The Franchise Memorandum

For as long as anyone alive today can remember, federal antitrust law has prohibited suppliers from setting minimum resale prices based on a century-old precedent. Last summer, the United States Supreme Court, in Leegin v. Creative Leather Products, Inc., 2007 WL 1835892 (U.S. June 28, 2007), reversed that long-standing precedent, ruling that all such agreements are now subject to the “rule of reason,” a method of analysis under which the claimant must make the difficult showing that the arrangement harms competition substantially in the market as a whole. This decision is expanding the ability of franchisors to design flexible pricing programs.

Under the old Dr. Miles case, it had been per se illegal for a franchisor or supplier to enter into an agreement with a reseller over its minimum retail prices.  Cases focused on whether the manufacturer or other supplier met the technical requirements of reaching an “agreement.” In order to avoid per se illegality, suppliers were permitted to “announce” their policy and decide to deal with those who complied with the policy. This created an artificial structure in which a supplier could establish a minimum price but could not reach or enforce agreements on that policy.

The Supreme Court’s decision in Leegin means it is no longer necessary for suppliers to engage in the appearance of suggesting but not agreeing. Under federal law at least, companies now can direct specific resale prices to be charged, need not utilize agency or consignment arrangements in order to direct prices, need not adopt cumbersome “minimum advertised price programs,” and no longer need to exercise extreme caution to avoid “agreements” (as opposed to unilateral actions) with distributors or dealers on the prices to be charged.

Leegin was a typical minimum resale price case in which a discounting retailer was terminated for excessive discounting. In its 5-4 decision, the Supreme Court found resale price maintenance to be generally pro-competitive because: (1) it can help ensure that retail services that enhance interbrand competition will not be underprovided (e.g., because of free riding); and (2) it may facilitate market entry for new companies and brands. As the Court noted, similar justifications have supported “rule of reason” analysis for non-price vertical agreements (such as exclusive territories) for decades.

Manufacturers and other suppliers should be cautioned, however. Minimum resale prices can still be challenged under the “rule of reason.” In those situations in which price limitations clearly harm consumers and the franchisor has “market power”, there may be competitive concerns raised. Moreover, while many state laws typically follow federal antitrust decisions, such as the Leegin decision, it remains to be seen whether states will continue to apply the per se rule to resale price maintenance. Finally, as the Court cautioned, resale price maintenance can be used as a tool to facilitate collusion among retailers or suppliers. The majority opinion cautioned lower courts “to be diligent in eliminating [the] anticompetitive uses” of resale price maintenance from the market. Thus, careful guidance in establishing resale price policies is prudent; collusion with competitors must be avoided.