Your company is introducing a new product design. It offers consumers novel benefits, but the redesign is incompatible with competitors’ complementary products. The foreclosure of competition is great for your bottom line. But will it violate the antitrust laws?
Liability for innovation seems counter to the purposes of the antitrust laws. Indeed, the antitrust laws are intended to encourage greater innovation. But the courts have held that some product redesigns (when introduced by firms with market power) may be anticompetitive.
This raises tough questions. Where’s the line? How do courts discern between product redesigns that are a “pretext” for an anticompetitive scheme and true product improvements that benefit consumers? The courts offer no easy answers.
So how can you avoid antitrust issues when launching a new redesign? Here are three ways to minimize antitrust risk when introducing a new product design.
1.Document Product Improvements
One of the key themes in redesign cases is that the new product eliminates competition while offering few or no consumer benefits. To overcome this theme, you have to show that real consumer benefits drove the redesign.
a.Getting a patent isn’t enough, but it’s a start.
Often times, a redesigned product incorporates new, patented features. The defendants in the latest “product hopping” case, Asacol Antitrust Litigation, argued that launching a patented product is “inherently valuable to the public” and should not trigger antitrust liability.[1]
The argument has some appeal. To obtain a patent you must convince the PTO that your invention is novel, not obvious, and a “new and useful process, machine, manufacture, or composition of matter” or an “improvement thereof.”[2]
Assuming validity, the patent would seem to show a true product improvement. But the courts have rejected this bright-line rule.[3] The Asacol court, for instance, cited the Second Circuit’s reasoning that patents cannot immunize “a scheme to interfere with competition ‘beyond the limits of the patent monopoly.’”[4]
The courts have, however, recognized that a patent is “some evidence that a change is an improvement.”[5]
The existence of a patent is thus a start, but not the end.
b.Thoroughly document consumer benefits from the redesign.
A split in the circuits shows the importance of thoroughly documenting consumer benefits from a redesign. While not exclusively relying on the existence of a patent, the Ninth Circuit has held that any improvement is sufficient to avoid antitrust liability:
There is no room in this analysis for balancing the benefits or worth of a product improvement against its anticompetitive effects. If a monopolist’s design change is an improvement, it is “necessarily tolerated by the antitrust laws,” unless the monopolist abuses or leverages its monopoly power in some other way when introducing the product. [6]
This rule famously led to a one sentence verdict form in The Apple iPod iTunes Antitrust Litigation. After a two-week trial, the jury was asked a single question: “Were [the product changes] … genuine product improvements?”[7]
The jury answered yes, and the case was over. Other courts, however, hold that the existence of a genuine improvement is not dispositive.[8]
The D.C. Circuit, for example, applies a balancing test. A product improvement that introduces an incompatibility violates the antitrust laws if it has “an anticompetitive effect that outweighs any procompetitive justification for the design.”[9]
In other words, under the balancing test, we cannot know ex ante how much of an improvement is enough. Obviously, the better the improvement, the less likely it will be found to be pretextual or harm competition. But, outside of the Ninth Circuit, there’s no bright line.
This makes documenting consumer benefits as the heart of the redesign even more important. The evidence must convince a judge or jury that the consumer benefits, not foreclosure of competition, drove the redesign.
2.Document legitimate reasons to discontinue the older product.
Documented benefits, however, are often not enough. The courts also scrutinize your reasons for withdrawing the older version of your product. The theory is that a “hard switch”—the introduction of a redesigned product combined with the simultaneous withdrawal of the older product—“coerces” consumers and stymies competitors.[10]
In New York v. Actavis, for instance, there was substantial evidence that the redesigned product benefitted consumers.[11]
But the defendants’ discontinuance of the older version was the focus of the analysis. Citing internal documents applauding the foreclosure of competition, the Second Circuit upheld a preliminary injunction prohibiting the withdrawal, finding that the justifications for the discontinuance were pretextual.[12]
What makes a particular discontinuance anticompetitive is fact dependent. But one hallmark of anticompetitive behavior is a profit sacrifice. Conduct is exclusionary if it “would be unprofitable but for the exclusion of rivals and the resulting market power.”[13]
In Actavis, for instance, the Second Circuit relied on evidence that the defendants stood to lose money in the short-run by discontinuing the older product.[14] The court agreed that this short-term loss was an investment in constraining competitors and gaining market power.[15]
It is therefore critical that you document legitimate reasons for discontinuing your older version. Show cost savings, logistical efficiencies, and the elimination of redundancies. These types of justifications, rather than gains from eliminating competition, should be the driving force for the discontinuance.
3.Consider a “soft switch.”
Lastly, to minimize the antitrust risk associated with a product redesign consider a “soft switch.” Where a company continues to make available its older product while seeking to persuade consumers to switch to the new based on its merits, the courts are far more reluctant to find an antitrust violation. By preserving the “free choice of consumers,” a soft switch is more in line with the competitive objectives of the antitrust laws.[16]
To a certain degree, of course, a soft switch only kicks the can down the road. You will later be confronted again with the question of whether to discontinue the older product. But at that point, you are more likely to have significant evidence to show that doing so makes economic sense absent exclusion of competitors.
[1] In re Asacol Antitrust Litigation, 2016 U.S. Dist. LEXIS 94605, *32 (D. Mass. July 20, 2016).
[2] 35 U.S.C. §§ 101, 102, 103.
[3] See, e.g., 2016 U.S. Dist. LEXIS 94605, at *32.
[4] Id. (quoting New York v. Actavis PLC, 787 F.3d 638 (2d Cir. 2015)).
[5] Allied Orthopedic Appliances v. Tyco Health Care Group, 592 F.3d 991, 1000 (9th Cir. 2010).
[6] Id.
[7] Verdict Form re Genuine Product Improvement, The Apple iPod iTunes Antitrust Litigation, No. 05-CV-0037 YGR (N.D. Cal. Dec. 16, 2014).
[8] See, e.g., Asacol, 2016 U.S. Dist. LEXIS 94605, at 30-31.
[9] United States v. Microsoft Corp., 253 F.3d 34, 75 (D.C. Cir. 2001).
[10] See Actavis, 787 F.3d at 654-655; Asacol, 2016 U.S. Dist. LEXIS 94605, at *33.
[11] New York v. Actavis, PLC, 2014 U.S. Dist. LEXIS 172918, at *33 (S.D.N.Y. Dec. 11, 2014) (citing expert testimony, clinical trials, and surveys showing the improvements were beneficial).
[12] Actavis, 787 F.3d at 658-59.
[13] A. Douglas Melamed, Exclusionary Conduct under the Antitrust Laws: Balancing, Sacrifice, and Refusals to Deal, 20 Berkeley Tech. L.J. 1247, 1255 (2005); see also Aspen Skiing Co. v. Aspen Highlands Skiing Corp., 472 U.S. 585, 608 (1985) (defendant “elected to forgo … short-run benefits” to reduce competition “over the long run by harming its smaller competitor”).
[14] 787 F.3d at 659.
[15] Id.
[16] Id. at 654-55.
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Sean Gates is the founder of Charis Lex P.C., a boutique firm focusing on business litigation, trials, and antitrust – www.charislex.com. Before founding Charis Lex this year, Mr. Gates was an antitrust and litigation partner at an AmLaw 100 firm. He was previously a Deputy Assistant Director at the Federal Trade Commission.
