Ethics Codes Done Right: How to Avoid Antitrust Risk

balancing scale with rocks August 1, 2016 By: Jeffrey S. Tenenbaum, Robert P. Davis, Andrew E. Bigart, and Peter S. Frechette

Associations may have the right intentions when they adopt a code of ethics, but such codes are fraught with legal risk. Here are steps associations should take to minimize risk before and after adopting an ethics code.

Codes of ethics can serve an important role in establishing best practices and setting standards in a profession or trade. For instance, such codes can advance safety for consumers by prohibiting harmful practices and improve the quality of products via certification requirements. Taken too far, however, codes of ethics can run afoul of antitrust laws, by, for example, regulating price competition or restricting competition within certain regions.

All types of association ethics codes can raise competitive concerns. For example, the Federal Trade Commission (FTC) recently entered into consent orders with a number of associations over several different types of conduct that could limit members’ ability to compete through price reductions, output increases, truthful competitive advertising, and recruitment of rivals’ employees.

Any association considering adopting a code of ethics should first determine why it believes it needs a code—for example, how does a code help members serve their customers or improve the image of the industry?—and then ensure that any code is designed to minimize potential legal risk. This is particularly important in light of the FTC’s attention, over the last few years, on the ethics codes of even very small associations.

Associations can minimize antitrust risk by reviewing the regulators’ actions and following several best practices.

The costs and burdens of defending an antitrust investigation far outweigh the costs of limiting the risk in the first place.

The Cases

The Sherman Act and the FTC Act prohibit agreements among competitors that unreasonably restrain trade. Codes of ethics, like most association activities, are generally analyzed under the rule of reason, which examines the procompetitive and anticompetitive effects of any alleged restraint of trade (for example, an advertising restraint in an ethics code) to establish the impact of the restraint on consumers.

Although the FTC and the U.S. Department of Justice (the primary federal antitrust enforcement agencies) recognize that association ethics codes can serve many legitimate purposes, the agencies will scrutinize codes that directly or indirectly prevent members from competing against each other.

For example, in the FTC’s 2015 investigation of the National Association of Animal Breeders, an association of 26 companies involved in the artificial insemination of livestock, the NAAB code of ethics prevented its members from naming members or other competitors when making statements comparing products and services, and it prohibited disclosing price information relating to the purchase or sale of animals. The commission’s complaint alleged that the NAAB code restricted competition in the market for artificial insemination of dairy cattle by, for example, barring disclosure of the purchase prices of bulls and sires in advertising, printed statements, and publicity material.

Earlier in 2015, the FTC announced consent orders against the Professional Lighting and Sign Management Companies of America [PDF] and the Professional Skaters Association [PDF], finding that their bylaws restricted solicitation of a competing member’s customers. In the case of PLASMA, which represents about 25 member firms that specialize in commercial lighting and electrical sign installation and maintenance, the bylaws also restricted price competition. According to the FTC, the PLASMA bylaws

  • prohibited members from providing services in the designated territory of another member, unless the other member first declined to perform the work.
  • included a price schedule for any work performed in the designated territory of another member.
  • barred former members, for one year after ending their membership, from soliciting or competing for the customers or prospective customers of another member.

In 2014, the FTC entered into consent orders with the Music Teachers National Association and the California Association of Legal Support Professionals. In the MTNA case, the FTC alleged that the association and several of its affiliates implemented ethics codes that prohibited members from charging fees that were lower than the average in the community, offering free lessons or scholarships, or advertising free scholarships or tuition. Similarly, the FTC alleged that CALSPro had adopted a code that prohibited its members from “offering discounted rates to rivals’ clients, engaging in certain comparative advertising, and recruiting employees of competitors without first notifying the competitor.”

The consent order with MTNA highlights a risk unique to umbrella associations: the risk that they can be held responsible for the activities of their local chapters and affiliates. Although the FTC was clearly concerned with MTNA’s ethics code, the agency focused on the fact that many of its local affiliates had adopted codes of their own that were even more restrictive, including prohibiting members from competing for each other’s customers, imposing sanctions for violating that prohibition, and restricting price competition by disallowing free or discounted services.

As part of the consent order, the FTC required MTNA to obtain certifications from each of its roughly 500 affiliates confirming that they would no longer prohibit such conduct by their members. MTNA was required to disaffiliate any organization that failed to provide the certification.

Private lawsuits can also arise from association ethics codes. For example, in American Institute of Intradermal Cosmetics, Inc. v. Society of Permanent Cosmetic Professionals, AIIC’s antitrust allegations survived a motion to dismiss, with the court noting that “the guidelines, standards, and code of ethics promulgated by SPCP, which ostensibly help maintain high quality and safety standards for the industry, have the real purpose of stifling competition and protecting itself and its approved suppliers and trainers from other competitors.”

Antitrust Policy and Best Practices

The costs and burdens of defending an antitrust investigation far outweigh the costs of limiting the risk in the first place. For example, MTNA posted a statement (since removed) on its website explaining that litigating its case with the FTC could have meant “spending hundreds of thousands of membership-dues dollars fighting the federal government.”

When implementing a code of ethics or similar program, an association should take steps to limit potential risk. Adopting an antitrust compliance program should be at the top of the list. Many of the FTC consent orders required the associations to adopt such a program, in which all aspects of their activities would be vetted for potential antitrust risk by in-house or outside counsel.

A formal antitrust policy should include, at a minimum, the following provisions:

  • an overview of the antitrust laws and explanation of prohibited types of conduct
  • an affirmation of the association’s commitment to compliance with federal and state antitrust laws
  • a requirement that the policy will be distributed to the association’s officers, directors, employees, and representatives and that employees will receive training
  • a requirement an agenda be circulated in advance of association meetings and that minutes of all meetings properly reflect the actions taken
  • a requirement that any committee or staff recommendations or decisions that potentially affect the market are reviewed in advance by in-house or outside counsel

In addition to implementing an antitrust compliance program, associations should keep the following best practices in mind:

  • An ethics code should never be created or used to exclude competitors from the market or limit the supply of products or services.
  • There should be a valid, objective reason—which, in general for associations, should be tied to the benefits the associations provide to the industry, including its customers—for each code provision. The association should document the development and reasonableness of the proposed provisions. Code provisions should be no more stringent than necessary to ensure that minimum acceptable levels of conduct are met.
  • The code should be reviewed and updated periodically to ensure that it is current. In addition, associations should document all complaints or concerns about the code and resolve them as appropriate.
  • An ethics code should be clear and unambiguous, reasonable, fair, and objective. The enforcement process must be objectively and uniformly administered, without subjectivity, favoritism, or discrimination. Due process should be built into the program, and those administering the program must scrupulously, consistently, and objectively follow the rules of the process.
  • Associations should maintain strict confidentiality with respect to all adverse allegations, complaints, actions, and proceedings that arise in connection with the enforcement process.

Other Legal Risks

Although the FTC consent orders discussed above were based on antitrust concerns, ethics codes and other restrictions on members can also raise other legal issues.

Due process. Common-law due process requires associations to notify members or prospective members of potentially adverse decisions, to provide an opportunity for those members to defend themselves, and to offer a way to appeal an adverse decision.

Defamation. This is a risk when an association uses its ethics code to accuse members of dishonesty or other moral, professional, or business deficiency. Defamation claims may arise whenever an association expels a member or when potentially damaging information about a member or applicant is disclosed during an ethics code enforcement process.

Tax-exempt status. If a tax-exempt 501(c)(6) association uses its code of ethics primarily as a tool to resolve business disputes among members, the association could run afoul of federal tax law prohibitions on providing substantial “particular services” to members. An association would be in danger of losing its tax-exempt status only if the IRS were to determine that this activity constitutes more than half of all the association’s activities. Even if this test is not met, the IRS still might seek to tax (as unrelated business income) fees the association receives for providing this service.

Any association that has a code of ethics or is looking to implement one should take steps in advance to ensure that the code serves a legitimate purpose and does not expose the association to potential antitrust or other legal risk. Spending time focusing on these issues upfront can save a lot of expense and headache in the long run. The cost of defending a government investigation or private lawsuit, regardless of merit, will undoubtedly far exceed the cost of vetting the proposed ethics code for potential legal risk.

Note: This article is not intended to provide legal advice or opinion and should not be relied on as such. Legal advice can only be provided in response to a specific factual situation.

Jeffrey S. Tenenbaum

Jeffrey S. Tenenbaum is managing partner at the Tenenbaum Law Group PLLC in Washington, DC.

Robert P. Davis

Robert P. Davis is counsel at the Venable LLP law firm in Washington, DC.

Andrew E. Bigart

Andrew E. Bigart is counsel at the Venable LLP law firm in Washington, DC.

Peter S. Frechette

Peter S. Frechette is an associate at the Venable LLP law firm in Washington, DC.