The European Commission’s Directorate-General for Competition has issued a lengthy preliminary report of its ongoing sector inquiry into the e-commerce of goods and digital content. The sector-wide inquiry was launched on May 6, 2015, in the context of a wider legislative initiative by the Commission implementing its Digital Single Market strategy. The ongoing inquiry and impending future enforcement actions will have major implications on the law and enforcement of product distribution in Europe, both online and offline.

The purpose of the European Commission’s inquiry is to identify features of e-commerce within the European Union that effect online and offline distribution strategies and raise barriers to competition. The sector inquiry itself will not result in infringement findings. Instead, the inquiry will provide the factual, legal and economic context necessary for future investigations of individual companies, which the Commission has warned it will initiate. Most recently, Johannes Laitenberger (the director-general of competition at the EC) emphasised that enforcement against barriers to a single e-commerce market is within the Commission’s authority, suggesting a looming uptick.

The preliminary report contains findings and statements that are of importance to companies selling goods and digital content into or within the European Union. Stakeholders have until November 18, 2016 to provide comments on the report and potentially influence the Commission’s final report due in 2017 Q1. The full text of the report can be found here.

Companies selling into or within the EU are well advised to use this opportunity to review their existing agreements and distribution strategies to ensure that they are in line with the evolving views of the Commission as articulated in the preliminary report but also a number of pending cases in front of national authorities and courts.

Key Points from the Preliminary Report

• There will be an increase in enforcement. The Commission will launch investigations of companies under both the anti-competitive agreement and the abuse of dominance prohibitions of the Treaty on the Functioning of the European Union (TFEU). The Commission will also be receptive to complaints and other leads which will add to the increased risk of enforcement. Given the criticism of the 2008-2009 pharmaceutical sector inquiry, the Commission is under pressure to justify the scope of the e-commerce sector inquiry and demonstrate that it is not a mere fishing expedition.

• The preliminary report concerns all companies that sell goods (online and offline) or digital content into or within the EU. The following practices are in the spotlight:

– Exclusive and selective distribution systems;

– Agreements containing any form of restrictions to sell online;

– Geo-blocking and territorial provisions, in particular in copyright licences; and

– Online distribution models of digital content.

• The report emphasizes the need for a case-by-case assessment of a number of vertical restrictions including in relation to marketplaces and exclusive licensing. The Commission also makes statements in the preliminary report that are at odds with the existing Vertical Block Exemption Regulation and accompanying Guidelines on Vertical Agreements, particularly in relation to online selling, brick-mortar-shop requirements, selective distribution, price recommendations, and third-party platforms. These statements suggest an increase in enforcement or legislative change.

• In addition it is unclear how this policy will mesh with the existing Vertical Block Exemption Regulation, which exempts categories of distribution agreements from Article 101 TFEU enforcement. In the absence of clear guidance on how to assess those restraints and clarity on the scope of the block exemption companies have to rigorously self-assess their agreements and strategies under Article 101 TFEU.

• A key driver of the Commission’s Digital Single Market Strategy is the further integration of the EU single market. The DSM will add more EU-specific rules to the burden of foreign companies selling into Europe. US and other non-EU companies will have to familiarise themselves with the evolving European law or face enforcement actions. See our previous post on the DSM and geo-blocking here.

Main Findings of the Preliminary Report

The preliminary report was issued on September 15, 2016 and is based on evidence from nearly 1,800 companies and the review of about 8,000 distribution contracts. Companies doing business in the EU should be aware of the following findings.

A. Key Market Features

The Commission sets out nearly three hundred pages of detail on manufacturers and distributors in sectors covered by the inquiry (e.g. clothing, consumer electronics,  computer games, software, media, cosmetics, film, sports etc.) and describes the main features of competition. The report highlights differences between offline and online selling and the changes of market behaviour due to the growth of e-commerce. It also notes the increase in price transparency resulting from online presence, which has as significant influence on the behaviour of market participants.

B. Competition Concerns for Goods

1) Selective Distribution

There has been a noted increase in the use of selective distribution (a closed system distributors selected based on specific criteria) in response to the growth of e-commerce. One-fifth of manufacturers have introduced selective distribution for the first time and  two-thirds have introduced new criteria to their existing systems. The number and variety of products sold through selective distribution has increased and the Commission can be expected to intensify its scrutiny. The preliminary report adds significant legal uncertainty to this area of distribution law.

The report argues that certain clauses in selective distribution agreements go beyond what is necessary to achieve legitimate business goals—including high quality of distribution, coherent brand image, and quality of pre- and post-sale services—especially for online commerce.

The Commission is particularly concerned with contractual exclusions of pure online retailers from a selective system, suggesting a change of course from existing practice. So far, the Commission considered the obligation on a distributor to sell a portion of the products through brick and mortar shops to be block exempted from the application of the anticompetitive agreements prohibition under Article 101. Companies that exclude online-only players from their selective systems may want to revisit their agreements and ensure that the products in question justify the restrictions. Many distributors have already taken note that this area is ripe for Commission investigation.

A related area of the Commission’s concern and of possible future enforcement action is the transparency of selection criteria and their uniform application to retailers, in particular those discounting and/or selling online.

2) Geo-blocking

The Commission confirms its findings from its prior report on the widespread use of geo-blocking, focusing on measures imposed by companies discriminating on the basis of their geographic location and limiting cross-border trade within the EU. Its key concern is to avoid the rebuilding of national boundaries through contractual restrictions. Part of the Commission’s concerns were addressed in its draft Regulation on geo-blocking (binding legislation across EU 28 member states) in May of this year.

According to the Commission’s study, only 12% of retailers are bound by territorial restrictions. Territorial restrictions are permissible within the limits of existing case law and block exemption/guidelines. The Commission’s concern relates to territorial restrictions of active sales into territories which are not allocated to someone else, passive sales restrictions, a combination of selective and exclusive distribution, and the proportionality of territorial restrictions. These concerns are reflected, in large part, in existing rules set out in the Vertical Block exemption and Guidelines. We would expect the Commission to readily enforce any infringements in this field.

3) Restrictions on the Use of Marketplaces

Marketplaces are a hotly debated topic in Europe. The 28 member states have taken a number of different views and the Court of Justice of the European Union is currently looking into related issues in the Coty case (C-230/16). The Commission does not consider marketplace restrictions to be a hard-core infringement. However, it also does not offer a clear view on the matter, suggesting the need for a case-by-case assessment. Since this area is not covered by the current vertical agreements block exemption guidelines, more guidance is needed from the Commission. The Court of Justice of the European Union will no doubt also shed further light into this area. Until then, companies should tread carefully.

4) Pricing

It is no surprise that the Commission raises concerns that internet enabled market transparency could facilitate collusion, resale price maintenance, or dual pricing. These concerns are not new as all of these pricing practices may fall foul of EU competition law. The Commission adds that restrictions to access price comparison tools might be of concern where they erect barriers to trade. We would expect the Commission to continue to look closely at this area.

5) Price Parity Clauses

Several national regulators have analysed most-favoured-nation clauses with slightly diverging outcomes in cases relating to travel portals. The Commission does not seem to be particularly concerned with such clauses since they are generally exempted if the parties fall within the scope of the Block Exemption regulation.

C. Competition Concerns for Digital Content

The Commission identified several areas of concern with contractual provisions in licencing agreements between digital content providers and providers of online services (focusing on audio-visual and music products). The Commission notes that several factors could raise barriers to entry, including the long duration of licence agreements, exclusivity provisions, payment mechanisms like advance payments, minimum guarantees and fixed/flat fees, and the fact that contracts are often renewed with the same party. The report also highlights the prevalence of geo-blocking of digital content.

The Commission will assess whether certain licensing practices may restrict competition and whether enforcement is necessary in order to ensure effective competition on a case-by-case basis. In doing so, it will consider the characteristics of the specific product and the geographic markets. Enforcement activity in this area is highly likely given the absence of existing block exemptions and guidelines. Digital content providers that use geo-blocking, like internet game companies and movie streaming services, may have to look for other solutions in the future.