Allen-Myland, Inc. v. International Business Machines Corp.

• Decision Date: 12 August 1994
• Docket Number: ALLEN-MYLAN,No. 93-1586,INC,93-1586
• Citation: 33 F.3d 194
• Parties: 1994-2 Trade Cases P 70,685 , Appellant v. INTERNATIONAL BUSINESS MACHINES CORPORATION.
• Court: U.S. Court of Appeals — Third Circuit

Page 194

33 F.3d 194

1994-2 Trade Cases P 70,685

ALLEN-MYLAND, INC., Appellant v. INTERNATIONAL BUSINESS MACHINES CORPORATION.

No. 93-1586.

United States Court of Appeals Third Circuit.

Argued Jan. 24, 1994.

Decided Aug. 12, 1994.

Robert G. Levy (argued), Willard K. Tom, Joel E. Hoffman, James H. Clinger, Sutherland, Asbill & Brennan, Washington, DC, Carl A. Solano, Schnader, Harrison, Segal & Lewis, Philadelphia, PA, for appellant.

Robert N. Feltoon, Conrad, O'Brien, Gellman & Rohn, Philadelphia, PA, Evan R. Chesler (argued), Peter T. Barbur, Cravath, Swaine & Moore, Howard Weber, Davis, Scott, Weber & Edwards, P.C., New York City, for appellee.

Alan J. Weinschel, Robert P. Stefanski, Lucia Mandarino, Weil, Gotshal & Manges, New York City, for amici-appellants ¹.

Before: MANSMANN and NYGAARD, Circuit Judges and SEITZ, Senior Circuit Judge.

OPINION OF THE COURT

NYGAARD, Circuit Judge.

Allen-Myland, Inc. ("AMI") appeals from the district court's judgment in favor of IBM in this intricate antitrust tying case. We conclude that the district court erred and will vacate its judgment and remand the cause for further proceedings. ²

I. FACTS AND PROCEDURE

A. Mainframes and Upgrades

The facts underlying this nine-year-old dispute are minutely detailed and quite voluminous. The district court has set forth these facts in great detail in its 44-page opinion, Allen-Myland, Inc. v. IBM Corp., 693 F.Supp. 262 (E.D.Pa.1988), and we will present only a brief summary here.

IBM is the world's largest manufacturer of large-scale mainframe computers. These machines have the capacity to process millions of records at a time and manage a tremendous volume of information, making modern operations possible for large corporations, public utilities and government agencies. Without them, business would soon slow or halt. Mainframes are physically large machines, generally occupying significant floor space and requiring a full-time staff to keep them in operation. Needless to say, they are quite expensive, with prices commonly in excess of $1 million.

Mainframes are available in a wide range of computing capacities, to fit the needs of each individual customer. One common measure of capacity is computing speed, measured in millions of instructions per second ("MIPS"). IBM mainframes may also be upgraded, as computing needs change over time, in what is known as a MIPS upgrade.

Many IBM mainframes are not purchased outright from IBM by their end users, but are instead leased through third-party leasing companies such as CMI and Comdisco. ³ A mainframe will typically be leased to several end users during its life cycle, and then when obsolete, be scrapped. Often, when the lease term expires and the mainframe returns to the lessor, the computer will need to be reconfigured to meet the needs of the next lessee.

Companies like AMI found a profitable market reconfiguring mainframe computers such as the IBM 303X series. ⁴ Lessors could not afford to have their machines idle and generating no revenue while waiting for a reconfiguration, yet IBM often took months to install an upgrade. AMI, on the other hand, would turn the job around in a matter of only a few days. Either AMI or the leasing company would buy the required parts outright from IBM for inventory on what were known as SWRPQ terms, meaning that IBM installation was not included. It would then install the parts in the user's computer, set up the appropriate software and test the system. Old parts could often then be used on another computer. Because the 303X series of computers was based on "MST" circuit board technology, which required significant technical skill and time to reconfigure, AMI was in a position to add considerable value in terms of its labor. As a result, AMI grew into a company with $50 million in annual revenue.

In 1980, however, IBM introduced its next generation of mainframe computers, the 308X series, which caused a major erosion in AMI's reconfiguration business. These machines used a new technology, the thermal conduction module, or TCM. A TCM is essentially a water-cooled can containing a much greater density of circuits than the system it replaced. Because more circuitry can be placed in a TCM, there are fewer TCMs to replace; hence, much less labor is involved in performing an upgrade on a TCM-based computer than on earlier models.

In marketing its 308X series, IBM used a policy known as net pricing. Under this policy, IBM installation labor was bundled in with the price of the parts for TCM-based MIPS upgrades; SWRPQ pricing was either eliminated or was priced prohibitively high. In addition, any old TCMs recovered from a mainframe during reconfiguration became IBM's property. As a result, customers desiring non-IBM installation of upgrades were required to pay IBM's labor charge anyway. And because the net pricing policy limited the supply of the TCMs on the open market, acquiring parts from sources other than IBM became impractical.

IBM contended that net pricing's purpose was to insure that the old TCMs recovered from reconfigured machines were returned to IBM. TCMs are extremely durable and can easily be refurbished to "equivalent to new" condition. IBM, faced with a manufacturing capacity shortage, stated that it merely wanted to refurbish TCMs that were returned for later reuse in a future upgrade or in a brand-new machine. As for bundling the labor charge, IBM again contended its purpose was to ensure that it got its TCMs back, which was ensured when IBM personnel performed the labor.

B. Procedural History

AMI, however, soon found that much of its reconfiguration business was drying up and filed this action. AMI's four-count complaint alleged that IBM violated Secs. 1 and 2 of the Sherman Act, 15 U.S.C. Secs. 1, 2, and also asserted unfair competition and tortious interference claims under state law. IBM counterclaimed for copyright infringement of its software programs and documentation manuals; IBM also asserted state law counterclaims for breach of contract and tortious interference.

AMI's Sec. 1 claim, which contended that IBM had tied its upgrade installation services to the parts needed to perform the upgrades, was tried in a bench trial. ⁵ AMI alleged that this tying arrangement constituted a per se violation of the Sherman Act; alternatively, it asserted that the tie was still a Sec. 1 violation under the rule of reason.

The district court found that IBM's net pricing structure did not constitute a per se Sec. 1 violation, for two reasons: first, that IBM's share of the relevant market was not high enough to impose per se liability, Allen-Myland, 693 F.Supp. at 270-83; and second, that net pricing did not foreclose AMI from a "viable business opportunity." Id. at 283-93. The court also found that net pricing did not violate Sec. 1 under a rule of reason analysis because sufficient procompetitive reasons existed for it. ⁶ Id. at 293-98.

Later, the district court tried most of the remaining claims and counterclaims, and concluded that AMI was liable to IBM for copyright infringement and violations of the Lanham Act. Allen-Myland, Inc. v. IBM Corp., 746 F.Supp. 520 (E.D.Pa.1990). ⁷ The court also entered judgment for IBM on AMI's Sherman Act Sec. 2 claim, concluding that such a claim could not possibly succeed unless its earlier ruling on market power were reversed. Id. at 525 n. 1, 559.

Meanwhile, IBM had filed a Lanham Act action against AMI in the United States District Court for the Northern District of Illinois, which was transferred to the Eastern District of Pennsylvania. Moreover, certain issues concerning IBM's relief against AMI on its counterclaims remained unresolved. On AMI's motion, the district court issued an order under Fed.R.Civ.P. 54(b) declaring that its 1988 opinion resolving the antitrust issues constituted a final judgment. Allen-Myland, Inc. v. IBM Corp., 1993-1 Trade Cas. (CCH) p 70,244, 25 Fed.R.Serv.3d (Callaghan) 1353, 1993 WL 169849 (E.D.Pa. May 14, 1993). This appeal followed.

II. OVERVIEW OF THE LAW OF TYING ARRANGEMENTS

The overarching issue in this appeal is AMI's claim that the district court erred when it found that net pricing was not a per se violation of Sec. 1 of the Sherman Act. In a tying arrangement, the seller sells one item, known as the tying product, on the condition that the buyer also purchases another item, known as the tied product. Town Sound & Custom Tops, Inc. v. Chrysler Motors Corp., 959 F.2d 468, 475 (3d Cir.) (in banc), cert. denied, --- U.S. ----, 113 S.Ct. 196, 121 L.Ed.2d 139 (1992). Section 1 of the Sherman Act declares only contracts in restraint of trade illegal. Thus, the antitrust concern over tying arrangements is limited to those situations in which the seller can exploit its power in the market for the tying product to force buyers to purchase the tied product when they otherwise would not, thereby restraining competition in the tied product market. Market power is defined as the ability "to raise prices or to require purchasers to accept burdensome terms that could not be exacted in a completely competitive market." United States Steel Corp. v. Fortner Enters., Inc. ("Fortner II"), 429 U.S. 610, 620, 97 S.Ct. 861, 867-68, 51 L.Ed.2d 80 (1977).

On the other hand, if the seller does not have sufficient power in the tying product market, buyers wanting to purchase the tied product from another source will simply avoid the tie by buying the tying product from another supplier. See Town Sound, 959 F.2d at 476 (discussing Jefferson Parish Hosp. Dist. No. 2 v. Hyde, 466 U.S. 2, 11-14, 104 S.Ct. 1551, 1558-59, 80 L.Ed.2d 2 (1984)). Such a tie will not restrain an appreciable amount of trade, and accordingly, will not constitute an antitrust violation.

The first inquiry in any Sec. 1 tying case is whether the defendant has sufficient market power over the tying product, which requires a finding that two separate product markets exist and a determination of...