Freedom Holdings, Inc. v. SpitzerFreedom Holdings, Inc. v. Spitzer
OPINION AND ORDER PARTIALLY GRANTING AND PARTIALE DENYING PRELIMINARY INJUNCTION
On January 6, 2004, the Court of Appeals for the Second Circuit, affirming and reversing my decision of May 14, 2002, remanded this case to me for further proceedings not inconsistent with its rulings.
Freedom Holdings Inc., et al., v. Spitzer, et al.,
The Mandate issued on April 30, 2004. Almost immediately afterwards, plaintiffs filed an amended complaint, a motion for summary judgment (the briefing of which is incomplete), and, by Order to Show Cause, a motion for a preliminary injunction. This last motion is before me now, and was the subject of oral argument on May 24 and June 2, 2004. For the reasons stated below, I grant the motion in part and deny it in part. I deny plaintiffs’ motion to the extent that it seeks an injunction against enforcement of the Master Settlement Agreement between forty-six states and the four major cigarette companies and subsequently agreeing cigarette companies. I deny plaintiffs’ motion to the extent that it seeks an injunction against enforcement of the Escrow Statute, N.Y. Pub. Health Law §§ 1399-nn — pp, and the Contraband Statute, N.Y. Tax Law §§ 480(b), 481, 1846. However, I grant plaintiffs’ motion to the extent that it seeks an injunction against enforcing the repeal of the Allocable Share Release provision of the Escrow Statute, N.Y. Pub. Health Law § 1399-pp, as amended, 2003 N.Y. Laws 666, eff. Oct. 15,2003.
I. Factual Background
Cigarette smoking is a scourge to our society. Before modern prohibitions against smoking in public institutions, cigarette smoke hung like a pall over baseball, basketball, and hockey stadia, fouled the air in the offices where we worked and the homes where we lived, and coated our lungs with tars and other poisons, shortening our lives and injuring our health.
In recent decades, many injured parties sued the tobacco companies, with mixed results. In the 1990s, governmental entities brought their own lawsuits, seeking to recover their damage — billions of dollars spent on Medicaid and other health costs caused by cigarette smoking — and to restrict and prevent various advertising and marketing practices of the cigarette manufacturers that tended to popularize cigarette smoking and cause young people to become addicted.
On November 23, 1998, a settlement was reached between forty-six states, the District of Columbia and several territories, and the four major cigarette companies, Philip Morris, Inc. (“Philip Morris,” now Altria Group, Inc.), R.J. Reynolds Tobacco Co. (“R.J.Reynolds”), Brown and Williamson Tobacco Co. (“Brown & Williamson”), and Lorillard Tobacco Co. (“Lorillard”). The Master Settlement Agreement (“MSA”), a long and complicated agreement with many annexes, provided for substantial payments by the cigarette com-
A. The MSA
The manufacturers who signed the MSA consented to a variety of marketing and advertising restrictions. Signatory manufacturers agreed that they would not “take any action, directly or indirectly, to target Youth within any Settling State in the advertising, promotion or marketing of Tobacco Products.” MSA Art. 111(a). They agreed not to use cartoons such as Joe Camel in advertising or promotions, MSA Art. 111(b), sponsor concerts or major sporting events using tobacco brand names, MSA Art. 111(c)(1), or advertise on billboards, in shopping malls, or in transit systems. MSA Art. 111(d). They agreed to refrain from selling clothing or other merchandise bearing a tobacco brand name, MSA Art. 111(f), and from giving free samples or gifts based on proofs of purchase to youths under age eighteen. MSA Art. 111(g), (h). They pledged not to pay for product placement in movies, television shows, theatrical performances, or video games, MSA Art. 111(e), nor to enter into agreements restricting anti-tobacco advertising. MSA Art. 111(d)(4).
Participating manufacturers also accepted limitations on their lobbying rights. They are prohibited from opposing state or local legislation “intended ... to reduce Youth access to, and the incidence of Youth consumption of, Tobacco Products.” MSA Art. III(m)(l). They also may not support congressional legislation which would override the MSA, or challenge state tobacco-related statutes, MSA Art. III(m)(3), V, or promote the diversion of MSA proceeds to uses that are not health-related. MSA Art. III(n). The MSA requires participating manufacturers to develop corporate principles that express their commitment to reducing youth smoking, to communicate those principles clearly to employees and customers, and to designate an executive level manager responsible for identifying methods of reducing youth smoking. MSA Art. III(i)(l), (2).
The MSA provides for the dissolution of several tobacco industry nonprofit research or trade organizations, and provides for state governmental oversight of any new tobacco-related trade organizations. MSA Art. III(o), (p). The MSA establishes a National Public Education Fund, financed by proceeds from payments under the MSA, to study and support the reduction of youth smoking and of smoking-related diseases. MSA Art. VI(a). For instance, the fund is authorized to support “sustained advertising and education programs” to counter youth smoking. MSA Art. 111(g).
The four major tobacco companies, who were the original participating manufacturers to the settlement (“OPMs”), agreed under the MSA to make three sets of payments for a combined value of approximately $2.4 billion in the first year and $225 billion dollars over twenty-five years.
See
MSA Art. IX(b), (c).
1
The payments
The payments of each individual OPM were to be adjusted yearly as well, according to changes in its share of the entire United States market for cigarette sales, relative to the shares of the other three OPMs. As an OPM’s market share increased relative to the other OPMs’ shares of the market, so did that OPM’s burden of payments relative to those of the other OPMs; as its relative market share decreased, so did its relative burden. MSA Art. II(mm). 3
The settling states and territories agreed to allocate amongst themselves the moneys derived from the OPMs’ payments under the MSA. Art. 11(f), at 4, Exh. A. The percentages, or allocable shares, were negotiated among the settling states to reflect total smoking population, health care costs, and other relevant considerations. By far the largest allocable shares are those of California, 12.7639554 %, and New York, 12.7620310 %, The next largest allocable share is Pennsylvania’s, which is 5.7468588 %, less than half of New York’s. Kentucky’s allocable share is 1.7611586 %.
The MSA provides an incentive for other cigarette manufacturers to join the payments scheme. Subsequent participating manufacturers (“SPMs”) who agreed to join the MSA within the first sixty days after its execution by the OPMs were “grandfathered” into their 1998 market share or 125
%
of their 1997 market share, whichever is greater. Grandfathered SPMs become liable for payments to the states only to the extent that their market share increases above those grandfathered levels; above those levels, their required payments are measured by the degree to which their yearly market shares increase relative, not to the entire market, but to the aggregate market share of the OPMs. MSA Art. IX(i). The relationship is reflected in the formula: (current market share — 1998 [or 125 % of 1997] market share) / (current aggregate market share of OPMs).
4
As the Court of Appeals ob
If the denominator were current aggregate market share of OPMs and SPMs, gaining market share from OPMs would be less harmful for SPMs, because the denominator would not change even when the numerator increased. But under the MSA, if the numerator increases because the SPM has taken market share from an OPM, the denominator decreases by the amount of the increase. Thus, the SPM’s proportion of the annual payment increases by more than its proportion of overall market share.
Freedom Holdings II,
The MSA provides a different protection relative to non-participating manufacturers (“NPMs”), by providing incentives to the states to enact legislation aimed at preventing NPMs from benefiting competitively by avoiding the onus of payment obligations to the states. The Escrow and Contraband Statutes, passed in virtually every signatory state, are the result of these provisions of the MSA. N.Y. Pub. Health Law §§ 1399-nn — pp; N.Y. Tax Law §§ 480(b), 481, 1846. The MSA provides an NPM Adjustment, reducing payment obligations of PMs to the extent they lose market share to NPMs. 5 However, the NPM Adjustment does not take effect if a state enacts Escrow or similar statutes imposing payment obligations on NPMs to the states. If a state fails so to legislate, payment obligations of the participating manufacturers (“PMs”) are reduced by triple the PMs’ aggregate market share loss for market share loss of between zero and 16% %. If the market share loss increases above 16% %, the trebling provision is replaced by a complex formula potentially increasing the PMs’ discount. MSA Art. IX(d)(l)(A).
The NPM Adjustment is subject to several other conditions. It does not apply until cigarette shipments fall below 1997 levels. MSA Art. IX(d)(l)(D). The independent auditor appointed to administer the MSA must certify “that the disadvantages experienced as a result of the provisions of this Agreement were a significant factor contributing to the Market Share Loss.” MSA Art. IX(d)(l)(C). And, as noted, the NPM Adjustment will not apply to any state which enacted an Escrow Statute, “and diligently enforced the provisions of such statute.” MSA Art. IX(d)(2)(B). 6 The Escrow Statute is intended to “effectively and fully neutralize[ ] the cost disadvantages vis-a-vis Non-Participating Manufacturers.” MSA Art. IX(d)(2)(E).
The Escrow Statute, passed by New York on November 27, 1999, “imposes a
Under the Escrow Statute as initially enacted, see MSA Exh. T., N.Y. Pub. Health Law § 1399-pp (McKinney 2002), 1999 N.Y. Laws 536, eff. Nov. 27,1999, an NPM could recover funds that it placed into escrow under three circumstances. First, the funds placed into escrow could satisfy a judgment or settlement on a tobacco-related claim. Second, an NPM could recover funds that it placed into escrow in a particular state to the extent that those funds exceeded the amount that that state would have received from that manufacturer as its allocable share, had the manufacturer been an SPM. Third, to the extent that an NPM does not recover from the escrow fund through those two methods, its funds are to be released from escrow after twenty-five years. Id. § 1399-pp(2)(b). The statutory provision allowing for the second of these three methods of releasing funds, N.Y. Pub. Health Law § 1399-pp(2)(b)(ii), is commonly known as the Allocable Share Release provision.
The Contraband Statute was passed by New York on December 28, 2001, as an enforcement mechanism for the Escrow Statute. As described by the Court of Appeals,
Freedom Holdings I,
The Allocable Share Release provision was amended, effective in New York on October 15, 2003, and to date the same amendment has been passed in approximately thirty states. Under the amended law, an NPM can recover funds it placed into escrow only to the extent that they are greater than the total amount of payments that manufacturer would have been required to pay to all states had it been an SPM. N.Y. Pub. Health Law § 1399-pp, as amended, 2003 N.Y. Laws 666, eff. Oct. 15, 2003. The statutory amendment provides, in effect, that escrowed amounts formerly returned to NPMs would now be
B. Statistical Data
The payment obligations of the OPMs are stated in base amount in the MSA, but are adjusted according to several formulae which take market share and other factors into account. The payment obligations of the SPMs are based on their relative market shares and those of the OPMs. By contrast, the NPMs’ payments are a flat fee per cigarette sold. The contrast makes the various types of payments difficult to compare, leaving it open to question which manufacturers 'have, in practice, paid higher or lower amounts under the MSA, or whether any such differences are material. Statistical data provided by PriceWaterhouse Coopers, the independent auditor responsible for overseeing the calculations to be made pursuant to the MSA, show that payments per carton have been as follows:
Year OPM SPM Grandfathered 8 SPM Not Grandfathered NPM
1999 $3.92600 $0.48336 $2.02476 ' $2.01656
2000 $4.34052 $0.69332 $2.36810 $2.34180
2001 $5.15794 $1.15656 $3.13972 $3.12976
2002 $4.98840 $1.61918 $3.28210 $3.27330
2003 $4.16913 $1.83088 $3.97212 $3.96144
According to these figures, in any given year, the OPMs have had the highest per cigarette payment obligations, and the SPMs who have had the benefit of averaging their costs because of the benefits given to them under the grandfather clause, have had the lowest. NPMs’ payment obligations have been between these two poles. NPMs’ payment obligations have consistently been less than, although very close to, those of SPMs who did not have the benefit of the grandfather clause. 9
Plaintiffs also allege that NPMs’ escrow payments are taxed, while the MSA payments of PMs are tax deductible. In response, New York State (the “State”) submits an affidavit by Marvin Chirelstein, tax professor at Columbia Law School, who maintains that the NPMs’ payments could be structured as tax deductible, if the NPMs were willing to cede their rever-sionary and interest rights in those payments. The State supports this assertion with an affidavit by Todd Kerner, a New
Of equal importance to the volume of payments is their effect on, or reflection of, competition. According to the data provided by PriceWaterhouse, the volume of OPM sales has decreased since the signing of the MSA, from 455 billion cigarettes in 1998 to 344 billion cigarettes in 2003, a reduction of 24 percent. Prices charged by the OPMs increased during this period, not only to cover the cost of the settlement with the states, estimated at $.19 per pack, but by $.45 per pack when the MSA was signed in November 1998 and, including subsequent increases, by a total of $1.27 through April 2002. The average retail price of an OPM-manufactured pack of cigarettes was $1.49 per pack before the MSA was signed in November 1998 and $2.76 per pack in April 2002, an increase of over 85 percent.
As the volume of OPM sales fell between 1998 and 2003, the volume of SPM sales rose from 14.12 to 30.08 billion cigarettes, or 113 percent. The volume of NPM sales rose even more during this same period, from 2.43 to 33.31 billion cigarettes, or 1271 percent. The market share of the OPMs shrank over this time period from 96.5 % to 84.5 %. The market share of the SPMs grew from 3 % to 7.4 %, and the market share of the NPMs grew from 0.5 % to 8.2 %. The following chart reflects the shift in volume and market share from 1998 to 2003. 11
Year OPMs (billions; %) NPMs (billions; %) Total SPMs (billions; %)
1998 455.22 96.5% 14.12 2.43 0.5% 471.77 00 ^
1999 422.00 92.3% 18.00 17.10 3.7% 457.10 CO co
2000 401.49 91.4% 22.63 14.89 3.5% 439.01 Ol to
2001 388.31 89.4% 26.70 18.70 4.4% 05 to
2002 364.31 86.1% 30.67 28.20 6.7% -Cl to
7.5% 2004 (est.) 335 83.75% o o oo ^ ox CO OX CO o
The percentages of market shares among the OPMs have also changed, although not to as large an extent. In 1998, Brown & Williamson made 15.4 percent of total sales by OPMs. By 2003, that figure had declined to 11.5 percent, a loss of over 25 percent of its relative market share. Philip Morris gained commensurately; as a percentage of total OPM sales, its share rose from 50.5 percent in 1998 to 54.7 percent in 2003. The relative market shares of Lorillard and R.J. Reynolds, as percentages of total OPM sales, have remained relatively consistent since the MSA was signed. Lorillard’s relative market share has stayed between 9.4 percent and 10.8 percent. R.J. Reynolds’s relative market share has hovered between 23.5 percent and 25.1 percent.
The statistical trend of declining volume and market share on the part of the OPMs, and increasing volume and market share of NPMs, has been the subject of concern to the OPMs. In the months following the signing of the MSA, the OPMs’ share prices fell steeply, but the prices began rising in early 2000 and substantially recovered by early 2002. During 2002, in order to hold market share, the OPMs began offering a variety of promotions, including buy-two-get-one-free giveaways. In response, the OPMs’ stock prices once again began to decline. Philip Morris announced on September 26 and November 12, 2002 that it would not meet growth forecasts, and its share price fell further, declining from approximately $58 per share in June 2002 to under $30 per share in early 2003. R.J. Reynolds’s share price fell from over $70 per share to $27 per share in the same time period. Altria, which in 2002 became the new name of the parent company which was formerly Philip Morris, began the Business Review section of its 2002 Annual Report by listing “heightened competition” among the factors responsible for the weakened position of its domestic tobacco manufacturing subsidiary, Philip Morris USA:
The year was characterized by the convergence of several factors, including a weak economic environment and resulting consumer frugality, sharp increases in state excise taxes and heightened competition. Industry shipment volume in 2002 ... declined by 3.7 % to 391.4 billion units, while PM USA’s shipment volume declined 7.5 % to 191.6 billion units.
Altria explained, however, that it had “strategies in place” to ensure a stronger market position in the future, and in the Business Review section of its 2003 Annual Report, Altria described its strategies in more detail, including lobbying for
federal and state initiatives that are designed to provide governments with additional tools to ensure that cigarette manufacturers comply with their Master Settlement Agreement (MSA) payment obligations or the escrow deposit requirements of related state laws, that the availability of counterfeit cigarettes is significantly reduced, and that the illegal sale of cigarettes and non-payment of taxes are dealt with effectively. Significant progress has been made on many of these issues.
Prior to 2003, only eight states had passed Contraband Statutes; during 2003, thirty-one did. On March 20, 2003, West Virginia became the first state to repeal its Allocable Share Release provision and, by year’s end, eighteen states, including New York, had followed suit. The OPMs’ stock prices began to rise in May 2003, and have generally continued in the same direction
The record does not provide a satisfactory economic analysis as to the cause of the statistical trends which have seen OPMs’ market shares decline steadily since 1998, notwithstanding the enactment of Escrow and Contraband Statutes, and which have seen SPMs’ and NPMs’ market shares rise. The Court of Appeals, accepting the allegations of the complaint, ruled that the MSA created the constituent elements of a cartel,
Freedom Holdings I,
An explanation offered by the NPMs may be found in the workings of the Allo-cable Share Release provision. As explained above, the MSA allocates among the various settling states the moneys paid by PMs according to each state’s allocable share. MSA Art. 11(f), at 4; Exh. A. Under the Escrow Statute as initially enacted, see MSA Exh. T., N.Y. Pub. Health Law § 1399-pp (McKinney 2002), 1999 N.Y. Laws 536, eff. Nov. 27, 1999, an NPM could recover funds that it placed into escrow in a particular state to the extent that those funds exceeded the amount the state would receive from that manufacturer as its allocable share, had the manufacturer been an SPM. Thus, an NPM, by concentrating its distribution regionally, to just a few states, could recover a greater percentage of the total money it placed into escrow because those states were allowed to retain only their relatively small percentage shares.
In practical effect, the Allocable Share Release provision provided NPMs with substantial competitive advantages from concentrating their efforts on regional cigarette distribution. If an NPM distributed its cigarettes nationally, and its distribution patterns approximated those of the national market, its payment obligations on its national sales would be apportioned 100 percent among the settling states, with the result that something close to 100 percent of its payments would, in the aggregate, be retained under the Escrow Statute and not released under the Allocable Share Release provision. However, if an NPM were to concentrate its business to the New York — New Jersey — Connecticut area, for instance, it could gain a competitive advantage in that region, because it would make 100 % of its sales there and would be able to recoup the payments on all but roughly 16.5 % of them, these being approximately the percentage shares of those states. While the OPMs and SPMs would be required to continue 100
%
of their payments under the MSA, an NPM which focused on the New York metropolitan area could be exempt (aside from the time-value of its money between when it was escrowed and when it was released) to
The Declaration of Everett W. Gee III, submitted by plaintiffs, demonstrates this strategy. Gee, the Vice President and General Counsel to S & M Brands, Inc., a Virginia-based NPM, explained that his company was presented with the option of (1) signing the MSA, becoming an SPM, and reducing its ability to increase sales beyond their 1998 (or 125 % of their 1997) levels; or (2) not signing the MSA, “but remainfing] regional so as to avoid making payments on a national scale.... Thus, S & M gave up its dream to be national, settling into the MSA’s rules even as an NPM by remaining a regional presence.” By selling only in the Southeast, S & M was able to keep its prices lower and continue its growth within that regional market.
Plaintiffs allege that the repeal of the Allocable Share Release provision has halted this process. An NPM can effectively no longer recover funds it placed into escrow, except to pay a judgment or settlement against it, or after 25 years. See N.Y. Pub. Health Law § 1399-pp, as amended, 2003 N.Y. Laws 666, eff. Oct. 15, 2003. Thus, according to plaintiffs, the barriers against NPMs have been heightened dramatically, and the ability of an NPM to gain a competitive advantage within a regional market has been essentially arrested. However, no independent statistical information has been presented to confirm, or rebut, this thesis; the change in law is too recent.
C. Procedural Background
In April 2002, Freedom Holdings Inc. and International Tobacco Partners, Ltd., two cigarette importers who were not participants to the settlement, and who imported cigarettes from foreign manufacturers who were also not participants to the settlement, filed this lawsuit on behalf of themselves and others similarly situated. By their lawsuit, they sought to enjoin New York State from enforcing the MSA to the extent that it preserved the market domination of the OPMs amongst themselves and against others, and the statutes passed by the State to enforce the MSA against non-participating companies like plaintiffs. The State moved to dismiss, and I granted its motion. Relying on
Parker v. Brown,
The Court of Appeals reversed, holding that plaintiffs had alleged valid claims for relief as to their antitrust and equal protection counts, and remanded the case to me. Two of the three judges constituting the panel
13
held that the State had not
The Court of Appeals ruled that where a state statute restricts competition, the question whether the statute is preempted by the Sherman Act “is determined by a two-step analysis”:
The plaintiff must first show that the scheme of market control created by the statute would constitute a per se violation of the Sherman Act if brought about by an agreement among private parties .... Even if a per se violation is shown, the alleged anticompetitive scheme may still be immunized under the Parker state action doctrine ... if: (i) the restraint in question is “clearly articulated and affirmatively expressed as state policy” and (ii) the policy is “actively supervised” by the state itself.
Freedom Holdings I,
The alleged arrangement, even without the protection of the Contraband Statutes as enforced by wholesalers, would be a per se violation because it is a naked restraint on competition, albeit one subject to erosion by NPMs. With the Contraband Statutes in force, the scheme as alleged threatens to become a permanent, nationwide cartel.... We therefore hold that appellants have sufficiently alleged a per se violation of the Sherman Act.
Freedom Holdings I,
On the first of these two prongs, the Court of Appeals ruled that the action was in fact taken by the State, and it reduced the question to whether “the State’s policy goals are sufficient to qualify for the
Parker
immunity — simply protecting private parties from competition is not a sufficient goal.”
Id.
at 227. Reviewing the legislative history of the Escrow and Contraband Statutes, the Court of Appeals ruled that the State’s interest in protecting and enhancing the revenue it expected from the MSA animated the passage of the statutes far more than the conclusory rationale of protecting the public health.
Id.
at 227-31. Because, the Court of Appeals held, “the MSA requires the PMs to pay a fixed
Addressing whether the allegedly anti-competitive provisions are “actively supervised” by the State, the second prong of Midcal, the Court of Appeals held that they are not. Id. at 231. Finally, the Second Circuit rejected the State’s argument that the MSA reflected Noerr-Pen-nington rights, rights under the First Amendment to petition the state governments for relief. The Court of Appeals held that the First Amendment doctrine is irrelevant to the issues arising from the complaint. Id. at 233.
The Court of Appeals, with respect to all these rulings, emphasized that it was dealing with only the allegations of the complaint, and was assuming the truth of facts and conclusions alleged by the plaintiffs. 14
Judge Sack, concurring, agreed with the majority that the State had not satisfied the second Midcal prong, requiring the State’s active supervision of the anti-competitive features of the MSA, but differed with the majority as to the first Midcal prong. That prong, Judge Sack stated, “requires only that the state offer a clear articulation of a state policy to authorize anticompetitive conduct,” and “seems easily met here, or at least seems as though it would be capable of proof before the district court on remand.” Id. at 236. As Judge Sack put it, “The ‘clear articulation’ standard is not strict.” Id. Judge Sack thus expressed doubt that the majority should have impugned the State’s motivation for entering into the MSA, and questioned whether comparing the MSA’s payment provisions with a flat tax was appropriate. Id. at 238-39. He commented that since “this action is being returned to the district court for further proceedings ... the State may be able to satisfy both Midcal factors as a matter of fact.” Id. at 238.
Defendants petitioned the panel for reconsideration, but the Court of Appeals confirmed its rulings, in an opinion dated March 25, 2004. The State argued that “the complex market share arrangements of the MSA” were not anticompetitive, as the Court of Appeals had ruled, but “have no purpose other than to impose a flat levy per cigarette sold.”
Freedom Holdings II,
The Court of Appeals reaffirmed that the State’s policy goals failed to exempt it from antitrust liability. Parker v. Brown did not apply, the Court of Appeals held, because the State did not relate the anti-competitive features of the Escrow and Contraband Statutes to the legitimate State policies of protecting public health and forcing cigarette manufacturers to assume the costs of health care caused by their marketing and sale of cigarettes. As the Court of Appeals explained, the State “never states how the alleged market-sharing scheme furthers those goals. It simply denies that the market-sharing scheme is anticompetitive, leaving the purpose of this complex, carefully drafted set of rules an enigma.” Id. at 156.
Clarifying its earlier decision, the Court of Appeals allowed that Parker v. Brown might be satisfied even without the State’s articulation of how the MSA furthered legitimate State policies, so long as the State “actively supervised” the cartel created by the MSA. Referring to the requirement that the State articulate why the anticom-petitive features of the MSA express legitimate State policy as the “ancillary purpose” of the first prong of Midcal, Judge Winter stated, “the Parker analysis and the ancillary purpose of the Midcal prong are interchangeable,” and the “failure to meet the ancillary purpose test alone— where Parker was clearly satisfied ...— would not be enough to upset a statute.” Id. at 155. The holding of the Court of Appeals, Judge Winter stated, “expressly relied on the challenged scheme’s failure to meet the second Midcal prong,” the requirement of the State’s active supervision. Id. at 157. In so ruling, the Court of Appeals emphasized, it was deciding on a Rule 12 motion, and accepting the allegations of the complaint as if proved, without having ascertained if plaintiffs could actually prove the anticompetitive facts they alleged. 15 Thus, the Court of Appeals reversed my decision of May 14, 2002 and reinstated the complaint. Id. at 151.
Following remand, plaintiffs amended their complaint and moved for a preliminary injunction, seeking to enjoin New York State from enforcing the MSA, and the statutory enactments ancillary to the MSA, as respects Non-Participating Manufacturers and importers. Specifically, they seek to enjoin enforcement of the Escrow Statute, N.Y. Pub. Health Law § 1399-pp; the Contraband Statute, N.Y. Tax Law §§ 480-b, 481, 1846; and the recently amended Allocable Share Release provision, N.Y. Pub. Health Law § 1399-pp, as amended, 2003 N.Y. Laws 666, eff. Oct. 15, 2003. They argue that these laws enforce a cartel which has the purpose and effect of maximizing the OPMs’ profits and discouraging the sales of cigarettes by NPMs.
Plaintiffs argue that the MSA, and the ancillary statutory enactments, have created a cigarette cartel, well beyond any legitimate state interest. The MSA, they argue, provided for yearly adjustments of payments to the states according to percentage changes of market control, thus tending to reward market-share stability. Furthermore, the NPM Adjustment, by reducing payment obligations of OPMs corresponding to three times their losses of market share from sales gained by NPMs unless states enact and defend measures against NPMs, creates incentives to states to enforce the MSA against NPMs and deter competition from NPMs. As to contrary statistical trends, plaintiffs attribute the sales growth of NPMs to a certain slowness by the states in enforcing the MSA. The recent amendment by New York and most other participating states of the Allocable Share Release provision should, it is expected, reverse the secular trends and protect the market share of the PMs. Indeed, according to plaintiffs, insuring a continuing flow of money from PMs gives the states a strong incentive to enact ever more stringent laws to assure that the PMs’ market positions remain secured, protected by their settlements with the states.
I have carefully reviewed the record supporting, and opposing, plaintiffs’ motion for a preliminary injunction, and heard both sides in extended argument, spreading over two days. I hold that plaintiffs have shown neither a likelihood of success on the merits nor irreparable damage with respect to the MSA, the Escrow Statute, or the Contraband Statute sufficient to justify preliminary injunctive relief. However, the recent repeal of the Allocable Share Release provision threatens to jeopardize the ability of the NPMs to compete with the SPMs and OPMs, and thereby to cause them serious and irreparable injury. To that extent only, a preliminary injunction will be granted. Since this issue, and all others, will have to be fully explored at trial, my ruling will have the effect of preserving the competitive status quo until the trial and final judgment.
II. Discussion
A. Standard for Preliminary Injunction
Generally, “[preliminary injunctive relief is appropriate when a plaintiff estab
First, a heightened standard applies “where (i) an injunction will alter, rather than maintain, the status quo, or (ii) an injunction will provide the movant with substantially all the relief sought and that relief cannot be undone even if the defendant prevails at a trial on the merits.”
Tom Doherty Assocs., Inc. v. Saban Entertainment, Inc.,
A heightened standard is also appropriate “where the moving party seeks to stay governmental action taken in the public interest pursuant to a statutory or regulatory scheme.”
Plaza Health Laboratories, Inc. v. Perales,
Plaintiffs argue that the Clayton Act provides a less stringent standard, requiring a showing of only “threatened loss or damage.” 15 U.S.C. § 26 (covering any “violation of the antitrust laws”). But plaintiffs are mistaken. This provision eases the requirement of standing for suit under the antitrust laws, allowing suit for threatened rather than actual harm. It does not affect the standard for granting a preliminary injunction.
See Christian Schmidt Brewing Co. v. G. Heileman Brewing Co.,
B. Likelihood of Success on the Merits
In order to show a likelihood of success on the merits, plaintiffs must show, first, a likelihood that the MSA, Escrow Statute, Contraband Statute, and amended Alloca-ble Share Release provision establish a cartel constituting a per se violation of the federal antitrust laws,
see Freedom Holdings I,
1. Per Se Violation
The opinions of the Court of Appeals did not define what conduct constitutes a “per se violation” of the antitrust laws. The caselaw and literature suggest several strands of understanding, giving rise to different legal conclusions. Under one strand of understanding, the term could be shorthand for a category of cases where a court, instead of having again to consider alleged defenses that previous cases have rejected, might sweep away these failed justifications, shortcut the traditional “rule of reason” analysis, and peremptorily hold the conduct invalid. But the term also could be applied to hold an entire class of activities invalid per se, without even considering any justifications. In the instant case, upon the facts presented, it is unclear that the MSA and the challenged statutes amount to a per se restraint on competition.
The first strand of caselaw may be best viewed through the lengthy discussion of the per se rule found in
National Collegiate Athletic Ass’n v. Board of Regents,
The foremost treatise on antitrust law also observes that the per se and reasonableness approaches may be seen as a “single inquiry with varying presumptions.” VII Philip E. Areeda & Herbert Hovenkamp, Antitrust Law ¶ 1511, at 418 (2d ed.2003). As Professor Areeda explains it, the per se rule developed as “merely a special case of the rule of reason,” because it was an analysis that was “generalized for a class of behavior or for a class of claimed defenses” which could be analyzed similarly in almost all cases. Id. ¶ 1509a, at 396. In many instances, the behavior could be analyzed similarly because “the conceivable social benefits are few in principle, small in magnitude, speculative in occurrence, and always premised on the existence of price-fixing power that is likely to be exercised adversely to the public.” Id. at 400. For this reason, Professor Areeda states that the per se rule should be “carefully limited to 'naked’ restraints, which are restraints that lack redeeming social benefits.” Id. ¶ 1509c, at 403. Accordingly, “when legitimate objectives are served, conduct constituting price fixing in the lay sense is not defined as the ‘price fixing’ that is per se unlawful.” Id. ¶ 1511a, at 419.
In
California Dental Ass’n v. FTC,
Under this analysis of the per se rule applied to the facts of record, the plaintiffs have not shown a likelihood that the MSA and the challenged statutes constitute a per se violation of the Sherman Act. The record shows that the settlement between the states and the tobacco manufacturers
With all of these and the monetary provisions of the MSA, the court is confronted with a settlement that goes well beyond what could have been achieved in plaintiffs’ fondest dreams for the result after a protracted and risky trial, that excels over the [earlier] Minnesota settlement, and that painstakingly accommodates the public interest.
[T]he MSA [and a companion settlement, the Smokeless Tobacco Master Settlement Agreement] adequately protect the public interest ... [T]he economic and noneconomic benefits for New York State are substantial [and] are consistent with and advance the objectives of New York public policy as set forth in the amended complaint.
Id. at 567.
This evidence suggests that the MSA and the Escrow and Contraband Statutes were intended not as “naked restraints on trade,” as plaintiffs allege, but as restraints enacted for public health purposes. Under the reasoning of
NCAA
and Aree-da, these restrains should not be tested without considering their redeeming social benefits, and accordingly may not violate a rule of per se illegality without such evaluation.
See Freedom Holdings I,
The second strand of caselaw pays attention to the character of the restraint in question rather than to why it might be justified. This definition of “illegal per se” was articulated most concisely in Rice, where defendant challenged a California law regulating the importation of alcohol. The Court held that for a state statute to be considered a per se antitrust violation, it must mandate or authorize “conduct that necessarily constitutes a violation of the antitrust laws in all cases,” or place “irresistible pressure on a private party to violate the antitrust laws”:
[A] state statute, when considered in the abstract, may be condemned under the antitrust laws only if it mandates or authorizes conduct that necessarily constitutes a violation of the antitrust laws in all cases, or if it places irresistible pressure on a private party to violate the antitrust laws in order to comply with the statute. Such condemnation will follow under § 1 of the Sherman Act when the conduct contemplated by the statute is in all cases a per se violation. If the activity addressed by the statute does not fall into that category, and therefore must be analyzed under the rule of reason, the statute cannot be condemned in the abstract. Analysis under the rule of reason requires an examination of the circumstances underlying a particular economic practice, and therefore does not lend itself to a conclusion that a statute is facially inconsistent with federal antitrust laws.
Id.
at 661,
Horizontal price fixing and output limitation are ordinarily condemned as a matter of law under an “illegal per se” approach because the probability that these practices are anticompetitive is so high; a per se rule is applied when “the practice facially appears to be one that would always or almost always tend to restrict competition and decrease output.” Broadcast Music, Inc. v. Columbia Broadcasting System, Inc.,441 U.S. 1 , 19-20,99 S.Ct. 1551 ,60 L.Ed.2d 1 (1979). In such circumstances a restraint is presumed unreasonable without inquiry into the particular market context in which it is found.
Horizontal price fixing, output limitations, and market division are classic characteristics of a cartel. A cartel is defined as “[a] combination of producers or sellers that join together to control a product’s production or price.” Black’s Law Dictionary 206 (7th ed.1999). “Competing firms form a cartel when they replace independent decisions with an agreement on price, output, or related matters.” IIA Philip E. Areeda & Herbert Hovenkamp, Antitrust Law ¶ 405a, at 26 (2d ed.2002). A cartel is strongest when it controls a large market share or when it is supported by market-based or external enforcement mechanisms. See id. ¶ 405c, at 29. But even an ineffective cartel may be invalid:
[T]he cartel need not attain the profit-maximizing price or output to be profitable and socially harmful; indeed, even relatively poorly functioning cartels can be quite profitable. As a result, while many horizontal arrangements are beneficial and lawful, they generally receive the highest level of antitrust scrutiny.
The Second Circuit Court of Appeals quoted both
Rice, see Freedom Holdings I,
The question at hand is which strand of analysis of the per se rule to apply. Classically, arrangements among oligopolists and a state that reward price and output stability are considered socially harmful, and therefore invalid, without further consideration of redeeming social justifications.
See
15 U.S.C. § 1;
Fisher,
Cigarettes, however, are different from most other products, given the social ills caused by cigarette smoking and the perceived pernicious effects resulting from aggressive and extensive advertising and marketing of cigarettes. Classically, the public good is enhanced by free competition in pricing and vigorous and relatively unfettered advertising and marketing. Cheaper prices make goods more available, and drive free markets. But with respect to cigarettes, the public good can be furthered by higher prices and strong restraints on advertising and marketing, especially to young people. Higher prices and restrictions on advertising and marketing reduce the demand for cigarettes, lessening the injury to the public’s health. Plaintiffs do not contest that cigarettes may be legitimately the subject of state governmental regulation, and any antitrust analysis of the effects of such regulation cannot be performed without giving proper consideration to the social purposes that state governments propose to achieve by such regulation.
This trend in favor of recognizing competing policies in the antitrust arena should apply here, where the considerable public health policies regarding cigarettes militate in favor of decreased consumption, particularly by young people, even if higher prices cause that end to be served, and even if higher prices are often considered antithetical to the goals served by antitrust law. Classic antitrust analysis must take into consideration the right of states to seek to further other, and equally important, social goals, even at the expense of pure antitrust analysis.
See
John E. Lo-patka & William H. Page,
State Action and the Meaning of Agreement Under the Sherman Act: An Approach to Hybrid Restraints,
20 Yale. J. on Reg. 269, 313-16 (2003) (calling
Bedell
“[a] particularly troublesome case” because “[i]t is one thing to thwart a mandate that has little purpose other than to facilitate collusion, but it is another to inhibit a government from taking action that may sensibly serve a legitimate public interest, even if it may also create an environment favorable to tacit collusion”). It would thus seem that I should choose the first strand of per se analysis; in determining whether an anti
As discussed above, were I to choose this strand of per se analysis, I would find that plaintiffs have shown no likelihood of being able to prove a per se violation of the antitrust laws. The MSA had, as a principal goal, limiting the scope of advertising and marketing, particularly to young people, a goal that would be likely to result in fewer sales and higher prices. The substantial payments required of cigarette companies also would be likely to result in higher prices and fewer sales. The justifications behind the MSA and the related statutory enactments are substantial and, as the New York Supreme Court found,
State v. Philip Morris,
Ultimately, however, it may not matter which strand of per se analysis to apply. Even under the strand of per se analysis that limits the investigation to the nature of the restriction and discounts any consideration of potentially meritorious justifications, plaintiffs have not shown a likelihood that the MSA and the Escrow and Contraband Statutes constitute a per se violation of the Sherman Act. That is because the effects of the MSA and the Escrow and Contraband Statutes have proved not to be anticompetitive, as demonstrated by the sales and market share data compiled by PriceWaterhouse. Nor is it clear that the contested MSA and statutory provisions were intended and promulgated as market restrictions.
The proofs thus far presented in the record show that the MSA and the Escrow and Contraband Statutes have not demonstrably restricted the competitiveness of the NPMs. The record shows clearly that the NPMs have made substantial gains in volume and market share since the settlement was executed. Between 1998, when the MSA was executed, and 2003, NPM sales have increased from 2.43 billion to 33.31 billion cigarettes, for an increase in market share from 0.5
%
to 8.2 %. Their gains in market share have been taken mostly from the OPMs but also from the SPMs, and the SPMs also have taken market share from the OPMs. Sales by OPMs have declined over 110 billion, from 455.22 billion to 344.61 billion, for a decline of over 24
%
of sales by OPMs, resulting in a decline of 12 % of the OPMs’ market share. SPM sales have increased from 14.12 billion to 30.8 billion cigarettes, a substantial gain against the OPMs but a decline as measured against the NPMs. These facts are inconsistent with the alie-
A price fixing agreement is no less unlawful, however, if the parties to it fail to carry it out effectively. II Areeda & Ho-venkamp, Antitrust Law ¶ 405c, at 29. The Court of Appeals has also ruled that that the MSA, as alleged by plaintiffs and incorporated into the complaint, contains features of a cartel, and I must accept those rulings.
Freedom Holdings I,
Plaintiffs argue that the MSA and related statutory enactments establish a state-supported cartel; that the allocation of substantial payments among OPMs according to their relative market share, with adjustments that vary directly with their sales volume, provides a disincentive to gain market share at each other’s expense and an incentive to increase their prices, rather than their output, as the way to maximize their profits. Thus, as plaintiffs argue, the OPMs have been increasing their prices even beyond that necessary to recoup their payments to the states, while experiencing decreased sales volume and market share. 16
The MSA enables the OPMs to pay large sums to the states, and to continue paying large sums annually, by financing payments from future sales of cigarettes. The cigarette companies that signed the MSA presumably expected that they would be able to increase their prices to gain the extra revenue that would enable them to make the large payments due each year to the states. Since, in a normal market, companies without such burden could undersell the OPMs and eventually jeopardize the revenue stream upon which the states settled with the major cigarette companies, the MSA, in order to remain effective, had to protect the revenue stream due from the OPMs by creating an equivalent cost structure applicable to non-signatories.
The MSA accomplished that objective in two ways. First, manufacturers and importers of cigarettes who agreed to become signatories of the MSA within a sixty day period after the OPMs had executed the agreement gained an exemption from paying anything to the states to the extent their future annual sales remained at or below either 125 percent of their 1997 sales, or their 1998 sales, whichever sales level was higher; those SPMs also agreed to pay disproportionately greater amounts to the states than the OPMs to the extent their future sales exceeded those base lev
As to manufacturers and importers who did not join the MSA, the MSA provided the states with a strong incentive to enact measures to deter them from seeking a free ride based on a cost structure not including substantial, contractually required payments to the states. If PMs suffered a loss of sales and market share to the NPMs because of “disadvantages experienced as a result of the [MSA],” MSA Art. IX(d)(l)(C), the states would become subject to a trebled reduction in income from the PMs unless they passed and “diligently enforced” the Escrow Statute. MSA Art. IX(d)(2)(B). The states accordingly enacted the Escrow Statutes, requiring NPMs to make payments to the states based on their volume of sales. MSA Art. IX(d)(2)(B), (E), Exh. T. NPMs, not having become signatories to the MSA within the sixty-day period provided, are not granted an exempt base of sales, as are grandfathered SPMs, and thus are not benefited by the reduced, average cost base that SPMs enjoy. Furthermore, NPMs’ escrow payments, because they are reversionary annually for interest accumulations and excess contributions, and re-versionary after 25 years if states fail to sue or settle with them for having incurred expense because of injuries to the public health caused by cigarette smoking, are not tax deductible, as are the payments made to the states under the MSA by OPMs and SPMs.
The MSA provides a strong incentive for the states to “diligently enforce[ ]” the Escrow Statutes. MSA Art. IX(d)(2)(B). When the Escrow Statutes appeared not to be sufficiently effective, the states enacted Contraband Statutes. These used the tax stamp practices of the states to assure that manufacturers and importers complied with the Escrow Statutes, for if they failed to bring themselves within its payment obligations, they would not be issued tax stamps and their cigarettes would be considered “contraband” if sold or distributed within the affected state. However, the Contraband Statutes appeared not to be any more effective than the Escrow Statutes, as the statistics of growing sales and market share of the NPMs, set out above, clearly show. One stratagem employed by the NPMs became the subject of the next enactment, the amendment of the Alloca-ble Share Release provision, enacted by thirty states, including, on October 15, 2003, by New York. NPMs that distributed cigarettes to only a few states paid their per-cigarette tax directly to the states in which they made sales, satisfying the Escrow and Contraband Statutes. But these states could retain only their allocable shares of the aggregate payments made by the NPMs; the balance had to be returned annually to the NPMs under the Allocable Share Release provisions as initially enacted. As a result, it appears that the NPMs continued to have a competitive advantage in comparison to the cost burdens of the OPMs and SPMs. The Allocable Share Release provisions were amended in order to limit the NPMs’ ability to arbitrage the allocation relationships among the states,
The many critics of the MSA contend that it creates a state-protected cartel. See Margaret A. Little, A Most Dangerous Indiscretion: The Legal, Economic, and Political Legacy of the Governments’ Tobacco Litigation, 33 Conn. L.Rev. 1143, 1171 (2001). They accuse the states of countenancing high prices to enable the OPMs to finance the substantial amounts they undertook to pay to the states, and of protecting the market shares of the OPMs at 1997 or 1998 levels by enacting Escrow Statutes, followed by Contraband Statutes, followed by amendments to the Allocable Share Release provisions. As Little states:
Economists and legal analysts have written extensively on the anticompetitive effects of the MSA and the four state settlements. They have leveled pointed criticisms at the provisions of the MSA that create high barriers to entry, that entrench the current market shares of the settling tobacco companies, and that eliminate price competition and facilitate price fixing among the settling tobacco companies.... The consensus of the academic commentators who have analyzed the MSA and the four separate settlement agreements is that they pose serious antitrust concerns and are anti-competitive in their effects.
Little, A Most Dangerous Indiscretion, 33 Conn. L.Rev. at 1173-74. The Court of Appeals agreed with these observations.
The State takes issue with plaintiffs’ assertions that the payment provisions of the MSA are anticompetitive, arguing instead that they are neutral and serve legitimate state interests. Apportioning payments obligations among OPMs represents a fair way to divide the burden and to reflect changes in relative volume of annual cigarette sales; of greater relevance, apportionment among OPMs is an internal matter which does not affect the ability of NPMs to compete in any material way. Likewise, the Volume Adjustment is a means of advancing the goal of reduced cigarette sales; it rewards decreasing sales and punishes increases. The granting of exemptions for SPM payments, if market positions did not grow from 1997 or 1998 levels, and disproportionately higher payments obligations if and to the extent SPMs gained market share above those levels, provided an incentive to SPMs to join the MSA and be bound by its restrictions, but limited or removed those cost benefits to the extent SPMs sought to take advantage of them and gain a competitive edge through the incentives provided by the MSA.
See
Lopatka & Page,
State Action and the Meaning of Agreement.,
Noting the dictum of the Court of Appeals that a flat tax on cigarettes would not raise antitrust concerns,
Freedom Holdings I,
Faced with these competing explanations of the intrinsic nature of the MSA and the Escrow and Contraband Statutes, I cannot accept plaintiffs’ arguments at face value without supporting evidence, at least not in connection with a motion for a preliminary injunction.
See
Lopatka & Page,
State Action and the Meaning of Agreement,
It is true that NPM escrow payments are higher per cigarette sold than payments made by SPMs averaged down by the basis of 1997 or 1998 levels provided by the grandfather clause. A comparison of average costs, however, is not necessarily relevant. Jonathan Gruber, an MIT economist who submitted an affidavit on the State’s behalf, teaches that marginal costs, not average costs, drive manufacturers’ decision regarding how to price their products and how many cigarettes to sell. Manufacturers have an incentive to continue producing so long as the marginal costs incurred in making an additional sale are less than the revenue anticipated from that sale. Additional sales will be profitable up to that point, and accordingly, price and output levels are determined by costs on the margin, rather than by average costs. Grandfathered SPMs have lower average costs, but for all sales beyond their base levels (the number of sales which meets their 1998 or 125 % of their 1997 market shares), their marginal costs stemming from the MSA will continually rise' — and at a higher rate than the marginal costs of NPMs stemming from the Escrow Statutes. NPMs, which pay a flat fee, will maintain the same MSA-derived marginal costs throughout their production. There was no proof that the pricing structure of the NPM payments yields a disadvantage, vis-a-vis the grandfathered SPMs, that would deter them from continuing to produce and promote their products. Instead, the increased marginal costs to the SPMs above the grandfathered levels can be viewed as a means of recouping those funds which were lost to the states through the grandfather provision.
The NPMs also argue that their payments suffer in comparison with those of all PMs because their payments are not tax deductible, while those of the PMs are. This fact, however, cannot by itself conclusively show that the NPMs suffer a com
Accordingly, plaintiffs have failed to show a likelihood that the MSA, or the Escrow or Contraband Statutes, constitute per se violations of the antitrust laws. Even were I to select the strand of per se analysis that looks to the nature of the restriction and not to its justifications, there is no indication from the evidence that the challenged provisions of the MSA and the Escrow and Contraband Statutes have the effect of stifling competition, or that they are facially anticompetitive. 18 I therefore hold that plaintiffs have failed to establish a likelihood of success that the MSA and the statutes enacted pursuant to it constitute a per se violation of the Sherman Act.
I hold to this effect with respect to both the Escrow and Contraband Statutes. However, the October 15, 2003 amendment to the New York Allocable Share Release provision presents a different set of considerations. Each state, under the MSA, can retain only an agreed percentage of an NPM’s aggregate contributions and must return any excess to the contributor. The states thus have agreed that the net escrow thus provided is sufficient to secure them against that manufacturer’s or importer’s eventual liability for a cigarette-based lawsuit. Any excess that the states wish to retain is, by the MSA’s definition, surplus to their needs, and discriminatory against the NPMs, intended only to discourage the NPMs’ competitive practices. On the record as it currently stands, the states have not shown any legitimate need to enact the Allocable Share Release provisions, except to give more aid and comfort to the OPMs than they should have to redress competitive disadvantage imposed by the MSA. Indeed, the State has failed to elicit any justification whatsoever for its passage of the amendment to the Allocable Share Release provision, stating only that the amendment is inconsequential because the provision had never been invoked. It appears from the record—including the fact that the repeals of the Allocable Share Release provision began occurring shortly after the OPMs fixed on them as lobbying goals, as reflected in their corporate literature—that the states passed these amend
2. Parker v. Brown
The Court of Appeals accepted plaintiffs’ complaint as validly alleging that the MSA and ancillary statutes constituted a per se violation of the antitrust laws, and, assuming the truth of that allegation, proceeded to address whether they should be exempted from liability under the doctrine of
Parker v. Brown.
I assume, for the purposes of this section, that the MSA and ancillary statutory enactments constitute a per se antitrust violation, and I turn to consider, under
Parker v. Brown,
whether “(i) the restraint in question is ‘clearly articulated and affirmatively expressed as state policy,’ and [whether] (ii) the policy is ‘actively supervised’ by the state itself.”
Freedom Holdings I,
In his rulings, Judge Winter elaborated that the restraint had to be not only “an express act of the state,” a requirement that the State had met, but the State’s purposes in agreeing to, and enforcing, the restraint had also to be “reveal[ed]” and shown to have a valid nexus to the restraint imposed.
Freedom Holdings II,
On the basis of the factual record presented to me, I now find that plaintiffs have not demonstrated a likelihood of success in showing either that the State has failed to reveal its underlying policies or that the State has failed to supervise actively the effects of its enactments. The several states, New York among them, settled with the four leading cigarette companies on the basis of the complaint they brought against them. As described earlier, the states sought substantial equitable and legal relief against the cigarette companies: compelling them to pay large sums to compensate for causing major injury to the public health and, by various measures, dampening future demand for cigarettes and restricting the cigarette companies’ marketing and distribution strategies and behavior.
See New York v. Philip Morris,
As for the issue of “active supervision,” the Court of Appeals observed:
We are directed to no mechanism in the MSA or any of the related legislation whereby New York may “review[ ] the reasonableness” of the pricing decisions of tobacco manufacturers. Midcal, 445 U.S. at 105,100 S.Ct. 937 . Nor is there provision for New York to “monitor market conditions or engage in any ‘pointed reexamination’ of the program.” Id. at 106,100 S.Ct. 937 . The PMs are therefore free to charge the profit maximizing price, the classic monopoly result.
Id. at 231.
New York State takes issue with these observations. The MSA provides a mechanism of monitoring: careful and reliable collection of statistical information by a nationally recognized firm of certified public accountants, for review by the states, the public, and actual and potential competitors, like plaintiffs. The statistical information shows, very clearly, that the MSA and the Escrow and Contraband Statutes have not had anticompetitive effects, and so long as that remains true, a careful collection and review of the data is all the supervision that is necessary to check any undue anticompetitiveness, and thus all that can be demanded by the law.
The statistical data show, as has been noted above, that the NPMs have successfully gained market share during the life of the MSA. Moreover, the data show that the demand curves for cigarettes are not inelastic, as plaintiffs alleged, but price-sensitive. Further, the NPMs’ payment structure is not tied to that of the PMs or to their market share, and, contrary to plaintiffs’ allegations, their incremental costs do not rise with their volume of sales, and they are not in any manner obliged to increase their prices in lock-step with the OPMs. In consequence, the price increases charged by the OPMs to finance their payment obligations to the states have caused them to lose substantial market share to the NPMs. That is, price increases have resulted in reduced sales, followed by additional price increases to compensate for lost sales, resulting in even more lost sales. The NPMs have succeeded to take away market share from the PMs, and not even the Escrow and the Contraband Statutes have succeeded in reversing the trend.
Because the State has closely tracked the competitive effects of the MSA and found no anticompetitive impact, no further active supervision is necessary. Further, the market dynamics created by the MSA have been the equivalent of “active supervision.” As long as the NPMs can compete, the dangers of cartelization are checked. Even assuming that the MSA does enable a cartel, the
Parker v. Brown
exemption should apply, for the State has articulated its policies for the MSA explicitly in its underlying complaint, the terms of the MSA are appropriately tied to those policies, and the State remains poised through watchful statistical collection to correct undue restraints. Indeed, the New York Attorney General recently pressed claims to enforce the provisions of the MSA restricting cigarette companies from marketing cigarettes to youthful populations. And SPMs have recently sued the State because of its failures to enforce protective (and, presumably, anticompeti-tive) measures desired by the SPMs.
See
Plaintiffs have not shown a likelihood of success of being able to prove their allegations that the PMs have gained the ability to raise prices without losing market share, or that the Escrow and Contraband Statutes were passed for a discriminatory purpose, rather than to prevent NPMs from undermining the settlement and the public health purposes that the settlement was intended to serve. The Escrow and Contraband Statutes have prevented NPMs from free-riding on the payments required of OPMs and SPMs, by requiring NPMs to set aside proportionately equivalent funds to assure the states compensation will be available to them for injuries to the public that the NPMs are causing and will continue to cause by selling and distributing cigarettes within the settling states.
That is not the case, however, with respect to the recent repeal by the State of the Allocable Share Release provision, applicable to NPMs. As explained above, no compelling case has been advanced by the State showing a need for this enactment. The only purpose appears to be a desire to accommodate the PMs, and to protect them unduly against competition from the NPMs. Moreover, no nexus has been shown between protecting the health goals of the MSA and restricting the terms on which escrowed funds can be released. Plaintiffs have shown a likelihood that Parker v. Brown, does not exempt the repeal of the Allocable Share Release provision of the Escrow Statute.
C. Irreparable Injury
Plaintiffs contend that they are irreparably . harmed by the alleged cartel, which erects high barriers against entry into the cigarette market in New York State. Even if they did enter the New York market, plaintiffs assert, they would be penalized for any increase in market share, so that the Escrow and Contraband Statutes would effectively keep their market share minimized. Plaintiffs allege that by exacting penalties on sales by SPMs and NPMs which represent an increase in market share, the output cartel established by the MSA and the related statutes allows the OPMs to set cigarette prices at the levels of their choosing and requires SPMs and NPMs to follow suit. According to plaintiffs, this scheme effectively fortifies the market position of the OPMs, and requires SPMs and NPMs to .resign themselves to accepting smaller market positions.
I initially take care to circumscribe the issue on this prong of the motion for preliminary injunction. In searching for irreparable harm, the existence of a cartel is irrelevant; the question instead is what ongoing damages plaintiffs have suffered and are likely to suffer because of the alleged cartel. Further, damages which can be remedied at the close of trial are definitionally not irreparable.
See Great Earth,
Many provisions of the MSA have no bearing whatever on the NPMs’ market share, and thus are not suitable subjects of a preliminary injunction. The payment structure for OPMs and SPMs, by themselves, are irrelevant as regards the NPMs. The allocation of payments among PMs, as well, has no bearing on NPM sales or market share. Although the OPM payments are adjusted based on volume, there is no indication that such an adjustment impacts NPMs’ ability to gain market share. The payment aspects of the NPM Adjustment similarly do not impact NPMs, since the NPM Adjustment is effectively blocked by the universal passage of Escrow Statutes. If the NPM Adjustment affects the competitiveness of NPMs, it is in the incentives to the states to pass Escrow and Contraband Statutes, not in the NPM Adjustment’s payment provisions standing alone.
The grandfather clause, by decreasing the payment obligations and therefore also the production costs of grandfathered SPMs, appears to give a competitive advantage to the SPMs against the NPMs, and perhaps to impact negatively the competitiveness of NPMs. This disadvantage may not constitute irreparable harm, however. As explained by the State’s expert, because manufacturers and distributors make production and pricing decisions based on incremental costs rather than on average costs, incremental costs are the more important measure of competitive effect. And because the SPMs’ incremental costs are higher — they must pay an increasingly high percentage as their market share rises above grandfathered levels,
see Freedom Holdings II,
Plaintiff faces another, more crucial problem in demonstrating irreparable harm: the evidence shows no adverse impact on NPMs’ market share stemming
from
the MSA or the Escrow or Contraband Statutes. Instead, the statistical evidence shows, and plaintiffs acknowledge, that the SPMs and NPMs have in fact gained market share over the life of the MSA, in comparison with the OPMs, who have lost market share. Further, the data show, and plaintiffs acknowledge, that the NPMs have gained market share more rapidly and to a larger extent than the SPMs. As such, it is difficult to see how the NPMs have been irreparably harmed
The Court of Appeals was aware of this issue, and, in 12(b)(6) posture, accepted plaintiffs’ explanation for it. As Judge Winter explained it, the OPMs suffered a loss in market share because of “difficulties in enforcing the Escrow Statute, in particular against foreign manufacturers.”
Freedom Holdings I,
If this explanation were accurate, however, the market shares of the SPMs and OPMs would have leveled off or declined beginning with the passage of the Contraband Statutes on December 28, 2001. Yet the evidence shows, and plaintiffs acknowledge, that the reverse continued to happen; SPMs, and even more prominently NPMs, continued to gain market share, to the detriment of the OPMs. The evidence thus belies not only plaintiffs’ allegations, but also their interpretation of the facts.
At oral argument on the present motion, plaintiffs again alleged that the State had “turned the corner.” Tr. June 2, 2004, at 26. Plaintiffs argued that the repeal of the Allocable Share Release provision would force NPMs into submission; that from the date of the repeal onward, the cartel would be fully and firmly established; and that plaintiffs and all others would find it impossible to gain market share in New York, and presumably in the other twenty-nine states which have repealed that provision.
Before I analyze that claim, I note its significance. Plaintiffs filed suit in 2002, alleging that the cartel was already firmly in place and the barriers to their entry into the New York market were already prohibitive. As defendants observed at oral argument, plaintiffs now are essentially admitting that the evidence, as of the time they filed suit, was insufficient to sustain their claim, and they are asking me now to focus not so much on the evidence relating to the prior enactments, as on the evidence since October 15, 2003, the effective date of the repeal of the Allocable Share Release provision, and on what may be likely in the future. In effect, plaintiffs concede that the passage of the Escrow and Contraband Statutes did not sufficiently cause them to lose market share. Indeed, the statistics of sales and market shares collected by PriceWaterhouse require that concession. Plaintiffs thus concede, as the facts of record require, that they are not able to prove a likelihood of irreparable injury, except for speculation what the future might bring. I thus decline to grant a preliminary injunction, enjoining enforcement of the Escrow and Contraband Statutes, or the MSA. I now turn to analyzing the repeal of the Alloca-ble Share Release provision.
As explained above, the repeal of the Allocable Share Release provision, N.Y. Pub. Health Law § 1399-pp, as amended, 2003 N.Y. Laws 666, eff. Oct. 15, 2003, took away the NPMs’ reversion-ary right to escrow payments beyond the rights or needs of particular states, and provided a windfall to those states. The repeal discriminated against NPMs and served to deter them from competing in local and regional markets, where they otherwise could have concentrated costly marketing and distribution expenses, minimized their payments to the states, and competed effectively against the cigarette majors. Thus the barriers against NPMs have been heightened dramatically by the
This evidence suggests, therefore, that plaintiffs, and other NPMs on whose behalf they also bring suit, are likely to be caused — and in some cases appear already to have been caused — irreparable injury stemming from the repeal of the Allocable Share Release provision. The evidence is, undoubtedly, still preliminary. Most of the affidavits regarding the economic impact of the repeal of the Allocable Share Release provision came into the record on supplemental briefing, and as such have not been subjected to testing or to a full opportunity for the State to oppose them. The State thus may yet defeat any requested permanent injunction. Nonetheless, plaintiffs have adequately shown a likelihood of irreparable harm from the repeal of the Allocable Share Release provision. In the absence of adequate state justifications for repeal, other than to defer to the OPMs and discriminate against the NPMs, I hold that plaintiffs have made a sufficient showing of irreparable injury with regard to the repeal of the Allocable Share Release provision, and I grant plaintiffs’ motion to enjoin enforcement of the repeal.
III. Conclusion
I find that plaintiffs have demonstrated neither a likelihood of success on the merits nor irreparable harm with regards to the MSA, the Escrow Statute, and the Contraband Statute. I thus deny plaintiffs’ motion for preliminary injunction inasmuch as it is directed against these provisions. I find, however, that plaintiffs have made a showing of likelihood of success and of irreparable harm as regards the repeal of the Allocable Share Release provision. Accordingly, to that extent, plaintiffs have satisfied the requirements for, and I accordingly grant, a preliminary injunction, enjoining the amended'version of N.Y. Pub. Health Law § 1399-pp, as amended, 2003 N.Y. Laws 666, eff. Oct. 15, 2003.
The parties shall appear before me on October 4, 2004, at 4:00 p.m. for a status conference, to discuss the status of the pending motion for summary judgment and future proceedings.
SO ORDERED.
Notes
. One set of payments was to be made immediately after the MSA was executed and annually thereafter, on January 10, from 2000 through 2003. These base payments totaled $12,741,925,944. MSA Art. IX(b). The second set of payments was to be made annually "[o]n April 15, 2000 and on April 15 of each year thereafter in perpetuity,” increasing from $4.5 billion in 2000 to $9 billion annually beginning in 2018. The second set of payments totals $207.89 billion between 2000 and 2025. MSA Art. IX(c)(l). The third set
.The 2% disproportion seems to mitigate slightly an aggregate decrease in payments to the states. Any decrease in payments under the Volume Adjustment is subject to reduction — that is, the OPMs' payments are adjusted downwards somewhat less, according to a complex formula — if the aggregate operating income of the OPMs from yearly sales of cigarettes in and to the Unitéd States exceeds $7.195 billion (adjusted upward for inflation). MSA Art. Il(aaa), Exh. E(B)(ii).
. All payment calculations in the MSA are made on the basis of statistical data of the previous year. Thus the payments due on April 15, 2004, for instance, are based on audited and certified manufacturers' 2003 statistics regarding volume of sales, percentage of market share, and the like. See, e.g., MSA Art. II(mm), Exh. E(C).
. For non-grandfathered SPMs, 1997 and 1998 market share are defined as zero, so that
. The NPM Adjustment applies to the second and third sets of OPM payments, which account for all but $12.74 billion of the OPMs’ aggregate payments. MSA Art. IX(c)(l), (2). The NPM Adjustment also applies to SPM payments. MSA Art. IX(i)(3).
. If a state enacts and fully defends the model escrow statute, but it is invalidated by a court, the state may still avoid 65% of the NPM Adjustment. MSA Art. IX(d)(2)(F).
. The escrow payment was $.0094241 per cigarette, or $1.88482 per carton, in 1999, and it rises to $.0188482 per cigarette, or $3.76964 per carton, beginning in 2007. MSA Exh. T; N.Y. Pub. Health Law § 1399-pp(2)(a)(i), (v). A pack contains twenty cigarettes and a carton contains ten packs, so that a carton equals 200 cigarettes.
. This figure represents the average of cigarettes sold without payment, pursuant to the grandfather clause and cigarettes sold with payments of increasing proportions for sales above grandfathered levels.
. Because the Escrow Statute required NPMs to pay a stated amount per cigarette sold, the figures for payments per carton should, in theory, be strict multiples of the figures for payments per cigarette provided by the Escrow Statute. For instance, the Escrow Statute provides that in 2003, NPMs pay $.0167539 per cigarette sold; because there are 200 cigarettes in a carton, one would expect that the figure for NPM payments per carton should be $3.35078. The figures provided by PriceWaterhouse for NPM payments per carton, per year, are somewhat higher: $3.96144 per carton for 2003, for example. Presumably the difference stems from the Escrow Statute's requirement that its figures be adjusted for inflation. See N.Y. Pub. Health Law § 1399-pp(2)(a). Neither party presented arguments regarding this point.
. Jeffrey Avo Uvezian, the President of plaintiff International Tobacco Partners, Ltd. (“ITP”), states that his company imports Grand Tobacco cigarettes, which had an escrow obligation to Hawaii of less than ten dollars and does not intend to sell more cigarettes in that state. "To avoid the time and expense of opening an escrow account and maintaining it for 25 years for about ten dollars, ITP ... offered to pay the amount due directly to Hawaii.... No matter how we proposed to structure the transaction, [Hawaii] refused to accept the money, stating that ... the only way for ITP to fulfill its obligation was for ITP to sign an escrow agreement, establish the required sub-account, name a registered agent, and hold the money for 25 years.”
. This data was provided by plaintiffs and attributed to PriceWaterhouse. The figures have been rounded. The State provided figures attached to the Declaration of Patricia Tilton, a principal at PriceWaterhouse. The figures attached to the Tilton Declaration are similar to those above, with slight and generally inconsequential variations. An exception is the figures for 2001, when a different categorization altered the market size by 15 billion cigarettes. The figures used here give a more accurate picture of the 2001 market, and are otherwise closely enough confirmed by the Tilton Declaration figures that I accept them as reliable.
. Because New York's allocable share is high, plaintiffs explain, many NPMs avoided selling cigarettes in New York and decided to sell instead elsewhere in the country, where they could recover a higher percentage of their escrow payments. For instance, plaintiff International Tobacco Partners, Ltd. ("ITP”) has sold no cigarettes in New York since before 2000, but sold approximately 23 million Tough Guy cigarettes and 61 million Boston cigarettes in Kentucky in 2002, and 38 million Tough Guys and 44 million Boston cigarettes in 2003. ITP made escrow deposits for both Tough Guys and Bostons sold in Kentucky in 2003; because Kentucky’s alloca-ble share is 1.7611586%, ITP could recover over 98% of the escrow payments it made on sales in Kentucky. Logically and arithmetically, however, an NPM could just as effectively concentrate its distribution into the New York market, with its large smoking population, and gain regional competitive advantage in this market.
. Judge Ralph K. Winter wrote the decision on behalf of Judge Sonia Sotomayor and himself.
.
See, e.g.,
.
See, e.g.,
. A manufacturer, suffering an increase of costs, will normally wish to raise prices even more than necessary to recoup costs, in order to maintain desired profit margins and to compensate for reduced sales volume at the higher price level. The MSA provides, in such event, that the manufacturer’s profits may prevent it from being entitled to the discount to the extent otherwise available for reduced sales volume. MSA Exh. E(b)(ii) reduces the OPMs' benefit from the Volume Adjustment if their income rises while volume of sales falls. However, the clause provides for only a percentage decrease in the Volume Adjustment, and it is possible, therefore, that OPMs may still increase their profits from price increases, even if they result in lower sales. The proofs did not treat this issue.
. The formula of increase is provided in MSA Art. IX(i)(2).
Freedom Holdings II,
. To the extent that any payment whatever could be seen as raising prices and restricting output, the Court of Appeals has laid such arguments to rest by ruling that a flat tax would be permissible, and such payments do not constitute per se violations of the antitrust laws because they are substantially justified by the public health gains which they advance.
Freedom Holdings I,
. I do not intend any implication regarding the State's exposure to a monetary judgment in an antitrust case under the Eleventh Amendment.
See, e.g., Bd. of Trustees of Univ.