Examination of Witnesses (Questions 240-255)
MR DON THOMAS, MS LYNDA JAMES, MR REES ROBERTS AND MR BOB BANSBACK
DR DEREK MORRIS, MS MARGARET SMITH, DR CLIVE RIX AND DR DOUGLAS COOPER
TUESDAY 11 DECEMBER 2001
240. So your definition of a cartel would be something that has got a formal arrangement between the people involved in a cartel?
(Dr Morris) No. A cartel can be secret, and indeed is, of course, illegal, and if supermarkets, or indeed anyone, were operating purely informal price agreements then they are liable to be prosecuted under the 1998 Competition Act, and they could end up paying fines of up to 10 per cent of their total revenue for up to three years, if they have been carrying that out for that period. So there are very severe penalties for cartel activity, and we did not find evidence of that. We did find evidence of individual practices that we felt were unacceptable.
241. The question of margins has been covered to a certain extent, but we do have, of course, quite substantial data in this country on farm incomes and agricultural data in general. Do you think that, given this whole issue of profit margins, in particular, is one of the key considerations in looking at issues of price spread, it would help to reassure farmers and consumers if there were a little more transparency from the supermarkets, in terms of their pricing policy and their pricing structure?
(Dr Morris) I would like to think so, but I am bound to say my response is a bit pessimistic. There would be no point in providing data on so-called gross margins of supermarkets, because something like 80 per cent of the gross margin goes in costs, it is what they pay their staff, and depreciation, and distribution, and so on, and that clearly can vary from product to product. So that does not tell the consumer anything useful, they do not want to know about the cost structure of supermarkets. So you have to focus on actual profit margins, which, as I said, we found, on average, about 5.5 per cent, though they may have risen since. The problem is, product by product, those figures depend critically on how you allocate costs, critically, and there is almost no sort of non-arbitrary way of allocating those costs, so that, on a product-by-product basis, you would get almost nowhere, and indeed I think France did try to introduce just such a scheme and they found that it simply fell apart. I do think it is important that people do know what, at least overall, supermarkets are making, and that evidence is available. If more individual figures were available, all sorts of quite erroneous inferences, I think, would be made. Supermarkets have got to stock the whole range, there is no point in saying, "well, we're not making much money on this so you can't buy turnips today," or whatever it is; and so seasonal fluctuations, demand coming and going, can lead to all sorts of variations in that margin, quite apart from the cost allocation process. So I think the overall average is the most useful figure.
242. And it would be useful to have that widely publicly available (in England ?), so that it would be independently audited and come in the form of...
(Dr Morris) I see no reason why that should be impractical, nor would it be a distortion.
243. Did you detect, during your evidence-gathering operation amongst retailers, whether there were any significant opportunities for more value added food lines that could benefit both the suppliers and the processors?
(Dr Morris) I suppose, indirectly, as I mentioned earlier, supermarkets are always on the lookout for a new line, a new product, a new brand, a new development, and, inevitably, if they want to encourage that, they have to work closely with processors, suppliers, from down the chain. I think supermarkets are very open to that, they have very demanding standards, very demanding indeed, and, often, I think, very small suppliers find they just cannot meet them, but bigger suppliers, groups of suppliers, groups of farmers, together with, for example, processors in milk, I think, can set up potentially very successful developments along those lines, and I think supermarkets will be very receptive to that.
244. I can never really get out of farmers who want to set up co-operatives how they expect to increase their incomes, really, either from an increase in the price of the primary product or some dividend from the processing or activity that they are going to engage in. Have you got any views on that, or how that would work?
(Dr Morris) Partly, it is branding, we heard earlier about Welsh Lamb, which clearly has a very strong brand. I think it is Tesco, in Haverford West, has made a huge effort to promote locally-produced meat products there. So there is scope on branding. I think; if we go perhaps to milk, there is scope for product development, all sorts of specialist cheeses, for example, where supermarkets are always on the lookout for that, but they cannot do that by themselves, they will be looking for proposals and suggestions.
245. We understand the need to assess any significant interventions in supply chains against the regulatory cost and the cost-compliance criteria, but how significant were these issues in reaching your conclusions?
(Dr Morris) Is that a question in relation to our intervention through the Code of Conduct?
246. Yes, the Code of Conduct?
(Dr Morris) Right. It is true that, as a body, we would be anxious not to impose any degree of regulation if we felt we could get away with it. We thought that the imbalance of negotiating power here was such that an intervention was entirely justified. There were, as I think I mentioned, 27 practices that we felt needed to be covered by the Code of Conduct, so it is quite detailed, it is quite extensive, it does involve monitoring, it does involve a disputes procedure, and, as they mentioned earlier, which I think perhaps was not covered quite accurately, in the previous hearing, it is legally enforceable, this is not a voluntary Code. We clearly wanted suppliers and supermarkets to negotiate it, because they would get the most efficient agreement, but if you just left it to them, with the essential problem being the imbalance of power, then one could not rely on the outcome being acceptable. So we required that the Code be approved by the Office of Fair Trading, and, as I say, it is legally enforceable. I do not think, in the circumstances, any of that is excessive, albeit the OFT, quite rightly, in the negotiations it has been involved in, has been anxious to try to keep it flexible, so that it does not actually prohibit sensible contracts emerging between supermarkets and suppliers, to their mutual benefit.
247. I think you said that, when you were gathering your evidence in the beginning, suppliers were reticent in coming forward to make a complaint against a supermarket; how readily do you think suppliers would be to enter into a dispute procedure with a supermarket, and, do you know, is the fear really that they would not be able to do business with that supermarket in the future?
(Dr Morris) I think that must still be a problem, and ultimately it is a problem one cannot get rid of; all one can do is hope to create slightly different norms of behaviour and at least slightly different incentives. If you know that there is a dispute procedure there, a supermarket will be that much less ready to carry out one of the practices that we have discovered. I think, quite often, supermarkets would say, quite accurately, "well, actually, it isn't our policy to do that, but particular buyers have got a bit overenthusiastic," and so on; and this is a framework within which an enthusiastic buyer knows that it is actually damaging to his, or her, career, not helpful to his, or her, career, if they engage in this sort of thing.
248. Do you think we can develop a more integrated food supply chain in the future, perhaps one that balances the buyer power of retailers with the need to sustain a more diverse and less concentrated producer/supplier system? I was interested in what you said about supermarkets being very demanding from the people that supply them. When we considered this a few years ago, we looked at what was happening in some European supermarkets, where there seemed to be much more localised supply, much more of a local emphasis, and we were advised by people at that time that the British supermarket system is the most centralised in Europe. Now, is there a way of us, rather than just becoming more and more demanding on the producers to be able to fit into that centralised supply system, should the supermarkets be looking at ways that they can fit into more localised, more diverse production and supply systems?
(Dr Morris) It is a very key question. I am not sure I can offer you anything useful on it, because, critically, at the end of the day, it will depend on the economics; one assumes that more localised supply will lose economies of scale, but it could also shorten transport distances. It could increase diversity, in some sort of national sense it would, but in individual areas it may reduce diversity; a lot of the diversity that consumers like and supermarkets provide comes because they bring in hundreds, thousands of products, from all over the country, indeed all over the world. So there are sets of trade-offs there, and I would not be able to comment usefully on them.
249. No, I take your point about that. We certainly want Welsh lamb going to all these other places. Has there been any assessment of the effects of the recommendations you have made, do they have a bearing on the food chain group mentioned in paragraph 11?
(Dr Morris) The Code of Conduct recommendations; they will not have any effect further down the chain because they are entirely about the immediate relationships, negotiating power, as between the supermarkets and their immediate suppliers. I suppose there could be some knock-on effects, but essentially it is addressed at immediate supermarket contracts.
250. We talked last week to some people who are setting up milk co-operatives and they said that they thought that the competition policy had been applied unevenly, in the sense that they had to reply to a concern that you had over their share of the cheese market, when I think they bought Aeron Valley Cheese, whereas some co-operatives operating outside the UK, having a large share of the butter market, had not had the attention that they had had. Can you comment on that?
(Dr Morris) I am not sure I am aware of the specific circumstances to which you refer, Mr Williams.
251. The New Zealand Co-operative, I think, had 90 per cent of all the milk produced in New Zealand, but they combined together with a Danish co-operative, in this country, and were supplying, I think, 30 to 40 per cent of all the yellow-fat market, the butter market. And it was First Milk who told us that, I think, they had received a communication from you, and had to reply to you, and it had cost them quite a lot of money, and then received a bill off you for £5,000?
(Dr Morris) Can I check. I think that may be the Office of Fair Trading, not us, because we operate under 11 different Acts, but we cannot tackle anything unless it is referred to us either by the Office of Fair Trading or the Secretary of State. Every day I get letters saying, "Why don't you look at this?", they just have to go to the Office of Fair Trading. So I think that may be a question for the Office of Fair Trading. I will check.
252. There is a general point that you can give your personal opinion on, actually, Dr Morris, in that, if we have a situation where our producers are seemingly prevented from forming co-operatives, which would give them some kind of power against the monopoly power of the supermarkets, purchasing power, and yet the OFT, which I am sure you are right, it is the OFT, have allowed Denmark, Sweden and New Zealand to form, I think it is, ARLA/Fontera, it looks like in here, this is the transcript from last week, and they have been given the go-ahead, it is in here, by the Competition Commission, but I imagine it is by the OFT, to merge, well, if the OFT are allowing mergers in foreign co-operatives, who are already monopoly producers anyway, against our own producers, I do not want to put you on the spot, with your bosses, or mentors, or whatever, but if you could tell us?
(Dr Morris) Obviously, I cannot speak for the OFT, and I am not aware of the particular circumstances, but where the Commission has been involved, which was in relation to our report on Milk Marque, there we clearly had competition concerns, it led to us recommending that Milk Marque be split up, indeed, the Secretary of State did not accept that recommendation, but Milk Marque, in the end, decided that was the way to go. But one very important part of all that was that if the splitting up of Milk Marque meant that a lot of the anti-competitive activities that we had discovered in that inquiry ceased, and created a competitive environment, that was one in which a number of co-operatives could emerge and flourish, and indeed I believe they have, and they could vertically integrate, there is no problem about groups of producers and processors getting together vertically to create competitive co-operatives. So that there is nothing in competition policy, as applied by the Commission, that is antithetical to co-ops; the problem was that Milk Marque had very substantial market power, because of the way deregulation occurred, and, in our view, was exercising that in anti-competitive ways.
253. So that merited it being broken up, rather than being brought to book, in some way?
(Dr Morris) Well, we thought so, and I think that partly reflected that we thought the way Milk Marque was going was probably not, in the long run, viable anyway, but, it is true, the then Secretary of State said that he would prefer, to use your term, a bringing to book, a set of undertakings, and so on, but Milk Marque voluntarily decided to go the break-up route.
254. Is there a slight difference of emphasis here between European competition policy and UK competition policy; is European competition policy more specifically focused on customer-facing sectors and businesses, and slightly more relaxed about concentration, integration, within intermediate and primary production?
(Dr Morris) If, by European competition authorities, you mean individual national ones, like the French or the German, I am not sure I could answer you, but it may well be right. We obviously know rather more about the European, i.e. Brussels, competition approach, and there I would not have thought there was a difference; indeed, at the time of deregulation, the then European Competition Commissioner became very exercised about the proposal that the then Milk Marketing Board should become, to all intents and purposes, a privatised version, saying that he thought that that might be uncompetitive, nonetheless, it occurred. So I infer, from that, that the European approach, from Brussels, in broad terms, is very similar to the line that we took.
255. But, in terms of UK competition policy, you see no particular impediments preventing primary producers from vertically integrating, getting involved in processing activity?
(Dr Morris) As a general rule, if there are not so-called horizontal problems, if there are not positions of market power or dominance within a market, and you have competition, vertical links, of the sort we have been discussing, typically occur as and when they are commercially sensible and do not have any detrimental effects on customers; it is only when they are combined with positions of market power that there is a problem.
Chairman: We have had a fairly marathon session, Dr Morris. Thank you very much for your help this morning.