Horizontal Agreements Regional Training Workshop on Competition Law Enforcement January 2010 Abuja, Nigeria

Overview Nature of Collusive Agreements Factors that Facilitate Collusion Restrictive Horizontal Practices: – Price fixing – Market allocation – Collusive tendering (bid rigging) Other Non-cartel Agreements Detecting and Fighting Collusion – Corporate leniency – Information Gathering – Interrogations – Dawn raids (search and seizure)

Restrictive horizontal practices- collusion Collusion is when firms agree to set prices which are higher than some competitive benchmark (or prices close enough to monopoly situation) Can be tacit or explicit competition laws prohibit agreements aimed at fixing prices, sharing markets etc. Rationale: such agreements allow firms to exercise market power they would not have otherwise Collusion may take different forms, and laws may differ as to what collusion is and what evidence is required to prove it

How is Collusion Sustained? The incentive to deviate is intrinsic to any collusive agreement. In order to sustain a collusive agreement it is crucial to: – Detect deviations from the agreement in a timely way – Have a credible and effective mechanism for the punishment of deviations Collusion is sustainable if the profits that the firm gives up in the future by deviating are significant Threat of punishment prevents firms from deviating

Co-ordination In principle there is no need to communicate to sustain collusion Tacit collusion: difficult and costly to co-ordinate on a collusive outcome, risk of triggering price wars Explicit collusion more ideal as firms are able to coordinate on the collusive price/outcome and are also able to adjust prices to shocks without triggering price wars. Generally, firms will try to talk in order to coordinate!

Factors that facilitate collusion

Structural factors Concentration – In general, a higher degree of concentration makes collusion more likely – The cost of deviation is higher if there are few firms and therefore firms in concentrated makrets are more likely to sustain collusive arrangments – Also, the fewer firms there are, the easier it is to co-ordinate on a collusive outcome Entry – The easier it is to enter into an industry, the more difficult it is to sustain collusion – Entry into the market by a new player decreases the stream of future collusive profits and also decreases the cost of deviation, making punishment less effective Cross-ownership and other links with competitors

Structural Factors(cont.) Regularity and frequency of orders – Collusion is more difficult if firms interact less frequently mainly because punishment for deviation is less effective Buyers’ power – A strong buyer can make use of its bargaining power to stimulate competition among the sellers, thereby making collusion more difficult to sustain. Evolution of demand – Demand stability generally helps to sustain collusion to the extent that it increases the degree of observability in the market making it easier to spot and punish deviations Symmetry – Symmetry through market shares, production capacity, costs etc makes collusion easier Multi-market contacts

Price transparency and exchange of information Observability of firms’ actions facilitate enforcement – Exchange of information on past/current data Coordination and the role of communication – Focal points – Exchange of information on future prices and outputs private v. public announcements

Pricing rules and contracts Most-Favoured Nation clause (ambiguous effect) Meeting-Competition clauses (helps collusion, by eliciting information on rivals and discouraging deviations in the first place) Resale price maintenance (enhances cartel stability by eliminating variation in retail prices) Uniform delivered pricing; basing point pricing

Information Exchange Information exchange between competitors generally facilitates collusion through allowing for agreements to be reached and also by monitoring adherence to an agreed price or volume However, pro-competitive reasons for information exchange also exist – cases therefore generally analysed through rule of reason approach Generally need to assess structure and characteristics of market/industry

Information Exchange (cont) Problem Areas: Private communication of strategic future plans Exchange of private/individual past, current and future prices and quantities at a disaggregated level of detail Competition protection clauses e.g. price matching To a lesser extent: Exchanges of demand or cost information, aggregate information Advance price notification

Restrictive Horizontal Practices

Price Fixing An agreement amongst ‘competitors’ to raise, fix or otherwise maintain the price at which goods or services are sold Can occur directly or indirectly Prohibition applies to both purchase and selling prices Frequently includes a policing mechanism

Market Allocation An agreement between ‘competitors’ to divide markets amongst themselves In such schemes, competitors – allocate specific customers or suppliers to one another; – allocate territories to one another; and/or – allocate types of goods or services to one another

Collusive Tendering Firms agree, in advance, who will submit the winning bid on tender Forms of collusive tendering include bid suppression, cover bidding and bid rotation Often accompanied by sub-contracting Often found in engineering, construction and State tenders where firms compete for very large contracts

Other horizontal agreements

Joint Ventures Joint-Ventures: as for mergers, trade-off between market power and efficiency A special case: Research Joint-Ventures Because of spillovers and non-rivalry, R&D unlikely to attain socially optimal levels RJV may promote R&D by sharing costs and avoiding duplications, but: R&D may fall absent competition, and… collusion may extend to marketing and production Only RJV on basic research should be allowed

Cross-licensing Cross-licensing: when two firms allow each other to use their technology. When technologies are substitutable, it may be anticompetitive: firms have an incentive to set higher royalties to reduce competition in the marketplace. When technologies are complementary, cross- licensing may be indispensable. Suppose that two firms have ‘blocking’ (i.e., essential) patents. Then, production or new innovation requires both patents

Patent pooling When patents are complementary, better to have a single owner of all patents (“Cournot effect”: better a multiproduct monopolist than two independent monopolists when products are complementary). Patent pool: firm or organisation which owns the patent rights and licenses them to third parties as a package. If patents are complementary, this will keep royalties down. Patent pooling may also save on transaction costs (rather than having to negotiate with multiple parties, a firm has to deal with one party only). Clearly, patent pooling Pareto-dominates the situation where licenses are set independently: royalty fees and prices are lower, profits are higher.

Detecting and Fighting Collusion

How to Detect Collusion Inferring collusion from data Look at price levels: Price parallelism: not conclusive proof of collusion (common shocks) Periods of ‘price wars’ not sufficient condition for collusion either (new capacity, new competitors, demand shocks…) Further, numerous obstacles: Price data availability Difficult to estimate ‘monopoly price’ and marginal costs

How to Detect Collusion (cont.) Hard evidence Of communication on prices, volumes/market shares, customers between competitors Focus on observable elements verifiable in courts to preserve legal certainty: faxes s phone calls video witness testimony under oath etc.

Fighting Collusion Ex ante: Limit certain facilitating practices that sustain collusion (Exchange of disaggregate current/past information, private announcements of future prices/outputs) Cross-ownership among competitors in problematic markets be limited Merger control (joint dominance) Deterrence of collusion: criminal sanctions Ex post: Dawn Raids Corporate Leniency Programmes Interrogations

Corporate Leniency The main aim of a corporate leniency policy (CLP) is to detect cartel activity with the confession and assistance of an existing cartel member, investigate and expose the cartel behaviour, penalise the cartel and ultimately, discourage the formation of cartels. This policy only applies to cartel activity and not to any other prohibited practices in terms of the South African Competition Act. The CLP does not automatically provide immunity to the applicant. It only offers immunity to the successful applicant which cooperates and meets all the requirements of the CLP. Once the firm has applied for leniency, the Commission may grant conditional immunity pending the finalisation of the leniency process. Once the application for leniency has been made, the Commission expects full disclosure and cooperation from the applicant to ensure that the investigation leads to a successful prosecution of the cartel members.

Corporate Leniency (cont) Only firms and not individual employees are eligible for leniency. The firm must be the ‘first to the door’ to report the cartel activity. Even the instigating firm may apply for leniency The Commission protects the confidential information and identity of the applicant, unless the applicant consents to waiving this confidentially. Key aspects of a successful leniency policy include stringent penalties, certainty and transparency and an increase in the risk of detection

Dawn Raids Dawn raids / search and seizure operations are generally used as the last resort in attempting to obtain information perceived as crucial to the case The offices of a few suspected cartel members are searched by the Commission simultaneously and all relevant documents as well as all information stored on IT systems is seized by the Commission Dawn raids, although effective are very costly and time consuming. They also require meticulous planning and initial research. It is also often difficult to obtain a search warrant especially since most judges are not conversant with competition issues.