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Exclusive contracts in Kenya’s beer distribution

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Nicholas Nhundu

Efficient distribution is central to competitiveness in the beer industry. In several cases around the world, the proliferation of entrant firms in beer has been obstructed by hurdles in getting products to consumers through the distribution system.1 Generally incumbents have better access to distribution networks for their own products and may control these networks which effectively crowds out new players in the industry. Recently in Kenya beer distributors are accusing the largest beer producer East African Brewers Limited (EABL) of closing the market for competitors through exclusive distribution contracts.2 This article discusses the exclusive contracts in the Kenyan beer industry and draws on lessons from recent cases.

EABL and the distributors’ dispute 

EABL is alleged to have issued three year contracts to its distributors that prevent them from selling products of rival firms. The contracts required the distributors to submit an oral or written notification should they wish to distribute a competitor’s products or operate outside designated territories.3 After more than a week of negotiations most of the distributors eventually signed the contracts. However, five distributors that collectively control about 30% of EABL’s distribution persisted with the protest and refused to sign the contracts. Bia Tosha, which is the single largest distributor, approached the courts claiming that EABL has threatened to terminate its distribution contracts for 22 routes.4 Bia Tosha claimed that EABL is threatening its organisation and other local distributors to coerce them to exclude rival manufacturers. EABL maintains that its contracts are non-exclusive and that the requirement that distributors notify the company prior to entering into working relationships with other firms (or selling outside their assigned zones) is not anticompetitive.5

Recently the Kenyan beer distributors also sought to jointly set the final prices of beverage products within the industry. This move was rejected by the competition authority citing it as an “uncompetitive endeavour that is tantamount to price fixing”.6 The competition authority also argued that the proposal was detrimental to consumers because any inefficiencies along the distribution chain would be passed on to the consumer in the form of higher prices.7 The distributors are allowed to add a mark-up of up to 4% which they sought to increase to between 8% and 12%, the same mark-up applied by their Ugandan counterparts. However, Ugandan distributors are allowed to add a higher mark-up because they incur transport and other distribution costs not incurred by operators in Kenya.8

Understanding exclusive contracts in distribution

Exclusive distribution contracts are a concern if they can be used by a firm with market power to foreclose the market to rivals. Market foreclosure occurs when a firm that has market power in one market uses its market power to restrict output or access in another market.9 Although exclusive contracts can be efficiency enhancing, there are instances where they significantly harm competition in a sector.10 For example, in some cases an input is produced or controlled by the dominant firm and is indispensable and cannot be readily sourced from alternative suppliers or replicated.11 In the case of beer distribution in Kenya, if a critical proportion of available distributors is tied up by EABL, rival brewers may be harmed. Furthermore exclusive contracts can also have a significant impact on competition where the decrease in demand of victim firms’ products is large enough to deter them from entering or remaining in the market. This effectively prevents new firms from entering while crowding out the ones which are active in a sector.

The potential anticompetitive impact of the terms of exclusive agreements needs to be assessed in detail before a contract is considered unlawful, given the fact that exclusive arrangements may also induce certain transaction and administrative cost-savings.12 Competition authorities will typically assess the share of the total relevant market which is foreclosed - if it is a relatively small share, a substantial anticompetitive effect is unlikely.13 Contract duration is also important in this regard - if distributors are frequently released from their contractual obligations they can thus be offered contracts by entrants.14

The Kenyan Competition Act 

The Kenyan Competition Act (2010) addresses exclusive contracts under section 21 “restrictive trade practices” and section 24 “abuse of a dominant position”.15 Section 21 prohibits any agreements which have as their object or effect the prevention, distortion or lessening of competition in trade in any goods or services in Kenya, or a part of Kenya.

Section 24(2)b outlaws the abuse of a dominant position through limiting or restricting production, market outlets or market access, investment, distribution, technical development or technological progress through predatory or other practices. A dominant firm is defined in the act as a firm that controls not less than one half of the market share - currently EABL controls 90% of the market in Kenya.16

If EABL brands are a must have for distributors in Kenya, it puts EABL in a strong bargaining position in terms of enforcing the agreements. Even where the clause in the contracts is not explicitly restrictive, as argued by EABL, its overall effect may be anticompetitive, which is an important aspect that the authorities will have to consider.

Remedies 

Remedies for exclusive distribution contracts normally reduce the incentive to exclude or impede the impact of exclusive contracts while posing minimal side-effects. For example, some competition authorities across the world have imposed a percentage of rival products that a distributor may hold at a time. This percentage could be increased on a yearly basis to allow existing companies time to adjust while also matching the demand of small firms products which are expected to increase with time.17

In Mexico, SABMiller complained to the competition authority that Heineken and AB InBev had locked up many of the country's sales opportunities through exclusive contracts.18 During that time Heineken and AB Inbev jointly controlled 98% of the market share in Mexico.19 Although the competition authority noted that these contracts were anticompetitive, it stopped short of prohibiting the contracts, noting that they can make Mexican retailing more efficient by, for example, supplying financing for improvements and expansion.20 The authority therefore limited the exclusivity agreements to 25% of their total points of sale, gradually reducing that to 20% by 2018.21

In South Africa independent distributors brought a case against SABMiller, although it was dismissed by the Competition Tribunal.22 The Tribunal found that the case concerned only 10% of SAB’s distribution system which would have made any possible intervention have little or no effect on intra-brand competition in the market as a whole.

In the recent AB InBev/SABMiller merger, which involved similar arrangements in the beer industry, the parties agreed to a condition in South Africa which opened access of up to 20% of fridge space to rivals in line with findings in previous European cases.23 In the United States, the same merger was approved with a number of conditions that also sought to prevent vertical foreclosure.24 The first condition prevented AB InBev from running incentive programmes that encourage independent distributors to not sell imports or craft beers made by competitors.25 AB InBev was also required to seek the Department of Justice’s review of any future acquisitions of beer distributors or craft beer brands.26 Lastly AB InBev was required to sell its SABMiller's USA business; this had an effect of allowing other players to sell beers such as Miller Lite and Miller High Life in the USA.27 The considerations in these transactions are particularly relevant to the issues in Kenyan distribution and suggest possible alternative remedies which may be considered.

A PDF copy of this article is available here.

Notes

  1. Matumba, C. and Mondliwa. P. (2015). ‘Barriers to Entry for Black Industrialists - The Case of Soweto Gold's Entry into Beer’. CCRED Working Paper No. 11/2015; Dunn, G. (2012). ‘Exclusive distribution: An overview of EU and national case law’. eCompetitions; and Guthrie, A. ‘Mexico's Top Brewers Agree to Limit Exclusivity Contracts’ (11 July 2013). Wall Street Journal.
  2. Ngugi, B. ‘Lobby wants spirits, beer distribution sector opened up’ (27 April 2016). Business Daily. 
  3. Mugambi, M. ‘EABL in standoff with distributors over exclusive beer supply contracts (Kenya)’ (8 June 2016). Business Daily.
  4. Wasuna, B. ‘EABL’s distributor gets order barring brewer from picking replacement’ (14 June 2016). Business Daily.
  5. See note 4.
  6. Machira, M. ‘Competition Authority of Kenya bars beer distributors from fixing prices’ (2 June 2016). Standard Digital.
  7. Njoroge, K. ‘EABL, suppliers row could push beer prices up’ (30 May 2016). Daily Nation.
  8. See note 6.
  9. Rey, P. and Tirole, J. (2006). Handbook of Industrial Organization III: A Primer on Foreclosure. University of Toulouse: France. 
  10. Padilla, J. (2009).  Exclusive Dealing, Loyalty Discounts, and Related Practices. The Law and Economics of Article 82 EC.
  11. See note 10.
  12. Inderst, R. and Valletti, T. (2009). Incentives to foreclose. The online magazine for global competition policy, March-09 (1). 
  13. Verouden, V. (2008). 'Vertical Agreements: Motivation and Impact'. Competition Law and Policy 1813.
  14. See note 9.
  15. Kenya Competition Act No.12 of 2010. 
  16. See note 15.
  17. See note 1. (Dunn, G. & Guthrie, A).
  18. See note 1. (Guthrie, A)
  19. Case, B. and Fletcher, C. ‘AB InBev, Heineken’s Exclusive Beer Deals Capped by Mexico’ (12 July 2013). Bloomberg. 
  20. See note 19.
  21. See note 18.
  22. Kaziboni, L. ‘SA Tribunal finds no case against SAB distribution’ (August 2014). CCRED Quarterly Competition Review.
  23. Competition Tribunal. Conditions to the approval of the merger – Anheuser-Busch InBev SA/NV and SABMiller Plc, Case No. LM211Jan16(023283). 
  24. Snider, M. ‘DOJ approves Anheuser-Busch InBev's $107 billion deal for SABMiller’ (20 July 2016). USA Today.
  25. Hirsch, L and Prentice, C. ‘AB InBev, SABMiller deal wins U.S. approval, adds craft beer protections’ (21 July 2016). Reuters.
  26. See note 24.
  27. See note 25.