All-clear for dual distribution? New EU rules on Vertical Agreements provide important guidance

On 10 May 2022, the European Commission (“Commission”) adopted the final text of the revised Vertical Block Exemption Regulation (“VBER”) and the accompanying Guidelines on Vertical Restraints (“Vertical Guidelines”). The new rules will enter into force on 1 June 2022 and contain important changes for the assessment of distribution agreements under EU competition law. A highly controversial issue in the reform process was the rules for dual distribution. The Commission initially proposed very strict rules. This led to heavy criticism by market participants and legal commentators. The pushback was not in vain. The final rules are now more lenient and provide more legal certainty:

• Dual distribution will be comprehensively block exempted under the VBER. 

• Information exchange between a supplier and its distributors is possible within certain boundaries. 

• The Vertical Guidelines provide detailed guidance on these boundaries.

In this blog post we will dive into the new rules and set out the practical implications for companies operating dual distribution systems.

Dual distribution: economic background and antitrust implications

Dual distribution refers to distribution arrangements where a supplier sells its products or services not only through distributors or retailers but also directly to end customers, for example in flagship stores or branded online shops. Dual distribution has become increasingly common in recent years. In the eyes of manufacturers, dual distribution is an important opportunity to directly interact with end customers. Such direct interactions generate valuable insights in customer preferences and allow the supplier to showcase its brand in a well-considered setting. 

However, dual distribution has important consequences for the competition law analysis: a typical supplier-distributor relationship has a mere vertical nature. The involved undertakings operate on different levels of the value chain; they do not compete. A dual distribution set-up adds a horizontal dimension to this relationship. Both the manufacturer and its distributors sell the respective products to end customers and compete at the retail level.

Under the 2010 Vertical Block Exemption Regulation it was not entirely clear how the horizontal element of dual distribution should be treated. However, companies were well advised not to disregard the horizontal aspect of dual distribution as the Hugo Boss case of the Danish Competition Council demonstrated – a case in which an information exchange between a supplier and two distributors regarding future prices was sanctioned. 

The reform of the Vertical Rules

Likely with the Hugo Boss case in mind, the Commission treated dual distribution as one of the key areas of the revision when it started the reform process for the VBER and the Vertical Guidelines in 2020. In July 2021, the Commission published first drafts of the new VBER and Vertical Guidelines. These drafts contained a stricter framework for the assessment of dual distribution arrangements. In particular, in the event the parties’ joint market share at the retail level exceeded 10%, only a limited block exemption applied that did not cover information exchanges. 

This draft led to heavy backlash. As a result, the Commission commissioned an expert report on information exchange in dual distribution. Based on the results of this report the Commission made a new proposal and published – as late as February 2022 – a draft new section of the Vertical Guidelines dealing with information exchange in dual distribution. This new draft section (commented on here) was more lenient and provided greater legal certainty than the initial proposal. The final text of the new rules now largely reflects this draft section with some minor changes. 

The new rules for dual distribution

The final text of the new VBER provides for a comprehensive block exemption of dual distribution with the exception of certain cases of an information exchange. In detail:

• Dual distribution remains block exempted provided that the general 30% market share threshold of the VBER is met (Article 2(4) VBER). The Commission continues to take the position that the positive impact of dual distribution on competition will generally outweigh any potential negative impact on the competitive relationship between manufacturer and distributor at the retail level. 

• The block exemption for dual distribution is comprehensive. In its Vertical Guidelines the Commission explicitly points out that the block exemption covers all aspects of the vertical agreement in question, including information exchange (Vertical Guidelines, para. 96). Under the current rules it remained unclear whether the block exemption also covered information exchange or whether it had to be individually assessed under the Horizontal Guidelines. This is now resolved. An analysis under the Horizontal Guidelines is only necessary in case the requirements of Article 2(4) VBER for a block exemption of dual distribution are not met (Vertical Guidelines, para. 91).

• The new Article 2(5) VBER limits the scope of the block exemption. It excludes from the block exemption information exchange that is (i) either not directly related to the implementation of the vertical agreement or (ii) is not necessary to improve the production or distribution of the contract goods or services. Thus, the Commission basically relies on the “need to know”-principle – information can be shared to the extent that this is necessary for implementing the dual distribution system. We will elaborate on this in more detail below.

• The Commission expanded the scope of the block exemption for dual distribution – it also now covers dual distribution organized by wholesalers and importers. 

• Lastly, the Commission excludes from the block exemption vertical agreements relating to the provision of online intermediation services by providers that also sell goods or services – i.e. hybrid online platforms (Article 2(6) VBER). 

Permissible scope of information exchange

In practice, the most important question in the application of the new rules for dual distribution will be how to delineate which information may be exchanged between the supplier and its distributors and which not. The updated Vertical Guidelines contain important guidance on this question (paras. 96-103). The Commission points out that the assessment may depend on the particular model of distribution (e.g. exclusive distribution, selective distribution or distribution under a franchise agreement) (Vertical Guidelines, para. 98). Accordingly, the particular requirements of a distribution system can be taken into account, for example the need for cohesiveness in a franchise system. 

The Vertical Guidelines include a “white” list of information that is generally likely to meet the requirements of Article 2(5) VBER as well as “black” list of information that the Commission considers unlikely to fulfil the requirements for a block exemption. This is important guidance that significantly contributes to legal clarity. 

The non-exhaustive white list includes the following information which should generally benefit from the block exemption (Vertical Guidelines, para. 99): 

• Technical information, e.g. relating to the registration, certification, handling, or use of the contract goods or services, as well as information that enables the supplier or buyer to adapt the goods or services to the requirements of the customer.

• Logistical information relating to the production and distribution of the goods or services at the upstream or downstream levels.

• Information relating to customer purchases of the contract goods or services, as well as customer preferences and feedback, as long as this information does not relate to identified end users (i.e. aggregate information).

• Information relating to the prices at which the contract goods or services were sold by the supplier to the buyer.

• Supplier’s recommended or maximum retail prices as well as information relating to the prices at which the buyer resells the contract goods or services, provided that the buyer remains free to determine its own resale price.

• Information relating to the marketing of the contract goods or services, e.g. on promotional campaigns and information on new goods or services.

• Performance-related information, including aggregated information provided by the supplier to the buyer relating to the marketing and sales activities of other buyers, as long as these stay anonymous, as well as information relating to the buyer’s sales of competing goods or services. 

The non-exhaustive black list includes the following information which the Commission deems unlikely to fulfil the requirements for a block exemption (Vertical Guidelines, para. 100): 

• Information relating to the future prices at which the supplier or buyer intend to sell the contract goods or services downstream.

• Individual information relating to identified end users of the contract goods or services, unless such information is necessary (i) to satisfy the requirements of a particular end user (i.e. to adapt the contract goods or services to the end user’s requirements or to provide special conditions or after-sales services) or (ii) to implement or monitor compliance with a selective or exclusive distribution agreement.

• Information relating to goods sold by a buyer under its own brand name exchanged with a manufacturer of competing branded goods, unless the products are produced by the same manufacturer.

In particular, the “prohibition” on exchanging information on future prices will have a high practical relevance. Notably, the final text of the Vertical Guidelines includes an important change compared to the last draft of the Commission published in February 2022. The draft provided for an exception which allowed the exchange of information on future prices for the coordination of short-term low price promotions. This remarkable exception did not make it into the final text. However, considering (i) that the final text of the Vertical Guidelines still contains an exemption from the resale price maintenance prohibition for short-term low price promotions (Vertical Guidelines, para. 197 (b)) and (ii) that information exchange on promotional campaigns is white-listed (Vertical Guidelines, para. 99 (f)) there remains ambiguity regarding the consequences of this last-minute change.

Consequences for compliance in practice

The updated VBER and accompanying Vertical Guidelines provide a more comprehensive and clearer framework for undertakings engaging in dual distribution than was the case previously. This is a welcome development. Still, undertakings need to tread carefully when it comes to a few key issues. In particular, the exchange of information among participants in dual distribution structures should be assessed against the new rules. This issue has already been investigated by competition authorities (Hugo Boss case, Denmark).

Various practical questions could arise when assessing information flows in dual distribution structures and potential safeguards to minimize compliance risks:

• Many situations involving an information exchange will not correspond in every aspect to the examples mentioned in the “white” and “black” lists of the Vertical Guidelines. For instance, the Vertical Guidelines prohibit the exchange of individual information relating to identified end users. However, in certain industries such as the pharma sector, the manufacturer may need to know to which customers its products were sold to comply with regulatory obligations (e.g. pharmacovigilance). Or, if goods such as semiconductors become scarce, manufacturers may be obliged under competition laws to allocate supplies among customers and will only be able to do so if they know to whom the distributor sold its products. The Vertical Guidelines do not provide a clear answer – they allow the distributor to disclose customer names if this is “necessary to satisfy the requirements of a particular end user”. However, situations such as the above should be covered given that there is a clear need for the information exchange.

• In practice, it often is unclear how frequent an exchange of information can take place, what level of detail is permissible and in which form the exchange of information can be conducted (mere unilateral disclosure of information vs. full-blown discussion). The Vertical Guidelines, in a footnote, supposedly allow information on the topics included in the “white” list irrespective of their frequency, and cover all forms of information exchange. The underlying legal principle, however, is the principle of necessity – what information is necessary for implementing the dual distribution structure (“need to know” principle). It is therefore advisable to observe this principle when defining the form and scope of an exchange of information on topics mentioned in the “white” list.

• In certain cases, additional internal organizational measures such as firewalls, the separation of teams and/or the aggregation of data before it is shared internally among departments may need to be considered. The Vertical Guidelines do not require such measures in each and every instance and rightly so – such measures can be costly. The guidelines only make reference to such measures in the context of information exchanges that do not relate to topics included in the “white” list. However, certain situations of an information exchange might still warrant a precautionary approach to minimize the risk of an excessive information exchange, for instance when particularly sensitive information such as current retail prices are disclosed by distributors to a manufacturer who, in turn, operates its own online shop that serves the same customers.

• At a more general level, internal compliance guidelines and competition law trainings should reflect the new rules on the exchange of information.

• Finally, it should be kept in mind that national competition authorities and courts are not legally bound by the Vertical Guidelines. Thus, it cannot entirely be ruled out that they might arrive at different conclusions. However, the Guidelines should have a strong de facto authority given the comprehensive legislative process. It will, in any case, be helpful to monitor the legal development at EU level as well as in the member states.

Authored by Dr. Lukas Rengier, Dr. Jan-Christoph Rudowicz and Frederik Junker.