What made A&P “a gigantic blood sucker,” in the government’s view, was vertical integration. The idea that a company could be engaged in a variety of different activities related to its business—in A&P’s case, manufacturing, warehousing, produce brokering, retailing, and even publishing a women’s magazine—deeply disturbed many critics of big business. Vertical integration was hardly a new concept; decades earlier, the Ford Motor Company had raised soybeans that it made into a plastic which it used to manufacture horns for its automobiles. Over time, vertical integration had waxed or waned in particular industries as economic factors dictated; in many instances, it was not the cheapest way to do business. But A&P, prosecutors argued, gained an unfair competitive advantage by doing so many things in-house. It could organize orders from its store to run its bakeries and canneries full blast, generating greater profits than manufacturers whose flow of business was less regular. It could use its manufacturing capabilities and its clout as the nation’s largest buyer of groceries to pressure suppliers to give it lower prices than any other buyer received. It could, and did, refuse to order merchandise from manufacturers that insisted on selling through brokers, or that declined to grant it advertising allowances, or that wanted higher prices than A&P felt were warranted. It could accept low profits from running stores because the stores enabled other parts of the company to be very profitable.20
The trial testimony included many examples of A&P’s use of vertical integration to cut costs. One involved Ralston Purina, which had invested $1 million in a factory mainly to manufacture private-label breakfast cereal for A&P. In the summer of 1939, A&P declared it would start manufacturing cereal itself unless Ralston lowered prices. This was not an idle threat; A&P had studied the matter carefully, determining that Ralston’s prices were so inflated that if A&P invested $175,000 to expand an existing plant to make the cereals, its investment could earn an annual return of 73 percent. After much bargaining, Ralston agreed to grant A&P various rebates and allowances on corn, bran, and wheat flakes. Although the government prosecutors focused on these “rebates” and “allowances” as nefarious departures from some official list price, in an economic sense they were nothing more than price concessions; the only thing that really mattered was A&P’s ultimate cost per box of cereal. In the event, A&P had leverage because Ralston, apparently unwisely, had expanded its plant without a firm commitment from the largest buyer of its cereals. If it had not struck a deal with A&P, its factory might have stood empty.21
The government attached great significance to the fact that many of A&P’s stores lost money, although one reason for those apparent store-level losses was that manufacturers paid the various price concessions directly to A&P’s headquarters, rather than deducting them from the factory price of each bottle of fruit juice and each can of sardines shipped to A&P’s warehouses. Integration, in short, allowed A&P to cross subsidize, using profits from some parts of its vast operation to support other parts, which simple wholesalers or retailers could not do. The complaint of the Dallas grocer L. S. Culwell that many of A&P’s retail prices were below the prices he paid at wholesale was held up by the government as an example of the unfairness arising from A&P’s system. As Horace L. Flurry, another of the special prosecutors, told the court, “A&P’s programs of expansion were predicated upon its price advantage over competition, resulting from the use of the integrated power.”22
The Atlantic Commission Company, A&P’s produce-brokering subsidiary, was a particular sore point for the prosecutors. It was wrong, prosecutors contended, for Atlantic Commission to function as a broker, selling produce to retailers that competed with A&P, at the same time it served A&P. This supposed conflict of interest was said to damp competition among wholesale buyers of produce while forcing other grocers to pay higher prices. The trial, though, provided scanty evidence on both points. Sales to other retailers were between a quarter and a third of Atlantic Commission’s overall trade, and as a business strategy they made great sense: Atlantic Commission could obtain the best possible prices by purchasing very large quantities, knowing it could dispose of unneeded produce by selling to other retailers, and it could balance its own supply and demand in individual localities by selling surplus fruits and vegetables rather than throwing them out. Lindley found that Atlantic Commission’s “multiple, irreconcilable functions” inevitably served to restrain competition; in particular, he objected to Atlantic Commission’s practice of selling to A&P’s stores at prices reflecting a cash discount from produce shippers while selling to outside customers at higher prices. Yet the fact that other retailers chose to purchase from Atlantic Commission suggests that its prices were competitive with those of other produce brokers. In any event, Atlantic Commission’s sales to buyers other than A&P came to a mere 3 percent of U.S. growers’ total produce sales. How it could have restrained price competition in produce brokerage, a field with thousands of competitors, was not analyzed rigorously at the Danville trial.23
The government freely admitted that A&P’s strategy enabled its customers to buy food cheaply. However, Baldridge argued, “The consumers who buy food in stores competing with A&P pay part of the low cost of A&P’s operations.” This assertion implies that manufacturers met their profit targets by raising prices to other stores to compensate for their price breaks to A&P. But why would manufacturers have charged other retailers less if only A&P had paid more? Any sensible, profit-maximizing manufacturer would have tried to charge each retailer as much as it could get, regardless of the price paid by A&P—and no retailer would have needed to pay an above-market price for readily available commodities such as cereal or tomato sauce. The behavior posited by the government’s lawyers would have been odd.24
Eventually, Baldridge predicted, its low prices would force retail competitors out of business, giving A&P a monopoly, which “will place them in position to sell at whatever price they choose.” This is the standard concern about the practice known as predatory pricing, the setting of prices at unprofitably low levels in the short term in order to drive out competitors and establish very high prices in the long term. But the government did not contend at trial that A&P engaged in predatory pricing, and it would have had a difficult time showing that it had done so. The company was far from unprofitable even in the depths of the Great Depression, when many companies were bleeding red ink. Between 1931 and 1941, the last year before the government’s original antitrust complaint was filed in Texas, its average pretax rate of return on investment was 14.4 percent; there was only one year, 1937, in which it fell below 11 percent. A&P clearly was not setting prices at levels that caused it to lose money. And even if A&P had somehow been able to use predatory behavior to create local food monopolies, those monopolies would have been impossible to sustain. “The business of food distribution is just about the last business I can think of in which it would be feasible for anybody to develop a monopoly,” the Harvard Business School professor Malcolm McNair, the only academic expert to testify, told the court. Even if a retailer were to lower prices so far as to drive all competitors out of business, “nobody is going to award any kind of public franchise”; as soon as the company tries to exploit its monopoly by raising prices, McNair said, other competitors would enter the market.25
Lindley found almost all of the defendants guilty as charged. He acknowledged that John Hartford’s strategy of trying to lower gross profits, or markups, saved money for shoppers, but he thought A&P’s ability to shift profits within the organization created unfair competition for other retailers. He disapproved of A&P’s aggressive bargaining with suppliers, finding it to be an unjustified source of competitive advantage. The fact that consumers benefited, he ruled, was not relevant to the question of whether A&P was violating antitrust law. On the contrary: “Combination that leads directly to lower prices to the consumer may, even as against the consumer, be restraint of trade.” The defendants were fined $10,000 each, and A&P was required to pay the prosecution’s costs.26
The
convictions did no damage to A&P’s business. The Hartfords continued to run their company as they always had, certain that Lindley’s ruling would be overturned. But on February 24, 1949, the circuit court of appeals ruled against them. After reviewing Lindley’s findings regarding A&P’s business methods, the three-judge panel agreed fully with his conclusions. Wrote the judges: “The inevitable consequence of this whole business pattern is to create a chain reaction of ever-increasing selling volume and ever-increasing requirements and hence purchasing power for A&P, and for its competitors hardships not produced by competitive forces, and, conceivably, ultimate extinction.”27
* * *
The case against A&P was one of three antitrust complaints filed against big food chains in 1942 and 1943. The others, against Kroger and Safeway, were quite different; both firms had undertaken many mergers that reduced competition, and the government turned up evidence that they had made arrangements to avoid competing with each other in places like Omaha and Oklahoma City. Neither case went to trial. Both Kroger and Safeway eventually pleaded no contest to the criminal charges and paid small fines.28
U.S. v. New York Great Atlantic & Pacific Tea Co. provided fodder for decades of academic debate. Morris Adelman, later a preeminent energy economist, was a Harvard University graduate student in the late 1940s, and turned his dissertation into a closely reasoned attack on the lack of economic logic undergirding the government’s case. Among the government’s supporters was another young economist, Alfred E. Kahn, who would become famous as a proponent of economic deregulation during the 1970s; in 1952, however, he and another economist, Joel Dirlam, argued that A&P’s attempts to force suppliers to discriminate in its favor justified the guilty verdicts. Carl H. Fulda, later a renowned scholar of international law, offered a defense of Lindley even as he agreed that consumers had suffered no harm. The Justice Department’s files bulge with hundreds of requests for information from students writing senior papers, master’s theses, and dissertations, an indication of the intensity with which A&P’s business practices and its conviction were debated around the country.29
By the time the court of appeals rendered its verdict upholding Judge Lindley in 1949, Thurman Arnold was long gone from the scene. The Roosevelt administration lost enthusiasm for antitrust prosecutions, especially at a time when it was encouraging businesses to work together to help win the war. After winning huge spending increases for the antitrust division during his first four years, Arnold saw his division’s budget slashed by nearly one-fourth in 1943, and many of his investigations were blocked in the name of national security. He took the hint that his services were no longer desired, accepting a nominal promotion to become a judge on the U.S. court of appeals in Washington. The job, the pinnacle of many a lawyer’s career, evidently bored him. After only two years, he resigned to enter private law practice. Arnold, known for his irreverent wit, is said to have explained, “I would rather be speaking to damn fools than listening to damn fools.” His firm would soon become known for defending, without charge, people accused of disloyalty in the second term of Roosevelt’s successor, Harry Truman. It would eventually become one of the most influential corporate law firms in Washington.30
Truman had his own views when it came to antitrust policy, and they were far more consistent than Roosevelt’s. A former merchant himself, he was suspicious of big business, cartels, and price-fixing. In his State of the Union message to Congress in January 1947, he emphasized antitrust enforcement as a key part of his economic program. The war, he said, accelerated the trend toward economic concentration, so “to a greater extent than ever before, whole industries are dominated by one or a few large organizations which can restrict production in the interest of higher profits.” Republicans won sweeping majorities in both houses of Congress in the 1946 election, and key Republican senators sought to block prosecutions. Truman responded by proposing large budget increases for antitrust enforcement and directing his antitrust officials to think big, pursuing large cases involving entire industries rather than going after individual companies.31
The Danville case against A&P, originally filed in Dallas in 1942 and refiled in Danville in 1944, was not a Truman administration project. Truman’s trustbusters were much more interested in the monopolistic tendencies of heavy industry than in chain stores. While Wright Patman continued to introduce new versions of his bill to tax chain stores into the House of Representatives, public interest in the subject largely waned after the antitrust convictions of A&P and of George and John Hartford in 1946. But when, at the start of Truman’s second term in office, the appeals court upheld the convictions, the battle against chain stores was back in the headlines again.
20
MOM AND POP’S LAST STAND
Americans were eating well at the start of the 1940s. With unemployment shrinking and incomes rising rapidly at last, spending on food rose sharply, and the food chains experienced a remarkable revival. Chain grocers’ sales rose 23 percent in 1941 and even faster in the first months of 1942, far outpacing the growth in food sales overall. Grocers found themselves facing a novel problem: lack of labor. After a decade in which workers were begging for jobs as grocery clerks, war industries were hiring at far higher wages than retailers could offer. The food chains were left with fewer and less capable workers, providing a strong incentive to improve efficiency. All over the country, smaller stores gave way to supermarkets designed to sell far more food for each man-hour of work. The Great A&P was atop the wave. Its sales jumped 39 percent from early 1940 to early 1942, even as it shuttered one-third of its stores. As consumers turned to chain supermarkets, public opinion turned with them; in their 1941 sessions, Carl Byoir proudly told A&P’s directors that June, not a single state legislature increased taxes on chain stores, and one state let its chain-store tax expire. Although “fair trade” laws continued to limit chains’ price-cutting, independent grocers struggled. From 1939 through June 1942, the failure rate for food stores was half again as high as that for retailers in other lines.1
War changed everything. The Japanese bombing of Pearl Harbor brought the United States into World War II in December 1941. The government immediately moved to mobilize the economy, and measures to stave off consumer-price inflation while dealing with shortages of consumer goods followed quickly. The Emergency Price Control Act, signed on January 30, 1942, gave the federal Office of Price Administration the power to place price ceilings on all products save agricultural commodities, to regulate apartment rents, and to ration goods in short supply. Under the General Maximum Price Regulation handed down in April 1942—known to almost everyone in America as “General Max”—the office’s director, the longtime New Dealer Leon Henderson, and his deputy, a young Canadian economist named John Kenneth Galbraith, froze prices on about 60 percent of food products. Until further notice, no seller could charge more than the highest price it had charged in March for any item, and prices were to be “generally fair and equitable.” Across the country, a staff of administrators and price checkers soon to reach sixty-five thousand, aided by an army of volunteer housewives, stood ready to object to unauthorized price increases.2
Initially, the ceiling-price system worked to the advantage of small stores. Chains, in general, kept prices fairly steady, whereas independent grocers typically combined high everyday prices with special sales. Those high everyday prices became the independents’ ceilings, while the chains faced lower ceilings as the result of their lower prices in March 1942, and with supplies scarce the independents could sell every can and box they could lay hands on despite their higher prices. But the system quickly became an administrative nightmare. General Max applied to canned vegetables, fruits, and preserves from the 1941 harvest. As the 1942 crop came in and the government set new, higher ceiling prices, grocers holding goods canned the previous year were supposed to adhere to the former ceilings until their inventories were depleted: 1941 string beans were to sell for less than 1942 string beans. Compliance proved impossible to m
onitor. Controls were extended to products whose supply varied seasonally, such as butter and citrus fruits, which meant that price ceilings had to change seasonally. Increases, temporary exceptions, seasonal adjustments, and changes in coverage left both shopkeepers and consumers confused about what ceilings were in effect. “The result at the moment is more regulations than any retailer could be expected to read and abide by,” Galbraith acknowledged in late 1942.3
In October, Galbraith proposed shifting from product-specific price ceilings to maximum markups on food, with the allowable markup varying by type of food store and class of commodity. His thinking was that a relatively efficient operator, such as A&P, might be authorized to charge a 12 percent markup on eggs and 10 percent on bread, while a mom-and-pop store might be allowed larger markups. That plan was problematic, not least because consumers would have a hard time identifying violations of the price regulations if different price ceilings were in effect at different grocery stores. Instead, the Office of Price Administration used the average profits of various sectors of the retail industry to determine whether price increases would be permitted. A&P’s profit margins were well below the average for grocery stores, so price hikes approved with the average grocer in mind should have permitted it lavish profits. But the story was more complicated than that.4
The Great A&P and the Struggle for Small Business in America Page 28