Structuring Fulfilment Contracts for Fulfilling Competition Compliance Obligations

The recent European Union (“EU”) guidance on vertical restraints (“VBER guidelines”), followed by the United Kingdom’s (“UK”) guidelines clarifying the treatment of fulfilment contracts under competition law has raised many questions pertaining to their treatment in India.

Fulfilment contracts are agreements between a manufacturer/supplier and a customer, with pre-determined prices executed through a distributor/intermediary. They are becoming more important in recent times with the rise of direct sales and online marketplaces. Therefore, the structuring of these fulfilment contracts in compliance with all laws including competition law will be crucial for businesses.

As per the VBER guidelines, fixing of a resale price, by a supplier based on the contract negotiated between the supplier and the customer does not constitute resale price maintenance (“RPM”) where the customer has waived the right to choose the distributor who will execute the contract as fixing of the price by the supplier does not restrict competition between the distributors in such a situation.

Under  Indian competition law, fixing of a “resale” price by the supplier to the distributor is considered as RPM in contravention of the Competition Act, 2002 (“Act”) if such conduct causes or is likely to cause an appreciable adverse effect on competition (“AAEC”) in India. “Resale” is fundamental to the conduct of RPM. While in the EU, due to single market concerns, RPM is treated as a per se/hardcore restriction,  in India, RPM is illegal only if it causes or likely to cause an AAEC in India. In this piece, we assess the different types of fulfilment contracts and how they are likely to be viewed under Indian competition law drawing guidance from the VBER guidelines wherever relevant.

Agency agreements:

Fulfilment contracts may be structured as agency agreements where, following the agreement between the supplier and the customer, the supplier engages the distributor only for completing the delivery of the product/service with the title in the product/service directly passing from the supplier to the customer.

In the EU, genuine agency agreements are generally not covered under the ambit of competition law as such an agent is considered to form a single economic unit with the principal.

In India, there is no express clarity on the treatment of an agent-principal relationship. However, the Competition Commission of India (“CCI”) noted that such a relationship possesses the characteristics of a ‘single economic entity’ (“SEE”). In the context of an agreement between a holding and its subsidiary company, the CCI has found that agreements between businesses forming an SEE do not fall within the purview of the Act.

Further, in fulfilment contracts structured as ‘agency agreements’, given the absence of any purchase and resale by the intermediary/distributor, a contravention based on RPM may not be tenable under the Act.

Distribution agreements where supplier decides the distributor:

Distribution agreements are generally agreements between suppliers and distributors on a principal-to-principal basis where the title of the products/services is transferred to the distributor for “resale”. A fulfilment contract may also be structured as a regular distribution agreement where the distributor invoices the customer and there is a “resale” by the distributor to the customer.

In the EU, as per the VBER guidelines, fixing of a “resale price” in fulfilment contracts where the customer waives the right to choose a distributor is not RPM given that the waiver indicates that the competition at the distributor level has already ended and therefore, the predetermined prices do not restrict competition for supply of fulfilment services. The UK competition authority holds a similar position.

Critics argue that the requirement of waiver of choice of distributor is too restrictive, and the negotiation of the contract alone should be enough to show that the customer has negotiated a beneficial price and the process of competition has therefore ended.

It would be interesting to see the approach adopted by the CCI in such contracts. Under the current framework, the CCI would be required to adopt a rule of reason approach, assess market power of the entity and then weigh out the anti-competitive and pro-competitive effects. While the CCI has relied on EU guidance in the past, it should keep in mind that the EU's stance on RPM is stricter (due to single market concerns) which the Indian legislation explicitly rejects.

Distribution agreements where the customer decides the distributor:

In the EU, if the customer does not waive his right to choose a distributor, then specifying a resale price by the seller to the distributor is considered RPM. As highlighted above, this position has been subject to criticism.

In India, the CCI has previously acknowledged that customers have the liberty to procure services from service providers of their choice, and such legitimate business decisions do not warrant anti-trust intervention. For fulfilment contracts where the customer chooses the distributor the CCI is likely to adopt a case-by-case approach. However, parties can argue that such fulfilment contracts do not constitute RPM by showing that the price was determined through a negotiation between the seller and the customer, which would preserve the competition process for the provision of fulfilment services, avoid market foreclosure and result in customer benefit.

Online space:

Compared to traditional markets, online markets work differently as it is the online intermediary service providers (“OIS”) like Amazon, Flipkart, etc. that provide fulfilment services to sellers selling products on the OIS’ platform, thereby making the OIS (or its affiliates/partners) the distributor by default. Further and more importantly, price stipulations, if any are more likely to be imposed by the OIS on the seller whereas in traditional markets it would be the other way around.

In the EU, the OIS’ are treated as suppliers and are prohibited from imposing fixed or minimum prices for transactions they facilitate. They are, however, permitted to incentivize sellers to sell at a competitive level or reduce prices.

India’s specific foreign direct investment regulations prevent OIS’ from influencing the prices of the products sold on their platforms in any manner. From a competition law perspective, given the higher bargaining power, network effects, etc. more often than not, it is the OIS that possesses market power, and any contracts entered into by them including “fulfilment contracts” containing price stipulations would be assessed on the rule of reason analysis envisaged under the Act.

The Competition Amendment Bill, 2022 seeks to clarify that the prohibition on anticompetitive vertical agreements does not apply to agreements with an “end-consumer”. This provision, if enacted, creates a possibility of exempting the fulfilment contracts as at least one part of a fulfilment contract is entered into between the supplier and a customer.

However, in the absence of a clear definition of the term “end-consumer”, it is unclear if customers who purchase for industrial/commercial use are considered as “end-consumers”. Further, the CCI may take a narrow interpretation and hold that a fulfilment contract is a tripartite contract between supplier, distributor, and customer and not a pure agreement with an end-consumer.

While the EU and UK have taken a first step at providing some guidance on these contracts, absence of any decisional practice or guidance in India leaves the treatment of these contracts under the Indian competition law largely untested. However, based on prior general decisional practice of the CCI, the framework of the Act, and the EU guidance, we believe businesses can take the following precautions while structuring fulfilment contracts:

a) Agency model: The safest option to structure a fulfilment contract would be as a pure agency agreement where the distributor merely executes the contract. In such cases, no RPM concerns can arise as there is no ‘resale’ by the distributor.

b) Distribution model with supplier choosing distributor: EU guidance differentiates between who selects the distributor i.e. (a) seller; or (b) customer. In case of the former, the setting of the resale price is not considered RPM. In India, this model may be subject to scrutiny under a rule of reason analysis. To minimize risk in this model, businesses should ensure that: (i) the agreement with the customer clearly specifies that supplier chooses the distributor; (ii) the price and terms agreed with the customer should be on a negotiated basis and this can be explicitly recorded if feasible; (iii) the agreement with the distributor should be strictly bipartite i.e., the customer should not be privy to or have knowledge about the distributor chosen or the terms therein.

c) Distribution model with customer choosing distributor: Customers, for commercial reasons, may sometimes want to retain the freedom of choosing the distributor in a fulfilment contract model. In such cases, under the EU guidance specifying the resale price to the distributor may be viewed as RPM. In India, such contracts would again be subject to a rule of reason analysis and parties may be able to justify these agreements if they are able to show that price and terms are negotiated with the customer and accordingly, there is no denial of benefits to the customer.

While we have set out some general recommendations above, given the complexities surrounding fulfilment contracts and the fact specific nature of the assessment of such agreements, businesses should certainly seek legal advice prior to structuring fulfilment agreement models in order to ensure compliance with the Act.

Avinash B. Amarnath is a Partner at Chandhiok & Mahajan, Hyderabad and Riddhika Dumane is an Associate at Chandhiok & Mahajan, Delhi.