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Antitrust Primer for the Publishing Price Fixing Lawsuit

Purpose of the Antitrust Law

This article is to lay out, in simplest terms, antitrust law as it pertains to the publishing price fixing lawsuit. It is not designed to address the shortcomings of the law or the need for reform but the status of the law. Additionally, my knowledge of the antitrust law is very shallow.

The purpose of the antitrust law is to promote competition with the underlying maxim that competition creates the best product at the lowest price for the benefit of the consumer.  Some economists argue that the focus on consumer welfare in antitrust laws harms competition and business.  For instance, increased prices redistributes wealth from the consumer to amongst the producers and that is economic neutral outcome but because antitrust laws have focused on what is best for the consumer, an economic neutral outcome that pushes more money from the consumers’ pockets to that of a producer is a disfavored result.

What is a monopoly?

A monopoly is defined by the U.S. Supreme Court as follows:

In United States v. du Pont & Co., 351 U. S. 377, 391, we defined monopoly power as “the power to control prices or exclude competition.” The existence of such power ordinarily may be inferred from the predominant share of the market. In American Tobacco Co. v. United States, 328 U. S. 781, 797, we said that “over two-thirds of the entire domestic field of cigarettes, and . . . over 80% of the field of comparable cigarettes” constituted “a substantial monopoly.” In United States v. Aluminum Co. of America, 148 F. 2d 416, 429, 90% of the market constituted monopoly power.

United States v. Grinnell Corp., 384 U.S. 563 (1966)

There are two basic types of monopolies: single firm and multi firm monopolies. Multi firm monoplies are generally frowned upon because they are viewed as actions of collusions. The Apple + Publisher lawsuit is an alleged multi firm monopoly. Some believe Amazon is a single firm monopoly.

When is the monopoly okay?

Section 2 of the Sherman Antitrust act says that a company shall not monopolize or attempt to monopolize. However, the acquisition of a monopoly through “a superior product, business acumen, or historic accident” is not an antitrust violation.

The mere possession of monopoly power, and the concomitant charging of monopoly prices, is not only not unlawful; it is an important element of the free-market system. The opportunity to charge monopoly prices—at least for a short period— is what attracts “business acumen” in the first place; it induces risk taking that produces innovation and economic growth. To safeguard the incentive to innovate, the possession of monopoly power will not be found unlawful unless it is accompanied by an element of anticompetitive conduct.

Verizon Communications Inc. v. Law Offices of Curtis V. Trinko, LLP, 540 US 398, 407 (2004)

When is the monopoly bad?

From the above definition, we know that it is monopolies exercising power in an anti competitive behavior that violates the antitrust law.

The first antitrust law was the Sherman Antitrust Act of 1890 followed by the Clayton Antitrust Act and the Federal Trade Commission Act of 1914, the Robinson-Patman Act of 1936,  and  Hart-Scott-Rodino Antitrust Improvements Act of 1976.

Antitrust violations are broadly known as Section 1 or Section 2.

Under Section 1 of the Sherman Antitrust act, the following are considered “per se” violations:

  • price fixing
  • dividing markets
  • bid rigging

If a firm or a group of firms are proven to be engaged in one of the above, then there is no real defense. The battle accused firms must face is whether they are considered to have engaged in a per se violation.  The parties cannot argue (as many of the press have in response to the DOJ filing) that the prices were reasonable or that the collusion was necessary to prevent or eliminate price cutting or competition that would ruin them.  I.e., the parties cannot argue that the price fixing was necessary to prevent Amazon from gaining a larger slice of the digital market through low pricing.

Under the Clayton Antitrust Act, certain business activities like price discrimination and tying were impermissible if it harmed competition. A famous tying case was the Eastman Kodak Company v. Image Technical Services, Inc.  The other antitrust laws were designed to address monopolies formed through mergers and acquisitions.  A Clayton Antitrust violation is often viewed under the rule of reason.  Under the rule of reason, anticompetitive behavior can be defended by a competitive outcome.   In other words, a defense that Amazon’s big pockets and tendency to price low to keep or acquire a monopoly and hurt publishers would be an appropriate in rule of reason case.  However, the government hasn’t brought a rule of reason case. It has alleged a per se violation.

The Federal Trade Commission Act bans “unfair methods of competition” and “unfair or deceptive acts or practices.

What is considered an antitrust violation?

A § 1 violation of the Sherman Act (restraints of trade by agreement, contract, or conspiracy), requires proof of the following:

  • The charged conspiracy was knowingly formed and was in existence at or about the time alleged;
  • The defendant knowingly joined the charged conspiracy; and
  • The charged conspiracy either substantially affected interstate or foreign commerce or occurred within the flow of interstate or foreign commerce.

A § 2 of the Sherman Act (acquisition of a monopoly), requires proof of the following:

  • possession of monopoly power in the relevant market
  • the willful acquisition maintenance of that power as distinguished from growth or development as a consequence of a superior product, business acumen, or historic accident.

Apple and the publishers have been accused of a § 1 violation of price fixing.  The publishers will argue that their prices and agreements with Apple were made independently and that the similarity of pricing was conscious parallelism.

How does this affect the DOJ lawsuit on price fixing?

This is not an easy case. First, many believe that post Broadcast Music, Inc. v. CBS, 441 U.S. 1 (1979), price fixing isn’t always measured under per se but rather rule of reason.

“This is not a question simply of determining whether two or more potential competitors have literally ‘fixed’ a ‘price.’ As generally used in the antitrust field, ‘price fixing’ is a shorthand way of describing certain categories of business behavior to which the per se rule has been held applicable.”

BMI, 441 U.S. at 9-10.  Instead, some price fixing may have a business justification and should be measured under the rule of reason.  Apple and the publishers (sounds like Gladys and the Pips) will attack the suit on a two pronged basis.  First, that there was no price fixing and second, if there was, it isn’t a per se violation.

The biggest hurdle for the government in moving forward with a per se violation will be proving an agreement.  In Business Electronic Corp. v. Sharp Electronics Corp., 480 F.2d 1212, (5th Cir. 1986) aff’d 485 U.S. 717 (1988), the Fifth Circuit found that a distributor’s termination of a retailer’s contract for failing to observe a price floor was not inappropriate without some agreement by the parties to set a price.  The U.S. Supreme Court approved of this.  In other words, price fixing required proof of an agreement.

There is no written agreement of the defendants to fix prices.  Instead, the government is arguing that the conduct of the publishers is indirect evidence of the agreement hence the allegations of meetings,  phone calls and double delete email warnings.  The government must show that independent action was not likely.  John Sargeant’s statement that he made his decision alone in his basement on the treadmill is an argument that Macmillan’s pricing decisions were independent of any other publishers.

Price fixing monopolies are considered unstable because the incentive to cheat on a partner in the cartel is too great.  Overtime, at least one or more of the firms in the cartel will reduce prices to gain market share thus shattering any agreement.  It is much easier to maintain a cartel if the market players involved are oligopolistic.  While there are a number of small publishers, the Big 6, as they are called, control some 80% or more of the trade book business.

The jury instructions tell a jury that they cannot find price fixing solely on the fact that Apple and the publishers talked about prices in person or wrote about different prices, or that there was a suggested price that everyone followed or that the publishers refused to deal with anyone who didn’t adopt their retail price maintenance model.   The instructions focus on the existence of an agreement and the compliance with the agreement.

The courts have settled on a conscious parallelism plus test here. See e.g., Monsanto v. Spray-Rite Service Corp., 465 U.S. 752 (1984).   In other words, the government has to prove something other than the publishers looking at each others’ actions in the marketplace and matching them.  In the civil class action suit, the Plaintiffs identified the following “pluses”:

  •  private and public statements made by Defendants suggesting a common view of an “industry problem” that required a coordinated response (¶¶ 99-109);
  • opportunities to conspire and signal intentions to one another through trade associations, the media and third-party intermediaries (¶¶ 5, 79-82, 101, 153);
  • the date and place of meetings where the price-fixing was coordinated, including the identities of the individuals involved (¶ 152);
  • a simultaneous and unprecedented price increase of thirty to forty percent unrelated to an increase in costs (¶¶ 199-203);
  • a recent history of engaging in related simultaneous conduct (¶99-109);
  • a common motive to price-fix (the elimination of price competition in the retail market for eBooks) (¶ 119);
  • action that would have been against each Defendant’s self-interest without collective involvement (¶¶ 139-143);
  • coercion in the form of simultaneous boycotts and refusals to deal (¶¶ 145-166);
  • a highly concentrated market (¶¶ 57, 143, 146); and
  • government investigations into Defendants’ apparent collusion (¶¶ 191-198). (this shouldn’t be a plus)

There are two elements that stood out for me in reading the DOJ’s complaint. First, Apple set the pricing floor and ceiling for ebooks and every publisher accepted those terms.  Did the publishers individually attempt to negotiate for differing floor and ceilings?  Why was it the same for every publisher?  No other app in the app store has a pricing floor or ceiling like the books in the iBooks store. Why were books treated differently?

Second, the David Shanks email to Barnes and Noble. In the email, Shanks urges Barnes & Noble to punish Random House for not hopping aboard the pricing agreements that the other publishers had agreed to with Apple.  This type of email is evidence that the DOJ will point to as attempting to police or enforce a collusive agreement.  In other words, if there is only conscious parallelism why would Shanks need Random House to engage in the same type of pricing.  That is one piece of evidence that seems to rule out independent action.

The Interstate Circuit Case (or the Hub and Spoke conspiracy)

A similar factual pattern was presented in the 1939 case of  Interstate Circuit, Inc. v. United States, 306 US 208.  This is the hub and spoke conspiracy.   Apple, as the hub, enters into similar agreements with all of the publishers, the spokes.

The Interstate Circuit case, a two firms contributed 74% of the licensing fees to movie distributors for first run and second run films, constituting a monopoly in the cities in which the firms operated. There were eight distributors delivering about 75% of the all the first class feature films shown in the U.S.  The theatre firms wanted the eight distributors to agree to a pricing structure which raised the price of a seat in the theatre house from slightly below 25 cents to above 25 cents and in some cases 40 cents.  Interstate sent out a letter with all the distributors on the letterhead demanding a floor (no lower than 25 cents) and a restriction on double billings (two movies for one admission) for the better seats.  This was designed, it was alleged, to prevent competition from subsequent run and often independently owned theatres.

The admission price customarily charged for preferred seats at night in independently operated subsequent-run theatres in Texas at the time of these letters was less than 25 cents. In seventeen of the eighteen independent theatres of this kind whose operations were described by witnesses the admission price was less than 25 cents. In one only was it 25 cents. In most of them the admission was 15 cents or less. It was also the general practice in those theatres to provide double bills either on certain days of the week or with any feature picture which was weak in drawing power. The distributor appellants had generally provided in their license contracts for a minimum admission price of 10 or 15 cents, and three of them had included provisions restricting double-billing.

Interstate Circuit Inc, 306 U.S. at 218. The trial court inferred from the agreement signed by the distributors and other actions such as the distributors failing to call the officers of the firms to testify and only put the local managers and failing to renegotiate differing contract terms.

The problem here is that Apple was not (and is not) a dominant player in the digital publishing market.  I don’t know if iBooks has even a 1% market share.  The hub in a hub and spoke conspiracy ordinarily has a dominant market share such as the two theatre houses that controlled the majority of the market in which they had first run theatres.  The DOJ identified the relevant market in its petition as trade ebook market. I find that definition too narrow and wonder if it won’t spike the DOJ’s suit.

Conclusion

As I stated earlier, this is no easy case for the government.  There are three parties left in the suit: Apple, Macmillan, and Penguin.  The three will have differing arguments.  In the beginning, it will behoove all three to stick together, all arguing the same points of law.  The first step is to file a motion to dismiss but I think the DOJ petition pleads enough facts to overcome a motion to dismiss.  After the motion to dismiss, the parties will engage in what is called “discovery.”  Depositions will be taken.  Those are oral questionings recorded by a court reporter.  Written questions called interrogatories will be sent back and forth as will requests for documents and admissions.  After discovery is complete, the defendants will ask for a summary judgment meaning that the DOJ doesn’t have enough evidence to move forward to a jury trial. It is my belief that if the defendants cannot win at the summary judgment stage, their likelihood of prevailing drops dramatically.

At some point, the DOJ may ask for a directed verdict.  This is a request to the judge that reasonable minds could not disagree that the undisputed facts support a finding that the defendants engaged in per se violations of the antitrust act. My guess it that if the DOJ did file this, it would likely lose the motion, primarily on the argument that there are too many facts in dispute.

As an aside, the parties involved are facing lawsuits from the states, a civil class action, and now a class action lawsuit in Canada.

Jane Litte is the founder of Dear Author, a lawyer, and a lover of pencil skirts. She spends her downtime reading romances and writing about them. Her TBR pile is much larger than the one shown in the picture and not as pretty. You can reach Jane by email at jane @ dearauthor dot com

23 Comments

  1. Carrie
    Apr 22, 2012 @ 10:47:41

    Thanks for this. it was very helpful. I can’t help wondering if some good will come from the lawsuits even if the DoJ doesn’t win all the points. Several of the publishing houses have settled out of court and ebook prices are already reflecting that fact. The other publishing houses won’t be able to keep their prices higher if they want to stay competitive, and Apple won’t be able to hold everyone to their “if you want to play with us you have to follow our rules” policies on pricing.

    I shake my head over all this worry about what Amazon would do with a monopoly share of the ebook market. Everyone fears they will then control the market and raise prices. But the ebook market is too slippery. If Amazon raises ebook prices, within 24 hours independent sellers would be up all over the web undercutting them!

    Apple lost a customer for life in me (and my family). I just replaced my Mac with an Acer, and we just bought Android phones. A little gesture, I know, but important to me.

  2. Darlynne
    Apr 22, 2012 @ 11:30:55

    Thanks, Jane, for laying things out so clearly.

    And still articles about big, bad Amazon abound. I am not an Amazon fan-girl, but it seems obvious to me that the publishers and Apple were wrong from the beginning; no matter how they parse it, they intended to artificially manhandle the market, rather than let competition works its mojo for better or worse. If companies can’t compete, they don’t then get to change the rules of the game to benefit themselves.

    I don’t want B&N to go under, but all parties need to look at why publishing ended up here in the first place and how they can move forward. Your recommendation for removing DRM, coupled with a uniform digital format that runs on all platforms and readers, would be two great first steps. Such changes would do more to open up the market to more players than the draconian methods employed by Apple, the Big 6 and Amazon.

    It’s so simple, and so ridiculous that none of them see this.

  3. JayHJay
    Apr 22, 2012 @ 12:23:48

    Thanks Jane for explaining all this. I will admit most of it had been going way over my head.

  4. Jane Litte explains the DoJ suit very well, and I have a couple of points to add – The Shatzkin Files
    Apr 22, 2012 @ 15:13:38

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  5. Merrian
    Apr 22, 2012 @ 17:56:35

    Thanks for clearly explaining the ins and outs of the legal case Jane. I hope your call to end DRM and have a standard format is heard as well.

  6. J.N. Duncan
    Apr 22, 2012 @ 20:41:47

    Wow, that was awesome, Jane. No lawyer background going on there. Lol. Curious if all of this plays out in Amazon’s favor a year or two down the road here, that they will find themselves in violation of the monopoly laws. While gaining a monopoly is not a per se violation based on providing superior product/service, they do seem to do a fair bit of stifling competition in regard to their contractual tactics with publishers big and small. Curious if they would be forced to relax and level the playing field with regard to how they relate to the industry in terms of the kinds of demands/contracts they are currently putting out there? Of course, if everyone has gone down the tubes by the time the DoJ decided to take any action I wonder if it would matter. Things might be so different by then that nobody would want or be able to get back in the game. Anyway, great piece here.

  7. CourtneyLee
    Apr 22, 2012 @ 20:52:36

    Thanks so much, Jane. That was awesome. I’m another ebook fan hoping for the end of DRM and a uniform format; that would really encourage competition. Imagine all the Kindle owners being able to put any book they purchase anywhere in their Kindle!

    User-friendly device + easily bought and transfered books = lots of omey flowing from my wallet to various booksellers.

  8. Carcass
    Apr 22, 2012 @ 21:37:09

    I would love no DRM and a standard format but neither will ever happen. EPub is the standard format but it’s obvious amazon will never give up on their mobi, and B&N has a similar issue with their file type. This case will do what the DOJ was trying to prevent when amazon has a monopoly on the industry. B&N will close and jobs will be lost and that will be just the beginning

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  10. DavidW
    Apr 23, 2012 @ 06:51:09

    A very informative article, bravo!

  11. Rod Younger
    Apr 23, 2012 @ 13:28:05

    Thanks for a great article which helps clarify the key legal issues. As a new “entrant” into the online book retailing space (yes I am mad!) I have posted a few articles about the impact of the Agency model on authors, publishers and retailers and also Amazon’s role in the industry, e.g. http://books4spain.com/blog/?p=51 and http://books4spain.com/blog/?p=527, and it is the latter’s behaviour that I think needs investigating, both in Europe and USA. It is in effect a monopoly and is abusing its power. I have had two experience’s in recent months where Amazon have approached our independent reviewers on an unsolicited basis with regard to books they have, or were about to, review for us. Neither has received such emails before or is signed up to Amazon’s Newsletter and both say they have not bought similar books from Amazon and in fact have not even searched Amazon for such books. One such incident I can just about write off but two is not a coincidence in my view and one of the people involved has asked Amazon for a full explanation of how they came to send him an email offering him the relevant books. We are still waiting for a proper explanation. I recently posted: Are Amazon Spying on You with regard to these incidents: http://books4spain.com/blog/?p=2105

    I’d be interested if anybody else has experienced this kind of behaviour by Amazon, whether as a consumer or a retailer.

  12. Dick Hartzell
    Apr 23, 2012 @ 13:39:54

    Hi Jane –

    Wow, that was an admirable summary of the issues surrounding this case. Thank you for pulling it all together. (Are you sure you’re not a romance fan who’s moonlighting as an antitrust expert?)

    I’ve got a query about your section on hub-and-spoke conspiracies. You don’t actually mention whether you think the DoJ is going to pursue this line of argument, but you conclude the section by noting “The problem here is that Apple was not (and is not) a dominant player in the digital publishing market. I don’t know if iBooks has even a 1% market share.”

    True enough. However, didn’t Apple’s contract with the defendants give it so-called MFN (most favored nation) status, which essentially guaranteed that Apple’s prices would never be undercut by other resellers? I don’t know how MFN played out behind the scenes during negotiations between Apple and the defendants or, later, between Apple and Amazon, but in the absence of other evidence I’d guess that Apple’s MFN clause provided the excuse for the defendants to impose agency pricing on Amazon; applying the agency model across the board would have been the most convenient way for publishers to make sure Apple’s MFN clause was never violated. So wouldn’t that chain of events provide evidence of a hub-and-spoke conspiracy?

    Just thinking out loud.

    Thanks again for your post … and by the way, I got here via Mike Shatzkin’s blog.

  13. Dick Hartzell
    Apr 23, 2012 @ 13:42:25

    Oops … sorry: I didn’t mean to say “I don’t know how MFN played out behind the scenes during negotiations between Apple and the defendants or, later, between Apple and Amazon ….”

    Instead, I meant to say “I don’t know how MFN played out behind the scenes during negotiations between Apple and the defendants or, later, between the defendants and Amazon….”

    My apologies.

  14. Susan
    Apr 23, 2012 @ 16:07:38

    Antitrust for Dummies! But thanks for not calling it that.

  15. Kelly Peterson
    Apr 23, 2012 @ 20:02:47

    Jane, this is terrific. Thanks for the best anti-trust description I’ve seen so far.

    I find it strange that no one is discussing that Agency publishing actually meant a retailer DROP in price. Yep: I said it. The original Suggested Retail Price on eBooks was, in general, equivalent to the hardcover price. It’s just the percentage to the retailer – and some rules around that – that changed. So let’s take an example.

    George W. Bush’s Decision Points was $35.00 in hardcover. Under non-agency terms, they would’ve priced the eBook at $35.00 as well. Most retailers would’ve paid 50% on that title, or $17.50 at cost. When it came out, I recall that this particular book was priced at $14.99.

    To use Amazon’s pricing is highly deceptive of the DoJ, in my opinion. I know, as the former eBook manager of Borders, that prior to Agency – and only matching Amazon on the top 100 titles – we operated at a total 7% LOSS to our cost of goods sold on non-Agency books. That’s why the publishers keep saying they were losing money by chosing the Agency model. By matching a $9.99 price point, and paying an average of $12.50 per book, we were sinking. However, failing to match that price point meant people wouldn’t even try our nascent eBook program, because we were too expensive.

    If the DoJ want to reference the price, they should compare agency pricing to the suggested retail price, just as they would for physical books. Using an Amazon model where they discounted the books below cost isn’t sustainable, and once the competition closed, wouldn’t have lasted for the consumer, either.

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