Request By:
Representative Donald Blandford
Route 1
Philpot, Kentucky 42366
Opinion
Opinion By: Steven L. Beshear, Attorney General; By: Suzanne Guss, Assistant Attorney General
This is in response to your request for an opinion of this office as to the constitutionality of House Bill 161, hereinafter KRS 244.585. The statute provides, among other things, that a distributor may sell a brand of malt beverage only within an exclusive territory determined by and described in a written agreement between the distributor and brewer or supplier. The statute also provides that no brewer or supplier may provide for the distribution of a brand of malt beverages to more than one distributor for all or any part of the designated territory. The statute also includes various other restrictions relating to the sale and quality control of the brand of malt beverage. This opinion will focus upon the doctrines of equal protection, due process and antitrust.
The second section of the Twenty-first Amendment of the United States Constitution allocated to the States power with regard to the regulation of traffic in alcoholic beverages:
The transportation or importation into any State, Territory, or possession of the United States for delivery or use therein of intoxicating liquors, in violation of the laws thereof, is hereby prohibited.
The Twenty-first Amendment conferred upon the States broad regulatory power over liquor traffic. Parks v. Allen, 409 F.2d 210 (5th Cir. 1969). "The Twenty-first Amendment grants the States virtually complete control over whether to permit importation or sale of liquor and how to structure the distribution system." California Liquor Dealers v. Midcal Aluminum, 445 U.S. 97, 110, 100 S. Ct. 937, 63 L. Ed. 2d 233, 246 (1980). However, the Twenty-first Amendment did not override or supersede other areas of the United States Constitution regarding the regulation of liquor. Costa v. Bluegrass Turf Service, Inc., 406 F.Supp. 1003 (E.D. Ky. 1975); Arizona State Liquor Board v. Ali, Ariz.App., 550 P.2d 663 (1976), citing California v. LaRue, 409 U.S. 109, 93 S. Ct. 390, 34 L. Ed. 2d 342 (1972). The state's power to control the regulation of liquor is limited by the constitutional requirements of equal protection and due process. California Liquor Dealers v. Midcal Aluminum, supra; Arizona State Liquor Board v. Ali, supra. The Fourteenth Amendment only prohibits state action in this area when it is without any reasonable basis and is purely arbitrary. The exercise of power in this area is subject to minimal demands of the equal protection and due process requirements. Parks v. Allen, 426 F.2d 610 (5th Cir. 1970).
KRS 244.585 represents a vertical restraint between the brewer or supplier and the distributor by confining the distributor to a particular area of operation (plus various other restrictions relating to sale and quality control) . These vertical non-price restraints contain the potential to "promote interbrand competition by allowing the manufacturer to achieve certain efficiencies in the distribution of his products." Continental T.V., Inc. v. GTE Sylvania, Inc., 433 U.S. 36, 54, 97 S. Ct. 2549, 53 L. Ed. 2d 568, 583 (1977). Also, society's increasing demand that manufacturers directly assume responsibility for the safety and quality of their products constitutes a legitimate reason or justification for manufacturer control over the manner in which his product is sold. 433 U.S. at 55, n. 23. Thus, there appears to be a rational relationship between the classification and the objectives justifying it. The statute also appears to withstand a due process analysis in that it bears a reasonable relationship to the regulation of the sale of alcoholic beverages. Reeves v. Simons, Ky., 160 S.W.2d 149 (1942). Since Kentucky has the power to prohibit the manufacture, sale and transportation of liquor, the state is permitted "to definitely prescribe the conditions under which such acts would be permitted. . . ." Id. at 151.
Although the United States Supreme Court stated that "a state is totally unconfined by traditional commerce clause limitations when it restricts the importation of intoxicants destined for use, distribution or consumption within its borders," Hostetter v. Idlewild Liquor Corp., 377 U.S. 324, 330, 84 S. Ct. 1293, 12 L. Ed. 2d 350, 355 (1964), it has also stated that "the second section of the Twenty-first Amendment has not operated totally to repeal the Commerce Clause in the area of the regulation of traffic in liquor. " Seagram & Sons, Inc. v. Hostetter, 384 U.S. 35, 42, 86 S. Ct. 1254, 16 L. Ed. 2d 336, 342 (1966). Thus, Congress retains regulatory power over foreign or interstate commerce in alcoholic beverages. Hostetter v. Idlewild Liquor Corp., supra. The federal interest in enforcing a national policy of procompetition is expressed in the Sherman Act, by the enactment of which Congress "exercised all the power it possessed," California Retail Liquor Dealers Assn. v. Midcal Aluminum, 445 U.S. at 111. The competing state interest in vertical restraints and federal interest in competition can be reconciled only after a review of those concerns as expressed in a "concrete case." California Retail Liquor Dealers Assn. v. Midcal Aluminum, supra, citing Hostetter v. Idlewild Liquor Corp., 377 U.S. at 332.
Private parties, even though acting under the direction of a state statute, may be liable for an antitrust violation unless they are acting in response to a "clearly articulated and affirmatively expressed" state policy to displace open competition in the market with state regulation and this clearly expressed policy is "actively supervised" by the state. California Retail Liquor Dealers Assn. v. Midcal Aluminum, Inc., supra; Alcoholic Beverage Control Board v. Taylor Drug Stores, supra.
In Midcal, the U.S. Supreme Court established a two-prong test for determining antitrust immunity under the "state action" doctrine:
(1) the challenged restraint must be "one clearly articulated and affirmatively expressed as state policy" ;
(2) the policy must be "actively supervised" by the state itself.
State authorized conduct of private parties is not shielded from antitrust attack unless it meets the two criteria of this Midcal test.
In passing KRS 244.585 the 1982 General Assembly has clearly articulated its policy to supplant the free and open market determination of distributor arrangements by requiring a written agreement between the distributor and brewer or supplier which defines the distributor's exclusive territory.
However, the second requirement of the test is not met because the statute fails to provide for "adequate state supervision" over this policy. The determination of the exclusive territories is accomplished by private parties rather than by the state and the state does not regulate or "police" the enforcement of these exclusive territorial arrangements entered into by private parties.
Thus, even though the exclusive territories for distributors are required by KRS 244.585, the arrangements are not immune from antitrust scrutiny under the state action doctrine. Whether the conduct contemplated by the statute violates the antitrust laws would depend upon the factual circumstances surrounding the particular arrangement and the existence of an illegal restraint of trade.
On its face, the required conduct does not appear to violate the antitrust laws. It is not unlawful for a brewer or supplier to choose which distributor it wishes to do business with and to place reasonable restrictions on the distributor as a condition of doing business. Rice v. Norman Williams Co., U.S. (July 1, 1982) footnote 5 of Justice Stevens' concurring opinion; Continental T.V., Inc. v. GTE Sylvania, Inc., supra.
The Supreme Court has held that some vertical non-price restraints are not illegal per se but must go through rule of reason analysis to determine if the particular agreement or arrangement violates the antitrust laws. See Continental T.V., Inc. v. GTE Sylvania, Inc., supra; Rice v. Norman Williams Co., supra.
Rule of reason analysis requires an examination of the circumstances underlying a particular economic practice, its purpose and effects. If, after weighing all these factors, the challenged conduct is significantly harmful to competition then the practice would violate the antitrust laws. "Significance is judged by balancing any tendencies in the arrangement to enhance competition against any tendencies to injure competition. If the latter tendencies predominate, the arrangement is an unreasonable restraint and violates the antitrust laws. " L. Sullivan, Law of Antitrust, 195-196 (1977).
Whether the vertical restraint created by KRS 244.585 violates the antitrust laws would depend on whether the restraint poses a significant injury to competition and the anti-competitive conduct clearly overrides any procompetitive redeeming benefit. In GTE Sylvania the vertical restraint improved interbrand competition even though it did some harm to intrabrand competition. The Supreme Court stated that this arrangement did not violate the antitrust laws.
We trust this information will prove useful to you. If you have any additional inquiries, please contact me.