Business Testimony


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1

1 UNITED STATES FEDERAL TRADE COMMISSION

2 and

3 UNITED STATES DEPARTMENT OF JUSTICE

4
5
6 SHERMAN ACT SECTION 2 JOINT HEARING

7 BUSINESS TESTIMONY

8 TUESDAY, FEBRUARY 13, 2007

9
10
11 HELD AT:

12 UNIVERSITY OF CHICAGO

13 GRADUATE SCHOOL OF BUSINESS

14 EXECUTIVE CENTER - 450

15 NORTH CITYFRONT PLAZA DRIVE

16 CHICAGO, ILLINOIS 60611

17 9:30 A.M. TO 4:00 P.M.

18
19
20
21
22
23 Reported and Transcribed by:

24 PAMELA A. STAFFORD, CSR, RMR

25

2

1 APPEARANCES:

2
3 MODERATORS:

4
5 Morning Session:

6 JAIME TARONJI, JR.

7 Attorney, Policy Studies,

8 Federal Trade Commission

9 and

10 JOSEPH J. MATELIS, II

11 Attorney Advisor, Legal Policy Section

12 Antitrust Division, Department of Justice

13 and

14 WILLIAM COHEN

15 Deputy General Counsel for Policy Studies

16 Federal Trade Commission

17
18
19 PANELISTS:

20
21 Morning Session:

22 David Balto

23 Patrick Sheller

24 Ron Stern

25

3

1 APPEARANCES CONTINUED:

2
3 MODERATORS:

4
5 Afternoon Session:

6 JOSEPH J. MATELIS, II

7 Attorney Advisor, Legal Policy Section

8 Antitrust Division, Department of Justice

9 and

10 KAREN GRIMM,

11 Assistant General Counsel for Policy Studies

12 Federal Trade Commission

13
14
15 PANELISTS:

16
17 Afternoon Session:

18 Sean Heather

19 Bruce Sewell

20 Bruce Wark

21
22
23
24
25

4

1 REPORT OF PROCEEDINGS

2 FEBRUARY 13, 2007

3 MR. TARONJI: Good morning.

4 I'm Jim Taronji from the Federal Trade

5 Commission. I'm one of the moderators for

6 this morning's session. I'm joined this

7 morning by Bill Cohen, Deputy General Counsel

8 for Policy Studies at the Federal Trade

9 Commission. Our other co-moderator today is

10 Joe Matelis from the Antitrust Division of

11 the U.S. Department of Justice.

12 Before we start today, let me

13 cover a few housekeeping matters. As a

14 courtesy to our speakers, please turn off

15 your cell phones, Blackberries, and other

16 devices, or put them on vibrate. And I will

17 do that myself.

18 Finally, we request that the

19 audience not ask any questions or make

20 comments during the hearings. Thank you.

21 Before introducing our

22 speakers, I would like to first thank the

23 University of Chicago Graduate School of

24 Business for hosting these joint FTC/DOJ

25 hearings to solicit business testimony on

5

1 single-firm conduct under Section 2 of the

2 Sherman Act. In particular, I would like to

3 thank Dean Ted Snyder and the staff of

4 the Gleacher Center for offering us their

5 facilities and for making the necessary

6 arrangements for us to hold these

7 hearings.

8 And finally, I would like to

9 thank my FTC and DOJ colleagues as well as

10 the FTC's Midwest regional office who have

11 worked very hard to put together these

12 hearings in the Windy City, in the cold Windy

13 City.

14 We are honored to have

15 assembled a distinguished group of panelists

16 from a number of companies and associations

17 that have agreed to offer their testimony in

18 connection with these hearings. These

19 panelists will provide their perspectives on

20 how companies operate within the complex area

21 of Sherman Section 2 jurisprudence,

22 including for some companies how they

23 navigate not only the U.S. application of

24 antitrust laws to single-firm conduct, but

25 that of the diverse antitrust regimes around

6

1 the world.

2 Our panelists this morning

3 are David Balto for the Generic

4 Pharmaceutical Association, Patrick Sheller

5 from Kodak, and Ron Stern from G.E.

6 Our format this morning will

7 be as follows. Each speaker will make a 20-

8 to 25-minute presentation. We will then take

9 a 15-minute break. After the break, we will

10 reconvene and have a moderated discussion

11 with our panelists.

12 These hearings in Chicago are

13 an important component of the joint FTC and

14 Antitrust Division hearings on single-firm

15 conduct under Section 2 of the Sherman Act.

16 They are designed to identify areas where

17 single-firm conduct is causing competitive

18 harm, areas where antitrust enforcement may

19 be chilling desirable activity, and areas

20 where additional guidance would be most

21 valuable.

22 FTC chairman, Deborah Majoras

23 made it clear at the opening session of these

24 hearings that she wanted to hear from

25 businesses, either through their executives

7

1 or their legal advisers. As Chairman Majoras

2 said, and I'll paraphrase, we want these

3 panels to discuss business conduct from the

4 market perspective from the ground up. That

5 is, examine why and when firms engage in it,

6 how they do it, and what effect it produces

7 for the firm, for other firms, customers and

8 competitors and for consumers. We want these

9 discussions to include knowledgeable business

10 people or their legal advisers.

11 Over these last eight months

12 we have held hearings on specific types of

13 business conduct, such as predatory pricing,

14 refusals to deal, bundled and loyalty

15 discounts, tying arrangements, exclusive

16 dealing, and misleading and deceptive

17 conduct.

18 Some of these panels have

19 included business executives or their legal

20 advisers. In addition, we've covered some

21 general areas, such as business strategy,

22 business history, and economic empirical

23 studies.

24 The sessions today are

25 designed to further FTC Chairman Majoras's

8

1 goal to obtain as much insight and real-world

2 experience as possible from business

3 representatives.

4 This is the second set of

5 hearings that have specifically been devoted

6 to obtaining testimony from company

7 representatives and associations. The first

8 set of business testimony hearings were in

9 Berkeley, California on January 30th, 2007.

10 We look forward to hearing

11 the panelists' comments and to the

12 round-table discussion. I want to thank all

13 of them for agreeing to participate in

14 today's hearings. We know that it takes a

15 lot of time to prepare for these hearings.

16 So again, thank you for your time and

17 efforts.

18 I would now like to turn it

19 over to my colleague and co-moderator Joe

20 Matelis from the Antitrust Division for any

21 remarks he would like to make. Joe.

22 MR. MATELIS: Thank you, Jim.

23 The Department of Justice's Antitrust

24 Division is very pleased to participate in

25 today's hearing. In the single-firm conduct

9

1 hearings we have held to date, we have

2 benefitted from the insights of many

3 highly-skilled antitrust attorneys and

4 economists.

5 Today's hearing, as well as

6 the sessions held last month in Berkeley,

7 California, grew out of the belief that we

8 could also learn much about single-firm

9 conduct from businesses. Our panelists today

10 are the people who help devise and implement

11 business plans, aware that their firm's

12 unilateral conduct may be challenged in

13 private or government litigation and by

14 foreign competition authorities. Their

15 companies are also directly affected by the

16 conduct of other firms.

17 Whether you've had occasion

18 to view Section 2 of the Sherman Act as a

19 sword directed at the heart of your business

20 or as a shield protecting you from

21 anticompetitive conduct of others, we look

22 forward to hearing from you today.

23 On behalf of the Antitrust

24 Division, I would also like to take this

25 opportunity to thank the Gleacher Center and

10

1 the University of Chicago Graduate School of

2 Business for hosting these hearings. Also on

3 behalf of the Division, I'd like to thank

4 David, Patrick, and Ron for volunteering your

5 time today. We know that these hearings take

6 a lot of effort, especially when traveling to

7 Chicago in February. And we're very grateful

8 for a valuable public service that you're

9 rendering. Finally, I'd also like to thank

10 Jim and Bill and their colleagues at the

11 Federal Trade Commission for all their hard

12 work organizing today's hearing. Thanks.

13 MR. TARONJI: Thank you, Joe.

14 Our first speaker this

15 morning is David Balto. David Balto has

16 practiced antitrust law for over 20 years,

17 both at the Federal Trade Commission and the

18 Antitrust Division. At the FTC he was the

19 attorney adviser to Chairman Pitofsky and

20 assistant director for policy and evaluation

21 in the Bureau of Competition. He helped

22 guide many of the FTC's pharmaceutical and

23 health care enforcement efforts, including

24 challenging patent settlement agreements.

25 David has written extensively

11

1 on antitrust and health care competition and

2 is the vice chair of the ABA Antitrust

3 Section Federal Civil Enforcement Committee.

4 He graduated from Northeastern University

5 School of Law and the University of

6 Minnesota. And David is speaking today on

7 behalf of the Generic Pharmaceutical

8 Association. David.

9 MR. BALTO: Thank you, Joe.

10 I want to express my privilege for -- to

11 come here and testify in these hearings. And

12 I want to mention on that that my remarks

13 today are my own and don't necessarily

14 reflect the remarks -- should not necessarily

15 be attributed to the Generic Pharmaceutical

16 Association or any of its members.

17 Let me set out the outlines

18 of my testimony. I want to start off with

19 one indisputable fact, hopefully indisputable

20 fact, the importance of generic competition

21 in the market.

22 I'm then going to try to

23 talk about how pharmaceutical markets are

24 different than other types of markets and why

25 that should make a difference in the analysis

12

1 of single-firm conduct.

2 I'm then going to talk about

3 two forms of anticompetitive conduct by

4 branded pharmaceutical companies and how

5 those forms of conduct should be analyzed,

6 and then perhaps close with some suggestions.

7 Let me begin with the indisputable.

8 Generic competition benefits

9 every consumer in the United States. Generic

10 drugs sell for about 70 percent less than

11 branded drugs. They account for 56 percent

12 of all prescriptions and less than 13 percent

13 of all pharmaceutical expenditures.

14 The last time TEO studied

15 this issue in 1994 they found that generic

16 drugs saved consumers between 8 and $10

17 billion a year at a time when generic

18 substitution was vastly lower than it is

19 today.

20 Antitrust enforcement in the

21 generic drug industry is essential. Let me

22 put this into context. Today you can walk

23 out of this hearing room and go to your

24 local pharmacy and buy a generic form of

25 Remeron, Relafen, Buspar, Taxol, Augmentin,

13

1 Paxil, Coumadin, and Platinol. For each of

2 these drugs, the branded pharmaceutical firm,

3 a dominant firm attempted to extend its

4 monopoly through some form of alleged

5 exclusionary conduct.

6 In some cases they filed sham

7 petitions before the FDA. In some cases they

8 engaged in sham litigation. In other cases

9 they engaged in inequitable conduct before

10 the Patent and Trademark Office.

11 All together, these drugs

12 accounted for more that $10 billion of

13 purchases by U.S. consumers. And because of

14 enforcement actions taken by the Federal

15 Trade Commission, the state attorneys

16 general, and private antitrust attorneys,

17 these actions were stopped. And today's

18 consumers save billions of dollars because of

19 those enforcement actions.

20 Policing exclusionary conduct

21 by branded pharmaceutical companies could not

22 be a greater priority. In the next four

23 years, over $60 billion of branded

24 pharmaceuticals will go off patent.

25 Unfortunately, the pharmaceutical industry

14

1 offers many opportunities for dominant

2 branded firms to manipulate a highly complex

3 regulatory system to secure monopoly profits,

4 not through superior foresight, industry, and

5 innovations, but by finding loopholes to

6 delay competition.

7 Now, let's start off with why

8 pharmaceuticals are different. Now, my

9 colleagues on the panel today are going to

10 talk about the need for simple rules.

11 They're going to talk about the need for

12 going and creating bright-line tests so it

13 will be easier for their business people to

14 do what they're supposed to do, compete in

15 the marketplace. As an antitrust

16 practitioner, I can appreciate their

17 perspective.

18 However, I think that the

19 Commission and the Antitrust Division should

20 be extremely cautious about simple rules for

21 dominant firms. As Justice Scalia has

22 observed, the conduct of a dominant firm is

23 viewed through a special lens. Behavior that

24 might otherwise not be of concern under the

25 antitrust laws can take on exclusionary

15

1 connotations when practiced by the

2 monopolist.

3 Now, I think there are four

4 factors in the pharmaceutical industry that

5 should make people cautious about bright-line

6 rules in this industry. First,

7 pharmaceuticals are heavily regulated; and as

8 my testimony sets forward, this provides a

9 remarkable number of opportunities for

10 engaging in what's been called by the FTC

11 cheap exclusion.

12 Second, who is the buyer?

13 Now, knowing who the buyer is is critical to

14 defining markets and determining market power

15 and also oftentimes to determine whether or

16 not certain parties have standing. But in

17 the pharmaceutical industry is the ultimate

18 buyer the consumer, the insurance company,

19 the pharmaceutical benefit manager, the

20 physician who prescribes the drugs, or a

21 combination of all of these?

22 Third, pharmaceuticals have

23 high fixed costs but very low average

24 variable costs. And so when my colleagues

25 today go and talk about bright-line rules for

16

1 predatory pricing, those might not apply that

2 well in a setting with that kind of cost

3 structure.

4 Then finally, forms of

5 distribution are complex. Pharmaceuticals

6 are distributed through all these numerous

7 different intermediaries, and not all

8 distribution mechanisms are the same. Maybe

9 in the questioning period we'll go and talk

10 about distribution exclusivity cases where I

11 can address some of these ideas.

12 Now, I want to talk today

13 about two form -- fortunately through a

14 combination of the FTC's and State Attorneys

15 General enforcement actions, the FTC's

16 advocacy to Congress, Congressional

17 legislation, many of the recipe -- the recipe

18 book for anticompetitive conduct by dominant

19 pharmaceutical companies has basically been

20 thrown out. But like all good cooks, the

21 pharmaceutical companies have come up with

22 new forms of anticompetitive conduct, and I

23 wanted to talk about two of them today to

24 illustrate the importance of a couple things,

25 the importance of antitrust enforcement, the

17

1 importance of a balanced rule of reason

2 analysis in looking at exclusionary conduct

3 and staying away from per se bright-line

4 rules. And those two types of conduct are

5 product line extensions and abuse of the

6 regulatory process.

7 Now, let me explain product

8 line extensions. As in any other area, there

9 are changes in products. We all try to

10 improve our products. One of the key things

11 to remember here is that for a generic firm

12 to enter, it is essential for there to be a

13 branded firm that is listed and been approved

14 by the Food and Drug Administration. And the

15 way this process almost invariably works is

16 that the generic firm goes and copies a

17 branded drug. The branded drug goes off

18 patent or the generic firm prevails in patent

19 litigation, and then the generic firm enters.

20 But sometimes the product

21 line extensions can have anticompetitive

22 effects. The FTC recognized this in the

23 merger of Cima and Cephalon. Cephalon made a

24 branded drug that was used to treat pain when

25 you underwent cancer treatments. It was

18

1 acquiring Cima which was developing an

2 alternative product. The FTC uncovered in

3 the course of its investigation that part of

4 the reason for the acquisition was a

5 product-switching plan by Cephalon. They

6 planned, once they acquired Cima, to go and

7 take the Cephalon product out of the market,

8 to delist it. And in fact, that would have

9 prevented generic firms from being able to

10 enter the market for this drug.

11 In order to resolve the

12 competitive concerns posed by this merger,

13 the FTC required Cephalon to sponsor generic

14 entry on the form of that drug that it

15 manufactured.

16 Now, if you were to read one

17 case in the area of pharmaceutical antitrust,

18 I suggest you read the case of Abbott versus

19 Teva. Now, this case will remind you of the

20 cartoon in Peanuts where Linus keeps coming

21 up to try to kick the football. And every

22 time Linus goes and tries to kick the

23 football, Lucy picks up the football, and he

24 misses it and falls flat on his back.

25 There's a drug called Tricor

19

1 which is used to lower cholesterol. It's am

2 almost billion dollar drug. Impax and Teva

3 were developing a generic alternative. Each

4 time they were poised to enter, the branded

5 pharmaceutical manufacturer made some small

6 change to the product, thus preventing them

7 from being able to enter. The last change

8 was changing the product from a capsule

9 version to a tablet version. The tablet

10 version was supposedly superior because it

11 didn't have to be taken with food.

12 But Abbott didn't just change

13 the product. After the tablet formulation

14 was approved, it stopped selling the Tricor

15 capsules. It bought up all the excess Tricor

16 capsules. And then there's this important

17 register. It's called the National Drug Data

18 File. And the only way you can get a

19 generic drug into the market is if it's

20 listed in the NDDF. And what Abbott did is

21 it listed -- changed the code for Tricor

22 capsules in the National Drug Data File to

23 obsolete.

24 Anyway, so let's go to the

25 litigation. Abbott and Teva sued, along with

20

1 a group of buyers of drugs. And the

2 defendants basically say, you know, this is a

3 product improvement. There is no role for

4 antitrust here. There is a per se legal

5 rule. In order to demonstrate a violation,

6 they would have to show that quote: The

7 innovator knew before introducing the

8 improvement into the market that it was

9 absolutely no better than the prior version,

10 and that the only purpose of the innovation

11 was to eliminate the complementary product of

12 a rival. That was the standard articulated

13 by Abbott.

14 And you know, there was case

15 law that supported Abbott's position, though

16 not in the pharmaceutical industry. Now,

17 rather than adopting the rule of a per se

18 legality, the Court went back to the test

19 articulated by the D.C. Circuit in Microsoft

20 which suggests a rule of reason balancing

21 test. And it said the per se rule as

22 proposed by the defendants presupposes an

23 open market where the merits of any new

24 product can be tested by unfettered consumer

25 choice. But here, consumers were not

21

1 presented with a choice between the products.

2 Instead, they eliminated that choice by

3 removing the old formulations of the

4 products.

5 Now, I know my colleagues on

6 the panel, their hair is about to stand up

7 at this point because what this Court has

8 basically suggested is that there is a duty

9 to deal. That a dominant firm in some sense

10 has some kind of obligation, a duty to deal,

11 with its rivals. How could that be? Well,

12 let's see what the Court said.

13 It said, A co-monopolist is

14 not free to take certain actions that a

15 company in a competitive or even

16 oligopolistic market may take because there

17 is no market restraint on a monopolist's

18 behavior, harkening back to Justice Scalia's

19 idea that I mentioned before.

20 So in this case where the

21 dominant firm went beyond a simple product

22 innovation, but also created obstacles for

23 the other firms to effectively enter the

24 market, that was a violation.

25 Now, there's a similar case

22

1 in the E.U. and in Canada involving Astra Zeneca,

2 the drug Lobec. In this case violations were

3 found in both of those jurisdictions. In

4 that case what happened was as the patents on

5 the drug were expiring, Astra Zeneca filed

6 for additional patents, but these were

7 patents that really weren't used on improving

8 the drug. These were just additional patents

9 to create the additional obstacles. And

10 again, antitrust violations were found.

11 The most interesting case

12 here is a case that was just filed in the

13 past year or so, and it involves the very

14 well-known conversion of the drug Prilosec to

15 Nexium as Prilosec was losing its patent

16 protection. This again involved Astra

17 Zeneca. This is something like a $4

18 billion-a-year drug.

19 In the alleged

20 anticompetitive conduct it was said, up to 18

21 months before Astra Zeneca was about to lose

22 exclusivity it stopped promoting the drug,

23 and instead, started to make negative claims

24 about the drug. Now, I don't know about you

25 or me, but I just don't know when people

23

1 start making negative claims about their

2 drugs.

3 More important than just

4 creating Nexium, they also effectively

5 withdrew Prilosec from the market, so it was

6 impossible for managed care organizations to

7 go and sort of continue to contract for

8 Prilosec.

9 And so when generic Prilosec

10 was about to arise, there was no possibility

11 for it to substitute for branded Prilosec.

12 And one of the most

13 interesting issues and maybe something worth

14 discussing later on is the fact, as alleged,

15 that Nexium was no improvement on Prilosec.

16 Let's go on to the issue of

17 petitioning and litigation. You know, one of

18 the most important achievements of the

19 Federal Trade Commission has been the focus

20 on sham petitioning and the use of regulatory

21 processes to create competitive harm.

22 Probably the case in which they've brought

23 the most consumer benefits was the Unocal

24 case in which it attacked sham petitioning by

25 Unocal before the California Resources Board

24

1 that costs consumers in California over $500

2 million annually.

3 Sham petitioning is a serious

4 problem. As the FTC's recent staff report on

5 the Noerr-Pennington Doctrine observed: One

6 of the most effective ways for parties to

7 acquire or maintain market power is through

8 the abuse of governmental processes. The

9 cost of the party engaging in such abuse is

10 typically minimal, while the anticompetitive

11 effects resulting from such abuse are often

12 significant and durable.

13 Anticompetitive conduct

14 through regulatory abuse can be especially

15 pernicious if, God forbid, Kodak or GE were

16 to engage in any kind of abusive conduct.

17 If they exploited their dominant power, it

18 would be short lived. Why? Because there are

19 numerous firms poised to go and battle them

20 for that role of king of the hill. But when

21 your job as king of the hill was gained

22 through abuse of the regulatory process, no

23 natural force can displace you. That's why

24 abuse of the regulatory systems is so

25 pernicious.

25

1 This is especially the case

2 in the pharmaceutical industry. The cases I

3 identified at the beginning of my testimony

4 were cases which were largely based on abuse

5 of the regulatory system.

6 Almost 30 years ago, Judge

7 Bork observed that predation by abuse of

8 governmental procedures, including

9 administrative and judicial processes,

10 presents an increasingly dangerous threat to

11 competition.

12 No statement could be more on

13 point for the anticompetitive conduct in the

14 pharmaceutical industry and the practice of

15 so-called citizen petitions. The FDA, like

16 many regulatory agencies, offers the

17 opportunity for citizens to petition them to

18 raise questions about safety and efficacy and

19 other issues. And that process is obviously

20 well intentioned, but it's abused to an

21 increasingly significant extent.

22 What happens is again, when a

23 generic company is poised to enter the

24 market, the brand company will file a

25 frivolous petition on the eve of FDA

26

1 approval. That may be despite the fact that

2 the FDA may have granted a tentative

3 approval, that maybe despite the fact that

4 similar petitions have already been filed.

5 The brand strategy is just simply delay the

6 generic drug from the market. And you can

7 imagine when you're talking about drugs in

8 which the amount of profits amount to 10 to

9 $20 million a day, this could be a very

10 attractive opportunity.

11 The FDA citizen petition

12 process provides significant opportunities for

13 deception. There are no requirements for

14 proof of the accusations made in the

15 petition. No requirements for certification

16 of the accuracy of the information. There

17 are no penalties for inaccurate or improper

18 filings. There are no limits on the number

19 of filings that may be filed. Some petitions

20 contain little or no evidence or rely on

21 obsolete, irrelevant, or erroneous

22 information.

23 The FDA has even noted the

24 fact that they've seen several examples of

25 citizen petitions seemingly designed to delay

27

1 the approval of generic approval.

2 So let's look at the numbers.

3 You know, if I wanted to make it to Wrigley

4 Field this spring, if I wanted to join the

5 Cubs for spring training, I'd want to have a

6 pretty good batting average. Otherwise, they

7 wouldn't look at me.

8 What's the batting average on

9 citizen petitions? Since the Medicare

10 Monitorization Act was passed in 2003, there

11 have been 45 citizen petitions filed

12 challenging the conduct trying to delay the

13 entry of generic drugs. 45. 21 of these

14 have been resolved. One has been resolved in

15 the favor of the petitioner. One. 20 have

16 been denied.

17 Now, if I'm batting at .05

18 percent, I'm not going to get much of a

19 try-out at Wrigley Field this spring. None

20 of the last-minute -- many of these petitions

21 were filed within the four-month period prior

22 -- half of them were filed in the four-month

23 prior period to the entry of the drug. Did

24 any of those succeed? None. Not one.

25 Well, how much do they delay

28

1 things? Those late-filed petitions delayed

2 things an average of ten months. And in one

3 case, the amount of delay cost consumers an

4 estimated $7 million a year.

5 Is this a small problem?

6 No. According to the statistics of the FDA,

7 there's been a 50 percent increase in the

8 number of citizen petitions they have

9 received. And there are about 170 citizen

10 petitions pending compared to only 90 in

11 1999.

12 Now, one of the most

13 illuminating observations of the FTC report

14 on the Noerr-Pennington Doctrine was its

15 observation about how serial sham litigation

16 conduct should be analyzed. I think the FTC

17 should go and apply the ideas that it has

18 and the expertise it's developed, both in

19 that report and in its enforcement action in

20 Unocal to give a very serious look at the

21 citizen petition process. Let me conclude.

22 Antitrust plays a vital role

23 in maintaining rivalry as the lone star of

24 the marketplace. Competition is critically

25 important where many of the factors

29

1 identified earlier can forestall competition.

2 The FTC, State Attorneys

3 General, and private antitrust lawyers have

4 played an important role in protecting

5 pharmaceutical markets from artificial

6 barriers to competition, and I hope these

7 hearings keep Section 2 as a robust statute

8 so that it can continue to be used to

9 protect the interest of consumers and

10 competitors in this vital market. Thank you.

11 (Applause)

12 MR. TARONJI: Thank you,

13 David. Our next speaker is Patrick Sheller.

14 Patrick is the chief compliance officer for

15 Eastman Kodak Company. In that capacity he

16 is responsible for Kodak's code of conduct

17 and internal investigations.

18 Prior to his current

19 assignment, Patrick held a variety of

20 business positions and was Kodak's chief

21 antitrust counsel and also was involved in

22 legal matters in Europe.

23 Prior to Kodak he was in

24 private practice with a law firm that is now

25 known as McKenna, Long & Aldridge, and is a

30

1 former Federal Trade Commission attorney,

2 having worked in the Bureau of Competition

3 and as attorney adviser to Chairman Daniel

4 Oliver. He is a graduate of St. Lawrence

5 University and the Albany Law School at Union

6 University. Patrick.

7 MR. SHELLER: I want to

8 thank the Department of Justice and the FTC

9 for the opportunity to speak to you today.

10 It's an important time in antitrust

11 law for our economy, and it's a particularly

12 important time for Kodak. I suspect one

13 of the reasons we were invited to participate

14 in these hearings is Kodak's well documented

15 experience with the Section 2 enforcement

16 which began in 1921 when an investigation by

17 the Department of Justice was settled through

18 a consent decree which prohibited Kodak, among

19 other things, from selling a fighting

20 brand of consumer film, also known as

21 private-label film.

22 In 1954 we settled an

23 investigation with the Department of Justice.

24 This matter involved alleged tying of consumer

25 color negative film with photo processing

31

1 services. Under this consent decree we

2 were prohibited from selling these two

3 items under a single price.

4 In 1979 our luck turned a

5 bit. We benefitted from a primarily favorable

6 ruling by the Second Circuit in the Berkey

7 Photo case where one of our competitors

8 challenged Kodak's introduction of the 110

9 photographic system that included a camera,

10 specially formatted film, and a new photo

11 processing service.

12 One of the key rulings in

13 that case was that a monopolist has no

14 obligation to predisclose new products to a

15 competitor. And, to the extent that a

16 monopolist engages in truthful advertising,

17 that conduct does not offend Section 2.

18 In 1991 our luck turned in

19 the other direction again with the Supreme

20 Court's decision in the ITS v. Kodak

21 case. This was an action brought by

22 independent service organizations that were

23 competing against Kodak in the service of

24 photocopiers and micrographics units. It

25 was in the ITS case that the court established

32

1 the so-called single-brand derivative

2 aftermarket; the notion being that once a

3 customer chooses to purchase an expensive

4 item of capital equipment, they're now locked

5 into that particular brand or manufacturer.

6 Whether or not that manufacturer has

7 market power in the primary market for

8 photocopiers, for example, was determined to

9 be irrelevant to the Supreme Court. The ITS

10 case went back to the trial court on remand,

11 and I'll speak more to the trial in a minute.

12 In 1994 Kodak challenged some

13 aspects of the 1921 and 1954 consent decrees.

14 We were successful in overturning the private

15 label restriction and the prohibition on

16 linking film with photo finishing sales,

17 primarily because we were able to demonstrate

18 to the District Court and to the Second Circuit

19 that market conditions had changed

20 significantly.

21 By 1994, Kodak was

22 competing on a global basis with a number of

23 foreign suppliers as opposed to the market

24 conditions that existed when these consent

25 decrees were entered into.

33

1 Finally, in 1996 the

2 Ninth Circuit heard Kodak's appeal

3 of the jury verdict in the ITS case. The

4 jury found that we had engaged in an unlawful

5 refusal to deal by refusing to provide

6 patented and copyrighted parts and copyrighted

7 diagnostic software and manuals to ISO's.

8 The key ruling in that case,

9 for purposes of my remarks today, was

10 that an IP owner faces restrictions on its

11 ability to refuse to deal with ISOs by refusing

12 to license its IP.

13 The Ninth Circuit picked up

14 on the First Circuit's decision in the Data

15 General case in holding that there is a

16 presumption in favor of an IP owner, that

17 it has a legitimate business justification

18 for refusing to deal with a rival. But that

19 presumption can be overcome by evidence that

20 the IP owner had an anticompetitive intent. The

21 9th circuit's ruling essentially opens the door

22 to ISO's to come up with evidence in the form of

23 internal documents showing that the IP owner

24 was trying to keep out competition through

25 its decision to refuse to deal.

34

1 Now, the history of Kodak's

2 experience with Section 2 parallels in many

3 ways the evolution of our company, our

4 technology, and our business model.

5 Beginning in the 1880's and through the

6 70's, the focus of our business was on

7 consumables. We primarily sold film

8 products, paper products, and chemicals.

9 We engaged in the sort of razor/razor blade

10 model of selling cameras in order to generate

11 more film sales.

12 The company began to

13 diversify its portfolio in the late 60's to

14 1970's, and we began to offer more expensive

15 items of capital equipment such as

16 photocopiers, micrographics equipment, and

17 graphic arts equipment. And in this sense

18 our business model began to change to

19 offering hardware plus aftermarket service.

20 It was in this context that the ITS case

21 arose.

22 We are now in the process of

23 a monumental shift in the business model of

24 our company as we try to become a digital

25 company as opposed to an analog technology player.

35

1 The focus of our business going forward is

2 going to be on selling solutions. Solution

3 selling is very common in the digital world

4 where companies will bundle a portfolio of

5 offerings that include hardware, software,

6 consumables, consulting services, and

7 aftermarket service into a single price to

8 sell to customers who demand an end-to-end

9 solution.

10 Our sales focus going forward

11 will be on digital products such as photo

12 printer kiosks, image centers. We announced

13 last week the introduction of a new line of

14 consumer ink-jet printers, which means Kodak will

15 now be competing in a new market. We will also

16 offer Digital cameras, media ink, and so forth.

17 Elements of the old

18 business models still remain at Kodak. We

19 will continue to sell film. But our focus

20 will be on solution sales, and there will be

21 be a real emphasis within the company on the

22 ability to sell in this environment.

23 We face a number of

24 challenges as we try to participate in the

25 digital world. Some critical success

36

1 factors to our new digital model are, first

2 of all, that we rapidly innovate and

3 develop new technology to commercialize

4 new products. Digital companies constantly

5 introduce new versions of their products.

6 We have to keep pace in this fast-moving

7 environment. And in that sense, intellectual

8 property has become increasingly important to

9 Kodak.

10 We need to be able to

11 protect our research and development

12 investments, wherever possible, through patents

13 and copyrights, and we need to be able to

14 protect these assets in a way that doesn't

15 offend the antitrust laws.

16 One of our key strategies

17 going forward is to monetize our intellectual

18 properties. Kodak has, for the last

19 several years, entered into numerous

20 licensing agreements with other digital

21 players in the industry, and we need to be

22 able to go about that licensing activity

23 without fear of antitrust concerns, as

24 I'll talk about in a few minutes.

25 And finally, as I mentioned,

37

1 solution selling is critical to our success

2 in the digital world. A good example is

3 our graphic communications business which

4 sells graphic solutions to printing firms.

5 These solutions include software, work-flow

6 software, hardware, consumables, consulting

7 services, and aftermarket service.

8 So what are some of the

9 Section 2 impediments to our success in this

10 new digital world? First of all, we

11 would encourage the antitrust agencies and

12 the courts to recognize the importance of

13 market changes. As we saw with our attempt

14 to overturn the 1921 and 1954 consent

15 decrees, we were forced to litigate with the

16 Department of Justice over the issue of

17 whether Kodak was competing in a worldwide

18 market versus a domestic market.

19 And to the extent that

20 further challenges arise to our practices in

21 the film environment, we would encourage the

22 agencies and the courts to recognize the

23 substantial influence of digital technologies

24 on markets that were previously dominated

25 by film.

38

1 As we saw literally overnight

2 earlier in this decade, our film business

3 began to decline dramatically in the year

4 2001. We initially thought it was a result

5 of reduced demand following the 9/11 attacks,

6 but the market never came back. It was because

7 many customers had decided to convert from film

8 to digital. And many customers that make this

9 conversion never come back to film.

10 Another impediment to our

11 success in the digital world relates to the

12 antitrust line between tying and bundling. This

13 line is becoming increasingly blurred as a

14 result of the LePage's and other decisions, which

15 I'll speak to more in a few minutes.

16 Finally, obstacles to our

17 ability to monetize our intellectual property

18 investments exist in the form of cases like the

19 Ninth Circuit's decision in the ITS case and

20 precedents in the European Union such as

21 the McGill case and the INS Health case where

22 the Commission required compulsory licensing

23 licensing by intellectual property owners.

24 Let me first turn to the

25 LePage's decision and the uncertainty that

39

1 case has left companies like Kodak with. While

2 the Third Circuit had an opportunity to

3 clarify the application of Section 2 in the

4 area of bundled discounts, in our view it

5 squandered that opportunity by deciding the

6 case on its narrow set of facts. The court

7 ruled said that 3M's practice of bundling its

8 branded Scotch tape with both private-label

9 3M tape and with other 3M products caused

10 injury to its competitor, LePage's, and

11 therefore offended Section 2.

12 The only parameters that

13 we are able to draw from the LePage's decision

14 in terms of an alleged monopolist's ability

15 to engage in pricing activities are, first of

16 all, that single-product volume discounts are

17 permissible. The court made that clear. But

18 what's at risk following the 3M/LePage's

19 decision, are discounts linking products

20 across multiple markets where an alleged

21 dominant product is involved, and also

22 discounts linking a dominant product

23 with others across a single product

24 line, such as the linking branded and

25 private-label tape. We are left with

40

1 no coherent standard with which to

2 evaluate bundled pricing under the

3 LePage's decision.

4 We would submit there were

5 better alternative paths that the Third

6 Circuit could have taken in evaluating the

7 case against 3M. The Eighth Circuit's

8 decision in Concord Boat applied the Brooke

9 Group decision by the Supreme Court to find

10 that as long as single-product discounts are

11 above cost, they should not be considered

12 exclusionary under Section 2.

13 It would have also been helpful

14 if the court had given some thought to the

15 Ortho Diagnostic's Systems case by the Southern

16 District of New York where the court articulated

17 its analysis of the alleged bundling by asking

18 whether an equally efficient competitor to the

19 monopolist could profitably match the bundled

20 price the in the market. That would have

21 been an arguably more rational test to apply.

22 While we could previously

23 rely on the very clear distinction between

24 tying on the one hand where a monopolist

25 tries to force the purchase of a second

41

1 non-monopoly product, we now have to deal with a

2 precedent that articulates no coherent standard

3 such that bundled discounts now come under scrutiny.

4 As I said before, bundling is very important to our

5 ability to offer solution sales.

6 Turning to the issue of IP

7 rights, as I mentioned, a very importantbr>
8 strategy of Kodak going forward is our ability

9 to monetize our IP portfolio. The Ninth

10 Circuit's decision in the ITS case has had a

11 a chilling effect on that activity. There thebr>
12 Court held that although there is a presumption in

13 favor of an IP owner's right to refuse to license

14 a competitor, that presumption can be overcome by

15 evidence of bad intent. And that evidence can

16 take the form of internal company documents.

17 We think that the Federal Circuit,

18 which considered very similar facts in the Xerox v.

19 CSU case got the issue right when it held that in

20 the absence of tying, fraud or sham litigation,

21 it's not appropriate to inquire into the IP owner's

22 subjective motivations for asserting a statutory right

23 to exclude. The Xerox court held that the same

24 rationale would apply to asserting copyright

25 protection as the basis for a refusal to deal.

42

1 As a result, we have a

2 clear split among the circuits that has

3 created a great deal of uncertainty on the

4 part of the IP owners and companies that

5 provide aftermarket service.

6 Where does the uncertainty

7 in these two areas leave Kodak and other

8 companies? First, if we're successful with our

9 digital strategy, and we're able to achieve a

10 leading market position in some of the new

11 digital markets where we participate, our ability

12 to offer competitive bundled pricing could be

13 constrained by the LePage's decision. As I

14 said, bundled pricing is really the essence

15 of solution selling.

16 Second, notwithstanding a

17 lack of market power in the primary equipment

18 markets in which we compete, we still face

19 potential challenges by ISO's that can allege that

20 Kodak dominates a single brand aftermarket

21 for a particular line of equipment. Such ISOs

22 will try to require us to license or sell our

23 valuable intellectual property.

24 Let me offer a few examples

25 of the dilemmas these ambiguities can create,

43

1 and these are hypothetical examples. First,

2 sell a line of photo kiosks that you may have

3 seen at a number of retailers. A question

4 arises as to whether Kodak can offer retailers

5 bundled discounts on the kiosks, our paper

6 that runs through these kiosks and the

7 aftermarket service. Could we also include

8 digital cameras in that bundle when we sell

9 to retailers? Could Kodak refuse to license

10 our valuable diagnostic software on these

11 photo kiosks to an ISO that wishes to compete

12 with us?

13 Turning to our intellectual

14 property strategy. We are in the process of

15 entering into licensing agreements with a

16 number of companies that we believe have

17 infringed our patent portfolio in the digital

18 camera area. The question arises whether,

19 in approaching a particular company we

20 believe violates our patents, can we refuse

21 to license the companies' rights in our patents

22 simply because they are competitors. And does

23 that situation get any worse because we've got

24 an internal document suggesting that a reason

25 for refusing the license was to gain an upper

44

1 hand in the marketplace.

2 Could we, in licensing to

3 other digital camera sellers, bundle Kodak

4 software that allows customers to view their

5 images on a PC?

6 We offer an on-line photo

7 service where you can upload your photos and

8 order prints or order prints on different items

9 like T-shirts and coffee mugs. This is called

10 the Kodak Easy Share Gallery. The question arises

11 whether in the event we were to gain a leading

12 market position with our Kodak Photo Gallery,

13 we could say to our customers who agree to

14 store a fixed number of images on our site

15 that they will get a discount on their

16 prints?

17 And finally with respect to

18 our graphics business, which I mentioned is

19 very much focused trying to meet the end to

20 end work-flow demands of our customers, are

21 there antitrust concerns with our selling

22 graphic communications equipment, software,

23 consumables, consulting services, and

24 aftermarket services as a bundle? Should it

25 make a difference that our customers demand

45

1 such solution sales?

2 These are some of the issues

3 that we grapple with in light of the

4 uncertainty under Section 2 that I've

5 outlined, and I'll look forward to further

6 discussion on these and other issues when we

7 get to the questioning period.

8 (Applause)

9 MR. TARONJI: Thank you,

10 Patrick. Our next speaker is Ron Stern.

11 Ron is the vice president and senior

12 competition counsel for the General Electric

13 Company. Ron received his AB from Brown

14 University and his law degree from Harvard.

15 He clerked for Judge Harold

16 Leventhal of the U.S. Court of Appeals for

17 the D.C. Circuit and for Justice Potter

18 Stewart of the U.S. Supreme Court. He was

19 in private practice with Hughes, Hubbard &

20 Reid and was a partner with Arnold & Porter.

21 In addition, he was the

22 special assistant to the Assistant Attorney

23 General for the Criminal Division of the U.S.

24 Department of Justice. Ron.

25 MR. STERN: I'd like to

46

1 begin by thanking the Antitrust Division and

2 the Federal Trust Commission for holding

3 these hearings and for providing me and

4 others with the opportunity to address

5 important issues relating to the application

6 of the antitrust laws to single-firm conduct.

7 In particular, I would like

8 to thank the staff at both agencies who have

9 organized these hearings and put in the hard

10 work required to make them a success.

11 I also want to make clear at

12 the outset that the views and opinions that I

13 am providing today and that are in the

14 written slides are my own personal views and

15 not those of the General Electric Company or

16 of other General Electric officials.

17 Let me begin with an

18 overview. I want to agree with the heads

19 of the two agencies that are hosting these

20 hearings, the Assistant Attorney General and

21 the Chairman of the Federal Trade Commission,

22 that it is important to have clear,

23 administrable, and objective rules. This is

24 a key requirement, something that's really at

25 the heart of these hearings.

47

1 It's important for business

2 to avoid chilling procompetitive conduct.

3 It's also important for consumers. It's

4 important to help avoid inadvertent

5 violations and disputes and investigations

6 that end up wasting company time and

7 resources as well as the time and resources

8 of the agencies.

9 And finally, it's important

10 to reduce the cost of developing and

11 implementing business plans to foster

12 competition in the marketplace.

13 Now increasingly, as the

14 economy globalizes, it's not sufficient that

15 the U.S. rules are clear. The rules adopted

16 by other jurisdictions will, of course, affect

17 U.S. commerce. And I do not believe that it

18 is surprising or coincidental that the United

19 States, European Commission, and the

20 International Competition Network, an

21 organization formed by, I believe, more than

22 100 competition authorities around the world,

23 are all addressing the issue of competition

24 standards for single-firm conduct at this

25 time.

48

1 In a global economy this is

2 a global issue, not just a United States

3 issue; and that's important, particularly for

4 companies such as mine, that operate in a

5 number of global markets.

6 What I'd like to do today is

7 walk through from a counseling perspective

8 which is a perspective, I see every day,

9 and look at areas that could be clarified in

10 Section 2.

11 First, the issue is what kind

12 of rule governs. Is your conduct unilateral,

13 single-firm conduct, or is it multi-firm

14 conduct? Is it something that Section 1 governs

15 or Article 81 in Europe?

16 Or is it something that

17 Section 2 governs as single-firm conduct or

18 Article 82 in Europe?

19 The next issue is whether

20 there is a threshold solution or a threshold

21 screen that makes you comfortable that the

22 conduct doesn't violate the law? And one

23 important screen under the U.S. law is the

24 requirement of monopoly power.

25 If you can be sure that your

49

1 company isn't in that kind of position, it

2 doesn't control market prices, then you don't

3 have to worry about the nature of the conduct

4 and whether the conduct meets or doesn't meet

5 any of the different rules that have been

6 talked about during these hearings and are

7 being discussed today.

8 If the threshold isn't met,

9 then you have to look at the conduct and

10 decide whether the conduct is exclusionary or

11 not. And oftentimes what you're looking for

12 are clear rules that will guide you to allow

13 you to tell your client that they can safely

14 pursue X type of conduct because that's in a

15 safe harbor or that's clearly not a problem.

16 And then why are we going

17 through this entire exercise? Well, we're

18 going through the exercise basically because

19 there are risks and costs if you end up in a

20 gray area that someone thinks violates the

21 requirements.

22 There is the potential for

23 government enforcement actions and

24 investigations, and in the U.S. for private

25 treble damage action. And there are a host

50

1 of potential consequences, from injunctive

2 relief to fines, not in the U.S., but in

3 some jurisdictions, to treble damage awards,

4 legal fees, and the like.

5 So what I'd like to do is

6 continue to walk through the issues. One

7 issue that reinforces the concern that I'd

8 just like to touch upon is the fact that

9 jury instructions in the Section 2 area are

10 often particularly problematic. I've just

11 set some examples up on the screen, but

12 basically they involve very general types of

13 words. Is the conduct wrongful? Did one

14 buy more logs than were necessary or pay a

15 higher price than was necessary? Did the

16 firm engage in competition on the merits?

17 Whatever, again, a jury believes that means.

18 All of these things reinforce

19 the risk, particularly in the U.S.

20 environment, of treble damages and attorneys'

21 fees and large litigation costs. You

22 basically want to counsel to be in a safe zone

23 to avoid having to worry about jury

24 instructions.

25 So then back to the

51

1 beginning. Do you know whether you're in the

2 single-firm conduct area? We obviously have

3 the Copperweld decision and clear law that if

4 you're a company and you're dealing with a

5 wholly-owned subsidiary, you're one entity,

6 and you know that you can't violate Sherman Act

7 Section 1 by having an agreement in restraint of

8 trade because you don't have two parties. You

9 just have one.

10 The problem is under

11 Copperweld the application is unclear. The

12 law in the lower courts is divided as to

13 where the line is when you're dealing with

14 non-wholly-owned subsidiaries.

15 And one important thing that

16 the government could do is reinstate the

17 guidance that existed in 1988 with the

18 antitrust enforcement guidelines for

19 international operations. I've included

20 that in the slides.

21 And the clear guidance that

22 was given then, I think, would be important

23 to reinstate it, is that whenever you have

24 more than 50 percent of the voting securities

25 of a company owned by its parent or its

52

1 sister company, that whole family of

2 companies is one economic entity and is

3 subject only to Section 2, the single-firm

4 conduct section, and not Section 1. That's

5 one area in which I think clarity could be

6 added.

7 Now, if we move beyond, the

8 next issue is trying to identify whether your

9 company in the particular situation that

10 you're facing is subject to Section 2. And

11 the first element of Section 2 is having

12 monopoly power. The second element relates to

13 the conduct. Is there a willful acquisition

14 or maintenance of that power which is often

15 referred to as engaging in exclusionary

16 conduct.

17 Now, under United States law

18 there is a pretty helpful screen. You have

19 to have the power to control market price.

20 And in bidding markets, it's clear that if

21 there are other credible competitors, you

22 generally don't have the power to control

23 market prices, even if you have a very large

24 share.

25 The case law gives some very

53

1 helpful general rules of thumb. If you have

2 more than a 70 percent share, you have to

3 look at all of the other factors, but you at

4 least know that you're in a danger zone.

5 If you have less than a 50

6 percent share under the U.S. case law, it's

7 very unlikely that you have to worry about

8 whether your conduct could be categorized as

9 exclusionary.

10 Some people point to the fact

11 that attempted monopolization can occur at a

12 lower market share threshold, but you have

13 the very important counseling hook in the

14 element of attempted monopolization which is

15 the requirement of a dangerous probability of

16 achieving monopoly power, which brings you

17 right back to the monopoly power test.

18 So the key is, and I think

19 that's been very helpful, even for successful

20 firms, and certainly my company has a number

21 of successful businesses, that most

22 successful firms simply do not meet the

23 monopoly power test under U.S. law. And that

24 is helpful in counseling. But there are two

25 important howevers that I want to talk

54

1 about.

2 The first is the issue that's

3 been discussed that Patrick talked about, the

4 treatment of aftermarkets. And the second

5 are non-U.S. issues, that there are lower

6 dominance thresholds outside the U.S. And

7 indeed, there is the curious concept of

8 collective dominance, at least curious to a

9 U.S. antitrust lawyer outside the U.S., so

10 let me turn to those.

11 First I'd like to turn to

12 aftermarkets. As Patrick mentioned, this

13 comes from the Kodak case. There the

14 Supreme Court held that there was the

15 potential, not that it was always the case,

16 but the potential for there to be a single

17 brand parts and service market, even where

18 the company had a modest percentage and had

19 no monopoly power in the interband equipment

20 market. Here, Kodak had less than 25

21 percent, clearly in the safe harbor of the

22 interband photocopier market. Photocopiers

23 are often referred to as Xerox machines, not

24 Kodak machines. That's for a reason. They

25 didn't have market power. But they had a

55

1 very large share of an intrabrand parts and

2 service market for Kodak copiers.

3 Now, post-Kodak, there have

4 been a number of court cases interpreting

5 Kodak, and they have limited Kodak's

6 application in most circuits to a situation

7 in which there has been a change of policy

8 with respect to aftermarket sales of parts or

9 service. That however has not been uniform.

10 The Ninth Circuit is sort of an outlier.

11 All in all, what this does,

12 I believe, is create very significant

13 problems. All suppliers of capital goods are

14 exposed today to the notion of having to

15 worry about whether or not they fall under

16 Section 2 when they deal with parts and

17 services for the products that they sell.

18 And somewhat ironically, if

19 you have a modest market share, you're one of

20 the also-rans in the interbrand equipment

21 market, you may have a higher share of your

22 single-brand parts and service market for the

23 very simple reason that third parties tend to

24 focus on the most successful installed base

25 products to develop non-OEM parts and non-OEM

56

1 services.

2 So the competitor with ten

3 percent in the interbrand equipment market

4 may be more likely to have a monopoly sharebr>
5 of a single-brand aftermarket than the

6 leading firm in the interbrand equipment

7 market.

8 So this is a problem and

9 it's a problem because it chills conduct. If

10 you're going to counsel, what it does is it

11 really counsels you to adopt restrictive

12 approaches from the outset and not change

13 them. Because if you do that, you really

14 don't have to worry about having a problem inbr>
15 this area.

16 I think the outcome is an

17 incorrect one. It has been heavily

18 criticized by a number of esteemed

19 economists, many of which have either been

20 former heads of the economic part of the

21 antitrust division or the current head.

22 Professor Carlton, Professor Shapiro,

23 Professor Klein, and Professor Hovenkamp have

24 all criticized the Kodak decision with respect

25 to aftermarkets and suggested that it is

57

1 unnecessary and unsound.

2 And the Department of Justice

3 thought it was unsound in its amicus brief in

4 Kodak.

5 So I think what should be

6 clarified here is this notion of single-brand

7 aftermarkets. That concept from Kodak

8 should be overturned. The government should

9 give guidance, and should file amicus

10 briefs in courts to try to clarify

11 the law in this area.

12 The same thing should happen

13 in Europe. I have referenced comments by the

14 International Chamber of Commerce that are on

15 the DG Competition website with respect to

16 the Article 82 discussion paper which give

17 further reasons why there shouldn't be

18 single-brand aftermarkets.

19 Let's then turn to the issue

20 of monopoly power outside of the U.S. Here,

21 the International Competition Network has a

22 unilateral conduct working group, and it has

23 a draft report in-progress for its next

24 convention in Moscow. And what it has

25 found by surveying competition authorities

58

1 around the world is that generally, the

2 presumption of dominance, which is essentially

3 the non-U.S. equivalent of monopoly power, is

4 set at a 33 percent to 50 percent level.

5 Now, that's below what is essentially the

6 U.S. safe harbor level.

7 And what it does, of course,

8 in a global marketplace is tend to expose a

9 much larger number of leading firms to the

10 potential that you have to worry about

11 whether your conduct is going to be

12 characterized in these regimes as abusive, or

13 if you use the United States approach, as

14 exclusionary.

15 Now, there's one good thing.

16 There's also a trend towards taking a

17 behavioral approach, which is looking at the

18 ability to set market prices, the same

19 approach taken under Section 2 in the U.S.,

20 rather than a purely structural presumption

21 based on market shares.

22 I'd like to turn to another

23 problem that I think is one that should be

24 addressed. It's not a huge problem today,

25 but it's the concept of collective dominance.

59

1 The European Commission Article 82 discussion

2 paper talks about the fact that there can be

3 collective dominance simply in a

4 oligopolistic situation. You don't have to

5 have an agreement with your competitors as

6 long as a small number of firms control a

7 large combined share of the marketplace.

8 Then they can act in a way that supposedly

9 would abuse their collective dominant

10 position.

11 My sense is that this has

12 never been applied, as far as I know, but it

13 raises a real counseling concern. What are

14 you supposed to do if your rival raises

15 price? If all the other rivals in an

16 oligopoly do what they often do, and that is

17 match the price increase, have you then

18 committed and abouse of collective dominance?

19 If you have a policy of

20 having exclusive distributors and other

21 firms follow that policy because it's

22 efficient, have you violated collective

23 dominance? It's very hard to figure out how

24 to counsel. This is something that again,

25 isn't a real-world problem today, but I think

60

1 should be one that is nipped in the bud so

2 it doesn't become a real-world problem

3 tomorrow.

4 And then secondly, there's a

5 separate issue in the draft anti-monopoly law

6 in China in which a firm that isn't a

7 leading firm, and that's true of course in

8 the collective dominant situation. If you're

9 not the leading firm in the marketplace,

10 generally you don't have to worry about

11 unilateral conduct.

12 But if either an oligopoly

13 situation presents a problem or under the

14 draft law in China, if two firms have

15 two-thirds of the market or three firms have

16 three quarters of the market, and you're the

17 second-ranked firm or the third-ranked firm in

18 that situation, as long as you have more than a

19 10 percent share, it appears that all of the

20 firms are treated as dominant and subject to

21 the listed abuses.

22 This law hasn't been adopted.

23 It hasn't been interpreted. It's not clearbr>
24 what this means, but it's out there and it

25 poses a potential risk that it seems to me

61

1 the U.S. authorities ought to address and I

2 know in fact are addressing.

3 Let me turn to some of the

4 issues of conduct. The first one I'd like

5 to talk about are refusals to deal. And it

6 seems to me that this is an area in which

7 there is a real opportunity for clarity.

8 My colleague Mark Whitener

9 testified in the July 18 hearings on refusal

10 to deal and covered this at some length, I just

11 want to hit the high points. I'll refer you

12 to his testimony.

13 Basically, the law appears to

14 have evolved that an unconditional refusal to

15 deal, and from that I distinguish one that is

16 conditioned on taking a second product, which

17 is often referred to as tying, or a

18 conditional refusal to deal which says you

19 will deal with me, and you won't buy from

20 anyone else, usually called exclusive

21 dealing. Those things ought to be dealt

22 with, in my view an exclusive dealing or

23 tying. But if it's simply an

24 unconditional refusal to deal, I decline to

25 sell you the product, in those sorts of

62

1 situations it seems to me there should be a

2 per se lawful rule.

3 Now what the case law has

4 evolved in the Trinko decision is a notion

5 that the Aspen Skiing case is the outer

6 limits. And the Aspen Skiing case involved

7 a refusal to continue to deal after there

8 had been a voluntary cooperation with the

9 plaintiff.

10 And the problem that that

11 approach creates is obviously it causes people

12 to be incentivized not to deal in the first

13 place. The concern would be if that's the law,

14 you would never have had the all-mountain pass

15 in Aspen in the first place because the party

16 with the three mountains would have known not

17 to enter into the cooperation because it

18 could have been accused of violating Section

19 2 should it have wanted to reverse course

20 later.

21 This creates perverse

22 incentives, and there is of course the

23 entractible problem of remedies. Courts

24 simply aren't set up to deal with the

25 situation of how does one decide what the

63

1 terms should be, what the pricing should be.

2 This is another reason why if there's a

3 problem in this area, there should be

4 legislation and essentially a utility

5 commission set up. The antitrust laws and

6 the court shouldn't be handling this.

7 The same thing, I think, is

8 true of the essential facilities doctrine,

9 which is just another way of dealing with

10 unilateral refusals to deal. That doctrine

11 has been questioned by the Supreme Court, but

12 it seems to me the law could be clarified in

13 this area because the Court simply didn't

14 address it.

15 Let me then turn to another

16 area that's already been talked about a lot

17 today, and that is the area of bundled

18 discounts. It seems to me that although in

19 the afternoon session I know we're going to

20 hear a bit to the contrary, that unlike

21 predatory pricing, where there's some pretty

22 good and clear guidance about not pricing

23 below a measure of cost and the need for

24 recoupment, that in the bundled discounts, the

25 mixed bundling area, at the moment there is a

64

1 real need for clarity.

2 So what I want to do is

3 start with just asking some questions and

4 suggesting some responses that might create

5 clarity. The first one is can we identify

6 types of market situations where there just

7 isn't likely to be a problem.

8 And I highlight one of them,

9 Professor Barry Nalebuff, someone who has

10 written extensively about bundling,

11 suggested that in certain circumstances, at

12 least from an economic theory point of view,

13 it could create issues. But he's been very

14 clear that that only really happens in a market

15 situation in which the seller sets one price

16 for all buyers of the product. And it

17 doesn't happen in a situation in which there

18 is bidding on an individual customer basis or

19 negotiation on an individual customer basis.

20 If in fact that's a valid

21 distinction, having that kind of

22 clarification would be very important. It

23 certainly would be important for my client,

24 which generally engages in negotiated sales of

25 products rather than consumer products where

65

1 you often set one price for all.br>
2 Then another area is simply

3 do most of these cases really involve a

4 situation in which what is being alleged is

5 you have a company with monopoly power in

6 Market A that is bundling in order to try to

7 create power or effect a separate Market B.

8 If that's the case, then it

9 seems to me that an attempted monopolization

10 claim involving that second market is what is

11 really involved, and you have to look at

12 whether there is going to be a dangerous

13 probability of achieving monopoly power in

14 that second market. And others who have

15 testified have noted the importance of

16 showing not only a disadvantage to a

17 particular rival in Product B or the

18 competitive product, but also a realistic

19 threat of creating monopoly power in that

20 second product.

21 Now, after those threshold

22 issues, I guess one of the other questions is

23 what framework do you use to analyze these

24 bundled discounts or mixed bundling. And one

25 suggestion I guess I would like to throw out

66

1 for discussion is that these cases should

2 generally fall into one of two categories.

3 They ought to either be analyzed as tying, or

4 they should be analyzed as predatory pricing.br>
5 Again, Professor Nalebuff had talked about an

6 example in his testimony in which he said

7 well, predatory pricing really doesn't apply

8 in some of these kinds of scenarios because

9 there can be no-cost bundling. And his

10 hypothetical was one in which you took the

11 monopoly product and you raised the price of

12 the monopoly product well above the monopoly

13 price, and then you bundled using the

14 monopoly price as the price of the monopoly

15 good in the bundle, and then you priced in

16 the competitive product.

17 And he said in that

18 circumstance, well, no one would actually

19 take the monopoly product separately. Well,

20 at least from my legal standpoint, most

21 courts would treat that situation in which

22 the second product wasn't economically

23 available as a tying situation, in which you

24 were simply not selling the monopoly product

25 unless you also bought the other product in

67

1 the bundle. And in that situation,

2 particularly where you're involved with a

3 second market, you should be able to deal

4 with the screen of attempted monopolization.

5 You also of course can solve the problem by

6 making sure that the separate price is a

7 realistic price so that you avoid tying.

8 It seems to me then the

9 other cases are situations in which you

10 really are giving a discount off of the

11 monopoly price in an attempt to assist in the

12 sale of the competitive product.

13 And that sort of situation,

14 if that's what's really going on, you do have

15 discounting or loss on what you could

16 otherwise sell the monopoly product for. In

17 that sort of situation then the issue should

18 be a predatory pricing analysis.

19 Now one approach that

20 sometimes is taken is to look at -- and it's

21 been advocated, I believe, by Professor

22 Muris in an earlier hearing -- the price

23 of the bundle and compare it to the cost

24 of the bundle. In some situations that

25 may be an appropriate and realistic

68

1 approach.

2 Some criticism of that I

3 think by Professor Hovenkamp is a stylized

4 situation in which you have a monopoly

5 product with a large monopoly margin.

6 And if I simply took that margin and

7 didn't bundle it, but simply took those

8 profits and used it to discount the price of

9 the competitive product, I might clearly be

10 pricing the competitive product below my cost

11 for that product.

12 And I think the question is

13 why should the bundle situation be treated

14 any differently than the straight predatory

15 pricing discount on Product B.

16 In that stylized situation in

17 Product B, Professor Hovenkamp advocates in the

18 Ortho approach of attributing all of the bundles --

19 all of the discounts to the competitive product,

20 and if that's still above cost, I think provides

21 a helpful screen and safe harbor. That's one

22 area where there should clearly be

23 clarification.

24 But I think Professor Muris

25 pointed out several important qualifications.

69

1 It's a highly stylized situation in which

2 there is no competitor. There is an absolute

3 monopolist, and there is no one else selling

4 Product A.

5 When there are fringe sellers

6 of Product A, those fringe sellers can help

7 undermine the bundled price for the package.

8 There may also be situations

9 in which there is a bundle with two

10 competitive products, and it may be that the

11 plaintiff can only sell one of those, but

12 some other party can sell the second

13 competitive product. They can team together

14 and provide their own bundled discount. Or

15 particularly, when you've got sophisticated

16 customers, the customers can search the

17 marketplace and provide their own added ala

18 carte bundles. They will look at the price

19 of Competitive Offer X and Competitive Offer

20 Y and compare it to the bundle.

21 So this notion that it's a

22 problem if you ascribe all of the discount to

23 the price of the single competitive product

24 that perhaps the plaintiff or the complainant

25 is selling, I think is -- again, it's an

70

1 over-dramatic case. It shouldn't be a problem

2 if in doing that the resulting price would be

3 below cost. It shouldsimply be a safe harbor

4 if you're not below cost.

5 And then of course in these

6 situations since there's a loss, you really

7 ought to be able to look at recoupment. You

8 have to really look at that just like you do

9 in predatory pricing.

10 If you're losing money by

11 subsidizing the sale essentially of the

12 competitive product, how are you going to

13 make that back? And if you're not going to

14 force people to exit and if you're not going

15 to be able to later raise price in that

16 second market, the B market, the competitive

17 market, then there's not a prospect for

18 recoupment. And just because you have multiple

19 products, it shouldn't be treated any

20 different than Brooke Group, and you

21 shouldn't have a violation.

22 Real quick, I just wanted to

23 raise some questions about the 3M LePage's

24 case that Patrick talked about. In that

25 case, the case was litigated on the

71

1 assumption that there was only one market

2 involved, a market for transparent tape.

3 If in fact it had been

4 litigated on the assumption that there were

5 two markets, a market for branded tape and a

6 separate market for generic or unbranded

7 tape, then would there have been a

8 violation? Remember, the record showed

9 that the plaintiff, LePage's, still had

10 two thirds of the generic type sales.

11 Would there have been a dangerous

12 probability of success of achieving monopoly

13 power in that second market?

14 And if it's only one market,

15 I think one has to go back and look at

16 Professor Muris's suggestion that you look at

17 the cost of the bundle. Remember it's all

18 the same market. It's just two different

19 products in that market. And if the cost of

20 the bundle in that one market is above --

21 excuse me -- the price of that bundle is

22 above the cost of the bundle, should that be

23 a safe harbor in the single-market situation?

24 And then separately, if it's

25 all one market, would the same result have

72

1 been achievable just by discounting the

2 branded tape that was clearly sold at a large

3 margin above cost. But if we're assuming

4 it's one market and you've lowered the price

5 of the branded tape, presumably that would

6 have applied the same pressure to LePage's the

7 generic tape. Yet that clearly would have been

8 appropriate under Brooke Group. You're not

9 required to charge the monopoly price. As

10 long as you're just giving discounts on a

11 single product, that would be lawful. Would

12 that have had the same effect in LePage's?

13 And then I think finally, an

14 important part of this discussion -- and I

15 think it goes broader than that case. This

16 case is an example -- is what is achieved by

17 the rule. What would have been accomplished?

18 Would it have led to less discounting by 3M?

19 How do you deal with situations in which you

20 have leading or successful firms that you

21 want to compete on price?

22 If the only rule is that you

23 must discount on a product-by-product basis,

24 that may result essentially in less price

25 competition and may harm consumers because,

73

1 as people have speculated, 3M probably was

2 attempting not to reduce the price of its

3 successful branded tape, but trying to find a

4 way to incentivize customers to buy more

5 rather essentially than to switch their

6 purchases from branded tape to the 3M

7 generic tape.

8 If in fact you have rules

9 that limit the flexibility for leading firms,

10 you have to look at what the economic

11 consequences are going to be in the

12 marketplace and for consumers.

13 I think this highlights

14 one of the key areas. The hardest areas,

15 I believe, are situations in which

16 you've got a firm that meets the monopoly

17 power situation, and it engages in conduct

18 that someone wants to characterize

19 potentially as exclusionary. Is that simply

20 enough? What kind of impact is necessary or

21 harm to competition is necessary? Is a

22 scintilla enough, or does it have to be

23 actually a significant harm to competition,

24 or are you simply into a balancing test of

25 what is the benefit versus what is the harm?

74

1 Now, very quickly I'd like us

2 to cover one more point, which is on

3 exclusive dealing, another area that could be

4 clarified, and it does come up in the

5 counseling context often. And that is a

6 situation in which there would be exclusive

7 dealing, which in a variety of contexts might

8 be viewed as exclusionary conduct, but the

9 exclusive dealing is at the behest of the

10 customer. The customer comes and says, I

11 think the best way to get the best price and

12 the best terms from my suppliers is to hold a

13 winner-take-all competition. So I'll invite

14 everyone in and say, I'm going to buy all of

15 my needs for the next three years from the

16 party that gives me the best offer. And

17 in that situation, I don't believe that even

18 if you're the leading firm and even if you

19 have monopoly power there should be a problem

20 in competing and winning that kind of

21 contract.

22 And it seems to me that kind

23 of clarification will assist in counseling

24 and will assist customers in getting the best

25 deal they can in the marketplace, which is

75

1 what the antitrust laws are designed to

2 promote.

3 So in conclusion, I want to

4 reinforce where I began. Clear administrable

5 and objective rules are extremely important,

6 and I hope they are the output of these

7 hearings.

8 I made several modest

9 suggestions about ways in which the rules

10 could be clarified. The first would be to

11 clarify Copperweld so that you know when

12 you're engaged in single-firm conduct.

13 Whenever you've got more than a 50 percent

14 share of the voting securities, the parent

15 and all of those subsidiary corporations

16 should be one company.

17 Secondly, the aftermarket

18 exception, the monopoly power rule. The

19 notion that there are single intrabrand parts

20 and service markets creates lots of

21 counseling problems and lots of issues, I

22 think, for consumers and competition. I

23 think that ought to be overruled. And I

24 think that the DOJ and the FTC should

25 advocate that.

76

1 I think all unconditional

2 unilateral refusals to deal should be treated

3 as per lawful, whether they involve

4 intellectual property or not. That should be

5 clarified. That should be advocated to the

6 courts. That should be advocated in

7 international settings.

8 There are a number of ways I

9 suggested in which the treatment of bundled

10 discounts could be clarified. And finally,

11 this idea of customer-initiated exclusive, I

12 think a very simple, straightforward,

13 helpful, practical clarification.

14 Then I just want to

15 underscore I think it's very important that

16 we take the step of clarifying the U.S. law

17 both at the Agency level for their

18 enforcement discretion to go the next step

19 which both agencies have done an excellent

20 job of moving the agenda in the courts

21 through amicus brief process and getting a

22 number of key clarifications. I hope there

23 are more at this term with the cases that

24 are pending.

25 And then finally, continuing

77

1 to be active in bilateral discussions with

2 other competition authorities and being a

3 leader in the international competition

4 network. Thank you.

5 (Applause)

6 MR. TARONJI: Thank you, Ron.

7 We're going to take a 15-minute break and be

8 back here at 11:15.

9 (Break taken)

10 MR. TARONJI: Well, thank

11 you. The first thing I would like to do is

12 offer each of the presenters an opportunity

13 to comment on what they've heard from the

14 other panelists. Let me start in order.

15 David.

16 MR. BALTO: You know, it's

17 hard for me to comment on the terrific

18 presentations of these two speakers. You

19 know, generic -- let me make a simple point.

20 Generic drug companies are almost never

21 dominant. We're in like the most intensely

22 competitive market. In any generic drug

23 category you're certainly going to have five,

24 six, seven competitors. Prices quickly

25 computed down to marginal costs. So the

78

1 headaches my colleagues have to live with I

2 don't really have to deal with.

3 I do have a little concern

4 about one suggestion that Ron made, however.

5 The idea that we should have a safe harbor

6 for customer-instigated exclusive dealing. I

7 just know from my experience in the

8 enforcement agencies, you know, you'd always

9 walk in there, and oh, you would have

10 anticompetitive conduct investigations. And

11 the parties would say, oh, customers really

12 wanted this.

13 Well, you know, when you

14 actually sat down and were able to go and

15 interview the customers you found out that,

16 you know, they wanted it only because their

17 arm was being twisted in a significant

18 fashion.

19 And also sometimes the

20 interests of customers aren't really in

21 confluence with the interests of consumers.

22 And I think one of the kinds of practices

23 that a lot of the previous speakers at these

24 hearings have identified, some of the kinds

25 of practices they've identified are

79

1 situations where basically a dominant firm

2 agrees to share its monopoly profits with its

3 customers in order to keep rivals at bay.

4 And you know, believe me, the customers like

5 those situations, but I think those

6 situations still can be harmful to consumers.

7 MR. TARONJI: Patrick.

8 MR. SHELLER: Really the only

9 comment I'd like to make is one of gratitude

10 to Ron. I suggested a number of problems

11 that we at Kodak are facing because of some

12 of the ambiguities in the law relative to

13 bundling and also the law relative to

14 aftermarkets. And I thought Ron made some

15 very viable suggestions that could help maybe

16 clear up some of those ambiguities. So thank

17 you, Ron.

18 MR. TARONJI: Ron, your turn.

19 MR. STERN: Well, thank you,

20 Patrick. Let me comment just briefly on

21 David's presentation. I'm not particularly

22 familiar with the pharmaceutical area,

23 although as an antitrust lawyer these days

24 you have to end up having some familiarity

25 because there's so much activity in the

80

1 pharmaceutical area.

2 It just struck me that it

3 was a situation in which perhaps it called

4 out for regulatory reform to address many of

5 the issues that David was talking about

6 rather than having the antitrust laws and

7 the court bear the entire burden in this

8 area.

9 It is one in which, of

10 course, there are large expenditures made and

11 large amounts of money at risk when the

12 patent protections go off. And obviously

13 that causes people to look for opportunities

14 to continue to make the profits during the

15 protected time period. And again, regulatory

16 reforms may be a better solution.

17 With respect to his sham

18 petitioning point, it seems to me again this

19 is an area simply in which clear rules would

20 be important. I don't think anyone would

21 deny the importance of First Amendment

22 petitioning or the basic soundness of the

23 Noerr-Pennington Doctrine.

24 So if there is going to be

25 greater emphasis placed on some sort of

81

1 exception to that exemption, then it seems to

2 me it needs to be a clear one so that people

3 can counsel and take advantage of the

4 governmental processes and the First

5 Amendment in an appropriate way and keep

6 one's clients out of a situation in which

7 they expose themselves to government

8 investigations and treble damages lawsuits.

9 And to his other point, if I

10 could take a moment on the customer-driven or

11 customer-initiated exclusives, I take his

12 point that there can be seller-initiated

13 customer demand, and that's a fact issue.

14 But it's sometimes very clear if a customer

15 puts out an RFP and there haven't been any

16 private discussions, that it's customer

17 initiated and that's the way this will

18 happen, I believe in a number of contexts.

19 And if in fact you can -- you know, a seller

20 tries to undermine the process by promoting

21 or encouraging or incentivizing the customer

22 to make such a request, you know, I think

23 that can be addressed and dealt with.

24 MR. TARONJI: I'm going to

25 start off with some general questions, then

82

1 we'll move to some of the conduct-specific

2 questions that we talked about. And I'd like

3 to talk about counseling.

4 As a person who has given

5 antitrust advice on the type of business

6 conduct your company can or cannot engage in,

7 have you found that there are specific types

8 of conduct where the state of jurisprudence

9 is such that your legal advice is either one,

10 particularly easy to give and apply; or two,

11 particularly difficult to give and apply?

12 Let me start with you Ron, and then I'll go

13 with Patrick.

14 MR. STERN: Great. I'll be

15 brief because that's mostly what I talked

16 about.

17 It seems to me in the U.S.

18 it's not difficult to apply the monopoly

19 power threshold element these days. At least

20 I haven't found it inordinately difficult.

21 In tying, it's pretty easy to counsel as to

22 when you are or are not engaged in tying.

23 You have some other issues, if you are

24 engaged in tying, to evaluate whether the

25 conduct is exclusionary or not. And as I

83

1 mentioned in predatory pricing, I think

2 there's some pretty clear guidance.

3 The difficult areas are the

4 ones I mentioned regarding bundled discounts,

5 refusals to deal, and the thorny problem of

6 aftermarkets. So that would be my list.

7 MR. TARONJI: Okay. Patrick.

8 MR. SHELLER: I would echo

9 what Ron said. You know, we don't seem to

10 have too much difficulty indentifying the

11 market monopoly power threshold, in the

12 U.S. anyways. That becomes more of a

13 challenge when we counsel clients outside

14 the U.S.

15 Tying, as I said in my

16 remarks, used to be an easier area in which

17 to advise. But now, as I said, I think the

18 line between tying and bundling is blurred

19 because of the LePage's case. So today we have a

20 have a lesser degree of confidence in couseling

21 on tying arrangements.

22 Exclusive dealing, predatorybr>
23 pricing, I think the standards in those areas

24 are fairly well established by the courts and

25 by the agencies.

84

1 The other area where we

2 find challenges under Section 2 are the

3 catch-all "other exclusionary" practices

4 where you can have problems. There are

5 cases like Conwood where the conduct was

6 so egregious that you don't have too much

7 trouble advising the client not to, e.g.

8 tear down a competitor's store

9 displays.

10 But what other sorts of

11 aggressive marketplace conduct that doesn't

12 fall into the categories that we've just

13 listed could offend Section 2? I think

14 in many of these areas the law is either

15 undeveloped or not developed to the extent

16 where you can confidently advise. I mean, for

17 example, how do you advise a client that has

18 a relatively high market share with regard to

19 how many of its competitor's employees they

20 could hire? And that's an issue that has

21 been litigated to some extent, but I thinkbr>
22 the lines are very unclear in that

23 area.

24 MR. TARONJI: Okay. Great.

25 And David, feel free to jump in whenever you

85

1 want to.

2 How do businesses such as

3 yours respond to variations among different

4 countries' competition laws with regard to

5 single-firm conduct? Specifically, do

6 international businesses decentralize decision

7 making on business conduct to adapt to a

8 foreign jurisdiction's competition laws?

9 Patrick, from Kodak's

10 standpoint as a chief compliance officer and

11 ensuring that Kodak is complying with allbr>
12 laws in all jurisdictions where you operate,

13 how do you make those decisions where the

14 standards may very well be different from one

15 jurisdiction to the next?

16 MR. SHELLER: Well, we're

17 definitely in the decentralized model.

18 We have in-house counsel in most of the

19 major markets around the world. So we

20 rely very heavily on their advice.

21 However, there are

22 circumstances where a business client

23 may at the worldwide level bebr>
24 considering a program that, at least based

25 on our limited knowledge of the

86

1 standards overseas, might pose problems,

2 although they wouldn't in the U.S.

3 So we do have a bit of

4 centralized thinking in the international

5 area. I was fortunate enough to have spent

6 four years in Europe working as an in-house

7 lawyer for Kodak, so I was able to pick up

8 some of the thinking in competition law area.

9 And I have a pretty good sense of what might

10 offend the European Commission laws. But

11 beyond that, we really, as I said,

12 do rely on our oversees colleagues.

13 MR. TARONJI: And Ron, I

14 assume General Electric is organized much

15 along the same lines?

16 MR. STERN: Well, General

17 Electric is decentralized. As people know,

18 there are multiple General Electric

19 businesses, each with their own CEO and own

20 legal department. But there is sort of

21 global assistance in the competition area,

22 which is sort of what I and a small group of

23 my colleagues do.

24 And I would say that this

25 question is a good one, and for G.E. it

87

1 varies. There are a number of businesses

2 we're in that are truly global businesses

3 where you really need to counsel on a global

4 basis rather than individualize.

5 The customers may be in

6 different jurisdictions, but it's probably a

7 global market, and you really can't go

8 through the time and effort to try to figure

9 out about extra-territorial application of

10 the various laws.

11 So you try to counsel to

12 sort of an international standard, always I

13 think being concerned about the U.S. being

14 necessary, because of the unique treble

15 damage exposure and litigation costs in the

16 U.S. But not sufficient, because you really

17 want to make sure that you're meeting any

18 more restrictive requirements in other areas.

19 If we had it, which we do,

20 businesses that operate much more locally,

21 and their conduct clearly is only going to

22 affect a particular jurisdiction, you can be

23 confident of that, then you can get more

24 localized advice about the actions that will

25 just affect that jurisdiction with a key

88

1 caveat, and I think this is important for

2 everyone to recognize. Certainly, General

3 Electric, and I expect many companies'

4 business executives and even mid-tier

5 employees move from country to country.

6 Organizations change so that an organization

7 that used to operate only in countries A and

8 B the next day operates in countries A, B,

9 C, and D. You don't have time when you're

10 counseling to readjust everyone's headset

11 when you don't know when they move.

12 So I think it's quite

13 important in fact to avoid issues and to

14 sensitize people to counsel to a norm because

15 it's simply not efficient and it's dangerous

16 in the long run to try to sort of say there's

17 no competition law in country X or no enforcement,

18 and so we can do as we please, even though

19 we know in a neighboring jurisdiction where

20 generally that conduct is likely to provoke

21 investigations or litigation.

22 MR. TARONJI: In looking at

23 whether you can come up with a uniform

24 standard for counseling purposes, do you trybr>
25 to determine what is the most restrictive

89

1 provision out there and counsel toward that,

2 or do you go back and again look at the

3 specific situation and look at it country to

4 country and advise accordingly?

5 MR. STERN: I think in

6 general you do both. You try to make sure

7 that you come up with something that's

8 simple. The idea of clear and understandable

9 rules is important because you have to be

10 able to give clear and understandable advice.

11 If you're giving advice that's too

12 complicated to business people, you have to

13 realize that there's a large risk that the

14 execution will not be in conformity with the

15 advice. And if that's a problem, then you've

16 created a problem for the client.

17 So it seems to me that in

18 these sorts of situations, you really are

19 looking for some sort of uniform standard.

20 And if in fact there is a more restrictive

21 approach taken by an important jurisdiction,

22 one that is likely to have either private

23 enforcement or government enforcement, even

24 by way of investigation, then you try to find

25 a way in which you're going to be in some

90

1 sort of comfortable, clear, safe harbor zone.

2 And only if that creates real problems with

3 achieving what you think is a legitimate

4 business objective, are you able to spend the

5 extra time and effort to see if you can

6 design something that's more complicated.

7 So I think the concern that

8 I was trying to express about the need to

9 address this globally is that U.S. legal

10 clarity at least in a number of areas, could be

11 overridden by a lack of clarity or by overlybr>
12 restrictive rules outside the U.S. and the

13 harm could come to U.S. consumers as well as

14 those in other areas.

15 MR. MATELIS: Do you have

16 anything to add, Patrick?

17 MR. SHELLER: We also take a

18 slightly different approach which is to start

19 with analyzing proposed plans under the U.S.

20 standard. And assuming that we can give the

21 green light from a U.S. antitrust

22 perspective, then the next step would

23 would be to look at whether there are

24 nuances under European law that might

25 create a problem. Then we'd seek advice

91

1 from our European counsel on those

2 particular aspects.

3 And you know, increasingly

4 now we'll look at some of the bigger markets

5 and their antitrust enforcement. Ron spoke a

6 little bit about the anti-monopoly law in

7 China. We'll be keeping a close eye on

8 developments there. And as that unfolds, it

9 will be an important area that we'll focus on

10 in our antitrust counseling.

11 But as the starting point,

12 we typically begin with the U.S. standards.

13 MR. MATELIS: I have a

14 question about clear rules. Ron and Patrick,

15 in your remarks you both stressed the

16 virtues, from your perspective, of clear

17 rules in the Section 2 context.

18 David, in your remarks you

19 sounded a provocative cautionary note that

20 maybe clear rules have some drawbacks. And

21 I'd just like to get all of your perspectives

22 again on a very basic question. What are

23 the pros and cons that policy makers and

24 courts should be thinking about when

25 articulating rules? Maybe we could start/td>

92

1 with you, David.

2 MR. BALTO: I actually was

3 interested in Ron's presentation. I thought

4 the questions he posed were really good ones.

5 But I sat there looking at the issues that

6 Ron was posing and I said, now, what exactly

7 is the rule in some of these situations that

8 Ron wants that's going to make his life so

9 much easier in counseling people?

10 And I think that to the

11 extent that it's a rule that's going to make

12 Ron's life simple, Ron's life -- you know,

13 Ron will be able to sleep at night because

14 he knows he can give a clear message to the

15 business person, and the business person can

16 follow it in a relatively straightforward

17 fashion, you know, I'm not sure that that's

18 really going to happen. In many of these

19 situations, I think that if there is -- there

20 is potential for anticompetitive conduct.

21 You know, you can look at

22 the full range of things that Microsoft did

23 that the Justice Department properly attacked

24 in their lawsuit against them. And if you

25 looked at them in segregation, you might be

93

1 able to determine that there would be a clear

2 rule that would suggest this kind of conduct

3 might seem to be legal. But if you put all

4 of the types of conduct together, you could

5 see why the conduct was really problematic.

6 So I'm a little hesitant

7 about clear rules. And for my perspective, I

8 mean the clear rule, everybody in the world

9 -- you read the hearing transcripts for these

10 hearings, the clear rule everybody loves is

11 Brooke Group and predatory pricing.

12 And one of the most important

13 points I want to make is in industries such

14 as pharmaceuticals, going and talking about

15 whether something is below your variable cost

16 is a meaningless concept because all the

17 costs are up front. So I don't think that

18 rule -- that rule bears too great a risk of

19 under-enforcement, which ultimately will harm

20 consumers.

21 MR. SHELLER: Well, as I

22 indicated in my remarks, we would certainly

23 favor clear rules in the Section 2 area for

24 a couple reasons. One is that it does

25 make the in-house counsel's job easier. They

94

1 can draw brighter lines for the client.

2 Second, I think it's

3 important because it helps to make the

4 antitrust laws appear more serious to

5 business clients. If a business client is

6 told that there's no real clear legal

7 standard in the area where you're proposing a

8 particular marketing plan, but here's some of

9 the factors that we might consider,

10 their reaction is likely to be: we might

11 as well take the risk then. And so I think

12 setting out clear rules helps business people

13 to follow the antitrust laws.

14 I would, however, note a

15 caution that safe harbors in the form of

16 guidelines can be can be helpful, but

17 they can also in some ways be unhelpful.

18 And I'll give as an example the European

19 block exemption on technology transfers

20 and some of the safe harbors that are built

21 into that exemption relating to market share.

22 The market share thresholds that the

23 Commission uses are very low so that almost

24 any transaction you would consider in the IP

25 area is going to be outside of the

95

1 thresholds. It's not helpful to set a

2 threshold that low. It's too conservative.

3 The Commission does provide

4 some other factors and guidelines that

5 companies should consider. But I think it

6 sort of undermines the benefit of providing

7 guidelines when you set thresholds that are

8 too low.

9 MR. STERN: Just comment

10 briefly. I do think clear rules are

11 important. I don't think there's a one size

12 fits all rule, to respond to a point I think

13 David made. I don't think it's a situation

14 in which you need to have one principle

15 that you use across all of the types of

16 exclusionary conduct in Section 2.

17 I think it is important

18 obviously that the clear rules also be

19 thoughtful, or they can do more harm than

20 good. And I think what you're really looking

21 for are principles that you can apply,

22 understand, counsel to, and have some sort of

23 confidence that the business can execute to

24 them and that the courts and the enforcement

25 agencies can predict -- you can predict how

96

1 they're going to apply them. And that's

2 really what I think we're searching for.

3 And I think as my talk

4 indicated, I'm happy to have them addressed in

5 little half steps that do things that seem

6 perhaps unimportant to some but are important

7 in the real world. I think those steps are

8 important and should be taken and not taken

9 for granted.

10 And secondly, I agree very

11 much with Patrick's point. People need to

12 look at guidance that's meaningful. Safe

13 harbors that do nothing to clarify the

14 situation because they only exist in

15 situations in which you never anywhere have

16 monopoly power are useless. It doesn't

17 really help you. But meaningful safe harbors

18 and ones that are understood not to define

19 the line between legal and illegal, but to

20 simply define and clarify what is clearly

21 legal and not questionable are very

22 important.

23 MR. COHEN: Let me just

24 return to David because you've for a second

25 time referred to your thought that relying on

97

1 average variable cost just doesn't work in

2 the pharmaceutical industry as a test of

3 predation. Do you have an alternative to

4 that? And would any of these alternatives

5 guide a firm with a large market share in

6 determining what conduct it can engage in

7 that increases its revenues in ways that have

8 nothing to do with excluding competitors?

9 MR. BALTO: Well, I think

10 the answer to the second part of your

11 question is no. I'm more concerned about

12 possibly -- about our properly identifying

13 anticompetitive conduct and stopping it. And

14 the counseling question I'm going to sort of

15 leave to the side.

16 I look forward -- as to the

17 first question, are there other standards, I

18 look forward to the presentation that the

19 representative of American Airlines is going

20 to bring about the Justice Department case

21 this afternoon.

22 I think some of that same

23 problem of high fixed costs, low variable

24 costs were grappled with by the Justice

25 Department in that case. I think because of

98

1 that there is increasingly interesting

2 economic literature that uses -- that talks

3 about the use of predation, the use of

4 above-cost price -- of certain pricing

5 strategies to create a reputation for

6 predation and how that kind of predation can

7 be anticompetitive. And you know, I think

8 that's something that I know the courts and

9 the agencies need to explore further.

10 MR. STERN: Can I just

11 comment just for a second?

12 MR. TARONJI: Go ahead.

13 MR. STERN: I'm sure the

14 economists who have participated in these

15 hearings or will participate in later

16 hearings or comment at the two hearings will

17 know much better than I do.

18 But it seems to me at least

19 it's a bit simple to say because variable

20 costs are low and fixed costs are high that

21 that standard doesn't work. It seems to me

22 in that context what it really means is that

23 there's very little likelihood of exit

24 because people are committed in the market

25 and they've sunk their costs. And in that

99

1 situation it's not clear how you end up with

2 recoupment or whether you really have a

3 problem.

4 And I don't purport to have

5 the answer, but it seems to me it's a bit

6 too facile to simply suggest that because

7 average variable costs are low that the

8 standard shouldn't be used.

9 MR. BALTO: Let me just

10 mention an area that I've written on and that

11 the FTC is currently studying. That's the

12 issue of authorized generics, which I

13 deliberately kept out of my testimony because

14 there's a fair amount written about this.

15 An authorized generic is an

16 arrangement between a branded pharmaceutical

17 company that they enter into with another

18 generic company to promote the entry of a

19 second generic just prior to or immediatelybr>
20 with the entry of the legitimate generic

21 company. In other words, it's mother one of

22 those situations where the generic is placed

23 into the market it plans to -- you know, it

24 plans to enter. And under the FDA

25 regulations there's is six-month period of

100

1 exclusivity, which is the vast majority of

2 the profits that a generic company makes when

3 it enters into a generic market. And I've

4 written about how this sort of strategy of,

5 you know, making a deal with still another

6 generic company to enter at the time of the

7 legitimate generic's entry can be a strategy

8 of predation. All the pricing is above cost.

9 I think the pricing is meaningless.

10 But what's important about it

11 is that what you're doing there is sending a

12 signal to the generic firm that it's -- you

13 know, if you plan to enter my market, you

14 can expect the rug to be pulled out from

15 under you, and you're not going to get the

16 reward you're expecting to get.

17 And I think it's much more

18 interesting to look at it from a certain

19 strategic perspective.

20 MR. TARONJI: As you know,

21 antitrust lawyers and judges are battling

22 over how much weight to give to business

23 documents, from strategic plans to e-mails

24 and sales and marketing personnel.

25 What consideration should

101

1 antitrust enforcers and courts give to intent

2 documents in assessing a firm's conduct?

3 MR. SHELLER: I'll start out

4 with that. My view is that business intent

5 documents have a role in attempted

6 monopolization cases, and that is primarily

7 it. There are ways in which you might use

8 business documents in monopolization cases.

9 But I think they need to be considered in

10 terms of who wrote them.

11 Often plaintiffs' lawyers,

12 and to some extent the agencies, will rely

13 on a bad document that might have been

14 written by someone at a lower level in the

15 organization. And it's really a statement of

16 opinion.

17 Obviously it's not something

18 we as in-house antitrust counsel want to see

19 from our clients. And we advise them not to

20 write in that sort of manner. But you have

21 to ask the question whether those views that

22 are stated by a sales representative or a

23 sales manager represent the views of the

24 company.

25 On the other hand, if you

102

1 have clear statements being issued in

2 internal documents by a corporate officer,

3 for example, or the head of a business, then

4 obviously that document ought to be given

5 more weight and might be of more value in a

6 Section 2 case. But again, I think documents

7 play the most important role in attempt

8 cases.

9 MR. STERN: And I'd just

10 add very quickly that it seems to me that

11 objective standards are better than

12 subjective ones. It's too easy in a large

13 organization to find the snippet in a

14 document and try to make that mean

15 something more than it does, not in

16 context.

17 And what the law wants

18 people to do in business is to compete

19 aggressively and attempt to win in the

20 marketplace. And that can be expressed in

21 a way certainly if a lawyer writes it so

22 that everyone would think it doesn't pose

23 an intent problem. And that same kind of

24 intent or motivation can be expressed

25 in a way that someone might make more

103

1 out of it than I think they should.

2 MR. COHEN: Would your

3 suggestion to look at, in the exclusive

4 dealing context, whether the policy is

5 customer driven or driven by other internal

6 motives take you into the area of looking at

7 intent documents?

8 MR. STERN: I don't think

9 so. I think they might get you into the

10 area that David talked about of seeing who

11 actually initiated it. If the customer put

12 out the RFP that I mentioned seeking a bid

13 for all of their demand for three years, if

14 in fact there were documents that showed that

15 this was the initial idea and that they were

16 essentially compensated for deciding to do

17 that by the lead provider in the marketplace,

18 that's, I think, the kind of situation David

19 was talking about. And I don't think that's

20 an intent issue. It's really: Was this the

21 customer's initiated approach or was this

22 essentially a supplier- initiated approach?

23 It doesn't have to do with whether the intent

24 for the exclusive was pro-competitive or

25 anticompetitive.

104

1 But it does, to be clear and

2 sort of to finish the thought, the general

3 notion is that a customer will not go out

4 and seek, you know, this kind of

5 winner-take-all situation unless the customer

6 thinks it's going to benefit by it.

7 In general, since the law is

8 trying to promote customer welfare, the

9 customer presumably would think it had enough

10 competition and that by putting its demand

11 out to this kind of winner-take-all bid that

12 it wasn't changing the structure of the

13 marketplace to its long-term detriment.

14 MR. TARONJI: Well, I want

15 to make sure that with the remaining time we

16 have the opportunity to cover some of the

17 substantive conduct issues. And let me go to

18 bundle discounts.

19 Does market share provide a

20 useful screening mechanism for assessing

21 loyalty discounts? And then I've got some

22 subsets, so let me ask all of them and then

23 you can comment on all of them.

24 Could we state a useful safe

25 harbor based on market share; and if so, what

105

1 should that share be?

2 MR. SHELLER: Let me address

3 the question on loyalty discounts, which I

4 distinguish from bundling in some respects. I

5 think loyalty discounts can be an issue under

6 Section 2 if they're really equivalent to

7 exclusive dealing. If a customer is

8 given a significant discount if they buy 100

9 percent of their needs from the dominant

10 supplier, then I would agree with the view

11 that the European Commission takes: that

12 this is tantamount to an exclusive dealing

13 arrangement.

14 Therefore, market

15 share thresholds could be important.

16 100 percent exclusivity is obviously a good

17 indication that you've got exclusive dealing.

18 Whereas, if the supplier through a loyalty

19 discount tied up say 70 percent of the market

20 or 60 percent of the market, then you're less

21 likely to have competitive harm. There would

22 still be opportunities for rivals to place

23 their products with that particular customer

24 as well as other customers.

25 MR. STERN: I guess my

106

1 reaction is that the term loyalty discounts

2 encompasses so many different kinds of

3 pricing practices and so many different

4 situations that I would be hesitant to

5 provide one market share test to address it.

6 You know, just -- Patrick had mentioned the

7 European Commission. In their Article 82

8 discussion paper they, I think, appropriately

9 draw a distinction between a situation in

10 which the different competitors, the

11 suppliers can essentially compete to supply

12 the entire demand of the customer or the

13 entire demand in the marketplace versus a

14 situation in which, I think as they express

15 it, the customer must carry a certain

16 percentage of the leading firm's products.

17 That's more of a distribution kind of a

18 situation. Those two are sort of night

19 and day different. And you would think in a

20 loyalty discount situation, you would want to

21 be treating them very differently.

22 To Patrick's point, you know,

23 are they equivalent of exclusive dealing, or

24 are they essentially just competing for the

25 opportunity and competing aggressively and

107

1 above cost, in which case the loyalty

2 discount wouldn't be a problem.

3 For these hearings,

4 I went back and read some cases I'd read

5 before the Concord Boat case. And in

6 that situation it seemed important to

7 the Court, and I think validly so, thatc

8 a number of customers had decided that

9 they could switch all of their demand away

10 from Brunswick, who was the leading engine

11 supplier, to their rivals depending on

12 what kind of deal they got. In that kind of

13 situation, you know, having a loyalty or a

14 market-share-based discount was just one way

15 of competing, which is what the Court

16 determined, and it was above cost. So that

17 would be my long-winded answer which is it

18 depends.

19 MR. TARONJI: David, in your

20 presentation you suggested that the generic

21 pharmaceutical industry is different, and so

22 the standards, rules, guidance should

23 take into effect that the pharmaceutical

24 industry is different. How should the

25 enforcement agencies take that into account?

108

1 MR. BALTO: Well, you know,

2 it's interesting if we really got into a long

3 discussion of these -- you know, these

4 different types of arrangements like tying,

5 bundling, loyalty discounts, so on, some of

6 the key cases involved pharmaceuticals and

7 medical devices. Smith Klein versus Eli

8 Lilly which involves, you know, a special

9 pricing program to sort of compel people to

10 purchase three drugs instead of two drugs.

11 Ortho versus Abbott, which involves, you

12 know, sort of market share discounts and so

13 on and so forth.

14 I think -- I'm not sure that

15 in this area the rules need to be that

16 different. I think it's just it's easier in

17 this setting involving pharmaceuticals to

18 identify the existence of an inelastic class

19 of customers. And you know, most of the

20 literature in this area suggests that it's

21 necessary to have some set of inelastic

22 customers.

23 But I'm still waiting for

24 Patrick and Ron to give me the market share

25 threshold that makes it a safe harbor.

109

1 MR. STERN: Well, I go back

2 to the comments I made in my presentation.

3 Oftentimes, if we are really talking about

4 what is the market share of the party that's

5 engaged in the conduct, you can go back to

6 the monopoly power test and those thresholds

7 and to the attempt threshold and the other

8 aspects, as opposed though if we're asking at

9 what level of market share can you set a

10 market share-based discount. That, I think,

11 is hard to say if you don't know what the

12 context of the particular market is.c

13 MR. BALTO: Can I pose a

14 question for Patrick then? One thing I think is

15 really interesting when you look at jurisprudence

16 in this area is that the courts use this very

17 hard threshold on Section 1 cases, you know,

18 when it looks at bundling or market share

19 discounts. And you know, you look at the

20 lower court's decision in Microsoft.

21 But when it comes to Section

22 2 they become more touchy feely and seem to

23 be willing to project the potential for

24 competitive problems even at lower market

25 shares. And that's basically what happens in

110

1 Densply and Microsoft and in LePage's.

2 You know, from a business's

3 perspective, how do you sort of look at that?

4 MR. STERN: Well, I'll step

5 up to that one. It seems to me it was the

6 comment I was trying to make when I was

7 asking some questions about 3M LePage's.

8 I think the most difficult

9 area to counsel in, just because I think the

10 law isn't very clear and helpful, and the

11 jury instructions aren't very helpful is a

12 situation in which you are clearly in a

13 category where you have monopoly power. You

14 meet that threshold. You're taking conduct

15 that either involves exclusive dealing or

16 some other type of conduct that the law can

17 characterize as being exclusionary, and then

18 the question, as I think I mentioned is,

19 well, what sort of impact does that have to

20 have?

21 And I think in the Section 2

22 context your comment is correct. We don't

23 have as much guidance. There is some notion

24 that -- which I think shouldn't be the case,

25 that if you're a leading firm, you have to

111

1 act differently in some sort of way. That

2 notion is reflected in the European community

3 law with respect to some special

4 responsibility, and some of the older case

5 law affirms they're deemed to be dominant.

6 I think in this situation,

7 one of the areas that the hearings could

8 benefit everyone is grappling with the issue,

9 particularly in the area of pricing, which I

10 think everyone is focused on of guidance and

11 rules that make sense for firms that are

12 leading firms, that you want to compete

13 aggressively in the marketplaces in which

14 they are leading firms because that is

15 overall beneficial. But if in fact anything

16 that might be characterized as too aggressive

17 or characterized as exclusionary can be

18 subjected to treble damages and a big

19 monopolization investigation, all you're going

20 to do is get people to pull their punches to

21 the ultimate harm of consumers and

22 competition.

23 I think it's the same problem

24 as I tried to illustrate with rules that turn

25 on whether you've started to deal with

112

1 someone or not, because they give you

2 perverse incentives at the end of the

3 day.

4 MR. SHELLER: I think the

5 market share test has limited value. I mean,

6 it's a good starting point in which to advise

7 clients. But what I tend to look at more

8 often are other factors like whether this

9 particular business has the ability to

10 control prices in the market.

11 I'm thinking about a

12 specific example of a business that I've

13 advised at Kodak which is considered to have

14 a high market share for a particular segment.

15 But I know from experience in working with

16 the business, that if they were to raise

17 their prices by five percent, we'd see

18 an influx of customers turning to competing

19 suppliers. So in that sense I don't think

20 the market share that's attributed to that

21 business is a valuable indicator of market

22 power.

23 And the other thing is the

24 point that I made in my remarks which is

25 that although you may have businesses in

113

1 Kodak's world which are beginning to

2 lose share to other technologies, you've

3 got to take those technologies into

4 consideration in determining whether you've

5 got a Section 2 case or not and whether

6 those technologies ought to be included in

7 the market.

8 MR. STERN: And just to add

9 to Patrick's point, because I think it does a

10 good job of illustrating one of the earlier

11 questions about clear rules. I think it's --

12 the clear rule about the ability to control

13 market prices, that may not sound as clear,

14 but I think antitrust lawyers and clients can

15 work off of that kind of rule versus one

16 that had some hard and fast market share

17 threshold as if that were a clear rule.

18 First, I think it's not a

19 thoughtful one, as I mentioned, to have a hard

20 and fast market share threshold. And

21 secondly, it gives, I think, a false sense of

22 clarity because it's all, of course, how you

23 define the market and how you define the

24 shares.

25 Having a clear principle

114

1 about one's ability to control market prices,

2 it seems to me, is one you can apply in a

3 market context and give -- be fairly

4 comfortable about giving advice. And that's

5 why I think it's important in the globalbr>
6 context that people move more towards this

7 kind of behavioral approach rather than a

8 structural approach.

9 MR. TARONJI: Let me end on

10 one question dealing with misleading and

11 deceptive conduct.

12 Do you agree that if tortious

13 conduct can be the subject of other causes of

14 action or regulated under other regimes such

15 as Food and Drug Administration, it should

16 also be the subject of antitrust causes of

17 action? I figured David had a strong feeling

18 about that one.

19 MR. BALTO: Yeah, absolutely.

20 If something independently violates the

21 antitrust laws, that's fine. We should

22 realize that -- I appreciate Ron's comments

23 about my testimony. The regulatory process

24 moves -- that these may be regulatory

25 problems. The regulatory process moves

115

1 slowly and amending it is very difficult.

2 Antitrust enforcement plays a

3 vital role in sort of telling people where

4 there are problem areas. And part of -- you

5 know, what I'd like to do is show you -- you

6 know, part of what we do is -- what people

7 do as enforcers is raise attention to things.

8 There's a recent court

9 decision involving the drug DBABP which is

10 used by tens of thousands of consumers, and

11 there was a sham petitioning claim. And the

12 sham petitioning claim was dismissed with

13 seven words. That's all the district court

14 judge said about the sham petitioning claim.

15 You know, part of this is

16 having enforcement agencies pay attention to

17 these types of issues, I think, affects

18 behavior of the businesses involved and

19 reduces the likelihood that they engage in

20 deceptive and sham conduct.

21 MR. SHELLER: I would be

22 very reluctant to apply a rule where the

23 alleged predatory conduct, if it meets

24 the standard of some state law violation,

25 ought to be the basis of a Section 2

116

1 claim.

2 One single violation of

3 a state law, let's take tortious interference

4 or theft of a trade secret as examples,

5 does not amount to a Section 2 violation

6 when coupled with monopoly share.

7 Now, if you had a pattern of

8 conduct occurring with respect to several

9 customers or in several geographic

10 markets, again Conwood being an example, then

11 yes, you could have a Section 2 situation. br>
12 But I'd be very reluctant to endorse ther>
13 notion that a single violation of state law

14 can be the predicate act for a Section 2

15 case.

16 MR. TARONJI: Okay. Any

17 other questions? Great. Well again, I want

18 to thank all of our panelists for their

19 interesting -- I'm sorry.

20 MR. BALTO: Could I just

21 end with a final comment --

22 MR. TARONJI: Go ahead.

23 MR. BALTO: -- because I'm

24 pushy.

25 I just wanted to talk about

117

1 the devices for the agencies as they look at

2 Section 2 enforcement. And I think this is

3 a point that all three of us would agree on.

4 The role of the agencies in

5 filing amicus briefs, not just before the

6 Supreme Court, but in lower courts, in

7 district court cases is tremendously

8 important. The reason why millions of

9 consumers now can buy generic Buspar is

10 because the Agency, the FTC filed a brief

11 before the district court judge explaining by

12 the sham conduct that Bristol-Myers was

13 engaging in was not immune under the

14 Noerr-Pennington Doctorine. They went down

15 to the district court.

16 I think those types of cases

17 are tremendously important. There are tons of

18 headaches that these people have in trying to

19 interpret LePage's. You should go look at

20 what's going on in the district courts.

21 LePage's type cases are currently being

22 litigated. And look for opportunities to

23 provide clarity in that setting so that when

24 the district court judges reach decisions on

25 these difficult LePage cases they're informed

118

1 by sound economic and legal principles.

2 MR. TARONJI: Any of you

3 want to have a final word?

4 MR. SHELLER: I would

5 like to endorse David's remarks and just add

6 the following. The agencies, and I'm

7 going to again focus on the two areas of

8 concern for Kodak -- the bundling area

9 and the intellectual property rights --

10 had an opportunity to urge the Supreme

11 Court to take up a case and really

12 settle the law in that area, LePage's and

13 then the Xerox case. In both cases the

14 agencies took the view that maybe those

15 issues weren't yet ripe for the Supreme Court

16 to consider.

17 I would suggest that you be

18 very clear in your advice to the Supreme Court

19 in the future when the time is right to take

20 those issues up. We would certainly

21 appreciate that. And it would provide a

22 lot of helpful guidance to the business

23 community.

24 MR. TARONJI: Great. Ron,

25 any final comments?

119

1 MR. STERN: Nothing other

2 than to thank you and the few hardy souls

3 who actually made it today for joining us.

4 MR. TARONJI: Please join me

5 in a round of applause for our panelists.

6 (Applause)

7 MR. TARONJI: And we will

8 reconvene at 1:30 for our second panel.

9 (At 12:00 noon a luncheon

10 recess was taken until 1:30

11 p.m.)

12 ***AFTERNOON SESSION***

13 MS. GRIMM: Good afternoon.

14 I am Karen Grimm, Assistant General Counsel

15 for Policy Studies at the Federal Trade

16 Commission. I'm one of the moderators for

17 this afternoon's session. My co-moderator

18 today is Joe Matelis from the Antitrust

19 Division of the U.S. Department of Justice.

20 Before we start, let me cover

21 just two preliminary housekeeping matters.

22 First of all, as a courtesy to our speakers,

23 we'd like for you to turn off your cell

24 phones, Blackberries, and any other devices.

25 And secondly, we ask that the audience not

120

1 ask questions or make comments during the

2 hearing. Thank you.

3 Before introducing our

4 speakers this afternoon, I would like to

5 first thank the University of Chicago's

6 Graduate School of Business for hosting these

7 joint FTC/DOJ hearings to solicit testimony

8 on single-firm conduct. In particular, I

9 would like to thank Dean Ted Snyder and the

10 staff of the Gleacher Center for offering us

11 their facilities and for making the necessary

12 arrangements for us to hold these hearings

13 here.

14 And finally, I would like to

15 thank my FTC and Justice Department

16 colleagues as well as the FTC's Midwest

17 regional office in Chicago who have worked

18 very hard to put these hearings together.

19 We are honored this afternoon

20 to have a distinguished group of panelists

21 from the business community. Our panelists

22 this afternoon are first Sean Heather from

23 the U.S. Chamber of Commerce, Bruce Sewell

24 from Intel Corporation, and Bruce Wark from

25 American Airlines. Sean, I will note, is

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1 standing in at the last moment for Stan

2 Anderson who was unable to be with us.

3 Our format this afternoon

4 will be as follows. Each speaker will make

5 a 20- to 25-minute presentation. We will

6 then take a 15-minute break. And after the

7 break we will reconvene and have a moderated

8 discussion with our panelists.

9 As Jim said at our morning

10 session, these hearings in Chicago are an

11 extremely important component of the joint

12 FTC and Antitrust Division hearings on

13 single-firm conduct under Section 2.

14 Over the past eight months we

15 have held hearings in Washington D.C.

16 primarily focused on specific types of

17 business conduct such as predatory pricing,

18 refusal to deal, bundled and loyalty

19 discounts, tying arrangements, exclusive

20 dealing, and various types of misleading and

21 deceptive conduct which have been challenged

22 under Section 2.

23 While some of these earlier

24 panels have included business executives and

25 their legal advisers, they have for the most

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1 part focused on specific types of conduct and

2 have relied most heavily on speakers from

3 academia and the private bar.

4 Our sessions today are

5 somewhat different. They are designed to

6 provide a forum for businesses to tell us

7 what particular Section 2 issues are of

8 concern to them, and to suggest ways in which

9 we at the FTC and the Antitrust Division may

10 be better able to address those issues and

11 provide additional guidance on their

12 particular areas of concern.

13 Our panelists today have

14 accepted our invitation to share with us

15 their perspectives and views on Section 2

16 issues and enforcement. I want to thank them

17 all for agreeing to participate in today's

18 hearing and look forward very much to hearing

19 what insights they have to share with us.

20 I would now like to turn

21 over the podium to my colleague and

22 co-moderator, Joe Matelis, from the Antitrust

23 Division for any remarks he would like to

24 make. Joe.

25 MR. MATELIS: Thanks Karen,

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1 and because my remarks will be brief, I'll do

2 them sitting down.

3 The Department of Justice's

4 Antitrust Division is very pleased to take

5 part in today's session, and I'd like to

6 reiterate what Karen said, that we're

7 interested in hearing about the perspectives

8 of businesses. And so we're looking forward

9 to your remarks today. And also repeating

10 Karen, on behalf of the Antitrust Division, I

11 would like to thank Bruce, Bruce, and Sean

12 for coming here and agreeing to share your

13 time and thoughts with us. We know that a

14 lot of effort and work goes into these

15 presentations, so we're extremely grateful

16 for you for rendering this valuable public

17 service, and particularly in February in

18 Chicago.

19 I would also like to thank

20 on behalf of the Antitrust Division the

21 Gleacher Center and the University of Chicago

22 Graduate School of Business for hosting these

23 hearings. And finally, I'd like to thank

24 Karen and her colleagues at the FTC for

25 organizing today's wonderful session.

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1 Thanks.

2 MS. GRIMM: Our first speaker

3 this afternoon is Sean Heather. Sean is with

4 the U.S. Chamber of Commerce. He serves as

5 its executive director for global regulatory

6 cooperation. Global regulatory cooperation

7 is a new program at the Chamber focused on

8 regulatory divergence around the globe and

9 its impact on international trade.

10 Prior to leading this project

11 at the Chamber, Sean worked for nearly

12 eight years in the Chamber's formulation

13 and lobbying shops. He has his MBA and

14 undergraduate degrees from the University of

15 Illinois. Sean.

16 MR. HEATHER: Thank you for

17 the opportunity to appear before you today to

18 address the important issue of whether and

19 when specific types of single-firm conduct

20 may violate antitrust law. I will summarize

21 my written remarks, which the Chamber has

22 separately submitted. I would ask that both

23 be included as part of the record.

24 I appear today on behalf of

25 the U.S. Chamber of Commerce, the world's

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1 largest business federation, representing more

2 than 3 million businesses of every size,

3 sector, and region.

4 The Commission and the

5 Department should be congratulated for

6 holding these hearings and reaching out to

7 the business community for its views on this

8 critical topic.

9 At the Chamber, we work

10 continuously to promote free market

11 principles, because we see the free market

12 system as essential to ensuring a vibrant and

13 productive economy. And we believe that

14 balanced and effective antitrust enforcement

15 is critical to ensuring a free market.

16 In the U.S. we support the

17 application of Section 2 of the Sherman Act

18 to conduct that threatens competition and

19 harms consumers. And outside the U.S., we

20 support the application of similar laws.

21 However, the Chamber believes

22 that the U.S. and foreign competition

23 authorities must use special care in policing

24 single-firm conduct to avoid chilling

25 behavior that is in fact both procompetitive

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1 and beneficial to consumers.

2 To accomplish this, we

3 believe antitrust rules must be 1)

4 transparent, 2) predictable, 3) consistent

5 across jurisdictions, and 4), reasonably

6 stable over time.

7 It is important to remember

8 that new products and new business practices

9 are developed well ahead of their actual

10 introduction and ahead of any scrutiny by

11 antitrust regulators. Firms do want to obey

12 the rules of the road, but discerning and

13 applying those rules is becoming increasingly

14 difficult. In its September 5th written

15 submission to these hearings, the Chamber

16 focused on the need for clear, predictable

17 standards for tying and essential facilities

18 analysis to domestic enforcement of Section

19 2. Today I'd like to extend these principles

20 to international antitrust enforcement and

21 highlight the importance of cooperation among

22 antitrust enforcement officials around the

23 world.

24 The U.S. Chamber of Commerce

25 has recently announced a major new

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1 initiative, the Global Regulatory Cooperation

2 Project. This project aims to increase

3 awareness about and to develop successful

4 strategies for combating the growing threat

5 that divergent regulatory systems pose to

6 competitive markets and to international

7 trade.

8 The need for Global

9 Regulatory Cooperation is clear. Barriers to

10 international trade go beyond market access

11 issues. Traditionally, trade agreements and

12 negotiations have focused largely on tariff

13 reductions. While market access must remain

14 a priority, divergent regulations are

15 increasingly impeding trade, and governments

16 around the world need to better understand

17 the impact in-country barriers have.

18 While the Chamber's project

19 focuses on many types of divergent

20 regulations, one area that deserves special

21 consideration is competition policy. I'd

22 like to make the following three points.

23 First, the growing

24 proliferation of antitrust enforcement around

25 the world, together with the globalization of

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1 business creates increasing risk of conflict

2 in the application of antitrust rules to

3 single-firm conduct. These conflicts impose

4 costs on firms and harm consumers and are

5 becoming potential barriers to international

6 trade.

7 Second, while many

8 differences may be discerned between U.S. and

9 foreign standards for single-firm conduct,

10 the differences in the enforcement approach

11 on tying and essential facilities analysis

12 is becoming increasingly apparent.

13 Third, now is the time to

14 act on these differences. The U.S. must lead

15 a cooperative effort among industrialized

16 nations to develop and recommend appropriate

17 standards for single-firm conduct and to

18 promote their adoption around the world.

19 Over the past 15 years, the

20 number of jurisdictions with antitrust laws

21 has grown from about 25 to approximately 100

22 today. Many of the newer enforcement

23 agencies have limited training, experience,

24 and resources to police anticompetitive

25 behavior and enforce their laws

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1 appropriately.

2 One thing is certain, the

3 impact of competition decisions by any given

4 enforcement agency no longer is confined by

5 its home jurisdiction. Increasingly, those

6 decisions reverberate around the world,

7 forcing firms to conform their behavior to

8 the most restrictive enforcement policies and

9 increasingly have a negative impact on the

10 global marketplace.

11 The underlying goals of

12 antitrust enforcement and trade liberalization

13 are similar in that both aim to achieve open

14 and competitive markets. In their

15 application, however, competition laws may

16 sometimes constitute barriers to trade. In

17 some countries, particular enforcement actions

18 may be motivated by protectionist goals. In

19 other instances, differences in general legal

20 standards or in remedies may have a chilling

21 effect on trade.

22 In her statement opening

23 these hearings, Chairman Majoras remarked

24 that quote: "Disagreement among competition

25 authorities about how to treat unilateral

130

1 conduct produces uncertainty in national and

2 world markets, reducing market efficiency and

3 imposing costs on consumers."

4 Other government officials,

5 both in the Executive Branch and in Congress,

6 as well as many business and Bar Association

7 groups have also joined in recognizing the

8 growing potential for conflict and the costs

9 and burdens associated with it.

10 The record clearly

11 demonstrates that these costs are very real.

12 For example, Microsoft has been subject to

13 three different sets of remedies in three

14 different jurisdictions for what is

15 essentially similar conduct.

16 In March 2004, the European

17 Commission held that Microsoft had abused a

18 dominant position in violation of Article 82

19 of the EC Treaty by tying the purchase of

20 Windows Media Player to the purchase of the

21 Windows operating system and by refusing to

22 share proprietary communication protocols with

23 competitors and allow their use in developing

24 operating systems that would compete with

25 Microsoft's own products.

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1 When the EC issued its

2 decision, then-Assistant Attorney General Pate

3 issued a statement criticizing it as both

4 costly and unnecessary in light of the final

5 judgment entered against Microsoft by the

6 U.S. in 2001.

7 Later Pate expressed quote

8 "deep concern about the apparent basis for

9 this decision and the serious potential

10 divergence it represents." Noting that "It

11 is unfortunate that considerations of

12 international comity and deference did not,

13 in the Commission's judgment, carry

14 sufficient weight to avoid the significant

15 divergence that has now occurred."

16 Soon after the EC's decision,

17 the Korea Fair Trade Commission held that

18 Microsoft had abused a dominant position in

19 South Korea by integrating media and instant

20 messaging software into Windows and posing a

21 code removal remedy similar to the one

22 imposed in Europe. On that day the decision

23 was announced, Deputy Attorney General

24 McDonald released a statement stating that

25 quote: "The Antitrust Division believes that

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1 Korea's remedy goes beyond what is necessary

2 or appropriate to protect consumers."

3 More recently, allegations of

4 illegal tying have been the focus of attack

5 on Apple in Europe. Apple uses Fairplay

6 Digital Rights Management technology to

7 encode songs from its iTunes music online

8 store. As a result, the songs may only be

9 downloaded using Apple iPod devices.

10 Norway's Consumer Ombudsman has found that

11 Apple's DRM policies have effectively tied

12 the purchase of iPods to the purchase of its

13 online music, and has ordered Apple to either

14 license its Fairplay technology to competing

15 producers of music players or to develop a

16 new open standard with those companies.

17 According to press reports,

18 authorities in Sweden and Denmark may follow

19 suit in formally charging Apple with

20 violation of local laws. And the French

21 Parliament has enacted legislation that may

22 require music downloads to operate across a

23 range of devices, empowering a government

24 body to force digital providers to share the

25 information as needed to ensure such

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1 interoperability.

2 Significantly, while the EC

3 has launched an investigation into Apple's

4 music pricing policies, the EC investigation

5 reportedly does not focus on this purported

6 tie.

7 Apple's success has come

8 about as a result of innovation. Consumers

9 voted with their wallets to reward Apple for

10 its ability to innovate and to commercialize

11 its ideas. Competition authorities should

12 recognize the right of innovators to reap the

13 rewards of their innovation. That is to

14 protect competition, not competitors.

15 Assistant Attorney General

16 Tom Barnett made this point recently in

17 criticizing the attack on Apple pointing out

18 also that quote: "If the government is too

19 willing to step in as a regulator, rivals

20 will devote their resources to legal

21 challenges rather than business innovation".

22 In addition to these cases

23 involving Microsoft and Apple where U.S.

24 companies have actually been charged with

25 violations of foreign laws based on legal

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1 standards that are arguably divergent with

2 those in the United States, there are several

3 pending investigations of Intel and Qualcomm

4 that may well result in significant

5 conflicts.

6 Recent press reports indicate

7 that the E.U. might formally charge Intel

8 with abusing its dominance in the market for

9 microprocessors in Europe. According to

10 press accounts, EC investigators potentially

11 believe Intel has interfered improperly with

12 the distribution and purchase of rival

13 products, in part by offering rebates to

14 customers that agree to purchase from Intel

15 exclusively. The Korean Fair Trade

16 Commission is also investigating INTEL's

17 rebate policies.

18 Qualcomm is also reportedly

19 under investigation by both the Korean and

20 Japanese Fair Trade Commissions, in part for

21 offering lower royalty rates for its CDMA

22 wireless technology if licensees agree to

23 license such technology exclusively from

24 Qualcomm.

25 The EC has received a formal

135

1 complaint about Qualcomm's conduct from a

2 group of Qualcomm competitors, but has yet to

3 actually initiate a formal investigation.

4 U.S. antitrust enforcement

5 officials are far more cautious than foreign

6 jurisdictions, however, upon investigating and

7 challenging such fidelity rebates and related

8 volume discounts and exclusive dealing

9 practices, because in many cases they may be

10 procompetitive and result in lower prices for

11 consumers. Because Intel and Qualcomm may

12 not be formally charged in these proceedings,

13 it is hard to tell what conflicts with U.S.

14 law may emerge, how severe they may be, and

15 what consequences may result.

16 As significant as these

17 conflicts among jurisdictions with mature

18 antitrust enforcement regimes may be, they

19 may be eclipsed in the coming years by the

20 conflicts generated by the adoption of new

21 antitrust laws in emerging and transitioning

22 economies.

23 For example, the current

24 draft of the new anti-monopoly law in China

25 now under consideration contains prohibitions

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1 of abuse of dominance that remain unclear,

2 creating fears of an expansive and

3 inconsistent enforcement approach.

4 Ambiguities abound when firms may be

5 considered dominant and when they may be

6 found to have engaged in illegal tying and

7 other abusive conduct are concerns for the

8 chamber. My written statement contains

9 additional details on China's proposed law.

10 A greater effort must be made

11 amongst the jurisdictions with established

12 antitrust enforcement regimes to improve the

13 content and the consistency of their rules

14 governing single-firm conduct and then share

15 their learning and comparatively greater

16 experience with countries that may be

17 developing new antitrust statutes or

18 modernizing existing ones. Legislative

19 drafters in China and elsewhere will be

20 influenced in a positive way by the

21 development of such a consensus.

22 In my testimony, I have

23 quoted a number of U.S. officials who have

24 recognized the growing divergence in

25 antitrust standards governing single-firm

137

1 conduct and what it means for U.S. companies

2 and consumers. But recognizing the problem

3 isn't enough. The U.S. government needs to

4 address this problem with an increased sense

5 of urgency. The Department of Justice and

6 the Federal Trade Commission have devoted

7 resources for many years to fostering

8 cooperation, convergence, and consistency in

9 antitrust enforcement efforts, as well as in

10 remedies.

11 They have been successful to

12 a degree, but the success has been realized

13 largely in the cartel and merger enforcement

14 areas. Greater priority must be given to the

15 area of unilateral conduct. Today, a handful

16 of companies have been caught up or face the

17 potential of being caught up in divergent

18 interpretations of anticompetitive unilateral

19 conduct.

20 However, if this divergence

21 in understanding of single-conduct behavior

22 continues amongst the world's competition

23 jurisdictions, more companies globally will

24 be the target of future investigations and

25 proceedings. It is this divergence that the

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1 Chamber's Global Regulatory Cooperation

2 project seeks to counter.

3 First, the U.S. government

4 must step up its efforts to encourage

5 convergence in substantive antitrust standards

6 for single-firm conduct, and in remedies. To

7 do that, the U.S. must engage more countries

8 bilaterally, and it must work towards greater

9 convergence in the context of such

10 multilateral organizations as the OECD and

11 International Competition Network.

12 The Chamber believes there is

13 a significant opportunity for the U.S.

14 government to have an impact in this area,

15 given the fact that the FTC co-chairs the

16 ICN's working group on Unilateral Conduct.

17 In this leadership role, the U.S. should be

18 in a position to call attention to diverging

19 standards and work to reduce and eliminate

20 them, particularly in the tying and essential

21 facilities areas, which have proven so

22 important as of late.

23 Second, the preliminary draft

24 outline of the Antitrust Modernization

25 Commission recommends that the United States

139

1 should continue to pursue bilateral and

2 multilateral antitrust cooperation and comity

3 agreements with more of its trading partners

4 and make greater use of comity provisions in

5 existing cooperation agreements.

6 The Chamber believes that the

7 U.S. should explore the concept of enhanced

8 comity, including such elements as an

9 agreement amongst jurisdictions to defer to

10 one another in relation to remedies.

11 While existing bilateral

12 agreements and the existing application of

13 comity principles have certainly been useful,

14 they have limitations, as illustrated by the

15 inconsistent remedies imposed by the U.S.,

16 E.U., and enforcement authorities in the

17 Microsoft matter. Jurisdictions such as these

18 with mature antitrust enforcement regimes

19 should set a coherent and unified example for

20 other countries by expanding their

21 cooperation and making them more consistently

22 successful.

23 Third, the U.S. enforcement

24 agencies should be encouraged to participate

25 more actively and cooperatively in

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1 enforcement and policy development activities

2 with their foreign counterparts, by filing

3 amicus briefs, for example, when U.S.

4 agencies are not conducting parallel

5 investigations.

6 We applaud this series of

7 hearings for giving your counterparts in

8 Canada, Mexico, Japan, and the European Union

9 the opportunity to testify last September.

10 This kind of cooperative spirit and

11 substantive sharing of ideas is the platform

12 for starting to combat future competition

13 divergence.

14 Fourth, the need for

15 technical assistance is clear. It is

16 difficult for even the most experienced

17 jurisdictions to define appropriate rules

18 governing single-firm conduct, so newer

19 enforcement agencies may be expected to

20 struggle with them.

21 U.S. agencies should review

22 the adequacy of current technical assistance

23 programs in the area of antitrust, and

24 implement any changes that may be necessary

25 to make them more effective.

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1 An agency review should

2 include 1), a review of programs sponsored by

3 other countries as well as the U.S.; 2) a

4 review of the work of international

5 organizations such as the OECN and ICN; and

6 3), a review of the adequacy of U.S. funding

7 levels and how that funding is deployed.

8 The U.S. must approach this

9 issue holistically and in cooperation with

10 other developed countries to ensure that

11 available resources are allocated efficiently

12 and effectively and to ensure that other

13 important initiatives such as the protection

14 of intellectual property are pursued.

15 Finally, the FTC and DOJ must

16 approach these issues with a great awareness

17 of the interface between competition policy

18 and international trade, and the impact the

19 divergent antitrust standards have on trade.

20 To this end, the FTC,

21 Department of Justice, USTR, State and

22 Commerce Departments must coordinate better

23 on these issues. The Department of Treasury

24 should also be involved, as it looks to lead

25 a strategic economic dialogue with China.

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1 And to address protectionist tendencies,

2 agencies across the U.S. government must work

3 cooperatively with their counterparts around

4 the world to ensure that competition policies

5 support liberal trade policies.

6 This effort is challenging,

7 but critically important. The Chamber stands

8 ready to assist the FTC and DOJ in any way

9 it can, and we look forward to working with

10 you. Thank you.

11 (Applause)

12 MS. GRIMM: Thank you, Sean.

13 Our next speaker is Bruce Sewell. Bruce is

14 the senior vice president and general counsel

15 for Intel Corporation. He is responsible for

16 Intel's legal and government affairs

17 functions worldwide.

18 Prior to being named general

19 counsel, Bruce was Intel's director of

20 litigation. Before joining Intel, Bruce was

21 a litigation partner at Brown & Bane and was

22 an associate at Schnodder, Harrison, Siegel &

23 Lewis.

24 Bruce received his J.D.

25 degree from the George Washington University

143

1 and his bachelor's degree from the University

2 of Lancaster in the United Kingdom. Bruce.

3 MR. SEWELL: Good afternoon.

4 Let me begin by thanking the antitrust

5 enforcement agencies for giving me the

6 opportunity to participate in these very

7 important hearings. I appreciate the

8 considerable effort that has been devoted to

9 these hearings and the dedication that the

10 agencys' staffs have brought to bear on these

11 important issues. I'm confident that the

12 agencys' report will make a significant

13 contribution to the analysis of single-firm

14 conduct.

15 The development of the law of

16 single-firm conduct is of obvious interest to

17 my company. We are the defendant in a

18 highly visible Section 2 litigation that has

19 generated considerable interest both in the

20 press and among antitrust specialists.

21 I was somewhat dismayed to

22 see that the plaintiff in our case used these

23 hearings as a forum to rebroadcast

24 allegations that it has made already in its

25 District Court filings and in the press.

144

1 With respect to this I will only say the

2 following. Intel prefers to litigate in the

3 courtroom, and I will therefore not use this

4 forum as a -- to argue the merits of our

5 case other than to state that I unequivocally

6 deny the allegations that were made against

7 Intel at the January 30th hearings in

8 Berkeley.

9 Instead, my remarks today

10 will address the policy issues that have been

11 the focus of these hearings. In particular,

12 I would like to discuss the appropriate role

13 of Section 2 with respect to pricing and

14 discounting practices. I hope that my

15 company's perspective on these policy issues

16 will help to advance the debate that the

17 agencies have generated through these

18 hearings.

19 At the risk of stating the

20 obvious, the challenge of Section 2

21 enforcement is to curb anticompetitive

22 single-firm conduct that harms consumers

23 without deterring the type of aggressive

24 competition that benefits consumers through

25 lower prices and greater innovation. This is

145

1 a great challenge.

2 As Professors Baumol and

3 Ordover have observed almost 20 years ago,

4 there is a specter that haunts our antitrust

5 institutions. Its threat is that far from

6 serving as the bulwark of competition, these

7 institutions will become the most powerful

8 instrument in the hands of those who wish to

9 subvert it.

10 Baumol and Ordover stressed

11 the important concept that rules that make

12 vigorous competition dangerous clearly foster

13 protectionism. And they warned of the runner

14 up who hopes to impose legal obstacles on the

15 vigorous efforts of his all-to-successful

16 rival.

17 These observations were more

18 recently echoed by Professor Preston McAfee

19 and Nicholas Vakkur who catalogued seven

20 strategic abuses of the antitrust laws,

21 including punishing non-cooperative behavior

22 and preventing a successful firm from

23 competing aggressively.

24 In his presentation at these

25 hearings, Professor McAfee stressed that the

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1 antitrust laws can be used to harass, harm,

2 and extort in order to induce cooperation.

3 The strategic abuse of the

4 antitrust laws is of more than a passing

5 concern to Intel. I was therefore

6 particularly pleased to see both Chairman

7 Majoras and Assistant Attorney General

8 Barnett in their remarks at the beginning of

9 these hearings underscore the importance of

10 having rules that do not deter

11 pro-competitive aggressive competition. As

12 Chairman Majoras stated in her remarks:

13 "There is consensus that antitrust standards

14 that govern unilateral conduct must not deter

15 competition, efficiency, or innovation. This

16 is why we frequently worry about false

17 positives. Pervasive and aggressive

18 competition, in which firms consistently try

19 to better each other by providing higher

20 quality goods and services at lower costs, is

21 crucial to maximizing consumer welfare and

22 economic growth."

23 Assistant Attorney General

24 Barnett echoed one of our chief concerns as a

25 business that devotes considerable resources

147

1 to antitrust compliance by stating that

2 antitrust rules in the unilateral conduct

3 area must set forth "clear objective

4 standards that businesses can follow and that

5 are also administrable for enforcers, courts,

6 and juries". Particularly in the area of

7 pricing behavior, as the Supreme Court has

8 emphasized on many occasions, and Mr. Barnett

9 endorsed in his remarks, antitrust rules must

10 avoid chilling legitimate price cutting.

11 This requires objective standards that rely

12 on information that is available to corporate

13 decision makers when they act and that allow

14 more efficient firms to exploit their cost

15 advantages. Sound antitrust policy also

16 requires sensitivity to the potential misuse

17 of the antitrust laws by less efficient

18 competitors to reduce price competition.

19 Government enforcement policy

20 has been appropriately cautious in the area

21 of pricing, taking heed of the risk of

22 chilling the very conduct that the antitrust

23 laws seek to encourage, that is, aggressive

24 price cutting.

25 At the same time, the

148

1 enforcement agencies have aggressively pursued

2 many other forms of conduct that

3 anti-competitively creates or maintains

4 monopoly power.

5 Without getting into the

6 merits of any individual case, it is

7 important to note that the agencies have

8 pursued a number of different forms of

9 conduct under Section 2 theories. Recent

10 cases include patent settlements that may

11 delay entry and thereby extend an incumbent

12 supplier's exclusive rights to supply,

13 representations to standard-setting

14 organizations or governmental bodies regarding

15 patent positions, exclusive dealing, and

16 product design cases.

17 The enforcement agencies have

18 recognized the challenges inherent in

19 aggressive enforcement of Section 2 cases.

20 While bringing a number of Section 2 cases in

21 recent years, the agencies have also

22 expressed cognizance of the potential misuse

23 of the antitrust laws by less efficient

24 rivals.

25 As Deputy Assistant Attorney

149

1 General Masoudi has noted elsewhere, an

2 antitrust agency must be cautious about

3 complaints it receives from competitors.

4 Such complaints often try to avoid legitimate

5 competition by seeking protection from the

6 government from competitive pressures.

7 This is particularly true

8 when the subject of such complaints it price

9 cutting. We hope that the agencies' final

10 reports on these hearings will impart to the

11 courts the benefit of the agency's experience

12 in enforcing the law aggressively while

13 resisting the demands of complainants who

14 seek to use Section 2 to dampen competition.

15 I read with considerable

16 interest the assertions that were made at the

17 January 30th hearing that the enforcement

18 agencies have been asleep on the job or that

19 they have somehow failed to enforce Section

20 2. This view simply cannot be squared with

21 the record of aggressive enforce that I've

22 just outlined.

23 It was also suggested at that

24 hearing that the enforcement agencies have

25 given the high-tech area a free pass, even

150

1 ignoring the fact that high tech is not

2 limited just to the computer industry. This

3 claim is equally hard to square with reality.

4 The Agency's most recent

5 actions in the high-tech area include

6 monopolization cases against Microsoft and

7 Rambus, a substantial number of merger

8 enforcement cases involving companies --

9 software companies such as Oracle, PeopleSoft

10 being the best known, and many other

11 high-tech market cases including

12 communications technology, disaster recovery

13 systems and 3-D prototyping. Also massive

14 fines imposed on DRAM companies and jail

15 sentences on some company executives and

16 ongoing criminal investigations involving

17 SRAM, flat-panel displays, and graphics

18 processors.

19 The criminal cases and

20 investigations are particularly notable

21 because they involve price fixing, conduct

22 designed to and having the effect of making

23 consumers pay more. It seems eminently

24 sensible that antitrust enforcement should

25 direct itself at conduct that demonstrably

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1 leads to higher prices rather than to

2 attacking price cutting which is the very

3 conduct that the competition laws are

4 designed to promote.

5 It was suggested at the

6 Berkeley hearing that antitrust enforcement

7 should be directed at price cutting and that

8 the reality, as opposed to the myth, is that

9 consumers are harmed when prices come down

10 due to discounting.

11 Here I could not disagree

12 more with the position espoused by AMD. On

13 the issue of discounting we have a

14 fundamentally different point of view. We

15 think that enforcement resources are

16 appropriately directed at conduct that makes

17 consumers pay more, not conduct that gives

18 them lower prices.

19 I believe that our position

20 is supported by both the law as articulated

21 by the Supreme Court, and by very sound

22 policy considerations that underlie the

23 Court's decisions. The Court's statement in

24 Matsushita cogently expresses both the policy

25 and its underpinnings. To quote: "Cutting

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1 prices in order to increase business often is

2 the very essence of competition. Thus

3 mistaken inferences in cases such as this one

4 are especially costly because they chill the

5 very conduct the antitrust laws were designed

6 to protect."

7 Justice Breyer, while sitting

8 on the First Circuit, made a similar

9 observation in the Barry Wright case. Again

10 quoting: "the consequence of a mistake here

11 is not simply to force a firm to forego

12 legitimate business activity it wishes to

13 pursue; rather, it is to penalize a

14 procompetitive price cut, perhaps the most

15 desirable activity from an antitrust

16 perspective that can take place in a

17 concentrated industry where price typically

18 exceeds costs."

19 This policy has broad

20 application across all areas of pricing

21 conduct. As the Supreme Court said in the

22 Arco versus USA Petroleum case: "Low prices

23 benefit consumers regardless of how those

24 prices are set, and so long as they are

25 above predatory levels, they do not threaten

153

1 competition". We have adhered to this

2 principle regardless of the type of antitrust

3 claim involved. This is not only the law,

4 but it is also the right antitrust policy.

5 This policy recognizes that

6 false positives, which are very likely to

7 occur in the absence of clear-cut cost-based

8 rules, can impose a high cost on society by

9 punishing and thereby deterring aggressive

10 price competition.

11 The courts and thebr>
12 enforcement agencies have recognized that the

13 very tangible bird in the hand, that is lower

14 prices enjoyed by consumers today, must not

15 be sacrificed for the bird in the bush, the

16 speculative and almost always illogical hope

17 that attacking price cutting and thereby

18 producing higher prices today will somehow

19 produce lower prices tomorrow.

20 I can tell you from years of

21 experience advising a very successful

22 corporation on how to compete with a very

23 aggressive rival that the need for clarity in

24 this area is paramount. The challenge in

25 counseling a business is to ensure that the

154

1 company adheres to its legal obligations

2 without forcing it to engage in gentlemanly

3 competition in which business opportunities

4 are squandered by pricing higher than is

5 needed to win the deal, even though the deal

6 can still be won profitably.

7 Intel has long enjoyed a cost

8 advantage due to its strong leadership

9 position in manufacturing. And it is

10 important to me and to the other lawyers

11 advising our management that we neither

12 deprive the company of the competitive

13 advantage that comes from its hard-won,

14 lower-cost position nor deprive consumers of

15 the benefit of lower prices, simply because

16 of unclear antitrust rules.

17 You may have recently read on

18 the front page of the New York Times about

19 Intel's latest breakthrough in semiconductor

20 manufacturing technology. This is the most

21 significant change in the materials used for

22 the manufacture of silicone chips since Intel

23 pioneered the modern integrated circuit

24 transistor more than four decades ago.

25 It is no accident that Intel

155

1 was the first to achieve this breakthrough.

2 Our company has enjoyed unparalleled

3 leadership in manufacturing for most of its

4 existence, and the benefits of this

5 relationship position are very tangible.

6 With every new generation of

7 manufacturing technology, each of which is

8 introduced on a roughly two-year cycle, we

9 double the number of chips that can be

10 produced on a wafer, holding both the wafer

11 size and the chip design constant. This

12 means that the manufacturing cost of any

13 given chip is cut by roughly 50 percent when

14 the new manufacturing technology is

15 introduced.

16 Now, it's a little bit more

17 complicated than that because we tend to take

18 advantage of this lower cost to put more

19 features onto the chips which trades off some

20 of that cost savings for better performing

21 products. But the cost advantage of being

22 first to adopt the new manufacturing

23 technology is large and tangible. Our recent

24 manufacturing technology breakthrough will

25 ensure that we can continue to progress along

156

1 the same path for many years to come.

2 So Intel has been on average

3 nine months to a year ahead of its

4 competitors in adopting these new

5 manufacturing technologies. This means that

6 in any given two-year cycle, we are alone in

7 achieving the cost savings during the first

8 year, and we are ramping up on the new

9 manufacturing process during the second year

10 when our competition is just beginning to

11 introduce the new technology.

12 Our sales executives and our

13 management want to use the cost advantage

14 that they enjoy as a result of our

15 manufacturing leadership to win business.

16 Clear antitrust rules are essential to my

17 ability to guide them through the winning

18 outcome to do nothing more than exploit our

19 competitive advantage.

20 A clear and sensible rule is

21 offered by the Areeda & Hovenkamp treatise in

22 its latest supplement. Quoting from that

23 treatise:

24 "When a discount is offered

25 on a single product, whether a quantity or

157

1 market share discount, the discount should be

2 lawful if the price, after all discounts are

3 taken into account, exceeds the defendant's

4 marginal cost or average variable cost. That

5 is, such discounts are covered by antitrust

6 or antitrust's ordinary predatory pricing

7 rule."

8 A similar approach has been

9 proposed by former FTC chairman Tim Muris,

10 who advocates a modified Brooke Group test

11 based on whether the price of the total

12 amount of goods sold exceeds the cost of the

13 goods.

14 Cost-based rules have a

15 number of advantages beginning with the

16 avoidance of false positives. They enable

17 companies to base pricing decisions on what

18 they know, that is, their own cost structure

19 and the relationship of price to cost instead

20 of speculation about the meaning of

21 potentially vague jury instructions that

22 might, for example, say that a firm must be

23 allowed to compete aggressively but that it

24 cannot behave in an unnecessarily restrictive

25 manner.

158

1 Because cost-based rules are

2 more predictable than the vague standards

3 that have been applied by some courts in

4 Section 2 cases, they are also inherently

5 more administrable. And they appropriately

6 condemn the type of discounting that does

7 cause competitive harm, i.e. predatory

8 pricing.

9 The antitrust laws are a

10 powerful instrument for consumer protection,

11 but they can also be misused by rivals to

12 attack competition. It is essential that the

13 antitrust rules in the pricing area protectbr>
14 consumers both from anticompetitive conduct

15 that may create, maintain, or enhance a

16 monopoly, and from anticompetitive abuses of

17 the law by rivals that seek to stifle price

18 competition.

19 Thank you once again for the

20 opportunity to provide these comments.

21 (Applause)

22 MS. GRIMM: Our third

23 presenter this afternoon is Bruce Wark.

24 Bruce is the Associate General Counsel for

25 American Airlines, Inc., where he's been

159

1 since 1993. His responsibilities include

2 litigation and regulatory matters, including

3 those relating to airport access, airport

4 rates and charges, aviation disasters,

5 patents and trade secret litigation,

6 international competition, airline alliances,

7 and antitrust and consumer class actions.

8 Bruce serves on the ABA Air

9 and Space Law Forum and has written a number

10 of articles relating to legal issues

11 affecting the airline industry.

12 He received his JD from

13 Georgetown University Law Center with Honors.

14 Bruce.

15 MR. WARK: I absolutely view

16 it as a privilege to be here today, so I'd

17 like to join others in their opening comments

18 by thanking the DOJ the FTC for the

19 opportunity to appear here today.

20 As an in-house attorney at

21 American Airlines who is responsible for

22 competition matters I hope to offer a unique

23 perspective, one that has been defined by the

24 important, turbulent, and highly competitive

25 nature of the airline industry.

160

1 I've chosen to focus my

2 comments on Section 2 predatory pricing

3 claims because within the last few years

4 there have been two Circuit Court decisionsbr>
5 relating to predatory pricing in the airline

6 industry.

7 More specifically, these

8 cases address the legality of decisions by

9 carriers like American to match the prices of

10 new entrants and to adjust capacity in

11 response to the new price points in the

12 marketplace.

13 The Department of Justice

14 actually brought the first of these cases

15 against my client, American Airlines in 1999.

16 I'm happy to say, as I'm sure many of you

17 are aware, we prevailed in that dispute when

18 in July of '03 the Tenth Circuit affirmed an

19 order granting summary judgment.

20 That decision found that the

21 Department had failed to establish that

22 American had priced its products below an

23 appropriate measure of its cost as required

24 by the Supreme Court's decision in, among

25 other cases, the Brooke Group.

161

1 The second recent predation

2 decision in the airline industry came in a

3 case that was brought by Spirit Airlines

4 against Northwest Airlines. As in the case

5 against American, in that case the District

6 Court held that Spirit had failed to prove

7 that Northwest had priced its products below

8 average variable costs on the routes in

9 question, and therefore, the District Court

10 entered summary judgment.

11 On appeal, and unfortunately

12 in my opinion, the Sixth Circuit reversed in

13 a decision that, I believe, fails to apply

14 the objective standards that are absolutely

15 necessary to distinguish between aggressive

16 competition and illegal predation under

17 Section 2.

18 I want to use these two

19 cases today to support two important themes.

20 The first is that predatory pricing claims

21 unconstrained by objective standards and

22 based on unproven economic theory harm the

23 competition that the antitrust laws were

24 intended to protect.

25 As Judge Easterbrook has

162

1 explained, and I'm quoting here: "An argument

2 that a practice is predatory is likely to

3 point to exactly those things that ordinarily

4 signify efficient conduct. Unless we have

5 some powerful tools to separate predation

6 from its cousin, hard competition, any legal

7 inquiry is apt to lead to more harm than

8 good."

9 Given the general agreement

10 that almost all price reductions, sales

11 increase, additions to capacity and so on are

12 beneficial, we need very good ground indeed

13 to treat a particular instance of such

14 conduct as unlawful.

15 The second and related point

16 that I want to make is that these objective

17 standards should be clearly articulated. The

18 point was made earlier this morning that at

19 least in the area of Section 2, predatory

20 pricing was an area of relative clarity. If

21 that point is true, it's true only on a

22 relative basis.

23 Our experience with the

24 Department of Justice shows that there is

25 still a great deal of ambiguity about what

163

1 the standard should be or even how those

2 standards should be applied. And as I hope

3 to make clear with the rest of my comments

4 today, it's also clear the courts aren't

5 consistently applying these standards, as I

6 think they need to be.

7 Clarity on these points is

8 particularly important because the antitrust

9 laws can be punitive. The serious

10 consequences of finding that the antitrust

11 laws have been violated forces companies to

12 pull their competitive punches, especially

13 when the lines of aggressive competition and

14 illegal conduct are not clearly delineated.

15 Moreover, even if the

16 defendant prevails, as we did in our case,

17 merely having to defend a Section 2 case is

18 a very expensive proposition, and it diverts

19 a tremendous amount of management attention

20 and company resources.

21 Now, in making those

22 comments, I recognize that given the

23 complexity of markets and U.S. business,

24 perfect clarity of legal standards may really

25 be an unobtainable goal. Individual cases

164

1 will continue to have to be decided on their

2 own merits, and general legal principles will

3 have to be applied to unique facts.

4 That said, improving of

5 clarity of legal standards in this area

6 should be pursued, and there are areas

7 where clarification can be immediately

8 accomplished such as a clear endorsement of

9 average variable cost as being the only

10 appropriate measure of cost in a predation

11 claim.

12 In our industry, despite the

13 fact we have two fairly recent Circuit Court

14 decisions addressing predatory pricing,

15 Section 2 standards remain unacceptably

16 vague. And even worse, as I've indicated

17 before, I believe the Sixth Circuit decision

18 in Spirit fails to demand the objective

19 standards that are necessary to show that

20 aggressive competition has overstepped the

21 bounds of the law and is a decision that

22 protects smaller competitors rather than

23 competition on the merits.

24 Before discussing the

25 American decision and the Spirit decision in

165

1 more detail, I think it's useful to give some

2 general observations on the airline industry

3 and how we compete.

4 The airline industry is the

5 backbone for much of U.S. commerce, and the

6 antitrust scrutiny that we find ourselves

7 under is no doubt a product of the important

8 role that the industry occupies.

9 Last year alone American

10 served about 100 million passengers. We took

11 in about 20 billion in revenue. Yet those

12 figures, as impressive as they are, account

13 for only about 20 percent of the U.S.

14 domestic airline industry.

15 Until the early 1980's, the

16 airline industry was a regulated business.

17 But since deregulation, the industry has

18 exploded, and air travel today, although far

19 from perfect, is largely affordable and

20 convenient.

21 Airfares in real terms have

22 fallen significantly, and American and other

23 carriers are now able to offer thousands of

24 convenient on-line connections that did not

25 exist in the regulated environment.

166

1 At the same time, new

2 entrants are consistently entering the market

3 with new aircraft, lower costs, and new ideas

4 on how to succeed in this crowded and mature

5 marketplace. One or more of these low-cost

6 carriers operate in over 80 percent of the

7 routes that American flies.

8 Clearly, competition has

9 served the air traveler well. Shareholders

10 and other stakeholders haven't faired quite

11 as well however.

12 American is the only Legacy

13 Network carrier that's never filed for

14 bankruptcy. And since the turn of thebr>
15 century, we've lost billions of dollars and

16 have had only one profitable year, that was

17 last year, where we eeked out a profit margin

18 of roughly one percent.

19 These results here aren't

20 intended to engender your sympathy, but

21 simply to remind us that the competition in

22 this industry is not only very dynamic. It's

23 often brutal.

24 Each day the people at

25 American have to make decisions on how

167

1 they're going to price tens of thousands of

2 markets, and in doing so they act on an

3 experience base that tells them two things.

4 First is that air travelers are going to be

5 motivated by small differences in price.

6 Second, that we are operating a network of

7 interconnected routes. And when we make

8 decisions as to one route, there may well be

9 implication for other routes within that same

10 network.

11 Given our cost structure and

12 position in the marketplace, maintaining a

13 robust network is a competitive imperative to

14 us. Our business folks are designing strategies

15 that we think maximize our success, and that

16 success has been and always will be adversely

17 related to the success of our competitors.

18 In sum, we are convinced that we have to be

19 an aggressive competitor, and, in our business,

20 that competition will always start with

21 price.

22 As the world's largest

23 airline operating in this competitive

24 environment, we understand the importance the

25 antitrust laws play in our market-based

168

1 economy. We have a longstanding antitrust

2 compliance program, but the ambiguity in the

3 law and the very competitive nature of the

4 industry make it a challenge to provide clear

5 guidance on Section 2.

6 The fact that we hope to

7 accomplish this legal guidance under the

8 circumstances is to sensitize our clients to

9 potential issues and be prepared to answer

10 those questions in real time as issues arise.

11 For reasons that I've already

12 mentioned, pricing doesn't remain constant,

13 and being noncompetitive on price for even a

14 short period of time can be very costly.

15 Our advice has to be as real time as the

16 competitive market in which our clients are

17 operating. And overly conservative advice

18 can inflict substantial damage on the

19 company.

20 We don't have the luxury of

21 a week to pull data and analyze issues,

22 although we know that if we end up in a

23 dispute, those on the other side will review

24 that data with the luxury of both time and

25 hindsight and will be seeking to substantiate

169

1 a position that is predetermined by the

2 requirements of its claim.

3 As I'll explain shortly, I

4 believe that's exactly what happened in

5 Spirit's case against Northwest when it was

6 able to avoid summary judgment.

7 Moreover, we have learned

8 through our experience that the Department of

9 Justice's attorneys and economists have their

10 own views of competition in the airline

11 industry. And our views of competition in

12 the industry and those of theirs are often at

13 odds.

14 We have the right to

15 challenge those factual and legal assumptions

16 as we did in our lawsuit, but that is a

17 position that we desperately try to avoid.

18 Given the punitive nature of the antitrust

19 laws and the inevitability of private class

20 action litigation, including the prospect of

21 treble damages, defending ourselves in that

22 situation, irrespective of the courage of our

23 convictions, is high-stakes poker indeed.

24 Thus, I thought of several

25 examples in which we have given advice or

170

1 altered our conduct based not on what we

2 thought was illegal, but on what we feared

3 others might argue is illegal. And in these

4 circumstances competition has likely been

5 compromised.

6 Our experience with the

7 Department in its predation case illustrates

8 how Section 2's lack of clarity can lead to

9 significant disagreement between industry

10 enforcement and how, at least in our opinion,

11 overly aggressive enforcement actions

12 threatened the competition that the antitrust

13 laws were intended to protect.

14 In making that comment,

15 however, I want to note that although we

16 disagreed with the Department's theories and

17 decisions in that case, we didn't question

18 their good faith. Despite those differences

19 of opinion, I don't doubt that they decided

20 to pursue the case against American, and they

21 believed in the merits of their arguments and

22 believed that they were fulfilling their

23 obligations to protect competition and

24 consumers.

25 Indeed, if they're like a lot

171

1 of lawyers that I know, I suspect that

2 despite the loss, they still think they were

3 right and it's the courts that got it wrong.

4 These good-faith but

5 extremely important disagreements simply

6 highlight the problem of the current state of

7 jurisprudence under a Section 2 predation

8 claim.

9 Let me put our dispute with

10 DOJ in a bit more historical context. The

11 lawsuit was brought in the mid to late

12 1990's, at which time the airline industry,

13 like the rest of the U.S. economy was

14 operating near the peak of the business

15 cycle. American and other large network

16 carriers were profitable. And although those

17 profit margins were generally in the single

18 digits and was modest compared with other

19 industries, they were very good when compared

20 to the industry's historical returns.

21 In response to these

22 conditions, a number of new entrants entered

23 the market, some such as Frontier and Air

24 Tran are still flying today and are generally

25 recognized as being successful. Other new

172

1 entrants that were less well managed and

2 financed disappeared.

3 The failure of some of

4 these new entrants led to concerns that the

5 markets were failing and that the actions of

6 incumbent airlines, like American, where we

7 matched pricing and expanded output was

8 actually harming competition.

9 The Department of Transportation

10 even considered reregulating the industry when

11 an incumbent carrier matched prices or expanded

12 output in response to new entry.

13 Fortunately, that regulatory

14 initiative failed, and the following five or

15 so years demonstrated that the marketplace

16 was far more resilient and dynamic than the

17 average regulations demanded.

18 By the year 2000, Jet Blue

19 and others had shown that a well-financed and

20 managed new entrant could succeed. And

21 ironically, a lot of that growth was in the

22 hubs of network carriers like Denver and

23 Atlanta, which were once deemed fortress

24 hubs. Perhaps even more ironically, the

25 alleged predators like American and Northwest

173

1 either filed for bankruptcy or teetered on

2 the brink, while new entrant low-cost

3 carriers became the most profitable and

4 fastest growing segment of the market.

5 The Department's case against

6 American and Spirit's case against Northwest

7 both raised an array of factual and legal

8 issues. I don't intend to address each of

9 those, but I instead want to focus on what I

10 think are two of the most important, the

11 first being the definition of relevant

12 market, and the second being the appropriate

13 measure of cost, and more particularly

14 whether average variable costs is the

15 appropriate standard.

16 Let's start by addressing how

17 the Sixth Circuit dealt with the question of

18 relevant market in its Spirit decision. As

19 mentioned in that case Northwest matched

20 Spirit's pricing and it increased its

21 capacity on routes served by Spirit, which

22 arguably forced Spirit to withdraw from the

23 route. Yet even after Northwest reduced its

24 price and incurred additional costs, its

25 revenue on the route exceeded any reasonable

174

1 measure of its average variable costs. As a

2 result, if you define the relevant market as

3 airline services on these routes, Spirit's

4 case failed because it could not show that

5 Northwest had priced its product below an

6 appropriate measure of its cost as required

7 by Brooke Group. These undisputed facts are

8 what led the District Court to enter summary

9 judgment.

10 The Sixth Circuit reversed on

11 appeal. The Court concluded that Spirit and

12 the experts established a genuine issue as to

13 a different definition of relevant market,

14 one that divided passengers flying on the

15 same airplane.

16 In order to reach the

17 conclusion necessary to its claim, that is

18 that Northwest's revenues in some relevant

19 market were less than its variables costs,

20 Spirit's experts had to exclude some portion

21 of revenue that Northwest is earning on these

22 routes during the alleged predation period.

23 They accomplished that

24 objective by removing revenue of two types of

25 passengers. First they excluded revenue from

175

1 passengers traveling on any type of

2 connecting itinerary. And second and even

3 more surprisingly, they removed from the

4 calculation passengers who paid more than

5 $225 for their ticket.

6 That analysis, of course, was

7 completely unrelated to any analysis that

8 Northwest would have undertaken at the time

9 it decided to add in price due to capacity

10 on these routes. Northwest instead would

11 have asked a much more straightforward and

12 appropriate question, that is, with new lower

13 fares and additional capacity, would it be

14 able to generate sufficient revenue from any

15 and all types of passengers to cover its

16 costs? A yes answer to that question should

17 have been the end of Spirit's claims.

18 Spirit's segregation of

19 passengers who paid more than $225 from those

20 who pay less than $225 into separate markets

21 is an artificial after-the-fact analysis that

22 should not have created any genuine issue of

23 fact.br>
24 As a result, the Sixth

25 Circuit's Spirit decision is one that harms

176

1 rather than promotes competition. The

2 endorsement of that contrived analysis, at

3 least for the purpose of avoiding summary

4 judgment, puts some common carriers in a

5 no-win situation of one, either not competing

6 for every passenger on price and product; or

7 two, recognizing that if it's too successful,

8 it may have to face a treble damages jury

9 trial brought by a competitor.

10 Pricing capacity decisions in

11 the airline industry are made in the context

12 of a very dynamic marketplace, and no airline

13 can possibly anticipate how the next

14 plaintiff may segregate passengers on the

15 same aircraft in the separate relevant

16 markets, each of which is supposed to

17 independently clear the test of a predatory

18 pricing claim.

19 I'd now like to turn to the

20 question of whether a defendant priced its

21 product below an appropriate measure of its

22 cost. That of course was the issue that was

23 determined in our case. It was also perhaps

24 the most hotly disputed issue in that case

25 since the facts showed that American's

177

1 revenues on the routes exceeded its average

2 variable costs. This caused the department

3 to develop alternative tests. American had

4 argued against cost measures that included as

5 much as 97 percent of total costs. And

6 others had argued in effect that American's

7 decision failed to maximize its profits.

8 My point for purposes of this

9 hearing is simply this. There was a great

10 deal of disagreement as to what items of cost

11 were properly included, how these costs

12 should be calculated, and how revenues should

13 be attributed to incremental costs.

14 Although we prevailed on this

15 basis, the Tenth Circuit decision left many

16 of these disputed questions unanswered.

17 The Tenth Circuit also left

18 unanswered the important question of whether

19 there should be a meeting competition defense

20 in a Section 2 context.

21 The problem of residual

22 uncertainty in the Tenth Circuit case

23 concerning these questions however is not

24 nearly as problematic in my mind as the Sixth

25 Circuit's treatment of this question. And

178

1 what I believe is certainly the most

2 troubling statement in its decision, the

3 Sixth Circuit stated, and I quote here:

4 "Even if a jury were to find that Northwest's

5 prices exceeded an appropriate measure of

6 average variable costs, the jury must also

7 consider the market structure in this

8 controversy to determine if Northwest's deep

9 price discounts in response to Spirit's entry

10 and the accompanying expansion of its

11 capacity on these routes injured competition

12 by causing Spirit's departure."

13 This statement from the Sixth

14 Circuit offers no objective standard for the

15 jury to use in distinguishing aggressive

16 conduct by a large but efficient incumbent in

17 the marketplace. It employs none of the

18 powerful economic tools called for by Judge

19 Easterbrook, and is inconsistent with the

20 dictates of the Supreme Court. It simply

21 constitutes an open invitation for juries and

22 courts to condemn aggressive competition in

23 order to protect less efficient but smaller

24 competitors.

25 I want to wrap up my comments

179

1 by offering some specific suggestions

2 concerning Section 2 enforcement. First,

3 given the ambiguity in the law and harm that

4 a false positive can have in this area of

5 the law, regulators should proceed very

6 cautiously. I believe that especially in the

7 context of a single product pricing case,

8 regulators and courts should heed the Supreme

9 Court's guidance that well-founded claims are

10 extraordinarily rare, and that overly

11 aggressive enforcement can harm competition.

12 Predatory pricing claims are

13 not an area of the law where regulators

14 should pursue aggressive new theories or rely

15 on untested economics.

16 Second, markets are more

17 resilient than is often appreciated at the

18 time. The experience in our industry has

19 debunked many of the theories and assumptions

20 concerning the market, like that of the

21 fortress hub that motivated the Department of

22 Transportation to consider re-regulating the

23 industry and encouraged the Department of

24 Justice to file its lawsuit against American.

25 Trusting markets to perceive shortcomings is

180

1 often the best policy.

2 Third, definitions of

3 relevant markets should align with the

4 competitive environment, as it was perceived

5 at the time by those whose conduct is being

6 contested. Relevant market definitions

7 contrived by lawyers and economists after the

8 fact are often motivated by predetermined

9 results and almost always fail to account for

10 the full complexities of the market.

11 Fourth, I believe there

12 should be a meeting competition defense under

13 Section 2. Such a rule would provide a

14 clear line, and matching a competitor's price

15 in the hopes of competing for every last

16 customer is exactly what competitors are

17 supposed to do. A competitor that cannot

18 survive at the price point it has chosen is

19 not the type of efficient competitor the

20 antitrust laws should be protecting.

21 Finally, since aggressive

22 competition and predatory conduct often share

23 the same characteristics, careful thought

24 needs to be given to the remedies before the

25 regulators commence litigation.

181

1 There were times in our

2 dispute with the Department that we would

3 have liked to resolve our differences, but

4 the remedy imposed by the Department would

5 have been competitively debilitating for

6 American in a highly competitive industry.

7 Finally, predatory pricing is

8 an area of the law where remedies are more

9 prone to doing more harm than good. I hope

10 that these comments have been useful, and I

11 look forward to the moderated portion of the

12 discussion.

13 (Applause)

14 MS. GRIMM: I'd like to

15 thank our presenters for their very fine

16 presentations. We will be resuming in about

17 15 minutes. We'll take a break until then.

18 (Break Taken)

19 MS. GRIMM: I would like to

20 start at the end with Bruce Wark. Bruce, do

21 you have any comments? Do you have any

22 questions of your fellow panelists?

23 MR. WARK: Well, there was a

24 great deal of commonality, I think, between

25 what I said and what Bruce Sewell said. So

182

1 I'll just tell you -- say he was right and

2 leave it at that.

3 On the question of

4 convergence, I agree it's an absolutely

5 important policy goal and needs to be

6 pursued. But equally importantly, you need

7 to make sure you converge at the right place.

8 And you know, particularly with the E.U.,

9 they have a different tradition. They have

10 different biases. I think they are more

11 inclined to protect competitors at the

12 expense of competition. And what I wouldn't

13 want to see is convergence away from what we

14 think is the right standard, which has been

15 developed in this country. And I think the

16 standards employed in this country are the

17 gold standard and we need to stick with them.

18 MS. GRIMM: Bruce.

19 MR. SEWELL: Yeah, I

20 obviously return the favor, Bruce. A lot of

21 mutual admiration here.

22 I guess a couple of the

23 points that were made in your comments that I

24 picked up on, we absolutely agree that

25 average variable cost is the appropriate

183

1 measure, and I think we're going to explore

2 that a little bit more. But we absolutely

3 and wholeheartedly agree.

4 The other thing that I noted

5 and I'd like to just sort of reinforce this,

6 I think one of the things I took from your

7 comments was this notion that if you were to

8 try to run a business so as to avoid being

9 sued for potential anticompetitive behavior,

10 that almost by definition then you have

11 under-optimized from a consumer standpoint.

12 And that's something that we need to be aware

13 of. And that the risk of lawsuits and the

14 potential punitive aspects of those private

15 lawsuits is enormous. And yet at the same

16 time as a company you almost cannot run your

17 business to say I will never put myself in

18 that position. It under-optimizes.

19 With respect to Sean's

20 comments, again, we're very supportive of

21 this activity. The critical question, as

22 Bruce mentioned, is if you harmonize

23 regulation, if you adopt in effect a single

24 form of regulation, then it's just so

25 important to make sure that you don't go to

184

1 the highest regulatory level so that you

2 don't end up in effect, in order to get

3 consensus, always choosing the most

4 regulatory or the most highly regulated

5 standard. That would be an easy way to get

6 to convergence, but it's not necessarily the

7 best way to do it. That's about it.

8 MS. GRIMM: Sean, do you

9 have some comments?

10 MR. HEATHER: I would just

11 say to clarify what the Chamber's testimony

12 was in response to both the observations that

13 were made. The Chamber is not about convergence

14 for convergence sake. That it is important

15 that the right standard is picked and would

16 agree that, we believe that, the way in which

17 the U.S. looks at these issues is the gold

18 standard. And the importance is taking that

19 gold standard, and as my father would say,

20 and de-Anglesizing the rest of the world to

21 it. So it's not about convergence for

22 convergence sake, but it definitely is

23 obviously the theme behind the remarks I

24 made.

25 MS. GRIMM: Thank you. I

185

1 would like to delve into this question of

2 average variable costs in some more detail.

3 Both of our Bruce panelists have definitely

4 endorsed that as a test, I would say. And I

5 would just like to ask each of them to

6 basically tell us more about how average

7 variable costs are kind of arrived at in

8 their particular industry.

9 This morning we heard one of

10 our panelists say that he did not think

11 average variable cost was the right test,

12 especially in high fixed cost industries.

13 And I would just like to hear some more

14 discussion from you on how the average

15 variable cost test would be applied.

16 MR. WARK: Yeah. Want to

17 begin with me again?

18 MS. GRIMM: That would be

19 fine.

20 MR. WARK: I think it's

21 important to recognize that average variable

22 cost is really a proxy for marginal cost

23 because that really it the right test.

24 And when you talk about

25 average variable cost, one of the questions

186

1 that gets buried in the next level of

2 analysis is variable over what period of time

3 because, you know, everything is variable if

4 you give it enough time.

5 That said, I do think that

6 average variable cost on an appropriate time

7 frame is the best test because it provides

8 clear guidance. And I think the problem you

9 have with people who argue that maybe it

10 doesn't fit in one particular case or

11 another, there really is no other standard

12 that they're articulating. And you end up in

13 a situation like what I pointed out in the

14 Spirit case where the Court's basically

15 saying well, even if they don't meet average

16 variable cost, you the 12 jurors decide

17 whether you think this scenario is good for

18 competition or not. And that is the kind of

19 unobjective predatory pricing analysis that

20 is surely going to result in false positives

21 and will create all kinds of problems, from a

22 counseling perspective, but also, I think, as

23 far as consumers should be concerned.

24 MS. GRIMM: Bruce?

25 MR. SEWELL: Sure. Let me

187

1 start with one of the principles that I tried

2 to make in my written statements. The laws

3 that we're seeking to conform need to be

4 understandable by the people who are asked to

5 adhere to them. And that leads you to look

6 for ways that you can translate concepts that

7 are relevant for antitrust enforcement into

8 concepts that are also common for business

9 people.

10 And average variable cost is

11 a measure which is widely understood by

12 business people, and I would argue

13 particularly in my industry, potentially in

14 Bruce's too, it's a metric that exists for

15 other than just antitrust enforcement

16 purposes, which means that it's also a metric

17 which exists for legitimate business reasons,

18 and therefore has some additional validity, I

19 think, when you're asking for companies to

20 talk about average variable costs.

21 We at Intel have a model

22 which enables us, and in fact we do a lot of

23 our business planning based on average

24 variable cost or marginal cost.

25 Once the fabrication plant

188

1 has been built, we have to track the cost of

2 the wafer through that plant. And we've become

3 quite expert at understanding and identifying

4 the various components that have to go into

5 creating a final finished microprocessor, so

6 the cost of the wafer, the cost of the

7 electricity to power the wafer through the

8 plant, the cost of the etching and the

9 chemicals. All of these constituent pieces

10 that go into actually moving the wafer

11 through the plant itself.

12 And this is a model. It's a

13 metric that we use regularly in business. So

14 for that reason, both intellectually, I

15 think, is the correct way to look at the

16 price in question from an antitrust

17 perspective, but it also has that added

18 benefit of being something that business

19 people use in the ordinary course of

20 business, and therefore it has that extra

21 validity.

22 MS. GRIMM: I'm going to

23 follow up with what might be a naive

24 question, but what is the average variable

25 cost of a microprocessor that you produce?

189

1 MR. SEWELL: I can't answer

2 that today. I could get you the answer very

3 quickly, but I can't answer it off the top

4 of my head. It would depend on what

5 microprocessor you're talking about. So we

6 have a number of different product lines

7 running through different plants at different

8 times on different processes. And the answer

9 for one of those would be different, but it

10 is known.

11 MS. GRIMM: But it is known?

12 MR. SEWELL: Yes.

13 MS. GRIMM: In other words,

14 you could go to one of your business

15 colleagues and basically say give me that

16 information and it would be readily

17 available; is that correct?

18 MR. SEWELL: Correct.

19 MS. GRIMM: Sean, I'd like

20 to find out more about your project that

21 you're heading. I very much would. And I'd

22 like you to share some additional information

23 on how it is organized.

24 You mentioned that divergence

25 in standards is one of the things that you're

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1 looking at. If we could get more information

2 on that, that also would be helpful.

3 MR. HEATHER: Sure. I start

4 with this as background. In 1947 the average

5 tariff between industrialized nations was 47

6 percent. Today it stands at less than five

7 percent. And that's because when international

8 countries got around the negotiating table

9 during the last 50 years, they began to find

10 ways to open up markets.

11 And so now with the Doha

12 Round is hopefully coming to a successful

13 conclusion, and we all cross our fingers that

14 it will happen in the next few months, that

15 those barriers to trade will continue to

16 diminish over time.

17 What is left behind is what

18 we call in-country barriers, and we put these

19 into kind of six buckets. Divergence in

20 competition policy, intellectual property

21 rights, standards, state-owned enterprises and

22 subsidies, investment restrictions, and

23 government procurement issues.

24 In these area, we think that

25 the existing policy tools that international

191

1 countries have, whether it be through

2 bilateral, multilateral, or organizations like

3 the WTO, there's an adequate mechanism by which

4 to address these problems.

5 And so these kinds of

6 in-country barriers are important going

7 forward if we're going to protect a global

8 economy and I think continue to go after open

9 and competitive markets in a way which builds

10 on what we've done in the past.

11 So the U.S. Chamber aims

12 to begin to focus the U.S. government and

13 governments around the world to meet this

14 challenge over the next 50 years in the same

15 way in which the world took on the challenge

16 to opening up markets in a tariff-related

17 sense.

18 In terms of how we're

19 organized, we have got a number of member

20 companies that have been members of the

21 Chamber who have expressed specific interest

22 in this project, see the need for it, see

23 that this being the future of trade

24 discussions and negotiations. And so they've

25 challenged us to take this project on and

192

1 moved forward. And we have them serving in

2 a steering capacity.

3 We are advancing on a number

4 of different fronts in each of these

5 different buckets, including today on the

6 competition policy front.

7 I think most notably in

8 the news these days is Chancellor Merkel, the

9 E.U. president, German Chancellor, has

10 advanced the notion of a cooperative dialogue

11 between the U.S. and the E.U. on regulatory

12 issues. And so we're going to start

13 there.

14 Then additionally we'll

15 begin to work through international

16 department on China. We see that in a

17 working partnership with the Treasury

18 Department and the Strategic Economic

19 Dialogue that's in place advancing these same

20 kinds of principles and goals to bring about

21 some sort of regulatory playing field that's

22 more common than the patchwork that we see

23 currently existing.

24 MS. GRIMM: You mentioned

25 tying and essential facilities as two areas

193

1 that you're particularly concerned about, and

2 those are also the areas that you highlighted

3 in your comments that you submitted in

4 September.

5 Are there any areas aside

6 from tying and essential facilities that you

7 are concerned about internationally?

8 MR. HEATHER:

9 Internationally, let me answer that by saying

10 this. We are interested in making sure that

11 again this is not convergence for convergence

12 sake, but that there is a uniform standard

13 that's being applied by antitrust

14 jurisdictions around the world, and that

15 standard is one that is resonating from what

16 we see here in the United States happening.

17 So while the comments that

18 we made back in September talked about tying

19 and essentially facilities, our concerns

20 internationally go beyond that to any

21 particular Section 2 type action, whether it

22 be Article 82 of the E.U. or similar laws

23 in countries around the world.

24 And I think the reason which

25 we brought up the tying and essential

194

1 facilities was because one of the concerns

2 that was expressed, if you create a standard

3 that is of the highest magnitude, that

4 companies will then have to move to that, and

5 then it would be detrimental. And I think

6 that's particularly important to the issue of

7 intellectual property.

8 When you think about

9 intellectual property, if you have as enforcement

10 and remedy a disclosure of intellectual

11 property, you can't contain that disclosure within

12 a geographical jurisdictional of France or the

13 E.U. Once the cat's out of the bag, the

14 proverbial cat's out of the bag, it spreads

15 quickly across the rest of the known world.

16 So I think it's important

17 that we highlighted essential facilities and

18 tying arrangements because I think we see a

19 lot of that being where the divergence is

20 today. But more broadly, you would want to

21 see convergence around Section 2 issues.

22 MR. MATELIS: Following up a

23 little bit on that, Sean, assuming that

24 convergence might not be happening overnight,

25 you mentioned a couple times in your speech

195

1 principles that could be used in areas where

2 there's not convergence. You mentioned

3 Assistant Attorney General Pate's reference

4 to comity principals. And then later in your

5 discussion you mentioned agreements to defer

6 among international competition agencies.

7 I'd be interested in your

8 thoughts on that area in general. And Bruce,

9 I suspect this is something you've thought

10 about as well, and Bruce you as well have at

11 it.

12 MR. HEATHER: In my comments,

13 I think you're referring to where we talked

14 about enhanced comity. And while the U.S.

15 Chamber's not at this point prepared to say

16 enhanced comity is the exact way to go, we

17 believe that exploring that further is a

18 potential option.

19 I think that one of the

20 things you could do in terms of creating

21 standards across the board is potentially the

22 use of safe harbors, in the sense of safe

23 harbors in what I believe would be termed

24 the positive saying that if you have a dominant

25 market share position of 50 or 60 percent, that

196

1 that is not defined as a dominant position, or

2 to suggest certain conduct regarding tying or

3 rebate policies and the like does not

4 constitute an abuse of the dominant position.

5 Coming up with some standards that could be

6 adopted internationally would be one

7 way by which you could put that kind of

8 language into agreements between countries

9 and then exploring the area of enhanced

10 comity where potentially you could defer to

11 decisions of other jurisdictions.

12 MR. SEWELL: Yeah. On

13 comity first and then on safe harbors. The

14 reality is that sovereign countries and

15 sovereign trading blocs, that's the right

16 way to describe the E.U., are going to

17 regulate, are going to exercise their

18 sovereignty. That's perfectly within their

19 right to do so.

20 The problem, I think, is when

21 you have agencies which are really reaching

22 outside of their own geographic or area of

23 sovereignty in trying to regulate conduct

24 which occurs outside of that area.

25 So for example, where you

197

1 have an agreement between two U.S. companies

2 to price at a certain level, and then that

3 gets reviewed in a third country which is not

4 the host of either of those two companies.

5 And the analysis then becomes can two U.S.

6 companies price in a way which the U.S. would

7 find acceptable but yet some other agency

8 does not? And in those circumstances I think

9 the principles of comity should really be

10 argued and be respected by the agency that's

11 outside of the -- in this case outside of

12 the U.S.

13 Where there is a clear nexus

14 back to non-U.S. competition, so in the case

15 of Europeans, where there is a European actor

16 involved, that's a more difficult argument to

17 make.

18 But certainly where there is

19 no European actor involved and where there's

20 a tenuous connection at best back to European

21 commerce, then I think it's important that

22 issues of comity are respected.

23 With respect to the safe

24 harbor question, I actually think -- I agree

25 with you entirely that we are not going to

198

1 get international convergence or harmonized

2 antitrust laws any time soon. But I think

3 there is a role for the safe harbor here. I

4 think there is a threshold standard which

5 some number of these 100 antitrust regulatory

6 agencies around the world might be willing to

7 agree should represent the -- sort of the

8 bare requirements with respect to antitrust

9 conduct. And that so long as companies are

10 complying within that threshold standard,

11 that companies should at least have a safe

12 harbor from punitive litigation.

13 And it might be that that's

14 the first step in driving towards what would

15 ultimately become a more harmonized set of

16 international standards.

17 MR. WARK: I really don't

18 have a whole lot more to add on that issue.

19 I think the points have been well made.

20 MS. GRIMM: I'd like to ask

21 our panelists a question similar to that that

22 was asked of our morning panel, and that is

23 in the area of loyalty discounts, whether

24 market share provides a useful screening

25 mechanism in assessing the legality of such

199

1 discounts, why or why not. And Bruce Sewell,

2 maybe you can take a shot at that first.

3 MR. SEWELL: Let me start

4 with what I think you're asking and then feel

5 free to probe a little bit.

6 I don't fundamentally see the

7 loyalty space as different or as requiring

8 different treatment than a standard pricing

9 inquiry would demand. So I don't see perhaps

10 the relevance of the market share test.

11 It seems to me that whether

12 the discount is in the form of a loyalty

13 discount or some other form, the essential

14 inquiry remains the same. Is the price

15 that's being offered across the units being

16 sold above or below a predatory level? And

17 if the answer is that the price is above

18 what we've defined as a predatory level, then

19 I think that ends the inquiry.

20 If the price it below a

21 predatory level, then I think there are

22 remedies available and laws available to deal

23 with that. But I don't see it as a different

24 analysis.

25 MS. GRIMM: Bruce Wark, do

200

1 you have anything to add to that?

2 MR. WARK: Yeah. I think I

3 bring almost a unique perspective because I

4 think we have one of the world's most famous

5 loyalty programs. It's called Advantage.

6 And I think that anybody who looks at that

7 and looks at how the loyalty program at least

8 in our industry has grown up, it's absolutely

9 pro-competitive. It's a point of competition

10 that airlines engage in.

11 On the other hand it's not

12 exclusionary. It's clear that new entrants

13 have been able to enter markets, either by

14 developing their own loyalty programs,

15 hooking those loyalty programs onto the

16 loyalty programs of other airlines who may

17 want to do the same thing, making their

18 loyalty programs maybe quicker and easier to

19 redeem.

20 Or take the example of an

21 airline like Jet Blue, which may say well,

22 maybe what I'll do is I'll compete on some

23 other ways and product.

24 So I think the Advantage

25 program in the airline industry is a great

201

1 example of how loyalty programs can in fact

2 be very pro-competitive.

3 As far as the point that

4 Bruce Sewell just made, I tend to agree with

5 him. Unless you've got some kind of -- if

6 you can equate the loyalty program with

7 making it exclusive, then maybe you have to

8 analyze it in an exclusive dealing context

9 rather than a predatory pricing context. But

10 certainly our program doesn't work that way,

11 and many don't.

12 MR. SEWELL: And I'd add to

13 that too that really the way to look at

14 loyalty discounts is these are incentives to

15 buy. These are not punishments for failure to

16 buy. And that's a really fundamental

17 difference.

18 So the focus on incenting

19 behavior and providing an advantage to buying

20 more is different than threatening to punish

21 in the event that a supplier were to -- that

22 a customer were to buy from a different

23 supplier. Very different kinds of things and

24 should be treated very differently by the

25 antitrust laws.

202

1 MR. WARK: One other point I

2 guess I want to make which goes back to the

3 original question is what role does market

4 share play. And again, I think the airline

5 industry is interesting because we're 20

6 percent of the U.S. market, which no one's

7 going to say is dangerously close to

8 establishing monopoly. But maybe on an

9 individual route or out of an individual hub

10 we'll be 70, 80 percent of it.

11 So are you going to apply

12 the 70 percent or the 20 percent? So that

13 really gets into what's your relevant market

14 on the loyalty program, and could you really

15 run a different loyalty program based upon

16 the location of the particular participants

17 in that program.

18 So I think when you ask the

19 question what market share means, at least in

20 my mind, part of the question is being able

21 to find relevant market for purposes of the

22 loyalty program.

23 MS. GRIMM: Bruce Sewell, as

24 I understand it, Intel has faced or is facing

25 inquiries in a number of different foreign

203

1 jurisdictions with respect to its discount

2 policies. Have you encountered differing

3 standards in those foreign jurisdictions?

4 And if so, how?

5 MR. SEWELL: Well, I'm

6 pleased to be able to say that I don't have

7 the data to answer that yet because we

8 haven't been the subject to different -- to

9 the imposition of different standards. We

10 are dealing with agencies around the world.

11 As yet we have not been put in the position

12 where we have to sort of harmonize those

13 different issues.

14 Having said that though, I am

15 concerned that the standards that will be

16 applied, should these agencies choose to act,

17 will be different.

18 And a quick example. The

19 European Commission is now wrestling with

20 this issue of effects based or formalistic

21 application of the antitrust laws. Should

22 one look at the intent, the conduct

23 exclusively, should one look at a prescribed

24 set of formulistic rules, or should one

25 really focus on the effect that the conduct

204

1 has in the market?

2 And I think in that area the

3 U.S. leads with its willingness to study

4 effects as opposed to exclusively conduct for

5 a formulistic approach.

6 So the result that may obtain

7 in Europe should the European competition

8 authorities decide to bring an action against

9 itself might be different because of the

10 application of a different test. We're not

11 there yet, but I worry that that's the case.

12 Sean mentioned the Chinese

13 anti-monopoly law. It's not at all clear

14 what kind of standards the Chinese would use

15 in assessing market share or in assessing

16 conduct under the anti-monopoly law.

17 It's not currently an issue

18 for us. We're not currently under

19 investigation in China. But it is not at

20 all inconceivable given that we are subject

21 to a competitor which has chosen to use a

22 serial antitrust complaint approach, that we

23 may find ourselves having to defend our

24 conduct in China at some point. And I have

25 very little confidence that I today could

205

1 tell you what standards would be used by the

2 Chinese government, how that would be

3 understood.

4 MS. GRIMM: Thank you. I'd

5 like to ask you a general question here

6 again, both Bruces, I'd appreciate your

7 responding.

8 We've talked about loyalty

9 discounts. We've talked about predatory

10 pricing. I am wondering if there are any

11 other areas under Section 2 that you think

12 need more guidance from the agencies, areas

13 perhaps in which we could consider safe

14 harbors, areas maybe needing the announcement

15 of some presumptions. I know it's a broad

16 question, but I wonder if you've given any

17 thought to this, or in your experience that

18 there are any other issues that you've found

19 to be of particular concern.

20 MR. WARK: Let me think on

21 that a little bit. I mean, I spoke on

22 predatory pricing in large part because as

23 the provider of essentially a single product,

24 I don't run into some of the bundling issues.

25 There aren't a whole lot of exclusive dealing

206

1 concerns in my business.

2 And obviously having defended

3 a predatory pricing case and having seen what

4 happened in the Spirit case, that is the

5 issue which is of most importance to me.

6 So I guess, as I listen to

7 Bruce, I'll think whether there's any other

8 areas. I'd be happy to have that one taken

9 care of.

10 MS. GRIMM: Fair enough.

11 Bruce?

12 MR. SEWELL: There isn't

13 anything that's strictly within the antitrust

14 context that comes to my mind, although there

15 is this intersection between intellectual

16 property law and single-firm dominance which

17 I think is an area that deserves a lot more

18 scrutiny and could certainly benefit from

19 some clearer language and clearer standards.

20 So that would be one.

21 And then I think also in

22 this area of standardization, what happens

23 when a firm, either because of its size or

24 because of its intellectual property position

25 engages in a standard-setting activity. And

207

1 I think also we could use some clarity in

2 that space.

3 MR. MATELIS: This might be

4 a different way of getting at sort of the

5 same point, but Bruce Wark, you mentioned in

6 your remarks that you can recall some

7 instances where American refrained from what

8 you thought was pro-competitive conduct out

9 of fear of baseless antitrust suits.

10 Without going, you know, into

11 the details too much, could you explain in

12 general what sorts of things you were

13 thinking about and, Bruce Sewell, maybe you

14 have some perspective on this as well. And

15 Sean, anything that your members have relayed

16 to you would be of interest too.

17 MR. WARK: In the Section 2

18 context it became clear from our litigation

19 experience that the Department was as much

20 concerned with capacity decisions as it is

21 with pricing. Now, from our perspective they

22 always went hand in hand because when you get

23 a lower price, you now want to compete for

24 anybody who might be into that lower price,

25 which is going to be a bigger universe than

208

1 what you started with.

2 But it was at least in the

3 DOJ's theory and it was also the theory in

4 the Spirit case that maybe you could match

5 the competitor, but you shouldn't expand

6 capacity.

7 Also when you go back and

8 you look at the history of what the DOT was

9 proposing, they were basically idea of being

10 well, you can match price, but we just don't

11 want you expanding output.

12 So with that sensitivity, you

13 know, we really do have to sit there and say

14 okay. We have to look at the market and say

15 well, are we comfortable expanding capacity

16 in that market, knowing that although we

17 think it's perfectly legal and

18 pro-competitive, are we going to have to

19 re-address this thing that we're adding

20 capacity where we shouldn't.

21 There are a couple of other

22 examples that primarily also we've had some

23 other disputes with the Department about,

24 more along the line of Section 1 cases and

25 how we publish fares. And details probably

209

1 wouldn't interest too many people here. But

2 that's also another area where we think we

3 would have to be conservative, in large part

4 not because we think we're wrong, but

5 because, you know, we're not interested in

6 having another argument.

7 MR. SEWELL: I don't want to

8 give you a flip answer. The temptation would

9 be to say whatever happened, we haven't been

10 very successful at it because we are

11 currently being sued.

12 The structure of my industry

13 is a little different than Bruce's. We

14 really primarily are worried about one

15 particular competitor. And I can't think of

16 any situation in which we have foregone an

17 opportunity that was demonstrable and was

18 understood was sitting on the table because

19 we feared a suit by our competitor.

20 But Intel expends an enormous

21 amount of resources, legal resources, trying

22 to figure out where these lines are and

23 trying to make sure that we believe we can

24 defend everything that we do if challenged.

25 We fully expect to be challenged and we are

210

1 routinely challenged.

2 So I don't think we

3 intentionally leave money on the table, as it

4 were, or intentionally price in a way which

5 does not seek to provide the maximum benefit

6 to consumers. But we spend an awful lot of

7 time trying to make these decisions.

8 And as is apparent, we don't

9 always get it right in the sense that we're

10 not successfully avoiding the litigation. We

11 absolutely believe that we can defend the

12 decisions that we've made, and we'll

13 eventually have that opportunity.

14 But it is a cost. It's a

15 large cost for doing business. And it would

16 be helped in large part by some clearer rules

17 so that we could set systems and educate our

18 clients with greater certainty about where

19 the lines need to be drawn.

20 And then we would still

21 probably have to defend ourselves in court,

22 but it would be on the basis of greater

23 certainty.

24 MR. HEATHER: If I heard

25 your question right, it's do legal

211

1 environments lead to businesses making

2 decisions based on those.

3 MR. MATELIS: Right. And

4 then in particular, are there pro-competitive

5 pro-consumer business decisions that companies

6 -- you know, your members, for instance, are

7 avoiding because they fear antitrust

8 liability in some form?

9 MR. HEATHER: Well, our

10 members have told us on numerous occasions

11 that obviously in the general sense that

12 these kinds of legal environments do impact

13 their business decisions. And we most

14 readily track that through our Institute of

15 Legal Reform, which has been around for the

16 last four or five years. We release a study

17 study annually that ranks the 50 states on

18 whether or not they have a positive legal

19 environment that encourages business

20 investment or whether they have a legal

21 environment that discourages business

22 investment.

23 In that survey we haven't

24 gone into antitrust issues, so I would

25 leave it at generically stating that yes,

212

1 there is a link between cause and effect.

2 And obviously companies react and make their

3 business planning based on the legal

4 environment.

5 MS. GRIMM: I'd like to

6 pursue that a little bit more in the

7 international context again and basically ask

8 very much the same question that was asked of

9 our panelists this morning.

10 In terms of how businesses

11 such as yours, Bruce and Bruce, respond to

12 variations in the competition laws

13 internationally, in particular I'd like to

14 know, for example, whether your business

15 decentralizes decision making as to different

16 foreign environments. Secondly, whether your

17 business generally seeks to comply with the

18 most restrictive laws in those environments.

19 I'd also like to ask whether the uncertainty

20 could even impact on where you, for example,

21 Intel, put your factories.

22 And fourth, I think maybe you

23 answered this, but whether the difference in

24 international enforcement standards

25 substantially raises your cost of doing

213

1 business. Those are kind of four

2 subquestions under the large question. But

3 if you could try to address those, it would

4 be helpful.

5 MR. SEWELL: Sure. I'll

6 start, and then if I miss one, then let me

7 know.

8 We start with the position

9 that as a global company, we need to be

10 compliant with the antitrust laws globally.

11 And since there is not a unified standard for

12 that, we have to look at each area in which

13 we do business.

14 For Intel philosophically, we

15 start with the premise that we must be

16 compliant in the U.S., and then overlay that

17 U.S. compliance approach with foreign

18 requirements to the extent that we can

19 discern what those foreign requirements are.

20 So at any given point, we

21 would be able to answer this question by

22 saying we are sure we are compliant with U.S.

23 antitrust law, and we are doing everything

24 that we can to be compliant with foreign

25 antitrust law although it's more difficult

214

1 because that law is less certain in many

2 cases, and in some cases even is nascent, is

3 not really yet codified.

4 So we decentralize the

5 decision making to some degree based on that

6 model. So we have antitrust experts outside

7 of the U.S. who focus on antitrust compliance

8 issues in major regions, not in every single

9 country in which we do business.

10 And we have pricing experts

11 outside of the U.S. who seek to inform the

12 pricing people within the central core of the

13 company as to where a particular price or a

14 discount or an incentive program might be

15 potentially problematic outside of the U.S.

16 In terms of your last point,

17 was could it impact where we might select to

18 do business, and the answer is in general,

19 yes. It's a factor that we consider. Because

20 our approach is to try to say that we will

21 be compliant wherever we do business, even if

22 that means that we will hire lawyers and hire

23 specialists to tell us how to do that, in

24 the end it's a cost of doing business that

25 we would normally absorb. And the decision

215

1 as to where to locate a factory tends to be

2 driven by things other than the antitrust

3 laws in a particular country, because we just

4 -- we assume that we're going to figure out

5 how to live within those laws, and we'll

6 absorb that cost.

7 The same would not

8 necessarily be true for intellectual property

9 laws where the risk of putting a factory into

10 a country with punitive intellectual property

11 laws could be much more devastating. We'll

12 figure how to get through the antitrust

13 issues. Some of the IP issues are sticky.

14 But the last point is that

15 it certainly is that the disharmony and the

16 lack of convergence represents a substantial

17 and significant cost for us, and that cost

18 could be alleviated or at least substantially

19 reduced if we had greater consistency among

20 the various laws.

21 MS. GRIMM: Bruce, would you

22 like to add to that?

23 MR. WARK: Sure. The

24 airline industry is a little different than a

25 lot of industries in the sense that there

216

1 isn't a whole lot of foreign investment is

2 U.S. airlines in part because of law and vice

3 versa.

4 So my competitive footprint

5 in Europe, being the most important example,

6 is small. So I never really have to worry

7 about an Article 82 claim standing alone.

8 I think where those issues do

9 come up for us is we compete with airlines

10 like British Airways, but we also cooperate

11 with airlines like British Airways through

12 airline alliances.

13 So for example, I may be

14 competing with them between Chicago and

15 London, but I may be cooperating with them to

16 move somebody from Chicago to Tel Aviv.

17 So we're kind of in this

18 interesting position of sometimes competing

19 with airlines, sometimes cooperating with

20 airlines. That's more of a Section 1 or an

21 Article 81 issue, although you do have this

22 kind of concept of collective dominance. I

23 don't know that anybody really knows what

24 that means under Article 82. I think that's

25 being developed as we speak.

217

1 So when we talk to the other

2 airlines about what we can do as an alliance,

3 I can say that we always have to fall to the

4 lowest common denominator. I personally

5 believe there are some very pro-competitive

6 things alliances can and would do but for the

7 fact that again, you're always operating on

8 the lowest level for fear that you will

9 stumble on what is the highest competitive

10 hurdle.

11 MS. GRIMM: I have no more

12 questions.

13 MR. MATELIS: Something that

14 a lot of people have spoken about today are

15 loyalty discounts. Bruce, let's start with

16 you. I wonder if you could -- you know, I

17 think most people intuitively grasp how

18 loyalty discounts help firms get business.

19 But I wonder if you could help tell us by

20 tracing that through to the potentially

21 pro-competitive effects on consumers.

22 MR. WARK: Which Bruce?

23 MR. MATELIS: Bruce Sewell.

24 MR. SEWELL: Maybe I'mbr>
25 missing something, but the trace-through from

218

1 my perspective is that loyalty discounts are

2 discounts. Loyalty discounts reduce the

3 price that the consumer pays, and for that

4 reason -- I mean, that is the essential and

5 the nub of what we're trying to accomplish

6 through regulation of competition.

7 So the track to me is very

8 simple. It's a discount. As I said before,

9 I think it should be looked at as any other

10 kind of pricing mechanism.

11 Sometimes these discounts may

12 be cash discounts. Sometimes they may be

13 discounts in kind. Sometimes they may be

14 incentives to cooperate in areas that

15 increase visibility of the products or other

16 marketing areas.

17 But in the end, from the

18 perspective of a consumer, all of these

19 discounts ultimately produce a lower price in

20 the marketplace. And I think that's the

21 social benefit.

22 MR. MATELIS: Are there

23 cost-saving efficiencies that might not be

24 readily apparent to somebody outside a firm,

25 or is that not significant?

219

1 MR. SEWELL: Well, in our

2 industry it can be very significant because

3 issues of scale have such a direct impact on

4 the cost. So from our perspective, there are

5 pro-competitive and pro-business reasons for

6 looking to expand the scale and the volume of

7 parts that we sell.

8 So I'm not sure that's

9 directly a consumer benefit, but it's

10 certainly a business justification for the

11 discounting practice.

12 MR. MATELIS: Bruce Wark or

13 Sean, any thoughts?

14 MR. WARK: I wouldn't add

15 anything to that.

16 MR. MATELIS: Okay. I

17 wanted to return to something that Bruce

18 Sewell mentioned earlier and ask it of you

19 Bruce Wark. Bruce said that at Intel,

20 average variable cost is a readily available

21 figure often. Is that the case at American

22 as well?

23 MR. WARK: Well, we had a

24 very long piece of litigation where in fact

25 there was a great deal of argument about what

220

1 average variable costs should be. I think we

2 thought we knew what it meant for purposes of

3 that case. It was a different number than

4 what the Justice thought the number should

5 be.

6 MR. MATELIS: I don't mean

7 to interrupt you. But outside the context of

8 litigation, is average variable cost a

9 concept that -- or a figure that is important

10 to American's own internal deliberative

11 process, or do you have different ways of

12 thinking about your business?

13 MR. WARK: We have a route

14 accounting system that takes account of all

15 kinds of different layers of cost, from fully

16 allocated to something that is much more

17 variable. So yes, I think that the short

18 answer to your question is yes.

19 MR. MATELIS: Another

20 predatory pricing question for -- I guess for

21 you, Bruce Wark. You mentioned in your

22 prepared remarks that you thought it was

23 appropriate to acknowledge a meeting

24 competition defense in the Section 2 context.

25 I guess the flip side to -- or the argument

221

1 against the meeting competition defense is

2 that if it precludes liability in exactly

3 those situations where, you know, a low-cost

4 -- a lower cost new entrant might be seeking

5 to enter, and a higher cost incumbent lowers

6 cost. So in that instance the meeting

7 competition defense would provide a safe

8 harbor for sort of the core theory of how

9 predatory pricing can work to harm

10 competition.

11 Sort of in general give me

12 your thoughts on why the meeting competition

13 defense is appropriate and why my attempt to

14 defend it might not be the right way to look

15 at it.

16 MR. WARK: Well, I think

17 from the perspective of the alleged preditee,

18 they picked a point in the marketplace where

19 they have to decide they're going to be

20 successful. We didn't.

21 It is a different situation

22 than when that cost is imposed on them. If

23 I went out and imposed a cost on them that

24 was below my measure of marginal or

25 incremental costs with the intention of

222

1 driving them out, and they couldn't survive

2 at that price, then that would be a different

3 situation than when you have the alleged

4 victim setting the price in the marketplace.

5 If they raise their price and

6 we didn't follow, that might be a different

7 fact. But I think that if a competitor that

8 basically sets its own price in the market

9 can't survive, it's not the kind of efficient

10 competitor that the competition laws are

11 intended to protect.

12 MR. MATELIS: Do you have

13 any thoughts on how easy or hard it is to

14 compare costs when you're seeking to apply

15 the meeting competition defense? Is the cost

16 comparative always intuitive, or are there

17 hidden costs that make that comparison

18 difficult?

19 MR. WARK: Well, I guess

20 what I'm arguing is that the defense, you

21 don't have to worry about my costs. I ought

22 to be able to compete for every passenger I

23 can at the price determined by my competitor.

24 MS. GRIMM: I think those

25 are all the questions that Joe and I have.

223

1 I would like to ask our panelists if they

2 have any additional questions or observations

3 they'd like to make.

4 MR. WARK: Just to simply

5 extend my thanks again for the opportunity.

6 MS. GRIMM: And I'd like to

7 thank all of you for joining us here today.

8 The weather is very challenging, and we

9 really appreciate your taking time off from

10 your very busy schedules to be with us and

11 prepare for these hearings. Your remarks

12 have been very insightful, and we appreciate

13 your sharing your views with us. Can we all

14 give them a hand of applause?

15 (Applause)

16 MS. GRIMM: Thank you all

17 and have a safe trip home.

18 (Which were all the

19 proceedings had in the

20 above-entitled cause this

21 date and time.)

22
23 * * *

24
25

224

1 CERTIFICATE OF REPORTER

2
3 I, PAMELA STAFFORD, Certified Shorthand

4 Reporter for the State of Illinois, do hereby certify

5 that the

6 foregoing was reported by stenographic and mechanical

7 means, which matter was held on the date, and at the time

8 and place set out on the title page hereof and that the

9 foregoing constitutes a true and accurate transcript of

10 same.

11 I further certify that I am not related to any of the

12 parties, nor am I an employee of or related to any of the

13 attorneys representing the parties, and I have no

14 financial

15 interest in the outcome of this matter.

16 I have hereunder subscribed my hand on the

17 day of                 ,         .

18
19
20
21
22 PAMELA STAFFORD, CSR

Updated June 25, 2015