Running into trouble – UK CAT ruling highlights selective distribution challenges

In a standalone claim for damages brought by specialist running shoe retailer Up & Running against Deckers, a supplier of HOKA running shoes, the Competition Appeal Tribunal (CAT) held that Deckers' refusal to continue to supply HOKA shoes to Up & Running because it had set up an online website to sell out-of-season stock at reduced prices, was a restriction of competition by object, as it amounted to indirect resale price maintenance and a restriction on its effective use of the internet.

Deckers defended its approach on the basis of its selective distribution system which it claimed was compliant with the Metro criteria and should therefore be outside the scope of the Chapter I prohibition of the Competition Act 1998 (Chapter I prohibition).  In addition it claimed that its distribution agreement should in any case benefit from the safe harbour of the vertical agreements block exemption Order (VABEO), the UK's equivalent of the EU vertical agreements block exemption Regulation, as the relevant market shares of the parties were below 30%.

The CAT found that Deckers' selective distribution agreement did not meet the criteria for establishing that it has a legitimate goal and falls outside the scope of Chapter I prohibition.  It did also not benefit from the VABEO as the restrictions imposed under its terms and conditions on the clearance channel qualified as hardcore restrictions under the VABEO, thereby disapplying the application of the block exemption.  The CAT concluded that Deckers' refusal to allow Up & Running to sell HOKA shoes on its new clearance website infringed the Chapter I prohibition by object.

Although the CAT's ruling is inevitably specific to the facts of the case, it provides a helpful reminder for businesses who operate selective distribution systems of the need to structure their agreements carefully in order to ensure they are compliant with the competition rules:

• The CAT reaffirms the principle established under EU case law that a selective distribution agreement that meets the Metro criteria falls outside the scope of the Chapter I prohibition.  This does however require businesses to ensure that their agreements are well designed with clear and objective criteria that are applied in a non-discriminatory and uniform way.
• Selective distribution agreements that do not meet the Metro criteria do not necessarily involve a restriction of competition by object and can still be justified and benefit from the efficiencies exemption under section 9 of the Competition Act 1998, where they pursue legitimate and not inherently restrictive aims, such as the protection of a manufacturer's brand image and addressing free-riding by resellers who are not prepared to invest in a high quality retail environment.
• Distribution agreements that fall within the safe harbour of the VABEO still need to be designed with care in order to ensure that none of the provisions qualify as direct or indirect hardcore restrictions.  There are principles in the case law that cannot be ignored simply because the market shares remain below the thresholds or because the agreement avoids the most blatant hardcore restrictions.
• The CAT concludes its judgment with the advice that "compliance with competition law requires ensuring that there is a clear business strategy pursuing a legitimate aim on the one hand and that there is a clear identifiable link between this strategy and a set of well-designed vertical restraints imposed on resellers on the other".

The case was heard under the fast-track procedure and the amount of damages will be determined at a separate trial.

Background

Up & Running is a specialist running shoe retailer selling mainly through its bricks and mortar stores and to a lesser extent through its website, 'upandrunning.co.uk'. Deckers used to supply Up & Running with HOKA branded running shoes until the end of the 2021 season.

In July 2020 Up & Running told Deckers that it wanted to launch a new website, 'runningshoes.co.uk', on which it would sell excess stock, including HOKA shoes, at a discount.  One of the reasons behind this was to dispose of significant volumes of unsold stock accumulated during the Covid pandemic, when it had been unable to sell through its bricks and mortar stores. Deckers refused permission for the proposal on the basis that it went against the fundamental principles of its brand strategy and was in breach of its terms and conditions.

Up & Running nevertheless went ahead with the new website and started selling running shoes including HOKA shoes on the new 'runningshoes.co.uk' website, following which Deckers terminated its account and stopped supplying it with HOKA shoes.

Up & Running brought a standalone claim for damages under section 47A CA98 on the basis that Deckers' terms and conditions infringe the Chapter I prohibition as they imposed a restriction on its ability to market and sell HOKA shoes online and make effective use of the internet as a sales channel (the online restriction) and were an attempt to control the prices at which it sold the HOKA shoes (the RPM restriction).

Deckers argued that its agreement with Up & Running must be seen in the context of its selective distribution system which it claimed was exempt from the Chapter I prohibition, as it was compliant with the Metro criteria and did in any case benefit from the VABEO.

CAT ruling

The CAT reiterates the principles for analysis of selective distribution agreements under competition law. A selective distribution agreement that meets the Metro criteria (referred to as purely qualitative systems) does not infringe the Chapter I prohibition or Article 101(1) TFEU, its EU equivalent.  In order to meet the Metro criteria the following criteria must be met:

• The product is of a type that justifies restricting the type of outlets by which they may be resold
• The criteria by which the outlets are selected must be purely qualitative in nature, laid down uniformly for all potential retailers and applied in a non-discriminatory manner
• The restrictions imposed on authorised distributors must not go further than is objectively necessary to protect the quality of the product in question

Selective distribution systems that are not purely qualitative may be caught under the Chapter I prohibition but such agreements will benefit from the VABEO provided they meet the necessary criteria, ie the market shares of each of the parties is below 30% and the agreement does not contain any hardcore restrictions as listed in the VABEO.

The CAT goes on to conclude that, based on the evidence submitted during the trial, Deckers' selective distribution system did not meet the Metro criteria.  The criteria for admission were not properly recorded or kept in writing, they included quantitative considerations and were applied inconsistently, on a piecemeal basis at best and in a discretionary, if not arbitrary manner, at worst.  In addition, there was no framework for the treatment of the main retail and the clearance channels which were separate channels.

The CAT also held that the selective distribution system did not benefit from the VABEO.  Under its terms and conditions Deckers sought to control the extent to which a retailer in the selective distribution system could make online sales on the clearance channel, through its right to veto any such initiative.  It tried to justify this approach on the basis of its selective distribution regime.  There were however no criteria or further clarification as to how this approval requirement operated in practice. The requirement for retailers to seek approval for making online sales on the clearance channel therefore lacked the same clarity and transparency as the selective distribution criteria more widely.  

Instead, the CAT concluded that, based on the discretion and vague wording of that provision, the objective of the website approval requirement was for Deckers:

• To restrict entry into the clearance channel for the online clearance of residual stock so that Deckers has control over what stock is sold and when it is sold through this channel
• To limit retailers selling HOKA products in the main retail channel from accessing the clearance channel in which residual stock is sold, in order to limit the sale of HOKA products on a discounted basis

Both restrictions qualify as hardcore restrictions under the VABEO, which removes the benefit of the exemption and the CAT concluded that Deckers had committed two separate infringements of the Chapter I prohibition.

The CAT clarified that if Deckers had been operating a genuine and well-designed selective distribution system, it may have accepted arguments that the impact on price was not the main objective of the restriction and that there were legitimate aims arising from the selective distribution system that could justify the contractual provision, which would therefore not qualify as a restriction by object.  This was however not the case and the CAT concluded that the restrictions imposed by Deckers qualified as by object restrictions.

The CAT recognised that Up & Running had established, on the balance of probabilities, that it suffered a loss as a result of Deckers' breach of the Chapter I prohibition and the amount of damages will be determined at a separate trial. 

Up & Running had also sought an injunction requiring Deckers to supply it again with HOKA products but the CAT refused to grant the injunction on the basis that damages are an adequate remedy and that the relationship between the parties has broken down to such an extent that it is unrealistic and impractical to think that a general obligation to resupply will work without constant supervision and intervention by the CAT.