19 Feb 2013

The Australian third party access regime moves closer to the US essential facilities doctrine

by Linda Evans, Sian Ooi

The market circumstances in which Australia's third party access regime will apply are now more closely aligned with those that apply under the US essential facilities doctrine.

In 1995, Australia introduced a statutory national access regime which is now contained in Part IIIA of the Competition and Consumer Act 2010 (the Act). The report of the national competition policy review in 1993 recommended that a new legal regime be established under which firms could, in certain circumstances, be given a right of access to specified “essential facilities”. That report considered that a new regime was necessary because “while the misuse of market power provision of the Act can sometimes apply in these situations, submissions to this inquiry confirmed the Committee’s own assessment that something more is required to meet the needs of an effective competition policy”.

A recent decision, emerging from the iron ore-rich Pilbara region of Western Australia, has significantly changed the way in which this regime is interpreted, with the consequence that the market circumstances in which it will apply are now more closely aligned with those that apply under the US essential facilities doctrine than was ever the case before. The whole of the national access regime is currently under review. Whether it continues in force and, if so, in what form, will be affected by how this recent decision is viewed.

The national access regime

The scheme which was introduced following the national competition policy report provided for a person to apply to have a service which met certain criteria “declared”. Declaration resulted in an enforceable right to negotiate terms and conditions of access with the service provider, with disputes being determined by the Australian regulator.

The criteria that must be met in order for a service to be declared are as follows:

  • access to the service would promote a material increase in competition in at least one market (whether or not in Australia) other than the market for the service;
  • it would be uneconomical for anyone to develop another facility to provide the service;
  • the facility that provides the service is of national significance; and
  • the service is not already covered by a certified specific access regime.

Comparison with the essential facilities doctrine

From the time of its introduction, the relationship between Part IIIA, the US essential facilities doctrine (arising as it does under the monopolisation provision in the Sherman Act) and the Australian misuse of market power provision (section 46 of the Act) has been of interest to the courts and commentators. Early in the interpretation of Part IIIA, quite a sharp distinction was drawn between the role to be played by Part IIIA on the one hand and the misuse of market power provision in Australia and the US essential facilities doctrine on the other: see NT Power Generation Pty Ltd v Power and Water Authority (2004) 219 CLR 90 at 134.

One of the key distinctions drawn in the early decisions about the different nature of the provisions related to the characteristics of the facility in question. The US essential facilities doctrine considers whether it would be impractical for a new entrant to duplicate the facility at issue. In other words, if it is privately profitable for a new entrant to build its own facility (even if at a higher cost), then the doctrine will not be invoked. The rationale is that if a potential entrant can practically and reasonably feasibly build its own facility, then the incumbent faces the possibility of actual entry by that potential entrant. The prospect of actual entry should impact on the incentives which the incumbent faces and make it more likely that the incumbent would offer services to the potential entrant at a lower cost than the potential entrant would face if it built a new facility. Such an approach was seen as appropriate in the context of a monopolisation claim.

Until the recent decision in the Pilbara Infrastructure Pty Ltd v Australian Competition Tribunal [2012] HCA 36, that approach was rejected in Australia in favour of a broader social costs or natural monopoly test. In deciding whether it was uneconomical to develop another facility to provide the service, “uneconomic” was construed in a broad social cost benefit sense and was directed to determining whether the facility demonstrated natural monopoly characteristics. To answer that question, one would determine the reasonably foreseeable potential demand for the facility and then compare the capital and operating costs of an existing and a new facility. That approach was considered to be consistent with the objects of Part IIIA, which relevantly include promoting the economically efficient operation and use of, and investment in, the infrastructure by which services are provided, thereby promoting effective competition in upstream and downstream markets.

Other reasons advanced for favouring that approach and rejecting the private profitability test included:

  • the potential for an incumbent facility owner to deny or delay access – for example, where it would only be profitable to build an alternative facility with limited capacity (which is lower than the spare capacity on the existing facility which would otherwise be available);
  • the inefficient duplication of infrastructure that might result from a test of private profitability.

The natural monopoly/social costs interpretation applied for a decade but has now been definitively rejected by the High Court of Australia in favour of a test of private profitability.

Changing the view

What did the High Court actually decide?

The High Court identified three possible interpretations of the expression “uneconomical for anyone to develop another facility to provide the service”:

  • the natural monopoly approach – whether the facility in question can provide society’s reasonably foreseeable demand for the relevant service at a lower total cost than if it were to be met by providing two or more facilities;
  • the net social benefit approach – this approach would take account not only of productive costs and benefits but also considerations of allocative and dynamic efficiency; and
  • the privately profitable test – which directs attention to whether any person (including the incumbent operator of the facility to which access is sought) would find it profitable to establish a second or competing facility.

The High Court preferred the privately profitable test, which focuses on, “whether it is shown to be likely that anyone could profitably, and therefore would be likely to, develop another facility to provide the service”. That is directly analogous to the second of the four elements identified by the Court of Appeals for the Seventh Circuit in the US MCI Communications Corp decision (708 F 2d 1081 (7th Cir 1983), which looks at a competitor’s inability practically or reasonably to duplicate the essential facility.

In doing so, the High Court focused on the language used in the Act. First, the reference to “uneconomical for anyone” focuses attention on whether there is someone who would find it economical to develop another facility, not on whether the person who decides whether or not a service should be declared considers that the development of another facility would be economically efficient from the perspective of society as a whole. Second, other relevant statutory provisions use the expression “economically feasible to duplicate the facility”, which focuses on the position of an actual or potential participant in the market rather than the perspective of society as a whole.

It was central to the High Court’s interpretation that the provisions focus on actual and potential market participants, rather than on hypothetical issues and broader questions of the perspective of society as a whole.

Without explicitly referring to the US jurisprudence, the High Court noted that if the incumbent faces a credible threat of new entry, that will contribute to the efficiency of the relevant market by inducing the incumbent to produce and price its services efficiently. The High Court went on to say that “this is simply to restate basal competition principles which underpin the whole of the Act”. This comment puts the role of Part IIIA squarely in the context of the prohibitions on restrictive trade practices contained in Part IV of the Act. It therefore more closely aligns the interpretation of Part IIIA to the misuse of market power provisions contained in the Act and to the US essential facilities doctrine.

For the High Court, the notion of private profitability is not confined to circumstances in which the facility could profitably be developed as a standalone facility. It will be sufficient if anyone (including the incumbent) can profitably develop an alternative facility as part of a larger project. There are probably only limited circumstances in which the different test will lead to a different result, but it is an interesting shift in the way in which the access regime is viewed.

Will the private profitability test remain?

Unrelated to the decision of the High Court, the Australian Government has asked the Productivity Commission (the Australian Government’s independent research and advisory body) to undertake a 12-month inquiry into the national access regime. The Productivity Commission has been tasked with (among other things) examining the rationale, role and objectives of the national access regime and Australia’s overall framework of access regulation, and assessing the performance of the national access regime in meeting its rationale and objectives.

While not resulting from the High Court decision, the inquiry will naturally look at the decision and its implications.

The inquiry is currently at an early stage, but issues which have been identified as requiring examination are:

  • how significant are the problems which the national access regime seeks to address and whether it continues to perform a useful role;
  • the long-term and practical implications of the High Court decision for economic efficiency and investment in infrastructure;
  • the implications of the incumbent operator of the facility being included or excluded in the definition of “anyone”;
  • the implications of considering that the alternative facility could be developed as part of a larger project;
  • how difficult it is to draft and implement a natural monopoly or net social benefit test in black-letter law and whether a private profitability test is easier to apply in practice.

The National Competition Council, which has a key role in determining whether or not a service should be declared, has lodged a submission with the Productivity Commission recommending an amendment to the “uneconomical for anyone” provision, given the High Court’s decision.

In the Council’s view, the High Court’s approach allows for the duplication of a facility in circumstances that are wasteful of societal resources and which reduce productivity by requiring multiple facilities to be developed when a single facility could have provided sufficient services at a lesser cost. The Council considers that the “uneconomical for anyone” provision should instead focus on the costs to the overall Australian economy resulting from duplication of natural monopoly-type facilities in order to foster competition in dependent markets.

Conclusions

The High Court’s approach draws a distinction between prohibitions on conduct of the type found in misuse of market power and monopolisation provisions, and a regulatory type of solution which focuses on broader societal and public interest considerations.

The High Court’s decision came as a surprise to many. In the context of the Productivity Commission’s inquiry, the Government will have an opportunity to indicate whether the High Court accurately reflected the underlying policy intent of the legislation or whether the drafting of the legislative provisions codified a slightly different notion.

It remains to be seen what recommendations the Productivity Commission will make in its report, and whether this will result in legislative change. The final report is due to be provided to the Government in October 2013.

This article was first published in Competition Law Insight, 19 February 2013

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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.