The Eighth Trans-Atlantic Antitrust Dialogue

1. The Eighth Trans-Atlantic Antitrust Dialogue Exclusionary pricing in Article 82 cases – a recent UK example 15 May 2008 Matthew Levitt Lovells LLP, Brussels Lovells LLP

2. Economic effects based analysis: a recent UK example • OFGEM v National Grid, 21 February 2009 (Case CA98/STG/06) • My comments are purely personal

3. OFGEM v National Grid plc • The parties • The UK Gas & Electricity Markets Authority (OFGEM) • Concurrent jurisdiction under the Competition Act to apply Chapters I and II and Articles 81 and 82 • National Grid plc • Historic provider of all domestic gas meters as part of its regulated monopoly transportation service • In response to OFGEM’s attempt to introduce competition into the domestic gas meter market, NG entered into the Meter Service Agreements (MSAs) with all gas suppliers (apart from EDF)

4. OFGEM’s decision • NG is dominant in the market for the provision of installed domestic-sized gas meters (and the ancillary service of meter maintenance) in GB • NG “has abused its dominant position by entering into long-term contracts [the MSAs] which contain provisions which foreclose the market to competing meter operators and ultimately restrict the commercial benefits that gas suppliers and customers might reasonably expect to obtain from competition in the relevant market” • Fine of £41.6 million • Under appeal to the CAT (Case 1099/I/2/08)

5. NG’s charging arrangements • The Legacy MSAs (ie relating to installed meters) define the number of meters a gas supplier is ‘scheduled’ to rent each month, with the number declining to 0 over 18 years – the “glidepath” • The glidepath allows for up to around 5.5% of the opening legacy stock to be replaced free of charge in each contract year • If in any month a supplier’s remaining stock of legacy meters falls below the glidepath, early replacement charges are payable. The form and level of those early replacement charges depends on how far the supplier’s remaining legacy meter stock has fallen below the glidepath: • If the supplier has replaced meters so that the remaining legacy meter stock is between 90% and 100% of the glidepath amount, then the supplier will pay NG the full monthly rental charge on each meter that it was scheduled to rent at that point in time. The annual rental payable, in the first year of the contract on a NG DCM is about £11 • If the supplier’s meter replacement is such that the remaining legacy meter stock is less than 90% of the glidepath amount, then the supplier must pay NG a premature replacement charge (PRC) per meter, on the shortfall between the level of its remaining stock and 90% of the glidepath amount. For the first year of the Legacy MSAs, the PRC was set at £57 per DCM, although NG has the discretion to levy higher charges if it considers that the supplier has replaced a ‘disproportionate’ number of young meters.

6. Illustration

7. NG’s switching costs are significant • Early replacement charges are triggered at modest levels of replacement • The glidepath allowance represents only a modest increase over the number of meters that need to be replaced in any event for reasons beyond the gas suppliers’ control (eg due to defects) • No account is taken of avoidable costs • Eg for maintenance services, IT and call centre costs • The PRCs take no account of the age or year of installation of the meter • The PRCs (£57 per DCM) far exceed the annual rental cost (about £11) and are high in relation to the purchase and installation cost of a new meter (£70-80) • Cumulative charges of between £87m and £127m if gas suppliers were to replace 3% or 4% of NG’s DCM stock

8. A relevant counter-factual • NG’s own MSAs for New and Replacement meters, and the meter supply contracts of other meter operators, calculate early replacement charges by reference to the time elapsed since the meter was installed – “age-related PRCs” • OFGEM’s analysis shows that gas suppliers would incur much lower costs when making discretionary replacements under an age-related approach than under NG’s Legacy MSAs • Eg, £7 per meter as opposed to £50 per meter when replacing 0.5m DCMs additional to the glidepath amount

9. Effects on switching • Evidence of actual inhibiting effects on gas suppliers’ willingness to contract with competing meter operators • NG deprived suppliers and customers of the benefits of competition • Lower prices offered by competing meter operators and innovation in metering technology • Therefore the Legacy MSAs exerted a substantial disincentive on replacement of more meters than allowed by the glidepath and thus created substantial barriers to entry and expansion • Not objectively justified • Not a necessary or proportionate means of recovering customer-specific sunk costs