Maintaining competition in online advertising: the US FTC’s 1-800 Contacts decision

In an important case on the intersection of IP and antitrust, the US Federal Trade Commission (FTC) has held that 1-800 Contacts, the largest online retailer of contact lenses in the US, unlawfully entered into a series of anti-competitive settlement agreements with its online rivals.  Issued on 7 November, the Commission’s Opinion provides useful insight into the mechanics of keyword search advertising and emphasises that such advertising is fundamental to competition between retailers in an e-commerce context.  The case also serves as a reminder – if any were needed – that companies cannot rely on IP settlements to shield their conduct from competition law scrutiny.

Background

Internet search engines such as Google typically generate two types of results in response to search queries: ‘organic’ results and ‘sponsored’ links.  The latter are advertisements, which are often displayed above or beside the organic results. As the name suggests, advertisers have to pay to have their sponsored links appear on a search engine results page.  To determine which ads appear (and in which order), search engines use auctions to sell advertising positions.  Advertisers bid on ‘keywords’ – words or phrases that trigger the display of ads when they are deemed to match a user’s search.  Advertisers can also specify ‘negative’ keywords. For instance, a retailer of eye-glasses might bid on ‘glasses’ but list ‘wine’ as a negative keyword to prevent its ad from appearing in response to a query for wine glasses.

Between 2004 and 2013, 1-800 Contacts sent cease and desist letters alleging trade mark infringement to a number of its competitors whose online search advertising displayed in response to queries involving ‘1-800 Contacts’ and similar terms.  It subsequently filed suit against a number of these online retailers (even if the retailers had not been bidding on the keyword ‘1-800 Contacts’ but on more generic terms such as ‘contacts’).  Rather than litigating the trade mark disputes to conclusion, 1-800 Contacts entered into settlement agreements with each of the competitors.  The agreements prevented the competitors from bidding for search advertising involving ‘1-800 Contacts’ and similar terms. The agreements also required the competitors to employ negative keywords to prevent their ads appearing whenever a search included the ‘1-800 Contacts’ trade mark (even in situations where the advertiser did not bid on the actual trade mark and the ad would appear due to the search engine’s determination that the ad was relevant and useful to the consumer). The settlement agreements were reciprocal: 1-800 Contracts agreed to the same bidding restrictions and negative keyword requirements in respect of its rivals’ trade marks.

The FTC’s decision

Anti-competitive restraints 

The FTC held that the settlement agreements prevented online contact lens retailers from bidding for online search ads that would inform consumers about the availability of identical products at lower prices.  According to the FTC, the agreements:

  • harmed competition in bidding for search engine key words, artificially reducing the prices that 1-800 Contracts paid for search advertising, as well as reducing the quality of search engine result ads delivered to consumers; and
  • resulted in price-conscious consumers paying more for contact lenses that they would have absent the restrictions.  
Whilst the FTC did not suggest that all advertising restrictions are necessarily anti-competitive, it emphasised that the restrictions in this case prevented the display of ads that would enable consumers to learn about alternative sellers of contact lenses and to make price comparisons at a time when they would be considering a purchase.  Significantly, the restrictions in the settlement agreements were not merely “limitations on the content of an advertisement a consumer would otherwise see”; they were restrictions on a “consumer’s opportunity to see a competitor’s ad in the first place”.  The restrictions were particularly harmful to retail price competition because the suppressed ads “often emphasise[d] lower prices”.

1-800 Contacts’ efficiency justifications

1-800 Contacts put forward two efficiency justifications for the restrictions: (i) avoidance of litigation costs though settlement and (ii) trade mark protection.  The FTC found that whilst these justifications were plausible, they were insufficient to outweigh the restrictions’ anti-competitive effects.  Further, the claimed pro-competitive benefits could have been achieved through less restrictive means.  In the agency’s analysis, “when an agreement limits truthful price advertising on the basis of trade mark protection, it must be narrowly tailored to protecting the asserted trade mark right”.  The settlement agreements in this case were not: they restricted advertising regardless of whether the ads were likely to cause consumer confusion (a key element of the test for trade mark infringement) and regardless of whether competitors actually used the trade mark term.

The FTC was also unimpressed by 1-800 Contacts’ argument that a trade mark settlement requiring non-use is immune from antitrust review because a prohibition on use is within a trade mark’s exclusionary potential.  Citing the US Supreme Court’s 2013 ruling in Actavis, the FTC emphasised the importance of considering “both antitrust and intellectual property policies”.  According to the agency, the “crux” of the Actavis decision was that there could be antitrust liability for settlement of litigation, regardless of whether the agreement’s anti-competitive effects fall within the scope of the exclusionary potential of the IP right in question.  1-800 Contacts’ argument “look[ed] only to half of the equation, i.e. trade mark policies, and did not withstand a thorough understanding of Actavis”.

Comment 

The decision sends a clear signal that the FTC takes a dim view of agreements between competitors that restrict online search advertising to the detriment of consumers.  Whilst agreements to limit advertising are not per se illegal in the US, it seems that such agreements will likely fall foul of the antitrust rules unless the parties can establish robust pro-competitive justifications for the restrictions.  The FTC’s position is clear: online search advertising plays a crucial role in the effective functioning of retail competition in the modern internet economy.

Competition authorities on this side of the Atlantic have also shown an interest in the links between online advertising and competition in recent years. The European Commission’s Final Report in the E-Commerce Sector Inquiry noted that almost one in ten retailers were contractually restricted from advertising online. The French competition authority published a report on the functioning of the online advertising sector in March this year.  And in the German Asics case, the Bundeskartellamt found that the sports equipment manufacturer’s prohibitions on the use of price comparison websites and Asics brand names in online advertisements amounted to a hardcore restriction of competition under the Vertical Agreements Block Exemption.  That decision was ultimately upheld by Germany’s highest court, the Federal Court of Justice.  Given the continuing growth of e-commerce, it would hardly be surprising to see further cases in this area in the future.

US District Court confirms that Qualcomm must offer RAND SEP licences to rival chipset manufacturers

In California, Judge Koh has granted partial summary judgment in favour of the FTC against Qualcomm, making an order that Qualcomm must license its SEPs to rival chipset manufacturers (such as Intel). 

We explained the background to this judgment and its significance in a previous post. Although the ruling is limited to Qualcomm’s position vis-à-vis competing manufacturers without commenting on the position of other SEP holders, it indicates that FRAND requires ‘licensing to all’ (at least in respect of the rules of ATIS and TIA, which, like ETSI, are members of the Third Generation Partnership Project, the collaboration of standard setting organisations behind the development of standards such as 4G LTE and 3G UMTS). The result could be a shift in the focus point for licensing SEPs in cellular standards from the manufacturers of end devices (handsets) to the manufacturers of chipsets.

The issue

Qualcomm had declared its SEPs as essential to two US standard setting organisations (SSOs), the Alliance for Telecommunications Industry Solutions (ATIS), and the Telecommunications Industry Association (TIA). In return, each SSO required Qualcomm to license its SEPs on RAND terms (note that the exact wording of the ATIS IPR policy and TIA IPR policy differ slightly, although this made no substantive difference in these proceedings).

The FTC alleged that both of these policies required Qualcomm to license its SEPs to all applicants, including competing chipset manufacturers. Qualcomm argued that the IPR policies contain limitations and that Qualcomm is not required to license its SEPs to applicants, like chipset manufacturers, that only produce components of devices. The FTC applied for partial summary judgment on this point (the trial on the wider issue of whether Qualcomm’s actions have harmed competition is scheduled for January 2019).

The decision

Judge Koh preferred the FTC’s interpretation, taking into account the following points:

  • Non-discrimination: Judge Koh reasoned that “if a SEP holder could discriminate against modem chip suppliers, a SEP holder could embed its technology into a cellular standard and then prevent other modem chip suppliers from selling modem chips to cellular handset producers”. She suggested that such discrimination could enable a SEP holder to achieve a monopoly, in direct contradiction of the stated purpose of the TIA IPR policy.
  • Industry practice: as part of its argument, Qualcomm claimed that chipset manufacturers never receive SEP licences. However, Qualcomm itself had received licences to manufacture and sell components, and had received exhaustive licences from over 120 companies, indicating that it could not be contrary to industry practice for chipset manufacturers to obtain SEP licences. 
  • Prior litigation:  when defending a patent infringement case against Ericsson, Qualcomm had previously claimed that the TIA policy required Ericsson to license any patents ‘required to develop products compliant’ with a given standard. Qualcomm suggested that this requirement would enable all industry participants to develop, manufacture and sell compliant products, and importantly, that chipsets were ‘compliant’ products covered by the policy.
  • Implementing the standard: Judge Koh also dismissed Qualcomm’s arguments that chipset manufacturers do not practise its patents. She noted that neither the ATIS not TIA policy restricts a SEP holder’s FRAND obligations to applicants that themselves practice or implement a whole standard. She emphasised that Qualcomm’s own documents demonstrate that a modem chip is a core component of a cellular handset, and that such chipset implements key cellular technologies.

Judge Koh also referred to a Ninth Circuit precedent (Microsoft II) as establishing that that Qualcomm’s RAND commitments include an obligation to license to all comers, including competing chipset manufacturers. She noted that in Microsoft II the Ninth Circuit had been interpreting a SSO IPR policy with almost identical language to the TIA and ATIS IPR policies.

For all of those reasons, Judge Koh agreed that the test for partial summary judgment (that ‘the meaning of the contract is unambiguous’) was met, and that both IPR policies required Qualcomm to license its SEPs to chipset manufacturers.

Conclusion

Although it was only a hearing for partial summary judgment, this case aired a significant number of the issues and arguments involved in the ‘licensing to all’ debate. These were all dealt with thoroughly by Judge Koh, though Qualcomm is expected to appeal. 

Judge Koh’s reliance on Qualcomm’s previous conduct highlights a frequent problem for large SEP holders that act as both licensor and licensee; it is difficult for such companies to eliminate conflicting positions in different cases.  However, not every judge will place the same weight on such considerations: in Unwired Planet, Birss J dismissed the relevance of past statements made by Ericsson and other SEP holders as to the appropriate total royalty burden (although in TCL Judge Selna took the opposite approach).   

In any event, this ruling is unlikely to be the last word on the matter. The case primarily focussed on contractual interpretation, rather than on antitrust as such. Establishing a contractual requirement for Qualcomm to offer licences to competing chipset manufacturers is one thing. Whether Qualcomm and any chipset manufacturers can agree the terms of a (F)RAND licence is quite another, particularly given that the order relates only to the ATIS and TIA IPR policies and so has a direct impact only on licences to those of Qualcomm’s SEPs which have been declared to ATIS/TIA, rather than necessarily on its global portfolio.  It remains to be seen whether Qualcomm will elect to carry this finding across to SEPs declared to other standards bodies, such as ETSI, and whether chipset manufacturers will in fact benefit from an exhaustive licence from Qualcomm.

Brexit and Competition Law: CMA publishes guidance on its role in a “no-deal” scenario

On 29 October 2018, the government laid ‘The Competition (Amendment etc.) (EU Exit) Regulations 2019’ (the Competition SI) before Parliament. The Competition SI makes provision for the transition to a standalone UK competition regime after exiting the UK in a ‘no-deal’ scenario. The next day (30 October) the CMA published two notices, one on mergers and one on antitrust cases setting out the way it intends to proceed in the event of a ‘no deal’ scenario based on the Competition SI. These notices follow guidance published in September 2018 by Department of Business, Energy and Industrial Strategy on merger review and anti-competitive activity in a “no-deal” Brexit scenario. 

Mergers

Whether the UK leaves the EU with or without a negotiated agreement, it is inevitable that the CMA will have to take on some of the burden of merger reviews from the European Commission. The CMA has now clarified that in a no-deal scenario, the CMA will have jurisdiction to review the UK aspects of mergers that are still being reviewed by the Commission on 29 March 2019, provided that the usual merger control thresholds are met, i.e. if the CMA has reasonable grounds to suspect that the transaction may give rise to a relevant merger situation. 

Any company engaged in a merger to which this is likely to apply to should discuss the possible ramifications with the CMA at an early stage in the transaction, particularly where the merger is likely to give rise to UK competition issues. The CMA may then suggest to such companies that they enter into pre-notification discussions with the CMA in parallel with any EU review. The CMA has been monitoring non-notified merger cases that may fall into this category, and will continue to do so in the lead up to the withdrawal date. 

The UK will have no jurisdiction over mergers that have been reviewed by the Commission and where a decision has been published before 29 March, unless the decision is subsequently annulled. Provided the Commission has not issued a decision on or before 29 March, the CMA will no longer be excluded by the EU Merger Regulation from taking jurisdiction over the UK aspects of the merger and the provisions of the Enterprise Act 2002 will therefore apply. 

For mergers referred to the CMA by the Commission before the withdrawal date, the CMA’s usual processes will apply. 

Antitrust

Following the UK’s exit from the EU, the CMA will no longer have jurisdiction to apply Article 101 TFEU on anti-competitive agreements and Article 102 TFEU on abuse of dominance. The CMA’s jurisdiction will extend only to applying the equivalent UK national prohibitions in the Competition Act 1998 (Chapter I and Chapter II). 

The CMA’s guidance notes that section 60 of the Competition Act 1998, requiring the CMA and UK courts to interpret UK competition prohibitions consistently with CJEU decisions and principles, will no longer apply under the Competition SI (including to cases already opened on or before 29 March 2019). A new provision, section 60A, will apply instead. This provision will oblige the UK competition enforcers and courts to ensure there is no inconsistency with the pre-exit EU competition case law, however they will have the power to depart from the EU case law where they “consider [it] appropriate in the light of particular circumstances”. 

On exit, the CMA may conduct investigations into breaches of the domestic prohibitions before or after exit day, including cases where the CMA was relieved of its competence by the European Commission. However the CMA will not be able to open investigations, where before exit, the Commission reached an infringement decision that has not been subsequently annulled. 

Seven EU Block exemption regulations will be retained in EU law in amended form. In practice this means that agreements that met the criteria of these block exemption regulations remain exempt from the UK provisions.

The relevant block exemption regulations are:
  • Liner shipping regulation (expiring 30 April 2020)
  • Transport regulation
  • Vertical agreements regulation (expiring 31 May 2022)
  • Motor vehicle distribution regulation (expiring 31 May 202)
  • Research and development regulation (expiring 31 December 2022)
  • Specialisation agreement regulation (expiring 31 December 2022)
  • Technology transfer regulation (expiring 30 April 2026)

The power to amend or revoke the block exemptions is transferred to the Secretary of State under the Competition SI. The CMA expects to consult on the block exemptions as they expire in order to advise the Secretary of State. 

The CMA’s antitrust notice added that following a no deal Brexit, any existing or potential applicant for leniency under the Commission’s leniency programme in respect of conduct also covered by the CMA’s leniency programme should make a separate application for leniency to the CMA. 

While these notices give some initial guidance on the CMA’s approach, it is hoped that the CMA will publish further advice for the benefit of companies that are likely to be affected, particularly if the prospect of a no-deal Brexit becomes more likely. Indeed it is highlighted in the notices, that the CMA shall keep under review the necessity of further guidance or updates and shall add to the notices as appropriate.