July 10 2014
THE Competition Tribunal’s finding that Sasol Chemical Industries had charged excessive prices to domestic customers has brought the issue of excessive pricing into focus for corporations struggling with competitiveness and compliance.
The tribunal found Sasol had charged domestic customers excessive prices for purified propylene and polypropylene between 2004 and 2007 in contravention of the Competition Act. Such a contravention attracts a penalty of up to 10% of annual turnover for a first-time offence.
The tribunal imposed a R534m penalty on Sasol. It also imposed other remedies aimed at determining Sasol’s future domestic pricing for these products.
The net result of the tribunal’s decision is that dominant firms, with particular cost advantages not based on innovation, risk-taking and investment, and especially those that are present or previous recipients of state support, are left in a difficult position when seeking to comply with the act. Following the Sasol decision, such firms may find that profit maximisation, typically at the heart of any company strategy, or mark-ups of even as low as 20%, are likely to contravene the act.
The inclusion of excessive pricing provisions within competition law legislation is controversial. Not all jurisdictions agree that the charging of high prices should be a matter determined by competition authorities.
In jurisdictions where such legislation does not exist, regulation is either driven by free-market policy — in which pricing will self-correct — or there is acceptance that complexity in determining what is deemed excessive pricing is inevitable. SA falls into the ambit of competition legislation prohibiting excessive pricing. However, the difficult question remains: what is excessive pricing?
The act defines an excessive price as “a price for a good or service that bears no reasonable relation to the economic value of that good or service and is higher than that economic value”. The act also prohibits a dominant firm from charging an excessive price to the detriment of consumers. The act does not define “economic value”, “reasonable” or “consumers”.
Dominant firms are those with “market power”, defined as “the power to control prices, to exclude competition or to behave to an appreciable extent independently of competitors, customers or suppliers”.
The only thing clear about excessive pricing is that the act does not provide much insight and leaves the bulk of interpretation in the hands of the competition authorities.
Even the Sasol matter fails to bring clarity on how dominant firms should assess excessive pricing. Until the application for leave to appeal that has been filed with the Competition Appeal Court is heard and decided, big businesses are left with an unenviable task of navigating very muddied waters.
To date, there has been little case law interpreting the excessive pricing provisions in the act — with only the recent Sasol decision and a previous matter involving ArcelorMittal SA and Harmony Gold Mining.
The approaches to excessive pricing by the tribunal (in the Sasol decision) and the appeal court (in the ArcelorMittal decision) are fundamentally different and result in a great deal of uncertainty. This lack of certainty is not just bad news for big business, but also for the rule of law itself.
In the ArcelorMittal case, the court held that an excessive pricing assessment involved a four-stage inquiry.
As a first step, the court held that the actual price of the good or service in question alleged to be excessive had to be determined. This had to be followed by an empirical determination of the economic value of that good or service. (The economic value was understood to mean an amount of money that would notionally be the price or value of the good or service if market conditions other than those actually prevailing, were to prevail. Thus the economic value was seen to be the notional price of the good or service under assumed conditions of long-run competitive equilibrium.)
The price charged then had to be compared with the economic value. Only if the actual price was higher than the economic value would a value judgment be made on whether the difference between the price and economic value was unreasonable.
The court held that the test of reasonableness applies to the excess of price over economic value, and thus only to the element of “pure profit” (over and above “normal profit”) implicit in that price.
In determining reasonableness, the court held that a number of factors could be assessed, including the extent of dominance, the magnitude of the mark-up over the economic value and the nature of the market.
The court held that it is at this stage of the inquiry that circumstances peculiar to the dominant firm would come into the reckoning, taking into account the benefits flowing to the company from a subsidised loan, long-term low rental, or other special advantage that may serve to reduce its long-run average costs below the notional norm.
Finally, if the difference between the actual price and the economic value is unreasonable, it must be determined whether the charging of the excessive price is to the detriment of consumers (users), which can include any downstream consumers.
The tribunal’s recent determination in the Sasol matter is important.
Unlike the court’s methodology in ArcelorMittal, the tribunal held that the economic value of a good or service was not objectively determined, but included a dominant firm’s particular cost advantages obtained due to “past exclusive or special rights”, not the product of innovation, risk-taking or investment, especially those acquired or inherited through significant state subsidies or support.
The tribunal’s inclusion of a dominant company’s particular cost advantages into the determination of economic value results in that company’s costs being reduced to below the competitive norm and increases the likelihood of finding that the economic value is lower than the actual price charged.
This in turn means that there is a bias in favour of finding that dominant firms with these particular cost advantages have priced excessively, unless the difference can be shown to be reasonable.
In terms of addressing the issue of reasonableness, the decision offers no clear guidance on what may be deemed reasonable.
In its appeal, Sasol is likely to rely heavily on the court’s methodology in ArcelorMittal, but until this appeal has been heard and determined, dominant companies in similar positions to Sasol’s are left with a difficult task in terms of ensuring that their pricing is within the accepted parameters of the tribunal’s decision in order to avoid receiving similar reprisal for a first-time offence.
(By Paula Youens)