On August 25, 2014, the Competition Commission of India (‘CCI’), imposed a cumulative penalty of INR 2,545 crore (approx. USD 420m) on 14 automobile manufacturers (‘Car Companies’) for abuse of dominance and anti-competitive vertical restraints in the markets for spare parts and after-sales services (‘Auto Parts Decision’)¹. The Car Companies were accused of not making spare parts and diagnostic tools freely available in the open market, with a specific focus on independent repair workshops. This, CCI held, restricted the choice for consumers when deciding who to approach for the repair and servicing of their automobiles. Apart from the penalty, CCI issued a range of structural directives that are not just incumbent upon the Car Companies, but could have repercussions for the manufacturing sector as a whole.

 
The first step was the definition of the relevant product market. Several Car Companies raised the argument that the primary market for automobiles and the secondary market for spare parts and repair/maintenance services constituted a unified ‘systems market’. To take the popular example of the razor and blade, in a ‘systems market’, two such unmistakably complementary products form part of a single market, since consumers demand the primary (razor) and secondary (blade) product as ‘a system’. Competition therefore exists at the point of sale of the primary product itself. The systems market theory stands true if customers engage in ‘whole life costing’, i.e. customers anticipate the future costs of ownership of the razor by taking into account expected expenditure on blades, or the manufacturer is prevented from exploiting customers of blades for fear of adversely affecting its reputation for razors (referred to as ‘reputation effects’).

 
CCI ruled out this theory in the Indian context, on their understanding that at the time of purchasing a car, the average Indian customer does not engage in such ‘whole life costing’ and take into account post-purchase expenditure on spare parts and servicing. CCI also felt that reputation effects do not prevent the Car Companies from setting “supra competitive” prices for the secondary products/services. Instead, CCI identified three relevant product markets: (i) market for manufacture and sale of cars, (ii) market for sale of spare parts, and (iii) market for sale of repair services, and despite the high levels of competition in the market for cars, defined the market such that each of the Car Companies was inevitably dominant in the secondary market for its own spare parts and repair/maintenance services.

 
Having determined that each Car Company was dominant for the supply of its own spares and service, CCI concluded that Car Companies had contravened the Competition Act, 2002 (‘Competition Act’) on two counts: abuse of dominant position, and imposition of anti-competitive vertical restraints. Car Companies allegedly did so by denying market access to independent repairers by, limiting the supply of spare parts, technical manuals, diagnostic tools et al, raising entry barriers, and having restrictive warranty policies, thereby restricting consumers in their choice of avenues for the repair and maintenance of their vehicles. CCI also concluded, with little substantive guidance beyond the finding itself, that Car Companies indulged in excessive or unfair pricing through significant mark-ups on their spare parts, over and above their procurement/production costs.

 
Several Car Companies advanced the claim that any vertical restraints on their suppliers and authorized dealers were reasonable and aimed solely to protect their intellectual property, as permitted under Section 3(5) of the Competition Act, which specifically allows a person to restrain any infringement, or impose reasonable restrictions, as may be necessary for protecting any of the rights conferred upon or may be conferred upon him under certain Indian intellectual property statutes dealing with copyrights, patents, industrial designs, trademarks and geographical indications (together referred to as ‘Indian IP Laws’). However, CCI dismissed these arguments in the belief that the protection of Section 3(5) was only available to intellectual property that is protected or is in the process of being protected under the Indian IP Laws, as opposed to intellectual property that is legitimately registered and granted overseas. Since most Car Companies, and indeed most companies, operate under intellectual property licensed to them by their overseas parent companies, CCI’s conclusion denied their commercial arrangements the protection of Section 3(5) of the Competition Act.

 
The directives imposed on Car Companies as a result of this decision, amongst others, require them to remove restrictions on their supplier or distributors with respect to parallel supply into the aftermarket, and maintain warranty protection even if the customer gets his vehicle repaired by potentially untrained independent repairers (unless the damage was caused due to faulty repair work). Limited leeway is allowed in the form of the ability to charge royalty or other fees where the spare parts are manufactured using the intellectual property of the company concerned.

The secondary market for spare parts and servicing in India is riddled with safety concerns, particularly in the absence of any accreditation requirements for independent repairers, or any effective means to check the flow of counterfeit/spurious parts. This found but a passing reference in the Auto Parts Decision, where CCI seemed to accept the deficiencies in the market with respect to accreditation and legislation, but went ahead and imposed significant penalties as well as structural directives on Car Companies.

 
In addition to the radical overhaul of the automobile sector demanded by CCI, this decision has the potential to encourage copycat complaints by similar aftermarket entities in other industries as well. Across sectors, manufactures that impose restrictions upon sales of their spare parts and repair services (e.g. consumer electronics sector) must tread with increased caution and consider re-assessing their business models. This is especially true for CCI’s narrow reading of the intellectual property protection carve-out under Section 3(5) of the Competition Act, making it near-impossible for many domestic manufacturers who use intellectual property licensed from overseas holders, to protect this intellectual property in the after-sales spares and repair services markets for their products.

 
A useful illustration could be a manufacturer of air-conditioners that uses proprietary technology and parts. The implications of the Auto Parts Decision, are that this manufacturer would have to re-evaluate its policies on (i) how it sources its supplies, (ii) how it sells its products in the market, (iii) how it provides spare-parts for its products, and (iii) how it provides for after-sales services. Any such manufacturer would need to exercise greater caution in imposing, or continuing with, any exclusivity requirements in its supplier and dealer arrangements. Existing warranty policies would need to be examined if they link the validity of a warranty claim with use of only the manufacturer-specified spare parts and authorized service providers, and continue to provide protection even when customers choose to go to independent repairers, trained or otherwise. Further, companies must now be careful in the mark-ups they impose on spare parts sold over the counter to independent repairers or to end consumers, even though the Auto Parts Decision does not identify the level of mark-up that would prove problematic.

 
The far reaching implications of this decision could mean that Companies may need to consider taking steps to ensure that sufficient information regarding a product is available in the public domain and allow customers to undertake the task of whole-life costing. The risk of allegations of unfair pricing could reduce if companies maintain comprehensive records of the production costs of their products as well as legitimate commercial reasons for the level of markup. Companies may also consider establishing an alternate means of supply of spare parts and tools in the aftermarket. Lastly, companies should consider comprehensively protecting any intellectual property they rely on under the Indian IP Laws.

 
While these commercial measures cannot insulate any industry from scrutiny by CCI, they may go a long way in convincing CCI of the competitive nature of the industry concerned and the lack of any anti-competitive conduct by the players

End Notes:

1 Shri Shamsher Kataria v Honda Siel Cars India Ltd & Ors [Case No. 03/2011]

For further information, please contact:

Zia Mody, AZB & Partners
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Abhijit Joshi, AZB & Partners 
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Shuva Mandal, AZB & Partners 
[email protected]

Samir Gandhi, AZB & Partners
[email protected]

Percy Billimoria, AZB & Partners 
[email protected]

Aditya Bhat, AZB & Partners 
[email protected]