November 8, 2006

forthcoming, Journal of Law

& Economics (August 2007)

##### 

##### THE ECONOMICS OF SLOTTING CONTRACTS

Benjamin Klein

Joshua D. Wright[^1]

**Abstract**

Slotting fees, per unit time payments made by manufacturers to retailers
for shelf space, have become increasingly prevalent in grocery
retailing. Shelf space contracts are shown to be a consequence of the
normal competitive process when retailer shelf space is promotional, in
the sense that the shelf space induces profitable incremental
manufacturer sales without drawing customers from competing stores. In
these circumstances retailers do not have the incentive to provide the
joint profit maximizing amount of shelf space. Manufacturers compensate
retailers for promotional shelf space with a per unit time slotting fee
when inter-retailer competition on the particular product makes
compensation with a lower wholesale price a more costly way to generate
equilibrium retailer shelf space rents. Our theory implies that slotting
will be positively related to manufacturer incremental profit margins, a
fact that explains both the growth and the incidence across products of
slotting in grocery retailing.

# I. Introduction

Slotting arrangements, the payment by manufacturers for retail shelf
space, have become increasingly important in the supermarket industry.
Since the early 1980s slotting fees for both new and established
supermarket products have grown both in size and the number of products
covered.[^2] Similar arrangements are also now common in other retail
sectors, such as drug stores, bookstores and record stores.[^3] In
addition to payments made for stocking a product, slotting payments may
be made for special displays or preferred locations, such as
end‑of-aisle displays in supermarkets, the placement of books on tables
in bookstores, and the promotion of particular records at listening
posts in record stores. These arrangements have been the subject of
recent antitrust litigation,[^4] and supermarket slotting arrangements,
in particular, have been the focus of recent Congressional Hearings[^5]
and Federal Trade Commission studies.[^6]

The primary competitive concern with slotting arrangements is the claim
that they may be used by manufacturers to foreclose or otherwise
disadvantage rivals, raising the costs of entry and consequently
increasing prices.[^7] It is now well-established in both economics and
antitrust law that the possibility of this type of anticompetitive
effect depends on whether a dominant manufacturer can control a
sufficient amount of distribution, so that rivals are effectively
prevented from reaching minimum efficient scale.[^8]

Slotting contracts, however, very often exist in circumstances where the
required conditions for an anticompetitive effect are unlikely to exist.
In particular, slotting contracts are frequently used by manufacturers
with relatively small market shares and cover relatively small shares of
total retail distribution. Furthermore, while some slotting contracts
bind retailers to stocking only or primarily a particular manufacturer's
product, many slotting contracts merely require a retailer to stock or
dedicate a particular amount of display space or shelf location to the
manufacturer's product without any exclusivity requirement.[^9]

Another factor that argues against an anticompetitive effect is that
most slotting arrangements involve relatively short-term retailer shelf
space commitments. For example, current grocery slotting stocking
commitments usually bind a supermarket to provide shelf placement for a
period of six months to one year.[^10] The relatively short duration of
most slotting contracts means that, even if slotting contracts covered a
large share of retailer shelf space, it is unlikely the contracts could
be used to foreclose competing manufacturers. As the contracts expire
over time, competitors could openly compete for distribution and sign
agreements with retailers.[^11] Moreover, unless there are substantial
economies of scale in manufacturing (a rare condition for most grocery
products), new manufacturer entrants do not have to operate at a
significant cost disadvantage during the period before a sufficient
number of retail distribution contracts expire and shelf space becomes
available.

What remains is the claim that slotting arrangements make it more
difficult for rivals to compete because shelf space payments raise the
cost of obtaining retail distribution. However, slotting fees are a
payment that must be borne by all manufacturers. Competition for shelf
space that leads to slotting may raise the cost of obtaining retail
distribution, but it does so for everyone. An artificial barrier to
entry is created only if one assumes that the increased cost necessary
to distribute a product imposes a higher cost on new entrants relative
to incumbents, for example, because of imperfections in the capital
market.[^12] However, competition between incumbents and entrants for
retail distribution generally occurs on a "level playing field," in the
sense that all manufacturers can openly compete for shelf space and it
is the manufacturer willing to pay the most for a particular space that
obtains it.

Anticompetitive theories of rival manufacturer foreclosure, most
importantly, do not provide us with an explanation for why the
competitive process would have changed in the early 1980s, when
supermarket slotting contracts became more prevalent and began to grow
rapidly,[^13] or why some large retailers, such as Wal-Mart, do not
accept slotting fees.[^14] One must be clear, however, in what we mean
by a slotting contract when describing this time series and
cross-section variation in the incidence of slotting.

Payments by suppliers for promotional retail shelf space, including
product displays and in-store advertisements, have existed since at
least the 1950s.[^15] But these early arrangements are not considered
slotting because they did not involve primarily a per unit time payment
for retail shelf space. Manufacturer contracts for prominent shelf
space, such as end‑of-aisle displays, are more generally referred to as
trade promotions, with retailer compensation in such contracts taking
many forms in addition to upfront cash, including wholesale price
discounts and other variable payments.[^16] While a trade promotion
consisting of a reduced wholesale price in return for preferential
retail shelf space is analytically similar to slotting in the
fundamental economic sense that the manufacturer is offering special
terms contingent on retailer supply of shelf space, a trade promotion is
not commonly referred to as slotting unless a major element of retailer
compensation includes an upfront or per unit time payment. When
commentators describe the growth of slotting arrangements since the
early 1980s they are referring to the growth of shelf space contracts in
this sense of per unit time compensation.

Recognizing that slotting involves per unit time compensation for shelf
space also clarifies the claim that Wal-Mart does not accept slotting
fees. Wal-Mart contracts with suppliers over shelf space, including the
provision of particularly desirable promotional shelf space. But because
Wal-Mart is compensated for shelf space primarily with lower wholesale
prices, the arrangements are not considered slotting contracts.[^17]

The competitive economic forces that lead transactors to adopt slotting
contracts are analyzed in two steps. First, in section II we ask the
fundamental economic question why manufacturers and retailers often find
it necessary to enter into contracts for retail shelf space. It would
appear that manufacturers could merely set wholesale prices for their
products and let retailers, certainly retailers operating in the highly
competitive supermarket environment, independently choose which products
to stock and prominently display. It is not obvious why it is necessary
for the manufacturer and retailer to enter a separate contract, where
the manufacturer purchases retail shelf space contingent on the retailer
stocking or prominently displaying the manufacturer's product. We answer
this question by recognizing that slotting contracts deal with the
supply of promotional shelf space. Promotional shelf space induces some
consumers to purchase the displayed product who would not otherwise do
so, but does not induce consumers to shift between stores. Because there
are little or no inter-retailer competitive effects from the supply of
promotional shelf space, retailers do not have the incentive to provide
the joint profit-maximizing quantity of promotional shelf space and
manufacturers must contract for such space.

Given that manufacturers and retailers enter shelf space contracts, in
section III we then undertake the second step of the analysis by
examining why retailer compensation for promotional shelf space
sometimes involves a per unit time slotting fee. Some economists believe
that per unit time compensation is used in shelf space contracts because
it leads to supra-competitive retailer profits and higher consumer
prices. This claim is inconsistent with the fact that supermarket
profitability has not increased over time as slotting has become more
prevalent. Instead, per unit time slotting fees are shown to be an
efficient form of compensation for promotional shelf space when
inter-retailer price competition on the particular contracted-for
product would pass on a large fraction of a wholesale price decrease in
a lower retail product price. Under these circumstances, compensation
with a lower wholesale price requires a larger wholesale price decrease
to generate the necessary retailer profit and increases the
manufacturer's cost of purchasing shelf space.

In section IV we demonstrate that our promotional theory of slotting is
consistent with both the time series and cross-section evidence
regarding the growth and incidence of slotting. Our theory implies that
the economic incentive for manufacturers to contract with retailers for
promotional shelf space is related to the quantity of sales that can be
induced by promotional shelf space and the manufacturer profit margin on
those incremental sales. The increasing number of new products and the
higher manufacturer margin on supermarket products explains the
increasing demand for (and value of) promotional shelf space and why
slotting contracts have become more prevalent since the early 1980s.
Incremental manufacturer profit margins also accurately predict which
supermarket products are likely to use slotting contracts.

# II. A Promotional Services Theory of Retailer Shelf Space Contracts

Retailer shelf space is a form of promotion, in the sense that a
displayed product induces additional sales. In contrast to abstract
economic models, where consumers are assumed to know the products they
want before they enter a store and the sole function of retailing is to
reduce shopping costs by providing consumers with their desired
products, retailers in the real world have the ability to influence
consumer purchases with their stocking and display decisions.[^18]

Promotional shelf space provided by retailers can be thought of as
inducing incremental sales of a manufacturer's product by raising the
reservation values placed on the product by a subgroup of "marginal
consumers" who, absent the promotion, would not otherwise purchase the
product. Once the product is prominently displayed on the retailer's
shelves, these consumers' reservation values increase so that they are
equal to or greater than the retail price and they decide to purchase
the product. The economic essence of promotion, therefore, can be
thought of as involving the provision of services (prominent shelf
space) as a way to provide a targeted effective price discount to
particular consumers.[^19] To operate, however, such promotional
services must be provided free of charge. As with other forms of
promotion, consumers are not willing to pay the cost of providing the
promotional shelf space, and charging for it would defeat its economic
purpose of providing an effective price discount to a subgroup of
consumers.[^20]

Since retailer shelf space is a form of promotion that consumers are not
willing to pay for but which induces incremental sales that are
profitable to the manufacturer, manufacturers will want greater retailer
promotional shelf space supplied for their products than retailers would
choose to supply on their own. Retailers deciding how much promotional
shelf space to provide for a manufacturer's product will not take
account of the manufacturer's profit margin on the incremental sales
produced by the promotional shelf space. This problem is particularly
significant when the manufacturer is supplying a differentiated product,
where the wholesale price it is receiving is substantially greater than
its marginal production cost. In such circumstances incremental sales
may be highly profitable to the manufacturer, yet retailers will not
find it in their interests to supply the promotional shelf space
necessary to generate the manufacturer's profitable incremental sales.
Manufacturers, therefore, must find a way to incentivize retailers to
supply desired promotional shelf space for their products.[^21]

Retailers also do not take account of manufacturer profit on incremental
sales when they decide to engage in price competition. However, in
contrast to retailer decisions with regard to the supply of promotional
shelf space, incentivizing retailers to engage in price competition
generally is not a problem. This is because a lower retail price has
large inter-retailer demand effects, increasing the individual
retailer's demand much more than it increases the manufacturer's demand
as consumers respond to a lower retail price by switching their
purchases of the manufacturer's product to the lower-priced retailer.
These inter-retailer demand effects offset the fact that the
manufacturer's margin on incremental sales is substantially greater than
the retailer's margin, so that any distortion with regards to individual
retailer incentives to engage in price competition is largely
eliminated. In contrast, retailer supply of promotional shelf space does
not produce significant inter-retailer effects.

We can elucidate the difference between the individual retailer
incentive to engage in price competition compared to providing
promotional shelf space in the following way.[^22] Assume that
manufacturers produce products that are sold to retailers at a wholesale
price,$P_{W}$, and retailers then sell the product to consumers at a
retail price, $P_{R}$. Further assume that manufacturers face negatively
sloped demands for their products and, therefore, sell their products at
wholesale prices above marginal manufacturing cost, $\text{MC}_{M}$, in
some cases significantly above marginal cost. This does not mean that
manufacturers are earning monopoly rents or possess antitrust market
power. Almost every firm operating in the economy, except perhaps the
wheat farmer described in introductory economics textbooks, faces a
negatively sloped demand because it is producing a somewhat unique
product. Therefore, almost every manufacturer charges a price greater
than marginal cost and has the potential to earn significant profit on
incremental sales.[^23]

Retailers compete in terms of the general quality and selection of
products they choose and the prices they charge, with consumers shopping
at the retailer or group of retailers where their surplus is perceived
to be highest. Individual retailers generally face less than perfectly
elastic demands with respect to price and product selection because they
possess unique specific factors, such as a particular locational
advantage or a reputation for supplying preferred service or for
carrying the variety of products desired by a particular group of
consumers. But retailers are assumed to face much more highly elastic
demands than manufacturers. An individual retailer's reduction in the
price of a particular manufacturer's product, while it may lead some of
its customers to switch from rival brands to the now lower-priced brand,
will also lead consumers that are purchasing that particular product
from other retailers to shift their purchases to the retailer that has
lowered price. These inter-retailer demand effects increase retailer
price elasticity of demand compared to manufacturer price elasticity of
demand and result in an offsetting equilibrium differential between
manufacturer and retailer profit margins.

To illustrate, assume that a retailer's marginal cost of selling an
additional unit of a product to consumers, $\text{MC}_{R}$, is equal to
the wholesale price charged by the manufacturer, $P_{W}$, plus the
retailer's marginal cost of selling the product, $\text{MC}_{S}$~,~
which includes the retailer's costs of providing shelf space.

\(1\) $\text{MC}_{R} = P_{W} + \text{MC}_{S}$

Each retailer will set its retail price, $P_{R}$, and sell $q_{R}$ units
based on $\text{MC}_{R}$ and its price elasticity of demand,
$\eta_{q_{R},P_{R}}$.

\(2\)
$\frac{P_{R} - \text{MC}_{R}}{P_{R}} = - \frac{1}{\eta_{q_{R},P_{R}}}$

Summed across *n* assumed identical retailers, each facing the same
elasticity of demand and each selling $q_{R}$ units, the total quantity
sold by all retailers, $Q_{R}$, is equal to $\text{nq}_{R}$ and the
perceived elasticity of demand at the retail level of the market,
$\eta_{Q_{R},P_{R}}$, equals $\eta_{q_{R},P_{R}}$. Hence, equation (2)
can be rewritten in terms of quantities sold in the market by all
retailers as

\(3\)
$\frac{P_{R} - \text{MC}_{R}}{P_{R}} = - \frac{1}{\eta_{Q_{R},P_{R}}}$

Similarly, profit maximization implies that the manufacturer will set
the wholesale price based on its marginal cost of production,
$\text{MC}_{M}$, and its price elasticity of demand,
$\eta_{Q_{M},P_{W}}$.

\(4\)
$\frac{P_{W} - \text{MC}_{M}}{P_{W}} = - \frac{1}{\eta_{Q_{M},P_{W}}}$

Since the quantity of product sold by the manufacturer, $Q_{M}$, is
exactly equal to the total quantity sold by all retailers, $Q_{R}$,
equations (3) and (4) imply

\(5\)
$\frac{\partial Q_{R}}{\partial P_{R}}\left( P_{R} - \text{MC}_{R} \right) = \frac{\partial Q_{M}}{\partial P_{W}}\left( P_{W} - \text{MC}_{M} \right)$

That is, the perceived return to retailers from lowering price, the
left-hand side of equation (5), is approximately equal to the
manufacturer's return from such a price reduction, the right-hand side
of equation (5).

Although the manufacturer margin,
$\left( P_{W} - \text{MC}_{M} \right)$, is substantially greater than
the retailer margin, $\left( P_{R} - \text{MC}_{R} \right)$, in
equilibrium retailer demand responses to price changes,
$\partial Q_{R}/\partial P_{R}$, will be proportionately greater than
manufacturer demand responses to price changes,
$\partial Q_{M}/\partial P_{W}$, to offset the higher manufacturer
margin. This is because a retailer price decrease causes shifts in the
manufacturer's sales between retailers that largely cancel out in terms
of the manufacturer's net sales increase. In equilibrium, the
manufacturer and retailers both adjust their prices so that their
respective margins offset the increased retailer demand response
relative to the manufacturer demand response.

For example, if the manufacturer's margin is, say, 20 times the
retailer's margin in equilibrium, the retail response to a decrease in
price in equilibrium, $\partial Q_{R}/\partial P_{R}$, will be
approximately 20 times the manufacturer's response,
$\partial Q_{M}/\partial P_{W}$. While the manufacturer only considers
inter-manufacturer demand effects in determining the profitability of a
lower wholesale price, retailers also consider inter-retailer demand
effects from lower retail prices. In fact, because of the relative
magnitude of these two effects, retailers will focus almost exclusively
on inter-retailer demand effects, or how they can get an advantage over
competing retailers. Although the retailer gets only about 1/20th of the
total incremental profit from its reduction in price that increases
total manufacturer sales, its demand response is 20 times larger.
Therefore, competitive retailers earn the same profit as the
manufacturer from lowering price, which is approximately equal to the
total joint profit. Consequently, although retailers do not take account
of the manufacturer's much larger profit margin on incremental sales
when lowering price, this does not cause a problem in terms of producing
too little retailer price competition. The manufacturer can be assured
that retail price competition will be approximately optimal.[^24]

With this price competition benchmark in mind, now consider the
difference when a retailer decides how much promotional services, *S*,
it will supply for a particular manufacturer's product, where *S* is
defined as the number of dollars the retailer spends on product
promotion, such as the dollar value of promotional shelf space provided
for the manufacturer's product. Although individual retailers operate in
a highly competitive environment, they have the ability by allocating
promotional shelf space to a particular branded product to induce sales
of that product to "marginal consumers."

The simplest case to consider is a retailer deciding which brand of a
product category to display more prominently than other brands, for
example, which brand should receive the retailer's eye-level shelf
space. All brands demanded by consumers are assumed to be available in
this example so there are unlikely to be any inter-retailer effects from
the retailer's decision to supply promotional shelf space to a
particular brand. We can reasonably assume for purposes of the analysis
that no consumer will switch to an alternative retailer because their
desired brand is not prominently displayed. Because there are no
inter-retailer effects from a retailer's decision to prominently display
a particular brand, the retailer's sales increase of the brand will
equal the manufacturer's sales increase.

\(6\) $\frac{\partial QR}{\partial S}$ =
$\frac{\partial QM}{\partial S}$

Consequently, the retailer's return to providing prominent shelf space
for a manufacturer's product will be less than the manufacturer's return
from receiving the shelf space.

> \(7\)
> $\frac{\partial Q_{R}}{\partial S}\left( P_{R} - \text{MC}_{R} \right) < \frac{\partial Q_{M}}{\partial S}\left( P_{W} - \text{MC}_{M} \right)$

In contrast to price competition, there are no inter-retailer
competitive effects to offset the fact that retailers do not take
account of the manufacturer's margin when deciding to prominently
display the manufacturer's product. Specifically, whereas in our
hypothetical price competition example there was an offset to the lower
retailer margin in the form of a 20 times increase in $\partial Q_{R}$
due to inter-retailer demand effects (so that the manufacturer gets
close to the desired amount of retailer price competition despite the
fact that the retailer ignores the manufacturer profit margin when it
lowers price), with regard to retailer supply of promotional shelf space
there are generally much smaller (or non-existent) inter-retailer
effects to offset the lower retailer margin. As long as the shelf space
supplied by a retailer is primarily promotional, the inter-retailer
effects of shelf space competition certainly will be smaller than the
inter-retailer effects of price competition.[^25]

In our analysis we have assumed for expositional simplicity that there
are absolutely no inter-retailer effects, so the retailer receives in
our example only about 1/20th of the total gain (the sum of the
retailer's and manufacturer's profit) from the incremental sales created
by its supply of *S*. On the margin the manufacturer has significantly
more to gain if extra promotional shelf space is supplied for its
product than the retailer has to gain. Therefore, without a separate
retailer contract, retailers will not supply promotional shelf space for
the manufacturer's product that maximizes joint profit of the retailer
and manufacturer.[^26]

The brand chosen to be prominently displayed by a retailer, as well as
the equilibrium value of promotional shelf space, will be determined by
competitive bidding between manufacturers for the shelf space. This
competitive bidding by manufacturers for promotional shelf space can be
expected to have two main effects. First, it will lead retailers to
supply more total shelf space than they would otherwise find it in their
interests to supply.[^27] This is consistent with the dramatic growth
since the early 1980s in total supermarket shelf space. As illustrated
in Figure 1, supermarket shelf space relative to sales grew from 4.48
square feet per thousand dollars of real sales in 1983 to 6.20 square
feet per thousand dollars of real sales in 2000, or a 38 percent
increase.[^28]

**Figure 1**

![](media/image1.wmf){width="5.9944444444444445in" height="4.4125in"}

Similarly, in addition to an increase in the total amount of supermarket
shelf space, competitive bidding for shelf space can be expected to
result in a different distribution of products than otherwise would be
chosen by retailers. Manufacturers of well-established, highly
advertised products generally do not contract with retailers to stock
their leading brands. For example, Procter & Gamble's highly advertised
Tide detergent, Crest toothpaste or Bounty paper towels must be stocked
by retailers since they are demanded by a large number of consumers who
may switch retailers if the products were not available.[^29] However,
manufacturers of less well-established products compete for stocking
privileges, and manufacturers of all products must compete to obtain
superior shelf space, such as more eye-level shelf "faces", end‑of-aisle
displays, or placement near the check-out registers.

The manufacturers with the greatest profitability from incremental sales
(the products with the greatest promotion-induced increase in sales
multiplied by the manufacturer margin ‑- the right hand side of equation
(7)) will be able to pay the most for shelf space and will win this
competition. Without shelf space contracts with manufacturers, retailers
would allocate shelf space across products so that retailer incremental
profit, or
$\frac{\partial Q_{R}}{\partial S}\left( P_{R} - \text{MC}_{R} \right)$,
would be approximately the same across all products. The retailer would
not take account of the substantially higher marginal manufacturer
profits that may exist on some products in determining what to stock.
Slotting contracts are a way to efficiently clear the market demand and
supply of shelf space, with manufacturers competing for shelf space with
promises to pay retailers contingent on the supply of promotional shelf
space for their products leading to a solution analogous to what would
occur if manufacturers were vertically integrated into retailing.

# III. Fixed versus Variable Compensation for Retailer Shelf Space

The above analysis demonstrates the necessity for manufacturers to
contract with retailers for promotional shelf space. These contracts
generally are not written documents, but usually involve unwritten
commitments between the manufacturer and retailer.[^30] A retailer, such
as a supermarket, can be thought of as owning an asset that can affect a
manufacturer's incremental sales. Competition among manufacturers leads
to contractual arrangements whereby manufacturers compensate retailers
for the use of this asset. Our analysis to this point, however, does not
tell us what form these implicit contracts between manufacturers and
retailers will take, in particular whether retailer compensation for
promotional shelf space occurs with a lower wholesale price or a per
unit time slotting fee.

The costs incurred by retailers in providing promotional shelf space for
a particular manufacturer's product are primarily per unit time costs.
In the short-run the costs are mainly the opportunity costs of not
providing existing shelf space to another product; in the long-run the
costs are mainly the land and building costs associated with supplying
new additional shelf space. Therefore, in equilibrium retailers must
receive a minimum per unit time return on their shelf space. However,
the per unit time "rent" paid by a manufacturer for shelf space need not
occur in the form of a per unit time slotting fee.

Some economists have claimed that retailers demand a fixed per unit time
slotting fee payment for shelf space rather than a variable lower
wholesale price payment because a lower wholesale price would be
competed away in lower retail prices while a slotting fee generates
excess retailer profits.[^31] However, there is no evidence of a
positive effect of slotting fees on retailer profits. Figure 2 shows
that supermarket profitability did not increase after 1981 as slotting
fees became more prevalent. Supermarket net profits after taxes, both as
a percentage of sales and as a percentage of measured assets, exhibit no
significant positive time trend.[^32]

**Figure 2**

![](media/image2.wmf){width="5.9944444444444445in"
height="4.386111111111111in"}

Supermarkets that receive shelf space payments on a per unit time basis
do not earn greater than normal profits because supermarkets face
significant inter-retailer competition with regard to overall pricing,
product selection and service quality.[^33] Retailers are forced by this
competition to pass slotting fees on to consumers in terms of lower
overall prices and increased services because slotting fees collected by
a supermarket are related to a supermarket's sales. Therefore,
supermarkets competing for increased slotting fees lower prices
(particularly prices of competitively sensitive products) and make
investments to improve consumers' shopping experience in order to
increase consumer traffic and a supermarket's ability to sell shelf
space at a higher price to manufacturers. Any individual supermarket
that does not use the rents collected from slotting fees to reduce its
quality-adjusted prices can be expected to lose significant sales and
thereby collect lower slotting fees. Consequently, the existence of per
unit time slotting fees does not result in consumers paying higher
grocery prices or supermarkets earning higher profits.[^34]

If equilibrium retailer profitability is invariant to whether
compensation for promotional shelf space occurs with a per unit time or
variable payment, what then are the potential advantages to a retailer
or manufacturer of using slotting fees? From the manufacturer's
perspective there will be an advantage in compensating retailers for
shelf space with a lower wholesale price because this creates an
incentive for retailers to lower prices and increase manufacturer
sales.[^35] A wholesale price reduction also is a superior way to
measure the market value of the shelf space provided by a retailer since
differences in shelf space quality across retail stores and across
locations within a store will be related to product sales.

Offsetting these obvious advantages of compensating retailers for
promotional shelf space with a lower wholesale price, however, is the
cost to the manufacturer of generating the required shelf space rents
when there is significant inter-retailer competition in the sale of the
manufacturer's product.[^36] For example, assume initially that
retailers face no inter-retailer competition and that the equilibrium
shelf space rental is \$100 per unit time, with each retailer selling
100 units of the manufacturer's product per unit time at current prices.
In these circumstances the manufacturer could create the required shelf
space rental by lowering the wholesale price by approximately one
dollar.[^37]

If, alternatively, retailers face significant inter-retailer price
competition on the manufacturer's product, the manufacturer's wholesale
price decrease must be greater than one dollar. Each retailer's
perceived elasticity of demand is now greater than the market elasticity
it faced absent inter-retailer price competition and each retailer will
have an incentive to lower the retail price by a larger fraction of the
manufacturer's wholesale price decrease. However, because the
manufacturer is providing payment for shelf space in a lower wholesale
price to all retailers, retailers as a group will experience a quantity
increase given by the market demand elasticity. Inter-retailer
competition, therefore, will lead retailers to decrease price more than
they will increase sales and the manufacturer's shelf space payments to
retailers will be eroded. Consequently, the manufacturer must reduce the
wholesale price more than one dollar in order for the retailer to earn
the equilibrium per unit time shelf space rental return. Manufacturers
must make this "extra" reduction in the wholesale price because
retailers must be compensated at the market rate for supplying shelf
space or they would prefer to supply their promotional shelf space to
another manufacturer, including manufacturers that provide compensation
at least partially with a per unit time payment.[^38]

The greater is inter-retail competition on the manufacturer's product,
the greater will be the decrease in the product's retail price for any
wholesale price decrease and, therefore, the greater the "extra"
wholesale price reduction by the manufacturer required to create the
equilibrium shelf space rental return. Therefore, while there are
incentive and measurement benefits associated with compensating
retailers for shelf space with a lower wholesale price rather than a per
unit time payment, the advantage to the manufacturer of using a lower
wholesale price to compensate retailers for shelf space decreases as the
degree of inter-retailer competition on the particular product
increases. In the limiting case where inter-retailer competition on the
particular product is perfect, so that the product's retail price can be
expected to fall by 100 percent of the wholesale price discount, no
manufacturer wholesale price reduction, however large, could generate
the required retailer shelf space rent.

In general, a point will be reached where inter-retailer price
competition on the manufacturer's product is so significant that a lower
wholesale price will be an inappropriate way for the manufacturer to
compensate retailers for the supply of promotional shelf space. This
explains why per unit time slotting fees are, in fact, used more
frequently for products where there is significant inter-retailer price
competition.[^39] These economic considerations also explain other shelf
space compensation arrangements, such as the use by manufacturers of
resale price maintenance to more directly prevent inter-retailer price
competition.[^40]

Furthermore, this critical point where inter-retailer competition on the
manufacturer's product is so large that shelf space compensation takes
the form of a per unit time slotting fee is likely to decrease as the
value of shelf space increases. For example, if manufacturers must
transfer to the retailer \$200 per unit time, rather than the \$100 of
our previous hypothetical, the extra costs per unit time of using a
lower wholesale price rather than a per unit time payment to generate
the required shelf space rental return will double for any given level
of inter-retail competition. In fact, since we can expect consumers to
switch retailers based on a particular absolute difference in retailer
prices, a larger portion of the wholesale price discount will be
competed away by inter-retailer competition the greater the wholesale
price discount. Accordingly, the extra costs of using a lower wholesale
price rather than a per unit time payment will more than double.

Given the crucial importance of inter-retailer competition in
determining the method of shelf space compensation, it may appear that a
lower wholesale price always would be an efficient way to purchase
promotional shelf space. Manufacturers are purchasing promotional shelf
space to generate incremental "impulse sales" by marginal consumers who
are unlikely to be responsive to inter-retailer price differences. In
fact, by definition, retailers do not face inter-retailer competition
for marginal consumers. Therefore, a retailer's price decrease and sales
increase in response to a wholesale price decrease will be given by the
manufacturer's market demand curve and will necessarily lead to an
increase in retailer profits. Consequently, the manufacturer would
appear not to bear any extra cost of using a wholesale price reduction
to purchase shelf space. This conclusion, however, is incorrect.

Retailers generally sell a manufacturer's product to a mix of both
marginal and infra-marginal consumers. Even a new product which may
initially be purchased entirely by marginal consumers will eventually
develop loyal infra-marginal demanders who know they wish to purchase
the product and may switch retailers on the basis of price. Therefore,
retailers will lower retail price in response to a manufacturer's
wholesale price decrease by substantially more than if they were only
selling to marginal consumers and faced no inter-retailer competition,
increasing the manufacturer's wholesale price decrease required to
compensate retailers for shelf space. As the share of total sales made
to infra-marginal consumers increases, it becomes more likely that a per
unit time payment based on expected sales to marginal consumers will be
the efficient way for manufacturers to compensate retailers for
promotional shelf space.

Even when impulse sales to marginal consumers can, in principle, be
separated from more price-sensitive sales by store location (for
example, candy and chewing gum impulse sales made at the check-out
counter as distinct from sales of the same products made from the
shopping aisles), the manufacturer would find it difficult to pay for
check-out counter promotional shelf space by reducing the wholesale
price solely on check-out counter sales because the retailer would
attempt to arbitrage the differential wholesale prices. The
manufacturer, therefore, will pay the retailer a per unit time slotting
fee on the promotional shelf space, which is logically equivalent to a
lower wholesale price solely on the goods sold at the promotional shelf
space.

The possibility of inter-retailer competitive dissipation of shelf space
rents when retailer compensation is in the form of a lower wholesale
price also explains why slotting fees are more likely to be used for
products where shelf space arrangements are longer-term, where consumers
are more likely to obtain comparable price information across retailers.
In contrast, promotional shelf space arrangements for established
products briefly featured on a retailer's end cap usually do not exist
long enough for wholesale price discounts to be competed away by
inter-retailer competition.[^41] Because a lower wholesale price in
these circumstances is for a short period, it is unlikely that
inter-retailer competition would be concentrated on the particular
product and, therefore, unlikely that a large fraction of the retailer
profit earned on the end cap would be eliminated.[^42]

Inter-retailer competition considerations also explain why Wal-Mart
accepts promotional shelf space payments primarily in the form of lower
wholesale prices rather than slotting fees. Although Wal-Mart faces
significant inter-retailer competition and passes on to consumers a
large fraction of the overall wholesale price savings it receives,
Wal-Mart is not forced by inter-retailer competition to pass on most of
the wholesale price discount it receives from a manufacturer in a lower
retail price of the particular manufacturer's product. Wal-Mart's policy
is not to advertise low prices of individual products, but to advertise
the fact that it has low overall everyday prices and this is the
reputation it has created among its consumers. In addition to creating
loyal customers who know that Wal-Mart charges a low overall package
price on their purchases, Wal-Mart is not forced by competitive market
pressures to pass a large fraction of any individual wholesale price
discount on to consumers on the particular product's retail price
because competing retailers are compensated for promotional shelf space
largely with per unit time payments. Consequently, manufacturers can
obtain the benefits of making promotional payments for shelf space at
Wal-Mart primarily with lower wholesale prices.[^43]

# IV. The Promotional Services Theory Is Consistent with the Evidence

There are three major existing theories of slotting, all of which claim
that the increase in slotting since the early 1980s can be explained by
the increase in new supermarket products. The annual number of new
supermarket product introductions has increased more than eight-fold
over this period, from 2,782 new products introduced in 1981 to 23,181
new products introduced in 2003.[^44] These theories, however, do not
adequately explain why this dramatic increase in new product
introductions has led to slotting contracts.

One theory emphasizes the increased transaction costs borne by retailers
in stocking a larger number of new products, including the costs of
entering new product information into a computer, warehousing the new
products, and physically placing the new products on the shelf.[^45]
Retailer organizations have adopted this explanation at Congressional
hearings and in advocacy material.[^46] However, an explanation for
slotting that is based on the increased transaction costs of stocking
the larger number of products now carried by supermarkets is
inconsistent with the fact that slotting fees are much greater than
these narrow transaction costs.[^47] Moreover, this explanation also is
inconsistent with the fact that slotting varies substantially across
products and covers established products where additional transaction
costs are likely to be minimal.

A second theory uses the growth in new products to explain slotting by
emphasizing the risk a retailer takes when deciding to stock an unproven
new product in terms of the opportunity costs of potential lost profits
on its shelf space. Slotting fees are claimed to compensate retailers
for these risks. Most models further hypothesize that slotting serves
the function of a screening device to assist the supermarket in
determining which of the many new products are more likely to succeed in
an environment where manufacturers are assumed to have superior
information to retailers.[^48] However, this view of slotting also is
inconsistent with the fact that slotting fees and other promotional
allowances often are paid by manufacturers on established products with
predictable demand, and that slotting contracts are often renewed after
supermarkets have market experience with a particular new product.[^49]

Both of these theories rely on an increase in supermarket costs
associated with new product introductions to explain the growth in
slotting. However, more relevant than any increase in transaction costs
or risk costs that may be associated with new product introductions,
these theories ignore the more important increase in supermarket
operating costs caused by the increase in new products. As described
above, the increase in new products since the early 1980s has resulted
in a large increase in the size of supermarkets. The number of SKUs
stocked by the average supermarket over the 1980 to 2003 period has
increased more than 270 percent,[^50] with a nearly 40 percent increase
in the amount of shelf space provided by supermarkets per dollar of
sales.[^51] Furthermore, the transaction cost and risk cost theories do
not attempt to answer the fundamental economic question underlying the
existence of slotting contracts, namely why consumers do not pay for the
higher costs of supermarket operations in a higher retail price, rather
than having manufacturers cover the increased costs with a per unit time
slotting fee.

A third theory of slotting, developed by Mary Sullivan, also uses the
growth in new product introductions to explain slotting.[^52] But, in
contrast to the transaction cost and risk theories, Sullivan correctly
focuses on the increase in supermarket shelf space costs over time and
attempts to answer the fundamental economic question of why
manufacturers have paid for this increased cost with slotting fees.
Sullivan explains the increased use of per unit time slotting fees by
assuming that the growth in the number of new products and the resulting
increase in supermarket shelf space costs per dollar of sales has not
created an offsetting benefit to consumers. This is so, she asserts,
because most new products have been brand extensions that have not
reduced consumer search costs and shopping time.[^53] In particular,
Sullivan's demand model assumes fixed retail prices, with consumer
demand driven solely by search cost considerations. This eliminates the
possibility that consumer demand for product variety could affect
individual supermarket demand. Supermarkets providing increased product
variety cannot experience an increase in their demand and thereby an
increase in margins or sales. Because consumers are assumed not to be
willing to compensate supermarkets through increased margins or greater
sales when supermarkets increase product variety, slotting fees are
necessary, according to Sullivan, to allow supermarkets to recover their
higher costs of providing increased shelf space for stocking new
products.

However, consumers generally should be willing to pay for increased
product variety that raises supermarket selling costs. Brand extensions,
even if they do not decrease consumer search costs, presumably are
valuable to consumers.[^54] A supermarket that increases its shelf space
and takes on an increased number of new products, increasing its costs
by decreasing its sales per square foot, is producing benefits for
consumers in terms of increased product variety. Therefore,
inter-retailer competition should result in supermarket compensation for
this consumer benefit in the form of an increased margin and/or
increased sales. Specifically, competition will result in supermarkets
choosing the optimal subset of products that are demanded by consumers
and consumers will "pay" for the increased costs of increased shelf
space per dollar of sales in an increased supermarket margin, even if
there is no decrease in search costs. In these circumstances, a separate
slotting contract would not be necessary to compensate supermarkets for
their higher selling costs. On the other hand, if there is not a
consumer demand for increased variety, competition among supermarkets
would not have led to an increased number of SKUs and higher retailer
costs in terms of lower sales per square foot. Competitive supermarkets
could have provided a more limited number of products and, hence, have
larger sales per square foot and lower costs.

The answer to this conundrum is provided by our promotional shelf space
model, where consumers are unwilling to fully compensate retailers for
the increased retailing costs associated with stocking an increased
number of products, yet an increased number of products are stocked by
competitive retailers because retailers are in the business of supplying
promotional shelf space to manufacturers. The increase in the number of
products sold in larger supermarkets does not reflect solely an increase
in consumer demand for variety; it also reflects an increased
manufacturer demand for promotional shelf space. The increased retailing
costs associated with larger stores and the increased number of SKUs per
store is at least partially a response to this increased manufacturer
demand for promotional shelf space. Manufacturers, therefore, must pay
supermarkets for operating in a way in which supermarkets are not able
to obtain direct consumer compensation.[^55] Our promotional shelf space
theory, therefore, fills in an important gap in Sullivan's theoretical
framework, explaining why manufacturers pay retailers directly for
promotional shelf space.

Our theory also explains why the way in which manufacturers pay
supermarkets for the provision of promotional shelf space has
increasingly shifted to slotting fees. The movement to slotting fees can
be explained by the substantial increase since the early 1980s in the
market value of promotional shelf space due to a substantial increase in
the demand for such shelf space.[^56] As described above, an increase in
the value of promotional shelf space can be expected to result in the
increased use of slotting because, for any given level of inter-retailer
competition on a manufacturer's product, the cost to manufacturers of
paying retailers for shelf space entirely with a reduction in the
wholesale price will increase as the required wholesale price reduction
increases.[^57]

The growth in demand for promotional shelf space can be attributed, in
part, to the growth in the number of new product introductions. The
effect of promotional shelf space in creating incremental manufacturer
sales, $\partial Q_{M}/\partial S$, is likely to be high for new
products.[^58] However, in addition to the growth in demand for
promotional shelf space for new products, manufacturer demand for
promotional shelf space has increased since the early 1980s from an
increased demand by manufacturers to use shelf space to promote
established products. Why has this occurred?

A key economic insight of our promotional shelf space theory, summarized
in equation (7), is that an important factor creating an incentive for
manufacturers to contract with retailers for promotional shelf space is
the size of the manufacturer's margin compared to the retailer's margin.
This measures the differential benefits to the manufacturer compared to
the retailer with regard to the supply promotional shelf space for the
manufacturer's product. Since grocery retailing is highly competitive
and the supermarket margin is likely to have remained relatively
constant over time, our theory predicts that the demand for and value of
promotional shelf space and, therefore, the incidence of slotting
contracts will depend upon the margin earned by manufacturers on shelf
space-induced incremental sales.

In predicting the demand for promotional shelf space over time, value
added as a fraction of sales can be used as a proxy for the manufacturer
margin.[^59] Figure 3 shows that value-added as a fraction of sales for
food and beverage manufacturers has increased substantially since the
early 1980s. From 1965 to 1981, value-added as a fraction of sales
varied from a low of 27.7 percent in 1974 to a high of 32.9 percent in
1971.[^60] In 1984 (Sullivan's starting date for slotting contracts)
value-added as a fraction of sales was at 32.7 percent, close to the
high of the previous 20 years, after which it increased dramatically
over the next two decades, reaching a level of 44.9 percent in 2003.

**Figure 3**

![](media/image3.wmf){width="5.999305555555556in"
height="4.398611111111111in"}

The change in trend in value added to sales ($\text{VA}S$) over the
1965-2003 period can be illustrated by the following regression.

\(8\)
$\text{VA}S = \underset{\left( \text{42}\text{.}7 \right)}{\text{.}\text{305}} - \underset{\left( - \text{.}5 \right)}{\text{.}\text{0003}t} + \underset{\left( 6\text{.}7 \right)\ }{\text{.}\text{0035}\text{Dt}}$
${\overline{R}}^{2}$*= .89*

where t is a time trend, D is a dummy variable equal to 1 for years
starting in 1984 and t‑statistics are presented under the coefficients.
Although there was no significant trend for the first 20 years, a
significant rising trend in value added as a fraction of sales of a
little more than a third of a percentage point per year occurs after
1984. This trend in value added as a fraction of sales was caused
primarily by a consumer shift in many grocery product categories towards
more specialized branded products with relatively greater manufacturer
margins, including the growth of branded packaged/frozen grocery
products relative to, for example, unbranded fresh produce.[^61] This
trend coincides with the introduction and growth of slotting allowances
in grocery retailing, as one would predict from our promotional shelf
space theory.

In addition to explaining the time trend of slotting, our promotional
shelf space theory of slotting predicts which products are likely to use
slotting. Specifically, in contrast to the assumption made by other
theories of slotting that slotting is used solely for new products,[^62]
our theory implies that slotting fees also will be used for established
products where (for a given promotional sales effect of shelf space)
manufacturer margins are greatest.

The FTC Report indicates that products where slotting is frequently used
include frozen food, dry grocery (non-perishable food items) and
beverages, while products of infrequent slotting use include fresh meat
and seafood, produce and deli.[^63] Suppliers of a broad range of other
grocery products, including general and specialty breads, greeting
cards, tortillas, air fresheners, baby food and spices, also report the
frequent use of slotting payments.[^64] We also know from a 1997 study
comparing tobacco industry practices with other products that tobacco
slotting payments were reported to be the most frequent and of the
highest magnitude, followed in order of magnitude of the average payment
by the beer and wine industry, and then by the snack food industry and
soft drinks.[^65]

Table 1 breaks the Census of Manufacturers' NAICS classifications for
food manufacturing into products where we have evidence that significant
slotting fees are paid and products where we have evidence that slotting
fees are generally not paid. When we have no evidence regarding slotting
fees, we label the product category in Table 1 as "not classified." We
classify each 4‑digit industry group and, where we have separate
evidence, 5‑digit industry groups.

Table 1

  ---------------- ----------------------------------------------- ----------------
  Classification                                                   
  of Industries by                                                 
  Existence of                                                     
  Slotting                                                         

  ** **            ** **                                            

  **NAICS\         **Industry group**                              **Slotting /\
  code**                                                           Non-Slotting**

  3111             Animal food manufacturing                       Not Classified

  3112             Grain & oilseed milling                          

  31121            Flour milling & malt manufacturing              Non-Slotting

  31122            Starch & vegetable fats & oils manufacturing    Non-Slotting

  31123            Breakfast cereal manufacturing                  Slotting

  3113             Sugar & confectionery product manufacturing      

  31131            Sugar manufacturing                             Non-Slotting

  31132            Confectionery product manufacturing             Slotting

  3114             Fruit & vegetable preserving & specialty food    
                   manufacturing                                   

  31141            Frozen food manufacturing                       Slotting

  31142            Fruit & vegetable canning, pickling, & drying   Not Classified

  3115             Dairy product manufacturing                      

  31151            Dairy product (except frozen) manufacturing     Non-Slotting

  31152            Ice cream & frozen dessert manufacturing        Slotting

  3116             Meat product manufacturing                      Non-Slotting

  3117             Seafood product preparation & packaging         Non-Slotting

  3118             Bakeries & tortilla manufacturing               Slotting

  3119             Other food manufacturing                         

  31191            Snack food manufacturing                        Slotting

  31192            Coffee & tea manufacturing                      Not Classified

  31193            Flavoring syrup & concentrate manufacturing     Not Classified

  31194            Seasoning & dressing manufacturing              Slotting

  31199            All other food manufacturing                    Not Classified

  3121             Beverage manufacturing                          Slotting

  3122             Tobacco manufacturing                            

  31221            Tobacco stemming and redrying                   Not Classified

  31222            Tobacco product manufacturing                   Slotting

                                                                    

  Source: NAICS                                                    
  Industry codes                                                   
  from 2003 Annual                                                 
  Survey of                                                        
  Manufactures -                                                   
  Table 2.                                                         
  Classification                                                   
  of slotting from                                                 
  various sources.                                                 
  (See footnotes                                                   
  73, 74 and 75.)                                                  
  ---------------- ----------------------------------------------- ----------------

Table 2 compares the ratio of value-added to shipment value in 2003 for
the product categories associated with the frequent use of slotting with
the ratio of value added to shipment value where slotting is believed to
be an infrequent practice.

Table 2

  ------------------ -------------- ------------------------------------------- -----------------
                     Value Added                                                
                     Relative to                                                
                     Value of                                                   
                     Shipments\                                                 
                     for Slotting                                               
                     and                                                        
                     Non-Slotting                                               
                     Industries in                                              
                     2003                                                       

                     ** **          ** **                                       ** **

  **NAICS code**                    **Industry group**                          **Value added /
                                                                                shipment value**

                     ** **          ** **                                       ** **

  **Slotting**                      ** **                                       ** **

                     31123          Breakfast cereal manufacturing              77.3%

                     31132          Confectionery product manufacturing         59.4%

                     31141          Frozen food manufacturing                   54.7%

                     31152          Ice cream & frozen dessert manufacturing    52.9%

                     3118           Bakeries & tortilla manufacturing           66.0%

                     31191          Snack food manufacturing                    60.6%

                     31194          Seasoning & dressing manufacturing          53.3%

                     3121           Beverage manufacturing                      52.3%

                     31222          Tobacco product manufacturing               87.9%

                                    **Weighted average**                        **63.1%**

                                                                                

  **Non-Slotting**                                                               

                     31121          Flour milling & malt manufacturing          29.6%

                     31122          Starch & vegetable fats & oils              27.0%
                                    manufacturing                               

                     31131          Sugar manufacturing                         33.6%

                     31151          Dairy product (except frozen) manufacturing 31.0%

                     3116           Meat product manufacturing                  32.9%

                     3117           Seafood product preparation & packaging     38.1%

                                    **Weighted average**                        **31.8%**

                                                                                 

  Confectionery                                                                 
  product                                                                       
  manufacturing is                                                              
  labeled as NAICS                                                              
  code 31132 but is                                                             
  the sum of NAICS                                                              
  codes 31132                                                                   
  (chocolate and                                                                
  confectionery                                                                 
  manufacturing from                                                            
  cacao beans),                                                                 
  31133                                                                         
  (confectionery                                                                
  manufacturing from                                                            
  purchased                                                                     
  chocolate), and                                                               
  31134                                                                         
  (non-chocolate                                                                
  confectionery                                                                 
  manufacturing).                                                               
  Source: 2003                                                                  
  Annual Survey of                                                              
  Manufactures,                                                                 
  Table 2.                                                                      
  ------------------ -------------- ------------------------------------------- -----------------

Where slotting is observed to occur frequently, the weighted average
ratio of value added to shipment value is 63.1 percent; where slotting
is not observed, the weighted average ratio is 31.8 percent. In fact,
there is absolutely no overlap in these two sample distributions, with
the lowest value added to shipment ratio for slotting products more than
14 percentage points above the highest value added to shipment ratio for
non-slotting products. Using the Wilcoxon Rank Sum test to compare the
centers of these two small sample size populations, the null hypothesis
that the median of value added relative to sales for products with
slotting equals the median for products without slotting is rejected at
the .01 level.[^66] These results clearly indicate that, consistent with
our promotional services theory, the existence of slotting is
significantly positively related to a product's manufacturer
margin.[^67]

# V. Conclusion

This article provides a procompetitive business justification for
contractual arrangements that involve the manufacturer purchase of
retail distribution. When the promotional value of retailer shelf space
is high, slotting is likely to be an efficient contract. Our analysis
explains why there has been an increase in slotting contracts since the
early 1980s, why products with relatively high manufacturer margins are
more likely to use slotting contracts, and why supermarket profits have
not increased over time as slotting has become more extensive.

Some courts have explicitly recognized that competition for shelf space
is an essential element of the competitive process. For example, the
court in *Gruma* ruled that slotting contracts, rather than foreclosing
competition, intensified product competition.[^68] However, manufacturer
competition for shelf space is not universally recognized as
procompetitive. This article demonstrates why slotting contracts are
likely to be elements of the normal competitive process, entered into by
manufacturers and retailers without any market power, and are unlikely
to involve manufacturer attempts to anticompetitively exclude rivals or
retailer attempts to earn monopoly rents. Once we understand the basic
economic forces underlying manufacturer demand for retailer promotional
shelf space and the ultimate benefits achieved by consumers from this
competitive process, slotting contracts are less likely to be condemned
because they do not correspond to what may be thought of as standard
textbook competition.

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[^1]: ^^ Klein: Professor Emeritus of Economics, UCLA and Director,
    LECG, LLC; Wright: Assistant Professor, George Mason University
    School of Law. We thank Dennis Carlton, Lloyd Cohen, Bruce Johnsen,
    Franz Klein, Young-Bae Moon, Jon Tomlin, Geert Wills, Ralph Winter,
    and especially Andres Lerner, Kevin Murphy and an anonymous referee
    for extensive comments. Bryan Buskas and Emmett Dacey provided
    valuable research assistance. Earlier versions of this article were
    presented at George Mason University, the 2004 meeting of the
    International Society of New Institutional Economics, the 2005
    meeting of the American Law and Economics Association and the
    European Commission.

[^2]: Federal Trade Commission, "Report on the Commission Workshop on
    Slotting Allowances and Other Marketing Practices in the Grocery
    Industry," 2001 (hereafter *FTC Report* ) at 4, 11 and n. 18‑19.
    Slotting fees on established supermarket products are often referred
    to as "pay‑to-stay" fees, and are frequently used for tortilla,
    produce, and frozen food products (*FTC Report* at 29 n. 94.), as
    well as for snack foods, spices, light bulbs, greeting cards and for
    products placed in racks near the check-out cashiers. Federal Trade
    Commission Staff Study, "Slotting Allowances in the Retail Grocery
    Industry: Selected Case Studies in Five Product Categories,"
    November 2003 (hereafter *FTC Study*) at 19 n. 92 and 57.

[^3]: *See* Iris Rosenthal, Slotting Fees Continue to Spark Controversy
    in Retailing, 135 Drug Topics 81 (January 21, 1991); James
    Surowiecki, Paying to Play, The New Yorker, July 12, 2004; and Wall
    Street Journal, Is Selling Books Like Selling Frozen Food, May 20,
    2002.

[^4]: See, for example, El Aquila Food Products v. Gruma Corp., 301
    F.Supp. 2d 612 (S.D. Tex. 2003), *aff'd*, 131 Fed. Appx. 450 (5^th^
    Cir. 2005).; R.J. Reynolds Tobacco Co. v. Philip Morris, Inc., 199
    F. Supp. 2d 363 (M.D.N.C. 2002), *aff'd per curiam*, 67 Fed. Appx.
    810 (4^th^ Cir. 2003); Conwood Co. v. United States Tobacco Co., 290
    F. 3d 768 (6th Cir. 2002); American Booksellers Ass'n, Inc. v.
    Barnes & Noble, Inc., 135 F. Supp. 2d 1031 (N.D. Cal. 2001);
    Intimate Bookshop, Inc. v. Barnes & Noble, Inc., 88 F. Supp. 2d 133
    (S.D.N.Y. 2000); FTC v. H.J. Heinz Co., 116 F. Supp. 2d 190 (D.C.C.
    2000), *rev'd*, 246 F.3d 708 (D.C. Cir. 2001); FTC v. McCormick (FTC
    Dkt. No. C‑3939 (2000). Slotting fees and other forms of shelf space
    payments were also central to Coca-Cola's 2004 settlement with the
    European Commission. (Undertaking at Case Comp/39.116/B‑2-Coca-Cola,
    available at:
    http://europa.eu.int/comm./competition/antitrust/cases/decisions/39116/tccc_final\_
    undertaking_041019.pdf.)

[^5]: "Competitive Issues in Agriculture and the Food Industry," Hearing
    before the House Committee on the Judiciary, 106^th^ Cong. (Oct. 20,
    1999); "Slotting: Fair for Small Business and Consumers?," Hearings
    Before the Senate Committee on Small Business, 106^th^ Cong.
    (Sept. 14, 1999); "Slotting Fees: Are Family Farmers Battling to
    Stay on the Farm and in the Grocery Store?," Hearings before the
    Senate Committee on Small Business, 106^th^ Cong. (Sept. 14, 2000).

[^6]: *FTC Report* and *FTC Study*, *supra* note Error: Reference source
    not found.

[^7]: *FTC Report*, *supra* note Error: Reference source not found at
    34-41.

[^8]: For a summary of the economic conditions under which distribution
    contracts may cause anticompetitive effects see, e.g., Benjamin
    Klein, Exclusive Dealing as Competition for Distribution On the
    Merits, 12 Geo. Mason L. Rev. 119, 122‑28 (2004). One commentator
    summarizes current antitrust law with regard to foreclosure as
    "routinely sustain\[ing\] the legality of exclusive dealing
    arrangements with foreclosure percentages of 40 percent or less."
    (Jonathan M. Jacobsen, Exclusive Dealing, "Foreclosure," and
    Consumer Harm, 70 Antitrust L. J. 311, 325, citing cases at n. 85
    (2002).) Courts sometimes use a "space‑to-sales" ratio as a
    necessary condition for foreclosure in shelf space cases, where a
    dominant manufacturer may foreclose competitors only if it enters
    shelf space contracts that exceed its market share. For example, the
    court rejected the antitrust challenge to Philip Morris' Retail
    Leaders Program, where retailers were compensated for supplying
    advantageous display space to Philip Morris cigarette brands, in
    part by finding that the share of retailer shelf space contracted
    for by Philip Morris was less than its market share of sales. R. J.
    Reynolds Tobacco Co. v. Philip Morris Inc., 199 F.Supp. 2d 362, at
    388, 390 (M.D.N.C. 2002), *aff'd per curiam*, 67 Fed. Appx. 810
    (4^th^ Cir. 2003).

[^9]: For example, *FTC Study*, *supra* note Error: Reference source not
    found at 57 reports that exclusivity was not a prevalent practice in
    the slotting contracts used in five product categories studied
    (fresh bread, hot dogs, ice cream, shelf-stable pasta, and
    shelf-stable salad dressing). In terms of the recent antitrust cases
    cited *supra* note Error: Reference source not found, the shelf
    space arrangements used by Philip Morris, Barnes & Noble, H.J. Heinz
    and Coca-Cola were not exclusive, while the shelf space arrangements
    used by Gruma, Conwood and McCormick involved limited exclusives.
    Benjamin Klein & Kevin M. Murphy, Exclusive Dealing Intensifies
    Competitive Bidding for Distribution, unpublished working paper,
    2006, provides a procompetitive explanation for why retailers will
    have manufacturers bid for exclusive retailers, by effectively
    acting as bargaining agents for their consumers, internalize what
    would be each consumer's independent buying decision if multiple
    products were on the shelf, offer exclusive shelf space in a product
    category as a way to intensify competition, resulting in lower
    retail prices.

[^10]: Interviews with manufacturers and retailers indicate that the
    most common time period for a new product stocking commitment is a
    minimum of six months. *FTC Study*, *supra* note Error: Reference
    source not found at iii n. 14; see also *FTC Report*, *supra*
    note Error: Reference source not found at 11 (citing Sussman, Tr. at
    83-84). Slotting contracts that deal with stocking commitments for
    established products are usually one year in duration. *FTC Study*,
    *supra* note Error: Reference source not found at 57. Other shelving
    commitments, for example, the display of a particular product at the
    end of an aisle, may be substantially shorter-term, sometimes
    covering only a week. See *infra* at note Error: Reference source
    not found.

[^11]: Several courts have established a safe harbor for exclusive
    agreements that are of short duration and may be terminated on short
    notice. See, e.g., Roland Mach. Co. v. Dresser Industries, 749 F.2d
    380, 395 (7^th^ Cir. 1984) (exclusive dealing contracts terminable
    in less than one year are presumptively lawful under Section 3 of
    the Clayton Act ); Omega Environmental, Inc. v. Gilbarco, Inc., 127
    F.3d 1157, 1162 (9^th^ Cir. 1997) (citing Roland Machinery and
    stating that the "short duration and easy terminability of these
    agreements negates substantially their potential to foreclose
    competition"), *cert. denied*, 525 U.S. 812 (1998); and R. J.
    Reynolds Tobacco Co. v. Philip Morris, 199 F.Supp. 2d 362 at 391
    (where the court concluded that because Philip Morris agreements
    with retailers were terminable at will with thirty days notice,
    "retail product and display space are subject to uninterrupted
    competitive bidding, and Plaintiffs are not substantially foreclosed
    from the relevant market").

[^12]: Paul N. Bloom, *et al*., Slotting Allowances and Fees: Schools of
    Thought and the Views of Practicing Managers, 64 J. Marketing 92
    (2000) argue that smaller manufacturers are unable to meet the shelf
    space offers of larger manufacturers because they do not have access
    to sufficient capital. This imperfect capital market argument is
    formalized in Greg Shaffer, Slotting Allowances and Optimal Product
    Variety, 5(1) *Advances in Economic Analysis & Policy*: Article 3
    (2005).

[^13]: *FTC Report*, *supra* note Error: Reference source not found at
    4, 11 and n. 18‑19. Mary Sullivan, Slotting Allowances and the
    Market for New Products, 40 J. Law & Econ. 461 (1997) states that
    systematic per unit time slotting fees did not exist prior to 1984
    (citing Distributor Demand Sharpens for New Product Incentives, 34
    Supermarket News 1 (August 27, 1984)).

[^14]: Ken Kelly, The Antitrust Analysis of Grocery Slotting Allowances:
    The Procompetitive Case, 10 J. Public Policy & Marketing 187 (1991);
    Who's Minding the Shelves, Consumer Reports (August 2000); *FTC
    Report*, *supra* note Error: Reference source not found at 18.

[^15]: See, e.g., 267 F.2d 439 (3rd Cir. 1959), the "Chain Lightning"
    Robinson-Patman cases.

[^16]: Trade promotions may include wholesale price quantity discounts,
    cash rebates, coupons, consignment programs, co-op advertising
    reimbursement, display allowances, off-invoice allowances, bill-back
    allowances, promotional allowances, free goods, and performance
    funds, in addition to upfront slotting fees. Philip Kotler,
    Marketing Management 489-90 (11^th^ ed. 2003); Russell S. Winer,
    Marketing Management 355 (2d. Ed. 2004). Recent surveys suggest that
    total trade promotion spending, including slotting, constituted
    13-17% of manufacturer gross dollar sales in 2001. AC Nielsen 2002
    Trade Promotion Practices Study, Consumer Insights (Summer 2003),
    *available* at http://www2.acnielsen.com/pubs/2003 \_q2_ci.shtml;
    Cannondale Associates, Trade Promotion, Spending and Merchandising:
    Industry Study (2003).

[^17]: Wal-Mart usually insists upon receiving the single best wholesale
    price that suppliers can offer in lieu of slotting fees. For
    example, Wal-Mart Chairman S. Robson Walton describes Wal-Mart's
    policy as "encourag\[ing\] suppliers to quote us net-net prices . .
    . . We don't charge slotting fees, and we don't take special deal
    money, reimbursements to cover double-coupon expenses, and so on."
    S. Robson Walton, Wal-Mart, Supplier-Partners, and the Buyer Power
    Issue, 72 Antitrust L. J. 509, 519 (2005). Similarly, a Costco
    representative testified that "what we do is say, 'are you paying
    other discounts or what is your menu of discounts,' and if slotting
    is on there, we want to get the same bottom line . . .. Whether they
    call it a slotting allowance or advertising allowance or promotional
    allowance doesn't make a lot of difference." (*FTC Report*, Eagan
    Tr. at 61.)

[^18]: Many marketing studies have concluded that shelf-space
    positioning increases sales of the featured product. See Adam
    Rennhoff, Paying for Shelf Space: An Investigation of Merchandising
    Allowances in the Grocery Industry (July 2004); Xavier Dreze, *et
    al*., Shelf Management and Space Elasticity, 70 J. Retailing 301
    (1994); and Charles Areni, *et al*., Point-of-Purchase Displays,
    Product Organization, and Brand Purchase Likelihoods, 27 J. Academy
    of Marketing Science 248 (1999).

[^19]: An obvious question is whether supplying an effective price
    discount to marginal consumers in this way increases the actual
    market price. Since infra-marginal consumers, who would purchase the
    product without promotional shelf space, are unlikely to receive any
    value from the shelf space, the provision of promotional shelf space
    can be thought of as shifting demand out only for marginal
    consumers, and by increasing the marginal elasticity of demand
    result in a decrease in the manufacturer's profit-maximizing price.
    More generally, promotion can produce some value for infra-marginal
    consumers, leading to an increase or decrease in the market price.
    When the market price increases, the net price, i.e., the market
    price minus the value of the promotional services, will decrease for
    marginal consumers but possibly increase for some infra-marginal
    consumers. See Gary Becker and Kevin M. Murphy, A Simple Theory of
    Advertising as a Good or Bad, 108 Q. J. Econ. 941 (1993).

[^20]: This view of retailer supplied point‑of-sale services as an
    effective promotional price discount should be contrasted with the
    retailer services postulated in the "classic inter-retailer
    free-riding" analysis popularized by Lester Telser, Why Should
    Manufacturers Want Fair Trade? 3 J. Law & Econ. 86 (1960), where
    consumers are implicitly assumed to value the retailer-supplied
    services (e.g., product demonstrations) equal to or greater than the
    costs of supply. In the Telser analysis, however, consumers
    free-ride by obtaining services free of charge from a full-service
    retailer before purchasing the product from a low-service discount
    retailer. This free-riding analysis is incomplete as it stands
    because it does not explain why full-service retailers cannot
    separately charge consumers for the valuable services they provide
    and thereby eliminate the free-riding problem. In fact, this is not
    a feasible solution in most cases because the services provided by
    the full-service retailer are promotional services which the
    free-riding consumers are not willing to pay for. Retailers that are
    not providing such promotional services are violating an implicit
    contract and free-riding on the contractual arrangement (such as
    minimum resale price maintenance) the manufacturer is using to
    compensate retailers for providing promotional services they would
    not otherwise find profitable to supply. See Benjamin Klein & Kevin
    M. Murphy, Vertical Restraints as Contract Enforcement Mechanisms,
    31 J. Law & Econ. 265 (1988).

[^21]: This problem of insufficient retailer supply of promotional
    services was first presented in Klein and Murphy, *id*. In contrast
    to Klein and Murphy, where vertical restraints such as exclusive
    territories or resale price maintenance are used to facilitate
    self-enforcement by manufacturer payment of a profit premium to
    retailers for supplying these desired services (with manufacturers
    monitoring and terminating retailers that do not perform as a way to
    assure that the services are supplied), assuring performance of the
    retailer shelf space contract usually does not require a significant
    retailer profit premium above the opportunity cost of shelf space.
    This is because it is easier for manufacturers to detect retailer
    non-performance with regard to the supply of contracted-for shelf
    space than the more difficult to measure point‑of-sale retailer
    promotional efforts of concern in many of the distribution
    contractual arrangements that employ vertical restraints. In some
    cases, however, retailer performance may be difficult to monitor.
    For example, retailers may be required to provide important
    complementary services in addition to shelf space, such as keeping
    shelves well-stocked with the manufacturer's products and
    well-maintained. In addition, the value of the retailer promotional
    shelf space provided will depend on whether or not a competing brand
    is placed next to the manufacturer's product. In such cases an
    actual or de facto exclusive shelf space arrangement may be used to
    facilitate contracting by defining what the manufacturer is buying.
    See Klein and Murphy, *supra* note Error: Reference source not
    found.

[^22]: The following is based on the model presented in Ralph A. Winter,
    Vertical Control and Price Versus Nonprice Competition, 108 Q. J.
    Econ. 61 (1993), which relies on the primary insight of the Klein
    and Murphy model, *supra* note Error: Reference source not found,
    that there are heterogeneous consumers and that the manufacturer
    wishes to provide a group of marginal consumers with an effective
    price discount in the form of free retailer-supplied promotional
    services. In contrast to the Klein and Murphy retailer premium/
    manufacturer monitoring and self-enforcement framework, however, the
    Winter model analyzes how manufacturers can use vertical restraints
    to change retailer incentives to supply desired services without any
    manufacturer monitoring of performance. Winter makes the fundamental
    distinction between inter-retailer and inter-manufacturer effects
    and recognizes that, in contrast to price competition, retailer
    supply of promotional services to marginal consumers has primarily
    inter-manufacturer effects with little or no inter-retailer effects.
    Winter's solution, where retailers are assumed to have the correct
    incentive to promote, involves the use of a vertical restraint to
    share the total profit margin equally between the retailer and
    manufacturer, thereby equalizing the incentives of the retailer and
    manufacturer to promote. This may occur, for example, with the
    manufacturer granting retailers exclusive territories and setting
    maximum resale price maintenance at the joint profit-maximizing
    retail level while lowering the wholesale price so that there is an
    equal sharing of profit on incremental sales. However, although this
    would equalize the manufacturer and retainer incentives to promote,
    both incentives to promote would be less than the joint
    profit-maximizing incentive.

[^23]: *See* Benjamin Klein, Market Power in Antitrust: Economic
    Analysis After *Kodak*, 3 S. Ct. Econ. Rev. 43 (1993).

[^24]: It is only approximately optimal because the small margin earned
    by the retailer (5 percent in our example) implies that the
    manufacturer's profit from incremental sales is slightly less (only
    95 percent) of the total profit from incremental sales earned both
    by the manufacturer and retailers. That is, there is a small "double
    marginalization" problem and, hence, slightly less than the
    joint-profit maximizing amount of retail price competition.

[^25]: This problem of insufficient retailer provision of promotional
    shelf space does not rest upon a distinction between price and
    non-price competition. Specifically, it is not the case that
    retailers always will supply less than the desired amount of
    non-price competition. Retailer incentives will depend upon the
    magnitude of inter-retailer demand effects from their provision of
    particular non-price services. If a sufficient number of consumers
    on the margin value a retailer provided non-price service, such as
    convenient free parking or the stocking of a particular variety of
    product, so that they will shift between retailers in response to
    its supply, then retailers will provide the desired quantity of
    these services. Although retailers will not consider the extra
    manufacturer profit from incremental sales produced by their supply
    of free parking or the stocking of a particular product (i.e., the
    supply of non-promotional shelf space), inter-retailer competition
    will force retailers to supply these non-price services. In
    contrast, there are limited inter-retailer effects from retailer
    supply of promotional shelf space, so retailers will supply less
    than the jointly profitable amount.

[^26]: A retailer deciding to use promotional shelf space to stock its
    own private label brand, on the other hand, receives essentially all
    the profit on incremental sales because competition between
    alternative (non-brand name) manufacturers of the product for the
    retailer is likely to drive the wholesale price close to marginal
    cost. Therefore, even if there are no inter-retailer effects the
    retailer will make the correct stocking decision with regard to
    private label products, i.e., use promotional shelf space to stock a
    private label product as long as its return exceeds the opportunity
    cost of the shelf space. The retailer is operating as if it were
    vertically integrated into manufacturing.

[^27]: The equilibrium quantity of shelf space supplied does not occur
    where the retailer's marginal cost of providing additional shelf
    space equals the manufacturer value of shelf space because there is
    an optimal size distribution of supermarkets that maximizes consumer
    convenience. Therefore, at some point the manufacturer benefits of
    increased promotional shelf space plus any consumer benefits of
    increased product variety will be outweighed by the increased
    supermarket costs of supplying additional space plus the consumer
    inconvenience of shopping in a larger store.

[^28]: Total supermarket square footage is used as a proxy for total
    supermarket shelf and display space. The growth in total supermarket
    shelf space was accomplished entirely by an increase in the average
    size of supermarkets, which increased 65 percent from 1983 to 2000,
    while the number of supermarkets decreased 10 percent over the same
    period, implying a net growth in total supermarket shelf space of
    49 percent. Total real supermarket sales were relatively constant
    over the 17 year period, increasing only 7.8 percent, primarily
    because of the large increase in food consumption outside of the
    home. (Progressive Grocer, Annual Report of the Grocery Industry
    (1983-2000) and Food Marketing Institute, Food Marketing Industry
    Speaks (1992-2000); 1990 supermarket square footage is based on a
    linear estimate from adjacent yearly data. Supermarket sales are in
    1980 dollars, deflated by the Bureau of Labor Statistics CPI Food at
    Home Index.)

[^29]: Procter & Gamble generally advertises its leading brands much
    more than its competitors. For example, Procter & Gamble's Bounty
    brand of paper towels (with a 27.7 percent market share) has almost
    double the advertising to sales ratio (13.1 percent) compared to
    Scott paper towels (which has a 19.0 percent market share and a
    6.6 percent advertising to sales ratio) and Brawny paper towels
    (which has a 9.1 percent market share and a 6.7 percent advertising
    to sales ratio). Information Resources Inc. and Ad Age, 49^th^
    Annual Report on the 100 Leading National Advertisers, June 28,
    2004. The fact that supermarkets must stock P&G's highly popular
    brands has led some to claim that Procter & Gamble does not pay
    slotting fees. See, e.g., Kelly, *supra* n. Error: Reference source
    not found. However, Procter & Gamble must pay for shelf space for
    its brand extensions and to obtain increased or higher quality shelf
    space, and compensation may occur in these cases at least partially
    with a per unit time slotting fee. Consequently, some researchers
    claim that Procter & Gamble, in fact, does pay slotting fees. See,
    e.g., FTC Workshop, Transcript (Flickinger, Tr. 144-145); and
    Brandon Copple, Shelf Determination, Forbes Magazine, April 15,
    2002.

[^30]: Whether a shelf space contract is written or not, it is almost
    always self-enforced, with the manufacturer ceasing payment to a
    retailer that does not supply the promised shelf space for its
    products. *See* Benjamin Klein and Keith Leffler, The Role of Market
    Forces in Assuring Contractual Performance, 89 J. Pol. Econ. 615
    (1981). Self-enforcement, which avoids the costs of
    court-enforcement (delay, litigation costs and imperfect court
    interpretation of the contractual understanding) is relatively
    inexpensive for slotting contracts because the potential short-term
    gain to a retailer from non-performance is relatively small,
    implying a relatively small required self-enforcing premium. See
    *supra* note Error: Reference source not found.

[^31]: This competitive concern was expressed at the FTC Workshop. See,
    e.g., *FTC Report*, *supra* note Error: Reference source not found
    at 28-29, Tr. 181 (Greg Shaffer) ("if you give the retailer ...
    upfront money, the retailer has no incentive to lower its price to
    sell more. It's got the money . . .. \[t\]here's no marginal
    effect"); Tr. 142 (Robert Steiner) ("if its not competed away, and
    if it were a variable cost in the food business, I think it would be
    competed away"). Also see Greg Shaffer, Slotting Allowances and
    Resale Price Maintenance: A Comparison of Facilitating Practices, 22
    Rand J. Econ. 120 (1991), where in addition to per unit time
    slotting fees directly increasing retailer profit, Shaffer maintains
    that slotting (and the associated higher wholesale price to cover
    the increased costs of the slotting fee) reduces retailer price
    competition because a retailer that does not seek a lower wholesale
    price is essentially announcing its intention to other retailers to
    price less aggressively. This is assumed to lead other retailers to
    raise their prices and for the original retailer to gain through
    feedback effects.

[^32]: Profits as a percentage of sales exhibits a very small,
    statistically insignificant positive trend of less than one basis
    point per year after 1981, while profits as a percentage of assets
    exhibits a statistically insignificant negative trend of less than a
    tenth of a basis point per year after 1981. Profits as a percentage
    of sales are from Food Marketing Institute, Annual Financial Review;
    profits as a percentage of assets from U.S. Department of Commerce,
    in USDA publication AER780, *Food Cost Review 1950-1997* (1980-1997)
    and *Quarterly Financial Report for Manufacturing, Mining, and Trade
    Corporations* (1998-2003). The *Quarterly Financial Report* series
    (which covers a somewhat broader sample of supermarkets) is
    calculated as an average of quarterly data, and is spliced to the
    *Food Cost Review* series by adding 0.62 percent (the average
    difference in the two series in the 1994‑97 period) to the
    *Quarterly Financial Report* series for 1998-2003. The difference in
    these two series is relatively stable during 1994‑97, with the
    standard deviation in the year to year difference in the two series
    only .08 percent.

[^33]: Joshua Wright, Vons Grocery and the Concentration-Price
    Relationship in Grocery Retail, 48 UCLA L. Rev. 743 (2001)
    demonstrates that competition in the grocery retail market has
    remained vigorous despite substantial increases in concentration
    over the past two decades.

[^34]: The contrary view that slotting fees lead to higher prices was
    used in an attempt to justify the proposed merger of the number two
    and number three baby food manufacturers, Beech-Nut and Heinz.
    Gerber, the most advertised baby food brand with the greatest sales,
    was almost universally stocked by supermarkets without the payment
    of slotting fees. In contrast, Beech-Nut and Heinz competed for
    retail shelf space to be the supermarket's second stocked brand by
    paying slotting fees. It was incorrectly claimed by the merging
    parties that if Beech-Nut and Heinz no longer had to compete for
    retailer shelf space after the merger, the savings in slotting fees
    would be an economic efficiency and result in lower consumer prices.
    The district court implicitly accepted this faulty reasoning in
    denying the FTC's challenge of the merger, contending that the FTC
    did not prove that competition for distribution was an important
    part of the competitive process that affected baby food prices. The
    court found persuasive the testimony from Heinz's economic expert
    showing that retailer receipt of slotting fees did not affect retail
    prices of baby food. FTC v. H.J. Heinz Co., 116 F. Supp.2d 190, 197
    (D.D.C. 2000). The D.C. Circuit rejected the district court's view,
    but not by adopting our economic analysis whereby the elimination of
    baby food slotting fees would likely increase overall supermarket
    prices. Instead, the D.C. Circuit concluded that the district court
    held the FTC to a higher standard than required under Section 7 and
    that the reduction in competition for baby food distribution and the
    resulting reduction in slotting fees would increase baby food
    prices. FTC v. H.J. Heinz Co., 246 F.3d 708, 719 (D.C. Cir. 2001).

[^35]: Peter Bronsteen, et al., Price Competition and Slotting
    Allowances, 50(2) Antitrust Bulletin 267 (2005), show that after
    Philip Morris instituted its promotional shelf space program, where
    it offered retailers lower wholesale prices in return for shelf
    space and signage at the retailer check-out counter (a program that
    was unsuccessfully challenged on antitrust grounds by Philip Morris'
    competitors, *supra* note Error: Reference source not found), the
    retail prices of its cigarette brands fell relative to the price of
    competitor brands. In addition to buying shelf space with its
    wholesale price discounts, Philip Morris' profit-maximizing price
    may have decreased because it was focusing on increasing sales to
    more elastic consumers who could be influenced to switch cigarette
    brands in response to this promotion.

[^36]: In general, inter-retailer price elasticity will be related to
    the weighted average price of all products sold by the supermarket,
    but there are likely to be some particular products with much higher
    price elasticities than other products. For example, products that
    are purchased more frequently (and are easier for consumers to
    compare prices across stores) or products that have highly
    publicized prices (e.g., local newspapers often publish prices at
    different supermarkets of a representative "basket" of goods) are
    likely to have greater inter-retailer price elasticities.
    Supermarkets may not be able to let prices on these goods deviate by
    more than a small percentage from their competitors' prices before
    many consumers switch stores. See Roger A. Dahlgran, *et al.*,
    Robustness of an Intermittent Program of Comparative Retail Food
    Price Information, 25 J. Consumer Affairs 84 (1991).

[^37]: The required wholesale price decrease will be somewhat less than
    one dollar because, absent inter-retailer competition in the sale of
    the manufacturer's product, each retailer would reduce its retail
    price and increase its profit above \$100 per unit time in response
    to a one dollar wholesale price decrease. With no inter-retailer
    price competition, each retailer is facing 1/nth of the market
    demand for the manufacturer's product and experiences a profitable
    quantity increase in response to its price decrease. Therefore, the
    manufacturer need not lower wholesale price by the full dollar.

[^38]: The cost to the manufacturer of the "extra" wholesale price
    decrease when there is inter-retailer competition is offset to some
    extent because the lower wholesale and retail prices increase the
    sales of the manufacturer's product. However, there is a net cost to
    the manufacturer of the "extra" wholesale price reduction because it
    involves the manufacturer setting the wholesale price below the
    profit-maximizing level. The initial somewhat less than one dollar
    wholesale price decrease is not a net cost to the manufacturer
    because \$100 per unit time must be transferred to the retailer as
    payment for promotional shelf space.

[^39]: See Chris White, Lisa Troy and Nicholas Gerlich, The Role of
    Slotting Fees and Introductory Allowances in Retail Buyers'
    New-Product Acceptance Decisions, 28 J. Acad. Marketing Science 291,
    299 (2000).

[^40]: For example, Hartz Mountain used resale price maintenance in
    combination with wholesale price discounts and other promotional
    payments in distributing its pet products through supermarkets. In
    re: The Hartz Mountain Corp., 95 F.T.C. 280 (1980)(consent order ).
    Alternatively, a manufacturer may use rebates on sales of another
    product to measure the value of a retailer's promotional shelf
    space. For example, in Europe Coca-Cola used a rebate on a
    supermarket's sales of Coke contingent on the retailer supplying a
    particular amount of additional shelf space for its other, less
    well-known slower-selling soft drink products, the sales of which
    would be more responsive to shelf space. Coca-Cola's Undertaking
    with the European Commission, *supra* note Error: Reference source
    not found, constrained the ability of Coca-Cola to offer rebates on
    its Coke products as a way to purchase shelf space for its other
    products.

[^41]: For example, end‑of-aisle displays in the salty snack food
    category are likely to rotate weekly. See the description of
    Frito-Lay's marketing practices in Department of Justice Memorandum
    (May 16, 1996), available at
    <http://www.usdoj.gov/atr/foia/frito-lay/5-19-96.htm>. Frequent
    rotation of products displayed on end-caps often makes economic
    sense because this is more likely to increase consumer notice and
    thereby the value of the retailer's end cap shelf space.

[^42]: Manufacturers may buy retailer promotional shelf space at the
    same time that they are running a temporary price promotion. The two
    tactics are often complements because the manufacturer may be using
    the price promotion to get new customers to try its product and,
    therefore, wants to attract attention from customers that are not
    otherwise planning to purchase the product. In such cases, rather
    than manufacturer concern that inter-retailer competition may
    eliminate a significant fraction of retailer profit and require a
    further wholesale price discount to generate the retailer shelf
    space rent, the manufacturer may be more concerned that the special
    sale price will not be passed on to the consumer. Many end cap
    promotional arrangements, therefore, contractually require the
    retailer to pass on a particular percentage of the wholesale price
    discount in a lower retail price and require a particular retailer
    volume commitment and cooperative advertising of the special price.
    These practices are discussed in a Department of Justice interview
    with a supermarket purchasing agent. See http://www.
    usdoj.gov/atr/foia/frito-lay/5-19-96.pdf at 6, 7. See also Winer,
    *supra* note Error: Reference source not found, at 363.

[^43]: The fact that slotting contracts are used by small retailers
    without any bargaining power over manufacturers and that the largest
    retailer, Wal-Mart, generally does not accept slotting fees is
    fundamentally inconsistent with the view that slotting contracts are
    a consequence of the anticompetitive strategic exercise of market
    power by retailers. Specifically, it is inconsistent with the models
    presented in two recent papers by Leslie M. Marx and Greg Shaffer,
    Upfront Payments and Exclusion in Downstream Markets, unpublished
    paper, August 2005 and by Patrick Rey, Jeanine Thal, and Thibaud
    Vergé, Slotting Allowances and Conditional Payments, unpublished
    paper, July 2006. In Marx and Shaffer retailers with bargaining
    power are assumed to use slotting fees to increase their profits by
    excluding other retailers from distributing a manufacturer's
    product. \[In Rey, et al. slotting avoids inefficient collusion by
    permitting manufacturers and retailers to coordinate.\] These models
    reverse the usual exclusivity arrangement, where a retailer agrees
    to carry only one manufacturer's product in a particular category
    and, instead, unrealistically assume that the retailer with
    bargaining power forces the manufacturer to choose the retailer as
    the sole distributor of its product in return for a lump sum payment
    to the manufacturer, a part of which the manufacturer returns to the
    exclusive retailer in the form of a slotting fee.

[^44]: New Product News (Various years, as reprinted in U.S. Food
    Marketing System, 2002 (AER-811)). Sullivan, supra note Error:
    Reference source not found at 475‑76, claims that this increase in
    new supermarket products was the result of a decrease in new product
    development costs caused by the adoption of scanning technology by
    large supermarket chains in 1981, which led to the collection and
    sale of scanner data by marketing research firms. However, it is
    doubtful that new product growth can be explained by this
    technological change. The marketing to narrower consumer segments
    has been a long-term general phenomenon in many segments of the
    economy, including industries (such as automobiles) that have
    nothing to do with scanner technology. See, e.g., Kotler, *supra*
    note Error: Reference source not found at 284-85; Federal Reserve
    Bank of Dallas, The Right Stuff: America's Move to Mass
    Customization (1998 Annual Report) (documenting examples of "mass
    customization" across the economy); Malcolm Gladwell, The Ketchup
    Conundrum, The New Yorker Magazine (September 6, 2004) (documenting
    ketchup as an exception to the general trend towards brand
    extensions and narrower consumer segmentation in grocery products).

[^45]: See, e.g., Laurie Freeman, Paying for Retail Shelf Space,
    Advertising Age (February 13, 1986), at 31.

[^46]: See "Backgrounder on Slotting Allowances" available at:
    www.fmi.org/media/bg/ slottingallowances.html.

[^47]: One large retailer surveyed in the *FTC Study* stated that the
    costs associated with stocking a new product consisted of:
    (a) \$1,000 in labor costs to place the new product on the shelves
    in all of the retailer's stores, (b) \$1,200 to place the new
    product in inventory, and (c) \$600 to place the new item in the
    retailer's computer system. *FTC Study*, *supra* note Error:
    Reference source not found at 10. These costs appear to be one-time
    costs, not per unit time costs, and to be significantly smaller than
    the average slotting fees paid to retailers. For example, the range
    in the average slotting fee per regional grocery chain reported by
    the *FTC Study* for an initial six month period was \$6,819 to
    \$10,625, a sum significantly greater than the estimated one-time
    transaction costs associated with stocking a new product.

[^48]: Such screening models are common in the economics literature on
    slotting. See, e.g., Wujin Chu, Demand Signaling and Screening in
    Channels of Distribution, 11 Marketing Sci. 324 (1997); Preyas S.
    Desai, Multiple Messages to Retain Retailers: Signaling New Product
    Demand, 19 Marketing Sci. 381 (2000); Martin A. Lariviere, V.
    Padmanabhan, Slotting Allowances and New Product Introductions, 16
    Marketing Sci. 112 (1997); *FTC Study*, *supra* note Error:
    Reference source not found at 1-2. Sudhir and Rao, Are Slotting
    Allowances Efficiency-Enhancing or Anti-Competitive?" (working
    paper, available at http://www.mba.yale.edu/faculty/
    pdf/slottingallowances.pdf), test signaling and other models of
    slotting using survey data on new product offers from a single
    retail chain in 1986-87. The authors conclude that slotting shifts
    new product risk from retailers to manufacturers, and also mitigates
    retail competition, as described by Shaffer, *supra* note Error:
    Reference source not found. However, as discussed above, at *supra*
    note Error: Reference source not found, the growth in slotting has
    not been correlated with an increase in retailer profitability.

[^49]: Screening models also generally do not take account of the
    possibility that manufacturers could make some alternative
    contingent arrangement, such as introductory price allowances based
    on sales and liberal refunds for product returns, to insure
    retailers against new product failure.

[^50]: SKUs per supermarket increased from 9,400 SKUs per store in 1980
    to 35,000 SKUs per store in 2003. Progressive Grocer, Annual Report
    of the Grocery Industry (1980-2003). This fact is inconsistent with
    the claim that slotting arrangements have reduced product variety.
    (FTC Study, *supra* note Error: Reference source not found at 3‑4,
    citing Greg Shaffer, Slotting Allowances and Optimal Product
    Variety, 5(1) Advances in Economic Analysis & Policy: Article 3
    (2005).) Although slotting sometimes reduces consumer choice when it
    is exclusive, slotting more generally increases the return to
    retailers of providing shelf space, creating an incentive for
    retailers to build larger stores and stock more products.

[^51]: *Supra* note Error: Reference source not found and Figure 1.

[^52]: *Supra* note Error: Reference source not found.

[^53]: While this is largely true, to some extent the growth in number
    of SKUs per supermarket has involved an increased number of product
    lines and not solely brand extensions. Supermarkets have not
    allocated their increase in shelf space entirely to traditional
    grocery products, and, for example, now carry an increased number of
    drug store items. Supermarket pharmacy department sales, including
    non-prescription sales, increased from 1.94% to 5.15% of total
    supermarket sales from 1992 to 2000. See Report of the IMS Health
    and National Association of Chain Drug Stores Economics Department,
    available at http://www.nacds.org/ user-assets/PDFfiles/Pharmacy
    Sales2003.pdf; Progressive Grocer, Annual Report of the Grocery
    Industry (1993-2001) (total supermarket sales data). This likely has
    resulted in some overall reduction in consumer shopping time.

[^54]: See, e.g., Jerry Hausman, Valuation of New Goods under Perfect
    and Imperfect Competition in THE ECONOMICS OF NEW GOODS 209-67
    (Bresnahan and Gordon, eds., 1997).

[^55]: This does not mean that the supply of promotional shelf space
    implies social inefficiency. See Gary Becker and Kevin M. Murphy,
    supra note Error: Reference source not found. In any event, the
    resulting equilibrium, where marginal consumers receive an effective
    price discount in the form of manufacturer paid-for promotional
    shelf space, is a consequence of the competitive process.

[^56]: Because there are decreasing returns to scale in terms of the
    size of supermarkets that optimizes both product variety and
    consumer convenience, an increased manufacturer demand for
    promotional shelf space will lead to an increased value of
    supermarket promotional shelf space. The fact that supermarkets are
    earning rents on their economically limited promotional shelf space,
    however, does not mean that they are earning rents overall. The
    evidence indicates that inter-retailer competition on overall prices
    and services has eliminated any supermarket rents. See *supra*
    Figure 2 and related discussion.

[^57]: Rather than focusing on the relative efficiency of a per unit
    time payment as the value of promotional shelf space increases,
    Sullivan's alternative, unconvincing answer for why per unit time
    slotting fees did not occur before the early 1980s is that retailers
    feared antitrust litigation, a fear which she claims was finally
    outweighed by the retailer benefits of accepting slotting fees as
    the value of shelf space increased (*supra* note Error: Reference
    source not found at 480-83). This does not tell us why the benefits
    of compensating retailers for shelf space with slotting fees
    increased compared to compensation with wholesale price discounts.

[^58]: As discussed above, although a manufacturer may be able to use a
    lower wholesale price to purchase shelf space for an entirely new
    product because all sales are to marginal consumers, over time
    demanders of the product will become a mix of marginal and
    infra-marginal consumers and the manufacturer must move to a per
    unit time slotting fee.

[^59]: Value added is revenue minus cost of goods purchased. If the
    extent of vertical integration does not change over time and
    processing technology also does not change, this would be expected
    to be highly correlated with manufacturer margin.

[^60]: Value-added as a fraction of sales is from U.S. Census Bureau:
    1977, 1992 Census of Manufactures; 2002 Economic Census; (1993-1996
    and 2002-2003 from Annual Survey of Manufactures). The 1965-1996
    series is calculated using SIC 20 (Food and kindred products
    including beverages); the 1997-2003 series is calculated using NAICS
    311 (Food manufacturing) and NAICS 3121 (Beverage manufacturing).

[^61]: For instance, supermarket sales of branded produce and prepared
    fresh-cut salads increased from 8% of total produce sales in 1987 to
    34% in 1997. Phil Kaufman, *et al*., Understanding the Dynamics of
    Produce Markets, United States Department of Agriculture Economic
    Research Service No. 758 (August 2000).

[^62]: Sullivan, in fact, defines slotting solely in terms of new
    products. See *supra* note Error: Reference source not found at 461.

[^63]: *FTC Report*, *supra* note Error: Reference source not found at
    11, n. 17.

[^64]: *FTC Report*, *supra* note Error: Reference source not found at
    20; FTC v. H.J. Heinz Co., 116 F. Supp. 2d 190 (D.C.C. 2000),
    *rev'd*, 246 F.3d 708 (D.C. Cir. 2001); FTC v. McCormick, FTC Dkt.
    No. C-3939 (2000). Sudhir and Rao, *supra* note Error: Reference
    source not found, analyze new product introductions for a single
    retail chain and find the incidence of slotting payments across
    product categories broadly consistent with the FTC evidence. In
    particular, the retailer received slotting allowances on 14 percent
    of all products, with baby foods (43%), fruits, vegetables, juice
    and drinks (24%), household supplies (20%), frozen foods (17%) and
    beverages (16%) the product categories with greatest slotting
    frequency.

[^65]: See Ellen Feighery, et. al, Retail Trade Incentives: How Tobacco
    Industry Practices Compare with Those of Other Industries, 89 Am. J.
    Pub. Health 1564 (1999).

[^66]: The test statistic is the sum of the ranks for the non-slotting
    group, equal to 21, which is less the critical value of 48, so that
    the null hypothesis can be rejected at the .01 level. If we apply a
    parametric t‑test, the simple t‑statistic is 5.81 and using weighted
    averages it is 16.9; in both cases the p‑value is less than .01.

[^67]: This result is consistent with the recent finding that
    manufacturer margins are significantly positively related to all
    types of retailer promotional payments. Adam Rennhoff, Promotional
    Payments and Firm Characteristics: A Cross-Industry Study (2004),
    *available* at http://www.pages. drexel.edu/\~adr24/
    accounting3-18.pdf.

[^68]: The court concluded that although some rival tortilla
    manufacturers lost shelf space they enjoyed prior to Gruma's shelf
    space contracts, this was because they "refused to actively compete
    for shelf space"; consequently, the plaintiffs suffered "a
    self-inflicted wound." El Aquila Food Products v. Gruma, 301 F.Supp.
    2d at 630, 632. Similarly, in R.J. Reynolds Tobacco Co. v. Philip
    Morris, Inc., 199 F.Supp. 2d at 382 the court described Philip
    Morris' promotional payments to retailers as "competition at the
    pre-contract stage." More generally, Judge Easterbrook clearly
    recognized the importance of competition for distribution in Paddock
    Publications, Inc. v. Chicago Tribune Co., 103 F.3d 42, 44 (7^th^
    Cir. 1996), noting that "Competition-for-the-contract is a form of
    competition that antitrust laws protect rather than proscribe, and
    it is common."