Second Circuit Rejects FTC Challenge of 1-800 Contacts, Highlighting Procompetitive Trademark Policy
The US Court of Appeals for the Second Circuit vacated a final order of the Federal Trade Commission (FTC), which had found that agreements to refrain from bidding on keyword search terms for internet advertisements violated Section 5 of the FTC Act. The Court made clear that although trademark agreements are not necessarily immune from antitrust scrutiny, they are entitled to significant deference. 1-800 Contacts, Inc. v. Federal Trade Commission, Case No. 18-3848 (2d Cir. June 11, 2021) (Per Curium). The Second Circuit held that the FTC applied an incorrect analytical framework and incorrectly concluded that the agreements were an unfair method of competition under the FTC Act.
1-800 Contacts and its competitors advertise online through search advertising. They bid on search engine keywords, which help display their websites in response to consumer searches. They also bid on negative keywords, which prevent their ads from being displayed when consumers search for specified terms.
Between 2004 and 2013, 1-800 Contacts entered into a series of settlement agreements to resolve trademark disputes with competitors, as well as one commercial agreement with a competitor, all of which included terms prohibiting the parties from using each other’s trademarks, URLs and similar terms as search advertising keywords. The agreements also required the parties to use negative keywords so that a search including one party’s trademarks would not trigger a display of the other party’s ads. 1-800 Contacts enforced these agreements when it believed them to be breached.
The FTC challenged the agreements, alleging that they “unreasonably restrain truthful, non-misleading advertising as well as price competition in search advertising auctions,” violating Section 5 of the FTC Act, 15 U.S.C. § 45. An administrative law judge (ALJ) subsequently found the agreements to violate Section 5. 1-800 Contacts appealed to the full Commission, which affirmed the ALJ’s decision. 1-800 Contacts appealed.
The Second Circuit vacated the FTC’s decision but noted that the FTC was correct to reject 1-800 Contacts’ argument that trademark settlement agreements are necessarily immune from antitrust scrutiny. Citing the Supreme Court decision in Actavis, the Second Circuit held, “the mere fact that an agreement implicates intellectual property rights does not immunize an agreement from antitrust attack.”
The Second Circuit disagreed with the FTC’s specific antitrust analysis, however. The Court held that the FTC erred by applying an “inherently suspect” analysis—also known as a “quick-look” analysis—rather than the rule of reason. The Court focused on the fact that “the restraints at issue here could plausibly be thought to have a net procompetitive effect because they are derived from trademark settlement agreements,” and the fact that the FTC acknowledged as much by finding that the company’s justifications were “cognizable and, at least, facially plausible.” The Second Circuit also noted that courts have limited experience with these types of agreements. The Court concluded that “[w]hen, as here, not only are there cognizable procompetitive justifications but also the type of restraint has not been widely condemned in our judicial experience . . . . [w]e are bound . . . to apply the rule of reason.”
Applying the rule of reason, the Second Circuit held that the FTC had failed to meet its burden to establish a Sherman Act violation and by extension an FTC Act violation. The Court took a fundamentally different view of the trademark agreements than that taken by the FTC, dismissing the FTC’s skepticism of the underlying trademark claims and holding that even “trademark agreements that only marginally advance trademark policies can be procompetitive.” The Court explained that “[i]f the provisions relating to trademark protection are auxiliary to an underlying illegal agreement between competitors, or if there were other exceptional circumstances, we would think twice before concluding the challenged conduct has a procompetitive justification.” The Court found the record in this case devoid of any such evidence and therefore held that 1-800 Contacts met its burden to show a procompetitive benefit.
Practice Note: The Second Circuit’s solicitous view of trademark rights was also apparent in its analysis of whether less restrictive alternatives existed. As the Court noted, “[w]hen the restraint at issue in an antitrust action implicates IP rights, Actavis directs us to consider the policy goals of the relevant IP law,” which includes the practical aspects of enforcing trademark rights. In the Court’s view, the FTC did not adequately account for those issues, particularly the “downstream effects of requiring less aggressive [trademark] enforcement,” explaining “we owe significant deference to arm’s length [trademark] use agreements negotiated by parties to those agreements.”
In light of this decision, future antitrust challenges to trademark agreements will likely face considerable headwinds.