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But how will these changes influence the day-to-day conduct of tech giants as they interact with other businesses and consumers?
One of the central pillars of the new digital markets regime is the introduction of so-called ‘conduct requirements’ for SMS-designated firms. This will involve each SMS firm having their own bespoke Code of Conduct developed by the CMA to target any specific concerns the CMA may have in relation to that firm’s digital activities. The focus of the conduct requirements will be on ensuring fair trading, open choices, trust and transparency.
In Part #4 of our DMCC In Focus Series we consider in further detail what these Code of Conducts might look like, and how they will be enforced in practice.
Note that we do not focus on some of the other tools the CMA will have to regulate SMS firms – including Pro-Competitive Interventions (PCIs) or new merger control rules. These will be dealt with in later editions of our DMCC Bill in Focus series.
It’s also important to note that the Bill remains in draft form. A number of proposed amendments have already been tabled following the Committee stage and further changes are possible.
Conduct requirements can only be imposed on a company if they have been designated by the CMA as having SMS following a formal investigation process.
In other words, Codes of Conduct cannot be imposed ‘out of the blue’ on a tech firm – the formal (and public) process of SMS designation is the gateway that enables the CMA to impose conduct requirements.
The impact assessment accompanying the Bill has assumed that there will be 4 SMS designations in the first year after the Bill comes into force, but of course this is just an estimate. Either way, it is unlikely that every single tech firm that could conceivably satisfy the SMS criteria will receive formal designation in the immediate term once the Bill comes into force. The CMA has limited resources so will need to select its targets carefully.
The five-part criteria must be satisfied in order for the CMA to designate a firm as having SMS are set out in the dropdown menus below:
First of all, the firm must be carrying out a “digital activity”.
The scope of “digital activity” is set out in the form of three broadly defined categories of activity, namely:
In addition, a link with the UK is required. A digital activity will be considered to be linked to the UK if:
The Explanatory Note to the Bill gives the example of a search engine service with operations physically located outside of the UK, which could still be considered “linked to the UK” if the activity had a significant number of UK users. However, the Bill does not provide any further guidance as to how many UK users would be required to meet the “significant number” threshold.
Firms must also be found to have “substantial and entrenched market power” in relation to the digital activity (based on a forward-looking assessment of a period of at least 5 years).
In determining whether this criteria is met, the CMA must take account of developments that would be expected to happen if the firm was not designated, as well as wider developments that may affect the firm’s conduct in carrying out the digital activity (such as changes in the wider regulatory landscape or the introduction of other legislation).
We await further guidance on how the CMA will apply this test practice and the extent to which it will differ to the typical dominance assessment under Competition Act 1998 (CA98).
Next, the firm must have a “position of strategic significance” in relation to the digital activity.
There are four alternative ways that a firm can satisfy this test, which are expanded upon in the Explanatory Note accompanying the Bill
Finally, a firm can only be designated as having SMS if it meets certain turnover thresholds, which have been designed to capture only the largest players.
The turnover condition is met in relation to an undertaking if the CMA reasonably estimates that:
If the firm is part of a group, then the turnover of the whole group should be considered, rather than the firm’s UK turnover. Importantly, the relevant turnover does not need to relate to digital activities: total turnover is the relevant measure for this test.
As noted above, prior to making an SMS designation, the CMA is required to conduct an SMS investigation. Such investigations must be concluded within nine months (extendable by up to three months in limited circumstances) and can only be undertaken where the CMA has reasonable grounds to consider that it may be able to designate a company as having SMS.
Once designated, the company will be considered to have SMS for five years, although the CMA can revoke or renew the designation.
SMS designation decisions can be appealed to the courts or Competition Appeal Tribunal (CAT) but, importantly, only on judicial review (JR) grounds – meaning a decision cannot be appealed on the merits.
The JR standard of appeal is consistent throughout the digital markets chapter of the Bill and has proved highly controversial. While the intention is to speed up decision-making by limiting the scope of appeals, a number of third parties have submitted evidence to Parliament arguing that the sweeping powers and wide discretion handed to the CMA calls for more robust independent judicial scrutiny. It has been argued that the risk of procedural delay can be better managed by introducing fast-tracked merits appeals, but it remains to be seen whether Parliament will be swayed by these representations.
Yes, unlike the Digital Markets Act in the EU, the UK has opted for a more tailored approach. The Bill therefore gives the CMA the power to impose tailored Codes of Conduct on SMS firms in relation to the digital activities for which they are designated. These requirements will govern the way in which an SMS firm must conduct itself in relation to the specified digital activity (covering its interactions with both users/consumers and other firms).
This means that the conduct requirements are likely to look very different for each SMS firm to reflect the particular concerns the CMA has in relation to their activities. For example, the conduct requirements may address some of the concerns the CMA has raised in relation to Apple and Google’s alleged duopoly in mobile ecosystems and Amazon’s alleged self-preferential treatment of its own retail business over third party sellers on Amazon Marketplace.
The CMA is required to consult publicly before imposing (or indeed varying or revoking) a conduct requirement on a SMS firm, but it retains broad discretion.
Although the CMA is only able to impose conduct requirements on a firm after it has received formal SMS designation, it may carry out a consultation on proposed conduct requirements before it has made a decision on designation, therefore enabling it to impose conduct requirements at the same time as issuing a decision on designation, or very shortly afterwards.
Once in force, the CMA must publish guidance about how the conduct requirements will operate in practice, and must keep requirements under review to assess their effectiveness and to determine whether they should be varied or revoked. As well as revoking or amending imposed requirements, the CMA also has the ability to introduce additional requirements.
Strictly speaking, the CMA can only impose certain “permitted types” of conduct requirement. However, in practice these afford the CMA very wide discretion to introduce requirements that promote fair trading, open choices, trust and transparency.
This has proved controversial, with some arguing that they afford the CMA too much power to direct the affairs of SMS firms.
For example, the CMA can require SMS firms to trade on “reasonable and fair terms”, which could have significant implications for businesses that trade with SMS firms. The Bill’s Explanatory Note is clear that this could be used to stop SMS firms from imposing unfair payment terms on users, including charging unfairly high prices. Indeed, the Bill includes a specific “final offer” mechanism to help resolve disputes the relate to unfair payment terms (see further below). Terms that unreasonably limit the legal or proprietary rights of users could also be banned.
More generally, the permitted conduct requirements that the CMA can impose on a SMS firm are divided into two categories: obligations and restrictions. These are set out in full in the dropdown menus below:
The CMA may impose conduct requirements obliging a SMS firm to do any of the following:
(a) trade on fair and reasonable terms;
(b) have effective processes for handling complaints by and disputes with users or potential users;
(c) provide clear, relevant, accurate and accessible information about the relevant digital activity to users or potential users;
(d) give explanations, and a reasonable period of notice, to users or potential users of the relevant digital activity, before making changes in relation to the relevant digital activity where those changes are likely to have a material impact on the users or potential users;
(e) present to users or potential users any options or default settings in relation to the relevant digital activity in a way that allows those users or potential users to make informed and effective decisions in their own best interests about those options or settings.
The CMA may impose conduct requirements preventing a SMS firm from doing any of the following:
(a) applying discriminatory terms, conditions or policies to certain users or potential users or certain descriptions of users or potential users;
(b) using its position in relation to the relevant digital activity, including its access to data relating to that activity, to treat its own products more favourably than those of other undertakings;
(c) carrying on activities other than the relevant digital activity in a way that is likely to increase the undertaking’s market power materially, or bolster the strategic significance of its position, in relation to the relevant digital activity;
(d) requiring or incentivising users or potential users of one of the designated undertaking’s products to use one or more of the undertaking’s other products alongside services or digital content the provision of which is, or is comprised in, the relevant digital activity;
(e) restricting interoperability between the relevant service or digital content and products offered by other undertakings;
(f) restricting whether or how users or potential users can use the relevant digital activity;
(g) using data unfairly; and
(h) restricting the ability of users or potential users to use products of other undertakings.
As a further indication of the type of harmful conduct the CMA may seek to regulate via the above conduct requirements, during the Committee Stage of the Bill, Parliament has heard evidence from a number of third parties calling for regulation of SMS firms, for example:
Further information, including written submissions by third parties can be viewed on the DMCC Bill page of the UK Parliament website.
The CMA may open a ‘conduct investigation’ where, on the basis of available evidence, it has reasonable grounds to suspect that an SMS-designated firm has breached a conduct requirement. Before reaching a decision, the CMA is required to consider any representations made by the firm being investigated.
As part of these representations, an SMS-designated firm may argue that its conduct is justified on the basis that it drives wider consumer or competition benefits in the market – a process referred to as the ‘countervailing benefits exemption’.
The countervailing benefit exemption is designed to ensure that conduct which results in net benefits for users (or potential users) that outweigh any adverse impact on competition will not breach the conduct requirements.
Some examples of benefits may include lower prices, higher quality goods or services, or greater innovation in relation to goods or services. Much like the approach under section 9(1) of the CA98, such an exemption can only be established where the CMA is satisfied that there is no other reasonable or practical way for the firm to achieve the same benefits with a less anti-competitive effect – in essence, the outcome must be that which is the least disruptive to competition.
The CMA gives an example of how the countervailing benefits exemption could apply in the Explanatory Notes to the Bill. It refers to a conduct requirement being imposed on a designated firm requiring users to be allowed to make their own choice between internet browsers on their phone operating system (rather than using the firm’s own default browser). If the firm rolled out an update to its operating system which changed the default internet browser back to its own browser, the CMA could investigate the firm for breaching the conduct requirement. However, if the firm could demonstrate that the countervailing benefits exemption applied because, for example, the change was necessary to apply critical security patches, then the CMA could close the conduct investigation in relation to the conduct requirement on default options.
Consistent with the approach in the Bill more generally, it is proposed that the CMA will have flexibility in terms of how it may choose to enforce a breach of conduct requirement by an SMS-designated firm. For example, it can:
The Bill also introduces the possibility of individual liability for those involved in breaches of conduct requirements. Consistent with the CMA’s stance of aggressively pursuing directors following breaches of CA98, directors of SMS-designated firms could face director disqualification proceedings of up to 15 years following breach of conduct requirements.
In addition, the CMA may impose penalties on senior managers assigned to the role of nominated officer for failure without reasonable excuse to ensure compliance with a relevant compliance reporting obligation imposed by a conduct requirement.
SMS-designated firms may appeal CMA breach decisions in the CAT, but again only on JR grounds.
Although the Bill itself makes no reference to third party complaints regarding conduct breaches, the Explanatory Notes to the Bill make clear that complaints submitted by third parties will be a relevant factor when considering whether the CMA has reasonable grounds to suspect that an undertaking has breached a conduct requirement (i.e. whether or not to open an investigation). However, it remains to be seen whether the CMA’s Digital Markets Unit will provide a mechanism enabling third parties to make direct complaints.
Separately, the Bill does provide a form of third-party dispute resolution process for cases where an SMS-designated firm breaches an enforcement order in relation to a conduct requirement regarding fair and reasonable payment terms. This is known as the ‘final offer mechanism’ (FOM) – click below to read more about the FOM procedure.
The FOM is a tool of last resort that the CMA can use to resolve disputes about fair and reasonable payment terms between an SMS-designated firm and a third-party. The process, which is referred to as “baseball arbitration” due to its long-standing use in Major League Baseball salary disputes, involves both parties submitting a best and final offer to the CMA. The CMA can then only accept one of those two offers, which will become binding on the parties.
This is designed to encourage the parties to arrive at an agreement independently rather than risk the other party’s final offer being chosen by the CMA. It is also in the parties’ interest to submit a realistic final offer to increase the likelihood that it is selected by the CMA.
Still, the FOM is only available in exceptional circumstances as the CMA can only utilise the mechanism if an SMS firm has breached an enforcement order in relation to fair and reasonable payment terms. It is proposed that the process would work as follows:
1. If an SMS firm has breached a relevant enforcement order and the CMA has exhausted all other enforcement tools, it can initiate the FOM.
2. If the FOM is initiated by the CMA (which is optional for the third party, but mandatory for the SMS firm):
a. The CMA will specify a date before which each party must submit its final offer payment terms. The CMA has to choose between one of the two offers.
b. The CMA has six months from the date on which the FOM is initiated to make a final offer order (absent the parties agreeing terms between themselves).
c. Before the six-month period expires, the CMA will select one of the offers that a party has submitted and those terms will become the terms in the proposed transaction (and any subsequent transaction between the parties that is substantially the same as the proposed transaction).
d. The CMA will also impose such obligations as are required to give effect to the chosen terms.
3. If either party is unhappy with the outcome, it can only be appealed on JR grounds.
Final offer orders cease to have effect when revoked (e.g. where the parties have reach an agreement before the CMA makes a final offer order) or when the designation to which it relates ceases to have effect.
Yes, the Bill establishes a private enforcement regime enabling claims to be brought by third parties affected by a breach of a conduct requirement by an SMS-designated firm.
It is currently proposed that a conduct requirement under the Bill will constitute a statutory duty owed by an SMS-designated firm to any person who may be affected by a breach of the requirement. This means that third parties who have suffered loss as result of an established breach of a conduct requirement by an SMS-designated firm may bring ‘follow-on’ civil proceedings seeking damages and/or an injunction against the SMS firm.
In principle, it is possible that SMS firms could also face ‘standalone’ damage claims brought independently by third parties alleging breach of a conduct requirement, although such a third party would face the challenge of evidencing both the breach and their financial losses.
While in practice it will only be possible to bring such claims under the Bill once there has been an SMS designation of a firm by the CMA and the adoption of a relevant measure (such as a conduct requirement), the broad nature of conduct requirements that the CMA can impose means that each conduct requirement could give rise to a number of claims – some of which may be speculative – focussing on different aspects of the relevant firm’s conduct. It may also be that we see hybrid cases with elements of overlap between of conduct requirement under the Bill and abuse of dominance claims under CA98.
It is also notable that the Bill does not specifically permit mass ‘opt-out’ class action claims by consumers who have suffered loss as a result of a conduct requirement breach by an SMS firm – although some third parties (for example the consumer body Which?) have submitted evidence to Parliament calling for consumer class action rights in the Bill to be brought in line with those that apply for breaches of the CA98.
It remains to be seen how the private enforcement regime around the Bill will evolve in practice, but as with CA98, we can expect claimants to test the outer boundaries of civil damages actions to their limits.
Co-authors: Richard Collie, Elizabeth Smillie, and Emily Rhodes
This publication is intended for general guidance and represents our understanding of the relevant law and practice as at July 2023. Specific advice should be sought for specific cases. For more information see our terms & conditions.
24 July 2023