China anti-trust alert - China's anti-trust law draft edges closer to promulgation

• Other

08-08-2007

The Standing Committee of China People's Congress met in June 2007 to carry out its second reading of China's anti-monopoly law draft ('AML draft'). This was the culmination of 12 months of redrafting since the first reading, and of 12 years of work since the draft was originally conceived.

While only limited structural changes were made to the 2006 draft, the 2007 draft contains several important amendments, which will have an impact on foreign businesses in China.

Price fixing

The 2006 draft generally categorised retail price fixing as a prohibited monopoly agreement. The 2007 draft, for the first time, distinguishes fixed and minimum prices, on one hand, and maximum resale prices on the other. Minimum prices under international competition law pricing principles are inherently anti-competitive while maximum resale prices are often not anti-competitive, particularly if they serve to prevent a retailer with market power in an exclusive territory from raising retail prices.
 
The 2007 draft only specifically prohibits fixing or setting minimum retail prices. This development suggests that the setting of maximum retail prices by way of horizontal agreement will no longer be considered illegal per se and that a broader reasonableness test will be applied.
 
The 2007 draft, however, does not distinguish between independent distributors (whose need to set retail prices needs to be protected by competition law), and commercial agents who normally expect to resell products on behalf of a manufacturer at certain designated prices. (See Exhibit 1: Prohibited monopoly agreements.) 

Crisis cartel

The 2006 draft has made crisis cartels one of the 'safe harbours' for prohibited monopoly agreements. Crisis cartels are defined as agreements to 'cope with economic depression, to moderate serious decreases in sales volumes or distinct production surpluses'. There is concern that the cartel crisis exception, without being made subject to conditions, will routinely be claimed by hard-core cartels as a convenient defence in such a way that it will undermine the purpose of the safe harbour concept.

The 2007 draft narrows the circumstances under which crisis cartels can be applied by requiring undertakings to demonstrate that such agreements will not 'substantially restrict competition in the relevant market' and can thereby enable consumers to 'share the benefits provided by the agreements'. This new requirement applies to those safe harbours listed in (i) to (v) set out in Clause 15 of the 2007 AML draft. (See Exhibit 2: Exceptions to monopoly agreements.)

Concentration filing threshold

The 2006 draft used a turnover threshold to determine whether statutory notification must be made to the anti-trust enforcement authority for what is known as a 'concentration' (eg acquisitions, mergers, etc).

For example, a filing must be made if the worldwide sales volume of all the parties in the concentration for the preceding year exceeds RMB12 billion (about US$1.5 billion) and the sales volume for any one of the companies in the concentration in mainland China for the preceding year exceeds RMB800m (about US$1m). The concentration will be rejected if it is deemed to (or is likely to) have the effect of eliminating or limiting competition.

This threshold was heavily debated during the second reading. The Standing Committee of the Congress was reportedly concerned that the threshold was too low and could limit the growth of state-owned business, which remains a priority on China's economic agenda. The members of the Standing Committee reportedly were not able to reach agreement on an appropriate threshold, and had therefore suggested that the threshold be removed from the 2007 draft and reserved for the State Council to determine in a separate merger filing guidance.

National security scrutiny

There are reported proposals from the members of the Standing Committee to require acquisitions of domestic Chinese business by foreigners to be subject to strict scrutiny to ensure the state's 'economic safety'. This arises in the context of increasing disquiet within China that foreign companies command too much power in certain sectors of China's economy.

As a result, a new clause 29 has been added to the 2007 AML draft, which states that:

'where national security is concerned, acquisition of domestic undertakings by foreign capital or other concentrations involving foreign capital shall be examined according to the relevant regulations of the State'.

Many commentators opine that national security may not be an appropriate standard for inclusion in a competition law. This clause may also give rise to questions under China's World Trade Organization (WTO) obligations of non-discrimination and national treatment, given that competition policy with respect to concentrations should universally be applied to all transactions targeted by the AML, regardless of whether foreign capital is involved.

Penalties

The 2007 AML draft states that companies implementing prohibited monopoly agreements (see Exhibit 1: Monopoly agreements) or abusing their dominant market position (see Exhibit 3: Abuse of dominant market position) will have their illegal gains confiscated by the anti-trust enforcement agency, and be penalised by up to 10 per cent of their sales for the previous year.

The 2007 draft, however, has reduced the penalty against unimplemented monopoly agreements from RMB2m (about US$0.25m) to RMB0.2m (about US$25,000).

This low penalty amount, together with the removal from the 2007 draft of the anti-trust enforcement authority's power to freeze a violating company's bank account, is likely to be insufficient to create any real deterrence. As a result, in some circumstances it may be profitable to engage in cartels, particularly in sectors monopolised by state-owned business.

In addition, the 2007 draft remains silent on criminal sanctions for directors and executives involved in cartels.
 
Anti-trust enforcement agency

The 2006 draft provides that a new Anti-Monopoly Commission ('the Commission') will be set up under the purview of the State Council, China's highest administrative body. The Commission will only play a coordination and advisory role, with routine responsibilities assumed by an enforcement agency to be designated by the State Council.

The creation of a single enforcement authority has been one of the most heavily debated issues in the preparation of the AML. Most commentators are of the view that it is preferable to confer the application of competition law and policy exclusively to a single agency, regardless of whether it is a new agency or an existing one. This will help to promote efficiency, consistency and predictability in anti-trust law enforcement, and will foster the development of institutional knowledge and a unified body of case law in this very complex area.

However, there are a number of existing agencies who have the authority to regulate national or sector-wide competition issues. Some of them have a very strong interest in the unified regulatory power to be offered by the new anti-trust regime. The 2007 draft does not conclude this debate. It is likely that this issue will be reserved for the State Council to decide after the AML is promulgated by the end of 2007.

Exhibit 1: Prohibited monopoly agreements

Vertical agreements
The following agreements between competing undertakings are prohibited:

• fixing or changing prices
• restricting production or sales
• allocating or sharing markets
• limiting the purchase of technology and equipment
• jointly boycotting transactions
• other monopoly agreements determined by the anti-trust enforcement agency.

Horizontal agreements
The following agreements between an undertaking and its trading partners are prohibited:

• fixing resale prices
• limiting the minimum resale price
• other monopoly agreements determined by the anti-trust enforcement agency.
  

Exhibit 2: Exceptions for monopoly agreements

• improve R&D
• update product quality
• improve efficiency
• maintain public interest
• crisis cartel
• foreign trade
• other exceptions determined by the anti-trust enforcement agency.
  

Exhibit 3: Abuse of dominant market position

Undertakings are prohibited from engaging in the following behaviour that amounts to abuse of dominant market position:

• predatory pricing
• refusal to trade
• exclusive trade
• tie-in clauses or unreasonable trading terms
• price discrimination.