PRICE FLEXING (Geographical Price Discrimination)

Price flexing (or Geographical Price Discrimination) is the action of retail chain charging higher or lower prices in different geographical locations, where the price difference is not explained by a difference in costs

Price Flexing is a tactic regularly used by Large retailers which has the effect crushing small retailers and preventing competition.

However a there is a group of mis-guided academics and apologists for Woolworths and Coles that argue that Price-Flexing is actually ‘pro-competitive’ – but the evidence is to the contrary.

Price Flexing is illegal in many other developed countries and is considered so serious that the penalties include jail.  However in Australia, there are no such laws – and large corporations in Australia are free to wipe out their smaller competitor through Price Flexing.

Case Study : How Price Flexing Destroyed and Honest Man’s Business

 

The following case study is summarised from evidence given by small business owner Mr Joseph Natoli,  in Submission No. 65 to the Government Enquiry “Finding a Balance – Towards fairer trading in Australia”

Mr Natoli’s situation occurs daily in Australia where large supermarkets use localised price flexing to wipe out their competition. Thousands of businesses have suffered exactly the same fete as Mr Natoli.

Joseph Natoli’s family has been in the fruit retailing industry for over seventy-one years, most recently operating within shopping centres in Maroochydore and Sunshine Plaza.

The Maroochydore store traded strongly and supported four families in partnership and 30 employees.

Then a large supermarket opened to compete with Mr Natoli family business. In the first week of opening, the large supermarket advertised extra-large eggs at 33 cents per dozen. Mr Natoli was left with 6 000 dozen eggs unsold, for which he had paid 80 cents per dozen.

Immediately upon opening, the managers of the large supermarket inspected Mr Natoli’s store daily, returning to undercut his prices. Mr Natoli recounted how he became involved in a price war. 

 “On one particular occasion, [the large supermarket] advertised sultana grapes at $1.99 a kilo. By chance, we had advertised sultana grapes at $1.79 a kilo. They dropped their price ... we dropped ours. Within two hours, they had dropped their price to 49 cents a kilo. We reduced our price to 99 cents a kilo, but later raised it to $1.29 per kilo, our cost price. They later raised their price to 69 cents and kept it there for two days. Their manager told us they kept the price low to punish us and teach us a lesson for taking them on.”

This is where apologists for the large supermarket chains will claim this situation is ‘to the advantage of the consumer’ – as these low prices are a benefit to consumers– and therefore such ‘price flexing’ is healthy for competition – but evidence from the enquiry continued;

However just eight months after the opening of large supermarket, the Natoli’s fell behind in their rent and after 71 years of successful trading were locked out of the store. Four families lost their source of income, and 30 staff were left without jobs – and another Australian small business was destroyed through price flexing

One is only left to guess what happened to prices once the competition from Mr Natoli shop was extinguished.

The Effects of Price Flexing.

As evidenced by the story of the Natoli’s - Price Flexing destroys competition. A small company cannot compete in a price war with a billion dollar corporation. The level playing is destroyed. The big crushes the small, even if the small business is more efficient.

Instead of competition being fought on merit and efficiency, its fought on financial power.

By destroying a competitor – competition is also destroyed, all to the detriment of the consumer, and the nation.

Deterring New Entrants in the Market

Through Geographic Price Discrimination, large retailers effectively sent out a warning to any potential competitors that deters them from entering the market –

“ If you attempt to enter our market and compete against us, we have the power to use localised price discrimination to undercut you. It will be impossible for you to make a profit – we are a muti-billion dollar organisation, we can use our financial power and profits from our others stores to subsidies this store indefinitely. With price flexing you will never make a profit - so don’t even think about entering our market”

Of course the legal advisors of larger corporations would ensure that this is never put this in writing – but Price Flexing sends out this message.

Deterring a Competitor from Engaging in Competitive Conductive

As in Mr Natoli’s case, the large supermarket chain used Price Flexing – “to teach him a lesson”.

The lesson that Price Flexing sends out to small competitors is that should they engage in any competitive conduct – they will be “punished”

Therefore a small competitor already in the market is actually deterred from lowering prices or engaging in competitive conduct.

The entire concept of free enterprise system and competition is turned upside down - as tt becomes in the small competitors best interests to check the prices of large supermarkets prices and raise his prices to at least the level of the large supermarket – otherwise the small store risking retaliatory action and starting a price war that they can’t win.

In Mr Natoli’s case, the worst thing he did was uncut the large supermarket chain – if he had his time over again we could have done best to increase the price of his grapes $1.99 the same as the large supermarket.

Therefore the ability of a large retailer to use localised price discrimination, actually deters competition and keeps prices higher for the consumer.

The Legality of Price Flexing

Australia 

We should have strong enough Competition laws to prevent such anti-competitive behaviour as Price Flexing -  however with the weakness of Trade Practices Act – there is no prohibition on these actions.

The failure of Australia to have a prohibition on Price Flexing, has forced thousands of small business into bankruptcy – and has resulted in the consumer paying prices.

Under Australia’s Trade Practices Act,  all the large supermarket has to do is hide any evidence of a ‘deliberate purpose’ – and make sure there are no internal company documents saying the purpose of their price flexing is to eliminate a competitor. As long there is no “smoking gun” – all they need to argue is that they were ‘being competitive’ and don’t even have to be sorry that their actions had the ‘effect’ of destroying competition and a competitor.

Even if the large supermarket has been stupid enough to write in a company document that the purpose of their price cutting was to eliminate a competitor and then increase prices later - they can still escape penalty. This precedent was recently established by the High Court in Boral  where internal company documents detailed Boral’shad deliberately tried to wipe out a competitor, but their actions were found to be legal as it could not be proved that Boral had a “substantial degree of market power”..

Therefore in Australia, Price Flexing is widely practiced by the large supermarket chains, and honest and efficient, family owned independent business are driven to ruin and bankruptcy almost everyday.

International Comparison

Unlike Australia, other countries have Competition Laws that specifically prohibit Price Flexing (Geographical Price Discrimination).

United States of America

The USA was the first country to understand the importance of having laws to prevent Price Flexing. This relates back to the notorious Standard Oil case when in 1909, the U.S. Department of Justice filed suit in federal court alleging that Standard Oil had engaged in methods to continue the monopoly and restrain interstate commerce.

"The evidence is, in fact, absolutely conclusive that the Standard Oil Company charges altogether excessive prices where it meets no competition, and particularly where there is little likelihood of competitors entering the field, and that, on the other hand, where competition is active, it frequently cuts prices to a point which leaves even the Standard little or no profit, and which more often leaves no profit to the competitor, whose costs are ordinarily somewhat higher."[1]

The practice of Price flexing was made illegal in the USA under the Clayton Act. Section 13a titled “Underselling in Particular Localities” which states;

Penalties for breaches of the act are 1 year imprisonment, and the small business that are victims of such conduct “shall recover threefold the damages sustained by him, and the cost of the [law] suit, including a reasonable attorney’s fee”

United Kingdom

In the United Kingdom, the Office of Fair Trading (equivalent of Australia’s ACCC) reported on conduct of large supermarket chains and recently concluded that Price Flexing -

“…distorted competition in the supply of groceries and operates against the public interest because customers tend to pay more at stores that do not face particular competitors than they would if those competitors were present in the area”. [2]

A further study in the UK also declared about Price Flexing;

“That competition has been distorted and consumers harmed due to the use of local price variations (price flexing) by the Big Four [grocery retailers]……….. It also meant that grocery products were not fully exposed to competitive pressure”

Canada.

With a similar geographic diversity to Australia, Canada has a prohibition of Price Flexing.

Section 50, clause B of the Competition Act of Canada – titled “Illegal trade practices” states;

Both the American and Canadian Laws have provisions to allow for Price Flexing were different pricing is allowable depending upon costs such as freight, rents, etc or markdowns on obsolete goods.

Why Price Flexing Should be Illegal in Australia

A ban of Price Flexing will increase competition – small competitors will not be deterred from lowering prices. Consumer will benefit.

2 . There is clearly lack of competition in the grocery/food market in Australia. A prohibition on Price Flexing would encourage small new players to enter the market and ensure any existing small competitors are able to compete on merit.

3. Australia has the world highest level of concentration in the grocery market. There are numerous studies that clearly demonstrate that concentrated markets are not in the interest of the consumer.

4. Australia is the country that coined the term “a fair go”.It is simply Un-Australian to allow large corporations to crush small businessmen, simply because they have greater financial resources and market power.

5. We need to consider what type of Australia we want – either one where a few corporations control industry, and everyone is a low paid employee of the corporation, or whether we want an Australia that encourages the entrepreneurial spirit if of citizens and gives small business a chance to compete on its merits.

6. Woolworths and Coles currently have profits margins that are the highest in world for grocery retailers –in 2005 consumers paid  $1,200,000,000.00 extra than what they would in a competitive market for food and groceries.

7. The salaries of a handful or executives are out of control, - e.g the CEO of Woolworths is expected to earn over $100 million for just 7 years work as an employee of Woolies (NB : These executives will argue strongly that Price Flexing should be legal and/or the current Australia laws are sufficient)

8. Small new innovative companies with new ideas and new products will be encouraged to enter the market.

9. Fair competition is protected.

10. All business shall be able to compete of merits regardless of financial power.

11. It will ensure that remote Australian communities, the aged and those that have less mobility will have the same benefits of competition that are enjoyed by other Australians, and don’t pay to pay higher prices.

12. In a today’s global market, Australia cannot continue to have Competition laws that are out of step with the rest of the developed world.  Australia needs Competition Laws that are world’s best practice.

Recommendation –

The SSRA recommends that a Price Flexing (Geographical Price Discrimination) prohibition is introduced into Australia Trade Practices Act. The new section should be based upon laws in the United States (Section 13a of the Clayton Act) and in Canada (Section 50b of the Canadian Competition Act). 

We recommend the following wording for the new legislation to be know as Section 49 C (after the old section 49 for Price Discrimination – dismantled by a Westfield director )

Penalties for Breach.

The SSRA believes the punishment should both ‘fit the crime’ and ‘act as a strong deterrent’

Therefore any punishment should reflect the harm caused if it destroys an honest man’s business, and his life savings. However at the moment we believe monetary fines are sufficient, and jail terms as per the Canadian legislation is not necessary.

Expected Opposition To Bring Price Flexing in Line with World’s Best Practice

Woolworths should have no concern about such a law – they claim to give all consumers “Everyday low prices” – if this is true, any price reduction should be across the board for all stores.

However the SSRA expects strong objections to introduction of this law from the ‘likely suspects’ of the Business Council of Australia and the billion dollar corporations of Woolworths & Coles, and other vested interests as these groups wish to maintain their sheltered and protect existence.

As per previous attempts to amend the Trade Practices Act in Australia, these ‘likely suspects’ can be expected to present a wide range misleading and deceptive arguments as so they can remain protected from fair competition and having to compete on their merits and not financial power.

They shall most likely employ the best legal minds in the country, to develop a series of completely unrealistic theoretical examples of cite the ‘problems’ that this law will cause.

However this law has been in existence in North America for almost 100 years – and the United States and Canadian economy has not suffered because of it. There is no telling how many small businesses that would have otherwise been unjustly crushed by the large corporations – that have been able to survive and flourish because of this law over the last 100 years.

The problems that will result if this law is not introduced, are the even greater market concentration in groceries in Australia, the resulting higher prices to consumers, the greater risk of the formation of cartels, the continued destruction small efficient honest businesses, and the crushing of the entrepreneurial spirit of small Australian businessman and women.

In the words of Woodrow Wilson –

 We need laws which will look after men who are sweating blood to get their foothold in the world of endeavour”

By not introducing Geographic Price Discrimination Laws – Australia will continue to allowing these men to be crushed by big business.

We also need politicians whom will not be unduly influenced by large corporations, with their huge cash donations to both political parties, and who will conspire to prevent such a law from being introduced.

Everyday that passes where this law is not introduced, our politicians sign the death certificate of another small business. This law is needed, and is needed urgently.