International Law

Should Franchisors be Worried about Anti-Trust?

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Franchise systems live in a odd paradox. On one hand, they seek to spread and proselytize their brand to their customers to restrict their choice.

Yet, they also seek to avoid any of the legal ramifications of restraint of trade, or anti-trust doctrines.

So far, the franchise systems have been able to straddle this tension.

As Peter Klarfield writes about franchisors and restraint of trade:

"Franchisors have not recently had to worry much about the antitrust ramifications of vertical nonprice restraints on franchisees or of acquisitions of competing chains. The reason is that few--if any--franchisors have economic power in any reasonably defined relevant market.

In other words, the industries in which franchisors generally compete (e.g., food service, lodging, service businesses, retail sales, real estate sales) are industries in which substitute products and services are generally readily available.

But, the US Antitrust scene may change because of the FTC's opposition to the Whole Food and Wild Oats merger.

Whole Foods filed a petition for a rehearing en banc after losing its appeal in the D.C. Circuit. Last month, the FTC responded by filing a brief in opposition (pdf), stating that the D.C. Circuit Court panel "applied established standards to the specific factual setting of this case, and rendered a ruling that focused on the evidenced adduced by the FTC."

In the Whole Foods case,  the Antitrust Institute argued that FTC had a good but novel argument about what the market should be for an antitrust analysis.

"As has been pointed out by critics of the FTC's complaint, the case turns on the definition of the relevant product market, described as "premium natural and organic supermarkets."

In 28 geographic regions across the country, Whole Food's proposed acquisition of Wild Oats would eliminate the second largest competitor or potential competitor.

However, if the relevant product market includes the natural and organic food products sold by full-line supermarkets, "the effect of the merger is de minimis."

Under the usual definition of market, the market for the analysis of the Whole Foods merger with Wild Oats would be the grocery market. The FTC argued that the market was smaller: that there was a market for premium natural and organic supermarkets.

Consumers convinced by the branding of Whole Foods who would not go to another generic grocery story comprise this smaller market.

Peter Klarfield points out the consequences of an FTC win for the franchisor community.

"But consider what would happen if the proper relevant market for an antitrust attack on these activities were redefined, from a market that included all competitors offering reasonably interchangeable products or services to one that included only those competitors that offered products of the same perceived quality, a particular level of service and/or a particular advertising image.

What if price wars between hamburger chains, for example, were taken as evidence that chicken sandwiches do not effectively compete with hamburgers?

What if associating a product or service with a certain "lifestyle" narrowed the relevant market for antitrust purposes to other companies that attempted to invoke a similar "lifestyle" in their advertising?

That is the direction taken in the FTC's complaint.

If the FTC succeeds in having such a market recognized, the same types of arguments can easily be directed toward many franchised brands.

For example, restaurant chains that feature a particular kind of food, or seek to highlight their service orientation, or seek to market a certain type of atmosphere (e.g., "kid-friendly") could be alleged to operate in markets so narrow that virtually any control over distribution or any acquisition of a similar company could be colorably argued to substantially lessen competition in that market.

In the past, differentiation by firms of their quality, service level and brand image has been seen as a desirable way for businesses to compete for customers.

To re-characterize competition in quality, service and image as elements that narrow the definition of markets would be a very dangerous development for franchise chains and for the economy as a whole."

To see an example of how this may play out, read this thread over at BMM discussing the possible Antitrust ramifications of Adobe's aborted partnership with FedEx.

Full post as published by Misleading Advertising Law on October 10, 2008 (boomark / email).