A bite at Apple – the e-books case

First published in NZ Lawyer, 23 August 2013.

Regulators on both sides of the Atlantic have recently investigated arrangements between Apple and a number of e-book publishers. The crux of the case that the US Department of Justice (DOJ) has alleged is anticompetitive "horizontal" agreements between competing e-book publishers, facilitated by Apple. However, the case also brings into focus the important distinction in competition law of agency and reseller agreements, and the treatment of "most favoured nation" clauses (or "MFNs"). We take a look at the background to this case and then consider these two issues in more detail.

In April 2011, the DOJ filed a civil antitrust lawsuit against HaperCollins, Hachette, Simon & Schuster, Macmillan, Penguin (collectively the publishers) and Apple in the US District Court for the Southern District of New York. It was alleged the parties had conspired to end e-book retailers' freedom to compete on the retail price of e-books by taking control of pricing decisions and substantially increasing the prices that consumers paid for e-books. The European Commission (EC) opened a parallel investigation in December 2011.

The regulators' allegations turned on the change in 2010 from a wholesale model, under which the e-book retailers (primarily Amazon) set the retail price of e-books, to an agency model under which the publisher sets the retail price for e-books (as principal), with the retailer selling as an agent of the publisher. It was alleged that the publishers made the switch to the agency model jointly, and in doing so included the same key pricing terms in their agreements with Apple, including a retail price MFN and a 30% commission for Apple.

The retail price MFN, in favour of Apple, provided that if a publisher's e-book was available at a lower price from another retailer, the publisher would have to match that price for sales through Apple's iBookstore. The regulators saw the MFN clause as a 'commitment device' in that it meant the loss in revenue would be significant for the publishers if they did not force other retailers to move to the agency model and prevent the prevalent practice of retail discounting (as Apple would also sell at the discounted price). Allegedly, the publishers simultaneously requested retailers (including Amazon) to accept the agency agreement (or risk not having the ability to sell any of the publishers' titles). The regulators alleged that the overall structure and pricing terms were coordinated between the publishers and Apple as part of a global strategy to increase retail prices of e-books, largely in response to Amazon's discounting of e-books.

The EC closed its case in December 2012 having accepted commitments from all parties, including Apple, though none of the parties accepted liability and strongly denied any wrongdoing. In the US, all five publishers reached settlement agreements with the DOJ, again maintaining they had not breached the law. The settlement agreements in both cases required the publishers to cancel all existing agency agreements with Apple and placed restrictions on agreements with e-book retailers going forward. Apple continues to fight the DOJ's charges, but has lost the first round with the District Court's judgment on 10 July 2013 determining that Apple had acted as a ringleader in a conspiracy to fix e-book prices.

Apple is currently disputing the DOJ's requested remedy, which is extremely wide-ranging. Perhaps most controversially, it extends beyond e-books to prohibit Apple from "entering into agreements with suppliers of e-books, music, movies, television shows or other content that are likely to increase the prices at which Apple's competitor retailers may sell that content." The publishers have also opposed the proposed remedies on Apple and Apple itself appears set to explore various avenues of appeal of the substantive decision.

While the crux of the case is the alleged horizontal agreement between publishers, it highlights some competition law issues that can arise in so-called "vertical" arrangements: those between companies at different levels of the supply chain.

First, in March 2013 (Information exchanges – the ABCs of "hub and spoke" arrangements) we discussed one area of risk in vertical arrangements, where a company at one level of a supply chain acts as a "hub" in coordinating the market conduct of companies who compete with each other at a different level of the supply chain. The e-books case highlights this risk – the allegations (and finding at first instance) is that Apple, as a retailer, assisted in coordinating the conduct of the upstream suppliers – the publishers.

Second, the case highlights the concern that suppliers sometimes have about excessive discounting of their products by retailers. For example, they may have concerns about the effect of discounting on their brand image, on other retailers, or on the level of point of sale service that customers receive. However, restricting retailers from discounting constitutes "resale price maintenance" (RPM), which is generally prohibited under competition law (in New Zealand it is prohibited outright, while US competition law asks whether the RPM will have anticompetitive effects). Conversely, in a true principal/agent relationship the principal is free to set the price at which it sells via its agent (e.g. at retail) and so the RPM rules do not apply.

Third, and far less settled, is the competition law treatment of MFN clauses. MFN clauses are common and are pro-competitive in many instances. For example, retailers often require "wholesale MFNs", requiring wholesalers to offer the retailer any lower price that the wholesaler offers to any other retailer. The retailer's (pro-competitive) aim is simply to maintain a competitive cost position. However, anticompetitive effects are also possible in some circumstances. As set out above, the US District Court has found the MFNs in relation to e-books had anticompetitive consequences. Other concerns have been raised that MFNs may prevent new entry into markets or facilitate anticompetitive collusion (although such situations would be very fact-specific).

Because the horizontal aspects were at the fore, the e-books case is unlikely to shed much light on where the danger areas lie for vertical agreements such as MFNs, whatever the final outcome. However, if nothing else, the case has added more fuel to the debate about the competitive effects of "vertical" restrictions and ensured that this remains a hot topic for competition lawyers globally.