'Paying-to-Play' Against the Rules of the Game


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In May of 2006, the largest wine retailer in the United States agreed to pay a $300,000 fine and close its doors for three days as a result of illegal marketing and retail practices.

The Chicago retailer, Sam’s Wine & Spirits, had allegedly been requiring wholesalers to make payments to a subsidiary marketing firm in order to have their products sold in the store. Sam’s had also been illegally operating a warehouse and selling alcoholic beverages to other retailers.

Three short months later, eight of New York’s largest wholesalers agreed to pay a combined $1.6 million in fines and adopt a series of reforms to settle an Attorney General’s investigation into the wholesalers’ illegal business practices. The wholesalers, it was revealed, had provided cash, trips and consumer items to favored retailers. The wholesalers had also used sham credits that hid illegal discounts and set up advertising companies run by relatives of the retailers to circumvent state laws prohibiting the wholesalers from paying for retailer advertising.

In both cases, retailers and wholesalers neglected state laws meant to guarantee a level playing field at the wholesale and retail level. Like Illinois and New York, Iowa law also prohibits “pay-to-play” marketing practices. Under Iowa law, manufacturers and wholesalers must treat all retailers the same. The companies are prohibited from directly or indirectly granting any rebates, free goods, or quantity discounts on alcoholic beverages unless the promotional activity is uniformly offered to all retail licensees.

Favoring one retailer over another is a violation of Iowa law and may result in a one thousand dollar civil penalty or suspension of the manufacturer or wholesaler license for a period up to one year. A combination of civil penalty and suspension may also be imposed.

Iowa’s regulatory scheme dates back to the end of Prohibition when the Iowa Legislature established the tied-house laws. The phrase tied-house is used to describe the statutes regulating both the marketing of alcoholic beverages and the cross-ownership of licensed establishments. Tied-house laws relate to the practice where a pub (or “public house”) is tied to the products of a particular manufacturer.

With few exceptions, Iowa’s tied house laws require liquor, wine and beer to be distributed through a three-tier system (manufacturer to wholesaler to retailer). The fundamental reason behind the tied-house laws is to prevent corrupt sales practices and dominance by a single producer in the marketplace. The tied-house system has been credited with preventing overly aggressive marketing practices that allow large suppliers to gain market shares in ways unavailable to smaller competitors.

While the Division understands that manufacturers, wholesalers and retailers must be able to promote their products in a responsible manner, the Division is also keenly aware of the need to maintain the integrity of the three-tier system. Close regulatory oversight is needed to assure that the proper balance is struck between promoting an open and competitive market and, alternatively, a market that is unfair and dominated by a few players.

The key principal of Iowa’s three-tier distribution system is that the manufacturers and wholesalers operate independently from the retailers. Manufacturers and wholesalers cannot discriminate between retailers. Paying money or giving free goods or other things of value to retailers to gain a better position in the marketplace not only constitute a violation of Iowa law, but are also considered unfair trade practices which create and foster anti-competitiveness and disorderly markets.

Take heed of Milton Friedman’s sage advice. Use all of your resources and engage in all of the activities you can to increase your profits, but do it “within the rules of the game.” Conduct your business on a level playing field. Play fair, play decent and abide by the rules so that the marketplace functions properly.