AAI Presses Creative Responses to Slotting Fees in the Grocery Industry, as Skitol Testifies in Senate

Sep 14 1999
Testimony and Interventions

TESTIMONY OF ROBERT A. SKITOLDRINKER BIDDLE & REATH LLPON BEHALF OFTHE AMERICAN ANTITRUST INSTITUTEBEFORE COMMITTEE ON SMALL BUSINESSUNITED STATES SENATEHEARINGS ONSLOTTING FEES IN THE GROCERY INDUSTRY

Mr. Chairman, I welcome this opportunity to discuss antitrust ramifications of slotting fee practices in the grocery industry. My statement today is offered on behalf of the American Antitrust Institute, an independent nonprofit organization dedicated to the maintenance of effective antitrust enforcement throughout our economy. My perspectives rest on 29 years of antitrust law practice that has included, over the past ten years in particular, all too many unhappy encounters with small business clients in various parts of the food manufacturing sector disabled from growing and in some cases even remaining in business because of the impact of slotting fee practices.

I say unhappy because the outcome of every encounter of this sort in my practice has been the same: none of the available options for seeking redress in the prevailing legal environment was acceptable to the client involved and so in the end I was unable to be of assistance. Some of them then just struggled along; others sold out to larger rivals; and some closed down. I have come to believe that the proliferation of excessive and exclusionary slotting fees presents a serious public policy problem in this country. Fresh and creative responses are needed, and I wish to applaud your Committee's evident interest in exploring such possibilities.

One impediment to thoughtful analysis of slotting fee practices is the absence of reliable industry-wide information on this subject. This is not surprising in light of the pervasive secrecy surrounding what actually occurs among the major players in this saga, namely the dominant retail chains and the dominant suppliers to them. There is nonetheless enough known to us from published research and other sources to be concerned about the overall picture and its implications for competition.

Slotting fees encompass a diverse range of payments and a diverse range of market contexts, so we need to be careful about generalizations in this area. Some fees buy nothing more than initial entry onto retail shelves for a new product or product extension. Others entail ongoing payments, often including negotiated commitments on the retailer's part for particularly favorable shelf location and other forms of preferred treatment. In some cases, the supplier extracts product exclusivity as a quid pro quo for its payments, thereby entirely ousting rival products from the recipient's stores. Retail chains may demand different amounts from different suppliers in the same product category -- indeed in some cases the leading supplier may pay nothing while its smaller rivals are expected to write large checks. And suppliers that do pay the fees demanded by dominant chains make no payments of this sort to smaller competing retail outlets.

Slotting fees of one sort or another have been around for a long time, and industry representatives have long offered plausible arguments for their legitimate role in cost and risk sharing between the supplier and retailer segments of the food distribution process. These "efficiency" arguments warrant consideration: they should be neither dismissed out of hand nor just accepted at face value as explanations for what has evolved. From all indications, there has been a steep rise in the frequency of slotting fee demands and a sharp escalation in the size of fees demanded over the course of the past decade. These fees are also increasingly accompanied by stipulations enabling dominant suppliers to control shelf display and merchandising arrangements in ways that ensure their enhanced dominance at the expense of their smaller rivals.

The cumulative impact on both smaller suppliers and smaller retailers is pretty clear. Smaller suppliers cannot afford or cost-justify the payments demanded. Some may pay disproportionate amounts that force up costs and make them uncompetitive with larger rivals while others end up excluded altogether from the major retail chains, becoming confined to smaller outlets that are insufficient for long-term viability. Smaller retailers without any ability to extract slotting fees end up paying more than their larger rivals for the goods on their shelves, thereby becoming uncompetitive in their resale prices and forced to accept little more than "niche" positions in their markets. As their rivals grow, their volumes shrink and many of them eventually exit altogether.

If this were only a story about an overall shift in the balance of power between big suppliers and big retailers, a transfer of "rents" from one group to the other, it would not rise to the level of a serious antitrust issue. That is not, however, the bottom line. Given the presence of significant market power at both supplier and retailing levels, excessive slotting fees can translate into costs that suppliers pass on to all retail outlets and that consumers then incur through higher food prices. Dominant suppliers may not always like paying the freight, but they don't complain about the result of disproportionally raising rivals' costs to the point of undermining rivals' viability. Dominant chains thus exercise their formidable "gatekeeping" power to the anticompetitive benefit of their largest suppliers who get to buy "exclusionary rights" beyond mere access for their own products.

Consumers are the ultimate losers in this game as both smaller suppliers and smaller retailers cannot grow and eventually go out of business. Concentration increases and competition diminishes in both manufacturing and retailing segments, which then means not only even higher prices but less innovation and less choice. We are in particular talking about serious foreclosure from market access of high?quality, innovative suppliers that could otherwise meaningfully challenge entrenched incumbents, practices that raise wholly artificial and impenetrable barriers to new entry throughout the food industry. Here the free market is not so free.

My small business clients have often told me of their slotting fee situations with emphasis on the "discriminatory" nature of the payments demanded and paid. They have then asked why this isn't "clearly" illegal under the longstanding Robinson?Patman Act, a statute they understood to have been enacted to put a stop to discriminatory abuses of chain buying power. My response to them has never been quite as blunt as I wish to be with your Committee today. There is virtually nothing "clearly" illegal under the Robinson-Patman Act; it was poorly drafted in 1936, has been badly mangled by judicial interpretations over many years, has often produced anticompetitive outcomes in its application, has actually harmed small business interests in many settings, and Congress has not seriously considered any reforms of it any time over the past several decades even as the economy to which it applies has undergone convulsive changes. And I submit that most experienced members of the antitrust bar would agree with me on all of these points. For all of these reasons, it may be regrettable but is not surprising that the Federal Trade Commission has not brought a single new Robinson?Patman enforcement action in over 15 years.

Let me quickly add, however, that the Robinson/Patman Act as now interpreted can be invoked against at least some kinds of slotting practices in at least some market environments. Here in a nutshell is the story in this regard.

· Section 2(a) of the Act prohibits a supplier from discriminating in the "price" at which it sells a commodity to different buyers where the effect may be to lessen competition either between that supplier and its rivals or between the favored and disfavored buyers. A claim could be made that a supplier violates this section when it pays a large slotting fee to a big chain but does not at least offer to pay the same fee to all competing retailers. But there are several obstacles confronting any attempt to prevail on a claim of this sort, including (a) the difficulty of proving that the fee constitutes a "price" discrimination (since it is unrelated to the volume of purchases); (b) the difficulty of proving the requisite competitive effect; (c) the supplier's inevitable "meeting competition" defense under Section 2(b) of the Act, which is easy to assert but often difficult to overcome; and (d) various other potential defenses that could also arise, compounding the complexity of the litigation.

· Section 2(c) of the Act prohibits both the grant by a supplier and the acceptance by a buyer of a payment in the nature of a "brokerage" commission "except for services rendered." A claim could be made that slotting fees are illegal brokerage under this section. Again, however, there are obstacles to prevailing on claims of this sort, including (a) some precedents holding that the scope of this section is far more limited, and (b) considerable confusion from many cases over the meaning of the "services rendered" exception.

· Sections 2(d) and 2(e) of Act prohibit a supplier from providing to any reseller allowances or services that promote resale of the supplier's product unless the supplier offers the same allowances or services or the functional equivalent of them to all competing resellers on a proportionally equal basis. A claim could be made that slotting fees paid to dominant chains in exchange for preferred shelf space or other preferred in-store treatment violate these sections if the supplier in question is not offering the same payments to all competing resellers. Indeed FTC Guides that were issued nine years ago support such a claim. Again, however, there are obstacles to prevailing on claims of this sort, including potential difficulties in proving a direct link between the payments at issue and resale benefits as well as in proving the absence of offers to competing resellers.

· Finally, Section 2(f) of the Act prohibits a buyer from receiving a price discount from a supplier when the buyer knows or has reason to know that the supplier's grant of the discount violates Section 2(a) of the Act. A claim could be made that a dominant chain's receipt of a slotting fee not being offered to competing retailers violates this section. Again, there are obstacles to prevailing on claims of this sort, including the points already mentioned in my comments on attempting to prove a 2(a) violation on the part of the supplier. A major additional challenge in this instance is proving the required knowledge on the part of the chain in question that the supplier possesses no defenses to a 2(a) violation.

Despite these problems, there are two cases in the past six years where courts have denied defendants' motions for summary judgment against slotting fee claims and have written opinions holding the slotting fees there at issue to be subject to one or more parts of the Robinson-Patman Act. Both cases then settled before trial. In June of this year, a brave soul whose magazine distribution business was destroyed as a result of slotting fees paid by far larger rivals in exchange for exclusivity with major grocery chains in Maine filed suit against those rivals under Section 2(c) of the Robinson-Patman Act. His case is now scheduled for trial next February. Everyone concerned with slotting fee practices should be watching and cheering him on.

The Robinson?Patman Act is not the only antitrust law available to challenge anticompetitive uses of slotting fees. Section 1 of the Sherman Act prohibits contracts in "unreasonable" restraints of trade; Section 2 of the Sherman Act prohibits monopolization and attempted monopolization of trade through the use of "exclusionary" practices. Both sections could be invoked in situations where a dominant manufacturer employs slotting fees or similar arrangements to obtain either actual or de facto product exclusivity from a large enough percentage of retail outlets to foreclose smaller rivals from market access generally.

One district court three months ago, in a Sherman Act suit instituted by R. J. Reynolds, preliminarily enjoined Philip Morris from proceeding with an exclusionary display space program. While this is a helpful Sherman Act precedent, there are few suppliers with the resources of an R.J. Reynolds or otherwise positioned to prosecute a suit of this magnitude. The Sherman Act, moreover, cannot reach situations where a small supplier is foreclosed from the market by the cumulative effect of multiple fees and practices undertaken independently by multiple firms rather than by one market?wide program undertaken by a single dominant firm.

Getting back to my small business clients, they would always listen to my rendition of the ins and outs of the Robinson?Patman Act as well as my discourse on Sherman Act possibilities and would then explain that there was no way they were prepared to commence litigation under these laws. Indeed, they would explain just how suicidal it would be for their businesses even to threaten to file a lawsuit or otherwise publicly challenge slotting fees in any fashion. The picture I get is widespread fear of business-destroying retaliation on the part on the grocery trade against any supplier with the temerity to question the legality of these payments.

So, after flatly rejecting that route, my various clients would then want to know why the Federal Trade Commission wasn't on top of this situation. I would respond that the FTC is an agency with vast law enforcement responsibilities, limited and inadequate resources available to address all problems in all industries, but receptive to receiving information about possible violations that should be of concern to them. I would further outline procedures under which we could on a confidential basis bring to the agency specific facts on how particular firms were using slotting fees in an anticompetitive manner and urge initiation of an appropriate enforcement investigation.

My clients uniformly rejected that course, fearful that the targets of any such requested investigation would learn or suspect the identity of the complainant instigating the trouble and then retaliate in some dire manner. This was a risk that none of them was prepared to take. I know the same is true of many other small business clients who have brought similar stories to other lawyers across the country. The bottom line is that, while the FTC has heard generalized complaints about slotting fees, it would not be surprising if few if any parties to date have been willing to provide the agency with sufficiently specific and credible information to warrant initiation of what would surely be prolonged and expensive company-specific investigations.

I know many members of the small business community are highly critical of the FTC for its failure to take on this issue on its own initiative. While this criticism is understandable, it is not valid and is misdirected. The FTC throughout the past several years has struggled mightily to deal with mounting enforcement imperatives under severe budgetary limits. An avalanche of mergers and acquisitions demanding intensive scrutiny, rampant and outrageous internet frauds, and many other high-priority enforcement concerns have left few resources for other initiatives. In my opinion, which is widely shared in the antitrust bar, the FTC under Chairman Pitofsky's leadership has done a superb job and deserves high praise from Congress and the public for all it has been able to accomplish and the quality of the work it has undertaken throughout the past four years. The career staff of this agency are without any doubt among the most talented, dedicated and productive public servants in the federal government today.

That said, however, the time has come for the FTC to address the slotting fee problem. One place to start is within the context of supermarket merger enforcement activity. Abusive slotting allowances are a direct result of the vast consolidation of the supermarket industry since the mid-1980s and the resulting accumulation of "monopsony power" within merged chains throughout the country. While the FTC has challenged and extracted divestiture relief in many of these mergers with a focus on addressing downstream seller market power concerns, it has not addressed upstream buying power effects that the mergers have created and that have remained even after required divestitures occur.

The American Antitrust Institute has urged the FTC to expand the focus of its supermarket merger enforcement activity to include that upstream side of the story. The European Community's competition authorities have paved the way in this regard in their recent decision blocking a merger between the two leading supermarket chains in Finland. The FTC should aggressively pursue this dimension in its merger enforcement actions with a view to halting further accumulations of buying market power in the U.S. supermarket industry.

That step, however, will not address existing buyer power that enables the dominant chains to command increasingly exorbitant slotting fees and to join with dominant product suppliers to stifle competition from smaller rivals at both ends of the distribution process. The FTC can and should play a role in attacking this problem, and Congress should enable the agency to do so with specially designated supplemental funding so it will not come at the expense of other vital enforcement activity.

The slotting fee problem is to my mind precisely the kind of serious but complex economic problem within the FTC's historic mission under its broad mandate -- set forth in Section 5 of the FTC Act -- to investigate and remedy "unfair methods of competition" whether or not they fall within established prohibitions of our other antitrust laws. Indeed, the FTC used this authority one year ago to address a misuse of buying power by Toys "R" Us through its extraction of commitments from the leading toy manufacturers to stifle competition from rival toy retailers. It would be well within currently prevailing antitrust enforcement policy thinking to use this same authority against "exclusionary vertical agreements" in food distribution, particularly those involving a dominant supplier's payments to dominant retail chains for "exclusionary rights" that stifle competition from rival suppliers.

The Wilson?Brandeis vision for this agency at its inception in 1914 was that it would study emerging or incipient threats to competition thoughout the economy and then develop appropriate prophylactic responses. To this end, the FTC has long employed a high?caliber group of economists who have over the years undertaken many in?depth studies contributing importantly to the evolution of antitrust policy. Indeed it was an FTC economic study of grocery chain practices culminating in a 1934 report to Congress, delineating a pattern of "special discounts and allowances" that suppressed competition from independent wholesalers and retailers, that led to the enactment of the Robinson?Patman Act two years later. We now need a new FTC chain store study with a focus upon slotting fee practices and all of their competitive ramifications in food manufacturing as well as food retailing.

To be more specific, the study should probe deeply into this whole phenomenon with the benefit of all of this agency's compulsory process authority and economic sophistication. The study could target 6 or 8 particular metropolitan areas or regions dominated by two or three leading chains and could also focus on 6 or 8 product categories dominated by two or three leading suppliers. The agency could subpoena slotting fee records from all of these companies, followed by depositions of their key officers and employees; it could collect related information from smaller retailers within the selected market areas and from smaller suppliers within the selected product categories.

FTC economists and lawyers would then be positioned to analyze the problem on a fully informed basis, reach some conclusions, and prepare a report for Congress and the public. The report could become a basis for proposing enforcement guidelines that inform the industry on the line between lawful and unlawful slotting fee practices. Guidelines emerging from an objective study of the sort I have suggested -- an expanded version of guidelines that are already in place -- would take due account of industry needs for cost and risk sharing and other plausible "efficiency" rationales for slotting fee arrangements. The focus would be on "exclusionary" uses constituting the exercise of market power to suppress competition at either the manufacturing or retailing level.

In short, the idea would be a surgical rather than meat-axe remedy. True believers in a competitive free market don't want to see a new heavy hand of regulation bearing down upon complex give?and?take relationships between suppliers and their retail partners. At the same time, new agency guidelines should make clear that there are limits on arrangements between dominant suppliers and dominant retailers, and that this agency will use the laws available to it when disregard of those limits threatens the competitive process.

The proposed study and the resulting report could also become a basis for recommendations on new legislation, maybe including revisions to the Robinson-Patman Act for consideration by the next Congress. The recommendations could specifically include amendments that would clarify the Act's application to anticompetitive uses of slotting fees as well as other amendments that eliminate overly restrictive aspects of this law that many participants in many industries have long criticized as impeding efficiency and price competition. There is much to be said for a new look at whether this Depression-era law in its present convoluted state is an appropriate part of 21st century antitrust policy.

Of course, we are now talking about a Pandora's Box and, once opened, there will be those calling for outright repeal while others push in the opposite direction for more intrusive controls and constraints on competitive conduct. Thoughtful observers should reject both extremes in favor of a more streamlined and updated statute. The focus should be on how this law could be refashioned into an effective weapon against pervasive and markedly anticompetitive exercises of monopsony power. That indeed was its main objective upon enactment 63 years ago, and that is an objective of considerable importance to our economy today and tomorrow.

It bears repeating that the FTC should not be expected to devote resources to a project of this sort at the expense of other pressing responsibilities. Special funding is in order, enabling the agency to hire personnel who will be committed to this task. The right kind of study would be costly and take a few years from start to finish. For those whose businesses are now threatened by slotting fee practices, patience while a study is underway may seem like a lot to ask. There is reason to believe, however, that the mere initiation of the investigation and the resulting knowledge in the industry that close scrutiny of slotting fee practices is underway would have some immediate positive impact upon industry conduct, certainly upon the way antitrust counselors for both dominant chains and dominant suppliers counsel their clients about these matters in the months ahead.

Mr. Chairman, your Committee has taken a critical first step in shining light upon the slotting fee problem and instigating a dialogue among parties with divergent perspectives on it. The American Antitrust Institute appreciates this opportunity to be a participant