FREEDOM HOLDINGS INC., d/b/а North American Trading Company, and International Tobacco Partners, Ltd., on behalf of themselves and all others similarly situated, Plaintiffs-Appellants,
v.
Eliot SPITZER, in his official capacity as Attorney General of the State of New York, and Arthur J. Roth, in his official capacity as Commissioner of Taxation and Finance of the State of New York, Defendants-Appellees.
Docket No. 02-7492.
United States Court of Appeals, Second Circuit.
Petition for Rehearing Filed: January 30, 2004.
Decided: March 25, 2004.
COPYRIGHT MATERIAL OMITTED David F. Dobbins, Patterson, Belknap, Webb & Tyler, LLP, New York, New York, for Plaintiffs-Appellants.
Avi Schick, Deputy Counsel to the Attorney General of the State of New York (Eliot Spitzer, Attorney General of the State of New York, Michael S. Belohlavek, Deputy Solicitor General of the State of New York, Daniel Schulze, Assistant Attorney General of the State of New York, of counsel), New York, New York, for Defendants-Appellees.
Before: WINTER, SACK, and SOTOMAYOR, Circuit Judges.
ON PETITION FOR REHEARING BY THE PANEL
WINTER, Circuit Judge.
Appellees Eliot Spitzer and Arthur Roth (collectively "the state") petition the panel for rehearing to reconsider its decision in Freedom Holdings v. Spitzer,
The district court dismissed the complaint under Rule 12(b)(6), and we therefore accept as true the material facts alleged in the complaint and draw all reasonable inferences in the plaintiffs' favor. Hernandez v. Coughlin,
I. The Complaint Adequately Alleges that the MSA and the Challenged Statutes Give the OPMs De Facto Price-Setting and Market-Sharing Authority
The complaint alleges that the Challenged Statutes, in conjunction with the MSA, give the OPMs power to set prices and share markets in the tobacco industry. See
However, the petition for rehearing argues that the terms of the MSA show the complaint's allegations to be incorrect and that neither SPMs nor OPMs are deterred from engaging in price competition by substantial cost increases required by the MSA for increases in market share, amоunting to penalties. In essence, it argues that the complex market share arrangements of the MSA have no purpose other than to impose a flat levy per cigarette sold and are essentially a superfluous maze leading to a result that could have been achieved in a simple, straight-forward manner. Construing the complaint's allegations most favorably to the plaintiffs, we disagree.
According to the complaint, the function оf the Escrow Statute is to coerce NPMs to join the MSA because the costs of compliance with the Escrow Statute are substantially higher than the costs of being an SPM. The plaintiffs allege that the costs of compliance with the Escrow Statute are higher than the costs of joining the MSA because the escrow payments are not tax deductible, unlike MSA payments by PMs. The state has ignored the allegation of taxation effects in the petition fоr rehearing, reason enough for us to deny the petition.
The state further claims that the costs of compliance with the MSA as an SPM and the costs of compliance with the Escrow Statute as an NPM are the same — 2-cents-per-cigarette. Petition at 14 n. 4. Compliance with the Escrow Statute does cost slightly less than 2-cents-per-cigarette, N.Y. Pub. Health Law § 1399-pp(2)(a), but there is no support in the MSA or in the complaint for the claim that SPMs pay 2-cents-per-cigarette. The MSA provides that an SPM "shall have payment obligations under [the MSA] only in the event that its Market Share in any calendar year exceeds the greater of (1) its 1998 Market Share or (2) 125 percent of its 1997 Market Share." MSA IX(i)(1). Thus, with one qualification, we must at this stage view the costs of complying with the Escrow Statute as higher than the costs of becoming an SPM and maintaining market share.
The qualification concerns the MSA's definition of 1997 and 1998 market share. Any manufаcturer that becomes an SPM more than sixty days after the MSA execution date is considered to have had zero market share in 1997 and 1998. MSA IX(i)(4). Thus, such SPMs must make all of the annual payments made by OPMs according to their market share — though they are not required to make any of the initial payments required of the OPMs. MSA IX(i)(1). There is no indication in anything before us that these payments amount to 2-cents-per-cigarette.
The alleged result regarding the scheme's effect оn manufacturers and their decisions to join or not join the MSA is that: (i) NPMs pay more in escrow payments than SPMs, partially due to tax considerations; (ii) SPMs that join more than 60 days after the MSA execution date make annual payments based on their market shares, just like OPMs; and (iii) SPMs that join within 60 days of the execution date pay nothing, unless their market shares increase above 1998 (or 125% of 1997) levels. Obviously, if these allegations are true, a manufacturer would prefer to be in group (iii) over group (ii) and group (ii) over group (i), and the scheme is allegedly coercive for this reason. It is also notable that the time limit for joining group (iii) was only sixty days — arguably not enough time to allow a cigarette manufacturer to evaluate its options in light of actual experience under the MSA as enforced by the states.
As alleged, therefore, the structure of the MSA and enforcing statutes causes the manufacturers that become SPMs to follow the price increases of the OPMs to avoid gaining market share. This is especially true for the SPMs that joined within 60 days of the execution date; they have no annual payment obligations and can avoid incurring them by not gaining market share. The SPMs that joined after 60 days must also avoid gaining market share. If they take market share from the OPMs, they will be forced to pay proportionately more of the annual payments to the states. This is becаuse the percentage SPMs pay is determined by the following quotient:
current market share — 1998 (or 125% of 1997) market share current aggregate market share of OPMs.
MSA IX(i)(2). Because 1997 and 1998 market share are defined as zero for these SPMs, see supra, the quotient is effectively "current market share" divided by "current aggregate market share of OPMs." 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.
The petition states that an SPM's "marginal payment per cigarette is always lower than an OPM's per-cigarette payment," Petition at 10 n. 1. This statement is somewhat ambiguous but, again viewing the allеgations in the light most favorable to appellants, appears to be incorrect. Where the SPM's 1997 and 1998 market share are defined as zero under the agreement, the SPM makes the same payments per cigarette as the OPM in year one, and if the SPM takes market share from the OPM in year two, the SPM pays more per cigarette than the OPM that year. MSA IX(i)(1)-(2). Only SPMs that join the MSA within 60 days of its execution date and do not gain market share are certain to pay less per-cigarette — nothing — than OPMs. MSA IX(i)(1), (4). Moreover, the central issue is not absolute payment numbers but relative numbers and whether payments increase disproportionately (i.e. in more than a 1 to 1 ratio) when market share increases.
As alleged, the end result is as follows: (i) NPMs will lose by charging lower prices because the costs of complying with the Escrow Statute are too high; (ii) SPMs that joined within 60 days of the execution date similarly lose if they charge lower prices than OPMs because if their market shares increase above 1998 levels or 125% of 1997 levels, they will have to make annual payments and will then be unable to compete on price for the reasons listed next; (iii) SPMs that joined after 60 days of the execution date (or that joined earlier but gained market share) cannot compete on price because if they steal market share from the OPMs, their annual payments will increаse disproportionately, and the increased market share will (allegedly) not be profitable.
Given the allegations of the complaint, we cannot dismiss a challenge to this scheme on the grounds that it is not, as a matter of law, anti-competitive. For reasons stated in our earlier opinion and here, the complaint alleges such an effect and plaintiffs are entitled to attempt to prove it.
II. Applicability of Midcal
The petition argues that Midcal1 is inapplicable because: (i) the challenged statutes constitute a unilateral act of state and are therefore insulated from invalidation under the antitrust laws, despite any anticompetitive effects; (ii) the panel has misunderstood the MSA, which is not a marketsharing agreement among manufacturers; and (iii) the statutes do not delegate any regulatory authority to private parties.
These arguments are meritless under either of two theories. First, although the statutes themselves are acts of the state, their function is to enforce the MSA, a market-sharing agreement between private parties.
Second, unilateral acts of state such as the statutes at issue can be challenged under Section 1 of the Sherman Act as hybrid restraints where they grant to "private actors" "a degree of private regulatory рower." 324 Liquor Corp. v. Duffy,
The petition argues that "the only function of the Challenged Statutes is to require cigarette manufacturers to certify compliance with the [Escrow Statute's] requirement that they internalize health costs imposed by their cigarettes, either by joining the MSA or by maintaining the required escrow. Private parties must abide by the Challenged Statutes ... but no authority is delegated to them." Petition at 12. This argument is meritless.
First, the argument by its terms concedes that the statutes delеgate regulatory authority to private parties. As the state points out, the statutes require a manufacturer to either join the MSA or to comply with the Escrow Statute. A manufacturer who does either is forced, according to the allegations of the complaint, to become part of the market-sharing agreement set up by the MSA — i.e. it must not gain market share and it therefore cannot compete on price (or, in the case of NPMs, they allegedly cannot afford to do either). See Section I, supra. Because the petition does not assert that the OPMs' prices are subject to supervision by the state, see Section IV infra, the Challenged Statutes have the effect, according to the allegations of the complaint, of delegating price-setting authority to the OPMs.
III. The State Misinterprets Our Discussion of the Ancillary Purpose of the First Midcal Prong
The first Midcal prong states that "the challenged restraint must be one clearly articulated and affirmatively expressed as state policy."
This ancillary purpose is included in the Midcal analysis because of Parker: because the state's "purposes must be known to ensure that the State's policy gоals are sufficient to qualify for the Parker immunity — simply protecting private parties from competition is not a sufficient goal."
Indeed, the opinion notes that the Parker analysis and the ancillary purpose of the Midcal prong are interchangeable.
The petition of course does not argue that Parker is irrelevant. Rather, it claims that there is no ancillary purpose because under Town of Hallie v. City of Eau Claire, the first Midcal prong is satisfied if suppression of competition is the "`foreseeable result'" of what the statute authorizes. Petition at 13 n. 3 (quoting Hallie,
The petition also relies upon FTC v. Ticor Title Insurance Co. for the proposition that "`[i]n the usual case, Midcal's requirement that the State articulate a clear policy shows little more than that the State has not acted through inadvertenсe.'" Petition at 13 n. 3 (quoting Ticor,
For States which do choose to displace the free market with regulation, our insistence on real compliance with both parts of the Midcal test will serve to make clear that the State is responsible for the price fixing it has sanctioned and undertaken to control.
Respondents contend that these сoncerns are better addressed by the requirement that the States articulate a clear policy to displace the antitrust laws with their own forms of economic regulation. This contention misapprehends the close relation between Midcal's two elements. Both are directed at ensuring that particular anticompetitive mechanisms operate because of a deliberate and intended state policy. In the usual case, Midcal's requirement that the State articulate a clear policy shows little more than that the State has not acted through inadvertence; it cannot alone ensure, as required by our precedents, that particular anticompetitive conduct has been approved by the State.
Ticor,
The fact that clear articulation alone is insufficient tо confer state-action immunity, however, says little about the purposes of requiring clear articulation or the uses to which such an articulation may be put. To be sure, the court must find under this prong that the state did not inadvertently include anticompetitive activities in some larger scheme. Id. For this reason, it is important that a state enunciate its intent to displace competition when it means to do so. However, it is also obvious that a state's еxplanation of its reason for displacing competition will aid a court in determining whether the state has satisfied the requirements for Parker immunity. Aiding judicial inquiry in this way therefore represents an ancillary purpose of the first Midcal prong.
Parker bans states from exempting private parties from the restrictions of the Sherman Act solely to benefit those parties.
The petition itself nicely illustrates the issue. It states that the Challenged Statutes further public health, force cigarette manufacturers to "internalize health costs imposed by their cigarettes," and "ensure that those who cause the health crisis pay for it." Petition at 3, 4, 12. But it 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.
In this regard, the petition points to the portion of the opinion stating that Parker immunity is shown оnly where the state acted "in furtherance of legitimate state policy goals and limits unnecessary anticompetitive effects."
The remainder of the petition's arguments concerning the ancillary purpose section are meritless. The petition correctly argues that courts cannot use the first Midcal prong to second-guess whether the state goal is in the "public interest," Petition at 14, but the opinion does not purport to go so far and states only that under the first Midcal prong, the state goal must be "legitimate."
IV. The Opinion Expressly Relies on the Second Rather than the First Midcal Prong
As suggested by the fact that we found it "doubtful that a federal court would upset a state statute solely because it failed to meet the explanatory aspect of the first Midcal prong,"
V. The MSA Signatories Sought an Antitrust Exemption for an Earlier Agreement Among those Parties, but because the Market-Sharing Provisions of the Earlier Agreement are Similar to or Less Anticompetitive than those of the MSA, Discussion of the Antitrust Exemption Hearings Remains Relevant
The petitioners correctly note that an antitrust exemption was sought from Congress for a different agreement among the tobacco manufacturers and the states — not the MSA but rather an agreement to seek a legislative settlement of suits by the states against the tobacco companies. This "Global Settlement Agreement" ("GSA") was transmuted into the "National Tobacco Policy and Youth Smoking Reduction Act," S. 1415, 105th Cong. (1987).3 If the opinion was faulty in not noting this distinction, the omission is immaterial because the two agreements included similar market-sharing schemes. In fact, the market-sharing provisions in the GSA may have been less anticompetitive than those alleged to be in the MSA, and thus the Senate's discussions of the anticompetitive effects of the former are fully applicable to the latter.
The bill required annual payments to a fund in perpetuity by all participating manufacturers. Id. at § 403(b). These payments were apportioned among participating manufacturers according to their market share in the most recent calendar quarter. Id. at § 403(d). Thus, under the bill (like the MSA), a manufacturer's payment obligations varied with its market share.
The bill included provisions aimed at preventing small manufacturers from competing on price and gaining market share. A small manufacturer would receive financial benefits if it kept its sales below certain thresholds; if its sales rose above 500 million "units" per year, it lost all benefits. Id. at § 403(d)(3).
A "pass-through" provision of the bill provided that "each [PM] shall use its best efforts to adjust the price at which it sells each unit of tobacco products ... by an
Page 158-176
amount sufficient to pass through to each purchaser on a per-unit basis an equal share of the annual payments to be made by such [PM]." Id. at § 405(a). Failure to abide by this provision would subject a PM to a fine equal to between 115% and 125% of the undercharge. Id. at § 405(b)(1). Thus, any competition based on price would subject a manufacturer to charges that it was not passing through the annual payments, the resolution of which would be costly even if the undercharge was determined not to have occurred.
Finally, NPMs would have been subject to heavy payment obligations under the proposed bill. Each NPM had to pay 150% of what it would have paid annually under Section 403 of the bill as a "fee." Id. at § 708(b). The corresponding payments made by PMs were tax deductible, but these NPM payments were not. See id. at § 406. Thus, there would have been significant pressure on NPMs to become PMs, and, as noted, the PMs were constrained in their ability to compete by the provisions described above.
We therefore deny the petition for rehearing.
Notes:
Notes
California Retail Liquor Dealers Assn. v. Midcal Aluminum, Inc.,
Parker v. Brown,
Several versions of this bill were introduced, and it was originally entitled the "Universal Tobacco Settlement Act." We have cited to the May 15, 1998 version available on Lexis