FTC Staff Comment to the Hon. Patrick Johnston Concerning California A.B. 338 to Create a Service Station Dealers Board to Regulate Gas Distribution

UNITED 5T ATES OF AMERIC'"
FEDERAL TRADE COMMISSION
W.... SHI ..CTON. DC. 20580
'r ,.
P874666
A.B.
its
of 	a
April 	20, 	1987
The 	Honorable 	Patrick 	Johnston
Chairman
Finance 	and 	Insurance 	Committee
California 	State 	Assembly
Sacremento, 	California 	45814
Dear 	Chairman 	Johnston:
The 	staff 	of 	the 	Federal 	Trade 	Commission* 	is 	pleased 	to
submit 	this 	letter 	in 	response 	to 	your 	request 	for 	comments 	on
California 	Assembly 	Bill 	338, 	a 	proposal 	to 	regulate 	gasoline
distribution 	in 	California 	through 	the 	creation 	of 	a 	"Service
station 	Dealers 	Board." 	We 	believe 	that 	A.B. 	338 	is 	anti-
competitive 	and 	harmful 	to 	consumers 	and 	that, 	if 	it 	becomes 	law,
California 	motorists 	will 	pay 	higher 	prices 	for 	gasoline.**
Description 	of 	A.B. 	338
A.B. 	338 	would 	amend 	the 	California 	Business 	and 	Professions
Code 	by 	inserting 	additional 	regulations 	covering 	the 	distribution
of 	petroleum 	products. 	It 	would 	establish 	a 	Service 	Station
Dealers 	Board 	and 'would 	require 	all 	refiner-operated 	and
distributor-operated 	gasoline 	stations 	to 	be 	certified 	by 	the
Board. 	Termination 	of 	non-refiner 	franchises 	would 	be 	subject 	to
prescribed 	notice 	and 	termination 	procedures, 	and 	cvuld 	be
appealed 	to 	the 	Board. 	The 	Board would 	also 	enforce 	a 	"Fair
Practices" 	Code 	that 	would 	prohibit 	many 	terms 	now 	common 	in
contracts 	between 	retailers 	and 	their 	franchisors, 	such 	as
requirements 	that 	the 	retailers 	purchase 	minimum volumes 	of
gasoline 	or 	that 	they 	participate 	in 	promotional 	programs.
338 	would 	also 	prevent 	a 	refiner 	from 	competing with 	any 	of
own.retailers 	by 	opening 	a 	gasoline 	station within 	one 	mile
dea~er's station.
* 	These 	comments 	represent 	the 	views 	of 	the 	FTC's 	Bureaus 	of
Competition, 	Consumer 	Protection, 	and 	Economics, 	and 	do 	not
necessarily 	represent 	the 	views 	of 	the 	Federal 	Trade 	Co~
ission 	or 	any 	individual 	Commissioner. 	The 	Commission 	has,
however, 	authorized 	the 	staff 	to 	submit 	these 	comments 	for
your 	conside=ation.
** 	FTC 	staff 	comments 	have 	opposed 	passage 	of 	divorcement 	and
below 	cost 	selling 	bills 	in 	North 	Carolina, 	South 	Carolina,
Georgia, 	Washington, 	Hawaii, 	and 	in 	the 	United 	States
Senate 	and 	House 	of 	Representatives. 	The 	Commission's
staff 	has 	acquired 	experience 	in 	these 	issues 	from 	studies,
investigations, 	and 	enforcement 	actions.

The 	Honorable 	Patrick 	Johnston 	-2-
The 	probable 	effect 	of 	licensing 	gasoline 	stations
A.B. 	338 	states 	that 	"the 	distribution 	and 	sale 	of 	petroleum
products 	in 	this 	state 	vitally 	affects 	the 	general 	economy 	of 	the
state 	and 	the 	pUblic 	welfare" 	and 	that 	regulation 	and 	licensing
of 	retailers 	and 	their 	suppliers 	is 	necessary. 	We 	believe 	that 	no
reason 	exists 	for 	imposing 	such 	a 	state 	regulatory 	scheme.
Gasoline 	distribution 	in 	California 	and 	in 	the 	United 	states 	is
characterized 	by 	vigorous 	competition. 	A.B. 	338 	would 	attempt 	to
alter 	this 	situation 	by 	imposing 	artificial 	restraints 	on 	entry
and 	insulating 	gasoline 	retailers 	from 	normal 	competitive
pressures 	in 	the 	marketplace 	and 	would 	result 	in 	higher 	gasoline
prices 	for 	California 	consumers 	and 	visitors.
We 	believe 	that 	A.B. 	338 	would 	not 	actually 	benefit 	the
independent 	dealers. 	More 	probably 	it 	would 	diminish 	their 	value
to 	the 	refiner-supplier. 	Major 	refiners 	would 	have 	incentives 	to
abandon" relatively 	efficient 	retail 	franchised 	distribution 	in
favor 	of 	commodity 	sales 	of 	gasoline 	at 	the 	refinery 	gate 	or 	at
wholesale 	terminals. 	Because 	some 	individual 	dealers 	will 	not
normally 	have 	the 	capability 	to 	transport 	gasoline, 	some 	may 	lose
the 	ability 	to 	stay 	in 	business. 	Thus, 	individual 	dealers 	would
be 	harmed, 	not 	helped 	by 	A. 	B. 	388. 	Consumers 	would 	also 	be
harmed 	to 	the 	extent 	that 	franchised 	dealers, 	who 	provide 	a
variety 	of 	services 	to 	their 	customers, 	become 	less 	prevalent
because 	of 	government-imposed 	restrictions 	on 	the 	contracting
process.
No 	evidence 	supports 	claims 	of 	predatory 	or monopolistic
activities 	by 	refiners 	against 	independent 	dealers 	in
California 	or 	in 	any 	other state
Legislation 	to 	regulate 	gasoline 	distribution 	has 	often 	been
prop~sed in 	both 	Congress 	and 	in 	state 	legislatures. 	Proponents
of 	such 	legislation 	have 	maintained 	that 	such 	laws 	are 	necessary
to 	protect 	the 	franchised 	dealers 	of 	major, 	integrated 	refiners
from 	unfair 	and 	anticompetitive 	practices 	directed 	against 	them 	~y
their 	suppliers. 	They 	argue 	that 	permitting 	refiners 	to 	operate
their 	own 	retail 	gas 	stations 	in 	competition with 	independent
dealers 	and 	franchised 	dealerships 	of 	major 	branded 	suppliers 	is
unfair. 	According 	to 	this 	view, 	the 	refiners 	can 	and 	do
"subsidize" 	their 	own 	retail 	operations 	by 	providing 	gasoline

The 	Honorable 	Patrick 	Johnston 	-3-
to 	those 	outlets 	at 	prices 	that 	are 	both 	below 	cost 	and 	below 	the
wholesale 	prices 	charged 	to 	lessee 	dealers. 	The 	alleged 	reason
for 	such 	"subsidization" 	is 	that 	major 	refiners 	are 	trying 	to
drive 	the 	franchised 	dealers 	out 	of 	business, 	so 	that 	they 	can
replace 	them 	with 	company-owned 	stations.
We 	are 	not 	aware, 	however, 	of 	any 	evidence 	that 	such
subsidization 	has 	occurred 	in 	California 	or 	in 	any 	other 	state.
In 	fact, 	an 	examination 	of 	the 	state 	of 	competition 	in 	gasoline
marketing 	in 	the 	United 	states, 	both 	before 	and 	after 	the
decontrol 	of 	petroleum 	refining 	and 	marketing 	in 	1981, 	indicates
that 	gasoline 	dealers 	have 	not 	been 	and 	are 	not 	likely 	to 	become
targets 	of 	anticompetitive 	practices 	by 	their 	suppliers.
Following 	enactment 	of 	Title 	III 	of 	the 	Petroleum Marketing
Practices 	Act 	in 	1978, 	15 	U.S.C. 	Sec. 	2841, 	the 	Department 	of
Energy 	("DOE") 	studied 	whether 	the 	alleged 	"subsidization" 	of
retail 	gasoline 	operations 	of 	the 	major 	refiners 	actually 	existed,
and, 	if 	it 	did, 	whether 	the 	practice. was 	predatory 	or
anticompetitive. 	The 	final 	report 	to 	Congress, 	pUblished 	in
January 	of 	1981, 	was 	based 	on 	an 	extensive 	study 	of 	1978 	pricing
data 	in 	several 	Standard Metropolitan 	Statistical 	Areas,
including 	Los 	Angeres, 	as 	well 	as 	on 	internal 	oil 	company
documents 	subpoenaed by 	the 	DOE 	investigating 	staff. 	The 	study
concluded 	that 	there 	was 	no 	evidence 	of 	such 	subsidization.*
In 	1984, 	DOE 	pUblished 	an 	updated 	study 	that 	further
substantiated 	and 	elaborated 	on 	its 	1981 	findings.**
The 	study 	also 	showed 	that 	company-operated 	stations 	were 	not
increasing 	as 	a 	percentage 	of 	all 	retail 	outlets, 	except 	among
smaller 	refiners. 	The 	State 	of 	California 	was 	actually 	among 	the
states 	in 	which 	the 	lowest 	growth 	in 	refiner-owned 	and 	operated
stations 	was 	found.***
* 	DOE, 	Final 	Report: 	The 	State 	of 	Competition 	in 	Gasoline
Marketing, 	January 	1981.
** 	DOE, 	Derecrulated 	Gasoline 	Marketing: 	Consequences 	for
Competition, 	Competitors, 	and 	Consumers, 	March 	1984.
*** 	Id. 	at 	18.

The 	Honorable 	Patrick 	Johnston 	-4-
The 	DOE 	studies 	have 	revealed 	no 	instances 	of 	predatory
behavior 	on 	the 	part 	of 	major 	gasoline 	refiners. 	Instead, 	the
studies 	indicate 	that the 	fortunes 	of 	refiners 	and 	their
franchised 	retailers 	are 	inextricably 	merged, 	and 	that 	they 	"form
a 	mutually 	supporting 	system 	backed 	by 	company 	advertising 	and
promotion."* 	Franchised 	retailers 	have 	continued 	to 	be 	by 	far 	the
predominant 	form 	of 	retail 	outlet 	for 	the 	direct 	gasoline 	sales 	of
major, 	integrated 	refiners.** 	Indeed, 	only 	3.3 	percent 	of 	the
gasoline 	stations 	in 	the 	United 	states 	are 	actually 	operated 	by
major 	refiners.*** 	California 	has 	a 	similarly 	small 	proportion 	of
such major 	refiner-operated 	stations. 	Given 	the 	importance 	of 	the
branded, 	franchised 	marketing 	distribution 	system 	to 	major
refiners, 	they 	would 	be 	unlikely 	to 	charge 	their 	lessee 	dealers
prices 	that 	would 	cause 	them 	either 	to 	search 	for 	new 	sources 	of
supply 	or 	to 	go 	out 	of 	business. 	The 	probable 	effect 	of 	such
action 	would 	be 	a 	decrease 	in 	the 	refiner's 	market 	share, 	an
increase 'in 	excess 	refining 	capacity, 	and 	higher 	per 	unit 	costs.
Thus, 	individual 	refiners 	are 	not 	l.ikely 	to 	engage 	in 	predation
against 	the 	mainstay 	of 	their 	own 	retail 	distribution 	system,
their 	franchised 	retailers.
In 	sum, 	the 	DOE 	reports 	conclude 	that 	any 	increased 	pressures
on 	gasoline 	retailers 	since 	1981 	were 	not 	caused by
anticompetitive 	behavior 	on 	the 	part 	of 	the 	oil 	companies, 	but
resulted 	from 	decreased 	consumer 	demand 	for 	gasoline 	and 	a
continuing 	trend 	toward 	the 	use 	of 	more 	efficient, 	high-volume
retail 	outlets. 	These 	reports 	and 	industry 	publications, 	such 	as
the 	Lundberg 	Letter, 	indicate 	that 	since 	federal 	controls 	were
removed, 	the 	pUblic 	has 	been 	the 	beneficiary 	of vigorous 	price
competition.
* 	Id. 	at 	ii.
** 	In 	1981, 	the 	eight 	largest 	refiners 	who, 	in 	the
aggregate, 	accounted 	for 	about 	half 	of 	all 	gas-
oline 	sales, 	sold 	approximately 	eight 	times 	more
gasoline 	through 	lessee 	dealers 	than 	through
company-operated 	outlets. 	Id. 	at 	146 	(Table 	A-I0) .
*** 	Lundberg 	Letter, 	Vol. 	XI, 	No. 	36, 	July 	6, 	1984, 	at 	3.
In 	addition, 	the 	largest 	refiners 	tend 	to 	have 	far 	fewer
company-operated 	retail 	outlets, 	compared 	to 	their 	small-
er 	refiner 	rivals. 	See 	DOE, 	Final 	Report: 	The 	state 	of
Competition 	in 	Gasoline 	Marketing, 	January 	1981, 	at 	113.

The 	Honorable 	Patrick Johnston 	-5-
Even 	if monopolistic 	and 	predatory behavior were 	found
it 	is 	already 	subject 	to 	prosecution under 	existing
state 	and 	federal 	antitrust 	laws; 	new 	laws 	are 	not 	needed
Predatory 	or monopolistic 	behavior 	in 	the 	petroleum 	industry
is 	subject 	to 	the 	Sherman 	Act, 	the 	Clayton 	Act, 	and 	the 	Federal
Trade 	Commission Act. 	These 	statutes 	provide 	a 	better 	way 	for
dealing 	with 	anticompetitive 	practices 	in 	the 	industry 	than
legislation 	restricting 	new 	entry 	and 	regulating 	contractual
relationships 	between 	suppliers 	and 	purchasers 	of 	gasoline. 	The
existing 	antitrust 	laws 	deter 	refiners 	and 	other 	firms 	from
engaging 	in 	predatory 	and 	monopolistic 	behavior, 	but, 	at 	the 	same
time, 	allow 	them 	to 	lower 	their 	operating 	costs 	through 	individual
decisions 	on 	their 	gasoline 	distribution 	systems. 	In 	contrast,
A.B. 	388 	would 	restrict 	the 	ability 	of 	firms 	to 	realize 	increased
market 	efficiencies 	and 	to 	adjust 	to 	changing 	market 	conditions.
Such 	legislation 	is 	likely 	to 	add 	costs 	to 	the 	distribution 	of
gasoline 	in 	California 	that 	do 	not 	exist 	in 	other 	states, 	costs
that 	would 	be 	borne 	by 	California 	consumers 	and visitors.
To 	the 	extent 	that 	A.B. 	388 	is 	intended 	to 	redress 	perceived
gasoline 	retailer 	grievances 	against 	their 	refiner-suppliers, 	we
suggest 	that 	you 	consider 	the 	extent 	to 	which 	these 	concerns 	have
been 	addressed 	in 	the 	Petroleum Marketing 	Practices 	Act 	of 	1978
("PMPA"), 	supra. 	The 	legislative 	history 	of 	the 	PMPA 	shows 	that
Congress was 	concerned 	over 	alleged 	abuses 	of 	the 	franchise
relationship, 	and 	the 	PMPA 	represents 	a 	balancing 	of 	the 	rights 	of
the 	respective 	parties 	to 	retail 	gasoline 	franchise 	agreements.*
Conclusion: 	special 	interest 	legislation 	is 	not
necessary 	in 	California 	gasoline 	distribution
Eor 	the 	reasons 	stated 	above, 	the 	staff 	of 	the 	Federal 	Trade
Commission 	believes 	that 	A.B. 	388's 	passage 	into 	law would 	likely
have 	harmful 	consequences 	for 	both 	competition 	and 	consumers. 	We
believe 	that 	the 	bill 	would 	serve 	only 	to 	insulate 	one 	segment 	of
business 	entrepreneurs 	from 	competition, 	at 	the 	cost 	of 	higher
gasoline 	prices 	for 	California 	consumers 	and 	visitors.
* 	See 	Senate 	Report 	No. 	95-731, 	95th 	Cong., 	2d Sess.,
15-19, 	29-43.

The 	Honorable 	Patrick 	Johnston 	-6-
For 	these 	reasons, 	the 	Federal 	Trade 	Commission's 	staff
respectfully 	urges 	that 	you 	reject 	A.B. 	388.
Sincerely,
?Ib	::~~~~'"-
. Director