Chapter VI. The Reasonableness of Collateral Restraints

• Pages: 85-128

CHAPTER VI

THE REASONABLENESS OF

COLLATERAL RESTRAINTS

85

Joint venture agreements often include restraints on competition.

Many collaborations include restraints on pricing and output or concern

allocations of customers or geographic markets. Some restraints limit

competition between the joint venture and its owners or participants;

others limit competition among the owners or participants themselves.

Commonly, these restraints address matters such as who may participate

in the venture, the products the venture will produce, the quantity the

venture will produce, the territory in which the venture will sell, the sales

channels to be used by the venture, and the prices the venture will

charge. In many cases, restraints of this kind are necessary for the joint

venture to function efficiently. Nevertheless, such restraints often

resemble conduct that is unlawful under Section 1 of the Sherman Act.

As a result, the antitrust enforcement agencies and the courts frequently

have been called upon to assess whether a particular restraint, or

combination of restraints, contained in one or more agreements

associated with a joint venture should be considered an unreasonable

restraint of trade in violation of Section 1 of the Sherman Act.

A. OVERVIEW: GENERAL PRINCIPLES GOVERNING

COLLATERAL RESTRAINTS AMONG JOINT VENTURE

MEMBERS

For over 100 years, the courts have recognized that some facially

anticompetitive restraints may be lawful if they are sufficiently related to

a lawful agreement or venture. In United States v. Addyston Pipe & Steel

Co.,1 Judge (later President and then Chief Justice) Taft provided the first

iteration of what became known as the ancillary restraints doctrine: an

otherwise unlawful restraint might be lawful if “the covenant embodying

it is merely ancillary to the main purpose of a lawful contract, and

necessary to protect the covenantee in the full enjoyment of the

legitimate fruits of the contract, or to protect him from the dangers or

1 85 F. 271 (6th Cir. 1898), modified and aff’d, 175 U.S. 211 (1899).

86 Joint Ventures: Antitrust Analysis

unjust use of those fruits by the other party.”2 As discussed above, courts

and the enforcement agencies both accept that joint ventures can be

competitively benign (and therefore lawful), and can also be

affirmatively procompetitive. As a result, under the principle first

enunciated in Addyston Pipe, restraints associated with a lawful joint

venture might be lawful and enforceable despite having possible

anticompetitive effects.3 Of course, the doctrine only applies to restraints

that are merely ancillary to the main purpose of a lawful contract and is

inapplicable to those restraints that involve “the core activity of the joint

venture itself.”4

Judge Taft’s discussion in Addyston Pipe touches upon one of the

core principles that continues to motivate the both the judiciary and the

agencies in their decisions concerning ancillary restraints – the “free

rider” effect. Courts have also both accepted and rejected justifications

for fixed prices or output based upon the need for the joint venture to

prevent “free riding.” In Rothery Storage & Van Co. v. Atlas Van lines,

Inc.5 the D.C. Circuit explained the rationale behind the free riding

justification —

[W]hen a person or business providing goods or services begins to

receive declining revenues, then other things being equal, that person or

firm will provide fewer goods or services. As marginal revenue drops,

so does output . . . . On the other side, the firm receiving a subsidized

good or service will take more of it. As cost declines, then, other things

being equal, demand increases. … In this way, free riding distorts the

economic signals within the system… .6

Applying these principles to the issues presented in Rothery Storage,

the court explained that the restraint at issue (compelling carrier agents to

transfer their interstate authority to a separate entity) was “a classic

attempt to counter the perceived menace that free riding poses.”7 The

court emphasized that to the degree that a carrier agent used Atlas’

2 Id. at 282. Addyston Pipe involved a complex bid-rigging scheme, which

the court condemned as a naked restraint on trade.

3 See Texaco Inc. v. Dagher, 547 U.S. ___, slip op. at 5 (Feb. 28, 2006)

(ancillary restraints doctrine “governs the validity of restrictions imposed by

a legitimate business collaboration, such as a business association or joint

venture, on nonventure activities”).

4 Id. at ___, slip op. at 6.

5 792 F.2d 210 (D.C. Cir. 1986).

6 Id. at 222-23.

7 Id. at 223.

The Reasonableness Of Collateral Restraints 87

reputation, equipment, facilities and services in conducting business for

its own profit, the agent enjoyed a free ride at Atlas’ expense.8 Because

the carrier agents paid Atlas only for its clearinghouse service and for the

provision of written forms, many of the services supplied as part of

Atlas’ arrangement with the carrier agents resulted in Atlas subsidizing

its competitors.9 Thus, the agreements at issue were “plainly lawful”

because they enhanced consumer welfare by creating efficiency.10

However, not all restrictions aimed at eliminating the free rider

problem have been upheld by the courts. In Chicago Prof’l Sports Ltd.

P’ship v. NBA,11 the Seventh Circuit affirmed a district court’s grant of a

preliminary injunction against a league rule that limited the number of

broadcasts by teams over superstations. The restrictions provided that no

team could broadcast a game in competition with the league’s primary

broadcast partner (NBC), and superstations could carry no more than 20

games and could not telecast any games in competition with the league’s

cable broadcast partner (TNT).12 The NBA argued that three forms of

free riding justified these restrictions.13

First, because the contracts with NBC and TNT required those

networks to advertise NBA basketball on other shows, the NBA argued

that the Chicago Bulls and WGN (the superstation that desired to

broadcast more Bulls games) would receive the benefit of these

promotions without paying the costs absent the restriction.14 Second, the

NBA had revenue-sharing devices and a draft to prop up the weaker

teams.15 The NBA argued that the Bulls took advantage of these devices

when they were a weak team (by obtaining star players through the

draft), but, according to the NBA, were siphoning viewers, and thus

revenues, to their own telecasts on WGN, thereby diminishing the

amount of revenue available for distribution to weaker teams.16 Third, the

NBA alleged that the Bulls and WGN were taking a free ride on the

benefits of the league’s cooperative efforts during the 1980s to build up

professional basketball as a rival to baseball and football—efforts that

8 Id. at 221.

9 Id.

10 Id. at 223.

11 961 F.2d 667 (7th Cir. 1992).

12 Id. at 669.

13 Id. at 675.

14 Id.

15 Id.

16 Id.