VERTICAL CASELAW BETWEEN SHARP & LEEGIN

I. State Oil Co. v. Khan (U.S. 1997) (AR334-49)A. Effectively vertical maximum price set by oil co. to gas stn.

1. Albrecht (1968) had held vertical maximum pfx per se illegal2. SCt agrees to reconsider

a. Some of underpinnings gone (Sylvania)b. Lots of criticism

B. Move to Rule of Reason (RoR) by Unanimous Court1. Unlikely to be harmful unless seller has market power2. Can be attempt to limit retail market power3. If hiding cartel, etc., RoR sufficient screen

C. FYI1. Posner opinion in 7th Cir.: Notable technique by lower court judge

a. Writes reasons for overruling Albrechtb. Refuses to do so himself b/c boundc. Encourages SCt to reconsider

2. Interesting discussion of Facts & economic effects in AR

II.- NYNEX Corp. v. Discon, Inc. (U.S. 1998) A. NYNEX chooses to do business w AT&T not Plaintiff Discon

1. Allegation: Part of scheme to defraud customersa. artificially inflate costs so prices set by regulators higherb. then NYNEX splits gains w AT&T

2. Discon refuses to play, so loses bizB. 2d Cir.: no apparent comp reason for refusal to deal; maybe per se

1. allowed D to introduce pro-competitive reasons2. if none, per se

C. SCt: reverses; no per se rule here1. vertical (not horizontal) under Sharp2. bad policy anyway

a. don’t want all fraud cases to be treble damage AT casesb. don’t want to discourage switching suppliersc. mere desire to destroy market player insufficient

3. Complaint suggests that AT&T might not have had mkt powerD. At the time, reinforced Sharp line between per se & RoR

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LEEGIN CREATIVE LEATHER PRODUCTS v. PSKS, INC.551 U.S. ____ (6/28/07)

JUSTICE KENNEDY delivered the opinion of the Court. In Dr. Miles, the Court established the rule that it is per se illegal under §1 of the Sherman Act, for a manufacturer to agree with its distributor to set the minimum price the distributor can charge for the manufacturer’s goods. … We now hold that Dr. Miles should be overruled and that vertical price restraints are to be judged by the rule of reason.

I. Petitioner, Leegin Creative Leather Products, Inc. (Leegin), designs, manufactures, and distributes leather goods and accessories. In 1991, Leegin began to sell belts under the brand name “Brighton.” The Brighton brand has now expanded into a variety of women’s fashion accessories…, sold across the U.S. in over 5,000 retail establishments, for the most part independent small boutiques and specialty stores. … Leegin asserts that, at least for its products, small retailers treat customers better, provide customers more services, and make their shopping experience more satisfactory than do larger, often impersonal retailers. …

Respondent, PSKS, Inc. (PSKS), operates Kay’s Kloset, a women’s apparel store…. Kay’s Kloset buys from about 75 different manufacturers and at one time sold the Brighton brand. … Once it began selling the brand, the store promoted Brighton. For example, it ran Brighton advertisements and had Brighton days in the store. Kay’s Kloset became the destination retailer in the area to buy Brighton products. Brighton was the store’s most important brand and once accounted for 40 to 50 percent of its profits.

In 1997, Leegin instituted the “Brighton Retail Pricing and Promotion Policy.” Following the policy, Leegin refused to sell to retailers that discounted Brighton goods below suggested prices. … Leegin adopted the policy to give its retailers sufficient margins to provide customers the service central to its distribution strategy. It also expressed concern that discounting harmed Brighton’s brand image and reputation.

A year after instituting the pricing policy Leegin introduced a marketing strategy known as the “Heart Store Program.” It offered retailers incentives to become Heart Stores, and, in exchange, retailers pledged, among other things, to sell at Leegin’s suggested prices. Kay’s Kloset became a Heart Store soon after Leegin created the program. After a Leegin employee visited the store and found it unattractive, the parties appear to have agreed that Kay’s Kloset would not be a Heart Store beyond 1998. Despite losing this status, Kay’s Kloset continued to increase its Brighton sales.

In December 2002, Leegin discovered Kay’s Kloset had been marking down Brighton’s entire line by 20 percent. Kay’s Kloset contended it placed Brighton products on sale to compete with nearby retailers who also were undercutting Leegin’s suggested prices. Leegin, nonetheless, requested that Kay’s Kloset cease discounting. Its request refused, Leegin stopped selling to the store. The loss of the Brighton brand had a considerable negative impact on the store’s revenue from sales.

PSKS sued Leegin [alleging] that Leegin had violated the antitrust laws by “enter[ing] into agreements with retailers to charge only those prices fixed by Leegin.” Leegin planned to introduce expert testimony describing the procompetitive effects of its pricing policy. The District Court excluded the testimony, relying on the per se rule

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established by Dr. Miles. At trial PSKS argued that the Heart Store program, among other things, demonstrated Leegin and its retailers had agreed to fix prices. Leegin responded that it had established a unilateral pricing policy lawful under §1, which applies only to concerted action. See Colgate. The jury agreed with PSKS and awarded it $1.2 million. … [T]he District Court trebled the damages and reimbursed PSKS for its attorney’s fees and costs. It entered judgment against Leegin in the amount of $3,975,000.80.

The Court of Appeals for the Fifth Circuit affirmed. On appeal Leegin did not dispute that it had entered into vertical price-fixing agreements with its retailers. Rather, it contended that the rule of reason should have applied to those agreements. … We granted certiorari to determine whether vertical minimum resale price maintenance agreements should continue to be treated as per se unlawful.

II. Section 1 of the Sherman Act prohibits “[e]very contract, combination in the form of trust or otherwise, or conspiracy, in restraint of trade or commerce among the several States.” While §1 could be interpreted to proscribe all contracts, see, e.g., Chicago Board of Trade, the Court has never “taken a literal approach to [its] language,” Texaco Inc. v. Dagher, 547 U.S. 1, 5 (2006). Rather, the Court has repeated time and again that §1 “outlaw[s] only unreasonable restraints.” Khan.

The rule of reason is the accepted standard for testing whether a practice restrains trade in violation of §1. “Under this rule, the fact finder weighs all of the circumstances of a case in deciding whether a restrictive practice should be prohibited as imposing an unreasonable restraint on competition.” Sylvania. … In its design and function the rule distinguishes between restraints with anticompetitive effect that are harmful to the consumer and restraints stimulating competition that are in the consumer’s best interest.

The rule of reason does not govern all restraints. Some types “are deemed unlawful per se.” Khan. The per se rule, treating categories of restraints as necessarily illegal, eliminates the need to study the reasonableness of an individual restraint in light of the real market forces at work, Business Electronics; and, it must be acknowledged, the per se rule can give clear guidance for certain conduct. Restraints that are per se unlawful include horizontal agreements among competitors to fix prices or to divide markets. Resort to per se rules is confined to restraints, like those mentioned, “that would always or almost always tend to restrict competition and decrease output.” Id. To justify a per se prohibition a restraint must have “manifestly anticompetitive” effects, Sylvania, and “lack any redeeming virtue,” Northwest Wholesale Stationers.

  As a consequence, the per se rule is appropriate only after courts have had considerable experience with the type of restraint at issue, see BMI, and only if courts can predict with confidence that it would be invalidated in all or almost all instances under the rule of reason, see Maricopa County Medical Soc. It should come as no surprise, then, that “we have expressed reluctance to adopt per se rules with regard to restraints imposed in the context of business relationships where the economic impact of certain practices is not immediately obvious.” Khan; see also White Motor Co. (refusing to adopt a per se rule for a vertical nonprice restraint because of the uncertainty concerning whether this type of restraint satisfied the demanding standards necessary to apply a per se rule). And, as we have stated, a “departure from the rule-of-reason standard must be based upon demonstrable economic effect rather than ... upon formalistic line drawing.” Sylvania.

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III. The Court has interpreted Dr. Miles … as establishing a per se rule against a vertical agreement between a manufacturer and its distributor to set minimum resale prices. In Dr. Miles the plaintiff, a manufacturer of medicines, sold its products only to distributors who agreed to resell them at set prices. The Court found the manufacturer’s control of resale prices to be unlawful. It relied on the common-law rule that “a general restraint upon alienation is ordinarily invalid.” The Court then explained that the agreements would advantage the distributors, not the manufacturer, and were analogous to a combination among competing distributors, which the law treated as void.

The reasoning of the Court’s more recent jurisprudence has rejected the rationales on which Dr. Miles was based. By relying on the common-law rule against restraints on alienation, the Court justified its decision based on “formalistic” legal doctrine rather than “demonstrable economic effect.” Sylvania. The Court in Dr. Miles relied on a treatise published in 1628, but failed to discuss in detail the business reasons that would motivate a manufacturer situated in 1911 to make use of vertical price restraints. Yet the Sherman Act’s use of “restraint of trade” “invokes the common law itself, not merely the static content that the common law had assigned to the term in 1890.” Business Electronics. The general restraint on alienation, especially in the age when then-Justice Hughes used the term, tended to evoke policy concerns extraneous to the question that controls here. Usually associated with land, not chattels, the rule arose from restrictions removing real property from the stream of commerce for generations. The Court should be cautious about putting dispositive weight on doctrines from antiquity but of slight relevance. We reaffirm that “the state of the common law 400 or even 100 years ago is irrelevant to the issue before us: the effect of the antitrust laws upon vertical distributional restraints in the American economy today.” Sylvania n.21.

Dr. Miles, furthermore, treated vertical agreements a manufacturer makes with its distributors as analogous to a horizontal combination among competing distributors. In later cases, however, the Court rejected the approach of reliance on rules governing horizontal restraints when defining rules applicable to vertical ones. See, e.g., Business Electronics (disclaiming the “notion of equivalence between the scope of horizontal per se illegality and that of vertical per se illegality”); Maricopa County n.18 (noting that “horizontal restraints are generally less defensible than vertical restraints”). Our recent cases formulate antitrust principles in accordance with the appreciated differences in economic effect between vertical and horizontal agreements, differences the Dr. Miles Court failed to consider.

The reasons upon which Dr. Miles relied do not justify a per se rule. As a consequence, it is necessary to examine, in the first instance, the economic effects of vertical agreements to fix minimum resale prices, and to determine whether the per se rule is nonetheless appropriate.

A. Though each side of the debate can find sources to support its position, it suffices to say here that economics literature is replete with procompetitive justifications for a manufacturer’s use of resale price maintenance. See, e.g., Brief for Economists as Amici Curiae 16 (“In the theoretical literature, it is essentially undisputed that minimum [resale price maintenance] can have procompetitive effects and that under a variety of market conditions it is unlikely to have anticompetitive effects”); Brief for U.S. as Amicus Curiae 9 (“[T]here is a widespread consensus that permitting a manufacturer to control

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the price at which its goods are sold may promote interbrand competition and consumer welfare in a variety of ways”); ABA SECTION OF ANTITRUST LAW, ANTITRUST LAW AND ECONOMICS OF PRODUCT DISTRIBUTION 76 (2006) (“[T]he bulk of the economic literature on [resale price maintenance] suggests that [it] is more likely to be used to enhance efficiency than for anticompetitive purposes”); see also H. HOVENKAMP, THE ANTITRUST ENTERPRISE: PRINCIPLE AND EXECUTION 184-91 (2005) (hereinafter HOVENKAMP); R. BORK, THE ANTITRUST PARADOX 288-91 (1978) (hereinafter BORK). Even those more skeptical of resale price maintenance acknowledge it can have procompetitive effects. See, e.g., Brief for William S. Comanor et al. as Amici Curiae 3 (“[G]iven [the] diversity of effects [of resale price maintenance], one could reasonably take the position that a rule of reason rather than a per se approach is warranted”); F.M. SCHERER & D. ROSS, INDUSTRIAL MARKET STRUCTURE AND ECONOMIC PERFORMANCE 558 (3d ed. 1990) (hereinafter SCHERER & ROSS) (“The overall balance between benefits and costs [of resale price maintenance] is probably close”).

 The few recent studies documenting the competitive effects of resale price maintenance also cast doubt on the conclusion that the practice meets the criteria for a per se rule. See T. OVERSTREET, RESALE PRICE MAINTENANCE: ECONOMIC THEORIES AND EMPIRICAL EVIDENCE 170 (1983) (hereinafter OVERSTREET) (noting that “[e]fficient uses of [resale price maintenance] are evidently not unusual or rare”); see also Ippolito, Resale Price Maintenance: Empirical Evidence From Litigation, 34 J. Law & Econ. 263, 292-93 (1991) (hereinafter Ippolito).

 The justifications for vertical price restraints are similar to those for other vertical restraints. See Sylvania. Minimum resale price maintenance can stimulate interbrand competition—the competition among manufacturers selling different brands of the same type of product—by reducing intrabrand competition—the competition among retailers selling the same brand. See id.. The promotion of interbrand competition is important because “the primary purpose of the antitrust laws is to protect [this type of] competition.” Khan. A single manufacturer’s use of vertical price restraints tends to eliminate intrabrand price competition; this in turn encourages retailers to invest in tangible or intangible services or promotional efforts that aid the manufacturer’s position as against rival manufacturers. Resale price maintenance also has the potential to give consumers more options so that they can choose among low-price, low-service brands; high-price, high-service brands; and brands that fall in between.

Absent vertical price restraints, the retail services that enhance interbrand competition might be underprovided … because discounting retailers can free ride on retailers who furnish services and then capture some of the increased demand those services generate. Sylvania. Consumers might learn, for example, about the benefits of a manufacturer’s product from a retailer that invests in fine showrooms, offers product demonstrations, or hires and trains knowledgeable employees. R. POSNER, ANTITRUST LAW 172-73 (2d ed. 2001) (hereinafter POSNER). Or consumers might decide to buy the product because they see it in a retail establishment that has a reputation for selling high-quality merchandise. Marvel & McCafferty, Resale Price Maintenance and Quality Certification, 15 Rand J. Econ. 346, 347-49 (1984) (hereinafter Marvel & McCafferty). If the consumer can then buy the product from a retailer that discounts because it has not spent capital providing services or developing a quality reputation, the high-service

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retailer will lose sales to the discounter, forcing it to cut back its services to a level lower than consumers would otherwise prefer. Minimum resale price maintenance alleviates the problem because it prevents the discounter from undercutting the service provider. With price competition decreased, the manufacturer’s retailers compete among themselves over services.

Resale price maintenance, in addition, can increase interbrand competition by facilitating market entry for new firms and brands. “[N]ew manufacturers and manufacturers entering new markets can use the restrictions in order to induce competent and aggressive retailers to make the kind of investment of capital and labor that is often required in the distribution of products unknown to the consumer.” Sylvania; see Marvel & McCafferty 349 (noting that reliance on a retailer’s reputation “will decline as the manufacturer’s brand becomes better known, so that [resale price maintenance] may be particularly important as a competitive device for new entrants”). New products and new brands are essential to a dynamic economy, and if markets can be penetrated by using resale price maintenance there is a procompetitive effect.

Resale price maintenance can also increase interbrand competition by encouraging retailer services that would not be provided even absent free riding. It may be difficult and inefficient for a manufacturer to make and enforce a contract with a retailer specifying the different services the retailer must perform. Offering the retailer a guaranteed margin and threatening termination if it does not live up to expectations may be the most efficient way to expand the manufacturer’s market share by inducing the retailer’s performance and allowing it to use its own initiative and experience in providing valuable services. See Mathewson & Winter, The Law and Economics of Resale Price Maintenance, 13 Rev. Indus. Org. 57, 74-75 (1998) (hereinafter Mathewson & Winter); Klein & Murphy, Vertical Restraints as Contract Enforcement Mechanisms, 31 J. Law & Econ. 265, 295 (1988); see also Deneckere, Marvel, & Peck, Demand Uncertainty, Inventories, and Resale Price Maintenance, 111 Q. J. Econ. 885, 911 (1996) (noting that resale price maintenance may be beneficial to motivate retailers to stock adequate inventories of a manufacturer’s goods in the face of uncertain consumer demand).

B. While vertical agreements setting minimum resale prices can have procompetitive justifications, they may have anticompetitive effects in other cases; and unlawful price fixing, designed solely to obtain monopoly profits, is an ever present temptation. Resale price maintenance may, for example, facilitate a manufacturer cartel. See Business Electronics. An unlawful cartel will seek to discover if some manufacturers are undercutting the cartel’s fixed prices. Resale price maintenance could assist the cartel in identifying price-cutting manufacturers who benefit from the lower prices they offer. Resale price maintenance, furthermore, could discourage a manufacturer from cutting prices to retailers with the concomitant benefit of cheaper prices to consumers. See id.; see also POSNER 172; OVERSTREET 19-23.

Vertical price restraints also “might be used to organize cartels at the retailer level.” Business Electronics. A group of retailers might collude to fix prices to consumers and then compel a manufacturer to aid the unlawful arrangement with resale price maintenance. In that instance the manufacturer does not establish the practice to stimulate services or to promote its brand but to give inefficient retailers higher profits. Retailers

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with better distribution systems and lower cost structures would be prevented from charging lower prices by the agreement. See POSNER 172; OVERSTREET 13-19. Historical examples suggest this possibility is a legitimate concern. See, e.g., Marvel & McCafferty, The Welfare Effects of Resale Price Maintenance, 28 J. Law & Econ. 363, 373 (1985) (hereinafter Marvel) (providing an example of the power of the National Association of Retail Druggists to compel manufacturers to use resale price maintenance); HOVENKAMP 186 (suggesting that the retail druggists in Dr. Miles formed a cartel and used manufacturers to enforce it).

A horizontal cartel among competing manufacturers or competing retailers that decreases output or reduces competition in order to increase price is, and ought to be, per se unlawful. See Texaco; Sylvania n.28. To the extent a vertical agreement setting minimum resale prices is entered upon to facilitate either type of cartel, it, too, would need to be held unlawful under the rule of reason. This type of agreement may also be useful evidence for a plaintiff attempting to prove the existence of a horizontal cartel.

Resale price maintenance, furthermore, can be abused by a powerful manufacturer or retailer. A dominant retailer, for example, might request resale price maintenance to forestall innovation in distribution that decreases costs. A manufacturer might consider it has little choice but to accommodate the retailer’s demands for vertical price restraints if the manufacturer believes it needs access to the retailer’s distribution network. See OVERSTREET 31; 8 P. AREEDA & H. HOVENKAMP, ANTITRUST LAW 47 (2d ed. 2004) (hereinafter AREEDA & HOVENKAMP); cf. Toys “R” Us, Inc. v. FTC (7th Cir. 2000). A manufacturer with market power, by comparison, might use resale price maintenance to give retailers an incentive not to sell the products of smaller rivals or new entrants. See, e.g., Marvel 366-68. As should be evident, the potential anticompetitive consequences of vertical price restraints must not be ignored or underestimated.

C. Notwithstanding the risks of unlawful conduct, it cannot be stated with any degree of confidence that resale price maintenance “always or almost always tend[s] to restrict competition and decrease output.” Business Electronics. Vertical agreements establishing minimum resale prices can have either procompetitive or anticompetitive effects, depending upon the circumstances in which they are formed. And although the empirical evidence on the topic is limited, it does not suggest efficient uses of the agreements are infrequent or hypothetical. See OVERSTREET 170; see also id., at 80 (noting that for the majority of enforcement actions brought by the Federal Trade Commission between 1965 and 1982, “the use of [resale price maintenance] was not likely motivated by collusive dealers who had successfully coerced their suppliers”); Ippolito 292 (reaching a similar conclusion). As the rule would proscribe a significant amount of procompetitive conduct, these agreements appear ill suited for per se condemnation.

    Respondent contends, nonetheless, that vertical price restraints should be per se unlawful because of the administrative convenience of per se rules. See, e.g., Sylvania, n.16 (noting “per se rules tend to provide guidance to the business community and to minimize the burdens on litigants and the judicial system”). That argument suggests per se illegality is the rule rather than the exception. This misinterprets our antitrust law. Per se rules may decrease administrative costs, but that is only part of the equation. Those rules can be counterproductive. They can increase the total cost of the antitrust system by prohibiting procompetitive conduct the antitrust laws should encourage. See Easterbrook,

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Vertical Arrangements and the Rule of Reason, 53 Antitrust L..J. 135, 158 (1984) (hereinafter Easterbrook). They also may increase litigation costs by promoting frivolous suits against legitimate practices. The Court has thus explained that administrative “advantages are not sufficient in themselves to justify the creation of per se rules,” Sylvania n.16, and has relegated their use to restraints that are “manifestly anticompetitive,” id.. Were the Court now to conclude that vertical price restraints should be per se illegal based on administrative costs, we would undermine, if not overrule, the traditional “demanding standards” for adopting per se rules. Id. Any possible reduction in administrative costs cannot alone justify the Dr. Miles rule.

Respondent also argues the per se rule is justified because a vertical price restraint can lead to higher prices for the manufacturer’s goods. See also OVERSTREET 160 (noting that “price surveys indicate that [resale price maintenance] in most cases increased the prices of products sold”). Respondent is mistaken in relying on pricing effects absent a further showing of anticompetitive conduct. Cf. id. at 106 (explaining that price surveys “do not necessarily tell us anything conclusive about the welfare effects of [resale price maintenance] because the results are generally consistent with both procompetitive and anticompetitive theories”). For … the antitrust laws are designed primarily to protect interbrand competition, from which lower prices can later result. The Court, moreover, has evaluated other vertical restraints under the rule of reason even though prices can be increased in the course of promoting procompetitive effects. See, e.g., Business Electronics. And resale price maintenance may reduce prices if manufacturers have resorted to costlier alternatives of controlling resale prices that are not per se unlawful.

    Respondent’s argument, furthermore, overlooks that, in general, the interests of manufacturers and consumers are aligned with respect to retailer profit margins. The difference between the price a manufacturer charges retailers and the price retailers charge consumers represents part of the manufacturer’s cost of distribution, which, like any other cost, the manufacturer usually desires to minimize. Sylvania n.24; see also id (“Economists have argued that manufacturers have an economic interest in maintaining as much intrabrand competition as is consistent with the efficient distribution of their products”). A manufacturer has no incentive to overcompensate retailers with unjustified margins. The retailers, not the manufacturer, gain from higher retail prices. The manufacturer often loses; interbrand competition reduces its competitiveness and market share because consumers will “substitute a different brand of the same product.” Id. n.19. As a general matter, therefore, a single manufacturer will desire to set minimum resale prices only if the “increase in demand resulting from enhanced service ... will more than offset a negative impact on demand of a higher retail price.” Mathewson & Winter 67.

The implications of respondent’s position are far reaching. Many decisions a manufacturer makes … can lead to higher prices. A manufacturer might, for example, contract with different suppliers to obtain better inputs that improve product quality. Or it might hire an advertising agency to promote awareness of its goods. Yet no one would think these actions violate the Sherman Act because they lead to higher prices. The antitrust laws do not require manufacturers to produce generic goods that consumers do not know about or want. The manufacturer strives to improve its product quality or to promote its brand because it believes this conduct will lead to increased demand despite higher prices. The same can hold true for resale price maintenance.

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Resale price maintenance, it is true, does have economic dangers. If the rule of reason were to apply to vertical price restraints, courts would have to be diligent in eliminating their anticompetitive uses from the market. This is a realistic objective, and certain factors are relevant to the inquiry. For example, the number of manufacturers that make use of the practice in a given industry can provide important instruction. When only a few manufacturers lacking market power adopt the practice, there is little likelihood it is facilitating a manufacturer cartel, for a cartel then can be undercut by rival manufacturers. See OVERSTREET 22; BORK 294. Likewise, a retailer cartel is unlikely when only a single manufacturer in a competitive market uses resale price maintenance. Interbrand competition would divert consumers to lower priced substitutes and eliminate any gains to retailers from their price-fixing agreement over a single brand. See POSNER 172; BORK 292. Resale price maintenance should be subject to more careful scrutiny, by contrast, if many competing manufacturers adopt the practice. Cf. SCHERER & ROSS 558 (noting that “except when [resale price maintenance] spreads to cover the bulk of an industry’s output, depriving consumers of a meaningful choice between high-service and low-price outlets, most [resale price maintenance arrangements] are probably innocuous”); Easterbrook 162 (suggesting that “every one of the potentially-anticompetitive outcomes of vertical arrangements depends on the uniformity of the practice”).

The source of the restraint may also be an important consideration. If … retailers were the impetus for a vertical price restraint, there is a greater likelihood that the restraint facilitates a retailer cartel or supports a dominant, inefficient retailer. See Brief for William S. Comanor et al. as Amici Curiae 7-8. If, by contrast, a manufacturer adopted the policy independent of retailer pressure, the restraint is less likely to promote anticompetitive conduct. Cf. POSNER 177 (“It makes all the difference whether minimum retail prices are imposed by the manufacturer … to evoke point-of-sale services or by the dealers … to obtain monopoly profits”). A manufacturer also has an incentive to protest inefficient retailer-induced price restraints because they can harm its competitive position.

As a final matter, that a dominant manufacturer or retailer can abuse resale price maintenance for anticompetitive purposes may not be a serious concern unless the relevant entity has market power. If a retailer lacks market power, manufacturers likely can sell their goods through rival retailers. See also Business Electronics n.2 (noting “[r]etail market power is rare, because of the usual presence of interbrand competition and other dealers”). And if a manufacturer lacks market power, there is less likelihood it can use the practice to keep competitors away from distribution outlets.

The rule of reason is designed and used to eliminate anticompetitive transactions from the market. This standard principle applies to vertical price restraints. A party alleging injury from a vertical agreement setting minimum resale prices will have, as a general matter, the information and resources available to show the existence of the agreement and its scope of operation. As courts gain experience considering the effects of these restraints by applying the rule of reason over the course of decisions, they can establish the litigation structure to ensure the rule operates to eliminate anticompetitive restraints from the market and to provide more guidance to businesses. Courts can, for example, devise rules over time for offering proof, or even presumptions where justified,

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to make the rule of reason a fair and efficient way to prohibit anticompetitive restraints and to promote procompetitive ones.

For all of the foregoing reasons, we think that were the Court considering the issue as an original matter, the rule of reason, not a per se rule of unlawfulness, would be the appropriate standard to judge vertical price restraints.

IV. We do not write on a clean slate, for the decision in Dr. Miles is almost a century old. So there is an argument for its retention on the basis of stare decisis alone. Even if Dr. Miles established an erroneous rule, “[s]tare decisis reflects a policy judgment that in most matters it is more important that the applicable rule of law be settled than that it be settled right.” Khan. And concerns about maintaining settled law are strong when the question is one of statutory interpretation.

Stare decisis is not as significant in this case, however, because the issue before us is the scope of the Sherman Act. Khan (“[T]he general presumption that legislative changes should be left to Congress has less force with respect to the Sherman Act”). From the beginning the Court has treated the Sherman Act as a common-law statute. See Professional Engineers. Just as the common law adapts to modern understanding and greater experience, so too does the Sherman Act’s prohibition on “restraint[s] of trade” evolve to meet the dynamics of present economic conditions. The case-by-case adjudication contemplated by the rule of reason has implemented this common-law approach. See id. Likewise, the boundaries of the doctrine of per se illegality should not be immovable. For “[i]t would make no sense to create out of the single term ‘restraint of trade’ a chronologically schizoid statute, in which a ‘rule of reason’ evolves with new circumstance and new wisdom, but a line of per se illegality remains forever fixed where it was.” Business Electronics.

A.  Stare decisis, we conclude, does not compel our continued adherence to the per se rule against vertical price restraints. As discussed earlier, respected authorities in the economics literature suggest the per se rule is inappropriate, and there is now widespread agreement that resale price maintenance can have procompetitive effects. See, e.g., Brief for Economists as Amici Curiae 16. It is also significant that both the Department of Justice and the Federal Trade Commission—the antitrust enforcement agencies with the ability to assess the long-term impacts of resale price maintenance—have recommended that this Court replace the per se rule with the traditional rule of reason. See Brief for U.S. as Amicus Curiae 6. In the antitrust context the fact that a decision has been “called into serious question” justifies our reevaluation of it. Khan.

 Other considerations reinforce the conclusion that Dr. Miles should be overturned. Of most relevance, “we have overruled our precedents when subsequent cases have undermined their doctrinal underpinnings.” Dickerson v. U.S., 530 U.S. 428, 443 (2000) . The Court’s treatment of vertical restraints has progressed away from Dr. Miles’ strict approach. We have distanced ourselves from the opinion’s rationales. This is unsurprising, for the case was decided not long after enactment of the Sherman Act when the Court had little experience with antitrust analysis. Only eight years after Dr. Miles, moreover, the Court reined in the decision by holding that a manufacturer can announce suggested resale prices and refuse to deal with distributors who do not follow them. Colgate.

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…[T]he Court, following a common-law approach, has continued to temper, limit, or overrule once strict prohibitions on vertical restraints. In 1977, the Court overturned the per se rule for vertical nonprice restraints, adopting the rule of reason in its stead. Sylvania (overruling Schwinn). While the Court in a footnote in Sylvania suggested that differences between vertical price and nonprice restraints could support different legal treatment, see id. n.18, the central part of the opinion relied on authorities and arguments that find unequal treatment “difficult to justify,” id. (White, J., concurring in judgment).

 Continuing in this direction, in … Monsanto, the Court required that antitrust plaintiffs alleging a §1 price-fixing conspiracy must present evidence tending to exclude the possibility a manufacturer and its distributors acted in an independent manner. Unlike Justice Brennan’s concurrence, which rejected arguments that Dr. Miles should be overruled, the Court “decline[d] to reach the question” whether vertical agreements fixing resale prices always should be unlawful because neither party suggested otherwise. Id. n.7. In Business Electronics the Court further narrowed the scope of Dr. Miles. It held that the per se rule applied only to specific agreements over price levels and not to an agreement between a manufacturer and a distributor to terminate a price-cutting distributor.

 Most recently, in 1997, after examining the issue of vertical maximum price-fixing agreements in light of commentary and real experience, the Court overruled a 29-year-old precedent treating those agreements as per se illegal. Khan (overruling Albrecht v. Herald Co., 390 U.S. 145 (1968)). It held instead that they should be evaluated under the traditional rule of reason. Our continued limiting of the reach of the decision in Dr. Miles and our recent treatment of other vertical restraints justify the conclusion that Dr. Miles should not be retained.

The Dr. Miles rule is also inconsistent with a principled framework, for it makes little economic sense when analyzed with our other cases on vertical restraints. If we were to decide the procompetitive effects of resale price maintenance were insufficient to overrule Dr. Miles, then cases such as Colgate and GTE Sylvania themselves would be called into question. These later decisions, while they may result in less intrabrand competition, can be justified because they permit manufacturers to secure the procompetitive benefits associated with vertical price restraints through other methods. The other methods, however, could be less efficient for a particular manufacturer to establish and sustain. The end result hinders competition and consumer welfare because manufacturers are forced to engage in second-best alternatives and because consumers are required to shoulder the increased expense of the inferior practices.

The manufacturer has a number of legitimate options to achieve benefits similar to those provided by vertical price restraints. A manufacturer can exercise its Colgate right to refuse to deal with retailers that do not follow its suggested prices. The economic effects of unilateral and concerted price setting are in general the same. See, e.g., Monsanto. The problem for the manufacturer is that a jury might conclude its unilateral policy was really a vertical agreement, subjecting it to treble damages and potential criminal liability. Id.; Business Electronics. Even with the stringent standards in Monsanto and Business Electronics, this danger can lead, and has led, rational manufacturers to take wasteful measures. See, e.g., Brief for PING, Inc., as Amicus Curiae 9-18. A manufacturer might refuse to discuss its pricing policy with its

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distributors except through counsel knowledgeable of the subtle intricacies of the law. Or it might terminate longstanding distributors for minor violations without seeking an explanation. The increased costs these burdensome measures generate flow to consumers in the form of higher prices.

Furthermore, depending on the type of product it sells, a manufacturer might be able to achieve the procompetitive benefits of resale price maintenance by integrating downstream and selling its products directly to consumers. Dr. Miles tilts the relative costs of vertical integration and vertical agreement by making the former more attractive based on the per se rule, not on real market conditions. See Business Electronics; see generally Coase, The Nature of the Firm, 4 Economica, New Series 386 (1937). This distortion might lead to inefficient integration that would not otherwise take place, so that consumers must again suffer the consequences of the suboptimal distribution strategy. And integration, unlike vertical price restraints, eliminates all intrabrand competition. See, e.g., Sylvania n.26.

There is yet another consideration. A manufacturer can impose territorial restrictions on distributors and allow only one distributor to sell its goods in a given region. Our cases have recognized, and the economics literature confirms, that these vertical nonprice restraints have impacts similar to those of vertical price restraints; both reduce intrabrand competition and can stimulate retailer services. See, e.g., Business Electronics; Monsanto; see also Brief for Economists as Amici Curiae 17-18. Cf. SCHERER & ROSS 560 (noting that vertical nonprice restraints “can engender inefficiencies at least as serious as those imposed upon the consumer by resale price maintenance”); Steiner, How Manufacturers Deal with the Price-Cutting Retailer, 65 Antitrust L. J. 407, 446-47 (1997) (indicating that “antitrust law should recognize that the consumer interest is often better served by [resale price maintenance]—contrary to its per se illegality and the rule-of-reason status of vertical nonprice restraints”). The same legal standard (per se unlawfulness) applies to horizontal market division and horizontal price fixing because both have similar economic effect. There is likewise little economic justification for the current differential treatment of vertical price and nonprice restraints. Furthermore, vertical nonprice restraints may prove less efficient for inducing desired services, and they reduce intrabrand competition more than vertical price restraints by eliminating both price and service competition. See Brief for Economists as Amici Curiae 17-18.

In sum, it is a flawed antitrust doctrine that serves the interests of lawyers—by creating legal distinctions that operate as traps for the unwary—more than the interests of consumers—by requiring manufacturers to choose second-best options to achieve sound business objectives.

B. Respondent’s arguments for reaffirming Dr. Miles on the basis of stare decisis do not require a different result. Respondent looks to congressional action concerning vertical price restraints. In 1937, Congress passed the Miller-Tydings Fair Trade Act, which made vertical price restraints legal if authorized by a fair trade law enacted by a State. Fifteen years later, Congress expanded the exemption to permit vertical price-setting agreements between a manufacturer and a distributor to be enforced against other distributors not involved in the agreement. McGuire Act. In 1975, however, Congress repealed both Acts. Consumer Goods Pricing Act. That the Dr. Miles rule applied to

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vertical price restraints in 1975, according to respondent, shows Congress ratified the rule.

This is not so. The text of the Consumer Goods Pricing Act did not codify the rule of per se illegality for vertical price restraints. It rescinded statutory provisions that made them per se legal. Congress once again placed these restraints within the ambit of §1 of the Sherman Act. And, as has been discussed, Congress intended §1 to give courts the ability “to develop governing principles of law” in the common-law tradition. Texas Industries v. Radcliff Materials, 451 U.S. 630, 643 (1981); see Business Electronics (“The changing content of the term ‘restraint of trade’ was well recognized at the time the Sherman Act was enacted”). Congress could have set the Dr. Miles rule in stone, but it chose a more flexible option. We respect its decision by analyzing vertical price restraints, like all restraints, in conformance with traditional §1 principles, including the principle that our antitrust doctrines “evolv[e] with new circumstances and new wisdom.” Business Electronics; see also Easterbrook 139.

The rule of reason, furthermore, is not inconsistent with the Consumer Goods Pricing Act. Unlike the earlier congressional exemption, it does not treat vertical price restraints as per se legal. In this respect, the justifications for the prior exemption are illuminating. Its goal “was to allow the States to protect small retail establishments that Congress thought might otherwise be driven from the marketplace by large-volume discounters.” California Retail Liquor Dealers Assn. v. Midcal Aluminum, Inc., 445 U.S. 97, 102 (1980). The state fair trade laws also appear to have been justified on similar grounds. See AREEDA & HOVENKAMP 298. The rationales for these provisions are foreign to the Sherman Act. Divorced from competition and consumer welfare, they were designed to save inefficient small retailers from their inability to compete. The purpose of the antitrust laws, by contrast, is “the protection of competition, not competitors.” Atlantic Richfield Co. v. USA Petroleum Co., 495 U.S. 328, 338 (1990). To the extent Congress repealed the exemption for some vertical price restraints to end its prior practice of encouraging anticompetitive conduct, the rule of reason promotes the same objective.

Respondent also relies on several congressional appropriations in the mid-1980’s in which Congress did not permit the Department of Justice or the [FTC] to use funds to advocate overturning Dr. Miles. We need not pause long in addressing this argument. The conditions on funding are no longer in place, see, e.g., Brief for U.S. as Amicus Curiae 21, and they were ambiguous at best. As much as they might show congressional approval for Dr. Miles, they might demonstrate a different proposition: that Congress could not pass legislation codifying the rule and reached a short-term compromise instead.

Reliance interests do not require us to reaffirm Dr. Miles. To be sure, reliance on a judicial opinion is a significant reason to adhere to it, especially “in cases involving property and contract rights,” Khan. The reliance interests here, however, like the reliance interests in Khan, cannot justify an inefficient rule, especially because the narrowness of the rule has allowed manufacturers to set minimum resale prices in other ways. And while the Dr. Miles rule is longstanding, resale price maintenance was legal under fair trade laws in a majority of States for a large part of the past century up until 1975.

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It is also of note that during this time “when the legal environment in the [U.S.] was most favorable for [resale price maintenance], no more than a tiny fraction of manufacturers ever employed [resale price maintenance] contracts.” OVERSTREET 6; see also id., at 169 (noting that “no more than one percent of manufacturers, accounting for no more than ten percent of consumer goods purchases, ever employed [resale price maintenance] in any single year in the [U.S.]”); SCHERER & ROSS 549 (noting that “[t]he fraction of U.S. retail sales covered by [resale price maintenance] in its heyday has been variously estimated at from 4 to 10 percent”). To the extent consumers demand cheap goods, judging vertical price restraints under the rule of reason will not prevent the market from providing them. Cf. Easterbrook 152-53 (noting that “S.S. Kresge (the old K-Mart) flourished during the days of manufacturers’ greatest freedom” because “discount stores offer a combination of price and service that many customers value” and that “[n]othing in restricted dealing threatens the ability of consumers to find low prices”); SCHERER & ROSS 557 (noting that “for the most part, the effects of the [Consumer Goods Pricing Act] were imperceptible because the forces of competition had already repealed the [previous antitrust exemption] in their own quiet way”).

For these reasons the Court’s decision in Dr. Miles is now overruled. Vertical price restraints are to be judged according to the rule of reason. …

JUSTICE BREYER, with whom JUSTICE STEVENS, JUSTICE SOUTER, and JUSTICE GINSBURG join, dissenting. … This Court has consistently read Dr. Miles as establishing a bright-line rule that agreements fixing minimum resale prices are per se illegal. See, e.g., Trenton Potteries; Discon. That per se rule is one upon which the legal profession, business, and the public have relied for close to a century. Today the Court holds that courts must determine the lawfulness of minimum resale price maintenance by applying, not a bright-line per se rule, but a circumstance-specific “rule of reason.” And in doing so it overturns Dr. Miles.

The Court justifies its departure from ordinary considerations of stare decisis by pointing to a set of arguments well known in the antitrust literature for close to half a century. Congress has repeatedly found in these arguments insufficient grounds for overturning the per se rule. See, e.g., Hearings on H. R. 10527 et al. before the Subcommittee on Commerce and Finance of the House Committee on Interstate and Foreign Commerce, 85th Cong., 2d Sess. (1958). And, in my view, they do not warrant the Court’s now overturning so well-established a legal precedent.

I. The Sherman Act seeks to maintain a marketplace free of anticompetitive practices, in particular those enforced by agreement among private firms. The law assumes that such a marketplace, free of private restrictions, will tend to bring about the lower prices, better products, and more efficient production processes that consumers typically desire. In determining the lawfulness of particular practices, courts often apply a “rule of reason.” They examine both a practice’s likely anticompetitive effects and its beneficial business justifications. See, e.g., NCAA; Professional Engineers; Chicago Board of Trade.

Nonetheless, sometimes the likely anticompetitive consequences of a particular practice are so serious and the potential justifications so few (or, e.g., so difficult to prove) that courts have departed from a pure “rule of reason” approach. And sometimes this Court has imposed a rule of per se unlawfulness—a rule that instructs courts to find

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the practice unlawful all (or nearly all) the time. See, e.g., NYNEX; Maricopa County Medical Soc.; Sylvania n.16 (1977); Topco; Socony-Vacuum.

The case before us asks which kind of approach the courts should follow where minimum resale price maintenance is at issue. Should they apply a per se rule (or a variation) that would make minimum resale price maintenance always (or almost always) unlawful? Should they apply a “rule of reason”? Were the Court writing on a blank slate, I would find these questions difficult. But, of course, the Court is not writing on a blank slate, and that fact makes a considerable legal difference.

To best explain why the question would be difficult were we deciding it afresh, I briefly summarize several classical arguments for and against the use of a per se rule. The arguments focus on three sets of considerations, those involving: (1) potential anticompetitive effects, (2) potential benefits, and (3) administration. The difficulty arises out of the fact that the different sets of considerations point in different directions. See, e.g. 8 P. AREEDA, ANTITRUST LAW 330-392 (1st ed. 1989) (hereinafter AREEDA); 8 P. AREEDA & H. HOVENKAMP, ANTITRUST LAW 288–339 (2d ed. 2004) (hereinafter AREEDA& HOVENKAMP); Easterbrook, Vertical Arrangements and the Rule of Reason, 53 Antitrust L. J. 135, 146-52 (1984) (hereinafter Easterbrook); Pitofsky, In Defense of Discounters: The No-Frills Case for a Per Se Rule Against Vertical Price Fixing, 71 Geo. L. J. 1487 (1983) (hereinafter Pitofsky); Scherer, The Economics of Vertical Restraints, 52 Antitrust L. J. 687, 706-07 (1983) (hereinafter Scherer); Posner, The Next Step in the Antitrust Treatment of Restricted Distribution: Per Se Legality, 48 U. Chi. L. Rev. 6, 22-26 (1981); Brief for William S. Comanor and Frederic M. Scherer as Amici Curiae 7-10.

… [A]greements setting minimum resale prices may have serious anticompetitive consequences. In respect to dealers: Resale price maintenance agreements, rather like horizontal price agreements, can diminish or eliminate price competition among dealers of a single brand or (if practiced generally by manufacturers) among multibrand dealers. In doing so, they can prevent dealers from offering customers the lower prices that many customers prefer; they can prevent dealers from responding to changes in demand, say falling demand, by cutting prices; they can encourage dealers to substitute service, for price, competition, thereby threatening wastefully to attract too many resources into that portion of the industry; they can inhibit expansion by more efficient dealers whose lower prices might otherwise attract more customers, stifling the development of new, more efficient modes of retailing; and so forth. See, e.g., 8 AREEDA & HOVENKAMP 319-21; Steiner, The Evolution and Applications of Dual-Stage Thinking, 49 Antitrust Bulletin 877, 899–900 (2004); Comanor, Vertical Price-Fixing, Vertical Market Restrictions, and the New Antitrust Policy, 98 Harv. L. Rev. 983, 990–1000 (1985).

In respect to producers: Resale price maintenance agreements can help to reinforce the competition-inhibiting behavior of firms in concentrated industries. In such industries firms may tacitly collude, i.e., observe each other’s pricing behavior, each understanding that price cutting by one firm is likely to trigger price competition by all. See 8 AREEDA & HOVENKAMP 321-23; P. AREEDA & L. KAPLOW, ANTITRUST ANALYSIS 276-83 (4th ed. 1988) (hereinafter AREEDA & KAPLOW). Where that is so, resale price maintenance can make it easier for each producer to identify (by observing retail markets) when a competitor has begun to cut prices. And a producer who cuts wholesale prices without lowering the minimum resale price will stand to gain little, if anything, in

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increased profits, because the dealer will be unable to stimulate increased consumer demand by passing along the producer’s price cut to consumers. In either case, resale price maintenance agreements will tend to prevent price competition from “breaking out”; and they will thereby tend to stabilize producer prices. See Pitofsky 1490-91.

Those who express concern about the potential anticompetitive effects find empirical support in the behavior of prices before, and then after, Congress in 1975 repealed the Miller-Tydings Fair Trade Act and the McGuire Act. Those Acts had permitted (but not required) individual States to enact “fair trade” laws authorizing minimum resale price maintenance. At the time of repeal minimum resale price maintenance was lawful in 36 States; it was unlawful in 14 States. Comparing prices in the former States with prices in the latter States, the Department of Justice argued that minimum resale price maintenance had raised prices by 19% to 27%. See Hearings on H. R. 2384 before the Subcommittee on Monopolies and Commercial Law of the House Committee on the Judiciary, 94th Cong., 1st Sess., 122 (1975) (hereinafter Hearings on H. R. 2384) (statement of Keith I. Clearwaters, Deputy Assistant Attorney General, Antitrust Division).

    After repeal, minimum resale price maintenance agreements were unlawful per se in every State. The Federal Trade Commission (FTC) staff, after studying numerous price surveys, wrote that collectively the surveys “indicate[d] that [resale price maintenance] in most cases increased the prices of products sold with [resale price maintenance].” Bureau of Economics Staff Report to the FTC, T. OVERSTREET, RESALE PRICE MAINTENANCE: ECONOMIC THEORIES AND EMPIRICAL EVIDENCE, 160 (1983) (hereinafter OVERSTREET). Most economists today agree that, in the words of a prominent antitrust treatise, “resale price maintenance tends to produce higher consumer prices than would otherwise be the case.” 8 AREEDA & HOVENKAMP 40 (finding “[t]he evidence ... persuasive on this point”). See also Brief for William S. Comanor and Frederic M. Scherer as Amici Curiae 4 (“It is uniformly acknowledged that [resale price maintenance] and other vertical restraints lead to higher consumer prices”).

On the other hand, … resale price maintenance agreements can provide important consumer benefits. The majority lists two: First, such agreements can facilitate new entry. For example, a newly entering producer wishing to build a product name might be able to convince dealers to help it do so—if, but only if, the producer can assure those dealers that they will later recoup their investment. Without resale price maintenance, late-entering dealers might take advantage of the earlier investment and, through price competition, drive prices down to the point where the early dealers cannot recover what they spent. By assuring the initial dealers that such later price competition will not occur, resale price maintenance can encourage them to carry the new product, thereby helping the new producer succeed. See 8 AREEDA & HOVENKAMP 193-96, 308. The result might be increased competition at the producer level, i.e., greater inter-brand competition, that brings with it net consumer benefits.

Second, without resale price maintenance a producer might find its efforts to sell a product undermined by what resale price maintenance advocates call “free riding.” Suppose a producer concludes that it can succeed only if dealers provide certain services, say, product demonstrations, high quality shops, advertising that creates a certain product image, and so forth. Without resale price maintenance, some dealers might take a “free

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ride” on the investment that others make in providing those services. Such a dealer would save money by not paying for those services and could consequently cut its own price and increase its own sales. Under these circumstances, dealers might prove unwilling to invest in the provision of necessary services. See, e.g., 8 AREEDA & HOVENKAMP 126-65, 309-13; R. POSNER, ANTITRUST LAW 172-73 (2d ed. 2001); R. BORK, THE ANTITRUST PARADOX 290-91 (1978) (hereinafter BORK); Easterbrook 146-49.

Moreover, where a producer and not a group of dealers seeks a resale price maintenance agreement, there is a special reason to believe some such benefits exist … because, other things being equal, producers should want to encourage price competition among their dealers. By doing so they will often increase profits by selling more of their product. See Sylvania n.24; BORK 290. And that is so, even if the producer possesses sufficient market power to earn a super-normal profit. That is to say, other things being equal, the producer will benefit by charging his dealers a competitive (or even a higher-than-competitive) wholesale price while encouraging price competition among them. Hence, if the producer is the moving force, the producer must have some special reason for wanting resale price maintenance; and in the absence of, say, concentrated producer markets (where that special reason might consist of a desire to stabilize wholesale prices), that special reason may well reflect the special circumstances just described: new entry, “free riding,” or variations on those themes.

The upshot is, as many economists suggest, sometimes resale price maintenance can prove harmful; sometimes it can bring benefits. But before concluding that courts should consequently apply a rule of reason, I would ask such questions as, how often are harms or benefits likely to occur? How easy is it to separate the beneficial sheep from the antitrust goats?

Economic discussion, such as the studies the Court relies upon, can help provide answers to these questions, and in doing so, economics can, and should, inform antitrust law. But antitrust law cannot, and should not, precisely replicate economists’ (sometimes conflicting) views. That is because law, unlike economics, is an administrative system the effects of which depend upon the content of rules and precedents only as they are applied by judges and juries in courts and by lawyers advising their clients. And that fact means that courts will often bring their own administrative judgment to bear, sometimes applying rules of per se unlawfulness to business practices even when those practices sometimes produce benefits. See, e.g., F.M. SCHERER & D. ROSS, INDUSTRIAL MARKET STRUCTURE AND ECONOMIC PERFORMANCE 335-3939 (3d ed. 1990) (hereinafter SCHERER & ROSS) (describing some circumstances under which price-fixing agreements could be more beneficial than “unfettered competition,” but also noting potential costs of moving from a per se ban to a rule of reasonableness assessment of such agreements).

I have already described studies and analyses that suggest (though they cannot prove) that resale price maintenance can cause harms with some regularity—and certainly when dealers are the driving force. But what about benefits? How often, for example, will the benefits to which the Court points occur in practice? I can find no economic consensus on this point. There is a consensus in the literature that “free riding” takes place. But “free riding” often takes place in the economy without any legal effort to stop it. Many visitors to California take free rides on the Pacific Coast Highway. We all benefit freely from ideas, such as that of creating the first supermarket. Dealers often take

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a “free ride” on investments that others have made in building a product’s name and reputation. The question is how often the “free riding” problem is serious enough significantly to deter dealer investment.

To be more specific, one can easily imagine a dealer who refuses to provide important presale services, say a detailed explanation of how a product works (or who fails to provide a proper atmosphere in which to sell expensive perfume or alligator billfolds), lest customers use that “free” service (or enjoy the psychological benefit arising when a high-priced retailer stocks a particular brand of billfold or handbag) and then buy from another dealer at a lower price. Sometimes this must happen in reality. But does it happen often? We do, after all, live in an economy where firms, despite Dr. Miles’ per se rule, still sell complex technical equipment (as well as expensive perfume and alligator billfolds) to consumers.

All this is to say that the ultimate question is not whether, but how much, “free riding” of this sort takes place. And, after reading the briefs, I must answer that question with an uncertain “sometimes.” See, e.g., Brief for William S. Comanor and Frederic M. Scherer as Amici Curiae 6-7 (noting “skepticism in the economic literature about how often [free riding] actually occurs”); SCHERER & ROSS 551-55 (explaining the “severe limitations” of the free-rider justification for resale price maintenance. 

How easily can courts identify instances in which the benefits are likely to outweigh potential harms? My own answer is, not very easily. For one thing, it is often difficult to identify who—producer or dealer—is the moving force behind any given resale price maintenance agreement. Suppose, for example, several large multibrand retailers all sell resale-price-maintained products. Suppose further that small producers set retail prices because they fear that, otherwise, the large retailers will favor (say, by allocating better shelf-space) the goods of other producers who practice resale price maintenance. Who “initiated” this practice, the retailers hoping for considerable insulation from retail competition, or the producers, who simply seek to deal best with the circumstances they find? For another thing, as I just said, it is difficult to determine just when, and where, the “free riding” problem is serious enough to warrant legal protection.

… [S]cholars have sought to develop … sets of questions that will help courts separate instances where anticompetitive harms are more likely from instances where only benefits are likely to be found. See, e.g., 8 AREEDA & HOVENKAMP 330-39. See also Brief for William S. Comanor and Frederic M. Scherer as Amici Curiae 8-10. But applying these criteria in court is often easier said than done. The Court’s invitation to consider the existence of “market power,” for example, invites lengthy time-consuming argument among competing experts, as they seek to apply abstract, highly technical, criteria to often ill-defined markets. And resale price maintenance cases, unlike a major merger or monopoly case, are likely to prove numerous and involve only private parties. One cannot fairly expect judges and juries in such cases to apply complex economic criteria without making a considerable number of mistakes, which themselves may impose serious costs. See, e.g., H. HOVENKAMP, THE ANTITRUST ENTERPRISE 105 (2005) (litigating a rule of reason case is “one of the most costly procedures in antitrust practice”).

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Are there special advantages to a bright-line rule? Without such a rule, it is often unfair, and consequently impractical, for enforcement officials to bring criminal proceedings. And since enforcement resources are limited, that loss may tempt some producers or dealers to enter into agreements that are, on balance, anticompetitive.

Given the uncertainties that surround key items in the overall balance sheet, particularly in respect to the “administrative” questions, I can concede to the majority that the problem is difficult. And, if forced to decide now, at most I might agree that the per se rule should be slightly modified to allow an exception for the more easily identifiable and temporary condition of “new entry.” See Pitofsky 1495. But I am not now forced to decide this question. The question before us is not what should be the rule, starting from scratch. We here must decide whether to change a clear and simple price-related antitrust rule that the courts have applied for nearly a century.

II. We write, not on a blank slate, but on a slate that begins with Dr. Miles and goes on to list a century’s worth of similar cases, massive amounts of advice that lawyers have provided their clients, and untold numbers of business decisions those clients have taken in reliance upon that advice. See, e.g., U.S. v. Bausch & Lomb Optical Co., 321 U.S. 707, 721 (1944) ; Sylvania n.18 (“The per se illegality of [vertical] price restrictions has been established firmly for many years...”). Indeed a Westlaw search shows that Dr. Miles itself has been cited dozens of times in this Court and hundreds of times in lower courts. Those who wish this Court to change so well-established a legal precedent bear a heavy burden of proof. See Illinois Brick Co. v. Illinois, 431 U.S. 720, 736 (1977) (noting, in declining to overrule an earlier case interpreting §4 of the Clayton Act, that “considerations of stare decisis weigh heavily in the area of statutory construction, where Congress is free to change this Court’s interpretation of its legislation”). I am not aware of any case in which this Court has overturned so well-established a statutory precedent. Regardless, I do not see how the Court can claim that ordinary criteria for over-ruling an earlier case have been met. See, e.g., Planned Parenthood of Southeastern Pa. v. Casey, 505 U.S. 833, 854-55 (1992). See also Federal Election Comm’n v. Wisconsin Right to Life (SCALIA, J., concurring in part and concurring in judgment).

A. I can find no change in circumstances in the past several decades that helps the majority’s position. In fact, there has been one important change that argues strongly to the contrary. In 1975, Congress repealed the McGuire and Miller-Tydings Acts. And it thereby consciously extended Dr. Miles’ per se rule. Indeed, at that time the Department of Justice and the FTC, then urging application of the per se rule, discussed virtually every argument presented now to this Court as well as others not here presented. And they explained to Congress why Congress should reject them. See Hearings on S. 408, at 176–177 (statement of Thomas E. Kauper, Assistant Attorney General, Antitrust Division); id., at 170–172 (testimony of Lewis A. Engman, Chairman of the FTC); Hearings on H. R. 2384, at 113–114 (testimony of Keith I. Clearwaters, Deputy Assistant Attorney General, Antitrust Division). Congress fully understood, and consequently intended, that the result of its repeal of McGuire and Miller-Tydings would be to make minimum resale price maintenance per se unlawful. See, e.g. S. Rep. No. 94–466, pp. 1–3 (1975) (“Without [the exemptions authorized by the Miller-Tydings and McGuire Acts,] the agreements they authorize would violate the antitrust laws.... [R]epeal of the fair trade laws generally will prohibit manufacturers from enforcing resale prices”). See also

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Sylvania n.8 (“Congress recently has expressed its approval of a per se analysis of vertical price restrictions by repealing those provisions of the Miller-Tydings and McGuire Acts allowing fair-trade pricing at the option of the individual States”).

Congress did not prohibit this Court from reconsidering the per se rule. But enacting major legislation premised upon the existence of that rule constitutes important public reliance upon that rule. And doing so aware of the relevant arguments constitutes even stronger reliance upon the Court’s keeping the rule, at least in the absence of some significant change in respect to those arguments.

Have there been any such changes? There have been a few economic studies, described in some of the briefs, that argue, contrary to the testimony of the Justice Department and FTC to Congress in 1975, that resale price maintenance is not harmful. One study, relying on an analysis of litigated resale price maintenance cases from 1975 to 1982, concludes that resale price maintenance does not ordinarily involve producer or dealer collusion. See Ippolito, Resale Price Maintenance: Empirical Evidence from Litigation, 34 J. Law & Econ. 263, 281-82, 292 (1991). But this study equates the failure of plaintiffs to allege collusion with the absence of collusion—an equation that overlooks the superfluous nature of allegations of horizontal collusion in a resale price maintenance case and the tacit form that such collusion might take. See H. HOVENKAMP, FEDERAL ANTITRUST POLICY 464, n.19 (3d ed. 2005).

The other study provides a theoretical basis for concluding that resale price maintenance “need not lead to higher retail prices.” Marvel & McCafferty, The Political Economy of Resale Price Maintenance, 94 J. Pol. Econ. 1074, 1075 (1986). But this study develops a theoretical model “under the assumption that [resale price maintenance] is efficiency-enhancing.” Its only empirical support is a 1940 study that the authors acknowledge is much criticized. See id. at 1091. And many other economists take a different view. See Brief for William S. Comanor and Frederic M. Scherer as Amici Curiae 4.

Regardless, taken together, these studies at most may offer some mild support for the majority’s position. But they cannot constitute a major change in circumstances.

Petitioner and some amici have also presented us with newer studies that show that resale price maintenance sometimes brings consumer benefits. OVERSTREET 119–129 (describing numerous case studies). But the proponents of a per se rule have always conceded as much. What is remarkable about the majority’s arguments is that nothing in this respect is new. See supra (citing articles and congressional testimony going back several decades). The only new feature of these arguments lies in the fact that the most current advocates of overruling Dr. Miles have abandoned a host of other not-very-persuasive arguments upon which prior resale price maintenance proponents used to rely. See, e.g., 8 AREEDA 350-52 (listing “ ‘[t]raditional’ justifications” for resale price maintenance).

The one arguable exception consists of the majority’s claim that “even absent free riding,” resale price maintenance “may be the most efficient way to expand the manufacturer’s market share by inducing the retailer’s performance and allowing it to use its own initiative and experience in providing valuable services.” I cannot count this as an exception, however, because I do not understand how, in the absence of free-riding (and

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assuming competitiveness), an established producer would need resale price maintenance. Why, on these assumptions, would a dealer not “expand” its “market share” as best that dealer sees fit, obtaining appropriate payment from consumers in the process? There may be an answer to this question. But I have not seen it. And I do not think that we should place significant weight upon justifications that the parties do not explain with sufficient clarity for a generalist judge to understand.

No one claims that the American economy has changed in ways that might support the majority. Concentration in retailing has increased. See, e.g., Brief for Respondent 18 (since minimum resale price maintenance was banned nationwide in 1975, the total number of retailers has dropped while the growth in sales per store has risen); Brief for American Antitrust Institute as Amicus Curiae 17, n.20 (citing private study reporting that the combined sales of the 10 largest retailers worldwide has grown to nearly 30% of total retail sales of top 250 retailers; also quoting 1999 Organisation for Economic Co-operation and Development report stating that the “ ‘last twenty years have seen momentous changes in retail distribution including significant increases in concentration’ ”); Mamen, Facing Goliath: Challenging the Impacts of Supermarket Consolidation on our Local Economies, Communities, and Food Security, The Oakland Institute, 1 Policy Brief, No.3 (noting that “[f]or many decades, the top five food retail firms in the U.S. controlled less than 20 percent of the market”; from 1997 to 2000, “the top five firms increased their market share from 24 to 42 percent of all retail sales”; and “[b]y 2003, they controlled over half of all grocery sales”). That change, other things being equal, may enable (and motivate) more retailers, accounting for a greater percentage of total retail sales volume, to seek resale price maintenance, thereby making it more difficult for price-cutting competitors (perhaps internet retailers) to obtain market share.

Nor has anyone argued that concentration among manufacturers that might use resale price maintenance has diminished significantly. And as far as I can tell, it has not. Consider household electrical appliances, which a study from the late 1950’s suggests constituted a significant portion of those products subject to resale price maintenance at that time. See Hollander, U.S. of America, in RESALE PRICE MAINTENANCE 67, 80–81 (B. Yamey ed. 1966). Although it is somewhat difficult to compare census data from 2002 with that from several decades ago (because of changes in the classification system), it is clear that at least some subsets of the household electrical appliance industry are more concentrated, in terms of manufacturer market power, now than they were then. For instance, the top eight domestic manufacturers of household cooking appliances accounted for 68% of the domestic market (measured by value of shipments) in 1963 (the earliest date for which I was able to find data), compared with 77% in 2002. See Dept. of Commerce, Bureau of Census, 1972 Census of Manufacturers, Special Report Series, Concentration Ratios in Manufacturing, No. MC72(SR)–2, p. SR2–38 (1975) (hereinafter 1972 Census); Dept. of Commerce, Bureau of Census, 2002 Economic Census, Concentration Ratios: 2002, No. EC02–31SR–1,55 (2006) (hereinafter 2002 Census). The top eight  domestic manufacturers of household laundry equipment accounted for 95% of the domestic market in 1963 (90% in 1958), compared with 99% in 2002. 1972 Census, at SR2–38; 2002 Census, at 55. And the top eight domestic manufacturers of household refrigerators and freezers accounted for 91% of the domestic market in 1963, compared with 95% in 2002. 1972 Census, at SR2–38; 2002 Census, at

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55. Increased concentration among manufacturers increases the likelihood that producer-originated resale price maintenance will prove more prevalent today than in years past, and more harmful. At the very least, the majority has not explained how these, or other changes in the economy could help support its position.

In sum, there is no relevant change. And without some such change, there is no ground for abandoning a well-established antitrust rule.

B. With the preceding discussion in mind, I would consult the list of factors that our case law indicates are relevant when we consider overruling an earlier case. JUSTICE SCALIA, writing separately in another of our cases this Term, well summarizes that law. See Wisconsin Right to Life. (opinion concurring in part and concurring in judgment). And every relevant factor he mentions argues against overruling Dr. Miles here.

First, the Court applies stare decisis more “rigidly” in statutory than in constitutional cases. This is a statutory case.

Second, the Court does sometimes overrule cases that it decided wrongly only a reasonably short time ago. As JUSTICE SCALIA put it, “[o]verruling a constitutional case decided just a few years earlier is far from unprecedented.” Wisconsin Right to Life (emphasis added). We here overrule one statutory case, Dr. Miles, decided 100 years ago, and we overrule the cases that reaffirmed its per se rule in the intervening years. See, e.g., Trenton Potteries; Bausch & Lomb; U.S. v. Parke, Davis & Co., 362 U.S. 29, 45–47 (1960) ; Simpson.

Third, the fact that a decision creates an “unworkable” legal regime argues in favor of overruling. Implementation of the per se rule, even with the complications attendant the exception allowed for in Colgate, has proved practical over the course of the last century, particularly when compared with the many complexities of litigating a case under the “rule of reason” regime. No one has shown how moving from the Dr. Miles regime to “rule of reason” analysis would make the legal regime governing minimum resale price maintenance more “administrable,” Wisconsin Right to Life (opinion of SCALIA, J.), particularly since Colgate would remain good law with respect to unreasonable price maintenance.

Fourth, the fact that a decision “unsettles” the law may argue in favor of overruling. See Sylvania; Wisconsin Right to Life (opinion of SCALIA, J.). The per se rule is well-settled law, as the Court itself has previously recognized. Sylvania n.18. It is the majority’s change here that will unsettle the law.

Fifth, the fact that a case involves property rights or contract rights, where reliance interests are involved, argues against overruling. This case involves contract rights and perhaps property rights (consider shopping malls). And there has been considerable reliance upon the per se rule. As I have said, Congress relied upon the continued vitality of Dr. Miles when it repealed Miller-Tydings and McGuire. The Executive Branch argued for repeal on the assumption that Dr. Miles stated the law. Moreover, whole sectors of the economy have come to rely upon the per se rule. A factory outlet store tells us that the rule “form[s] an essential part of the regulatory background against which [that firm] and many other discount retailers have financed, structured, and operated their businesses.” Brief for Burlington Coat Factory Warehouse

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Corp. as Amicus Curiae 5. The Consumer Federation of America tells us that large low-price retailers would not exist without Dr. Miles; minimum resale price maintenance, “by stabilizing price levels and preventing low-price competition, erects a potentially insurmountable barrier to entry for such low-price innovators.” Brief for Consumer Federation of America as Amicus Curiae 5, 7–9 (discussing, inter alia, comments by Wal-Mart’s founder 25 years ago that relaxation of the per se ban on minimum resale price maintenance would be a “ ‘great danger’ ” to Wal-Mart’s then-relatively-nascent business). New distributors, including internet distributors, have similarly invested time, money, and labor in an effort to bring yet lower cost goods to Americans.

This Court’s overruling of the per se rule jeopardizes this reliance, and more. What about malls built on the assumption that a discount distributor will remain an anchor tenant? What about home buyers who have taken a home’s distance from such a mall into account? What about Americans, producers, distributors, and consumers, who have understandably assumed, at least for the last 30 years, that price competition is a legally guaranteed way of life? The majority denies none of this. It simply says that these “reliance interests..., like the reliance interests in Khan, cannot justify an inefficient rule.”

The Court minimizes the importance of this reliance, adding that it “is also of note” that at the time resale price maintenance contracts were lawful “‘no more than a tiny fraction of manufacturers ever employed’” the practice.. By “tiny” the Court means manufacturers that accounted for up to “‘ten percent of consumer goods purchases’” annually. That figure in today’s economy equals just over $300 billion. See Dept. of Commerce, Bureau of Census, Statistical Abstract of the U.S.: 2007 (over $3 trillion in U.S. retail sales in 2002). Putting the Court’s estimate together with the Justice Department’s early 1970’s study translates a legal regime that permits all resale price maintenance into retail bills that are higher by an average of roughly $750 to $1000 annually for an American family of four. Just how much higher retail bills will be after the Court’s decision today, of course, depends upon what is now unknown, namely how courts will decide future cases under a “rule of reason.” But these figures indicate that the amounts involved are important to American families and cannot be dismissed as “tiny.”

Sixth, the fact that a rule of law has become “embedded” in our “national culture” argues strongly against overruling. Dickerson v. U.S., 530 U.S. 428, 443-44 (2000). The per se rule forbidding minimum resale price maintenance agreements has long been “embedded” in the law of antitrust. It involves price, the economy’s “‘central nervous system.’” Professional Engineers (quoting Socony-Vacuum n.59). It reflects a basic antitrust assumption (that consumers often prefer lower prices to more service). It embodies a basic antitrust objective (providing consumers with a free choice about such matters). And it creates an easily administered and enforceable bright line, “Do not agree about price,” that businesses as well as lawyers have long understood.

The only contrary stare decisis factor that the majority mentions consists of its claim that this Court has “[f]rom the beginning ... treated the Sherman Act as a common-law statute,” and has previously overruled antitrust precedent. It points in support to Khan overruling Albrecht, in which this Court had held that maximum resale price agreements were unlawful per se, and to Sylvania, overruling Schwinn, in which this Court had held that producer-imposed territorial limits were unlawful per se.

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The Court decided Khan, however, 29 years after Albrecht—still a significant period, but nowhere close to the century Dr. Miles has stood. The Court specifically noted the lack of any significant reliance upon Albrecht. (Albrecht has had “little or no relevance to ongoing enforcement of the Sherman Act”). Albrecht had far less support in traditional antitrust principles than did Dr. Miles. Compare, e.g., 8 AREEDA & HOVENKAMP 316-28 (analyzing potential harms of minimum resale price maintenance), with id. at 352-61 (analyzing potential harms of maximum resale price maintenance). 1490 n.17. And Congress had nowhere expressed support for Albrecht’s rule.

… Sylvania…, overruling Schwinn, explicitly distinguished Dr. Miles [in n.18] on the ground that while Congress had “recently ... expressed its approval of a per se analysis of vertical price restrictions” by repealing the [Fair Trade] Acts, “[n]o similar expression of congressional intent exists for nonprice restrictions.” Moreover, the Court decided Sylvania only a decade after Schwinn. And it based its overruling on a generally perceived need to avoid “confusion” in the law, a factor totally absent here.

The Court suggests that it is following “the common-law tradition.” But the common law would not have permitted overruling Dr. Miles in these circumstances. Common-law courts rarely overruled well-established earlier rules outright. Rather, they would over time issue decisions that gradually eroded the scope and effect of the rule in question, which might eventually lead the courts to put the rule to rest. One can argue that modifying the per se rule to make an exception, say, for new entry, see Pitofsky 1495, could prove consistent with this approach. To swallow up a century-old precedent, potentially affecting many billions of dollars of sales, is not. The reader should compare today’s “common-law” decision with Justice Cardozo’s decision in Allegheny College v. National Chautauqua Cty. Bank of Jamestown, 159 N. E. 173 (1927), and note a gradualism that does not characterize today’s decision.

Moreover, a Court that rests its decision upon economists’ views of the economic merits should also take account of legal scholars’ views about common-law overruling. Professors Hart and Sacks list 12 factors (similar to those I have mentioned) that support judicial “adherence to prior holdings.” They all support adherence to Dr. Miles here. See H. HART & A. SACKS, THE LEGAL PROCESS 568–569 (W. Eskridge & P. Frickey eds. 1994). Karl Llewellyn has written that the common-law judge’s “conscious reshaping” of prior law “must so move as to hold the degree of movement down to the degree to which need truly presses.” THE BRAMBLE BUSH 156 (1960). Where here is the pressing need? The Court notes that the FTC argues here in favor of a rule of reason. But both Congress and the FTC, unlike courts, are well-equipped to gather empirical evidence outside the context of a single case. As neither has done so, we cannot conclude with confidence that the gains from eliminating the per se rule will outweigh the costs.

In sum, every stare decisis concern this Court has ever mentioned counsels against overruling here. It is difficult for me to understand how one can believe both that (1) satisfying a set of stare decisis concerns justifies overruling a recent constitutional decision, Wisconsin Right to Life (SCALIA, J., joined by KENNEDY and THOMAS, JJ., concurring in part and concurring in judgment), but (2) failing to satisfy any of those same concerns nonetheless permits overruling a longstanding statutory decision. Either those concerns are relevant or they are not.

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The only safe predictions to make about today’s decision are that it will likely raise the price of goods at retail and that it will create considerable legal turbulence as lower courts seek to develop workable principles. I do not believe that the majority has shown new or changed conditions sufficient to warrant overruling a decision of such long standing. All ordinary stare decisis considerations indicate the contrary. For these reasons, with respect, I dissent.

$ $ $ $ $ $ $In re TOYS “R” US, INC.,

1998 FTC LEXIS 119 (October 13, 1998)

OPINION OF THE COMMISSION BY PITOFSKY, CHAIRMAN: INTRODUCTION. … [T]his case is about how Toys “R” Us (“TRU”), the largest toy retailer in the United States, responded to a new type of competition in toy retailing posed by wholesale clubs (“clubs”)… . Instead of meeting this new competition in the market place, TRU communicated with all the toy manufacturers that supplied both TRU and the clubs, and induced many suppliers to agree – with TRU and each other – either that they would not sell to the clubs at all, or more usually that they would sell on disadvantageous terms and conditions. TRU’s goal was to prevent consumers from comparing the price and quality of products in the clubs to the price and quality of the same toys displayed and sold at TRU, and thereby to reduce the effectiveness of the clubs as competitors. We find that TRU’s conduct violates Section 5 of the FTC Act. …

I. DISCUSSION OF FACT.

A. THE TOY INDUSTRY. Hundreds of companies around the world make thousands of different toys. Overall concentration among toy manufacturers is low: the top ten firms in 1993 produced about half of the industry’s output. … [T]he total market share of … the top four manufacturers of traditional toys4 falls … between 34 and 45%.

B. TOY RETAILING. … TRU operates about 650 United States stores and roughly 300 stores in other countries. Recently, Wal-Mart and other … large discounters that stock an extremely broad array of products have challenged older discount chains like TRU by offering lower prices across their many lines of products, including toys, through efficient purchasing, distribution and in-store operations.

TRU offers an assortment of about 11,000 individual toy items throughout the year. No other toy retailer carries as many toys. TRU stores are typically … similar in size to a large food supermarket, and are located primarily in the suburbs outside major metropolitan areas. TRU rose to its current position as the largest toy retailer in the United States in part by offering a larger selection of toys than any other retailer at the lowest prices. ... TRU was [originally] able to distinguish itself from other toy outlets through lower prices and wider selection. Today, TRU still strives to offer competitive prices, but it is TRU’s broad range of toys that gives it a distinct competitive advantage.

4 Traditional toys means all toys except for video games. ...

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1. TRU is a very large buyer and seller of toys in the United States and the world. … TRU buys about 30% or more of the large, traditional toy companies’ total output, and is usually their most important customer.10 … [T]oy manufacturers would have great difficulty replacing TRU. … Even the very largest traditional toy manufacturers…, felt a regrettable but growing dependence on TRU. ... A Hasbro executive testified that Hasbro could not find other retailers to replace TRU. Mattel’s CEO explained that “[TRU] is 30% of our business, so that would be a very big number to put into other accounts that are already committed to what they [feel] is correct.” …

2. Retail prices of toys vary widely in different retail channels. … Department stores and other “traditional” toy stores sell toys for about 40% to 50% above their cost. TRU’s average margins are close to 30% above cost, but there is significant variation across the range of products sold. ... The clubs sell at mark-ups as low as 9% … and as high as 14%… . As a group, the clubs sell product at average gross margins – the difference between the cost of merchandise and its selling price – of between 9 and 12%.

Wal-Mart is generally acknowledged as the price leader among discount retailers of toys. Wal-Mart carries an inventory of between 3,000 to 4,000 toys … and … Wal-Mart and similar discounters tend to carry the newer and more popular toy products. ...

Although TRU’s general price structure is consistent across the country, TRU varies the prices charged for some toy products to meet local competition. … In adjusting regional prices, TRU considers the strength and the number of the national discounters, such as Target, K-Mart and Wal-Mart, that are in the area as well as regional discounters…. The greater the level of competition, the lower the advertised price….

TRU has continued to profit from its own unique strength of being a full-line toy discounter by charging greater retail mark-ups for its broad line of moderately popular products. Other specialized toy outlets were not able to profit from this strategy as effectively as TRU. Lionel Leisure and Child World, two toy discounters similar to TRU, went bankrupt in the early 90’s, at which point TRU’s principal remaining competition became Wal-Mart, Target, K-Mart, and other general merchandise discounters.

C. THE WAREHOUSE CLUBS. Warehouse clubs are a recent retail innovation. … By 1992 the warehouse club chains … operated about 600 individual club stores. … In June of 1992, TRU estimated that 238 of its 497 then-existing stores in the United States were within five miles of a club. Clubs, moreover, were within or near the [newspaper advertising area] of almost all of TRU’s 1992 stores – 486 of 497. This is not surprising since … the circulation area of local newspapers [is] often significantly larger than five miles. In other words, if TRU lowered its prices on newspaper-advertised toys [in stores in the newspapers’ advertising ranges] to meet club prices, then 97.8% of TRU’s stores would have been affected… .

… The clubs sell only to members, who pay an annual fee of about $30 for the opportunity to shop at the club. Clubs target consumers who want to buy merchandise at low prices but are willing to forgo plentiful sales staff or other services. Clubs offer the 10 The electronic toy makers, like Sega and Nintendo, which have other retail outlets including computer game stores, are an exception to the statement that TRU is invariably the most important outlet.

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lowest prices of any retail store … by reducing operating costs and increasing the rate of inventory turnover. ...

As the clubs attracted more individual customers, they began to carry a wider variety of products and compete with a larger range of retail outlets. … The clubs seek to offer name-brand merchandise. As one warehouse club executive put it, “generally speaking, by selling a branded product at a great price, that equals the best value.” Clubs also utilize an inventory strategy whereby the mix of non-food products changes regularly. This creates a “treasure hunt” atmosphere, meaning that customers can visit the same store often and always search out new bargain products. The BJ’s club, for example, stocked between 50 and 150 toy items at any time, but over a full year carried 300 different toy items. Costco carried 100 toy items at Christmas and as few as 15 at other times, but still offered its customers a total of 400 different toys over the whole year.

D. TOY SALES AT THE CLUBS. … During the late 1980s and early 1990s, warehouse clubs could select and purchase from the toy manufacturers’ full array of products. Clubs bought both the ordinary merchandise that was sold to all classes of retailers and customized products that were specially designed for the club class of trade. [They] sometimes worked with toy manufacturers to develop certain specially-packaged products…. For example, warehouse clubs purchased combination (or “combo”) packs containing multiple inexpensive toys, such as Matchbox or Hot Wheels cars ... .

… [H]owever, … clubs did not always, or even usually, prefer combo packs. Costco’s toy buyer testified that regular products were generally preferable to combo packs because combo packs could make it difficult for consumers to compare the club’s offerings to those sold by other retailers. The buyer for BJ’s, the warehouse club with the most extensive toy selection, testified that … combo packs … could be perceived as designed to force the customer to buy a second unwanted product in order to obtain the one the customer’s child wanted. Pace’s toy buyer also felt that combo packs needed to contain obvious, extra value to generate demand among club shoppers. …

Like all large retailers, clubs attempted to purchase toy items that they believed would sell well. … [H]owever, the clubs did not carry primarily best-sellers, even before TRU implemented its policy. Of the 310 toy products sold by clubs in 1991, only 11% were among the top 100 selling products and only 27% were among the top 500. … [I]n deciding whether products [were] likely to sell well, club toy buyers relied on their own assessments of a product[ ], [rather than on] other retailers’ advertising plans or sales experience, since information on such matters, if available to them at all, was not available at the time they made their own purchasing decisions. …

E. TRU’s CLUB POLICY. By 1989, TRU senior executives were concerned that the clubs presented a threat to TRU’s low-price image and its profits. ... TRU had already lowered the prices of … popular items to meet Wal-Mart’s challenge, but the clubs’ marketing strategies threatened to bring prices even lower. … In 1989, TRU executives … began to formulate a response to club competition. ...

In 1989 and 1990, TRU began to discuss clubs with some of its suppliers, including Mattel, Hasbro, and Fisher Price. TRU made various general representations about not buying from manufacturers that sold to clubs. TRU first attempted to set forth a

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written policy regarding the clubs in about late 1990. The initial plan called for suppliers to treat the clubs and TRU differently for many different product categories (for example, video game accessories were only to be sold to clubs in packs of three or more items, batteries in packs of 24 or more, and candy in packs three to four times greater than weights TRU sells). This was quickly abandoned as too complicated. ...

Thereafter, TRU renewed negotiations with its suppliers. Prior to and [during] February 1992, TRU informed manufacturers of a new club policy [laid out] in a document, dated January 29, 1992, which provides:

* No new or promoted product unless entire line is carried.

* All specials and exclusives to be sold to the clubs should be shown first to TRU to see if TRU wants the item.

* Old and basic product should be in special packs.

* Clearance/Closeouts are OK providing (sic) TRU is given first opportunity to buy this product.

* No discussion about prices.

TRU met with each supplier to explain and discuss this policy. After asserting its club policy, TRU asked each manufacturer individually what it intended to do. As a result of these discussions, TRU realized this second iteration of its club policy also would prove difficult to enforce because, among other reasons, there was confusion about what constituted “a new or promoted product.” ...

A prolonged and extensive period of negotiations between TRU and the toy manufacturers … followed. … [E]ventually … each manufacturer agreed with TRU that it would sell to the clubs only highly-differentiated products (either unique, individual items or “combo” packages of two or more toys) that were not offered to any other outlet including, of course, TRU. The details often varied … but the core of the arrangement was consistent. The right to review club products described in [the] written policy (“specials and exclusives to be sold to the clubs should first be offered to TRU”) continued to apply. …

F. EVIDENCE OF VERTICAL AGREEMENT. There is direct evidence that TRU reached agreements with at least ten toy manufacturers. By the end of 1993, all of the big, traditional toy companies were selling to the clubs only on discriminatory terms that did not apply to any other class of retailers. … After the agreements were reached, TRU supervised and enforced each toy company’s compliance with its commitment. …

1. TRU sought and received initial verbal commitments from its suppliers. TRU met individually with each of its suppliers to explain its policy. It did not simply state that policy, but asked the suppliers for express assurances that the supplier understood the proposal and agreed to go along. ...

2. TRU previewed and cleared or rejected the special products offered to the clubs. After committing to TRU’s policy, the toy companies, as TRU had asked them to do, presented examples of their specially-developed “club products” for TRU’s preview and clearance before offering them to the clubs. On other occasions, TRU and its suppliers negotiated over the appearance of club packages. … TRU wanted the special

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products to be sufficiently differentiated from those it sold to “avoid the customer being able to make direct pricing comparison[s].” … In all, TRU either preapproved special club products, or otherwise negotiated over what was acceptable content and packaging for club products with [eight different] suppliers….

3. TRU negotiated with the toy companies and reached new points of agreement. TRU also engaged in extended negotiations to gain compliance with the club policy from reluctant toy manufacturers. … For example, … Little Tikes’ parent company, Rubbermaid, wanted Little Tikes to continue club sales, creating a conflict with TRU. Little Tikes asked TRU for help in negotiating with Rubbermaid, and, in April 1993, TRU and Little Tikes met with Rubbermaid’s CEO to “resolve the warehouse club issue.” The two companies agreed that Little Tikes would sell only custom product and near-discontinued toys to the clubs. ...

4. Documents and testimony used promissory language. Many documents refer to “agreements” between the toy companies and TRU, or use other promissory language to describe their relationship. … While loose language in business documents is not necessarily the equivalent of an agreement, the consistent reference to such words of agreement, promise and commitment shows how far removed this policy was from a unilateral statement by TRU of its policy.

There is, in short, an abundance of evidence of promises, negotiations, compromises, and cooperative conduct with respect to the development, adoption, and enforcement of the club policy.

G. EVIDENCE OF HORIZONTAL AGREEMENT. TRU worked for over a year and surmounted many obstacles to convince the large toy manufacturers to discriminate against the clubs by selling to them on less favorable terms and conditions. The biggest hindrance TRU had to overcome was the major toy companies’ reluctance to give up a new, fast-growing, and profitable channel of distribution, and their concern that any of their rivals who sold to the clubs might gain sales at their expense. TRU’s solution was to build a horizontal understanding – essentially an agreement to boycott the clubs – among its key suppliers. … [A]t a minimum, [seven toy manufacturers] agreed to join in the boycott on the condition that their competitors would do the same. Several were particularly concerned about their closest competitors; all were concerned about the behavior of competitors generally. With the cooperation of the toy manufacturers, TRU also monitored and policed the horizontal agreement after it was in place.

When TRU raised its club policy with the toy companies in late 1991 and 1992 the policy met with resistance. ... The toy companies were afraid of yielding a potentially important new channel of distribution to their competitors. … [N]o retail channel other than the clubs offered similar opportunities for rapid growth... . [T]oy suppliers … saw the clubs as a new outlet of potentially great importance. When TRU introduced its club policy, the toy industry was looking to expand – not restrict – the number of major retail toy outlets. … [T]oy companies were worried about the increasing concentration among toy retailers and sought alternatives to reverse the trend towards concentration. …

The club policy that TRU wanted … ran squarely against the independent business strategies of its suppliers. … [A] uniform, joint reaction to TRU’s policy was a necessary element of each manufacturer’s decision to restrict sales to the clubs. Each

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was simply unwilling to go forward with the proposed policy alone. Indeed, … it was “frustrating to [TRU] that [its suppliers] would always talk about ... their competition” and resisted making “a decision on their own independent of what their competition did.”

1. TRU built a horizontal agreement among its suppliers to overcome their reluctance. Toy manufacturers were unwilling to limit sales to the clubs without assurances their competitors would do the same. Discrimination against the clubs simply would not happen without that additional element of horizontal coordination. … TRU assured the manufacturers that its policy would be applied equally to each of them, and told many of the major manufacturers that their closest competitors were only selling to the clubs because they were too. This alleviated the manufacturers’ concern about losing market share to a competitor that sold to the clubs. … TRU, during its meetings and conversations with the manufacturers, communicated the message “I’ll stop if they stop” from manufacturer to competing manufacturer. ... TRU engaged in these conversations with all the key toy manufacturing firms. ...

2. After the initial boycott agreement was in place, TRU organized a related agreement to enforce the boycott. ... The horizontal agreement not only allowed TRU to overcome its suppliers’ reluctance to restrict sales to the clubs, but TRU turned their apprehensions to its own advantage. … [F]or fear of reprisals from TRU, the toy companies did not want to be caught selling to the clubs when their competitors were abstaining. TRU requested and then passed complaints about breaches of the boycott agreement from one supplier to another when regular product was found in the clubs. ... TRU would speak to the offending firm and even assure the complainant that the offending firm would be brought into line. ... The toy companies participated in this exchange of complaints, which was frequent and continued over lengthy periods, effectively making their competitors’ compliance a part of their agreements with TRU. ...

H. EFFECT OF THE “NO-IDENTICAL-ITEMS” POLICY. … The no-identical products policy met TRU’s goals. TRU wanted to ... prevent consumers from making direct price comparisons between products sold by TRU and products sold by the clubs. ... TRU approved of the sale of special packs to the clubs because special packs make it difficult for customers to compare the prices at different retail outlets. .... Most special packs were less popular with customers than individually packaged items. … The policy also raised the average prices of toys available at the clubs, even when consumers saw no improvement in value. …

The boycott hobbled individual clubs’ toy business. Costco’s experience is illustrative. While its overall growth on sales of all products during the period 1991 to 1993 was 25%, Costco’s toy sales increased during the same period by 51%. But, after the boycott took hold in 1993, Costco’s toy sales decreased by 1.6% despite total sales growth of 19.5%. While there is no assurance that Costco’s toy business would have continued to grow at an annual rate of 25% or more, TRU’s policy clearly took the wind out of Costco’s sails. ... The reversal of the clubs’ success as toy retailers can also be seen by examining toy manufacturers’ sales to the clubs. ... [E.g.,]Mattel’s sales to all clubs, which grew at about 50% annually in both 1989 and 1990, dropped from over $23 million in 1991 to $7.5 million in 1993. ...

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Most significantly, competition would have driven TRU to lower its prices had TRU not taken action to stifle the competitive threat posed by the clubs.34 In turn, if TRU lowered its prices, other retailers would have been forced to do so as well. … The ALJ … found that, because clubs carry many less popular items at prices substantially lower than TRU’s, TRU would have lowered prices for toys beyond the top 100 to 250 best-selling items to protect its price image. ...

II. DISCUSSION OF LAW. …

A. TRU ENTERED UNLAWFUL VERTICAL AGREEMENTS WITH AT LEAST TEN TOY MANUFACTURERS. TRU entered vertical agreements with at least ten toy companies, including all of the large, traditional toy manufacturers, not to deal with clubs except on discriminatory terms that limited the clubs’ ability to compete.

Contrary to TRU’s assertions, the [Colgate] doctrine…, does not protect TRU’s conduct. … TRU’s goal was to work out arrangements whereby the toy manufacturers would sell to the clubs only on discriminatory terms, thereby diminishing the clubs’ ability to compete effectively with TRU. Colgate would protect this policy, if it had been confined to an announcement, followed by firms making independent business decisions. But that is not what occurred. First, TRU asked toy companies for an express response – yea or nay – after it told them of its policy; second, it engaged in extended negotiations with companies that were reluctant to adopt the restraint, and worked out agreed-upon compromise solutions; third, it asked to, and in fact did, preview and clear products developed for the clubs to assure that they were sufficiently differentiated from its own; fourth, on at least one occasion, a supplier agreed to split the cost of a discount that TRU offered after a toy company breached the policy by selling a product to a club, and TRU elected to meet the club’s lower price; fifth, on other occasions, TRU invited toy manufacturers to police compliance by competitors and, when toy companies complained about competitors’ sales to the clubs, TRU called meetings with the firms violating the agreement to demand again that they cease club sales. … [T]he systematic give-and-take of negotiations between TRU and the various manufacturers went well beyond the simple announcement of a policy followed by terminations if that policy was not followed. …

The parties constantly described their arrangements as “agreements,” “promises,” [and] “understandings” …, all indicating a conscious commitment to a common plan or scheme. … In this case, there is no question that complaint counsel presented evidence tending to exclude the possibility of independent action under the standard of Monsanto.

In Monsanto, the Court found “substantial direct evidence of [an unlawful agreement] to maintain prices” where Monsanto advised a discounting dealer other than the one terminated that it would not receive adequate supplies if it continued discounting; Monsanto, frustrated by the dealer’s continued discounting, complained to the dealer’s parent company, which then instructed its subsidiary to comply; and the dealer later informed Monsanto that it would comply.

The record here contains similar evidence (and more) of agreement. TRU asked its suppliers to comply with its policy, and they responded with commitments; most agreed on the understanding that all would do the same; and when some did not do as 34 Indeed, TRU did lower its prices for several items when clubs were able to sell the same items at a substantially lower price.

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they had promised, TRU engaged in often-protracted negotiations with the “non-complying” manufacturer. Indeed, the presentation of … products to TRU to determine whether they were acceptable to TRU, and the subsequent offer of products to the clubs only [when] acceptable to TRU, went well beyond any evidence … in Monsanto. Finally, in the case of Little Tikes, TRU employed exactly the same tactic as did Monsanto – it complained to Rubbermaid, Little Tikes’ parent company. As in Monsanto, Little Tikes, instructed by its parent to comply, told TRU that it would do so. …

U.S. v. Parke, Davis & Co., 362 U.S. 29 (1960), examined and held illegal a pattern of conduct analogous to that engaged in by TRU. Parke, Davis, a pharmaceutical company, sought an agreement from retail druggists to maintain prices and, when retailers resisted, modified its requirement and sought a discontinuance of price advertising. Parke, Davis negotiated first with one and then other retailers, obtained assurances that price advertising would be discontinued, and eventually brought all retailers into line. The Supreme Court explained that a manufacturer that actively negotiates with its distributors in this manner goes “far ... beyond the limits of the Colgate doctrine.” Except … that the instant case involves a retailer seeking assurances from its suppliers (rather than the other way around), this precedent squarely covers the precise conduct at issue here. …

B. TRU ORGANIZED A HORIZONTAL AGREEMENT AMONG THE TOY MANUFACTURERS. … Despite TRU’s considerable market power, key toy manufacturers were unwilling to refuse to sell to or discriminate against the clubs unless they were assured that their competitors would do the same. To overcome that resistance, TRU gave initial assurances that rival toy manufacturers would commit to comparable sales programs; TRU representatives then … shuttl[ed] commitments back and forth between toy manufacturers and help[ed] to hammer out points of shared understanding; toy manufacturers’ commitments were carefully conditioned on comparable behavior by rivals; and, after the discriminatory program was in place, TRU and the toy manufacturers worked out a program to detect, bring back into line, and sometimes discipline, manufacturers that sold to the clubs. …

1. The ALJ’s finding of horizontal agreement finds strong support in Parke, Davis [and] Interstate Circuit…

a. Parke, Davis. In Parke, Davis, the government challenged vertical price fixing agreements between Parke, Davis and several drug stores. In its discussion of just how far Parke, Davis had strayed beyond the unilateral conduct permitted by Colgate, the Court described an agreement that Parke, Davis had orchestrated among its retailers:

First [Parke, Davis] discussed the subject with Dart Drug. When Dart indicated willingness to go along the other retailers were approached and Dart’s apparent willingness to cooperate was used as the lever to gain their acquiescence in the program. Having secured those acquiescences Parke Davis returned to Dart Drug with the report of that accomplishment. Not until all this was done was the advertising suspended and sales to all the retailers resumed. In this manner Parke Davis sought assurances of compliance and got them, as well as the compliance itself. It was only by actively bringing about substantial unanimity among the competitors that Parke Davis was able to gain adherence to its policy.

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… As the Court indicated, if Parke, Davis’ distributors had met and each said that it would stop advertising prices if the others did so as well, there would be no doubt that a horizontal agreement had been reached. It is equally true that if the toy manufacturers had met and collectively committed that they would not sell, or sell only on discriminatory terms, to a class of customers such as the clubs, the law would recognize this as an agreement. Thus, when TRU engaged in “shuttle diplomacy” and brokered both agreement and compliance, it achieved the same objective. … The manufacturers did not have to meet to hammer out a horizontal agreement. Their conscious commitment was extracted and then communicated each to each by TRU.

TRU was not content to rely on its suppliers’ assessment of their individual business interests when it asked them to adopt restrictions on distribution through the clubs. Just as Parke, Davis used Dart’s willingness “as a lever to gain [its competitors’] acquiescence in the program,” TRU used Mattel’s promise – itself “based on the fact that the competition would do the same” – to gain a commitment from Hasbro and then others. There is similar evidence of express, interdependent commitments among at least seven major toy manufacturers. Their subsequent decisions to enter the proposed boycott were made despite the fact that it might have been a competitively foolish thing to do as an individual matter, or that others might gain if it was – or proved to be – a mistake. As in Parke, Davis, the boycott was presented to TRU’s suppliers in “competition-free wrapping.” Due to this, the agreement ultimately obtained was in all likelihood different from, and more stable than, any agreements TRU would have obtained had it negotiated separately with each supplier, and had each not requested and received assurances about the behavior of its rivals. TRU would not have gone to the trouble of conducting these negotiations and working out the horizontal agreements if it believed it could have enforced its will without them.

b. Interstate Circuit. … Interstate Circuit … supports our analysis here. Interstate Circuit [,a film exhibitor,] wrote identical letters to eight competing film distributors, naming all the distributors as addressees in each letter. As a condition for the exhibition of movies in its first-run theaters at an evening price of at least 40 cents, Interstate Circuit asked the distributors to impose two restrictions in their contracts for the exhibition of such films:

(1) subsequent-run evening exhibitions of “A” movies must be at an admission price of at least 25 cents, and

(2) first-run, evening exhibitions of “A” movies may not be part of a double feature.

There was no evidence of direct communication among the distributors, but each met separately with representatives of Interstate Circuit to discuss the demands made in its letter. Each distributor eventually acceded to Interstate Circuit’s request, except that each declined to adopt the restrictions in Austin, Galveston and the Rio Grande Valley. No witnesses from the distributor defendants testified to offer explanations as to why these “far-reaching changes” were introduced with such uniformity. …

The Court in Interstate Circuit discussed a host of factors before concluding that, viewed in context, the evidence supported the district court’s finding that the national film distributors had entered into agreement with one another. By its letter, Interstate Circuit literally addressed its invitation to all of the film distributors. Each knew that the

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others were asked to make the same choice. Their later course of conduct was a dramatic change that was not only far-reaching and complex, but also difficult and costly to undo because prices were set at 25 cents by contracts lasting for a year or more. This change lacked any convincing explanation or business justification because the high-level officials, who would have been in a position to explain the distributors’ actions, did not testify to explain the reasons for their companies’ change of course. Finally, the distributors’ decisions to accede to Interstate Circuit’s requests were “interdependent” in nature, that is they made economic sense only if each had reason to believe the others would go along. Thus, … “each was aware . . . that without substantially unanimous action with respect to the restrictions ... there was risk of a substantial loss of the business and good will... .” Together these facts and circumstances suggested to the Court that – more likely than not – the movie distributors responded to Interstate Circuit’s request in a concerted fashion. Subsequent cases … have emphasized that interdependence is crucial if an antitrust agreement is to be inferred from circumstantial evidence.

A similar, and in some respects stronger, set of facts is present here, and the same inference of conspiracy is appropriate. As in Interstate Circuit, there was an invitation clearly addressed to all of the participants in the proposed conspiracy. ... Each therefore knew that the others were asked to make a similar decision.

The changed conduct that followed here, like that in Interstate Circuit, was far-reaching, complex, and, by its nature, costly to implement. … Toy manufacturers began to produce customized lines of product for sale to the clubs, even though doing so imposed extra costs on the manufacturers with no perceived benefit to their club customers. … By early 1993, toy manufacturers had adopted policies of discriminating against the clubs, policies that manufacturers vowed to follow indefinitely. This was an unusual and controversial measure in an industry that had no history of imposing such formalized restraints on toy manufacturers’ business discretion.

These far-reaching and expensive changes are made more suspicious by their lack of convincing explanation or justification. Changes in business strategy do not generally need to be explained or justified. But when the pattern of evidence – as here – strongly suggests that the change was likely the result of some kind of agreement, the trier of fact may properly ask why a party acted as it did. The inability to offer a plausible explanation creates another reason to think that the change in fact resulted from an agreement. … Here, TRU and some toy company executives testified about “free-rider” problems… . As we discuss in detail below, the free-rider explanation for discrimination against the clubs is simply a pretext. …

[T]he parallel behavior of the national movie distributors … was highly suspicious. The Court naturally questioned how a simple request for terms of sale across Texas could have been converted into a common policy everywhere but Austin, Galveston, and the Rio Grande Valley without the movie distributors discussing the matter among themselves or through Interstate Circuit. ... It is difficult to imagine th[e] course of events [at issue here] taking place without direct communications among the toy manufacturers or indirect communications through TRU. But in this case, it is not necessary to draw an inference of conspiracy from entirely circumstantial evidence, because there is testimony, which is supported by significant documentary evidence, that these communications did occur and that TRU in fact acted as the “hub” in a conspiracy

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to disadvantage the clubs by inducing all the key suppliers of toys to adopt parallel restrictions on club sales.

Finally, just as the facts and broader context of Interstate Circuit indicated that the decision to adopt Interstate Circuit’s suggestions was interdependent – i.e., that uniformity was necessary for all to profit – there is likewise every reason to think that the boycott here was the result of such interdependence. Recent cases have reaffirmed the requirement of interdependence for any finding of antitrust agreement particularly when based on circumstantial evidence. See, e.g., Matsushita… .

The success of the club boycott similarly depended on having a substantial and significant number of participants. If only one company – or even several companies collectively selling a small share of all toys – had joined, the boycott would not have worked. Instead, the toy manufacturers that agreed to the boycott would have lost sales, while their rivals that continued to sell all of their products to the clubs would have gained this business to their own benefit. This risk attended any toy company that decided unilaterally to cut off the clubs. And for this reason, they all clearly told TRU that they were unwilling to make a decision on their own. … TRU’s own executives … explained that the toy manufacturers were simply unwilling to comply with TRU’s demand unless they were confident that competitors would do the same.

In two respects, proof of agreement here is even stronger than Interstate Circuit. First, we have clear evidence that TRU engaged in a kind of commercial “shuttle diplomacy” – communicating back and forth among toy suppliers the message “they’ll stop if you’ll stop” – that was only probable in Interstate Circuit. … Second, the record here contains clear statements that the “club policy” was squarely contrary to the independently determined business interests of the toy manufacturers. The toy companies were keenly interested in expanding their club sales in part to reduce reliance on TRU. Action against unilateral interest suggests agreement even more strongly than actions that are simply unexplained or curious. …

4. TRU’s arguments against finding a horizontal agreement are without merit. … TRU [argues] that it was entitled to demand that each of its suppliers discriminate against the clubs to prevent their free-riding – or even simply to retain TRU’s business – and those toy manufacturers that did discriminate would not necessarily have entered into a horizontal agreement. Thus, TRU posits that each could have independently decided to discriminate for its own business reasons, in which case the conduct would be protected by Matsushita ….

Even if we accept the validity of that contention for the sake of argument, that is not what happened here. There is evidence that at least seven toy manufacturers did not act independently. According to TRU’s own witnesses, the manufacturers uniformly resisted TRU’s ultimatum until each could be assured that rivals would behave in the same way. … It was only after assurances were exchanged that the toy manufacturers, overcoming their natural inclination to sell through all potential outlets, became willing to discriminate against the clubs. At that point, a “conscious commitment to a common scheme” was perfected, and a uniform, clearly interdependent, course of conduct came into being. Monsanto; see also Parke, Davis; Interstate Circuit.

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Several of TRU’s other arguments are similarly based on theories that are inconsistent with the record. First, TRU claims that this analysis “ignore[s] the choice posed by TRU.” TRU argues that the allegation of horizontal conspiracy is “based on the fallacy that toy manufacturers were able to enjoy unrestrained sales of their product to both [TRU] and the warehouse clubs.” It further argues that when the toy companies were forced to make a choice, it was “entirely logical” to pick TRU. TRU was the most important customer, and the clubs were comparatively small fish. A manufacturer might even hope that its competitors would forgo TRU in favor of the clubs, thereby leaving more TRU shelf space for itself.

As is clear from our discussion, TRU’s speculations run against the weight of the evidence. Mattel, Hasbro, and other key suppliers initially were not sure whether TRU would be able to “force” them to chose between it and the clubs. TRU’s announcement of its new policy began a period of aggressive and sustained negotiations, the results of which were uncertain. TRU enjoyed significant bargaining power, but Mattel also knew that TRU would be reluctant to refuse to stock popular Mattel products. ... Had TRU not resorted to the organization of a horizontal boycott agreement (as it immediately perceived the need to do), the club policy very well may have failed. …

TRU argues that … Monsanto and Sharp protect[ ] the communications at issue here from serving as a basis for a finding of agreement. … If TRU merely had complained to the toy companies about the clubs’ low prices – thereby drawing their attention to a threat (perceived by TRU) to the toy distribution system – these complaints would have been similar to those in Sharp and Monsanto. Even if TRU only told each of its suppliers that it also was complaining to the others, it would be more difficult to infer that their later adoption of a restrictive policy was concerted. But TRU … told each of its suppliers what their rivals (not its own as in Sharp or Monsanto) were doing, suggested they do the same and, on that basis, extracted mutual commitments from many of them.

The toy suppliers committed to TRU’s policy … only after they were assured others would do the same. There is, therefore, no reason to think the toy suppliers were using information gathered by TRU to evaluate their distribution practices in view of their own best interest. We do not think the Supreme Court’s solicitude for communications up and down the supply chain of a manufacturer … can be stretched to cover negotiations between interbrand competitors conducted by their shared distributor for the purpose of obtaining a horizontal agreement among them. …

TRU also argues that the finding of horizontal agreement is improper because substantial unanimity was never achieved. While … not all of the many hundreds of toy companies adopted TRU’s policy, and … the compliance of some firms that did agree occasionally wavered, we do not think that this defeats the evidence of agreement. Ten of the largest … toy makers all adopted essentially the same policy, and most substantially complied with that policy from approximately early 1993. … [T]hat the agreement was in some instances unstable does not undermine the existence of the agreement, but rather is likely an indication that the agreement was against the individual business interests of the toy suppliers, tempting some of them to cheat until caught and disciplined. …

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In conclusion, none of TRU’s objections dissuades us from our conclusion that, in addition to entering vertical agreements with ten or more toy companies, TRU also organized a horizontal agreement among at least seven key toy manufacturers. …

C. THE AGREEMENTS COULD BE CONSIDERED PER SE ILLEGAL UNDER THE KLOR’S RULE. In Klor’s, … an independent appliance distributor… successfully pled a per se violation of §1 when it alleged that a rival distributor enlisted several suppliers to boycott [it]. … This case presents Klor’s, not on the pleadings but rather after the development of an unusually complete record. The ALJ found that, like [the defendant in Klor’s], TRU entered vertical agreements with each of its key suppliers to disadvantage its rivals, the clubs. He further found that TRU organized a horizontal agreement among key suppliers to the same purpose and effect – to disadvantage the clubs. Under … Klor’s …, TRU’s conduct would be per se illegal.

If Klor’s is still good law – it is after all a Supreme Court decision that has never been overruled and indeed has been cited with approval in many subsequent decisions – it would be dispositive and our analysis would be complete. Nevertheless, we elect not to rely exclusively, or even primarily, on the Klor’s per se rule.

We are reluctant to apply the Klor’s per se rule for several reasons. First, the Supreme Court has made it clear that it will not apply per se rules mechanically. When there is adequate reason, per se rules have been bypassed with respect to price fixing, and boycotts, and have been eased and clarified in connection with tie-in sales. Some lower courts have speculated that the Supreme Court would not reaffirm a broad interpretation of Klor’s today. Also the Supreme Court has recognized that manufacturers can terminate dealers and restrict channels of distribution in order to diminish the adverse impact of “free-riding”– a theory that was little known when the Supreme Court [decided] Klor’s…. Finally, in Northwest Wholesale Stationers, a boycott case decided 26 years after Klor’s, the Supreme Court observed that the question of which types of “group boycotts” merit per se treatment is “far from certain” and that “care” is necessary in defining the category of concerted refusals to deal that mandate per se condemnation. …

D. “GROUP BOYCOTTS” THAT MERIT SUMMARY CONDEMNATION: THE NORTHWEST WHOLESALE STATIONERS APPROACH. The Court in Northwest Wholesale Stationers looked to Klor’s and other cases to provide guidance as to which collective refusals to deal constitute per se unlawful group boycotts, and found that they generally displayed four common factors. … We consider each of these factors in turn….

1. Intent: Purpose of disadvantaging competitors. The primary (if not the only) purpose of the agreements that TRU obtained with and between its suppliers was to disadvantage a group of new entrants in the toy retailing market. Those new entrants – the warehouse clubs – were obviously competitors of TRU and thus in a “horizontal” economic relationship to it. The agreed-upon practices reduced direct price competition between the clubs and all other toy outlets, including TRU. The toy manufacturers committed to TRU to sell only highly differentiated products to the clubs, which in turn would usually be resold by the clubs at retail prices higher than the closest comparable toy at TRU. … Customized products also tended to raise the cost of toys to the clubs and the prices of toys to consumers who bought toys at the clubs. This too redounded to the

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benefit of TRU (and other traditional discounters), which no longer had to worry that their reputation as “the” or “a” low-price toy retailer might be eroded. …

2. Market dominance. … TRU [has] market power as a purchaser and seller of toys. As in all market power assessments, it is necessary to look not just at market share statistics, but at the industry characteristics that give those statistics meaning. In this light, the following discussion considers TRU’s market position, first as a buyer, and then as a seller, of toys.

To measure market power, it is necessary to define relevant product and geographic markets and then to look at barriers to entry. There seems little room for dispute on this record that the relevant geographic market in which TRU buys (i.e., competition among toy manufacturers for the business of toy retailers) is national, and the relevant geographic markets in which TRU’s sells (i.e., competition for the business of individual consumers) are local. ... The record supports the conclusion that the relevant product market is all traditional toys. …

Barriers to entry into toy manufacturing are moderate, although there does appear to be a trend toward concentration among the makers of the most well-known branded toys. Brand name recognition, existing manufacturing facilities, and economies of scale mean that, while many entrepreneurs can and do introduce a single successful toy, none is able to enter the market on the same scale … as Mattel or Hasbro. ...

a. TRU’s dominance as a buyer and seller of toys. TRU’s market share is extraordinarily high for a retailer and, due to several other distinctive factors discussed below, this large percentage share understates TRU’s actual market power. While not a monopolist or a monopsonist, TRU enjoys a dominant position in buying and selling toys. … TRU is the largest retail buyer of toys in the United States and in the world. At the time it … induc[ed] toy manufacturers to discriminate against the clubs, it purchased about 20% of toys sold at wholesale in the United States. ...

TRU’s extraordinarily high market shares for the retail sector in fact understate its true dominance as a purchaser and seller of toys for a number of reasons. First, TRU purchases such a great share of all toys and of each toy manufacturer’s output that no other retailer could make up for lost sales volume should TRU decide to terminate its relationship with the supplier. Second, TRU maintains a uniquely broad inventory. No other discount retailer carries nearly as many toys. For many toy manufacturers, TRU is the only large buyer of some of their older or low volume toy products. These toys significantly affect the manufacturer’s overall profitability. Third, TRU, which operates 300 stores in 20 countries outside the United States, is by far the largest United States toy retailer operating in overseas markets. This is an important ingredient in TRU’s influence over manufacturers. ... Fourth, without TRU’s support, many toy manufacturers will not pay for an effective marketing campaign, because the manufacturers believe they cannot attain the necessary volume of sales if products are not sold at TRU.61

61 TRU’s importance as a retailer is so great that it often could squelch an item before the item made it to the market. This power is aptly illustrated by an incident involving Just Toys. Just Toys introduced what it believed was a promising new toy. When TRU found the item for sale at several BJ’s club stores in the New York City area, TRU canceled its order for the product. Just Toys thereafter canceled its advertising plans for the product, despite its belief that the item could

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Last, and of great importance in explaining why TRU was so successful in organizing its boycott, is that TRU, as a very large multi-brand retailer, has the ability to amplify its own market power by playing favorites – or even threatening to play favorites – among its suppliers. This is a source of market power that is not available to single-brand retailers (e.g., an Exxon station or Whirlpool distributor). With multi-brand dealers, a rejected or disfavored product’s shelf space will be given to that product’s closest substitute with little (if any) loss to the dealer. As a result, the manufacturing firm suffers a significant loss of sales and may lose even more in relative terms because its competitors will prosper as a result. Thus, a multi-brand dealer can shift from one product to another without incurring any cost, but manufacturers more often find it expensive to replace their large distributors. Sometimes, as here, this may be impossible for a manufacturer to do at all within a reasonable period of time. … TRU can also exercise subtle forms of discrimination short of termination. For example, it can deny companies the highly valued shelf space positions at the end of an aisle or at the front of a store. …

As a single, dominant, multi-brand retailer, TRU is similarly able to use its power to enforce collusion among its various suppliers. Of course, multi-brand dealers are not always able to exercise this potential source of power. The presence of a strong competitor which offers the manufacturers adequate substitute distribution for their products would be expected to check any attempt to exercise this power. For example, the toy retailer Zeller’s appears to be such a competitor for TRU in Canada. The very toy manufacturers that joined TRU’s boycott in the United States never similarly restricted their distribution of toys in Canada.

This comparison of the United States to Canada provides another indication that the U.S. boycott was a result of TRU’s power as a dealer of toys in the United States and not some legitimate business purpose. ... TRU’s claim that its suppliers were convinced of the wisdom of its policy in the United States, and therefore acceded to its proposals, is undermined by the failure of those same suppliers to take similar steps in Canada … A reasonable conclusion is that the successful boycott in the United States was a result of a powerful dealer’s ability to negotiate with suppliers that had nowhere else to turn, because in Canada, where they could turn to Zeller’s, no restraint was imposed. …

The evidence is clear – indeed, TRU does not really contest the point – that TRU had sufficient market power to induce the toy manufacturers to bend to its will with regard to their sales to the clubs. That such a wide range of toy manufacturers, all with serious reservations about the wisdom of discriminating against the clubs on toy sales, fell in line when TRU asserted its demands is proof in itself of TRU’s extraordinary power to coerce its suppliers.

b. The toy manufacturers’ dominance. Turning to the point of view of the clubs, the “dominance” they cared about was not just the ability of TRU to orchestrate a boycott, but the combined market power of the various toy manufacturers who entered into the boycott orchestrated by TRU. We have already seen that those toy manufacturers accounted for roughly 40% of all toy sales in the United States. That

have been a successful product. Without TRU’s support, Just Toys was unwilling to risk the expense of an advertising campaign.

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figure understates their significance since, as the leading toy manufacturers and principal television advertisers, they accounted for a far larger proportion of the “hit” toy products that lead consumers to shop at a particular outlet. ... [T]he participants in the boycott clearly had enough market power to retard the clubs’ ability to continue to compete.

TRU … argu[es] that there is no evidence that TRU had the power generally to curtail output and raise price in the marketplace, or evidence that overall output actually was curtailed and overall prices raised. There are several problems with this argument. First, there is little question that the boycott of the warehouse clubs that TRU organized could and did lower output by avoiding a decrease in toy prices by TRU and TRU’s non-club competitors. TRU, which lowered prices in 1992 to meet club prices, found that those price cuts were no longer necessary after the boycott limited club access to toy products. Second, in pressing its argument, TRU confuses the concept of monopoly power (which except in extraordinary circumstances does not exist at market share levels below 60% or 70%) with market power under the rule of reason (which may occur at lower percentage levels). Thus, TRU’s argument ignores the clear directive in Northwest Stationers that courts should examine whether the boycotting firms possess “a dominant position,” language that traditionally has required market shares in the 30% range, not the 60 or 70% range. … Finally, TRU and the toy manufacturer boycotters had more market power than bare numbers suggest. …

3. Terminating access to a necessary supply or relationship. TRU does not really contest the proposition that its “club policy” was designed to and had the effect of denying the clubs “a supply . . . necessary to enable [the clubs] to compete.” Northwest Wholesale Stationers. The whole point of its club policy was to deny the clubs product, or at least product in a form capable of being compared to TRU’s products, in order to eliminate price competition. The sharp decline in club toy sales, and consequent decline in price pressure on TRU, demonstrates that TRU did not miscalculate.

The clubs’ competitive advantage over other retailers is their low prices, and TRU’s policy denied the clubs toy products necessary to engage in price competition. As club executives testified, clubs seek to carry branded products that their customers will recognize. … TRU’s policy denied the clubs access to precisely that class of toy products.

TRU’s club policy also imposed costs on the clubs and unavoidably added to shoppers’ perceptions that warehouse club inventory tends to be irregular and limited, or characterized by cumbersome and over-sized products. Finally, the policy led to a denial of the clubs’ preferences (as buyers from the manufacturers) and of consumers’ preferences (as shoppers at the clubs) for a kind of service they preferred and that would have been provided but for TRU’s intervention. See Indiana Fed’n of Dentists (“The Federation is not entitled to pre-empt the working of the market by deciding for itself that its customers do not need that which they demand.”); cf. Aspen Skiing Co. (“The evidence supports a conclusion that consumers were adversely affected by the elimination of the 4-area ticket. . . . Skiers demonstrably preferred four mountains to three.”).

The drop in toy sales by the clubs demonstrates the importance of full and non-discriminatory access to toy products. As discussed above, TRU’s boycott halted a

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pattern of rapid growth of toy sales at the clubs. ... Equally important, many (if not most) of the toys that continued to be sold by clubs did not threaten TRU’s own prices.

4. The boycott lacked a business justification. TRU has offered only one business justification for its conduct. It claims that the clubs were “free-riders” that took advantage of services provided by TRU, and that the continued presence of these “free-riders” would have the long term adverse effect of driving these services out of the marketplace. It argues that it therefore was justified in urging toy manufacturers to curtail the ability of the clubs to compete with TRU.

… It is now well-recognized in antitrust jurisprudence that a manufacturer can take steps to eliminate free-riding when it is likely to drive services valuable to the manufacturer and consumers out of the marketplace and reduce overall consumer welfare. It is also well accepted that a retailer providing services may urge a manufacturer to eliminate free-riding by terminating the free-riding retailer or taking other action to curtail the problem. See Sharp; Sylvania.

The simple fact that two sets of distributors elect to adopt different sales formats – one high-service and the other no-frills discounting – is insufficient to establish free-rider concerns. As pointed out by Judge Easterbrook, one of the scholars most responsible for calling attention to the validity of a free-rider defense, “what gives this the name free-riding is the lack of charge. When payment is possible, free-riding is not a problem because the ‘ride’ is not free.” Chicago Prof’l Sports, 961 F.2d at 675. …

a. Dealer compensation cures any free-rider problems. As we will discuss below, several of the services that TRU points to do not really raise free-rider concerns because they are services that provide advantages only to the toy manufacturers, not to the clubs or any other retailers. But even if they do, the concerns evaporate because TRU is compensated for the services, and there is no threat that the services will be driven from the market. …

b. TRU’s free-riding claims are atypical. … [T]he services that TRU claims are exploited by others are not the “classic” services that the courts have been increasingly willing to protect. Free-riding is most often a problem for manufacturers and distributors of expensive, complex goods. For example, promotion, demonstration, and explanation of complex products are services most vulnerable to free-riders; customers visit the full service retailer to learn about products and then buy them somewhere else. See generally Sylvania. If a product requires installation or extensive service, customers may buy it at a low-cost discount outlet and then take it to the full service dealer for post-sale servicing. The second dealer may incur significant costs to see that it is properly installed, used, and maintained.

By contrast, toys are usually simple and inexpensive products. They generally do not require demonstration and do not require significant installation or maintenance. TRU’s method of retailing, moreover, is built on the assumption that customers (or perhaps their children) know what they want when they come to the store. TRU does not dispute that it provides no customer services such as product demonstration or installation assistance. There are few if any sales people in a TRU store available to guide or advise shoppers. There was no evidence in the record that anyone sought

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demonstration or explanation of a toy product at TRU and then purchased the product at a club.

c. TRU was compensated for any services it provides. Turning now to TRU’s specific contentions, it argues that it provides three important and costly services that are not provided by the clubs but that advance the club’s interests: (1) TRU advertises products in catalogs and newspaper inserts … regularly over the year; (2) it provides a year-round, full-line, industry showroom, which generates sales information and marketing guidance for the toy industry; and (3) it accepts inventory early and regularly over the course of the year, saving the toy manufacturers warehousing costs and permitting steady, less costly production schedules. …

Advertising can raise legitimate free-rider problems if one group of distributors commits resources to promotional efforts and another group, spending no resources, enjoys some of the benefits. But it is the toy manufacturers who finance advertising in this market. Television advertising is paid for entirely by the toy manufacturers. As to catalogs and newspaper inserts, the bulk of these expenses – over 99% in one year and more than 90% in several other years under review – was paid by the toy manufacturers.

… TRU argues that its large showrooms and year-round display of toys create hits and generate valuable information on sales trends. This argument does not hold up under analysis. “Creating hits” – i.e., hot products that are sold in great volume – obviously does not apply to the overwhelming majority of products on the shelves of toy retailers. Toy stores do not stock the boardgame Monopoly because TRU’s earlier display made it a hit. With respect to other products there is little reason to believe that a “large showroom” is a major influence on consumer demand. Products become hits because of the quality of the toys, word-of-mouth reactions, and heavy television advertising.

Even if the presence of a particular toy at TRU is a factor among many in creating “hit” toys, TRU is compensated indirectly for any part it plays in the production of hit products by receiving a disproportionately large share of those products. … [T]he evidence convincingly shows that (1) TRU gets a lion’s share of the hot and promoted products, and (2) more than any other retailer, TRU is granted post-sale discounts from its suppliers on products that do not meet sales expectations. These two methods of compensation reward TRU for carrying a full line of products and compensate TRU for whatever small part it may play in generating hit products for the toy industry. … [T]here is no reason to expect that TRU will cease carrying hit products in its unusually broad year-round inventory because the same products are carried by the clubs ….

As to TRU’s claim that it accepts inventory early in the course of the year, permitting toy manufacturers to save warehousing costs, the evidence again clearly shows that TRU is paid for this service. Warehousing, moreover, is far from the type of dealer service at issue in the case law on free-riding. It is largely the toy manufacturers and TRU, not the clubs or any other rival of TRU, that benefit from the use of TRU’s warehouse space. TRU is allowed to pay later for the delivery of goods (described by several toy manufacturers as compensation for storage services), and receives a disproportionately large share of hit products and generous post-sale discounts for slow-moving inventory.

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Even assuming that the various services provided by TRU were valuable to manufacturers and consumers, there is no evidence that the clubs’ failure to provide those services (or Wal-Mart’s and K-Mart’s for that matter) had, or was likely to have, the effect of driving those services from the market. TRU did argue that “free-riding” by Wal-Mart had forced TRU to reduce the number of items it carried and, if competition from the clubs were not curtailed, that inventory reduction might have to occur again. But … [a]ccording to … the TRU executive in charge of the policy change, the inventory reduction resulted primarily from competition from Wal-Mart, not from free-riding by Wal-Mart. … [T]he purpose of the reduction was to create a cleaner looking shopping floor and less cluttered stores.

TRU argues that services remained in the market only because of its policy of inducing toy manufacturers to restrict sales to the clubs. That argument would be far more persuasive if there was any indication, prior to the time TRU’s policy was implemented, that any services were on the decline. There is also no indication in the documents … produced by the toy manufacturers or TRU that any party had the slightest concern, before the clubs threatened to sue TRU under the antitrust laws, that the clubs were free-riders that endangered the continued availability of any services….66

d. Significantly less restrictive alternatives were available. … TRU could have achieved its purported objectives through policies and conduct that restricted competition far less than a boycott among suppliers of its club rivals. Consequently, the boycott cannot be “justified by plausible arguments that they were intended to enhance overall efficiency and make markets more competitive.”

… If TRU’s concern was that club purchases would prevent TRU from receiving all the “hit” products it needed during the Christmas season, it could have asked for assurances that it would receive an adequate supply of “hit products.” This would protect TRU’s alleged position as the industry hit-maker without eliminating clubs as effective competitors on the vast majority of toys. Instead, TRU adopted a policy that all products – new and old, hit and non-hit products – could be sold to the clubs as long as they were part of a combination pack that could not be compared easily to TRU product prices. This disconnect between purpose and policy indicates that elimination of effective price competition was TRU’s true motivating concern. …

e. TRU’s free-riding claims are a pretext. Before TRU introduced its policy of curtailing toy manufacturers’ sales to clubs, there is no indication in the documents that any toy manufacturer declined to do business with the clubs because of possible free-riding. Indeed, TRU’s suppliers’ adoption of the club policy was an abrupt departure from the toy companies’ longstanding distribution policies. Few toy manufacturers avoided doing business with discounters … nor did they require distributors to carry their full line. …

Similarly, there is absolutely no evidence … that TRU developed and implemented its policy with respect to competition by the clubs because of a free-riding concern. Indeed, the first mention of free-riding within TRU was in the late summer of

66 Cf. Eastman Kodak (rejecting a free-riding defense when there is no evidence that manufacturer-imposed restrictions are necessary to induce competent and aggressive retailers to make the investment of capital and labor necessary to distribute the product).

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1992, when the clubs threatened to sue TRU and its suppliers…. Also, TRU never asked the toy manufacturers to discipline Wal-Mart, Target, K-Mart or other established discounters – even though they, like the clubs, did not provide services such as early purchasing of inventory, stocking a large number of toy products, and advertising. The difference was that the clubs offered a form of extreme price competition that TRU came to believe it could not tolerate. Although concerns about free-riding often will be difficult to distinguish from generic concerns about “unfair” price cutting, the lack of any more specific, contemporaneous discussion of free-riding, and the focus of TRU’s animus on the clubs alone, severely weakens TRU’s claimed justification. …

5. Conclusion to Northwest Wholesale Stationers approach. … [W]e conclude that TRU’s practices satisfy each of the conditions described in Northwest Wholesale Stationers as a preliminary to application of a per se rule. … Perhaps most important is … that there was no plausible business justification for the group’s behavior. … [C]onsumers … got nothing at all out of the boycott…. Rather, they were denied an opportunity to buy toys at low prices from outlets that many were coming to prefer.

Following the teaching of Northwest Wholesale Stationers, we examined market power here and found that the participants in the boycott had substantial market power. Certainly, TRU had little difficulty coercing a substantial number of toy manufacturers to discriminate against the clubs, and the manufacturers as a group suppressed the ability of the clubs to compete effectively. But the Supreme Court stated in Indiana Fed’n of Dentists, a boycott case decided one year after Northwest Wholesale Stationers, that a finding of market power is not necessary to find illegal a course of conduct leading to “actual detrimental effects.” … That is particularly clear where the boycott prevents economic activity that the market would otherwise produce, and there are no countervailing procompetitive virtues such as the creation of efficiencies in the operation of the market or the provision of goods and services.

That is exactly the situation we have here. There were clear anticompetitive effects and no plausible business justification. TRU and its reluctant collaborators set out to eliminate from the marketplace a form of price competition and a style of service that increasing numbers of consumers preferred.

In conclusion, we note that all elements required by Northwest Wholesale Stationers to justify application of a per se rule are present; even if market power were not present, a violation would nevertheless be found.

E. THE GROUP BOYCOTT ORGANIZED BY TRU IS ALSO ILLEGAL UNDER A FULL RULE OF REASON ANALYSIS. Even if TRU’s conduct is analyzed under the full rule of reason, its behavior must still be found illegal. …

1. The boycott produced anticompetitive effects. The boycott TRU orchestrated had harmful effects for the clubs, for competition, and for consumers. TRU prevented a decrease in the price paid by many consumers for many toy items, reduced the options available to consumers, and weakened both intrabrand and interbrand competition in the retail toy market.

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TRU argues that Complaint Counsel has failed to demonstrate anticompetitive effects. ... When a similar argument was advanced in Klor’s, the Supreme Court commented:

It [the boycott allegation] clearly has, by its “nature” and “character,” a “monopolistic tendency.” As such it is not to be tolerated merely because the victim is just one merchant whose business is so small that his destruction makes little difference to the economy. Monopoly can as surely thrive by the elimination of such small businessmen, one at a time, as it can by driving them out in large groups.

This remark applies with even greater force to the boycott orchestrated by TRU. Far from a single small business, the clubs were growing chains of retailers operating hundreds of outlets nationally and employing a distinctly new and efficient method of distribution. Because the boycott injured the clubs, it also harmed competition, and because competition was harmed, consumer welfare was reduced. Although the antitrust laws protect competition and not competitors, there can be no competition without able competitors. A policy that selectively eliminates effective competitors (or the ones most threatening to incumbent firms) harms the competitive process even though individual firms are the targets. ...

Perhaps there were other factors involved in declining toy sales at the clubs after 1992 (although TRU offered none for the record), but clearly the boycott was a major factor. ... As already discussed, in 1992 TRU had set its prices for many items based on price competition from the clubs. After the club policy was established, this was no longer necessary, and TRU was able to avoid similar price cuts thereafter.68 ... And of course the boycott raised the costs of toys at the clubs, obstructing their advantage as the lowest price outlet to the advantage of TRU and the injury of consumers.

The boycott … reduced the range of choices available to consumers and eliminated forms of competition that consumers desired and would have been able to enjoy absent TRU’s policy. Club shoppers were not able to buy the products they wanted at the clubs. They either had to buy their second-choice goods (e.g., custom or combo packs of goods) at their first-choice stores (warehouse clubs) or their first-choice goods (e.g., individually packaged branded toys) at their second-choice stores (TRU, Wal-Mart, Target). The Supreme Court has recognized similar restrictions on the forms of competition in the marketplace, and similar hindrances to products or services consumers desire, as anticompetitive effects cognizable under the antitrust laws. See Aspen Ski; Indiana Fed’n of Dentists. … [W]e conclude that actual anticompetitive effects resulted from TRU’s conduct, including reduced consumer choice and higher prices. …

[TRU argues] that a government boycott case must fail if the government does not discharge a burden of demonstrating that, as a result of the boycott, market-wide prices increased or market-wide output diminished. This very issue was addressed and settled by the Supreme Court in Indiana Fed’n of Dentists…. The Court elected a rule of reason … approach, in part because the boycott involving x-rays was obviously not intended to harm a competitor – a purpose that is present here. In applying a full rule of reason, the Supreme Court addressed the argument that there had been no finding that “the alleged restraint on competition among dentists had actually resulted in higher

68 Cf. FTC v Staples, Inc., (recognizing an averted price decrease as an anticompetitive effect).

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dental costs to patients and insurers.” The Court explained that a showing of higher prices was not essential to establish the illegality of the restraint:

A concerted and effective effort to withhold (or make more costly) information desired by consumers for the purpose of determining whether a particular purchase is cost justified is likely enough to disrupt the proper functioning of the price-setting mechanism of the market that it may be condemned even absent proof that it resulted in higher prices or, as here, the purchase of higher priced services, than would occur in its absence.

The case for finding a violation is all the more powerful here where the boycott is not an indirect attempt to interfere with price-setting (through withholding of information), but a direct effort by one retailer to organize a boycott designed to impair the ability of its lowest-priced rivals to continue to offer products and services that consumers desire.

2. The anticompetitive effects far outweigh the claimed justification. There was no business justification for a boycott that had a pronounced anticompetitive effect. The single justification offered – the prevention of free-riding – was a post hoc rationalization for a policy with an anticompetitive purpose and effect. The balance under a full rule of reason tips decidedly toward condemnation.

F. CONSIDERED ALONE, THE VERTICAL RESTRAINTS ARE UNREASONABLE UNDER §1 OF THE SHERMAN ACT. The evidence is clear that TRU, a dominant toy retailer, significantly diminished the ability of the clubs to compete by inducing a substantial number of toy manufacturers to agree to do business with TRU’s club rivals only on discriminatory terms. It accomplished its purpose by approaching each of the toy manufacturers seriatim and inducing or coercing each to agree to join in its anticompetitive mission. TRU’s purpose was to avoid significant price competition from rivals and to deny consumers a form of distribution [they] prefer. The effect of these joint actions was to injure a group of rivals in the marketplace.

We conclude therefore that each agreement in the series of vertical agreements, standing alone, even without the evidence of horizontal agreement among many of the toy manufacturers, violates §1 of the Sherman Act upon a full rule of reason review.

A vertical agreement between a retailer (even one as powerful as TRU) and an individual manufacturer, whereby the manufacturer agrees to deal only on discriminatory terms with a competitor of the retailer, would not be treated as illegal per se. It is not vertical price-fixing because no specific price, or price level, was agreed to, see Sharp, and each individual vertical agreement is not per se illegal as a boycott.

On the other hand, an examination limited to each individual agreement in isolation (TRU agrees with Mattel, TRU agrees with Hasbro, TRU agrees with Tyco, etc.) would blind us to the true anticompetitive nature and effect of TRU’s course of conduct. … [E]ach vertical agreement was entered into against a background in which other agreements were solicited and either achieved or were about to be achieved. The large number of agreements ultimately obtained, and the size and importance of the toy firms that joined them, were essential to the success of the agreements and to the accomplishment of TRU’s overall scheme. The collection of separate vertical agreements – together excluding the clubs from the leading manufacturers of toys, accounting for roughly 40% of U.S. output – had a profound anticompetitive effect; the collection of

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parties entering into separate agreements had substantial market power; and there was no plausible business justification or efficiency. Under a full rule of reason, we find that each agreement in the series of agreements – anticompetitive in purpose and effect and lacking plausible justification – constitutes a violation of §1 of the Sherman Act. …

$ $ $ $ $ $ $REVIEW PROBLEM #3: TOYS ‘R’ US

QUESTIONS FOR DISCUSSION

Assume that you are counsel for Toys ‘R’ Us immediately after the FTC Opinion is handed down. Devise the best arguments you can to challenge each of the following elements of the FTC opinion and identify the FTC’s likely responses. Then identify which three elements you think present the best opportunity for a successful appeal.

(1) The finding that there was a horizontal agreement.(2) The Commission’s reliance on Klor’s.(3) The ruling that the case should be judged under the per se rule under Northwest Wholesale Stationers.(4) The rejection of TRU’s free-rider argument.(5) The finding that the horizontal agreement violated the Rule of Reason(6) The implicit rejection of the argument that TRU was simply exercising its rights under Colgate to refuse to deal with manufacturers who sold to clubs.(7) The decision to consider the effects of all the vertical agreements in the aggregate when judging them under the Rule of Reason.

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