August 06, 2005
The Three Tenors Fought the Law ...
Posted by Joshua Wright

The D.C. Circuit recently handed down its decision, written by no less an antitrust luminary than Chief Judge Ginsburg, in the Three Tenors case.  For those not familiar with the facts, the basics are that the Three Tenors put on some concerts coinciding with the World Cup soccer finals in 1990, 94 and 98.  PolyGram distributed the 1990 album, Warner the 1994 album (both albums were very successful), and the two formed a joint venture to distribute the 1998 album.  The FTC did not challenge the formation of the joint venture.  Rather, the antitrust challenge involved an agreement discussed in negotiations of the joint venture and signed one month afterwards which restricted PolyGram and Warner from discounting and promoting the '90 and '94 albums for ten weeks while the '98 album was promoted and released.  The FTC struck down the agreement in an opinion written by my colleague at George Mason, Tim Muris (who defends the analysis here). 

Any parties to antitrust litigation can count themselves fortunate to have their arguments heard by sophisticated antitrust thinkers like Muris and Ginsburg.  Nonetheless, I am going to try to convince you, as I have explained elsewhere in response to Muris' analysis, that the Three Tenors' moratorium agreement was highly unlikely to produce consumer harm and where the Commission's analysis went wrong.

    The fundamental antitrust question was whether the 10 week moratorium agreement would fall under the per se rule (automatically illegal), or a more involved analysis that would require the FTC to define a relevant market and prove that the joint venture had monopoly power (whether under the full blown or truncated version of the rule of reason).  The Commission argued that rule of reason analysis was not appropriate because: (1) the moratorium agreement came after the venture was formed; (2) the agreement aimed to prevent competition by entities "outside" the venture.  Neither are persuasive.

    As a matter of antitrust law, the Supreme Court has found that the rule of reason applies to restraints formed after the initial contractual relationship (e.g. GTE Sylvania; Business Electronics).   The rule adopted by the Commission and the D.C. Circuit would force all parties to a joint venture accept the risk that subsequent attempts to modify the venture to adapt to changing business conditions would create antitrust exposure.  The Commission's analysis, adopted by the D.C. Circuit, also rejects the defendants' "prevention of free-riding defense," asserting that such agreements are not cognizable as a matter of antitrust law.  This also cannot be correct. 

    To borrow an example introduced by then Commissioner Muris and borrowed by Judge Ginsburg, consider General Motors and a rival introducing a new SUV model with heavy advertising causing "spillover effects" increasing the demand for rival brands.  The Commission argues that it would be illegal for GM (and a rival) to prevent these types of spillovers from benefitting rival brands in order to maximize the profits from the release of the new model.  But antitrust law most certainly does (and should) allow firms to prevent free-riding on promotional investments (for example, GM can use exclusive dealing arrangements to ensure that dealers do not use its promotional investments, which increased the demand for other brands as well, to increase sales of those brands).  If antitrust law allows a single firm to prevent this type of free-riding on promotional investments, why then, would not the parties to a joint venture?  The only answer is a misplaced preference for activity within the firm rather than by contract.

    Ultimately, this preference resulted in analysis which did not demand market definition.  I agree with Professor Muris that not all antitrust cases require the burdensome procedure of defining relevant markets.  However, per se analysis is reserved for cases where the court comes across a business practice with, as Judge Ginsburg wrote, "a close family resemblance" to "another practice that already stands convicted in the court of consumer welfare."  The economic learning justifying the use of the per se rule for naked price-fixing agreements and agreements by competitors to prohibit advertising simply does not teach us much about the joint venture formed by PolyGram and Warner. 

    The economics of joint ventures and promotional agreements can be complicated.  But one need not be a PhD economist or antitrust lawyer to figure out whether the Three Tenors agreement was likely to harm consumers.  Ask yourself: "with the 10 week restriction in place, would the Three Tenors have been able to raise the market price?"  Let's define the market not as "all music" but something with more reasonable substitutes such as "classical music."  I remain highly skeptical that the parties would have been able to raise the price of classical music as a result of the agreement, though I must admit do not know the answer because the analysis was never carried out.  I assert, however, the question of actual market impact, and not whether the agreement was "inside" or "outside" the venture, should have been the focus of the analysis.

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