Following hard on the heels of President Biden’s July 9, 2021 “Executive Order on Promoting Competition in the American Economy,” which directed federal agencies to exercise their authority to promote competition and curtail perceived abuses in a variety of markets, including “repair markets,” the Federal Trade Commission (FTC) last week issued its policy statement on “Repair Restrictions Imposed by Manufacturers and Sellers.” The policy statement says the FTC “will now prioritize investigations into unlawful repair restrictions under relevant statutes” and “will devote more enforcement resources to combat these practices.” While the FTC’s policy statement focused primarily on greater enforcement of the Magnuson-Moss Warranty Act and federal antitrust laws, President Biden’s executive order was not nearly so constrained, and the FTC has an opportunity to use its investigatory powers to shine a light on potential abuses at every level of repair markets.
FTC Will Target Alleged Tying Arrangements
One practice highlighted in the FTC statement is a “tying arrangement” that “condition[s] a consumer product’s warranty on the use of a third-party service provider or on the use of a particular product,” in violation of the Magnuson-Moss Warranty Act (15 U.S.C. § 2301 et seq.), the Sherman Act (15 U.S.C. § 1 et seq.), and Section 5 of the Federal Trade Commission Act (15 U.S.C. § 45). Given the FTC’s stated intent to ramp up its enforcement efforts and “scrutinize repair restrictions for violations of the antitrust laws,” manufacturers would do well to review their warranty documentation and terms for compliance with these statutes.
The FTC’s policy statement builds off of the agency’s prior “Nixing the Fix” workshop and report to Congress. Through that work, the FTC claims to have “uncovered evidence that manufacturers and sellers may, without reasonable justification, be restricting competition for repair services in numerous ways, including: imposing physical restrictions (e.g., the use of adhesives); limiting the availability of parts, manuals, diagnostic software, and tools to manufacturers’ authorized repair networks; using designs that make independent repairs less safe; limiting the availability of telematics information (i.e., information on the operation and status of a vehicle that is collected by a system contained in the vehicle and wirelessly relayed to a central location, often the manufacturer or dealer of the vehicle); asserting patent rights and enforcement of trademarks in an unlawful, overbroad manner; disparaging non-OEM parts and independent repair; using unjustified software locks, digital rights management, and technical protection measurers; and imposing restrictive end user license agreements.”
As described in its policy statement, the FTC plans to combat these restrictions by, among other things, “filing suit against violators of the Magnuson-Moss Warranty Act to seek appropriate injunctive relief,” while also “closely monitor[ing] private litigation to determine whether the [FTC] may wish to investigate a pattern of unfair or deceptive acts or practices or file an amicus brief,” and “explor[ing] rulemaking, as appropriate.” In her written remarks accompanying the policy statement, FTC Chair Lina Khan said the agency “has a range of tools it can use to root out unlawful repair restrictions, and today’s policy statement would commit us to move forward on this issue with new vigor.” She also called on the public to “submit complaints of violations of the Magnuson-Moss Warranty Act” to the FTC.
Other Potential Areas For FTC Investigation
While the FTC policy statement focuses primarily on enforcement, President Biden’s executive order was not so limited in scope. In particular, the executive order noted that another important way in which the FTC and other agencies “protect conditions of fair competition” is by “promoting market transparency through compelled disclosure of information.” As part of its efforts to “root out” the anticompetitive restrictions that “can substantially increase the total cost of repairs,” the FTC should heed the President’s call and use its investigatory power to shine light on the impact that relatively recent state dealer warranty reimbursement statutes have had on competition in vehicle repair markets.
Over the past three decades, virtually all state legislatures in the United States have enacted dealer protection laws that require manufacturers to reimburse dealers for warranty parts and labor at the same rates that those dealers perform nonwarranty repairs for retail customers, typically by allowing dealers to self-select a sample set of 100 sequential customer-paid repair orders and use them to establish the presumptive retail rates charged by that dealer. At a 2016 FTC workshop entitled “Auto Distribution: Current Issues and Future Trends,” the FTC heard presentations indicating that these statutes have had unintended consequences that distort repair markets, including by encouraging dealers to charge supracompetitive retail prices to nonwarranty customers in order to capture higher reimbursement rates from manufacturers for parts and labor used in warranty repairs.
In the five years since the FTC workshop, state dealer associations have continued to advocate for and secure passage of state laws favoring dealers in connection with warranty reimbursements; in the first half of 2021 alone, seven state legislatures passed laws regulating various aspects of the manufacturer-dealer relationship with respect to warranty. According to a 2010 paper in the Journal of Economic Perspectives entitled “State Franchise Laws, Dealer Terminations, and the Auto Crisis” by economists Francine Lafontaine and Fiona Scott Morton, these statutes can incentivize dealers “to increase their ‘list’ prices for repairs. If warranty markups are high enough, they can allow what would normally be unprofitable dealerships to remain in business.” In other words, because warranty work paid for by the manufacturer is the dealer’s single largest source of business for its service department, these state laws discourage dealers from competing for customer-paid repair work; instead, dealers are encouraged to extract the highest possible retail prices from nonwarranty customers in order to goose their warranty reimbursement rates, even if that means sacrificing customer-paid work from more price-sensitive customers who divert their business to lower-cost independent repair shops once their vehicles are no longer covered by warranty.
The net result is less competition between dealers and independent repair shops for nonwarranty repair work; higher prices for consumers who nevertheless do go to dealers for their nonwarranty repair work; supracompetitive warranty parts and labor rates paid by manufacturers to dealers; and ultimately, higher wholesale prices charged by manufacturers resulting in higher retail prices charged by dealers to consumers. The market distortion caused by these state dealer laws has been made even more acute in recent years by the entry of electric vehicle manufacturers that do not have a dealer network and thus are not required to pay a dealer profit margin in order to perform warranty repairs.
The FTC and U.S. Department of Justice have long recognized that these state dealer laws can significantly distort the automotive market. A 2009 paper from the Economic Analysis Group of the DOJ’s Antitrust Division advocated for the elimination of state bans on direct manufacturer sales in order to allow OEMs to reduce inventories and distribution costs by better matching production with consumer preferences. In 2014, staff from the FTC’s Office of Policy Planning, Bureau of Competition, and Bureau of Economics submitted written comments encouraging lawmakers in Missouri and New Jersey to repeal those states’ bans on direct sales because such prohibitions limit manufacturers’ ability “to innovate in their methods of sale in ways that might be more cost-effective and responsive to consumer demand” and are “very likely anticompetitive and harmful to consumers.” Long before that, a 1986 paper from the FTC’s Bureau of Economics recognized that state dealer protection statutes could have the effect of raising new automobile prices by roughly six percent. Although the 2016 FTC workshop was helpful, it has been decades since the FTC used its substantial investigatory powers—including under Section 6(b) of the FTC Act, which authorizes the Commission to conduct wide-ranging studies that do not have a specific law enforcement purpose—to look into competitive conditions in the automotive industry.
President Biden’s directive for federal agencies to exercise their investigatory powers to promote competition and curtail anticompetitive practices should serve as a call for the FTC to look into how state dealer warranty statutes have impacted competition in vehicle repair markets. Among other things, the FTC should look at whether these statutes have had an impact on dealer choices with respect to whether and how to compete with independent repair shops for service work on vehicles that are out of warranty, including by seeking data concerning the mix of customer-paid versus warranty-paid repair work dealers perform today as opposed to two decades ago, as well as the prices paid for parts and labor in connection with warranty versus nonwarranty repairs. While state legislatures ultimately must consider the wisdom of keeping these laws on the books, the FTC can use its investigatory powers to help lawmakers and voters understand the costs associated with these statutes.