Insights

Antitrust Alert: Federal Court Provides New Guidance on Secret Payments Under California Unfair Practices Act

A federal district court has provided new guidance on how California’s Unfair Practices Act treats secret payments and rebates a manufacture offers to only some purchasers.  In Pet Food Express Ltd. v. Royal Canin USA, the U.S. District Court of the Northern District of California addressed claims under the Unfair Practices Act, which is codified at California Business and Professions Code § 17045 ("Section 17045").  Section 17045 makes unlawful a seller’s secret payments or allowance of rebates that are not extended to all purchasers and that injure competition.  The Pet Food case addresses what is necessary to prove a Section 17045 violation and provides specific guidance as to how a court will evaluate these alleged secret payments and their impact on competition under the Act. 

In 2004, plaintiff Pet Food Express, a pet food retailer in the Bay Area, and defendant Royal Canin, a pet food manufacturer, entered into an agreement that made Pet Food Express the exclusive distributor of Royal Canin products within a specified territory.  In return, Royal Canin agreed each March 15 to pay Pet Food Express a market development allowance ("MDA").  The MDA represented 5% of the aggregate annual dollar volume of Royal Canin products shipped directly into Pet Food Express’ territory and shipped to distributors outside the territory but ultimately sold at retail within the territory.  The agreement also stated that Pet Food was to keep the agreement "confidential." 

On March 16, 2009, Pet Food Express informed Royal Canin it was in breach for not paying the 2008 MDA.  Royal Canin then expressly repudiated the Agreement.  Royal Canin asserted it had repudiated the Agreement and refused to pay the 2008 MDA because such payments were illegal and unenforceable under Section 17045.  Pet Food Express sued Royal Canin for breach of the Agreement.  Royal Canin moved for summary judgment, arguing that it could not be in breach because the agreement to pay a secret MDA was unlawful. 

Section 17045 of the Act states that secret payments or rebates not extended to all purchasers that have the result of injuring competition are unlawful.  In its ruling on Royal Canin’s summary judgment motion, the district court stated that the payment or rebate must (1) be of the type described in the statute, that is, a payment or allowance or rebates, refunds, commissions or unearned discounts, (2) be secret, (3) injure a competitor, and (4) tend to destroy competition.  Royal Canin claimed that its agreement with Pet Food Express met each of these four factors, however the court found their claims to fall short of meeting the second and third prongs of this analysis. 

The court found that the agreement was not secret.  Royal Canin had in the late 1990s made hundreds of such agreements with MDAs with other retailers, although it was the only one Royal Canin had at the time of the lawsuit.  This suggested its MDA agreement with Pet Food Express was not "secret in the industry."  Furthermore, the actual confidentiality provision in the Agreement was non-reciprocal in nature, it only required that Pet Food Express keep the agreement secret.  The court held that a contract should be illegal due to secrecy only where "the party asserting the defense [Royal Canin] is incapable of following both the contract and the law." 

The court also found the defendant was unable to prove injury to competitors.  Royal Canin had argued that Pet Food Express could set prices and decline to compete with other retailers, because Pet Food Express benefited each time its competitors sold a Royal Canin product in its territory.  The court ruled this theory was too underdeveloped and incoherent to present a clear picture of a potential harm.  Further, the court found that Royal Canin had failed to show any evidence of actual harm to any competitor.  The court rejected the defendant’s contention that actual harm is proved any time there is price discrimination.  Rather, Royal Canin needed to point to evidence concerning factors such as the relevant market definition (all pet food, Royal-Canin branded pet food, something else), whether similar discounts are prevalent or rare in the industry, and whether competitors have suffered any loss in sales. 

The court declined to grant Royal Canin’s motion for summary judgment.  Royal Canin also alleged that the allowances it was paying to Pet Food Express violated Section 2(d) of the Robinson-Patman Act, 15 U.S.C. § 13(d).  However, Royal Canin did not move for summary judgment on this claim due to the existence of relevant issues of material fact. 

This case is instructive in that it describes the four-prong test courts will apply in evaluating secret payments or rebates under Section 17045.  It also provides more specific guidance on how courts will evaluate whether an agreement is "secret."  Here, the court indicated that the fact that many other distributors had participated in similar discounting arrangements in the past, coupled with the fact that the distribution agreement’s confidentiality provision was not reciprocal, weighed against a finding of secrecy.  Finally, the decision also reaffirms that proof of a price difference is not sufficient to show an injury to a competitor under Section 17045.  

The court's decision is attached.

 

For more information, please contact:

 

Jeffrey A. LeVee

Silicon Valley / Los Angeles

jlevee@jonesday.com 

 

Margaret A. Ward (Peggy)

Silicon Valley / Washington

maward@jonesday.com 

 

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