In early 1992, Barkat U. Khan opened a Unocal 76 filling station in Addison, Ill. He bought all of his gasoline from State Oil Co. in Greyslake, Ill., which set a "suggested" retail price.
Although the contract did not prohibit Khan from selling above the suggested rate, it may just as well have: State Oil said that if Khan charged more, he would have to give the supplier all of the excess revenues. By January, 1993, Khan was so broke he could not pay rent on his station. After State Oil evicted him, he filed suit, arguing that the company had limited his ability to compete by setting what amounted to a maximum price--a practice that has been illegal for nearly three decades.
On Oct. 7, the U.S. Supreme Court will hear arguments on the case, in what is expected to be the most important business decision of the new term. A coalition of large manufacturers and franchise companies, including Pillsbury, General Motors, Burger King, Miller Brewing, and Eastman Kodak, wants the Court to reverse current law and allow them to set ceilings on retail prices.
Manufacturers contend that if they prevail, prices of goods ranging from cameras to fast food will begin to fall. Supporting them are trustbusters at the Justice Dept. and the Federal Trade Commission, who believe that allowing price ceilings would by definition be pro-consumer.
But franchisees and retailers say manufacturers are just out to grab a bigger share of profits. They worry that a squeeze on margins will force many distributors out of business, which would reduce competition and let survivors set higher prices. In their corner are 33 state attorneys general, who have been granted special permission to present an oral argument defending the law.
Whoever is right, the case could bring about a dramatic power shift. "This really pits manufacturers against retailers in a classic way," says Stephen M. Axinn, a New York antitrust lawyer. If the court sides with suppliers, he says, "you are going to see manufacturers dictating prices to resellers in a far more aggressive" fashion.
The Supreme Court's ruling is likely to turn on the issue of whether certain kinds of price-fixing are good for consumers. In the late 1960s, the Court ruled that setting maximum resale prices was automatically illegal, arguing that dealers, who are closer to the market than suppliers, know better how to set competitive prices. But in the years since, many antitrust experts have concluded that the ban is too restrictive and theorize that there may be situations where maximum prices may promote competition.
BIKE HIKES. Indeed, product makers contend that by setting ceiling prices, they will unleash more competition among brands. This is particularly true, they say, in markets where dealers have exclusive territories or agreements on a product. Suppliers gripe that during promotions, such dealers sometimes pocket incentive cash rather than pass discounts on to consumers. Also, manufacturers say they have little control when exclusive dealers jack up prices on popular products--and that they suffer because such behavior reduces sales volume and erodes brand loyalty.
One example is Harley bikes. The motorcycles are so popular, says Harley-Davidson Motor Co. spokesman Steve Piehl, that some dealers have sold the bikes at a $500-to-$1,000 premium over the manufacturer's suggested retail price--a response to the product's scarcity. Piehl argues that such "opportunistic" dealers hurt the reputation of the company, especially with first-time buyers. The company, he says, depends on happy customers who buy more bikes, accessories, and leather jackets, and join company-sponsored clubs. "If this is a first-time customer, we want them to have a positive experience coming in," Piehl says.
Price ceilings are particularly critical to franchisors, the value of whose products is based on uniformity in services, appearance, and quality. But franchisors can't force dealers to carry price promotions, and customers are often irked when their local dealers are not participating. Not long ago, for instance, franchise operators in New York refused to go along with a McDonald's Corp. promotion of 55 cents Big Macs. It was a big embarrassment for the company, which quickly scrapped the promotion.
Many franchise operators, who claim they often lose money on advertised items, say they hope to make up losses by more sales on other products. But that doesn't always happen. Bob Srygley, a McDonald's owner-operator in Monticello, Ark., says the Big Mac promotion was a loser for him. If operators are forced into promotions, it "would be disaster," says Srygley. "Everybody's already discounting in our business just to keep market share."
Srygley and other retailers insist that the issue is one of survival. They argue that big-name manufacturers in faraway cities have no way to assess local conditions. A competitive price in one community could kill profits in another. Particularly vulnerable, they say, are mom-and-pop retailers and specialty stores, which may charge a little more but attract customers by offering convenience and other services.
FEAR OF COLLUSION. Indeed, retailers and others argue that rather than lowering prices, maximum resale prices could actually lead to price increases. For instance, Khan, the service station operator, had wanted to drop the price of low-grade gas, where competition was stiff. But he couldn't afford to, he claims, because it was impossible for him to offset the initial loss by raising the price on high-grade gas.
Scenarios such as that worry many state regulators. Pamela Jones Harbour, deputy attorney general in New York, believes maximum price restraints could lead to collusion among manufacturers and dealers to raise prices. She worries that rather than setting low maximum prices, manufacturers could fix a price ceiling above market levels. That could signal dealers to raise their prices, in turn inducing other manufacturers to raise their maximum prices. Manufacturers could get a piece of that higher retail price by raising wholesale prices to the dealer. So prices, which now may be all over the lot, could start floating up. "What is characterized as a price-lowering scheme is actually a price-raising scheme," Harbour says.
She and her fellow AGs will soon have the opportunity to make their case before the High Court. Hanging in the balance is the long-term power relationship between large manufacturers and thousands of small-business people like Barkat Khan.