Overturning a decision nearly three decades old, the United States Supreme Court recently announced that it was lifting its ban on vertical maximum price fixing. As a result of the November, 1997 ruling in State Oil Co. v. Khan, manufacturers will have more freedom to dictate to their retailers price ceilings for the resale of their products.
Writing for an unanimous Court, Justice Sandra Day O'Connor observed that there was no evidence to suggest that such arrangements harmed consumers and reversed its decades old ruling in Albrecht v. Herald Co., 390 U.S. 175 (1968), in which it branded maximum retail price fixing unlawful per se. In Albrecht, a newspaper publisher granted exclusive territories to independent carriers on the condition that they adhere to a maximum price for resale of newspapers to the public. In its Albrecht decision, the Court expressed concern that vertical maximum price fixing could allow suppliers to discriminate against certain dealers, restrict the services that dealers could afford to offer customers, or disguise minimum price fixing schemes. The Court rejected the notion that, because the newspapers publisher "granted exclusive territories, a price ceiling was necessary to protect the public from price gouging by dealers who had monopoly power in their own territories." 390 U.S. at 153.
In its recent State Oil ruling, the Court reversed its field and decided that maximum vertical price fixing should be evaluated under the more lenient Rule of Reason, which permits consideration of a variety of factors, including specific information about the business justification and competitive effect of the price ceiling.
At issue in State Oil Co. was the legality of an agreement to lease and operate a gas station and convenience store which set the maximum price at which the dealer, Barkat U. Khan, could resell gasoline. The agreement provided that Khan would obtain the station's gasoline supply from State Oil at a price equal to a suggested retail price set by State Oil, less a margin of 3.25 cents per gallon. Under the agreement, Khan could charge any amount for gasoline sold to the station's customers, but if the price charged was higher than State Oil's suggested retail price, the excess was to be rebated to State Oil. Khan could sell gasoline for less than State Oil's suggested retail price, but any such decrease would reduce his 3.25 cents per gallon margin.
When Khan fell behind in making lease payments, State Oil terminated the lease and evicted him. A receiver was appointed to operate the station, and the receiver, free of the pricing restriction imposed by State Oil, turned a profit by lowering the price of regular fuel and increasing the price of premium fuel above the price ceiling. Khan then brought suit, alleging that the maximum resale price restriction violated the antitrust laws.
Refusing to follow Albrecht, the Court restated its general view that the primary purpose of the antitrust laws is to protect competition between competing brands of products and thus benefit consumers. "Our interpretation of the Sherman Act also incorporated the notion that condemnation of practices resulting in lower prices to consumers is especially costly because cutting prices in order to increase business often is the very essence of competition." The Court reasoned that maximum resale prices could not harm either consumers or competition, reasoning that if a supplier squeezes his dealers' margins below a competitive level, the attempt to do so would just drive the dealers into the arms of a competing supplier.
The Court concluded that the potential injuries to competition cited in Albrecht were less serious than the Court imagined. Also, the Court noted that the Albrecht per se rule may actually harm consumers and suppliers. The Court concluded that there is insufficient economic justification for per se invalidation of vertical maximum price fixing.
Although the Supreme Court did not declare maximum price fixing lawful, its abandonment of the per se rule will provide suppliers with greater flexibility to establish and enforce maximum resale prices. Under the flexible Rule of Reason, where it can be shown that the price ceiling is established for legitimate business purposes and is necessary to compete against other supplier's brands, it should survive antitrust scrutiny. Although antitrust challenges to price ceilings will be much more difficult following the State Oil decision, suppliers must still be careful to document the legitimate business justification and competitive necessity for the maximum resale prices. In this regard, it is important at the outset to demonstrate that the price ceiling will be procompetitive and will likely benefit consumers. Under the Rule of Reason analysis, market power is an important consideration. Thus, the antitrust issues involving market share and market definition take on heightened significance. Accordingly, in determining whether to implement a maximum price restriction, a supplier must carefully consider the nature of the relevant market in economic terms and carefully weigh its competitive position in the marketplace. Again, as intent plays a role under the Rule of Reason, these factors should be both considered an documented before a pricing system change is implemented.