1 Predatory Pricing under the Indian Competition Act, 2002 ...

Predatory Pricing under the Indian Competition Act, 2002 Ravisekhar Nair & Abdullah Hussain 1 Introduction The Competition Act was enacted in 2002 (and amended significantly in 2007) (‘the Act’ hereinafter) and the Competition Commission of India (CCI) has been in existence since October 2003 (though it has not been fully constituted so far). Except for the provisions relating to ‘Competition Advocacy’, the other substantive provisions, i.e., those relating to ‘Anticompetitive Agreements, ‘Abuse of Dominance’ and ‘Combinations’ are yet to be made effective. This paper briefly introduces the reader to the concept of Predatory Pricing (PP) and its treatment under the Competition Act, 2002. The basic purpose underlying this analysis is to understand how the CCI will examine and investigate charges of PP under the new regime once the enforcement provisions of the Act are notified and the CCI commences its activities. Predatory Pricing under the Competition Act, 2002 The five key limbs of the Act are as follows: (1) (2) (3) (4) (5)

Prohibition of Anti-Competitive Agreements2 (Section 3); Prohibition of Abuse of Dominant Position (Section 4); Regulating Combinations (Sections 5&6); Competition Advocacy (Section 49); and Rendition of Advisory Opinions from competition perspective on public action (policy, law, proceedings of Government/Statutory Authority)

Predatory pricing is classified under Section 4 as an abuse of dominance. Stated in simple terms, Predatory Pricing (PP) refers to a practice of driving rivals out of business by selling at a price below the cost of production.3 PP is a commercial strategy by which a dominant firm first lowers its price to a level which will ultimately force its rivals out of the market. When the latter have been successfully expelled, the company can raise the prices again and reap the rewards.4 However, the simplicity of the definition masks the extremely complicated nature of this concept. Across jurisdictions, there is little agreement whether the practice of PP really exists and whether it should be treated under antitrust/competition laws. The main challenge in penalising PP is that it is hard to distinguish between fair, aggressive pricing (which 1

© Ravisekhar Nair is a practicing Advocate. He is an Associate at Luthra & Luthra Law Offices New Delhi in the firm’s

Competition Law & International Trade Practice Group. Abdullah Hussain is a practicing Advocate. He is a Senior Associate at Luthra & Luthra Law Offices, New Delhi in the firm’s Competition Law & International Trade Practice Group The views expressed herein are those of the authors.

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2 Section 2(b) of the Competition Act, 2002 defines an ‘agreement’ to include any arrangement or understanding or action in concert – (i) whether or not such agreement, understand or action is formal or in writing; or (ii) whether or not such arrangement, understanding or action is intended to be enforceable by legal proceedings. 3 Hovenkamp, H., Federal Antitrust Policy-The Law of Competition and its Practice, (3rd ed., 2005, Thompson West) at p. 339. 4 Faull, J., & Nikpay, A., The EC Law of Competition, (2nd ed, 2007, Oxford) at p. 373.

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is an essential ingredient of competitive markets) and unfair, predatory pricing.5 The United States Supreme Court has expressed doubts about the likelihood that firms would engage in below-cost pricing. First, a decision to engage in below-cost pricing is very costly, as it is unclear how long the prices have to be set below cost in order to drive out competitors. Second, the last firm standing must be able to raise prices to an anticompetitive level so as to recoup the losses it has suffered. Almost inevitably high prices invite new entrants, reducing the predator’s profits, making the strategy unworkable. Given the considerable cost, uncertainty and risk present in any decision to engage in a below-cost pricing campaign, the United States Supreme Court reached the conclusion that ‘predatory pricing schemes are rarely tried, and even more rarely successful.’6 PP is analyzed under antitrust/competition laws as illegal monopolization or attempt to monopolize.7 As stated earlier, under the Act, it is dealt with under Section 4 which prohibits the ‘Abuse of Dominant Position’ by an enterprise.8 ‘Abuse of Dominant Position’ refers to the conduct of an enterprise9 that enjoys a ‘dominant position’ which

5 Monti, G., EC Competition Law, (Cambridge University Press, 2007) at p. 178. 6 Matsushita Elect. Industrial Co. vs. Zenith Radio 475 US 574 (1986) 7 Supra n1 at p. 340. 8 Section 4(2) of the Indian Competition Act, 2002 states that – “There shall be an abuse of dominant position under sub-section (1), is an enterprise or group – directly or indirectly, imposes unfair or discriminatory – condition in purchase or sale of goods or services; or price in purchase or sale (including predatory price) of goods or services Explanation – For the purposes of this clause, the unfair or discriminatory condition in purchase or sale of goods or service referred to in sub-clause (1) and unfair or discriminatory price in purchase or sale of goods (including predatory price) or service referred to in sub-clause (ii) shall not include such discriminatory condition or price which may be adopted to meet the competition. Furthermore, the Explanation (b) to Section 4 defines “predatory price” to mean the sale of goods or provision of services, at a price which is below the cost, as may be determined by regulations, of production of the goods or provision of services, with a view to reduce the competition or eliminate the competitors. 9 Section 2(h) of the Act defines an “enterprise” to mean a person or a department of the Government, who or which is, or has been engaged in any activity, relating to the production, storage, supply, distribution, acquisition or control of articles or goods, or the provision of services, of any kind, or in investment, or in the business of acquiring, holding, underwriting or dealing with shares, debentures or other securities of any other body corporate, either directly or through one or more of its units or divisions or subsidiaries, whether such unit or division or subsidiary is located at the same place where the enterprise is located or at a different place or at different places, but does not include any activity of the Government relatable to the sovereign functions of the Government including all activities carried on by the departments of the Central Government dealing with atomic energy, currency, defence and space. Explanation – For the purposes of this clause – “activity” includes profession or occupation; “article” includes a new article and “service” includes a new service; “unit” or “division”, in relation to an enterprise includes – a plant or factory established for the production, storage, supply, distribution, acquisition or control of any article or goods; any branch or office established for the provision of any service.

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is defined under the Competition Act to mean a position of strength, enjoyed by an enterprise, in the relevant market10, in India, which enables it to – (i) (ii)

operate independently of competitive forces prevailing in the relevant market; or affects its competitors or consumers or the relevant market in its favour.

Conduct amounting to an abuse of dominant position may also be such that it affects its competitors or consumers or the structure of the market in its favour. This results when abuse of a dominant position would impair the ability of the competitors to compete as they would and consumers would, as a consequence, have to accept higher prices or reduced quality. Where the freedom of those constituting a market is eroded in this manner, the structure of the market is deemed to have been altered in favour of the dominant enterprise abusing its position. PP is an exclusionary practice.11 Although the enforcement provisions of the Act have not yet been notified, it can be expected that the CCI when interpreting Section 4 of the Act will look into an allegation of PP not only when it has actually produced the pursued exclusionary effect, such as the elimination of competition or creation of an entry barrier, but also when such a conduct is ‘likely’ to attain these goals. A similar approach is followed in the European Community where the European Court of Justice has held that it must be possible to penalize predatory pricing whenever there is a risk that competitors will be eliminated since the aim pursued, which is to maintain undistorted competition, rules out waiting until such a strategy leads to the actual elimination of competitors.12 An Appropriate Measure of Cost The complicated nature of the concept of PP emerges from the fact that few antitrust/anticompetitive allegations are more sensitive to assess than predatory pricing claims because low prices are a principal if not the primary goal of antitrust/competition policy and in a predatory pricing case, a court or regulatory authority has to consider a charge that a price in unlawful because it is too low.13 A price cut in response to entry, the threat of entry or increased competition is exactly 10 Section 2(r) of the Act defines “Relevant Market” to mean the market which may be determined by the Commission with reference to the relevant product market or the relevant geographic market or with reference to both the markets. Section 2(t) of the Act defines “Relevant Product Market” to mean a market comprising of all those products or services which are regarded as interchangables or substitutable by the consumer, by reason of characteristics of the products or services, their prices and intended use. Section 2(s) of the Act defines “Relevant Geographic Market” to mean a market comprising the area in which the conditions of competition for supply of goods or provision of services or demand of goods or services are distinctly homogenous and can be distinguished from the conditions prevailing in the neighbouring market. 11 “Exclusionary Practice” has been defined by Judge Wyzanski in United States vs. United Shoe Machinery Corp. 110 F.Supp. 295 (D. Mass. 1953), affirmed per curiam, 347 U.S. 521, 74 S. Ct. 699 (1954) to mean a practice that deters potential rivals from entering the monopolist’s market, or existing rivals from increasing their output in response to the monopolist’s price increase. 12 Case C-333/94P Tetra Pak International SA vs. Commission of the European Communities (Tetra Pak II) [1996] ECR I-5951, para 44. 13 Supra n1 at p. 340.

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what one would normally expect from an incumbent that has been enjoying more than a competitive level of profits.14 Over the years, many tests have been devised to aid antitrust/competition agencies in sorting out predatory behaviour from tough competition. Some of the more important tests are as follows: (a)

Price-Cost Tests (PCT) – The key question which PCT seeks to answer is whether a company is incurring losses that are rational only if they are part of a predatory pricing strategy. PCT involves comparing objective cost and price data to provide information about whether an enterprise is actually engaging in PP tactics.15 Most jurisdictions use some type of PCT when analysing PP issues. Nevertheless, there is a divergence of approach with different jurisdictions adopting different measures of cost to detect PP. Some of the key cost measures which are in use are (i) Marginal Cost (MC)16; Average Variable Cost (AVC)17; Average Avoidable Cost (AAC)18; Average Total Cost (ATC).19 The commonly adopted PCT’s are as follows: (A) (B) (C) (D)

The Areeda-Turner Test; The ATC Test; The AAC Test; The Above-Cost Price Test;

(b)

The Recoupment Test – This test assumes that PP is happening and questions whether it is likely to succeed in light of the characteristics of the relevant market, the predator firm and its target(s). Specifically this test aims to determine whether a firm’s PP campaign would be likely to eliminate and deter competition, and whether it is likely that the predator firm will then be able to amass at least enough supra-competitive profits to recover the losses it sustained during the attack.20

(c)

The Predatory Intent Test – This test aims to address the more subjective question of whether a firm intended to engage in PP. It has been a rather controversial area in PP analysis. The European Union has expressly incorporated ‘intent’ in its predation analysis (along with PCT), whereas, others, such as the United States, are more skeptical towards ‘intent’ as an indicator that predatory conduct is occurring or is likely to harm competition.21

14 OECD Report on Predatory Foreclosure, DAF/COMP (2005) 14, at p. 20. Available at www.oecd.org 15 Id. 16 Marginal Cost – is the cost of producing the last unit of output. 17 Average Variable Cost – describes how the marginal cost behaves, over a given range of output. It is calculated by identifying those costs that vary with output, adding them together and diving the result by the total number of units produced. 18 Average Avoidable Cost - is the sum of all costs that a firm can avoid by not producing a certain quantity of output, divided by the number of units not produced. 19 Average Total Cost – is calculated by dividing the firm’s total cost – variable plus fixed – by the total number of units produced. 20 Joskow, P., & Klevorick, A., “A Framework for Analysing Predatory Pricing Policy,” 89 Yale Law Journal 213 (1979). 21 Supra n10 at p. 30.

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Section 4 of the Act, as shown above, states that predatory price means the sale of goods or provision of services, at a price which is below the cost, as may be determined by regulations, of production of the goods or provision of services, with a view to reduce the competition or eliminate the competitors. (emphasis supplied) The CCI has therefore, after consultations with the ICWAI, put up the Draft CCI (Determination of Cost of Production) Regulations 2008 (‘Cost Regulations’) to determine the cost in predatory pricing cases under Section 4 of the Competition Act. According to Regulation 4(1) of the Cost Regulations “Total cost” means “the actual cost of production including the finance, administrative, selling and distribution overheads attributable to the product during the period of alleged predation”. The Explanation states that “the Commission shall have due regard to Cost Accounting Standard 1 issued by the Institute of Cost & Works Accountants of India in arriving at the actual cost of production”. Similarly, as to “Total variable cost” Regulation 4(2) states that the TVC means “the total cost referred to in sub-regulation (1) minus the fixed cost and share of fixed overheads, if any, during the period of alleged predation”. The Explanation again mandates that “the Commission shall have due regard to the Cost Accounting Standards 3 and 4 issued by the Institute of Cost & Works Accountants of India in arriving at fixed overheads or fixed cost”. “Average variable cost” is defined as the “total variable cost divided by total output during the period of alleged predation” and finally the CCI states that the “‘Cost’ in Explanation (b) to Section 4 of the Act shall mean average variable cost unless the Commission decides otherwise”. Conclusion As can be seen the CCI has adopted the AVC as the appropriate measure of cost, which is by and large the measure of cost adopted in all jurisdictions. There is a presumption is most cases that where the enterprise sets in sale price below its AVC, it has engaged in a predatory pricing practice contrary to Section 4. However, prices falling between the ATC and AVC are also subject to inquiry, but in such case specific intent would have to be shown. Prices set above the ATC are unlikely to be challenged. The CCI also has proposed certain regulations with respect to determining cost in cases of multi-product enterprises (Reg. 5), Joint products and By-products (Reg. 6), transfer pricing (Reg. 7), and captive consumption (Reg. 8). Once a predatory price allegation is established, the enterprise would be said to have abused its dominant position. Where after inquiry, the CCI finds that an enterprise in a dominant position is in contravention of the provisions of Section 4, it may pass any of the orders specified under Section 2722 of the Act and may further under Section 2823 of

22 Section 27 deals with Orders by Commission after inquiry into agreements or abuse of dominant position as follows – Section 27 - Where after inquiry the Commission finds that any agreement referred to in section 3 or any action of an enterprise in a

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the Act direct the division of an enterprise enjoying a dominant position to ensure that such an enterprise does not abuse its dominant position.

dominant position, is in contravention of section 3 or section 4, as the case may be, it may pass all or any of the following orders, namely: (a) direct any enterprise or association of enterprises or person or association of persons, as the case may be, involved in such agreement, or abuse of dominant position, to discontinue and not to re-enter such agreement or discontinue such abuse of dominant position, as the case may be; (b) impose such penalty, as it may deem fit which shall be not more than ten per cent of the average of the turnover for the last three preceding financial years, upon each of such person or enterprises which are parties to such agreement or abuse: Provided that in case any agreement referred to in section 3 has been entered into by a cartel, the Commission may impose upon each producer, seller, distributor, trader or service provider included in that cartel, a penalty of up to three times of its profits for each year of the continuance of such agreement or ten per cent of its turnover for each year of the continuance of such agreement, whichever is higher. (c) [Omitted by Amendment Act of 2007] (d)

direct that the agreements shall stand modified to the extent and in the manner as may be specified in the order by the

Commission;

(e) Direct the enterprise concerned to abide by such other orders as the Commission may pass and comply with the directions, including payment of costs, if any; (f) [Omitted by Amendment Act of 2007] (g) Pass such other order or issue such directions as it may deem fit. Provided that while passing orders under this section, if the Commission comes to a finding, that an enterprise in contravention to section 3 or section 4 of the Act is member of a group as defined in clause (b) of the Explanation to section 5 of the Act, and other members of such a group are also responsible for, or have contributed to, such a contravention, then it may ass orders, under this section, against such members of the group. 23 Section 28 of the Act deals with Division of enterprise enjoying a dominant position as follows: Section 28 – (1) The Commission may, notwithstanding anything contained in any other law for the time being in force, by order in writing, direct division of an enterprise enjoying a dominant position to ensure that such enterprise does not abuse its dominant position. (2) In particular, and without prejudice to the generality of the foregoing powers, the order referred to in sub-section (1) may provide for all or any of the following matters, namely – (a)

the transfer or vesting of property, rights, liabilities or obligations;

(b)

the adjustment of contracts either by discharge or reduction of any liability or obligation or otherwise;

(c)

the creation, allotment, surrender or cancellation or any shares, stocks or securities;

(d)

[Omitted by the Amendment Act of 2007]

(e)

the formation or winding up of an enterprise or the amendment of the memorandum of association or articles or association or any other instruments regulating the business of any enterprise;

(f)

the extent to which, and the circumstances in which, provisions of the order affecting an enterprise may be altered by the enterprise and the registration thereof;

(g)

any other matters necessary to give effect to the division of the enterprise.

(3) Notwithstanding anything contained in any other law for the time being in force or in any contract or in any memorandum or articles of association, an officer of a company who ceases to hold office as such in consequence of the division of an enterprise shall not be entitled to any compensation for such cesser.

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