28 September 2013

The Perils of Price Fixing

Business is subject to cut-throat competition and margins are tight. Except, that is, when competitors are tempted to agree on prices or the division of customers so that profits are maintained or expanded. Either way, this is a price fixing arrangement or cartel and is illegal under the Commerce Act 1986.

This Paper sets out:
  • the prohibition against price fixing in the Commerce Act;
  • the enforcement actions available to the Commerce Commission, with examples of both high-level and low-level enforcement actions;
  • some practical advice on how to avoid price-fixing.

Prohibition in Commerce Act

Under section 27 of the Commerce Act 1986 any contract, arrangement, or understanding that has the purpose or effect of substantially lessening competition is prohibited. Section 30 of the Commerce Act states that:1
a provision of a contract, arrangement, or understanding shall be deemed … to have the purpose [or effect] of substantially lessening competition in a market if the provision has the purpose [or effect] of fixing, controlling, or maintaining, or providing for the fixing, controlling, or maintaining, of the price for goods or services, or any discount, allowance, rebate, or credit in relation to goods or services.
Taken together, these two sections mean that any agreement between competitors to fix, control, or maintain prices is prohibited. Enforcement under the Commerce Act is carried out by the Commerce Commission ("the Commission").

Enforcement Actions Available

The Commission has a wide range of enforcement actions available, from "high level" enforcement through the Courts to "low level" actions including issuing compliance advice letters or warnings to businesses and people to remind them of their obligations. The full range of enforcement responses available to the Commission are shown in the Compliance Pyramid below. For further information on these responses see the Commission’s publication Enforcement Response Guidelines, November 2012.2

Commerce Commission Compliance Pyramid
The Compliance Pyramid, part of the Commission’s Enforcement Response Model
Source: Commerce Commission, Enforcement Response Guidelines, November 2012

High Level Enforcement
The most significant instance of price fixing in New Zealand is the series of cases brought by the Commission against 13 airlines for colluding to impose fuel and security surcharges for cargo shipments to and from New Zealand. In the last of the cases to be settled, in June 2013 Air New Zealand was ordered to pay $7.5 million plus additional costs to the Commission of $559,079.3 In other judgements in this series of cases, a total of $35 million was awarded against British Airways, Cargolux, Cathay Pacific, Emirates, Korean Air, MASKargo, Qantas, Japan Airlines, Singapore Airlines Cargo and Thai Airways.4

In December 2011 the High Court at Auckland imposed a penalty of $3 million against refrigerator compressor manufacturer Empresa Brasileira de Compressores S.A (Embraco) for entering into an agreement to maintain or increase prices. Embraco was also ordered to pay a further $50,000 in costs to the Commission. The Court noted that the agreements “were intended to enable Embraco and Panasonic to pass on rising input costs, without the risk that they might lose sales to a competitor which had lower steel or copper costs, or was prepared to accept a lower margin.”5 The ultimate purpose of the agreements were to control or maintain prices, which is illegal. Most notable, the penalties were imposed despite the Court noting that “the arrangements were neither sophisticated nor rigorously enforced or implemented.”6

The Commerce (Cartels and Other Matters) Amendment Bill 2011 is currently before parliament to strengthen the penalties surrounding price fixing. The Ministry of Business Innovation and Employment states:7
One of the principle objectives of the amendment Bill is to introduce criminal sanctions for hard-core cartel behaviour.

Hard-core cartels are formed when rival firms agree to not compete with each other by fixing prices, restricting output, allocating markets or rigging bids. Cartels allow firms to raise their prices above the competitive level without fear of losing customers to rivals. This increases the profits of cartel participants but does not benefit consumers.

Low Level Enforcement
The Commission states that low level options “may be suitable where the harm is minimal, the conduct is accidental or the result of a limited understanding of the law, there is a willingness to comply, or the public interest does not favour a more severe response.”8 As an example of low-level enforcement response, in May 2013 the Commission issued a formal warning to flooring company Ansell Flooring Limited (Ansell) for attempting to fix prices for sanding and polishing services in the Taranaki region. Because of Ansell’s co-operation in the Commission’s investigation, the Commission decided a warning was appropriate.9

Even when the Commission does elect to adopt a low-level response, a firm faces a range of potential costs including: time responding to Commission enquiries, including requests for information; and the costs of obtaining legal advice. If you are tempted, don’t do it. Price fixing is like tax evasion: you might not get caught today, you might not get caught tomorrow, but when you do get caught the penalties can be severe. And when the Amendment Bill is passed into law those penalties will include potential criminal prosecution for wilful offenders.

Practical Advice

A competitor is another party that supplies the same or similar service or product to the same group of customers. Make sure that you do not discuss pricing with a competitor, not even a general discussion to "be on the same page" or a simple exchange of prices. If prices are pubished on a website or otherwise made public for customers then your competitor can obtain pricing information from there. If you do not publish prices then they should under no circumstances be provided to competitors.

If the other entity supplies the same or similar service or product but to a different group of customers, e.g. geographically distinct customer groups, ensure that the reason why different groups of customers are served is due to cost or strategy and not due to an agreement to divide up customers in a particular way. When firms are geographically dispersed it will be cheaper for them to provide service to customers who are geographically close by. Prices to recover the cost of supplying distant customers may be too high to be considered as an option by those customers, naturally leading to geographically distinct markets.

Conversely, potential competitors may be located in the same geographical area, but have a strategy of targetting a particular type of customer, e.g. mass market consumer or business. The strategies and infrastructure needed for these different customer types can be markedly different, and what is effective for one customer segment may be completely ineffective for another. Ensure that the distribution of customers is indeed based on strategy and not because of any agreement - whether explicit or tacit - to target different segments of the market.

The Commission's own advice to avoid inadvertently falling into the trap of illegal price fixing is:10
  1. Make sure that you and your staff are familiar with the requirements of the Commerce Act. Keep records of who has attended training.
  2. Think carefully about who you are, or may be, in competition with, especially if sub-contracting is involved.
  3. Do not agree prices, discounts or any matters relating to price with your competitors (unless it is a specific sub-contract you are discussing).
  4. Do not exchange pricing information with your competitors.
  5. If you are approached by another business to discuss pricing, allocating customers, bids for contracts or restricting outputs you should raise an objection straight away. Leave the discussion immediately.
  6. Review internal documents, policies and procedures for compliance with the Commerce Act.
  7. If you become aware of anti-competitive conduct, contact the Commerce Commission straight away.
End Notes
[1] Commerce Act 1986
[2] Available for download from the Enforcement Response Guidelines webpage.
[3] Commerce Commission v Air New Zealand Ltd, Judgement of Venning J, 13 June 2013, para 55.
[4] Commerce Commission, “Air New Zealand final airline to settle with Commerce Commission in air cargo case”, Media Release, 13 June 2013
[5] Commerce Commission v Embraco, Judgement of Allan J, 19 December 2011, para 22.
[6] Commerce Commission v Embraco, Judgement of Allan J, 19 December 2011, para 25.
[7] http://www.med.govt.nz/business/competition-policy/cartel-criminalisation
[8] Commerce Commission, Enforcement Response Guidelines webpage, 22 November 2012
[9] Commerce Commission, “Taranaki flooring company warned over attempts to fix prices”, Media Release, 28 May 2013.
[10] Commerce Commission, "Price Fixing and Cartels", Fact Sheet.