On July 27, 2022, the State Administration for Market Regulation (the SAMR) published a decision regarding an administrative penalty made by the Beijing Administration for Market Regulation (the Beijing AMR) against CollegePre, the Master Franchisor of the brand “Sesame Street” in China. In the decision, the Beijing AMR determined that CollegePre had engaged in resale price maintenance (the RPM) in violation of PRC Anti-Monopoly Law (the AML), and therefore imposed a fine of RMB942,386.47 (USD139,855), which is equal to 3% of CollegePre’s revenue in 2020.
This decision reflects that, though price restriction is a common practice in franchise businesses, franchisors may still have the risk of being penalized for RPM by the Chinese competition authorities. While the new AML effective on August 1, 2022 (the AML 2022) may provide additional defenses for the franchisors, the burden of proof rests on the franchisor.
Summary of the decision
Facts
CollegePre, a Chinese company engaged in the businesses of off-campus English education for children, has the exclusive right to use and sub-license the brand “Sesame Street” in China. CollegePre offers franchises to Chinese franchisees and collects franchise fees on such basis. Since the beginning of its operation in 2014, CollegePre has entered into agreements with 455 franchisees cumulatively.
From 2014 to 2021, CollegePre and the franchisees have reached and implemented agreements that fixed the price of the courses offered under the brand, including in the following forms:
- incorporating terms into the form franchise agreements which prohibit price adjustments by the franchisees with default liabilities;
- issuing rules which require that all price adjustments are subject to the approval of CollegePre, imposing penalties on franchisees’ breach of the rules;
- requiring franchisees to strictly adhere to the uniform pricing policies;
- expressly indicating to the customers that the prices of the courses are determined by CollegePre and could not be adjusted by the franchisees without CollegePre’s approval.
Analysis of RPM practices
The Beijing AMR considered that the above actions of CollegePre constitute monopoly agreement that fixes the price for resale, which violates Article 14(3) of AML (the 2008 version, as the decision was made before the new AML became effective (AML 2008)).
The decision indicates the Beijing AMR’s views that:
- CollegePre collects fees from the franchisees and offers resources and supporting services for the franchisees. CollegePre’s courses were mostly sold to the customers via the franchisees, so there is a vertical business relationship between CollegePre and the franchisees.
- The price of the courses provided by the franchisees are considered as “the price for resale of goods to third parties.”
Analysis of anti-competitive effects
The Beijing AMR stated that CollegePre, as an upstream supplier, has a strong influence on the franchisees based on CollegePre’s resource advantages and strict management in its franchise business. The decision found that CollegePre’s conducts:
- deprived the franchisees of their discretion on pricing as independent businesses, and restricted price competition within the brand;
- weakened the competitiveness of the franchisees and restricted competition between the franchisees and operators of other brands;
- deterred the franchisees from free price competition, which will benefit consumers, jeopardizing consumers’ economic interests.
Failure to establish exemptions
CollegePre contended that its practices may be exempted as reasonable price limiting measures in franchise businesses according to Article 15(7) of the AML 2008, ie “other circumstances provided by laws and the State Council.” The Beijing AMR overruled the defense with the reason that no effective laws or regulations related to franchising implies that a fixed resale price clause is necessary for franchise businesses. The Beijing AMR also ruled that CollegePre failed to demonstrate that a fixed resale price clause was necessary to maintain its franchise businesses and consistency of the brand image, or that its RPM agreements would not substantially restrict the competition and would benefit consumers.
Implications
The nature of the franchise business model requires that franchisees should operate under the same operation model, thus uniform restrictions on pricing, regions, intellectual property used are very common in franchise businesses. There are no specific rules or policies in China on monopoly conducts in franchise businesses. Yet Beijing AMR’s decision confirms that, despite the fact that price restrictions are commonly seen in this business sector , penalties against RPM are not exempted under the context of franchises. Moreover, the decision indicates that franchisees’ provision of goods/services under franchises may be deemed as “resale”, which is therefore subject to the restrictions against RPM in AML.
On the other hand, AML 2022 – which has just come into effect – offers a safe-harbor defense for agreements of price restrictions. Article 18 of AML 2022 provides that:
- agreements fixing the price or restricting the minimum price for resale shall not be prohibited if the operators can prove that the agreements do not eliminate or restrict competition; and
- if the operators can prove that their market share in the relevant market is lower than the standard established by the competent enforcement body of the State Council, and that they meet other conditions required by the competent enforcement body, the relevant agreements shall not be prohibited.
We note that the Draft Provisions on Prohibition of Monopoly Agreements sets the market share standard of the safe-harbor defense at 15%,1 while the final standard remains undecided.
In view of the above and other previous decisions on RPM enforcement in China, it is advisable for franchisors to avoid setting fixed price or minimum price of the goods/services for franchisees, or, carrying out penalties, rewards, pressure, inspections, on franchisees on the basis of price restrictions. On the other hand, apart from the agreements covered by the safe-harbor defense, fixing the maximum price of the goods/services should be permissible under the current practice, as this measure will actually benefit consumers. “Recommended price” or similar price suggestions should also be allowed provided that they are not binding and do not limit competition in practice.
Without more concrete criteria from the competition authorities, franchisors should be extra prudent on their agreements and policies concerning price restrictions, and take necessary measures to guarantee its compliance of the laws.
