South Africa: Dual Distribution Clarified By The Competition Appeal Court

Last Updated: 20 April 2015
Article by Jenny Finnigan

2015 started with a key but largely unsung victory for South African Breweries ("SAB") in its ongoing battle with the Competition Commission. The Competition Appeal Court finally provided some clarity on the critical question of how the Competition authorities should deal with the vexed issue of dual distribution.  In a long-running war with SAB, the Competition Commission alleged that SAB divided markets with its authorized distributors by, amongst other things, allocating each of them an exclusive geographic territory.  The complaint was initiated by independent distributors who submitted that authorized SAB distributors received an unjustifiable additional discount from SAB giving rise to price discrimination. 

The Competition Commission focused on 2 clauses in the authorized distributors' agreement with SAB. The 1st clause appointed the distributor exclusively within an identified geographic territory ("the Territory"). The 2nd clause obliged the distributor to only sell and distribute SAB products in the Territory and included an undertaking by SAB that it would not appoint any other distributor within the Territory or itself take orders for products from customers in the Territory. The authorized distributors were also obliged to buy all their requirements of SAB products from SAB except if it was unable to supply. Finally, the authorized distributors were not allowed to sell or deliver to customers outside the Territory. The same restriction applied to SAB itself selling product into the Territory. None of these provisions are unusual in the context of a distribution agreement. What made this particular distribution agreement interesting from a competition perspective is that both SAB and its distributors sell SAB products and are therefore potential competitors. The Competition Commission argued that without the restrictions in the distribution agreement, SAB and its authorized distributors would compete with each other in the Territory and that the restrictions which prevented that competition were therefore anticompetitive.

The Competition Tribunal dismissed the Competition Commission's case on the basis that authorized distributors were not "autonomous economic actors" and therefore unable to compete with SAB. This created a serious competition law problem for any manufacturer selling its products itself and through distributors because the implication of the Tribunal's decision was that unless distributors were so closely controlled by their manufacturer that they did not compete with it at the distribution level of the market and were not competitors or potential competitors, any territorial restriction or exclusivity imposed on either party could be market division.  Market division is one of the most serious anticompetitive offences triggering a fine for a first contravention.  The other peculiarity of the Tribunal's decision is that it made South African law's approach to dual distribution unique when compared with international jurisprudence on the subject.

Thankfully, the Competition Appeal Court dealt with this issue head on and clarified matters.  The court explained that the American test of "characterization" has been incorporated into our law by the American Natural Soda Ash Corporation case.  The essence of that test is "to establish whether the character of the conduct complained of coincides with the character of the prohibited conduct". The Supreme Court of Appeal (which handed down the Soda Ash judgment) said that the scope of the prohibition and the nature of the conduct complained of are the 2 factors to be considered when applying the characterisation test. The rules of statutory interpretation apply when considering the prohibition and the conduct is evaluated by a factual enquiry.  In the SAB judgment, the Competition Appeal Court explained the history of the characterization test and pointed out that the current position in American law is that restraints between a manufacturer and its independent distributors are treated as vertical in circumstances where the manufacturer imposes the restraints for its own legitimate purposes. The European Union considers whether, but for the agreement, the parties to the agreement would have been competitors. If not, then the parties are deemed not to be competitors.

The Appeal Court eventually concluded that "the true economic nature of the relationship, which the characterization principle seeks to unlock, was, in this case, a vertical relationship between the producer and distributors of the former's product. Although the parties were also, at the distribution level, in a horizontal relationship, the horizontal elements of the agreement were incorporated in aid of the primary vertical purposes of the agreement. They were rational incidents of a vertical arrangement, not independent arrangements incorporated merely for convenience into a distribution contract".  The Court went on to caution that the characterization principal is intended to ensure that "section 4(1)(b) is so construed that only those economic activities in regard to which no defence should be tolerated are held to be within the scope of the prohibition".  In a salutary caution to the Competition Commission, the court went on to say that "Whether conduct is of such a character that no defence should be entertained is informed both by common sense and competition economics".  At a practical level, the Court concluded that the restrictions imposed on SAB's authorized distributors by the distribution agreement were integrally related to the favourable supply and other benefits associated with that agreement. The anticompetitive restrictions were a consequence of the vertical agreement. SAB only imposed those restrictions because of the benefits it obtained from the distribution agreement. Without the distribution agreement, the distributors may have competed with SAB at the distribution level but far less effectively without the benefits they received from the distribution agreement. The horizontal restrictions in the distribution agreement flowed from the vertical nature of that agreement.

This decision has not attracted much attention in the press, but it is a critical milestone in South Africa's competition jurisprudence because it aligns our law with the international approach to dual distribution and removes the silent and dangerous presumption created by the Tribunal's judgment that any distribution agreement with territorial or exclusivity restrictions is market division.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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