February 28, 2001

Page 4

February 28, 2001

FTC Report on Slotting Allowances and Related Practices

On February 20, the Federal Trade Commission released a staff report addressing slotting allowances and other related practices in the supermarket industry: “Report on the Federal Trade Commission Workshop on Slotting Allowances and Other Marketing Practices in the Grocery Industry,” available at http://www.ftc.gov/opa/2001/02/slotting.htm. The report concludes that the Commission should not issue formal guidelines in this area before undertaking further empirical study. The report makes several enforcement recommendations, however, that will be of interest to participants in industries where slotting allowances and similar practices are employed.[1] The FTC staff’s primary concern at this time is the effect that such practices may have on the exclusion of rival suppliers’ products from markets. Accordingly, the report recommends: (1) that the FTC “carefully review exclusive-dealing contracts” — i.e., agreements between manufacturers and retailers that prohibit rival suppliers’ products from appearing on shelves, or consign them to unfavorable shelf-space — “to determine whether they threaten a harm to competition,” and (2) that the Commission “examine slotting allowances and pay-to-stay fees with particular attention to circumstances that could give rise to exclusionary effects.” In a separate section, the report addresses the use of “category captains” and notes that such arrangements have the potential to lead to the exclusion of rival suppliers or to anticompetitive horizontal collusion among groups of suppliers or retailers. Finally, the report recommends that, in reviewing supermarket mergers, the FTC continue to take account of the potential exercise of market power by supermarkets against suppliers, especially in situations where a merger leaves a small number of supermarkets serving a single region.

I. Slotting Allowances and Related Practices

Slotting allowances, as defined in the staff report, are up-front, lump-sum fees paid by grocery manufacturers to supermarkets for the placement of new products on their shelves. “Pay-to-stay” fees are payments made to retailers, typically on an annual basis, to keep existing products on the shelves. Both are common — and controversial — practices in the grocery industry, as well as other retail sectors. A related practice is a form of exclusive-dealing contract whereby a manufacturer makes payments to a retailer to limit rivals’ shelf space, or otherwise to disadvantage the placement of rivals’ products. The current report is the outcome of a public FTC workshop conducted May 31 - June 1, 2000 to study the competitive implications of these practices. Although the FTC workshop and report are limited to the grocery industry, the conclusions drawn there may have implications for how the Commission approaches similar practices in other industries.

The FTC staff report recognizes that slotting allowances and related practices can have efficiency-enhancing effects. Slotting allowances, for instance, spread the risk of introducing new products between manufacturers and retailers, making retailers more likely to accept innovation in product placement on their shelves. Similarly, pay-to-stay fees have been defended as a means of rationally apportioning limited shelf space to the highest-valued users, i.e., those manufacturers most willing to pay to keep their products on the shelves. At the same time, the staff report sounds a warning that such practices may have anticompetitive effects under certain circumstances. Potential harms include the exclusion of small manufacturers and their products from retail shelves, the reduction of innovation and product variety because of the barrier to entry represented by such fees, and increased prices to consumers.

The FTC staff’s primary concern at this time — pending further study[2] — is the potential that slotting allowances and related practices may lead to the exclusion of certain manufacturers’ products from retail outlets. Accordingly, the staff recommends that exclusive-dealing contracts that limit or disadvantage a rival supplier’s shelf placement be subjected to close scrutiny to determine whether they have the effect of excluding rivals’ products that are important to maintaining competition. In the staff’s view, such scrutiny should not be limited to contracts for absolute exclusion of rival products, but should extend to partial exclusive-dealing contracts, preferential shelf space agreements, and other payments made in return for limitations on distribution of rivals’ products (e.g., restraints on retailers’ promotional activities).

According to the staff report, slotting allowances and pay-to-stay fees should also be examined to determine whether they give rise to anticompetitive harm. Although these practices are generally less likely than exclusive-dealing contracts to have direct exclusionary effect, the report notes that under certain factual circumstances, slotting allowances and pay-to-stay agreements can also have the effect of excluding a rival’s products from a market.

The report lays out an analytical framework for determining whether slotting allowances and related practices produce anticompetitive effects. This framework focuses on the exclusion of manufacturing rivals from the marketplace, by asking:

· whether the practice in question disadvantages rivals,

· whether such disadvantage is likely to have an effect on competition in the market(s) where the rivals intended to compete,

· whether the practice generates pro-competitive benefits that outweigh any anticompetitive effects, and

· whether there are less restrictive means of achieving such benefits.

The report notes that a thorough investigation by the FTC of a specific slotting allowance or similar practice will require a fact-specific analysis of the likely effects of the practice on the market in question. Participants in industries that use slotting allowances and similar practices may use this framework to structure their agreements in ways that minimize the likelihood of running afoul of the antitrust laws.

II. Category Management and the Use of Category Captains

The FTC staff report also addresses the practice of “category management” and the use of “category captains” to supply information to retailers about a product line. Category captains are typically large or important manufacturers upon whom retailers rely to provide information on how best to manage a particular line of products. For example, a supermarket might rely on a major soup producer to provide it with test marketing data on how best to place canned soups on shelves in relation to instant soups.

The report recognizes that category management and the use of “captains” may result in significant efficiencies (by, for instance, centralizing marketing decisions in the hands of the party best placed to understand consumer preferences) and concludes that the practice should not be called into question in a general way. However, the report identifies two potential anticompetitive effects associated with category management and the use of category captains: exclusion and collusion. Exclusion may occur where information exchanges between a retailer and a captain allow the captain to obtain sensitive or proprietary information about rivals, creating incentives for the captain to advise management practices designed more to disadvantage rivals’ products than to promote sales in the entire product category. Collusion between retailers may arise in cases where a single manufacturer serves as captain to a number of retailers in a region. Identical category management advice provided by that captain may facilitate explicit or tacit collusion among retailers. Likewise, where a retailer encourages its important manufacturers to agree upon a single category management recommendation, the result may be collusion (explicit or tacit) among manufacturers.

In order to avoid these potential anticompetitive effects, the FTC report recommends: (1) that retailers make their own category management decisions, rather than relying solely on advice from captains, (2) that captains set up firewalls between those employees who receive information from retailers about competitors and those who manage the captain’s own brands, and (3) that retailers limit as much as possible the amount of competitor-related information they provide to captains.

III. Supermarket Merger Policy

In the area of supermarket merger review, the report recommends that the FTC continue to take careful account of the potential for anticompetitive effects in the “upstream” market via the exercise of retailer market power in relation to suppliers. While acknowledging evidence that the supermarket industry is relatively unconcentrated, the report recommends that the FTC remain alert for factual situations — such as regional markets where supermarkets are more highly concentrated — where a supermarket merger might result in the creation of market power with respect to products that are geographically limited to those regions (e.g., bakery products).

* * * * * * * * * * * *

If you have any questions concerning the FTC’s report on slotting allowances and related practices, or the other issues addressed in this memorandum, please call Jim Atwood, (202) 662-5298, George Chester (202) 662-5198, Harvey Applebaum (202) 662-5626, Ted Voorhees (202) 662-5236, Tom Barnett (202) 662-5407, Steve Calkins (202) 662-5493, or Mike Cicero (202) 662-5581 in our Washington, D.C. office.

COVINGTON & BURLING

[1] These industries include pharmaceuticals, jewelry and apparel, household goods and alcoholic beverages, among others.

[2] The report notes the lack of reliable empirical data in the area of slotting allowances and recommends that the Commission conduct further research by using its compulsory process power to obtain information from grocery manufacturers and retailers about the use and effects of such practices.