Leegin Creative Leather Products v. PSKS, Inc. (06-480)


Appealed from: United States Court of Appeals for the Fifth Circuit

Oral argument: March 26, 2007

Kaye’s Kloset, a boutique apparel store in Texas, claims that Leegin Creative Leather Products, a manufacturer of brand-name leather products, has violated U.S. antitrust law by requiring retailers to maintain a price floor on Brighton-brand accessories. Under Supreme Court precedent, resale price maintenance (RPM) agreements are per se illegal. However, Leegin argues that RPM agreements should instead be evaluated under a rule of reason because RPM has significant pro-competitive effects. Kaye’s Kloset responds that RPM is never pro-competitive and thus the per se rule against RPM should stand. In this case, the Supreme Court will re-examine the economics of a controversial marketing strategy. The Court’s decision will impact how manufacturers distribute their products, how industries market these products, and how consumers shop for these products.

Questions Presented

This Court has held that antitrust “per se rules are appropriate only for conduct that . . . would always or almost always tend to restrict competition.” Modern economic analysis establishes that vertical minimum resale price maintenance does not meet this condition because the practice often has substantial competition-enhancing effects. The question presented is whether vertical minimum resale price maintenance agreements should be deemed per se illegal under Section 1 of the Sherman Act, or whether they should instead be evaluated under the rule of reason.

Issue

Should the Court review resale price maintenance agreements on a case-by-case basis instead of holding such agreements illegal on their face, given that resale price maintenance could enhance competition and benefit consumers?

Facts

Leegin Creative Leather Products (“Leegin”) is a California-based leather manufacturer that produces and markets women’s accessories. Brief for Petitioner at 2. In 1990, Leegin introduced the “Brighton” brand of products, which quickly gained popularity. Id. at 3. Leegin distributed Brighton products in independently-owned boutiques and through its own branch of retail stores. Brief for Respondent at 2–3. The company gained market share in the competitive market of leather accessories by equating Brighton products with value and customer service. Brief for Petitioner at 3.

Consistent with this strategy, in 1997 Leegin adopted the “Brighton Retail Pricing and Promotion Policy”. Id. The policy required that all retailers selling Brighton-brand products sign written agreements to maintain a certain price for such products. Brief for Respondent at 2. Leegin argued that minimum prices provided retailers with a guaranteed margin, which in turn encouraged them to offer customers quality service and a pleasant shopping environment. Brief for Petitioner at 3-4. If retailers broke the agreement, Leegin threatened to stop or suspend shipment of Brighton products. Brief for Respondent at 2.

In 1995, PSKS Inc. (“PSKS”), which operated a retail store called “Kaye’s Kloset” in Lewisville, Texas, began offering Brighton products, advertising Brighton along with other merchandise at its own expense. Brief for Respondent at 4. In 2002, Leegin learned that Kaye’s Kloset was selling Brighton products at a discount below the policy levels and terminated shipments to the store. Brief for Petitioner at 4.

Alleging that Leegin’s pricing policy violated federal antitrust law, PSKS filed action in the U.S. District Court for the Eastern Distirct of Texas. At trial, the district court found that Leegin’s policy constituted a per se violation of Section 1 of the Sherman Act under Dr. Miles Medical Company v. John D. Park & Sons Co., 220 U.S. 373 (1911), and refused to permit Leegin to introduce evidence of the policy’s pro-competitive effects. Brief for Petitioner at 4. The Fifth Circuit affirmed the lower court’s decision, citing the same reasons. 171 Fed. Appx. 464 (2006). On December 7, 2006, the Supreme Court granted certiorari. Leegin Creative Leather Products v. PSKS, Inc., No. 06-480, cert. granted (U.S. Dec. 7, 2006).

Discussion

What is Resale Price Maintenance (“RPM”)?

Resale price maintenance (“RPM”) is the practice in which manufacturers or wholesalers restrict the price at which retailers can sell their merchandise. Following a minimum price maintenance arrangement, a retailer agrees that he will not sell the merchandise below a certain stipulated price. Under the precedent of Dr. Miles, which interpreted Section 1 of the Sherman Antitrust Act, 15 U.S.C. § 1 (2006), vertical RPM agreements are per se illegal.

However, over the last thirty years, the Supreme Court has been increasingly willing to examine RPM and non-price agreements and weigh the pro-competitive effects against the anti-competitive effects, rather than stipulate that such agreements are anti-competitive by nature. See State Oil Co. v. Khan, 522 U.S. 3 (1997) (maximum price retail maintenance); Cont’l T.V. v. GTE Sylvania, 433 U.S. 36 (1977) (vertical non-price agreements, such as restriction on sales location). In Leegin Creative Leather Products v. PSKS, the Court must decide whether to extend this more flexible treatment to minimum RPM agreements. Leegin is one of the four antitrust cases the Court will review this term. See Linda Greenhouse, Antitrust Policy Ambiguity To Be on Justices’ Docket, New York Times, Section C (December 9, 2006).

Parties’ Arguments

Leegin argues that subsequent precedent undermines Dr. Miles and suggests that a rule of reason is the more appropriate vehicle to review RPM agreements. See Brief for Petitioner at 12. Under current jurisprudence, Leegin urges, the court presumptively analyzes RPM arrangements under a rule of reason, turning to a per se analysis only for practices that demonstrably “always or almost always” restricts trade. See id. (citing Sylvania, 433 U.S. at 49–50; Business Electric Corp. v. Sharp Electric Corp., 485 U.S. 717, 723 (1988); State Oil, 522 U.S. at 10). In contrast, RPM has significant pro-competitive and customer welfare effects. See Brief for Petitioner at 13. By blocking retailers from lowering the price of a certain brand, RPM encourages retailers to gain market share by providing quality customer care, aggressive promoting, or repair services for that brand. See id. at 15. Providing customer-focused services allows retailers to effectively market their product by associating it with quality care. See id. Leegin further suggests that without the added margin, retailers would be discouraged from providing these services because of a “free rider” problem: customers would obtain information from one retailer and then use that information to buy more cheaply elsewhere. See id. at 15-16.

In contrast, PSKS argues that the governing law and economic reality supports preserving a per se rule against vertical price-fixing. PSKS admits that since Dr. Miles, the Supreme Court has permitted manufacturers control over resale prices by stating and enforcing the terms under which they will sell their merchandise to retailers. See Brief for Respondent at 9 (discussing United States v. Colgate, 250 U.S. 300 (1919)). However, because Leegin is itself a retailer of its own products, its price-fixing agreements with other retailers constitutes a horizontal cartel, see Brief for Respondent at 1, which even Leegin admits is a per se violation of antitrust law, see Brief for Petitioner at 22. Even if the arrangement is not a cartel, PSKS continues, the market is simply too complex to determine whether RPM creates pro-competitive results. See Brief or Respondent at 20. What is certain, according to PSKS , is that customers pay more under RPM schemes. See id. Given the uncertainty of actual pro-competitive results, the Court should not stray from its traditional per se rule against vertical RPM agreements. See id.

Implications of Possible Outcomes

Whether the Supreme Court decides to retain the per se prohibition of vertical RPM or instead adopt a more flexible rule of reason will impact how manufacturers distribute through retailers, how certain industries market their products, and how consumers shop.

If the Supreme Court decides for Leegin and elects to strike Dr. Miles, it will free manufacturers from the current system of retail distribution that relies on broad company policy rather than contract to guide and discipline retailers. That is, currently companies who desire minimum resale prices must circumvent the no-agreement requirement of Dr. Miles. Instead of obtaining promises from individual retailers and holding them in breach if they break their promises, a manufacturer must stipulate a broad pricing policy and enforce it through a complex system of carrots and sticks. See e.g., Brief of Ping Inc. as Amici Curiae in Support of Petitioner (PING Brief) (pricing policy to maintain minimum price level for specialized golf equipment); Gary Charness & Kay-Yut Chen, Minimum Advertised-Price Policy Rules and Retailer Behavior: An Experiment by Hewlett-Packard (2002) (enforcing RPM policy by providing and withholding market-development funds). This system is arguably inefficient because it requires careful maneuvering with the retailer to avoid the impression of making an “agreement” with the retailer, and automatic termination for non-compliant retailers, rather than a renegotiation, which jeopardizes profitable retailer relationships See PING Brief at 3–4. .

Furthermore, a decision for Leegin could affect how manufacturers market their products. If the Supreme Court adopts a rule of reason that tolerates certain vertical RPM agreements, this could counter the effect of free riders. A retailer who can pocket the extra profit between the fixed price and the market price will be more likely to provide time-intensive customer-focused services, such as consulting a potential purchaser of an electronic device. See Brief of CTIA—The Wireless Association as Amici Curiae in Support of Petitioner (arguing that wireless industry benefits from point-of-sale services and thus a decision will affect how industry markets its products). The ease by which customers can access an electronic marketplace and the rise of Internet retailers highlights the growing concern about free-riding. See Giang Nguyen, Medill—On The Docket: Leegin Creative Leather Products, Inc. v. PSKS, Inc.(last accessed Mar. 9, 2007). Certain industries that rely on de facto RPM will also welcome a decision for Leegin. See Brief of American Petroleum Institute as Amici Curiae in Support of Petitioner; Brief of National Association of Manufactures as Amici Curiae in Support of Petitioner.

Finally, if the Supreme Court holds that Dr. Miles is no longer good law, this could affect the shopping behavior of consumers. By prohibiting retailers from benefiting from fixed prices, Dr. Miles arguably discouraged retailers from providing the customer-directed services explained above. This, in turn, siphoned customers from small, boutique stores to larger, discount stores. See Burlington Coat Factory as Amici Curiae in Support of Respondent. Discarding Dr. Miles, then, might shift the balance towards small business. The support for this outcome by several powerful groups, including the National Association of Manufacturers, several well-known economists , and the United States has put the continuing relevance of Dr. Miles in the federal antitrust regime into serious question.

The Sherman Act

Signed into law more than a century ago, the Sherman Antitrust Act is the bedrock of antitrust law in the United States. See Legal Information Institute, Antitrust: An Overview. Its oft-quoted opening section provides: “Every contract, combination in the form of trust or otherwise, or conspiracy, in restraint of trade or commerce among the several States, or with foreign nations, is declared to be illegal.” 15 U.S.C. § 1 (2000). For corporations like Leegin, conviction under the Act can entail fines as high as $10,000,000. Id.

In interpreting the Act, the Supreme Court has branded some anticompetitive activities, such as resale price maintenance, bid rigging, and market allocation schemes, as illegal per se, meaning that they are presumed to be an unreasonable restraint of trade regardless of the surrounding circumstances. However, the balance of anticompetitive activities are adjudicated on a case-by-case basis using the “rule of reason” standard. That standard, first articulated in the seminal case of Standard Oil Co. of New Jersey v. United States, requires courts to weigh the challenged practice’s putative benefits against its putative harms so as to determine whether the practice is, on balance, an unreasonable restraint of trade. See 221 U.S. 1 (1911). As Justice Brandeis later opined: “The true test of legality is whether the restraint imposed is such as merely regulates and perhaps thereby promotes competition or whether it is such as may suppress or even destroy competition.” Chicago Board of Trade v. United States, 246 U.S. 231, 238 (1918).

Horizontal and Vertical Integration

Most, but not all, per se illegal activities are intended to support horizontal integration, in which a larger company owns or consolidates control over several smaller subsidiary companies that produce the same good or market the same product. Vertical integration, by contrast, occurs when a single company absorbs several companies involved in related aspects of a product’s manufacture and sale. The quintessential example of vertical integration is the industrial manufacturer that controls all phases of production and distribution, from the acquisition of raw materials to the transportation of finished goods.

Relatedly, minimum resale price maintenance—the practice at issue in this case—is a type of vertical restraint wherein a seller of goods conditions their sale upon a buyer’s agreement to not resell the goods below a specified price. While minimum resale price maintenance is illegal per se, maximum resale price maintenance and non-price vertical restraints like granting distributors exclusive territories are not. Rather, such practices warrant scrutiny under the rule of reason standard. See State Oil Co. v. Khan, 522 U.S. 3 (1997) (maximum resale price maintenance); Continental T.V., Inc. v. GTE Sylvania Inc., 433 U.S. 36 (1977) (exclusive territories).

Dr. Miles and His Progeny

At the heart of Leegin’s appeal is the Supreme Court’s 1911 decision in Dr. Miles Medical Co. v. John D. Park & Sons Co., which made the practice of minimum resale price maintenance illegal per se. 220 U.S. 373 (1911). The parallels between Dr. Miles and the present case are strikingly obvious. A patent medicine manufacturer, Dr. Miles Medical Company required wholesale and retail druggists to enter into contracts prohibiting them from selling its medicines “at less than the full retail price as printed on the packages.” Id. at 380. The plaintiff, John D. Park & Sons Company, a wholesale druggist, refused Dr. Miles’s contract as such and proceeded to sell the medicines below cost. Noting that “a general restraint upon alienation is ordinarily invalid,” the Court held that “agreements or combinations between dealers, having for their sole purpose the destruction of competition and the fixing of prices, are injurious to the public interest and void” under the Act. Id. at 404, 408.

Subsequent cases refined the Dr. Miles rule. Most significantly, in United States v. Colgate & Co., the Court drew a distinction between a formal agreement and unilateral action or, as the Court put it, “the long recognized right of trader or manufacturer engaged in an entirely private business, freely to exercise his own independent discretion.” 250 U.S. 300, 307 (1919); see also Business Electronics Corp. v. Sharp Electronics Corp., 485 U.S. 717 (1988). Thus, a manufacturer that “suggests” minimum prices by way of any number of common techniques, such as labeling products with retail prices or advertising prices directly to consumers, may unilaterally act to deny its products to a retailer, provided that the manufacturer and the retailer in question were not party to a formal agreement regarding the same.

Leegin in the Lower Courts

Both the district court and the Fifth Circuit Court of Appeals ruled in PSKS’s favor, citing the precedent of Dr. Miles. In the district court, Leegin’s request to introduce evidence that its pricing policy promoted inter-brand competition was flatly denied as a matter of law. Brief for Petitioner, at 4. Likewise, the court later denied Leegin’s motion for a new trial, stating that “[w]hether the per se classification of such agreements is wise is not for this court to decide.” Id. at 5 (internal citation omitted).

As might be expected, Leegin fared no better in the Fifth Circuit. Writing per curiam, a panel of three judges held that “[b]ecause the Court has consistently applied the per se rule to such agreements, we remain bound by its holding in Dr. Miles Medical Co.” PSKS, Inc. v. Leegin Creative Leather Products, Inc., No. 04-41243, at 4 (5th Cir. 2006) (unpublished opinion). Leegin subsequently applied to Justice Scalia for a stay pending the filing and disposition of a petition for a writ of certiorari, a stay was granted, and, after considering Leegin’s petition, the Court granted certiorari. Brief for Petitioner at 5.

Leegin’s Arguments

For its opening argument, Leegin contends that, by overturning the per se rule of Dr. Miles and instead subjecting minimum resale price maintenance to a rule-of-reason analysis, the Court would be making the antitrust analysis of vertical agreements “consistent, economically rational, and proconsumer.” Brief of Petitioner at 2. As it points out, the Court long ago abandoned per se rules against maximum resale price maintenance and the full range of non-price vertical restraints. Id. at 9. Tracking its antitrust jurisprudence from Sylvania to Khan to Sharp, Leegin concludes that “the per se rule against resale price maintenance is the lone remaining vestige of an antiquated antitrust regime” and “cannot be reconciled with either recent antitrust decisions or economic theory.” Id. at 9–12.

Leegin contends that a “departure from the rule-of-reason standard must be based upon demonstrable economic effect rather than . . . upon formalistic line drawing.” Id. at 12 (quoting Sylvania, 433 U.S. at 58–59). The decision in Dr. Miles, Leegin notes, ignored any such effects, preferring to denounce resale price maintenance as a restraint upon alienation, “an ‘ancient rule’ . . . which has no grounding in economics.” Id. at 9 (quoting United States v. Arnold, Schwinn & Co., 388 U.S. 365, 380 (1967)); see also id. at 24–27. In Leegin’s view, there is no evidence of economic impact that warrants per se treatment of resale price maintenance. Id. at 13. On the contrary, “economic and legal scholars have reached an unusually strong consensus that resale price maintenance has a number of procompetitive uses and effects that, if permitted by the antitrust laws, could enhance consumer welfare.” Id.

Leegin then proceeds to supply the Court with several examples of the procompetitive uses and effects of minimum resale price maintenance. For one, Leegin attests, a manufacturer could employ resale price maintenance to ensure that retailers provide demand-creating services, such as promotional activities and customer development, that enhance inter-brand competition and benefit consumers. Id. at 15, 19. Likewise, new manufacturers and manufacturers entering new markets can use resale price maintenance to encourage retailers to make the kind of investments that are often required to acquaint consumers with unfamiliar products. Id. at 15. Absent a guaranteed margin, Leegin contends, retailers might be disinclined to provide these services because of “market imperfections such as the so-called ‘free rider’ effect,” where, for instance, large discounters drain away so many sales that small retailers cannot recover their investments in promotional services. Id. at 15–17 (quoting Sylvania, 433 U.S. at 54–55).

Although Leegin acknowledges that resale price maintenance may not always be used for procompetitive purposes, it maintains that there is no basis for concluding that resale price maintenance is consistently harmful and thus justify per se treatment. In support of this claim, it draws upon empirical evidence that “the instances of resale price maintenance being used for procompetitive purposes are ‘far more common’ than instances in which it is used to facilitate a cartel.” Id. at 21 (citations omitted). Furthermore, Leegin urges, if resale price maintenance were to ever have a substantial adverse effect on competition, the rule-of-reason analysis would be adequate to proscribe its use. Id. at 7.

Leegin offers its own practice to illustrate the procompetitive effects of resale price maintenance. Id. at 22. Observing that it enjoys only a small share in the competitive market for women’s accessories, Leegin explains that if consumers are unhappy with its price, they can go elsewhere. Id. In effect, the company practices resale price maintenance at its own peril, not that of consumers.

Leegin contrasts the experiences of “smaller competitors” like itself with those of larger competitors that “may enjoy sufficient brand recognition and clout with retailers that they do not need to employ resale price maintenance [and] may be better suited to bear the increased costs of alternative solutions . . . not subject to per se prohibition.” Id. at 29. “A per se rule that favors larger incumbents at the expense of smaller competitors, new entrants, and innovators; that drives marginal products out of the market and reduces product variety; and that incents manufacturers to integrate forward into distribution, rather than use independent distributors,” Leegin forcefully contends, “is antithetical to any rational principle of antitrust law.” Id. at 29–30.

In closing, Leegin addresses a trio of arguments raised by PSKS, here and in the courts below. First is the argument that continued support for the rule of Dr. Miles is compelled by considerations of stare decisis. To this, Leegin responds that the Court has repeatedly recognized the dynamic potential of the term “restraint of trade” and the Act itself. Id. at 29. “Nothing in the Sherman Act or the history of [the] Court’s jurisprudence,” Leegin proclaims, “requires that the ‘adaptation to modern conditions’ be frozen in place in 1911.” Id. at 33 (internal citation omitted).

Next, Leegin responds to the claim that the various actions and inactions of Congress over the last century militate in favor of retaining the per se rule against minimum resale price maintenance. Id. at 33–36. On this count, Leegin discounts the significance of Congress’ failure to overturn Dr. Miles, observing that the Court has already expressly rejected this argument in Khan. Id. at 33–34 (citing Khan, 522 U.S. at 19). Furthermore, it asserts that the “proper focus is not on any ‘inaction’ by Congress,” but whether Congress has taken any action to strip the Court of its traditional role of interpreting the Act—which, Leegin notes, it has not. Id. at 34–35.

Lastly, Leegin confronts the argument that the Court should retain the rule of Dr. Miles because it is easy to enforce and consequently more efficient than rule-of-reason analysis. Id. at 36. Overturning the rule of Dr. Miles, it contends, would actually produce the opposite result: by reducing the number of “economically groundless” resale price maintenance cases that are filed, the rule-of-reason approach would have the effect of lessening the burden on the courts. Brief of Petitioner at 36. Moreover, the lower courts have repeatedly demonstrated an ability to efficiently apply the rule-of-reason analysis to vertical non-price agreements and so, Leegin concludes, should be entirely capable of doing the same in the case of vertical price agreements. Id.

PSKS’s Arguments

In contrast to Leegin’s interpretation of contemporary caselaw, PSKS argues that precedent favors retaining the per se rule against minimum resale price maintenance. Brief for Respondent at 7. “The doctrine of stare decisis,” PSKS avers, “counsels against overruling century-old, repeatedly reaffirmed precedent absent ‘special justification,’ which simply does not exist in this case.” Id. (citing Dickerson v. United States, 530 U.S. 428, 443 (2000)). According to PSKS, to overturn Dr. Miles or otherwise alter the per se rule would only serve to frustrate “settled legal expectations” and create the “instability and unfairness” that stare decisis is meant to avoid. Id. at 8.

Noting that the Court’s decision to exempt major league baseball from antitrust laws has gone undisturbed for more than eighty years, despite ample opportunity for amendatory legislation, PSKS next contends that any change in the treatment of minimum resale price maintenance agreements should likewise come from Congress, not the Court. Id. at 9–10. Congress has “consistently and unambiguously” endorsed the per se rule of Dr. Miles by refusing to legislate against it. Id. at 10–11. This conclusion is supported by the Congress’s passage of the Consumer Goods Pricing Act, which was to provide lower prices for consumers by repealing the Miller-Tydings and McGuire Acts, which exempted state “fair trade” laws authorizing certain price fixing agreements from the sweep of the Act and Dr. Miles. Id. at 11-12. Thus, PSKS contends, Congress expressly declared its intent to revive and sustain Dr. Miles—a claim that is further bolstered by Congress’s refusal to change its stance in light of repeated confrontations with the Department of Justice, which adopted a position hostile to the per se rule in a well-known amicus brief filed in Monsanto Corp. v. Spray-Rite Service Corp., 465 U.S. 752 (1984). Id. 12–14.

Expanding upon its opening argument, PSKS extols the “bright-line limitation” of Dr. Miles and credits its simplicity with “the complete transformation of the retail sector from one based primarily on small independent stores to the current retailing market featuring large retailers.” Id. at 17. In the years since the passage of the Consumer Goods Pricing Act, PSKS observes, the country has experienced a significant decrease in the total number of retailers, coupled with a tremendous growth of large, or “big box,” retailers that specialize in offering customers lower-priced items. Id. at 18. According to PSKS, “[c]onsumers have spoken, and have announced their preference for discount shopping.” Id. Inasmuch as minimum resale price maintenance agreements “always leads to higher prices for consumers,” it asserts, “[o]verturning the rule of Dr. Miles would take away the ability of the average consumer to comparison shop for goods, and would dramatically upset the average consumer’s lifestyle.” Id. at 19.

PSKS claims that Leegin’s arguments are based “entirely and only upon theories, and not on demonstrable economic evidence.” Id. at 6; see also 21-24. It further contends that no empirical study has ever shown that resale price maintenance enhances competition or benefits consumers. Id. at 6, 24. Indeed, it argues, the reverse is true: “guaranteed profit margins under resale pricing agreements may serve as a disincentive to dealer innovation in resale practices, and may force many consumers to pay for services that they do not want, do not need and may not receive.” Id. at 6.

Finally, PSKS presents the Court with an alternate ground for affirming the verdict below. Drawing attention to the fact that Leegin was not only a manufacturer but a dealer of its products, it charges that Leegin colluded with its retail competitors to horizontally fix prices, thereby distinguishing this case from Dr. Miles. Id. at 29. Price fixing among competitors of single brand is an unquestionable violation of the Act, PSKS points out, regardless of whether dealers formally discuss and vote on prices or practices, and no one—not even Leegin—would deny “the pernicious effect of retail competitors conspiring to fix prices.” Id. at 29–30.

Conclusion

In this case, the Supreme Court will review whether resale price maintenance agreements should continue to be per se illegal under the Sherman Anti-trust Act. Leegin argues that RPM arrangements should be reviewed on a case-by-case basis because such arrangements have significant pro-competitive effects. PSKS Inc. counters that precedent should stand, questioning whether RPM really promotes competition and benefits consumers. A Supreme Court decision will affect the distribution and marketing strategies of producers and the buying preferences of consumers.

Authors

Prepared by: Ferve Ozturk and Michael Fornasiero

Additional Sources

Acknowledgments

The authors would like to thank for Professor George Hay for his insight into this case.