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The FTC recently filed a complaint against Intel Corporation that removes any doubt that the agency intends to test the boundaries of current antitrust law and Section 5 of the FTC Act.

Though close followers of the FTC were not surprised by the suit, many questioned the FTC’s decision to pursue it in light of Intel’s recent universal settlement with its top competitor and the initial instigator of Intel antitrust scrutiny, Advanced Micro Devices, for $1.25 billion. In addition, Intel is currently appealing a $1.45 billion fine imposed by competition authorities in Europe.

These facts, combined with the specifics of the complaint and the accompanying commissioner statements, would suggest that the FTC’s primary goal with this lawsuit is not to protect consumers in Intel’s industry, but to use the lawsuit as a test case to advance the FTC’s policy goals. More specifically, the FTC seeks to develop a broader use of its unique power under Section 5 of the FTC Act, as an alternative to bringing lawsuits under the traditional antitrust laws, and apparently intends to try to develop more restrictive regulation of loyalty discounts than exist under prevailing antitrust law.

The FTC’s decision to focus on a pure Section 5 claim against Intel is a clear warning to firms with market power that they may not be able to utilize compliance with existing antitrust law to avoid an FTC investigation and lawsuit. Although Section 5 does have limits—as the FTC acknowledges—the case law on those limits is sparse and testing them could be expensive. Thus, the practical effect of the FTC’s action may be to warn businesses throughout the country that a much larger pool of conduct than current antitrust law would predict could set off a burdensome FTC investigation.

The Substance of the Lawsuit

The FTC alleges that Intel took advantage of its powerful market position to stifle competition and strengthen its monopoly by waging a “course of conduct” to shut out its rivals’ microchips by cutting off their access to computer manufacturers. According to Richard A. Feinstein, director of the FTC’s Bureau of Competition, “Intel has engaged in a deliberate campaign to hamstring competitive threats to its monopoly.” Chairman Jon Leibowitz and Commissioner J. Thomas Rosch issued a statement claiming that “Intel fell behind in the race for technological superiority in a number of markets and resorted to a wide range of anticompetitive conduct, including deception and coercion, to stall competitors until it could catch up.” In a press release, Intel responded that the FTC case is “misguided” and is “based largely on claims that the FTC added at the last minute and has not investigated.”

The complaint describes a wide variety of alleged anticompetitive behavior, but the core of the lawsuit alleges that Intel offered incentives and made threats to the world’s largest computer manufacturers to maintain and develop the market position of its microchips at the expense of the products of its competitors, Advanced Micro Devices and Nvidia. These allegations implicate the common commercial practices of loyalty discounts and bundling. Loyalty discounts can include a variety of practices, but typically include any practices that reward customers that purchase a specified level of products. Bundling involves discounts to customers that make a sufficient number of purchases across multiple product lines. Both of these practices are pervasive throughout the economy, involving countless products and sectors. Thus, if the FTC ultimately prevails, this case will have wide-ranging consequences.

One important example from the complaint is that “Intel offered market share or volume discounts selectively to OEMs [computer manufacturers] to foreclose competition in the relevant [Central Processing Unit] markets” (paragraph 53). The FTC perversely characterizes these discounts to computer manufacturers as a “tax” that manufacturers incur if they purchase non-Intel products. That concept itself is interesting because, except in limited circumstances, antitrust law strongly encourages rather than discourages price cutting.

The rare circumstance in which antitrust law condemns price cutting (in a single market) involves the predatory pricing doctrine. That is when a dominant company cuts prices below its own costs in order to drive its competitors out of the market; later, when it has the market to itself, it raises prices. The monopolist thus suffers short-term losses that it later recoups after its competitors leave the market. Recognizing that the threat of an antitrust lawsuit or enforcement action will chill behavior, the United States Supreme Court has repeatedly emphasized its concern about chilling price cutting. That is why it developed very high standards for plaintiffs (which includes government agencies) to prevail in an antitrust lawsuit premised on price cuts, which is what rebates are. The standard—developed in the Supreme Court’s 1993 Brooke Group, Limited. v. Brown & Williamson Tobacco Corporation decision and reinforced last year in Pacific Bell Telephone Company v. Linkline Communications, Incorporated—requires plaintiffs to prove both that the dominant party priced its products below an appropriate measure of its costs and that it has a dangerous probability of recouping this investment in below-cost prices. The Supreme Court has not yet determined the “appropriate measure of cost,” but most courts and commentators agree that it is something similar to average variable cost, or average avoidable cost. In other words, the dominant firm must be losing money on incremental sales. Otherwise, antitrust law risks condemning legitimate price cutting that benefits consumers and that would chill substantial pro-competitive behavior.

The FTC attempts to apply a predatory pricing framework to Intel’s loyalty discounts to computer manufacturers, but adds an interesting twist that is unsupported by current antitrust law. The FTC vaguely defines the level of appropriate cost as “average variable cost plus an appropriate level of contribution toward sunk costs” (paragraph 53). In other words, the FTC is measuring cost as some undefined level between average variable cost and average total cost. That is a troubling position for an antitrust enforcement agency to take because its ambiguity will confuse companies that want to offer rebates or volume discounts to their loyal customers. Even more troubling, however, is the fact that the FTC seeks to condemn profitable price cuts—which it characterizes as a “tax” for purchasing competitor products. This lawsuit thus obscures the guidance for companies provided by more than a decade of Supreme Court decisions.

Another notable component to this case is the FTC’s “course of conduct” strategy. The FTC alleges that “where a respondent that has monopoly power engages in a course of conduct tending to cripple rivals or prevent would-be rivals from constraining its exercise of that power, and where such conduct cumulatively or individually has anticompetitive effects or has a tendency to lead to such effects, that course of conduct falls within the scope of Section 5.” Elaborating on this strategy, Commissioner Rosch, in a separate statement, said that “it is improper to slice and dice each constituent part of the alleged course of conduct to determine whether it, standing alone, had the purpose or effect to hinder competition and injure consumers in violation of Section 2.” Rosch, however, acknowledges that the existing antitrust law is against the FTC on “course of conduct” claims, as courts often describe these type of claims as mere “monopoly broth” or claims that “0 plus 0 plus 0 equal 1.” Indeed, the FTC itself, in the 1980 order In the Matter of E.I. Dupont De Nemours & Company, firmly dismissed a complaint that tried to use a course-of-conduct theory to condemn conduct that, when judged independently in its constituent parts, was legal under the antitrust laws. More recently, the Supreme Court last year in Linkline rejected a price-squeeze claim, which it described as merely the combination of two types of conduct that were, by themselves, legal—a refusal to deal and above-cost price-discounting. (For a detailed description of this case, please click here. http://www.dlapiper.com/supreme-court-rejects-price-squeeze-theory-of-liability/) Thus, very recent Supreme Court precedent rejects the “0 plus 0 plus 0 equal 1” reasoning that is synonymous with course-of-conduct antitrust claims.

The complaint also alleges that Intel engaged in predatory design of certain software to reduce the performance of competing computer chips, without legitimate technical benefit, and that Intel engaged in deceptive acts and practices that misled consumers and the public by, for example, manipulating the content and timing of many industry standards. The legal and factual veracity of these allegations is beyond the scope of this antitrust alert, but is essential to the novel “course of conduct” strategy that the FTC is employing against Intel.

The FTC Focuses on Section 5 of the FTC Act

Perhaps recognizing the weakness of its case against Intel under prevailing antitrust law, the FTC has decided to use this case as a vehicle to test and develop the boundaries of Section 5 of the FTC Act. The FTC does not have authority to bring claims under the Sherman Act, but historically has used Section 5 of the FTC Act to enforce Sherman Act standards. The FTC typically sues under Section 5, alleging conduct that violates the Sherman Act. Although it is understood that Section 5 is broader than the Sherman Act, the FTC has rarely invoked it to reach conduct outside the existing antitrust laws. In the early 1980s, the FTC tried to test Section 5’s boundaries beyond the antitrust laws, but—in a series of federal circuit decisions—was mostly rebuffed. But recently, the FTC—particularly in speeches and statements by Chairman Leibowitz and Commissioner Rosch—has made it a public priority to employ Section 5 more often as a stand-alone claim. Indeed, as the statements by Commissioners Leibowitz and Rosch explain, the FTC complaint against Intel is the embodiment of that goal, and perhaps the reason the FTC decided not to settle.

Commissioners Leibowitz and Rosch issued a joint statement explaining why the FTC brought a stand-alone Section 5 claim against Intel. The Commissioners explain that “concern over class actions, treble damage awards, and costly jury trials have caused many courts in recent decades to limit the reach of antitrust.” While those aspects of private antitrust litigation exacerbate the effects of erroneously condemning pro-competitive conduct as anticompetitive, it stretches the reasoning of recent antitrust jurisprudence to conclude that those are the reasons for the current state of antitrust law. More accurately, the United States Supreme Court and the lower courts—with assistance from antitrust and economic commentators—have recognized the large costs to society of erroneously condemning pro-competitive activity, particularly activity involving price cutting and similar aggressive competitive acts. Indeed, the threat of an enforcement action by the FTC, even without collateral private litigation, is just as likely to chill competitive behavior. After explaining the history of Section 5, the two Commissioners emphasized that “even though the Commission has broad authority under Section 5, the Commission is well aware of its duty to enforce Section 5 responsibly.” That means that the FTC could find “a violation of Section 5 only when it is proven that the conduct at issue has not only been unfair to rivals in the market, but, more important, is likely to harm consumers, taking into account any efficiency justifications for the conduct in question.”

Commissioner Rosch issued a separate concurring and dissenting statement. He dissented from the FTC’s decision to include a Sherman Act Section 2 “tag-along” claim with the “pure” Section 5 claims. He asserts that the disadvantages from collateral consequences of a Section 2 claim—for both the FTC and Intel—outweigh any benefits of including the claim. Commissioner Rosch also describes the “four considerations” that he believes warrants application of Section 5 against Intel. Of greatest interest and potential impact, he states that “this is not a case where harm to competition can easily be segregated from harm to competitors.” Of course, one of the most commonly uttered phrases in US antitrust cases is that antitrust law protects competition, not competitors. Commissioner Rosch—echoing the approach often taken in Europe—believes that in this case where there are few meaningful competitors, competition is best protected by protecting Intel’s competitors. But if his concern is really with competition, the standards of Section 2 of the Sherman Act are well suited to that task and have been carefully defined by the courts after decades of litigation. Instead, Commissioner Rosch seems to be advocating an easier standard for the FTC—through Section 5 of the FTC Act rather than Section 2 of the Sherman Act—when there are few meaningful competitors. This position will certainly be an uphill fight in the courts.

Finally, one commonly overlooked aspect of this lawsuit is that the FTC is bringing this case under the Commission’s recently adopted Part 3 rules of practice and expects a trial on the merits within nine months and a Commission decision within twenty months.

Any company under FTC investigation should therefore begin preparing during the investigation for possible trial, because once the FTC files suit under Part 3, the case is on the fast track.

For more information on the impact of the FTC’s actions on your business, please contact:

Carl W. Hittinger

Kenneth G. Starling

Jarod M. Bona

Or any member of DLA Piper’s Antitrust and Trade Regulation practice.