and price fixing for different types of vitamins
during the 1990s. The cartel operated for over 10 years and later
prosecuted with the help of Rhone-Poulenc which defected from cartel
and cooperated with US authorities. Roche paid fines of US $ 500 million
and total fine collected exceeded US $ 1 billion in the US alone. The
overcharges paid by 90 countries importing vitamins were estimated to the
tune of US $ 2700 million during the 1990s.
(Source: Clarke andEvenett, 2003)

4. Market Structure Facilitating Collusion
Market conditions play an important role in formation of stable cartels.
Oligopolistic market structure characterised by a small number of sellers and
homogeneous products is the market structure where cartels can emerge and
operate easily. It can be said that through actions such as restricting industry
output and fixing prices in order to earn higher profits, cartel behaviour looks
akin to that of a monopoly structure. Cartel activities are more likely to be
successful in oligopolistic markets having small number of producers and
sellers. Thus, such oligopolistic market structure makes those players easy to
coordinate and collude. Examples include industries related to cement, tyre
and flour. Some of the conditions that are conducive to cartelisation are:
a. high concentration in an industry implies lesser number of competitors
which is more favourable to collusion
b. high entry and exit barriers make the market players to collude more
as there will be less threats to new entrants
c. firms collectively enjoying a higher market share are likely to collude
easily
d. more collusion in case of homogeneous products
e. similar production costs
f. stable demand and easily availability of prices of rivals
g. dependence of the consumers on the product is high
h. history of collusion in the industry
i. active trade association acting as a cartel facilitator
5. Why Cartels are Bad
Cartels have been described as ‘cancers on the open market economy’vii and
‘the supreme evil of antitrust’viii. Cartels which operate in secrecy raise price,
restrict supply, inhibit innovation, and result in artificially-concentrated
markets, waste, inefficiency and distortions in prices. Generally it has been
seen that the higher prices of the goods and services due to cartelisation
force some buyers to either purchase lower quantity and/or exit the market
entirely. This is generally termed as the “lost volume effect”.
Another effect called ‘umbrella effect’ has also been seen in a cartelised
market. In such a case, interestingly, consumers may be harmed even on the
purchases they make from suppliers that did not participate in the cartel. The
reason for such an effect can be devised from the basic demand and supply
forces in the market. As the cartelists raise the prices of goods in the market,
consumers decrease their demand from the cartelists and a correspondingly
increased demand from the non-cartelists. This results in increased prices for
consumers from all suppliers. Following reasons clearly depict the ill effects of
the cartels:
 Cartels lead to increase in prices of goods and services for consumers
 Increase in price of goods and materials which act as inputs for other
businesses thereby raising capital costs across the supply chain
 reducing investment by blocking new industry entrants by creating
entry barriers in markets thereby affecting economic growth and
entrepreneurship
 lead to deadweight loss by locking up resources as cartels interfere
with normal supply and demand forces and can effectively lock out
other operators from access to resources and distribution channels
 thecartels members enjoy a ‘quiet life’, as they agree amongst
themselves not to compete thereby impairing investments in product
developmentand research and development activities.
 cartels can have market exiting effect on non-members in the market.
 bid rigging and other activities by member of cartels targeting the
public tendering process can be a great burden on public exchequer.
6. Standard of Proof
Generally, horizontal agreements are dealt more sternly than the vertical
agreements as, prima facie, a horizontal agreement is more likely to affect
competition than a vertical agreement. The presumption is that
anticompetitive horizontal agreements do not serve any pro-competitive
purposes and hence are per se illegal.Horizontal agreements are presumed
to have adverse effect on competition. In many jurisdictions, hard core cartel
conduct is per se illegal because of its pernicious effect on competition and
lack of redeeming economic value. This provision of per se illegality is rooted
in the provisions of the U.S. law and has a parallel in most of the modern
legislations on the subjectix. This means that no argument can justify a cartel
agreement and no proof of harm is required. Harm is presumed, because this
type of agreement always raises prices and never provides any significant
benefits to consumers.
The existence of a cartel may be proved by direct evidence, indirect
(circumstantial) evidence, or a combination of both. Direct evidence includes
written agreement among cartel members, statement of a cartel member who
attended a meeting and reached an agreement with competitors, a
memorandum written within a company to report a meeting with competitors
where an agreement was reached, records of telephone conversations with
competitors, an electronic mail conversation or a statement of a person who
was approached by the cartel to join it. Generally, direct evidence is scarcely
found.Cartel members tend to conceal their activities and agree orally instead
of entering into an agreement. Circumstantial evidence may be useful in
supporting direct evidence. It may also prove the existence of a cartel by
itself, but it is important to be careful in interpreting indirect evidence.Finding
evidence in cartel cases is tough and most of the times the investigation
begins with a ‘smoking gun’ and has to end establishing a case knitting
circumstantial evidences together to prove the existence of cartel.
There can be cases where coordinated behaviour of the companies may
impede competition even without any explicit agreement. For instance,
conscious price parallelism implies a practice whereby sellers in a given
market raise their prices within a short time without any explicit agreement
amongst each other. Some jurisdictions have adopted a “parallelism plus”
approach in cases of price parallelism. This implies that the existence of “plus
factors” beyond merely the firms’ parallel behaviour needs to be shown in
order to prove the anticompetitive conduct.
In most of the jurisdictions horizontal agreements are presumed to have an
adverse effect on competition.Due to this presumption, the focus of the
competition authority is on proving the existence of the anticompetitive
arrangement itself rather than demonstrating the anticompetitive impact of the
cartel on the market.
As per ICN reportx, the fight against cartels is a legally and practically
demanding task due to the following reasons:
a) Cartels are secretive about their illicit behaviour, and therefore
agencies have to undertake great efforts to detect concealed cartels.
b) Competition authorities need extraordinary powers and skills to
collect sufficient evidence to mount a viable case against
sometimes uncooperative defendants.