15 Mar 2011

(by Andreas Stephan) Last week, the UK’s on six construction firms by 90%. The fines had been imposed by the Office of Fair Trading in 2009 for cover pricing. The CAT found the original penalties were excessive and reduced the fines totalling £42 million to just £5 million, reflecting their view that cover pricing is less serious than ‘traditional’ cartel conduct. They accepted the treatment of cover pricing as an ‘object’ agreement, but suggested that effects should be considered in calculating the fine. This raises an interesting question: if cover pricing is different from bid-rigging – and should warrant such a significant reduction in fines – should it really be treated as an object agreement?

The decision represents the first of twenty five appeals against the £129.2 million imposed by the OFT on 103 undertakings. Cover pricing is where one firm, who does not want to win the contract, contacts a rival bidder in order to submit a credible but unsuccessful bid. Cover pricing can mislead buyers into believing they have more competitive bidding than they have in practice. However, it is principally used by firms that want to remain on a client’s tender list at the same time as protecting their reputation (an unrealistic bid designed to ensure failure would not look good). A minority of firms were engaged in compensation payments (more akin to hard core bid-rigging) but the reduction in fines by the CAT relates only to cover pricing. The six firms here were arguing only that the fines were excessive, not that they had not engaged in the illegal act of cover pricing.

Excessive fines for “simple” cover pricing.

The CAT were persuaded that the fines imposed were excessive given the nature of the infringement, and the fact that the practice was long standing in the industry and widely regarded as legitimate. The OFT had taken 5% of turnover as the starting point for calculating fines – a figure which is consistent with previous cartel decisions by the authority. The CAT attacked this and the OFT’s decision to impose a fixed ‘Minimum Deterrent Threshold’ of 0.75% of turnover across the board, rather than making an individual assessment of each firm. They found the OFT wrongly equated cover pricing to bid-rigging or ‘traditional cartel practices’ (para 82), stating that ‘Its purpose is not (as in a conventional price fixing cartel) to prevent competition by agreeing the price which it is intended the client should pay’ (para 100).

Object or Effect?

Although the CAT ruled the fines imposed by the OFT were excessive and that cover pricing was a less serious form of anti-competitive behaviour, they did not go so far as to reject its treatment as an ‘object’ agreement or concerted practice. ‘Object’ refers to conduct such as price-fixing, market sharing and bid-rigging which are presumed to be anti-competitive, regardless of whether any harm is actually caused. The OFT justified its decision to treat cover pricing as ‘object’ by pointing to its deceptive nature (from the client’s perspective) and its possible adverse effect on price. The CAT accepted these arguments, but stated that,

…this does not render irrelevant the likely effects to penalty. It is clearly necessary to take into account the effects (actual or potential) of an infringement when considering its seriousness, as the Guidance states in unequivocal terms. (para 133)

However, the OFT had already been quite lenient in their treatment of the construction industry, granting several significant discounts in fines and allowing the firms to pay in instalments. Distinguishing cover pricing as significantly different to traditional cartel practices – and reducing the fines by a further 90% – raises the question of whether the practice should be treated as an object agreement at all?

Object agreements should by their very nature be treated as serious. In principle, any direct communication between competitors regarding pricing intentions will be a serious infringement of competition law. Special dispensation should not be given to a well intentioned cartelist or to one who is bad at what he does. If we accept that cover pricing is significantly different, then the authority should be focusing on effects.

There are two problems here. First , competition authorities find it difficult to prove that an agreement or concerted practice had an anticompetitive effect. Going after object agreements circumvents contentious economic proof and makes decisions easier to defend at appeal. Second, (as both the OFT and CAT hint in the present appeal) cover pricing will not have a discernable anticompetitive effect in the particular contact unless there is only one serious bidder left. This is something peculiar to cover pricing in auctions with more than two bidders in the process. Cover pricing may have been categorised as an object agreement in the knowledge that it would fail an effects analysis. If this was indeed the OFT’s view, then it should have restricted its decision to the small number of hard-core bid-rigging practices, while focusing on stamping out cover pricing through engagement with the industry.

The OFT is considering to the Court of Appeal.