But what of the situation in which a client seeks counseling, rather than presentation of a dispute to a figure authorized to make a decision? In this context, Brad Wendel foregrounds the difficulty that “must be faced in any complex regulatory arena in which a client may seek the assistance of a lawyer to avoid a legal prohibition or penalty through careful planning.” As already noted earlier in this series, one of Wendel’s targets is abusive tax shelters that are supported by spurious legal advice. In my career as a Dallas practitioner, I saw the collapse of a very fine competitor firm for this very type of conduct and one of its responsible partners sentenced to a lengthy prison stay. In some ways, these cases are easy to analyze in ethical terms ex post facto because they are threaded with bogus transactions. Such is not always the case, though—there are plenty of regulatory regimes in which transactional structures can be manipulated so as to defeat a rule’s background justifications.
Over 100 years ago, in Dr. Miles Medical v. John D. Park & Sons, the Supreme Court held that it is per se illegal for a manufacturer to agree with its distributor to set the minimum price the distributor can charge for the manufacturer’s goods. The case arose from a common fact situation in distribution systems—namely, a downstream party is a “price cutter,” which irritates other participants selling at that party’s level of distribution (e.g., wholesale or retail) and the manufacturer, in reaction, tries to stifle the discounter. As the Dr. Miles court described this typical scenario, “The contracting wholesalers or jobbers covenant that they will sell to no one who does not come with [the manufacturer’s] license to buy, and that they will not sell below a minimum price dictated by [the manufacturer].” In consequence, “all competition between retailers is destroyed, for each such retailer can obtain his supply only by signing one of the uniform contracts prepared for retailers, whereby he covenants not to sell to anyone who proposes to sell again unless the buyer is authorized in writing by the complainant, and not to sell at less than a standard price named in the agreement. Thus all room for competition between retailers, who supply the public, is made impossible.” Speaking in what we now think of as “antitrust” terms, the court noted, “That these agreements restrain trade is obvious.”
Under Section 1 of the Sherman Act, “Every contract, combination in the form of trust or otherwise, or conspiracy, in restraint of trade … is declared to be illegal.” This language and the Dr. Miles holding make it clear that it’s the agreement to fix vertical prices (also known as resale price maintenance) that’s illegal—in other words, it takes two to tango your way into a violation. Those of us who counsel on antitrust issues routinely hear pleas from clients to help them “get around” the prohibition established in Dr. Miles. And it isn’t the case that all these manufacturers are scofflaws out to gouge the public—they quite often have legitimate reasons for wanting to set resale prices.
For example, for many years, I represented a designer of high-end wedding dresses. This line of business requires showcase retail space and is labor intensive, as one can readily see in reality TV shows like “Say Yes to the Dress.” With the advent of the internet, a new wrinkle emerged with respect to the “discounter” problem discussed in Dr. Miles. That is, some prospective brides avail themselves of retailers’ amenities—things like a substantial inventory, well-trained staff, and attractive physical space (not to mention free champagne!)—and then buy their dresses online at a substantial discount. Brick-and-mortar retailers understandably howl at the loss of revenue caused by the internet discounters’ ability to free ride on their higher cost structure and, again understandably, threaten to drop the manufacturer’s line. Faced with this dilemma, a manufacturer has essentially two choices: refuse to do business with the online discounter (a strategy that has its own antitrust and business issues) or find a way to force the discounter to charge higher prices.
Justice Oliver Wendell Holmes, in his Dr. Miles dissent, observed that the majority’s opinion lent itself to form-over-substance transaction structuring: “In the first place by a slight change in the form of the contract the plaintiff can accomplish the result in a way that would be beyond successful attack. If it should make the retail dealers also agents in law as well as in name and retain the title until the goods left their hands I cannot conceive that even the present enthusiasm for regulating the prices to be charged by other people would deny that the owner was acting within his rights.” And indeed, in U.S. v. General Electric, the Supreme Court expressly upheld a consignment system under which GE appointed Westinghouse as its agent for selling light bulbs and dictated the price at which Westinghouse was allowed to sell to consumers. As Holmes predicted, “There is nothing as a matter of principle, or in the authorities, which requires us to hold that genuine contracts of agency like those before us, however comprehensive as a mass or whole in their effect, are violations of the Anti-Trust Act. The owner of an article, patented or otherwise, is not violating the common law, or the Anti-Trust law, by seeking to dispose of his article directly to the consumer and fixing the price by which his agents transfer the title from him directly to such consumer.”
Consignment arrangements are cumbersome to administer, and their practical efficacy waned after subsequent cases carved back the General Electric holding. But agency distribution is not the only way out of the Section 1 “agreement” thicket. Soon after Dr. Miles, in U.S. v. Colgate, the court was presented with the question of “whether a manufacturer of products shipped in interstate trade, is subject to criminal prosecution under the Sherman Act, for entering into a combination in restraint of such trade and commerce, because he agrees with his wholesale and retail customers, upon prices claimed by them to be fair and reasonable, at which the same may be resold, and declines to sell his products to those who will not thus stipulate as to prices.” Although it’s not clear from the case opinion that there was no “agreement” under ordinary contract principles, the case stands for the proposition that a manufacturer may announce resale prices and terminate any dealer that doesn’t follow the announced prices. Such a “Colgate Plan” (named after the defendant in that case) plainly has the same effect as an agreement violating Section 1. So is it wrong for a lawyer to counsel a client to achieve vertical price-fixing ends via transactional structuring?
In Dr. Miles, the majority held that “agreements or combinations between dealers, having for their sole purpose the destruction of competition and the fixing of prices, are injurious to the public interest and void. They are not saved by the advantages which the participants expect to derive from the enhanced price to the consumer.” The takeaway is that a majority of the Supreme Court believed that vertical price fixing is a commercial and social evil. On this issue, Holmes also disagreed: “I cannot believe that in the long run the public will profit by this court permitting knaves to cut reasonable prices for some ulterior purpose of their own and thus to impair, if not to destroy, the production and sale of articles which it is assumed to be desirable that the public should be able to get.”
Two points emerge here, both of which prove Holmes prescient. First, he intuits that price-cutting “knaves” may actually harm the market by reducing the availability of desirable articles when, for example, those articles are in actuality sold as a package of goods and services. (Recall our wedding-dress scenario, in which it is optimal for the manufacturer, retailer, and customer for the retailer to provide a high level of service—service that is not sustainable unless the retailer maintains a margin sufficient to cover that cost). Second, he notes that—with respect to most commodities—if prices of a particular good are too high, consumers will migrate to other products seen as reasonable substitutes. And, in fact, on both scores, most courts have come around to Holmes’ views, as we’ll observe in the next installment.
Reprinted with permission from © ALM Media Properties LLC. All rights reserved.
