Amicus Brief — Continental TV, Inc. v. GTE Sylvania Inc.

Supreme Court brief1977

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Text

In THE

ty tomate

_ Ocrosen Tens, 1976

No. 76-15

CONTINENTAL T.V., INC., et al.,

Petitioners,

¥.

GTE SYLVANIA INCORPORATED,

Respondent.

FOR LEAVE TO FILE BRIEF

ASSOCIATION AS AMICUS CURIAE

LLoyD N. CUTLER

JaMEs S. CAMPBELL

W:LLIAM T. LAKE

ANDREW B. WEISSMAN

DoNatp F. Tome WILMER, CUTLER & PICKERING

6 Wingate Road 1666 K Street, N.W.

Lexington, Mase. 02178 Washington, D.C. 20006

Of Counsel ps2. mtb Hikes:

January 8, 1977 ee _ Anions Curia

IN THE

Supreme Court of the United States

OCTOBER TERM, 1976

No. 76-15

CONTINENTAL T.V., INC., et al.,

Petitioners,

GTE SYLVANIA INCORPORATED,

Respondent.

On Writ of Certiorari to the United States

Court of Appeals for the Ninth Circuit

MOTION FOR LEAVE TO FILE BRIEF FOR

MOTOR VEHICLE MANUFACTURERS ASSOCIATION

AS AMICUS CURIAE

The Motor Vehicle Manufacturers Association (MVMA)

respectfully moves the Court for leave to file the at-

tached brief as amicus curiae in this case. Counsel for

respondent has consented to the filing of the attached

brief. The consent of counsel for petitioners was re-

quested but refused.

The interest of MVMA as amicus curiae is set forth

at pages 1-2 of the attached brief. The brief describes

the benefits of locational franchising to both the manu-

facturer and the consumer and explains the economic

rationale for certain types of vertical relationships. The

dealer “location clause” in common use in the motor

vehicle industry is used as an example of how business

relationships reflect this economic rationale. These mat-

ters are not fully discussed in the respondent’s brief.

Respectfully submitted,

LLoyp N. CUTLER

JAMES S. CAMPBELL

WILLIAM T. LAKE

ANDREW B. WEISSMAN

DONALD F. TURNER — WILMER, CUTLER & PICKERING

6 Wingate Road 1666 K Street, N.W.

Lexington, Mass. 02173 Washington, D.C. 20006

Of Counsel Attorneys for Motor Vehicle

Manufacturers Association,

January 3, 1977 Amicus Curiae

INDEX

Page

— fF, Ree iv

INTEREST OF AMICUS CURIAE .....00..0.0.0000000 ee. 1

INTRODUCTION AND SUMMARY .........00000000000000000.. 2

I ie iii caiccenthaertite natalie tahitian Fe 4

I. COMPETITIVE MARKET FORCES MAY RE-

QUIRE A MANUFACTURER TO BE SELEC-

TIVE IN THE NUMBER AND LOCATION

OF ITS DISTRIBUTION OUTLETS ................. 4

A. A Manufacturer May Be Expected to Choose

the Method of Distribution That Is Com-

petitively Most Effective and Most Satisfies

Consumers of Its Product —................ sl eie tied 5

B. For Complex, Expensive Products Requir-

ing Sophisticated Pre- and Post-Sale Servic-

ing, Effective Competition May Be Best Pro-

moted, and Consumers May Be Best Served,

by a Limited Number of Dealers at —

es ibasieba AER sea ae 8

1. Distribution of Motor Vehicles Through

Selected Dealers at Specified Locations

Promotes Competition and Benefits Con-

IIE siccclnnsictimmensctpiitilnatncndatnteiibaniikcastedliie Ritts 8

2. Market Conditions May Require Manu-

factugrs to Franchise by Location in

Order to Be Efficient and iinoccmmenteal

RRR RS ee 15

a. The “free-ride’” phenomenon, which

is detrimental to consumer and manu-

facturer alike, can be prevented only

by means of locational restrictions.... 16

Il.

ITI.

INDEX—Continued

b. Dealers’ incentives to open additional

selling locations may conflict with the

long-term interests of manufacturer

3. This Court Should Not Fashion Antitrust

Ruies That Would Compel Manufacturers

to Choose Distribution Systems Less Ben-

eficial to the Consumer ............0.....00000000.-.

LOCATION CLAUSES ARE LAWFUL BE-

CAUSE THEY ARE NECESSARY AND REA-

SONABLY ANCILLARY TO DISTRIBU-

TION THROUGH SELECTED, FRANCHISED

Ee AR ES

A. The Courts Have Consistently Held That Lo-

cation Clauses Can Be Justified Under the

I A I ce

B. The Courts Have Upheld Exclusive Fran-

chises, Which Are More Restrictive Than

ROI Ne = Me

IF SCHWINN’S BROAD PER SE LANGUAGE

CONFLICTS WITH THESE SOUND ANTI-

TRUST PRINCIPLES, THAT LANGUAGE

SHOULD BE RECONSIDERED ................ iosiaieats

A. White Motor and the Schwinn Ruling on

Consignment and Agency Arrangements

Establish That Vertical Territorial Restric-

tions Should Be Tested by the Rule of Rea-

B. Schwinn’s Creation of a Per Se Rule Based

on the }istinction Between Consignment and

Sale Has Been Criticized by the Courts, Com-

mentators, and Antitrust Enforcement Au-

| ell aad Giachiidieiinlaidiiaieatindaataiaaes

Page

iii

INDEX—Continued

C. Schwinn’s Broad Language Ignores the Man-

ufacturer’s Legal Responsibilities to Con-

sumers and Its Need to Ensure Dealer Mar-

keting Practices That Help the Manufacturer

to Meet Those Responsibilities ......................

D. Genuinely Vertical Territorial Conditions

Should Be J udged Under the Rule of Reason..

nn A EN ad REN cs Ae

Page

TABLE OF AUTHORITIES

Cases: Page

Adolph Coors Co. v. FTC, 497 F.2d 1178 (10th

Cir. 1974), cert. denied, 419 U.S. 1105 (1975)... 40

Albrecht v. Herald Co., 390 U.S. 145 (1968) .....33, 42, 46

Boro Hall Corp. v. General Motors Corp., 124 F.2d

822 (2d Cir. 1942), cert. denied, 317 U.S. 695

UIT: icchasthbitaiciersisnnbbishiccasiniciathdhctenostibitiadeetaaadiiiadtiadietan 26

Carter Wallace, Inc. v. United States, 449 F.2d

Rg. Rk RS a 40

Colorado Pump & Supply Co. v. Febco, Inc., 472

F.2d 637 (10th Cir.), cert. denied, 411 U. S. 987

SENTIEED * ccnsanbanahiattiadecosiiiagdcmssdaeiusetanatedsciiie ont tne. 40

Dr. Miles Medical Co. v. John D. Park & ‘Sons Co.,

8 ER NOs: 33, 37, 45

Eastex Aviation, Inc. v. Sperry & Hutchinson Co.,

522 F.2d 1299 (5th Cir. 1976) ............................. 40

FTC v. Proctor & Gamble Co. (Clorox), 386 U.S.

fC, REL SeAR SIRES ie. FAO NO LOOr 15

Good Investment Promotions, Inc. v. Corning Glass

Works, 493 F.2d 891 (6th Cir. 1974) 000000000. 40

Interstate Circuit, Inc. v. United States, 306 U.S.

Be IE i licseticinsttieentintlinmieialenithalig te aire it. 45

Janel Sales Corp. v. Lanvin Parfums, Inc., 396

F.2d 398 (2d Cir.), cert. denied, 393 U.S. 938

PUNE fnsscatisheessaceisutantlinamnaiadneiientt domi ea hin. 40

Kaiser v. General Motors Corp.., 396 F. Supp. 33

(E.D. Pa. 1975), aff'd mem., 530 F.2d 964 (3d

IDL. SEINE wéciaistiidnocxapuiitacsepecilbaeiaactleiinie eh eh 29

La Fortune Vv. Ebie, 1972 Trade Cas. { 74,090 (Cal.

Bs as MII SINII shetisnisicealcteiienscensiigdts cate A cee 40

Northern Pacific Ry. v. United States, 356 U.S.

SED. cruiiisiuailincnssentomersiatideinodinmisaaipitie leita sta 35, 37, 38

Packard Motor Car Co. v. Webster Motor Car Co.,

243 I'.2d 418 (D.C. Cir.), cert. denied, 355 U.S.

822 (1957) ...... LE NED A Oat Sa ATE 31

Robertson Rock Bit Co. v. Hughes Tool Co., 176

F.2d 783 (5th Cir. 1949), cert. denied, 338 U.S.

948 (1950)

TABLE OF AUTHORITIES—Continued

Page

Saleo Corp. v. General Motors Corp., 517 F.2d 567

A hs IED cst ctaies cicttepeesenensaninnenipeianiitaninen 29, 30

Scooper Dooper, Inc. v. Kraftco Corp., 494 F.2d

I a aneresmemenneneien 40

Sheldon Pontiac v. Pontiac Motor Division, 418

en 29

Tripoli Co. v. Wella Corp., 425 F.2d 932 (3d Cir.),

cert. denied, 400 U.S. 881 (1970) ......................... 39

United States v. Addyston Pipe and Steel Co., 85

I a csisbinatlehinbaintate 16

United States v. Arnold, Schwi inn & Co., 388 U.S.

I a ia cetenlannatelagenpenectanent passim

United States v. Arnold, Schwinn & Co., 291 F.

a ee 29

United States v. Arnold, Schwinn & Co., 237 F.

Supp. 8328 (N.D. Ill. 1965), rev’d on other

grounds, 388 U.S. 365 (1967) ................. 9, 22, 26, 27, 28

United States vy. General Motors “orp., 384 U.S.

PE ee SOR OY 19, 21, 26, 28, 33, 45

United States v. General Motors Corp., Civ. No. 62-

1208-CC (S.D. Cal. Aug. 17, 1966) (unre-

ported) . 26

‘" United States v. Masonite Corp., "816 U.S. “265

il 2 REE SND RTE Eee 45

United States v. Revlon, Ine., 1975-1 Trade Cas.

| 60,202, modified, 1975-2 Trade Cas. ‘| 60,583

if aa RS RS eS eee 29

United States v. Sealy, 8388 U.S. 350 (1967) ............. 20

United States v. Topco Associates, Inc., 405 U.S.

TIED ssi lcial estcasdasintietnscteretgnishttiainmmmianiaqueneuie 38, 42

White Motor Co. v. United States, 372 U.S. 253

I sttaciahiccatetdidians lestenddeaiail 4, 8, 27, 35, 36, 37, 44, 45, 46

Legislative Materials :

Hearings on Exclusive Territorial Franchise Act

Before the Subcomm. on Commerce & Finance

of the House Comm. on Interstate & Foreign

Commerce, 93d Cong., 2d Sess. (1974) ............... 42

TABLE OF AUTHORITIES—Continued

Statutes: Page

Clean Air Act, 42 U.S.C. § 1857 et seq. .......... eile 10

Consumer Product Safety Act, 15 U.S.C. § 2051

GB QOD. cencscsxiniinecssnnnttinmpensssiaae 10

Consumer Product Warranties Act, 15 U.S.C.

pF Ses ee 10

National Traffic and Motor Vehicle Safety Act, 15

is Pe Sf FS ee 10

Radiation Control for Health and Safety Act, 42

WKS. FE 60 GOD, ccccencccetsemeniannaane 10

Sherman Act, 15 U.S.C. § 1 et seq. .oooococcccccccceeeceeee passim

Texts:

Baker, Vertical Restraints in Times of Change:

From White to Schwinn to Where?, 44 Anti-

) | EES eS 41, 46

Blecher, Schwinn—An Example of a Genuine Com-

mitment to Antitrust Law, 44 Antitrust L.J.

BED CIGD © cccreciiscsssinciorenntstmasaaman 41

Bork, The Rule of Reason and the Per Se Concept:

Price Fixing and Market Division II, 75 Yale

eS C} | RU pT 5

Chamberlin, Product Heterogeneity and Public

Policy, Am. Econ. Rev. 85 (May 1950) ........0...... 14

Comanor, Vertical Territorial and ‘Customer Re-

strictions: White Motor and Its Aftermath, 81

Hiarv. Le, Rev. 1419 (1GGB) ...-cccec. ccsencececcensscesssess 14, 20

McLaren, Territorial and Customer Restrictions,

Consignments, Suggested Retail Prices and Re-

fusals to Deal, 37 Antitrust L.J. 187 (1968).... 29

Note, Refusals to Deal by Vertically Integrated

Monopolists, 87 Harv. L. Rev. 1720 (1974) ....... 5

Phillips, Schwinn Rules and the “New Economics”

of Vertical Relations, 44 Antitrust L.J. 573

CTT) cccncsscssoressiesseeseineenetispetenaaaanee 8, 24, 41, 46

Pollock, Alternative Distribr: ‘on Methods After

Schwinn, 638 Nw. U.L. Rev %5 (1968) 00000000. 29, 31

vii

TABLE OF AUTHORITIES—Continued

Page

Pollock, The Schwinn Per Se Rule: The Case for

Reconsideration, 44 Antitrust L.J. 557 (1975)... 41

Posner, Antitrust Policy and the Supreme Court:

An Analysis of the Restricted Distribution, Hor-

izontal Merger and Potential Competition De-

cisions, 75 Colum. L. Rev. 282 (1975) _..5, 6, 18, 20, 33,

37, 41, 45, 46

Robinson, Recent Antitrust Develomments: 1974,

75 Colum. L. Rev. 248 (1975) ........................... 29, 40, 41

Rubin, The Theory of Franchising (1973) (unpub.

Ph.D. thesis in Univ. of Pa. Library) ......... ..... 23

P. Samuelson, Economics (10th ed. 1976)... 18, 22

Schelling, On the Ecology of Micromotives, 25 The

Public Interest 61 (1971) .................................... 22

F. Scherer, Industrial Market Structure and Eco-

nomic Performance (1971) ...........------------------------ 14

Schmitt, Antitrust and Distribution Problems in

Tight Oligopolies—A Case Study of the Auto-

mobile Industry, 24 Hastings L.J. 849 (1973)... 13,14

Other Authorities:

A.B.A. Committee on the Clayton Act, Marketing

and Franchising: Antitrusi Prognosis for the

70’s, 39 Antitrust L.J. 502 (1970) 29

ABA Antitrust Section, Monograph No. 2, Vertical

Restrictions Limiting Intrabrand Competition

LL, ee 23, 33, 37

K. Clearwaters, Franchising and the Antitrust

Laws, Address Before International Franchise

Association, May 16, 1974... STS ae 29

Ford Motor Company, Evolution of the Ford Fran-

chise Distribution System (October 1973)... 13

NADA, Franchised New Car & Truck Dealer Facts

i emsebquenines ~

New York State Bar Association, 1968 Antitrust

Law Symposium (1968) —......... aad - 29

IN THE

: Supreme Court of the United States

OCTOBER TERM, 1976

No. 76-15

CONTINENTAL T.YV., INC., et al.,

Petitioners, .

Vv.

GTE SYLVANIA INCORPORATED,

Respondent.

On Writ of Certiorari to the United States

Court of Appeals for the Ninth Circuit

BRIEF FOR MOTOR VEHICLE MANUFACTURERS

ASSOCIATION AS AMICUS CURIAE

INTEREST OF AMICUS CURIAE

The Motor Vehicle Manufacturers Association (MVMA)

is ‘a voluntary, nonprofit membership association com-

posed of companies engaged in the production of motor

vehicles in the United States. MVMA has often represented

the interests of its member companies in both adminis-

trative and judicial proceedings.

This case raises important issues about the lawful-

ness under the Sherman Act of dealer location clauses,

and of the franchise distribution systems that depend on

such clauses. MVMA’s member companies have a direct

and vital interest in the resolution of those issues. Motor

vehicle manufacturers distribute their products through

independent franchised dealers. Those dealers are fran-

chised to sell the manufacturer’s vehicles from specified

locations to any customer, wherever he may live or have

his place of business. The manufacturer’s consent is

required for them to change or add selling locations.

The dealers are typically not granted “exclusive fran-

chises”: The manufacturer is free to locate additional

dealers wherever it thinks a new outlet will help it to

compete effectively for sales. In fact, automobile manu-

facturers generally have a number of dealers in every

major metropolitan area, and those dealers typically sell

throughout the area and beyond.

INTRODUCTION AND SUMMARY

Motor vehicles are complex, costly, mobile, and long-

lasting products which require sophisticated pre- and

post-sale servicing. The manufacturer’s relationship and

responsibility to the consumer begin before any purchase

is consummated and last for the life of the car. Con-

sumers want and need to be informed before purchase

of the characteristics and performance of competing ve-

hicles in order to assure themselves that the financially

important choices they are making suit their needs. After

the purchase, the consumer wants to have reliable and

convenient service available. The manufacturer strives

to meet these consumer needs in order to maintain con-

sumer goodwill and thus achieve sales success.

In recent years, the manufacturer’s competitive in-

terest in meeting consumer needs has been reinforced

by an expanding range of statutory obligations to con-

sumers. Both emission controls and safety devices on

a vehicle must meet rigid federal standards. Safety and

emission contro! defects discovered after sale must be

corrected at the manufacturer’s expense. In a very real

sense, the manufacturer is subject to continuing eco-

nomic risks that require him to arrange for competent,

careful servicing by franchised dealers located conven-

iently to the owners of the vehicles and equipped with the

facilities to discharge this function.

These features of the motor vehicle industry are the

basic business realities that make a franchising system

with locational restrictions essential.

This emicus brief also sets forth the underlying eco-

nomic principles which support the assertion that the

use by manufacturers of vertical restraints on the loca-

tions of dealers may be beneficial to competition and

_ consumer welfare. A manufacturer and the consumers

of its product want the same thing from a distributional

system: maximum effectiveness at minimum cost. Every

manufacturer has an economic interest in having its

product marketed effectively at the lowest possible cost.

The consumer wants a convenient place to buy the prod-

uct, enough information to make an intelligent choice, and

reliable post-sale servicing—all at the lowest possible

price. If a dealer incurs unnecessary costs or makes

excessive profits, both manufacturer and consumer suffer.

The manufacturer loses sales and profits, and the con-

sumer pays higher prices and gets reduced services.

Part I of this brief examines the above propositions

in detail and explains the consequences which flow from

them. For the motor vehicle industry, a franchise system

specifying each dealer’s selling location is the most effec-

tive and competitive method of distributing and servic-

ing motor vehicles.

Part II of the brief examines prior decisions on the

lawfulness of location clauses under the Sherman Act.

Such clauses have uniformly been upheld as reasonable,

ancillary restraints needed to make locational franchis-

ing work. Every federal court that has confronted the

issue has determined that the Schwinn per se language

has no applicability to this type of vertical arrangement.

Petitioners ask this Court to overturn these prior de-

cisions by extending the Schwinn per se language to

cover location clauses. But they do not and cannot sup-

port this plea with reasoned analysis.

If the broadest language of the Schwinn opinion is

viewed by this Court as being inconsistent with the

decisions upholding location clauses under the rule of

reason, there is considerable support for a reexamination

of Schwinn itself. Part III of this brief examines the

opinions in Schwinn and White Motor, and the judicial

and scholarly authorities that have strongly criticized the

Schwinn rationale.

ARGUMENT

I, COMPETITIVE MARKET FORCES MAY REQUIRE

A MANUFACTURER TO BE SELECTIVE IN THE

NUMBER AND LOCATION OF ITS DISTRIBUTION

OUTLETS.

Any manufacturer of a consumer product wants to

find and maintain the most efficient, competitively effec-

tive method of distributing its product to consumers.

This interest coincides with that of the consumer, who

naturally wishes to have a choice of products offered to

him at the least possible cost consistent with his need

for purchasing convenience, quality and convenience of

service, and other requisites of effective retail distribu-

tion. A manufacturer often finds that the most com-

petitively successful, least costly method of distribution

is to sell the product to selected independent (“fran-

chised”) dealers operating at specified locations.

The choice of distribution through independent fran-

chised dealers makes particular competitive sense for

manufacturers of complex, expensive products requiring

substantial capital investment at the retail level, sophis-

ticated pre- and post-sale servicing, and the communica-

tion of accurate operating information to the user at

the time of sale and over the lifetime of the product.

That has been the unanimous choice, based on experience,

of motor vehicle manufacturing firms—whether large or

small, domestic or foreign. When the franchising choice

is made, and selected independent dealers are established

at specified locations, the manufacturer’s reasons for so

choosing—and the economic results of its choice—are the

natural result of market forces and are typically pro-

competitive and pro-consumer. If manufacturers were

forbidden to select their dealers and specify their loca-

tions, and were compelled instead to choose between for-

ward vertical integration or sale to dealers free of any

condition on the locations from which they resell to

consumers, then major objectives of the Sherman Act—

effective competition and consumer welfare—would be

damaged, not enhanced.

A. A Manufacturer May Be Expected To Choose the

Method of Distribution That Is Competitively Most

Effective and Most Satisfies Consumers of Its

Product.

Proper antitrust analysis of vertical marketing ar-

rangements must begin with, and never lose sight of,

the fundamental identity of sanufacturer and consumer

interests vis-i-vis intermediate links in the distribution

chain.' Both manufacturer and consumer want com-

1 See, e.g., Posner, Antitrust Policy and the Supreme Court: An

Analysis of the Restricted Distribution, Horizontal Merger and

Potential Competition Decisions, 75 Colum. L. Rev. 282, 283, 287-

88 (1975); Bork, The Rule of Reason and the Per Se Concept:

Price Fixing and Market Division II, 75 Yale L.J. 373, 403 (1966) ;

cf. Note, Refusals to Deal by Vertically Integrated Monopolists,

87 Harv. L. Rev. 1720, 1731-32, 1737 (1974).

The cited authors further argue that the identity of manufac-

turer and consumer interests exiends to manufacturer-initiated

petitively effective, low-cost distribution; neither wants

the intermediaries to receive monopoly profits or to incur

unnecessary costs.

It is obvious that every manufacturer has a vital

economic interest in finding the most efficient, most com-

petitively effective way to distribute its product—that is,

one that minimizes distribution costs. It should be

equally obvious—but is sometimes forgotten— hat the

consumer wants the same thing. He, too, wants to be

able to buy the product at a onvenient location, with

necessary information about the product provided before

and at the time of sale and with reliable, convenient

service, repair parts, and operating information pro-

vided after the sale—all at the lowest possible price.

Monopoly conditions at any point in the distribution chain

(wholesaler or retailer) benefit neither manufacturer nor

consumer. Such conditions can only mean higher prices or

inferior and less convenient services to the consumer and

lower sales and profits for the manufacturer.’

minimum resale price maintenance. The proposition is dubious,

and such price-fixing is readily distinguishable from other distri-

bution restraints, particularly limitations on the rumber of deal-

ers. Among other things, minimum resale price maintenance is

plainly against the interests of customers of all those outlets who

would carry the product, and at a lower price, absent the restrai’

Moreover, unlike limitations on the number of dealers or even

territorial restrictions, minimum resale price maintenance cannot

serve the purpose of promoting economies of scale in distribution;

indeed, it promotes sales of low-volume, high-markup retailers at

the expense of more efficient competitors. Accordingly, this Court

need have no concern that upholding location clauses would in any

way impair the validity of the per se ru'e against minimum resale

price maintenance, and we explicitly disavow any such position in

this brief.

2 The manufacturer's dislike of monopoly conditions at the dealer

(or wholesaler) level exists regardless of his own degree of market

power. “The difference between the price at which the manufac-

turer sells to the dealer and the dealer’s price to the consumer is

the manufacturer’s cost of distribution, and any seller (even a

monopolist) wants to minimize his costs.” Posner, supra note 1,

at 283. For further discussion of this point, see p. 46 infra.

For these reasons, the manufacturer may normally be

expected to benefit from the maximum feasible competi-

tion’ among its dealers, because that increases the sales

of the manufacturer’s product and prevents excessive

dealer margins, thus enabling the manufacturer to com-

pete more effectively with other manufacturers of the

same product. Any presumption that a manufacturer

would try to suppress intrabrand competition that ac-

tually brings about more efficient and effective distribu-

tion requires acceptance of the general proposition that

manufacturers deliberately foster dealer monopolies at

the expense of reduced sales and profits for themselves.

That proposition has no logical or empirical basis and

should not be the starting point for analysis of the

legality of manufacturer-imposed conditions on the loca-

tion from which the dealer sells the product to the ulti-

mate consumer.

Why, then, do manufacturers sometimes decide to im-

pose conditions on how their dealers sell their products

to consumers? Many manufacturers do in fact choose

to distribute their products through sales to a limited

number of dealers (rather than to anyone willing to pay

the manufacturer’s price) ; and they also specify the loca-

tions at which the dealers may sell (rather than let them

do business from whatever location they wish). The

reason for their choice is that they have tound such

“franchising” systems to be the most efficient, most com-

petitively effective way to distribute their products. Busi-

ness experience with franchising, especially in the mar-

keting of complex, expensive, long-lasting consumer prod-

ucts such as motor vehicles, demonstrates the advantages

that may accrue to manufacturer and consumer alike

from a system in which the manufacturer imposes cer-

tain responsibilities on dealers in their marketing and

servicing activities. Moreover, a growing body of modern

economic thinking about vertical relationships’ explains

why these advantages exist and describes how barring a

manufacturer’s influence on the locations from which

dealers sell its products would threaten consumer wel-

fare.*

B. For Complex, Expensive Products Requiring Sophis-

ticated Pre- and Post-Sale Servicing, Effective Com-

petition May Be Best Promoted, and Consumers May

Be Best Served, by a Limited Number of Dealers

at Specified Locations.

1. Distribution of Motor Vehicles Through Selected

Dealers at Specified Locations Promotes Compe-

tition and Benefits Consumers.

Distribution through franchised dealers has long been

establis! ? in the motor vehicle industry. The largest

and smalie:+ manufacturers, both domestic and foreign,

of most types of vehicles have each made the same in-

dependent competitive decision: they each choose to dis-

tribute their products through carefully selected dealers

who do business at locations specified by the manufac-

turer.’ The reasons derive largely from the nature of

3 See Phillips, Schwinn Rules and the “New Economics” of Ver-

tical Relations, 44 Antitrust L.J. 573, 574 (1975).

‘We refer here, of course, to vertical marketing conditions that

originate with the manufacturer and serve his interest in effective

distribution. Conditions that are vertical in form may, on closer

examination, occasionally turn out to be the result of a horizontal

cartel among dealers, imposed on the manufacturer. As Mr. Jus-

tice Brennan pointed out, concurring in White Motor Co. v. United

States, 372 U.S. 258, 267 (1968), such restraints should be treated

as horizontal market divisions. See pp. 45-46 infra.

5 Some bus manufacturers sell directly to users. The National

Automobile Dealers Association, an independent organization com-

prised of dealers selling all makes of cars and trucks, estimates

that as of year-end 1975 there were a total of 29,300 franchised

new car dealers. NADA further estimates that of this 29.300,

18,900 handled domestic makes only, 5,600 handled both domestic

and imported makes, and 4,800 handled imported makes only.

NADA, Franchised New Car & Truck Dealer Facts 10 (1976 ed.).

cars and trucks as complex, costly, mobile products,

which require large capital investment at the retail level,

sophisticated pre- and post-sale servicing, and a con-

tinuous flow of accurate information to the consumer on

how to operate and maintain his vehicle and on what

the vehicle can and cannot be expected to do. A motor

vehicle manufacturer whose distribution system fails to

meet these requirements cannot succeed in the market-

place.

A motor vehicle purchaser requires much more than

mere delivery of the machine itself. Before he buys, as

he makes his purchasing decision among competing makes

and models, he requires accurate information about the

operating characteristics and service requirements of the

available vehicles 2nd the available optional equipment.

The vehicle itself requires substantial preparation for

use after its shipment from the factory." The buyer

knows that, after the sale, his vehicle will need regular,

and maybe emergency, servicing by the dealer from whom

-he bought it or by another dealer at any place to which

the buyer and vehicle might travel.

The vehicle’s service requirements are not simply a

matter of customer discretion and choice; they also di-

*For example, Paragraph 4(a) of the Standard Provisions of

the Ford Sales and Services Agreement provides:

“Predelivery Service. The Dealer shall perform or be re-

sponsible for the performance of such inspection, conditioning

and repair of each VEHICLE before delivery as may be pre-

scribed for such VEHICLE in the Company’s applicable pre-

delivery inspection and conditioning schedules furnished by

the Company to the Dealer. The Dealer shall maintain or be

responsible for the maintenance of adequate records of all

predelivery inspection, conditioning and repair work performed

by or for the Dealer.”

Compare the concern of Schwinn that its bicycles be safely and

properly assembled before placed in the consumer’s hands (rather

than being sold “in a carton”). United States v. Arnold, Schwinn

& Co., 237 F. Supp. 323, 337-38 (N.D. Til. 1965), rev’d on other

grounds, 388 U.S. 365 (1967).

rectly involve the manufacturer because of warranty

representacions and laws and because of the manufac-

turer’s legal responsibilities with respect to safety and

emission controls. Vehicle manufacturers are subject to

an expensive and expanding range of legal obligations,

not only to the dealers who are their immediate vendees,

but also to the consumer (and even the consumer’s family

and guests) with whom they have no contractual relation-

ship. Vehicle manufacturers are required to meet safety

standards, to advise vehicle operators if safety defects

are found at any time after sale, and to take corrective

recall and repair measures at their own expense.’ They

have similar duties with respect to emission controls.*

Makers of television sets and other electronic products

have similar responsibilities for radiation control.’ All

makers of consumer products have safety responsibilities

under the Consumer Product Safety Act’ and obliga-

tions with respect to warranty representations under the

Consumer Product Warranties Act.'' Under these laws,

all such manufacturers continue to bear very substantial

economic risks of loss throughout the entire period that

their products are used by consumers.”

Since most manufacturers do not sell directly to con-

sumers, they must delegate part of the tasks of main-

taining consumer goodwill and of meeting the legal duties

they owe consumers to the dealers who deal with con-

sumers directly. They must be able to ensure that the

* See 15 U.S.C. § 1391 et seq. (National Traffic and Motor Vehicle

Safety Act).

* See 42 U.S.C. § 1857 et seq. (Clean Air Act).

® See 42 U.S.C. § 263b et seq. (Radiation Control for Health and

Safety Act).

15 U.S.C. § 2051 et seq.

115 U.S.C. § 2301 et seq.

12 See also Part III-C infra.

—

dealers will do their part in performing these tasks, and

that they will be suitably located and equipped to dis-

charge this function. Vehicle manufacturers achiev this

by establishing a network of carefully selected dealers

at specified locations.

The manufacturer tries to choose and support com-

petent dealers of efficient size, on whom consumers can

safely rely and whose businesses will be stable enough to

allow a continuous relationship with the customer. By

prescribing the location of each dealer’s facilities, the

manufacturer can ensure that they are convenient to

buyers and can achieve sufficient geographical coverage

to reassure buyers that they will find adequate service and

repair parts when they travel.’

To achieve these benefits, the manufacturer, the in-

dividual dealers, and the consumer all put a heavy stake

in the dealership system. The manufacturer must help

to train the dealer’s sales and service personnel, especially

with respect to pr*duct innovations that continually create

new information, training, and service requirements, and

also in some cases provide needed capital.'* The dealers

13 Competent dealers, expert in selling and servicing the manu-

facturer’s products, also provide a continuous source of reliable

information to the manufacturer about consumer needs, service

problems, and defects in the product. The manufacturer can act

on that information by making competitive product improvements.

Cf. Robertson Rock Bit Co. v. Hughes Tool Co., 176 F.2d 783, 785

(5th Cir. 1949), cert. denied, 388 U.S. 948 (1950).

The preamble to the Ford Sales and Service Agreement pro-

vides in pertinent part:

“To assist its dealers in these responsibilities, the Company

establishes and periodically updates standards of operation

- and planning guides based on its experience and current con-

ditions. It also offers sales and service training courses, ad-

vice as to facilities, counseling in the various phases of dealer-

ship operations and, through other agreements and the activi-

ties of its affiliates, assistance in financing, uew and used

vehicle merchandising, parts and service merchandising, leas-

must make large capital investments in facilities, equip-

ment, and parts and develop the expertise needed for

both pre- and post-sale servicing." The consumer relies

heavily on the competence of the dealer who sells him this

costly and complex piece of machinery and on the likeli-

hood that the dealership will still be there to provide con-

tinuing information and service when the vehicle needs

warranty work and other servicing.

If these “investments” are to pay off for all concerned,

there must be the optimum number of dealers at the

optimum locations. If dealers are too few in number or

too widely spaced, the results will be lost sales and the

unavailability of adequate service. If they are too many

in number or too closely spaced, the results will be in-

adequate sales potentials, skimping on point-of-sale serv-

ices, and a cycle of dealer failures and changing loca-

tions. This will increase consumer costs, harm con-

sumer confidence in the continuous availability of quality

service, and reduce the manufacturer's ability to compete

in satisfying consumer expectations.

These benefits of locational franchising in the motor

vehicle industry are widely recognized. When new manu-

facturers—for example, those from abroad—have entered

the American motor vehicle marketplace, they have in-

variably chosen to establish a network of franchised

ing, daily rentals and facilities development. It also conducts

national advertising, promotional and other marketing pro-

grams and assists dealers in developing complementary group

and individual programs.”

1° For example, each of the 33 Ford dealers serving the San

Francisco metropolitan area has an average operating investment

of $550,000 (excluding facility costs in the range of $1.0-$1.5

million per dealer) and an average investment of over $100,000 in

replacement parts alone. Each employs an average of 23 trained

technicians and other personnel for servicing and repairing new

and used vehicles. As of October, 1976, the total investment in

facilities occupied by Ford and Lincoln-Mercury dealers through-

out the United States was approximately $2.4 billion.

dealers at approved locations. The conduct of these newer

entrants thus confirms the experience of the established

manufacturers, which tried virtually every means of

distribution over the years but concluded that distribu-

tion through franchised independent dealers at approved

locations was competitively the most effective method."

Even critics of the motor vehicle industry concede the

many benefits of the dealer franchising system. For

example, one of the commentators on whose articles the

dissenters below relied *’ stressed that wholly unrestricted

distribution of complex products such as automobiles and

trucks would render the manufacturer competitively in-

effective and produce results harmful to the consumer:

“If the manufacturers responded to every order of

an individual who is willing to pay cash for an auto-

mobile, the distribution process would become a hor-

rible mess. The administration of such a system

would be unduly costly. Delivery costs would be in-

fated. Moreover, the companies would have to per-

form the dealers’ duty of car preparation at the

factory. Large amounts of money would be neces-

sary to stock the cars, whether near the factories

or in several wholesale outlets. A network of stra-

tegically located retailers alleviates all these bur-

dens.” *

“Almost every variety of marketing device was tried. Prac-

tically every company sold some cars directly to the consumer.

Many sold by mail order and some through large department stores.

Some sold on consignment, others on credit or cash in advance.”

Ford Motor Company, Evolution of the Ford Franchise Distribu-

tion System 3 (October 1973). Copies of this publication are being

lodged with the Court for its convenience.

? See 537 F.2d 980, 1025, 1028-29 (9th Cir. 1976) (Browning, J..

dissenting).

Schmitt, Antitrust and Distribution Problems in Tight Oli-

gopolies—A Case Study of the Automobile Industry, 24 Hastings

L.J. 849, 874 (1973) (emphasis added). See also id. at 876, 898.

The same commentator further conceded that servicing

and replacement parts can be provided more efficiently

and more cheaply by “a limited number of selected deal-

oa.” *

The commentators who have criticized locational fran-

chising largely evidence two misconceptions. First, they

make unwarranted assumptions about the supposed evils

of “product differentiation” *’ and about possible rela-

tionships between product differentiation and franchis-

ing.” Second, and of more analytical importance, these

1” “The public received a reasonably reliable means of transpor-

tation only after there were wutlets for replacement parts and

persons trained in repair. Moreover, as manufacturers guaranteed

free repair work immediately after purchase, this warranty had

to be fulfilled by trained mechanics. The distribution of cars and

parts would have proven less efficient and more costly if the manu-

facturers had not concentrated these tasks in the hands of a lim-

ited number of selected dealers.” Schmitt, supra note 18, at 878

(emphasis added).

2°“Product differentiation” is action by a firm to differentiate

its goods and services from those offered by its competitors. See

F. Scherer, J/ndustrial Market Structure and Economic Perform-

ance 324 (1971).

21 See Schmitt, supra note 18, at 876-81; Comanor, Vertical Ter-

ritorial and Customer Restrictions: White Motor and Its After-

math, 81 Harv. L. Rev. 1419, 1423-27 (1968).

These commentators err in regarding all “product differentia-

tion” as socially undesirable. Where products are in fact different,

a manufacturer helps the consumer by pointing out the different

features of its product and providing, with the “brand” label, a

convenient means of assuring the consumer that the product has

the features that interest him. When manufacturers stress the

ways in which their products are “better,” they are thus serving

an important consumer information function, as well as promoting

their own products. Moreover, the fact of product variety itself

benefits consumers. The greater the variety of available products,

the greater the likelihood that each consumer will get what he

wents. See, e.g., F. Scherer, supra note 20, at 324-25; Chamberlin,

Product Heterogeneity and Public Policy, Am. Econ. Rev. 85-92

(May 1950).

Moreover, even assuming that manufacturers might wish to

create “artificial” product differentiation by noninformational pro-

commentators show an inadequate understanding of the

practical economic reasons why distribution through

franchised dealers selling from specified locations may

be the most efficient and effective way for a particular

manufacturer to compete.

2. Market Conditions May Require Manufacturers

to Franchise by Location in Order To Be Efii-

cient and Competitively Effective.

As indicated above, it cannot be suggested that motor

vehicle users would be better off if manufacturers were

to deliver their products to any retailer with the neces-

sary cash and then stop worrying about what happened

next. That may be the best way to distribute magazines

or chewing gum, but it would be a competitively dis-

astrous way for a manufacturer to try to meet consumer

needs for motor vehicles.

Petitioners concede that a manufacturer should be

free to sell to only a limited number of dealers in

any one area, or even exclusively to only one. Yet they

claim the manufacturer should not be permitted to en-

sure that these dealers, once selected, will operate from

efficiently spaced locations, contending that unrestricted

entry by franchised dealers is best calculated to pro-

duce the set of dealer locations most conducive to the

motion of products that have no real differences, there is nothing

to suggest that this is a purpose or effect of limiting the number

of dealers or specifying their locations. Manufacturers can pro-

mote their products directly or give dealers allowances usable only

for that purpose; there is no need to limit the number of dealers

or specify their outlets. Household bleach, it may be noted, is not

distributed through franchised dealers. Cf. FTC v. Procter &

Gamble Co. (Clorox), 386 U.S. 568 (1967).

Finally, to the extent that dealer organizations are relied on by

manufacturers to promote their products, it must be because no

other means of promotion is as efficient. If locational franchising

were outlawed, promotion would not cease but would simply be

carried out by less efficient, more costly methods—a result benefit-

ing no one.

competitive effectiveness of the manufacturer and the

welfare of the consumer. Petitioners’ position is in-

ternally inconsistent, contrary to sound competitive eco-

nomic principles long recognized by antitrust courts,

and belied by the actual business experience of competi-

tors in the motor vehicle industry.

To concede that a manufacturer, in the interest of

efficient distribution, may limit the number of deal-

ers to whom he will sell is to recognize that in the real

world unrestricted dealer entry may neither be pro-

competitive nor best serve the interests of consumers.

Yet a location clause is the minimum restraint necessary

to make the manufacturer’s limitation on the number of

dealers stick. It is, in short, a reasonable ancillary

restraint, well within the category of restraints—such

as covenants not to compete in the sale of a business,

or provisions limiting a joint venture company’s com-

petition with its parents—that have long been upheld as

reasonably ancillary to transactions and activities that

promote rather than restrain competition and trade.*

The ways in which limitations on the number of

dealers, and location clauses ancillary thereto, may

serve to promote efficient distribution and hence con-

sumer interests are well illustrated by the distributional

needs of the automotive industry.

a. The “free-ride” phenomenon, which is detri-

mental to consumer and manufacturer alike,

can be prevented only by means of locational

restrictions.

In order to determine which of several competing

products most suits his needs, the consumer must have

information about the available products, their simi-

22 See Judge Taft’s classic exposition of the ancillary restraint

doctrine in United Siates v. Adduston Pipe and Steel Co., 85 F.

271, 280-81 (1898).

larities and differences, and their comparative suitability

to his purposes. With a product like a toothbrush, which

is simple, cheap and is purchased often, trial and error

can provide the experience necessary to enable the con-

sumer to make an informed choice among types and

brands. The “point-of-sale services” required are thus

minimal.

But a product like an automobile, a truck, or a color

television set may be sufficiently complex to prevent the

buyer from determining by mere observation exactly

how it will function. It may be purchased so infre-

quently (and at such cost) that trial and error is an

unacceptable basis for evaluation. In this situation, the

buyer needs considerable pre-sale services before he can

make an informed choice. Some of these services, such

as general information about the merchandise, can be

provided in written or other form by the manufacturer.

But much of the necessary information must be im-

parted at the point of sale by the dealer. The buyer of a

truck, for example, needs painstaking individual atten-

tion to choose the combination of optional components

that will best assure that his particular needs are met.”

And a typical automobile buyer personally examines

many available models in dealers’ showrooms, discusses

a variety of optional equipment with dealer personnel,

and may also test-drive the authorized dealer’s cars prior

to any purchase. The dealer also performs certain post-

sale services, such as periodic check-ups, for which he is

23 The business of selling trucks involves extensive discussion and

counseling between sales persons and the prospective purchaser. In

order to enable the customer to haul the maximum payload of his

contemplated cargo at the lowest operating cost per mile, the

dealer’s technical personnel must determine the appropriate engine

size and the proper combination of transmission, clutch, and drive-

shaft. In addition, particular loading and unloading requirements

must be provided for, and the truck must be made to conform with

the weight, length, and safety laws that will govern the customer’s

operations.

not separately compensated by either the consumer or the

manufacturer.

A distributional system that did not provide such

point-of-sale services would require the consumer to buy

expensive items without adequate information and thus

impede him from obtaining the product best suited to his

needs, undoubtedly to the detriment of the consumer’s

welfare and the manufacturer’s competitive effectiveness.

Product distribution free of manufacturer influence

would, however, lead to just such a result. Each dealer

would recognize that if he incurred the expense of pro-

viding the necessary point-of-sale services, and raised the

price of his product accordingly, another dealer selling

the same brand could forego the services and undercut

his prices. Consumers then could take advantage of all

the services offered by the first dealer and buy from the

second at the lower price.** Rather than suffer the com-

petitive disadvantages of such a “free ride” by other

dealers, each dealer would opt to provide minimal serv-

ices and thereby enable himself to meet his competitors’

prices.”

Manufacturer specification of dealer selling locations

is a reasonable and minimally restrictive way to over-

24 See Posner, supra note 1, at 285.

** This is a classic “prisoner’s dilemma” situation. See, ¢.g., P.

Samuelson, Economics 506-07 (10th ed. 1976). Each dealer’s bene-

fit is higher if all provide the necessary point-of-sale services than

if none does, because the better-informed consumers are more

likely to be pleased with the products they buy and therefore more

likely to buy again. But each dealer can achieve an even higher

benefit if he avoids providing those services while others provide

them, allowing him to take a “free ride.” Any dealer who provides

the services when another does not receives the lowest benefit: He

may be forced to sell at prices that do not cover his costs. Under

these circumstances, each dealer rationally pursuing his own interest

will choose not to provide any services—to the serious disadvantage

of the manufacturer and the consumers to whom it is trying to

market its products.

come this market dysfunction. By establishing reason-

ably spaced dealer selling locations, the manufacturer as-

sures each dealer a group of potential customers to whom

he is the nearest and most convenient seller and elimi-

nates the possibility that other dealers will set up nearby

unauthorized locations—unequipped to provide adequate

pre- and post-sale services—and take a “free ride” on his

services. Each dealer thus obtains an incentive to pro-

vide point-of-sale services to maximize his sales within

his area of competitive advantage. But the freedom of

every dealer—including some with an approved location

quite close by—to sell to any customer, wherever located,

preserves the maximum degree of interdealer and intra-

brand competition consistent with the competitive effec-

tiveness of the manufacturer and the welfare of the

consumer.”” As shown in Part II-A below, location

26 The record in this Court in United States v. General Motors

Corp., 384 U.S. 127 (1966), affords ample illustration. In the Los

Angeles metropolitan area there were 85 Chevrolet dealers selling

throughout the area and beyond. Record 1233. There was an aver-

age of five other Chevrolet dealers within five miles of each of the

85 dealer locations. Record 1377. The dealers in Orange County

(part of which was in the Los Angeles metropolitan area, Record

607) in the year 1960 made 3753 of their 6157 sales (or 61%)

outside the city where located and even sold a high percentage of

cars (16%) outside Orange County in 24 other counties of Cali-

fornia. Attachment 1, Stipulation No. 5, filed May 20, 1974 (District

Court Record). Indeed, under the Chevrolet selling agreement each

of the 85 dealers’ areas of sale responsibility was the entire Los

Angeles metropolitan area (Record 12), and hence each dealer was

obligated to promote sales to customers near other dealers’ locations

as well as near his own.

As another example, Paragraph 2(a) of the Standard Provisions

of the Ford Sales and Service Agreements states explicitly that

“the Dealer shall not be limited to the DEALER’S LOCALITY in

making sales.” Publicly available registration records show that

a typical Ford dealer in a metropolitan area experiences only

about 37% of his total sales in te immediate area around his

location. He experiences 77.3% of h_ total sales in this same area

plus those areas immediately adj at to the respective locations

of other Ford dealers which encircle him. The remaining 22.7%

clauses thus are much less restrictive than the closed

selling territories involved in Schwinn and are consistent

with vigorous intrabrand competition.”

b. Dealers’ incentives to open additional selling

locations may conflict with the long-term

interests of manv ‘acturer and consumer.

Manufacturers seek to maximize the amount of mer-

chandise they can sell, while providing satisfactory serv-

ices for the consumer to protect their long-term goodwill.

If demand in an area increases to the point that an-

other dealer location can profitably be opened, the manu-

facturer will—as a matter of its own self-interest—

authorize such a location for a new or existing dealer.

In the motor vehicle industry, for example, manufac-

turers decide the number of dealers and their locations

on the basis of comprehensive studies and analyses of

of the sales of such dealer fall elsewhere in essentially unpredict-

able patterns, some within other parts of the metropolitan area and

some beyond.

2? Three other methods of achieving this result can be imagined.

None of them is nearly so satisfactory as the dealer location clause.

One would be to allow dealers to agree among themselves about

the level of point-of-sale services each will provide. But the dealers

would not share the manufacturer’s incentive to minimize distribu-

tion costs, and their agreements would be subject to anticompetitive

abuse. See Posner, supra note 1, at 287, 298-99. Compare United

States v. Sealy, 388 U.S. 350 (1967). A second method would be

to sell the point-of-sale services as a separate product, thus allowing

equal price competition for the product itself. See Comanor, supra

note 21, at 1433. It is simply inconceivable, however, that an auto-

mobile dealer, for example, could ever sell admission to his show-

room or the time of his salesmen, or charge for test-drives, without

suffering more fyom the negative reactions of consumers than

the provision of those services would be worth. Finally, manu-

facturers could require in the franchise contract that dealers

offer full point-of-sale services at all locations, but the cconomic

pressure on the local dealer to take advantage of “‘free-ride” possi-

bilities would be so great that an extensive, costly policing system

would have to be developed by the manufacturer. Moreover. pro-

liferating locations would produce wasteful duplication of facilities.

Locational restrictions, whose violations are much more easily de-

tected, minimize these problems.

sales potential.** Each manufacturer periodically re-

views its dealerships and reconsiders how many dealer

locations it should have in an area and where they should

be sited. The aim is to provide a dealer location for

every neighborhood that can support one and not to put

two locations in a neighborhood which can support only

one. In this way the manufacturer seeks the continuous,

competitively effective long-term presence of full-service

dealers in as many communities as practicable through-

out the country.

Dealers, however, look at the issue of opening addi-

tional locations from a different perspective. They are

normally and properly concerned with their own ability

to make a profit, generally over a shorter term than the

manufacturer looks to, and with only their own costs

considered. For some simple products like toothpaste, the

decisions of retailers might be expected to yield results

favorable to all concerned. But in the distribution of

complex products such as motor vehicles, decisions based

on the interests of each individual dealer alone, free of

manufacturer influence, could seriously harm the inter-

ests of the consumer as well as the manufacturer.

A car or truck !uyer knows that his purchase will last

many years, and he relies heavily on the expectation that

a dealership will be there to stand behind the vehicle if

it proves defective and to provide quality service when

needed. The consumer has a similar interest in the con-

tinuous availability of competent servicing establish-

28 Manufacturers project the sales potential of each area from

motor vehicle registration data in public records. They also make

extensive field studies. See Affidavit of Rudolph F. Schreitmueller,

reprinted at pages 202-18 of the appendix in this Court in United

States v. General Motors Corp., 384 U.S. 127 (1966). Mr. Schreit-

mueller’s affidavit and other materials in the appendix in that case

describe the development and benefits of General Motors’ fran-

chising system, which is typical of the industry generally.

ments in communities throughout the country should he

move or travel. The consumer’s interest in local and

nationwide service availability is not shared by a dealer

who can reap short-run profits from a new selling loca-

tion even if, because of failure of the franchised servic-

ing dealer, consumers later turn to other brands. But

the consumer’s interest is shared by the manufacturer,

whose long-term sales and competitive position will de-

pend on the consumer’s expectations of service continuity

being satisfied.**

The costs to the manufacturer of continuous entry and

exit at the dealer level are substantial as well. New

franchised dealers in the automobile industry require a

heavy investment by the manufacturer. The dealer’s

personnel must be trained to perform all of the services

expected by the consumer—pre-sale preparation, market-

ing, and post-sale maintenance and repair. If excessive

opening of unfranchised new locations causes unneces-

sary turnover or lowering of service quality among fran-

chised dealers, this manufacturer investment is wasted

and the total cost of distribution increased. The dealer

franchised for one location who opens an additional un-

franchised location has no reason to consider that loss,

but the manufacturer does.*® Since the interests of the

2°In economic terms, this consumer interest is “external” to

the dealer’s decisionmaking but “internal” to that of the manu-

facturer. Decisions that do not take account of such “externalities”

cannot be expected to produce the most socially desirable results.

See generally P. Samuelson, supra note 25, at 476-78. For an

analysis of why the consumer does not or cannot correct this type

of market misallocation, see Schelling, On the Ecology of Micro-

motives, 25 The Public Interest 61 (1971).

5° The district court in Schwinn found that the manufacturer

there had adopted locational franchising of retailers to protect its

similar investment in its relationships with dealers. Many of

Schwinn’s costs in dealing with its retailers varied with the number

of retailers, not with the volume of their sales. See United States

v. Arnold, Schwinn & Co., 237 F. Supp. 323, 337-38 (N.D. II.

dealer who opens an additional unfranchised location

coincide less with the interests of consumers than do the

interests of manufacturers, consumer welfare will bene-

fit if the manufacturers specify the locations.

3. This Court Should Not Fashion Antitrust Rules

That Would Compel Manufacturers to Choose

Distribution Systems Less Beneficial to the

Consumer.

If this Court were to condemn location clauses, and

the franchising systems built on them, as per se illegal,

consumers would almost certainly be harmed. Manufac-

turers that now use locational franchising would be

forced to choose between wholly unrestricted distribution

and forward vertical integration. If they chose the

former, the inefficiencies outlined above would be en-

demic—to the detriment of both manufacturers and

consumers. If the manufacturers tried to avoid those

problems through vertical integration, as Schwinn did

after this Court condemned its restrictions on distribu-

tors,"' consumer welfare could also suffer.

Vertical integration, though it may achieve economies

comparable to those of franchising, may also create off-

setting diseconomies that make it, if forced on a manu-

facturer against its better business judgment, less bene-

ficial for both manufacturers and consumers. Integra-

tion transforms the independent local retailer into the

1965), rev'd on other grounds, 388 U.S. 365 (1967). This Court on

appeal did not disturb those findings or disapprove Schwinn’s loca-

tional franchising of retailers. See Part II infra.

31 See L. Rubin, The Theory of Franchising (1973) (unpublished

Ph.D. thesis in Univ. of Pa. Library) at 181. ABA Antitrust Sec-

tion, Monograph No. 2, Vertical Restrictions Limiting Intrabrand

Competition 49 (forthcoming 1977) (final manuscript as approved

for publication). For the convenience of the Court, manuscript

copies of this forthcoming publication are being lodged with the

Court.

employee of a large, integrated firm. The retail outlet

may thus lose the ability of an independent franchisee

to respond to changes in local conditions. To the extent

that control is centralized, control costs and complex

managerial requirements may arise that counterbalance

the benefits of integration. To the extent that there is

an interest in having opportunities for independent en-

trepreneurship in distribution, that interest is obviously

not served by forcing manufacturers to integrate where

they would not otherwise do so.

None of this is to say that existing locational fran-

chising systems are perfect, in the motor vehicle in-

dustry or elsewhere. Those systems have evolved over

many years in response to the inadequacies of other

methods of distribution, and they will keep evolving in

response to new consumer demands and changing econ-

omic conditions. But there is no reason to believe that

improvement will come from a judicially imposed per se

rule that forbids the manufacturer to control its dealers’

locations, no matter how sound his competitive reasons

for doing so, and no matter how closely they coincide

with the consumer’s interests. Since the manufacturer

has no reason to exercise that control to its own detri-

ment or the consumer’s, it can be expected to respond to

any consumer pressure for change in existing systems.

Moreover, the “new economics of vertical relations” is

increasingly illuminating the economies that can be

achieved by manufacturer influence on dealer practices.*

Further evolution of practice and theory in this area

should not be strait-jacketed by a rigid per se rule.

%? Phillips, supra note 3, at 574.

ee ee ee

II. LOCATION CLAUSES ARE LAWFUL BECAUSE

THEY ARE NECESSARY AND REASONABLY

ANCILLARY TO DISTRIBUTION THROUGH SE-

LECTED, FRANCHISED DEALERS.

Where the most efficient and competitively effective way

to distribute a complex consumer product is through

selected independent dealers, location clauses are reason-

able, ancillary conditions necessary to make the selective

distribution system work. Petitioners herein, and the

dissenters below, acknowledge that “franchising oy loca-

tion’ is a method of distribution that has been con-

sistently upheld by the courts under the rule of reason,

both before and after Schwinn. A manufacturer cannot,

however, effectively implement a system of locational

franchising unless it may control the opening of addi-

tional or substitute locations by its dealers. The limited,

ancillary restraint that a location clause imposes on

dealers should not be condemned by an unwarranted ex-

tension of the Schwinn per se language.

A. The Courts Have Consistently Held That Location

Clauses Can Be Justified Under the Rule of Reason.

Both the petitioners and the dissenters below accept

the established proposition that a manufacturer may

“franchise by location.” * Their disagreement with the

majority stems largely from their misunderstanding of

what that practice necessarily entails. We submit that

the majority was correct in concluding that “franchis-

ing by location” is a meaningless phrase unless the manu-

facturer is allowed to exercise authority over the open-

ing by a dealer of additional locations not specified in

his franchise. Without an enforceable location clause

forbidding a dealer to open a new location without the

manufacturer’s consent, “franchising by location” would

33 See Brief for Petitioners 42-49; 537 F.2d at 1014-17 (Kilkenny,

J., dissenting).

exist, if at all, only at the election of individual dealers.

The lower courts have understood this simple fact and

have accordingly upheld location clauses as reasonable

conditions on how a dealer sells.

The reasonableness of location clauses was established,

long before Schwinn, in the leading case of Boro Hall

Corp. v. General Motors Corp., 124 F.2d 822 (2d Cir.

1942), cert. denied, 317 U.S. 695 (1943). In an opinion

by Judge Augustus Hand, the Second Circuit there held

that a contractual clause fixing “a location for the sale

of used cars at a place that did not unduly affect other

dealers” did not constitute an unreasonable restraint of

trade. Jd. at 823.

The rule of Boro Hall has prevailed without contrary

authority for many years. In 1966, ten months before

Schwinn, this Court found it unnecessary to rule on the

lawfulness of location clauses in United States v. General

Motors Corp., 384 U.S. 127, 139-40 (1966).* On re-

mand in that case, the district court expressly decreed,

without objection by the United States, that General

Motors was free unilaterally to enforce its location

clauses.*°

Schwinn did not touch the validity of location clauses.

Although Schwinn’s distribution program included loca-

tion clauses specifying the locations from which retailers

could sell,” the validity of those clauses was not ques-

“* See also id. at 149 (Harlan, J., concurring) (“In my opinion,

- . . General Motors is not precluded from enforcing the location

clause by unilateral action, and I find nothing in the Court’s opinion

to the contrary.”’)

°° United States v. General Motors Corp., Civ. No. 62-1208-CC

(S.D. Cal. Aug. 17, 1966) (unreported), quoted in the opinion

below, 537 F.2d at 993-94.

*° See United States v. Arnold, Schwinn & Co., 237 F. Supp.

823, 325 (N.D. Ill. 1965), rev’d on other grounds, 388 U.S. 365

(1967) ; United States v. Arnold, Schwinn & Co., 388 U.S. 365, 370

(1967).

ee a es ee ee. et

i by the district court or attacked by the Govern--

—— bd appeal.” The issues which the Government

brought to this Court related to (1) Schwinn’s arrange-

ments for “territorial exclusivity’ among wholesalers,

and (2) its restrictions on the classes of customers to

whom both wholesalers and retailers could sell. 388 U.S. at

371-74 & n.5, 376-77. Schwinn gave each wholesaler a

specified territory (in many cases exclusive of any other

wholesaler) and forbade it to sell to retailers located

outside that territory.** Schwinn also specified the cate-

gories of customers to whom a wholesaler could sell

(only to franchised retailers) and to whom a retailer

could sell (to any consumer, but not to another retailer

or a discount house). As explained in Part III below,

the Court upheld these restrictions under the rule of rea-

son as they related to bicycles sold on a consignment or

agency basis but declared them invalid per se as they

related to bicycles sold to wholesalers or retailers for

resale.” The validity of Schwinn’s location clauses for

retailers was not before this Court and was not decided

by it.*°

: , 393

3? United States v. Arnold, Schwinn & Co., 237 F. Supp. 3 '

as m 1965), rev'd on other grounds, 388 U.S. 365 (1967) ;

United States v. Arnold, Schwinn & Co., 388 U.S. 365, 370-71,

376-77 (1967).

38 also White Motor Co. v. United States, 372 U.S. 253, 255-

56 iseab) (“typical” territorial clause obligated wholesaler ‘not

to sell such trucks except to individuals, firms, and corporations

having place of business and/or purchasing headquarters in said

territory”).

3° As to the invalidity of the post-sale territorial restrictions, the

Court’s statement was dictum. See note 61 infra.

a itioners quote (at 34) this Court’s statement that, “The

Hs pen carl restrictions on the cla*see of customers

to whom a wholesaler who owns the goods may sell] is, of course,

equally applicable to retailers, and the decree should similarly en-

join the making of any sales to retailers upon any condition, agree-

ment or understanding limiting the retailer’s freedom as to where

and to whom it will resell the products.” 388 U.S. at 378. That

Location clauses are obviously less restrictive than the

territorial restrictions involved in Schwinn. Petitioners’

attempt to equate the two is unavailing. They argue that

there is a mere difference in “form” between a manu-

facturer’s dividing a city into two exclusive territories,

which it assigns to two different dealers, and its assign-

ing locations to the dealers in different parts of the city.”

But exclusive territories wall out all competition among

dealers—none is allowed to sell to customers residing

outside his territory. Location clauses merely specify the

locations from which the dealers may sell. They remain

free to—and do—sell to any customer, regardless of the

customer’s home or place of business.** A dealer with

a “location east of 12th Street” “*-may sell to customers

anywhere in the city and beyond.

Every lower court that has considered the question

has agreed that Schwinn did not strike down location

clauses, whether in consignment or sale transactions. In-

deed, the final decree on remand in the Schwinn case

itself expressly sanctions such clauses.** And location

sentence appears in a passage that discusses Schwinn’s customer

restrictions, requiring wholesalers to sell only to franchised re-

tailers and such retailers to sell only to consumers. Nowhere in the

passage does the Court mention the location clauses for retailers,

which were not before it, or purport to address the issue left open

in United States v. General Motors. The Court’s reference to “the

retailer’s freedom as to where and to whom it will resell” thus

should be read to relate only to the issue before the Court concern-

ing the validity of restrictions on the customers to whom retailers

could sell. See also id. at 379.

* Brief for Petitioners at 31-35.

*2 See also note 26 supra.

** Brief for Petitioners at 32.

**The decree contains general language tracking this Court’s

opinion, followed by this proviso: “Notwithstanding the foregoing

provision, nothing in this Final Judgment shall prevent Schwinn

... from designating in its retailer franchise agreements the loca-

clauses have been expressly upheld in four cases since

Schwinn, including the en bane decision below. See Salco

Corp. v. General Motors Corp., 517 F.2d 567 (10th Cir.

1975); Kaiser v. General Moters Corp., 396 F. Supp.

33 (E.D. Pa. 1975), aff'd mem., 530 F.2d 964 (3d Cir.

1976) ; Sheldon Pontiac v. Pontiac Motor Division, 418

F. Supp. 1024 (D.N.J. 1976).*° Commentators and the

Department of Justice have agreed that location clauses

are not per se unlawful after Schwinn but are to be

tested by the rule of reason.“

Petitioners do not challenge the authority of these post-

Schwinn cases, except for the decision below. Rather,

petitioners argue that all the cases but this one merely

upheld location clauses in the abstract, on records that

were “devoid of suggestion that the manufacturer also

obtained and enforced promises by dealers that they

would not ship merchandise for resale to locations where

they were not franchised.” ** But a location clause is just

tion of the place or places of business for which the franchise is

issued.” United States v. Arnold, Schwinn & Co., 291 F. Supp. 564,

565-66 (N.D. Ill. 1968).

** See also United States v. Revlon, Inc., 1975-1 Trade Cas.

§ 60,202 at 65,727 (S.D.N.Y. 1975) (location clauses said to be

per se unlawful under Schwinn), modified, 1975-2 Trade Cas.

§ 60,583 (S.D.N.Y. 1975) (permits use of location clauses).

“E.g., Robinson, Recent Antitrust Developmenis: 1974, 75

Colum. L. Rev. 243, 276 (1975); McLaren, Territorial and Cus-

tomer Restrictions, Consignments, Suggested Retail Prices and

Refusals to Deal, 37 Antitrust J. 137, 144-45 (1968); Pollock,

Alternative Distribution Methods After Schwinn, 68 Nw. U.L. Rev.

595, 603-04 (1968); cf. New York State Bar Association, 1968

Antitrust Law Symposium 60-65 (1968); A.B.A. Committee on

the Clayton Act, Marketing and Franchising: Antitrust Prognosis

for the 70's, 39 Antitrust L.J. 502, 516 (1970) (Panel discussion).

For the view of a Justice Department spokesman, see K. Clear-

waters, Franchising and the Antitrust Laws, Address Before In-

ternational Franchise Association, May 16, 1974, quoted in Robin-

son, supra at 276 n.207, and in the opinion below, 537 F.2d at 996.

*? Brief for Petitioners at 46.

such a promise. In Salco, the facts developed on the

manufacturer’s motion for summary judgment showed

that the manufacturer had “assert{ed| its rights under

the terms of the clause by insisting on the right to ap-

prove a new location for Denver Buick.” 517 F.2d at

576.*° Nonetheless, the Tenth Circuit held that “the Sec-

tion 1 allegations were properly dismissed, since the loca-

tion clause is valid as a matter of law, and there are

no allegations that would amount to an unlawful use of

the clause.” Jd. And nothing in any of the other de-

cisions suggests that the courts, in upholding location

clauses, thought the clauses could be evaded by the simple

device of opening a “non-franchised” location without

manufacturer approval.

Common sense itself refutes petitioners’ suggestion

that, in upholding “the practice of franchising by loca-

tion,” the courts held only that the manufacturer may

prohibit a dealer from “holding himself out” as a fran-

chised dealer at locations other than those authorized by

the manufacturer.” Petitioners’ argument is, in effect,

that a manufacturer may not control a dealer’s opening

of new locations but may control only what sign the

dealer puts over the door. The court below rightly termed

that argument “spurious.” ” The legitimate competitive

and pro-consumer purposes of distribution through se-

lected dealers at specified locations, discussed in Part I

above, require that the manufacturer be able to control

the number and location of the outlets for his product.

Those purposes would be wholiy frustrated if any dealer

were free to establish as many additional locations as he

wished, wherever he wished, as long as he refrained from

** Salco involved a dealer’s attempt to change locations rather

than to open an additional location, but the principle applicable t

the two situations is the same.

** Brief for Petitioners at 46-47.

calling himself an “authorized dealer” at the extra loca-

tions." “Franchising by location,” if it means anything,

must mean that the manufacturer controls the location at

which the franchisee will do business in selling and servic-

ing the manufacturer’s products. See opinion below, 537

F.2d at 994 n.22.”

B. The Courts Have Upheld Exclusive Franchises,

Which Are More Restrictive Than Location Clauses.

When a manufacturer grants an exclusive franchise, it

assigns a dealer a specified location and promises the

dealer that it will not authorize any competing dealers

to sell from locations within a specified surrounding area.

E.g., Packard Motor Car Co. v. Webster Motor Car Co.,

243 F.2d 418 (D.C. Cir.), cert. denied, 355 U.S. 822

(1957). Such arrangements between a manufacturer and

his retailers are an exercise of the former’s right to

“select his ustomers, and for this purpose |to| ‘franchise’

certain deaziers to whom, alone, he will sell his goods.”

Schwinn, supra, 388 U.S. at 376; see id. at 379-80. To

keep his promise of exclusivity to one dealer, the manu-

facturer must impose, and be able to enforce, location

restrictions on other dealers he may franchise.

The authorities upholding exclusive franchises, both be-

fore and after Schwinn, are so overwhelming that even

the petitioners do not question them. As the court below

noted, the cases amount to a “veritable avalanche of

precedent” in favor of the lawfulness of exclusive fran-

51 Moreover, when the product bears the manufacturer’s trade-

mark and is accompanied by the manufacturer’s informational

brochures and warranties, any location from which it is sold will

appear to be an authorized location, and any shortcomings in the

manner of sale or accompanying services will harm the manufac-

turer’s goodwill. Also, since the dealer is “authorized” at another

location, the consumer cannot be expected to know where he is

acting as an “authorized” dealer and where not.

52 See also Pollock, supra note 46, at 603-04.

chises. 537 F.2d at 997. But petitioners contend that in

upholding exclusive .ealerships the courts have engaged

in empty formalism. Petitioners would distinguish be-

tween the lawfulness of the manufacturer’s promise not

to franchise other dealers in an area and the lawfulness

of the actions necessary for him to keep his promise.

They argue that, under Schwinn, a manufacturer may

not keep other dealers from locating in the area of the

exclusive dealership. Such a rule would mean, as the

court below said, that, “if a dealer is franchised any-

where he is franchised everywhere.” ** The manufacturer

could keep its promise not to franchise other dealers in

the first dealer’s area only by refraining from fran-

.chising any more dealers at all.

Petitioners do not deny that this construction of the

Schwinn per se rule would effectively destroy exclusive

franchises. But they argue that the Schwinn per se rule

(as they construe it) must “get priority .... [O)ther-

wise the rule about exclusives would destroy the Schwinn

per se rule.” Petitioners miss the point of the cases

upholding exclusive franchises after Schwinn. The

Schwinn per se rule prohibits a manufacturer from spe-

cifying the customers to whom a purchaser may resell

the product—either by prescribing classes of customers

or by confining the purchaser’s marketing to a desig-

nated territory. In upholding exclusive franchises after

Schwinn, the courts have necessarily held that the rule

does not condemn restrictions on the location from which

the dealer may resell.*° Under that correct reading of

58537 F.2d at 998 (emphasis in original).

** Brief for Petitioners at 44-45.

55 The courts have also upheld after Schwinn other restrictions

on the focus of dealer activities. A manufacturer may assign to

dealers “areas of primary responsib..ty,” within which they are

to concentrate their efforts; and it may impose “profit pass-over

agreements,” under which a dealer who sells in another dealer’s

the Schwinn per se rule, it does not conflict at all with

the cases uphcelding exclusive franchises and location

clauses.”

In sum, the lower federal courts have recognized that

location clauses and even exclusive franchises are rea-

sonably ancillary to lawful systems of locational fran-

chising. Those arrangements have long been upheld under

the rule of reason, and the lower federal courts have

overwhelmingly ruled that they are not touched by the

Schwinn per se rule. Petitioners offer no authority to the

contrary, but only an unpersuasive extension of Schwinn

that would vitiate both the arrangements and the de-

cisions upholding them.

area is required to pay the other dealer a specified percentage of

the price received. See ABA Antitrust Section, supra note 31, at

35-37 and cases cited.

% Seeking a way to distinguish the exclusive distributorship

cases, petitioners urge that there is less danger to competition in

the manufacturer’s promise not to franchise other dealers in an

area than in the dealer’s promise not to expand to other locations.

Brief for Petitioners at 43-44. That ignores the fact that exclu-

sive franchises necessarily involve both promises. Location clauses,

which involve only the dealer’s promise without a reciprocal prom-

ise by the manufacturer, are necessarily less restrictive because

the manufacturer preserves its freedom to franchise additional

nearby dealers as its competitive interest warrants. See Posner,

supra note 1, at 283, 287, 298-99.

Petitioners also argue that location clauses are unreasonably

restrictive because, “[w]ithout the investment and risk of forward

integration, the manufacturer appropriates control over one of the

most crucial competitive decisions any truly independent trader

must make—where he will sell his wares.” Jd. at 43. That argu-

ment suggests that the supposed evil of location clauses is the

dealers’ loss of freedom. But the primary danger posed by any

vertical restraint is the possibility that it results from a camou-

flaged dealer cartel. Dr. Miles Medical Co. V. John D. Park & Sons

Co., 220 U.S. 378, 407-08 (1911); United States v. General Motors,

384 U.S. 127 (1966); Albrecht v. Herald Co., 390 U.S. 145, 157-58

(1968) (Harlan, J., dissenting). To suggest that vertical restraints

are invalid because they limit dealers’ freedom “stands Dr. Miles

on its head.” Posner, supra note 1, at 289-90. .

Ill. IF SCHWINN’S BROAD PER SE LANGUAGE

CONFLICTS WITH THESE SOUND ANTITRUST

PRINCIPLES, THAT LANGUAGE SHOULD BE RE-

CONSIDERED.

As demonstrated in Part II above, the decision below

can be affirmed without reconsideration of the Schwin::

per se language. However, such an affirmance would

leave the law governing vertical restraints on the scope

or focus of dealer marketing activities, as enunciated by

this Court, in its present unsatisfactory state. The

rationale of the Schwinn per se rule is, after all, faulty

and unpersuasive. Depending as it does solely on a com-

mercial law distinction between sale and nonsale trans-

actions, it requires lower courts to base their decisions

on factors unrelated to the economic effects of vertical

arrangements or the principles announced in other, better

. reasoned antitrust precedents. The Schwinn per se rule

for sales transactions should be recognized as an aber'ra-

tion from the antitrust jurisprudence of vertical market-

ing restraints and should accordingly be repudiated by

the Court.

A. White Motor and the Schwinn Ruling on Consign-

ment and Agency Arrangements Establish that

Vertical Territorial Restrictions Should Be Tested

by the Rule of Reason.

In Schwinn, the manufacturer distributed its bicycles

both by consignment or agency arrangements with whole-

salers and by sales to wholesalers and retailers. In

dealing with the consignment or agency arrangements, the

Court applied a rule-of-reason analysis with careful at-

tention to the economic consequences of the restrictions.

That analysis was consistent with other decisions of this

Court and should have been applied also to sales trans-

actions.

Four years before Schwinn, this Court decided its “first

case involving a territorial restriction in a vertical ar-

a ee

rangement.” White Motor Co. v. United States, 372 US.

258, 261 (1963) (emphasis in original). The Court re-

versed a summary judgment against a manufacturer with

respect to the legality of vertical restrictions on territory

and customer selection. The Court refused to rule on

their validity as a matter of law, saying that “we know

too little of the actual impact of both that restriction

and the one respecting customers” to pass on their

validity without factual proceedings. Id, The Court

sharply distinguished vertical territorial limitations from

horizontal ones, stating:

“A vertical territorial limitation may or may not

have that purpose or effect [to stifle competition |.

We do not know enough of the economic and busi-

ness stuff out of which these arrangements emerge

to be certain. . . . We need to know more than we

do about the actual impact of these arrangements on

competition to decide whether they have such a ‘per-

nicious effect on competition and lack . . . any re-

deeming virtue’ . . . and therefore should be classi-

fied as per se violations of the Sherman Act.” ”

In Schwinn, the Court reaffirmed these conclusions. Mr.

Justice Fortas’ opinion for the five-justice majority noted

that:

“The Government does not contend that a per se

violation of the Sherman Act is presented by the

practices which are involved in this appeal Lean

Accordingly, we are remitted to an appraisal of the

market impact of these practices.” 388 U.S. at 373.

“Our inquiry,” the Court said, “is whether : = ae

effect upon competition in the market place is substan-

tially adverse.” 888 U.S. at 375. The Court began that

inquiry by recognizing the established rule that “a manu-

facturer of a product other and equivalent brands of

5t Jd. at 263, quoting Northern Pac. Ry. v. United States, 356

U.S. 1, 5 (1958). See also id. at 264 (Brennan, J., concurring).

which are readily available in the market may select his

customers, and for this purpose he may ‘franchise’ cer-

tain dealers to whom, alone, he will sell his goods.” Jd.

at 376. It refused, as in White Motor, “to introduce the

inflexibility which a per se rule might bring if it were

applied to prohibit all vertical restrictions of territory

and all franchising ... ,” and observed that such a

rule “might sharply accelerate the trend towards vertical

integration of the distribution process.” Jd. at 379-80.

The Court held that the territorial restrictions in

Schinn’s consignment arrangements would be unlawful

only if their impact was “unreasonably restrictive of

competition.” Jd.

Analyzing the district court’s findings about the effects

of Schwinn’s consignment restrictions, the Court found

that “the rule of reason is satisfied.” It identified four

factors as critical to that conclusion:

(1) competitive bicycles were available;

(2) Schwinn dealers were free to handle other

brands of bicycles;

(3) the territorial restrictions were not ancillary

to a price-fixing scheme; and

(4) the restrictions were justified by competitive

pressures and preserved rather than damaged

competition. Jd. at 381-82.

The Court concluded: “Application of the rule of rea-

son here cannot be confined to intrabrand competition.

When we look to the product market a. a whole, we can-

not conclude that Schwinn’s franchise system with re-

spect to products as to which it retains ownership and

risk constitutes an unreasonable restraint of trade.” Jd.

at 382.°*

°° The Court reached this conclusion unanimously. Mr. Justice

Stewart, joined by Mr. Jusitece Harlan, said, “I completely agree-

with the Court’s basic approach to this case.” Jd. at 387. Those

1s tire Pe mp one «

But when the Schwinn majority turned to the identical

restrictions in Schwinn’s arrangements for sales to whole-

salers and retailers, it failed to apply this careful analysis

of economic effects. Instead, it asserted without ex-

planation that “the ancient rule against restraints on

alienation” compelled a holding that the restrictions were

invalid. Jd. at 380. In so ruling, the Court misconceived

the nature and purpose of the common law rule disfavor-

ing “restraints on alienation” and gave no explanation

why federal antitrust law should follow that rule in lieu

of its traditional attention to economic effects.” The

Court did not dispute the statement by Mr. Justice

Stewart in dissent that vertical restrictions in consign-

ment and sales arrangements “may operate identically in

terms of economic function and competitive effect.” Id.

at 393. The Schwinn majority did not even refer to the

test this Court had established to determine the appro-

priateness of a per se rule—whether the challenged prac-

tices have such a “pernicious effect on competition and

Justices dissented from the majority’s inconsistent per se approach

to Schwinn’s sales arrangements. Jd. at 388-94.

59 As Mr. Justice Stewart said, dissenting, the common law rule

did not condemn all restraints on alienation but “concerned itself

with arbitrary and severe restrictions on alienation, such as total

prohibition of resale.” 388 U.S. at 391. The rule apparently would

not have been violated by the kind of restriction imposed by

Schwinn on its dealers and, in any event, did not exist to promote

competition. See Posner, supra note 1, at 296.

The Schwinn majority cited only White Motor and Dr. Miles to

support the relevance of the “ancient rule” to vertical restraints

under the Sherman Act. 388 U.S. at 379-80. In White Motor, the

rule was mentioned only by Mr. Justice Brennan in concurrence,

who asserted that the common law rule was not a reason to hold

territorial restrictions per se unlawful unless the test of Northern

Pac. Ry. v. United States, 356 U.S. 1, 5 (1958) was satisfied. 372

U.S. at 365. In Dr. Miles, the Court mentioned the fact that re-

sale price maintenance imposed a restraint on alienation primarily

to counter Dr. Miles’ contention that it had a common law right

to establish resale prices. 220 U.S. at 404-05; see ABA Antitrust

Section, supra note 31, at 61 n.125; Posner, supra note 1, at 288.

lack of any redeeming virtue” as to make unnecessary

any “inquiry as to the precise harm they have caused or

the business excuse for their use.” Northern Pacific Ry.

v. United Siates, 356 U.S. 1, 5 (1958). Nor could the

Court have found that test satisfied, in view of its con-

clusion that identical restrictions in Sehwinn’s consign-

ment transactions had pro-competitive effects.

Rather, the majority appears simply to have concluded

that the “ancient rule’ foreclosed its attaching the same

antitrust consequences to consignment and sale restric-

tions, despite their identical economic effects.°° The Court’s

sweeping reference to the “ancient rule against restraints

on alienation” (388 U.S. at 380) has thus been read to

establish a per se rule condemning the restrictions in-

volved in Schwinn whenever a manufacturer sells its

products for resale to customers.”

* The Department of Justice in Schwinn urged the Court not

to distinguish between consignment and sale transactions, stating

that there was no relevant difference between their economic ef-

fects. Brief for the United States at 54-57, United States vy. Arnold,

Schwinn & Co., 388 U.S. 365 (1967).

*! Throughout the opinion, the Court discussed Schwinn’s cus-

tomer restrictions and its territorial restrictions together. How-

ever, as the opinion acknowledged, 388 U.S. at 377, and as Chief

Justice Burger has pointed out, United States v. Topco Assocs.,

Inc., 405 U.S. 596, 617 (1972) (dissenting opinion), the issue of

post-sale territorial restrictions was not before the Court in

Schwinn. The Court’s discussion of it therefore was dictum. The

trial court found that the territorial restrictions had resulted from

an agreement among the distributors, and it held that the agree-

ment was an unlawful horizontal restraint. United States v. Arnold,

Schwinn & Co., 237 F. Supp. 323, 342 (N.D. Ill. 1965), rev’d on

other grounds, 388 U.S. 365 (1967). No appeal was taken from

that ruling, see 388 U.S. at 368. Strictly speaking, therefore, the

only post-sale restrictions before the Court were Schwinn’s cus-

tomer restrictions.

mis! AG oe oes

B. Schwinn’s Creation of a Per Se Rule Based on the

Distinction Between Consignment and Sale Has

Been Criticized by the Courts, Commentators, and

Antitrust Enforcement Authorities.

Nearly ten years have passed since Schwinn inserted

the commercial law distinction between sale and con-

signment into the antitrust law of vertical restraints on

the scope and focus of dealer marketing activities. Ex-

perience has confirmed that the distinction bears no re-

lationship whatever to the economic effects of vertical

arrangements. Faced with a rule that condemns vertical

restrictions on purchasers, while upholding as reasonable

and pro-competitive the same restrictions on agents or

consignees, the courts, commentators, and antitrust en-

forcement authorities have roundly criticized the Schwinn

per se rule and properly sought every available means

to limit its application.

As noted in Part II above, the lower federal courts

have held that Schwinn left intact the established law

upholding location clauses, exclusive franchises, and oth-

er vertical restrictions not involved in that case. More-

over, even in cases involving territorial restrictions such

as those in Schwinn, the courts since that decision have

struggled to distinguish or limit the Schwinn per se

rule to avoid the unjustifiable results that would flow

from blind adherence to its broad language.

For example, the Third Circuit en banc has interpreted

the majority’s statement in Schwinn that it is unreason-

able “without more” to impose post-sale restrictions as

authorizing an exception to the per se rule where a man-

ufacturer proves “more” by showing that the restraints

will protect consumers against injury and the manufac-

turer against product liability claims. The Third Cir-

62 Tripoli Co. Vv. Wella Corp., 425 F.2d 932, 936-38 (3d Cir.) (en

banc), cert. denied, 400 U.S. 831 (1970).

cuit has since suggested that the Schwinn per se rule

may be inapplicable in any case “where a manufacturer’s

restriction is related to a legitimate business purpose.” *

Many courts have refused to invoke the Schwinn per se

rule absent proof that the challenged restraints have

been “firmly and resolutely” enforced.“ Other courts

have relied on various factual distinctions to justify up-

holding post-sale territorial restraints that would seem

to fall within the language of the Schwinn per se rule.”

Still other courts have enforced the Schwinn per se rule

in the cases before them, but with suggestions that this

Court make exceptions to it or redefine it.”

The justifications and distinctions offered by the lower

courts in their ongoing struggle with the Schwinn per se

rule would naturally bear on the validity of vertical re-

strictions under a rule of reason; but they are of dubious

relevance under a strict ner se approach. One does not

°8 Scooper Dooper, Inc. Vv. Kraftco Corp., 494 F.2d 840, 847 n.13

(8d Cir. 1974).

** 2.g., Janel Sales Corp. v. Lanvin Parfums Inc., 396 F.2d 398,

406 (2d Cir.), cert. denied, 293 U.S. 988 (1968); Good Investment

Promotions, Inc. v. Corning Glass Works, 493 F.2d 891, 893 (6th

Cir. 1974); Colorado Pump & Supply Co. v. Febco, Inc., 472 F.2d

637, 639 (10th Cir.), cert. denied, 411 U.S. 987 (1973). See gen-

erally Robinson, supra note 46, at 273-74.

*° Carter Wallace, Inc. v. United States, 449 F.2d 1874, 1379-81

(Ct. Cl. 1971) (per se rule inapplicable when a purchaser can

avoid the restraints by electing to buy the product at a higher

price); LaFortune v. Ebie, 1972 Trade Cas. § 74,090, at 92,486

(Cal. Dist. Ct. App. 1972) (food industry distinguished from

bicycle industry).

* E.9., Adolph Coors Co. v. FTC, 497 F.2d 1178, 1187 (10th Cir.

1974), cert. denied, 419 U.S. 1105 (1975) (invited Supreme Court

to grant “an exception to the per se rule when a product is unique

and where the manufacturer can justify its territorial restraints

under the rule of reason”); Easter Aviation, Inc. v. Sperry &

Hutchinson Co., 522 F.2d 1299, 1306 (5th Cir. 1975). (“Ancient

rules of property law should not be made the basis for determining

the application of modern rules of antitrust law.”)

eee ae eee

lm | at

find federal courts enmeshed in the same kind of ration-

alizing when they sit in judgment on horizontal price-

fixing conspiracies. The courts’ invocation of such con-

siderations in cases involving post-sale vertical restraints

reflects their unwillingness to reach arbitrary and un-

just results solely on the basis of a principle of commer-

cial law unrelated to sound antitrust analysis.

The reaction of legal commentators to the Schwinn per

se rule has been equally unkind. The doctrine announced

by this Court has evoked repeated, trenchant, and nearly

unanimous disapproval. The Ninth Circuit’s en banc

opinion in the instant case cites a sampling of the criti-

cal commentary.” The criticism continues unabated.”

Many antitrust enforcement authorities themselves

have recognized that vertical territorial restrictions are

more appropriately tested under the rule of reason than

under a per se rule based on the distinction between con-

signment and sale. Donald I. Baker, now Assistant At-

torney General for Antitrust, has described the Schwinn

decision as “an exercise in barren formalism,” which is

“artificial and unresponsive to the competitive needs of

the real world.” And Bruce B. Wilson, then Deputy

Assistant Attorney General, urged in congressional tes-

timony on behalf of the Department of Justice that, al-

though Schwinn termed all post-sale territorial restraints

per se illegal, the opinion leaves “some room .. . for con-

®” See 537 F.2d at 988 n.13.

*8 F.g., Posner, supra note 1; Robinson, supra note 46, at 270-81;

Baker, Vertical Restraints in Times of Change: From White to

Schwinn to Where?, 44 Antitrust L.J. 537 (1975); Pollock, The

Schwinn Per Se Rule: The Case for Reconsideration, 44 Anti-

trust L.J. 557 (1975); Phillips, supra note 3. But see Blecher,

Schwinn—An Example of a Genuine Commitment to Antitrust Law,

44 Antitrust L.J. 550 (1975).

6° Baker, supra note 68, at 537.

sideration of the economic exigencies of particular situa-

tions.” *°

C. Schwinn’s Broad Language Ignores the Manufac-

turer’s Legal Responsibilities to Consumers and its

Need to Ensure Dealer Marketing Practices that

Help the Manufacturer to Meet those Responsi-

bilities.

The Schwinn majority declared broadly that,

“If the manufacturer parts with dominion over his

product or transfers risk of loss to another, he may

not reserve control over its destiny or the conditions

of its resale.” ™

That statement, based on the ancient doctrine of re-

straints on alienation, is far too sweeping to fit the

modern marketing of complex consumer products through

“sales” to dealers who in turn “sell” to consumers. The

manufacturers of such products have, as we have shown,

an obvious economic interest in maintaining consumer

goodwill and discharging their legal obligations by as-

suring that consumers receive the pre- and _ post-sale

services they need to choose and use the product success-

fully.

In a very real sense, these manufacturers do not

transfer the entire “dominion” or “risk of loss” to the

distributors or dealers who are their immediate vendees:

Subcomm. on Commerce & Finance of the House Comm. on Inter-

state & Foreign Commerce, 93d Cong., 2d Sess. 17-18 (1974). That

would also appear to be the view of at least one member of the

Schwinn majority, who later indicated that Schwinn was really a

rule-of-reason case. See Albrecht v. Herald Co., 390 U.S. 145, 155-

56 n.* (1968) (concurring opinion of Dougles, J.). See also United

States v. Topeo Associates, Inc., 405 U.S. 596, 607-08 (1°72) (ver-

tical territorial restraints contrasted to per se unlawful horizontal

restraints); id. at 617-18 (Burger, C.J., dissenting) (Schwinn

described as rule-of-reason case ).

71 388 U.S. at 379.

oe et eter

eer Rat

they continue to bear very substantial responsibilities

for their products and a very substantial risk of loss

throughout the entire period that their products are held

by the dealer and the consumer.” They must be able to

ensure that the retailers will follow practices that assist

them in performing these tasks. Any requirements a

manufacturer might impose with respect to a dealer’s re-

sale activities might be considered technicaliy a “restraint

on alienation.” But many such requirements are obvi-

ously reasonable and necessary parts of a system of dis-

tribution through independent dealers.

A condition requiring the dealer to represent accurate-

ly the characteristics of the product, or to make it ready

for sale as directed by the manufacturer, or to maintain

adequate service facilities, or to help in recall and re-

pair of defective items at the manufacturer’s expense, is

a “restriction” on the dealer’s resale activities just as a

location clause is. There are no differences between

them that would justify testing the former type of con-

dition under the rule of reason while banning location

clauses per se. A location clause performs the essential

function of assuring that reliable dealers will be present

where and when needed to perform essential services

that can only be done at the loca) level. That function

differs in no relevant respect from the functions of many

other requirements manufacturers must impose to en-

sure satisfaction of the consumer’s needs and the man-

ufacturer’s duties. It is logically impossible to erect a

per se fence between the reasonableness of such require-

ments and the claim of absolute illegality of a location

clause.

72 See 388 U.S. at 392 (Stewart, J., concurring and dissenting).

D. Genuinely Vertical Territorial Conditions Should

Be Judged Under the Rule of Reason.

This Court’s decisions in White Motor, and in Schwinn

itself, point the way back to a proper treatment of verti-

cal restraints under the Sherman Act. As the Court

said in White Motor, the judiciary’s inexperience in deal-

ing with vertical territorial restraints and the possibility

that such restraints may have beneficial rather than

anticompetitive effects favor the application of the rule

of reason. This Court should renounce the artificial con-

signment/sale distinction, and the Schwinn per se rule

based on it, and confirm that vertical restraints on the

scope or focus of dealer marketing efforts will be judged

under the rule of reason. So judged, such restraints will

ordinarily be upheld, since the manufacturer will nor-

mally employ them to increase efficiency, competition, and

consumer welfare.

As we have shown in Part I above, a manufacturer

has no economic incentive to create monopoly conditions

at the dealer or wholesaler level. On the contrary, the

manufacturer has an interest in getting the product dis-

tributed in the most efficient and effective way possible,

to make consumers as satisfied as possible with it. Any

incentive the manufacturer may have to impose condi-

tions on how its dealers resell arises from the need to

ameliorate the circumstances that prevent a fragmented,

uncoordinated distribution system from yielding efficient

results, These conditions may have at most a de minimis

effect on intrabrand competition, as with the motor ve-

hicle industry’s location clauses. Whatever their precise

nature, they stem from the manufacturer’s proper in-

terest in a competitively effective dealer system that will

efficiently meet consumer needs. Therefore, absent un-

usual circumstances that give a plausible reason to expect

anticompetitive effects, genuinely vertical restraints im-

posed by a manufacturer on the scope or focus of dealer

sales efforts should be upheld as reasonable.

The primary circumstance in which ostensibly vertical

restraints may have significant anticompetitive effects is

where the restraints actually result from a horizontal

combination among dealers and have been imposed by

them on the manufacturer.”* Where territorial restric-

tions have “been induced solely or even primarily by

[the] dealers and distributors, it would make no differ-

ence to their legality that the restrictions were for-

mally imposed by the manufacturer rather than through

inter-dealer agreement.” White Motor Co. v. United

States, 372 U.S. 253, 267 (1963) (Brennan, J., concur-

ring). In such an instance, the limitations would prop-

erly be regarded as horizontal, and their legality would

be determined accordingly. See United States v. General

Motors Corp., 384 U.S. 127 (1966); cf. Interstate Cir-

cuit, Inc. Vv. United States, 306 U.S. 208 (1939) ; United

States v. Masonite Corp., 316 U.S. 265, 275-76 (1942).

In reviewing ostensibly vertical restrictions, courts have

been—and should be—alert to determine whether the

dealers possess and have concertedly exercised such eco-

nomic leverage over the manufacturer that they have been

able to force the manufacturer to acquiesce in a hori-

zontal combination that benefits the dealers at the expense

of the manufacturer and the consumer. Obviously, that is

less likely to be the case with restrictions on the scope

or focus of dealer sales efforts, which clearly serve the

manufacturer’s and consumers’ interest in effective dis-

tribution, than with, e.g., minimum resale price main-

tenance programs, which plainly disserve the interests

of many if not most consumers.”

78 See, e.g., Posner, supra note 1, at 283, 287, 298-99.

™ See note 1 supra. The possibility that apparently vertical resale

price maintenance programs in fact stem from a combination among

dealers may well have been a factor in the Court’s consistently

strong stand against minimum resale price maintenance under the

Sherman Act. See Dr. Miles Medical Co. v. John D. Park & Sons

Co., 220 U.S. 373, 407 (1911) (“[T]he advantage of established

We want to underscore that the mandate for a rule-

of-reason approach to vertical marketing restraints is

so clear that it exists independently of the manufacturers’

size, market share or market power.» A manufacturer,

with or without market power, has no interest in pro-

moting monopoly profits for his dealers. Even if the

manufacturer were a monopolist, its interests would be

harmed, rather than helped, by the creation of a second

monopoly at the dealer level.** As noted in Part I above,

manufacturers may be presumed to select the most ef-

ficient, least costly means of distribution, for it is in

their economic interest to do so. That is as true of a

monopolist as of the smallest manufacturer.” In any

event, these are issues the Court need not reach here.

retail prices primarily concerns the dealers”); Albrecht v. Herald

Co., 390 U.S. 145, 157-63 (1968) (Harlan, J., dissenting).

As Mr. Justice Brennan observed in White Motor Co. v. United

States, 372 U.S. 253, 268 (1963), resale price maintenance also

may “reduce price competition not only among sellers of the affected

product, but quite as much between that product and competing

brands.” (Emphasis in original.) Locational restrictions have no

such effect.

*® See, e.g., Baker, supra note 68, at 545.

76“The difference between the price at which the manufacturer

sells to the dealer and the dealer’s price to the consumer is the

manufacturer’s cost of distribution, and any seller (even a menopo-

list) wants to minimize his costs.” Posner, supra note 1, at 283.

“There is reason to think that private firms have the incentive to

minimize costs and to organize so as to avoid market failure so

far as resource utilization is concerned, even when they possess

monopoly power.” Phillips, supra note 3, at 578.

*? Indeed, since the primary (though improbable) anticompetitive

danger is that ostensibly vertical restrictions may occasionally

turn out to be horizontal restraints instigated by dealers and forced

by them on the manufacturer, there is probably less necessity for

antitrust scrutiny of marketing restrictions imposed by large and

powerful manufacturers. Such manufacturers are less likely to be

at the mercy of their dealers than weak or new manufacturers whose

very existence depends on enticing a sufficient number of dealers

to carry their goods.

Rather, vertical restrictions by a manufacturer on the

scope or focus of its dealers’ marketing efforts should be

analyzed under the rule of reason—as such restrictions

always were before Schwinn. Whether any decisive im-

portance one way or the other should attach to the

manufacturer’s size, market share, or other single “talis-

manic” consideration will vary and will show itself soon

enough in evaluating the reasonableness of some par-

ticular restraint in the particular distribution system in

which it is used.

CONCLUSION

For these reasons, the judgment below should be af-

firmed.

Respectfully submitted,

LLOYD N. CUTLER

JAMES S. CAMPBELL

WILLIAM T. LAKE

ANDREW B. WEISSMAN

DONALD F. TURNER WILMER, CUTLER & PICKERING

6 Wingate Road 1666 K Street, N.W.

Lexington, Mass. 02173 Washington, D.C. 20006

Of Counsel Attorneys for Motor Vehicle

Manufacturers Association,

January 3, 1977 Amicus Curiae

This is a copy of a public record, reproduced as it was published. It is not legal advice, and it may not be the version a court would rely on. Check the official source before you cite it.