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ID SEC. SYSTEMS CANADA v. CHECKPOINT SYSTEMS

April 24, 2002

ID SECURITY SYSTEMS CANADA, INC., PLAINTIFF
V.
CHECKPOINT SYSTEMS, INC., DEFENDANT.



The opinion of the court was delivered by: Eduardo C. Robreno, United States District Judge

    MEMORANDUM

Plaintiff, ID Security Systems Canada, Inc. ("ID Security"), brought this federal antitrust and state law action against Checkpoint Systems, Inc. ("Checkpoint"). ID Security contends that Checkpoint has engaged in illegal monopolization and attempted monopolization and has conspired to restrain commerce in violation of the Sherman Antitrust Act with respect to electronic article surveillance ("EAS") tags. Additionally, ID Security contends that under Pennsylvania law Checkpoint interfered with its contract with a manufacturer of EAS tags, Tokai Electronics, Ltd. ("Tokai"), engaged in unfair competition and misappropriated its trade secrets.

The parties have filed a host of motions in limine concerning the admissibility of expert testimony and other evidentiary issues. Under the teachings of Daubert v. Merrell DOW Pharmaceuticals, Inc., 509 U.S. 579, 113 S.Ct. 2786, 125 L.Ed.2d 469 (1993), the court held two days of hearings and heard oral argument. This memorandum addresses all the issues raised by the parties seriatim.

I. Standard for Admissibility of Expert Testimony

Federal Rule of Evidence 702 governs the admissibility of expert testimony. Rule 702 provides:

If scientific, technical or other specialized knowledge will assist the trier of fact to understand the evidence or to determine a fact in issue, a witness qualified as an expert by knowledge, skill, experience, training or education, may testify thereto in the form of an opinion or otherwise, if (1) the testimony is based upon sufficient facts or data, (2) the testimony is the product of reliable principles and methods, and (3) the witness has applied the principles and methods reliably to the facts of the case.

Fed.R.Evid. 702.

Federal Rule of Evidence 702 provides "three distinct substantive restrictions on the admission of expert testimony: qualifications, reliability and fit." Elcock v. Kmart Corp., 233 F.3d 734, 741 (3d Cir. 2000). The party offering the expert testimony has the burden of establishing that the proffered testimony meets each of the three requirements by a preponderance of the evidence. See Padillas v. Stork—Gamco, Inc., 186 F.3d 412, 418 (3d Cir. 1999).

The first requirement, whether the witness is qualified as an expert, has been interpreted liberally to encompass "a broad range of knowledge, skills, and training." In re Paoli R.R. Yard PCB Litigation, 35 F.3d 717, 741 (3d Cir. 1994).

The second requirement provides that the expert's testimony is reliable. When the expert testifies to "scientific knowledge," the expert's opinions must be based on the "methods and procedures of science' rather than on `subjective belief or unsupported speculation'; the expert must have `good grounds' for his or her belief." In re Paoli, 35 F.3d at 742 (citing Daubert, 509 U.S. at 590, 113 S.Ct. 2786). In considering whether there are "good grounds" for the expert's opinions, district courts should look at a series of factors:

(1) whether a method consists of a testable hypothesis; (2) whether the method has been subject to peer review; (3) the known or potential rate of error; (4) the existence and maintenance of standards controlling the technique's operation; (5) whether the method is generally accepted; (6) the relationship of the technique to methods which have been established to be reliable; (7) the qualifications of the expert witness testifying based on the methodology; and (8) the non-judicial uses to which the method has been put.

In re Paoli, 35 F.3d at 742 n. 8.

This list of factors "is non-exclusive and . . . each factor need not be applied in every case." Elcock, 233 F.3d at 746. As the Supreme Court in Kumho Tire noted, the district court "must have considerable leeway in deciding in a particular case how to go about determining whether particular expert testimony is reliable. That is to say, a trial court should consider the specific factors identified in Daubert where they are reasonable measures of the reliability of expert testimony." 526 U.S. at 152, 119 S.Ct. 1167. Because these factors were developed in the context of testing the reliability of scientific methods, they may not be easily applied when testing opinions concerning complicated business transactions and antitrust matters. See ProtoComm Corp. v. Novell Advanced Serv., Inc., 171 F. Supp.2d 473, 477 (E.D.Pa. 2001). Accordingly, "relevant reliability concerns may focus upon personal knowledge or experience," as opposed to "scientific foundations." Kumho Tire, 526 U.S. at 150, 119 S.Ct. 1167; ProtoComm, 171 F. Supp.2d at 478-79.

The final prong requires that the expert testimony "fit" by assisting the trier of fact. See Oddi v. Ford Motor Co., 234 F.3d 136, 145 (3d Cir. 2000). "Admissibility thus depends in part upon `the proffered connection between the scientific research or test result to be presented and particular disputed factual issues in the case.'" Id. (quoting In re Paoli, 35 F.3d at 743). The "fit" standard does not require plaintiffs to "prove their case twice." Id. They need not "demonstrate to the judge by a preponderance of evidence that the assessments of their experts are correct, they only have to demonstrate by a preponderance of evidence that they are reliable." In re Paoli, 35 F.3d at 744. Thus, the test does not require that the opinion have "the best foundation" or be "demonstrably correct," but only that the "`particular opinion is based on valid reasoning and reliable methodology.'" Oddi, 234 F.3d at 146 (quoting Kannankeril v. Terminix Int'l, Inc., 128 F.3d 802, 806 (3d Cir. 1997)).

II. The Challenged Experts

A. Liability Testimony of Martin A. Asher, Ph.D.

ID Security intends to call Martin A. Asher, Ph.D., to testify as an expert in antitrust economics. Dr. Asher will testify to the relevant product and geographic market, Checkpoint's alleged monopoly power and injury to competition. Checkpoint does not dispute the qualifications or reliability of Dr. Asher, but contends that Dr. Asher's opinions fail the third prong of the Third Circuit's test, as they do not "fit" the facts of the case required Rule 702.

The dispute over "fit" revolves primarily around the relevant product market and the prices charged for tags by Checkpoint and ID Security. In the EAS industry, there are two types of products, acousto-magnetic ("AM") tags and radio frequency ("RF") tags. AM tags are exclusively produced by Sensormagic Electronics Corporation ("Sensormagic"). Checkpoint and ID Security both use RF technology. Both AM and RF systems require an initial investment of hardware and repeated purchases of tags. AM and RF tags, however, are not interchangeable, and thus once an individual customer purchases an RF system, the customer must purchase RF tags to use in that system.

Dr. Asher limits the relevant product market to RF tags because once an individual installs RF hardware, an RF tag is the only compatible tag with that system. Thus, when a customer purchases an RF system, it must necessarily purchase RF tags. It is unlikely, contends Dr. Asher, that customers would switch from an RF system to an AM system because of the large capital expenditures involved in purchasing the system's hardware. Dr. Asher concludes that once a customer purchases an RF system, that customer is "locked in" to purchasing RF tags.

Dr. Asher rebuts the argument that there is competition between AM and RF tags and thus that the relevant product market is that of the overall EAS system.*fn1 First, Dr. Asher concludes that there is no price competition between Checkpoint and Sensormagic on tags because, although their prices are the same—both charge $.035 per tag—the costs of manufacturing the tags are different. Checkpoint, Dr. Asher notes, produces its tags for a lower price than Sensormagic. If Checkpoint and Sensormagic were in competition, argues Dr. Asher, "that's a fight that Checkpoint could have won by undercutting the price of Sensormagic." Hr'g Tr., 3/7/02, at 117.

Second, Dr. Asher notes that consumers purchase the RF and AM systems for reasons other than price. Dr. Asher contends that the "primary drivers" in the market for EAS systems are "product characteristics, store characteristics, and technology." Id. at 120. Dr. Asher opines that supermarkets and drugstores, for example, are well suited for RF technology because RF technology provides integrated scan deactivation, allowing for easier and faster input in the check-out process. AM tags, in contrast, are deactivated by making contact with the tag and manually rubbing the label, which adds time to customer check-out.

Third, Dr. Asher notes that even if competition exists between Sensormagic and Checkpoint, both have an incentive to keep tag prices high because of the existence of large installed customer bases. See id. at 121-22. Checkpoint, who has sold over 350,000 RF systems, can keep tag prices high because it has a customer base that would incur significant capital costs to switch to an AM system. In a similar argument, Dr. Asher notes that although Checkpoint charges the same amount to both new and old customers—with the former apparently having a choice between AM and RF tags and the latter presumably "locked in" to an RF system—it can charge supracompetitive prices to all customers and risk losing some new business prices because the extent of the locked in customers.*fn2

Dr. Asher points to failed attempts by several companies to enter the RF tag market and Checkpoint's reaction to their attempted entry to support his conclusion that Checkpoint, who has a 90% share in the RF tag market, charges supracompetitive prices. Dr. Asher states, "[t]here isn't entry into a market unless there are economic profits or excess profits; that is, prices above competitive levels." Id. at 109. In this case, Dr. Asher argues that, although the supracompetitive prices attract competitors into the market, the new entrants have been promptly eliminated from the market by Checkpoint's anticompetitive acquisition practices. As a result of Checkpoint's practices of quickly acquiring new entrants, these new competitors never had the opportunity to force a reduction of Checkpoint's supracompetitive prices.

The standard for determining whether a witness may offer expert testimony does not require the proponent of the testimony to prove, with absolute precision, that the expert's opinion is correct. The court must determine only that the opinion is reliable. See In re Paoli, 35 F.3d at 744. The court finds that Dr. Asher has grounded his opinion on a reliable factual basis. His opinions are based on an economic model that considered the price variance between ID Security's tags and Checkpoint's, the technological differences between RF and AM systems, the switching costs between AM and RF systems, and the EAS industry in general. The court concludes that Dr. Asher's testimony fits the facts of the case and that his testimony relating to Checkpoint's alleged antitrust liability should not be excluded.

B. Liability Testimony of Peter R. Greenhalgh

ID Security challenges Checkpoint's expert on liability, Mr. Peter R. Greenhalgh. Like Dr. Asher, Greenhalgh has reviewed the record of the case, including depositions and documents from both ID Security and Checkpoint, analyzed the prices for both ID Security's and Checkpoint's tags, and studied the general EAS market. Greenhalgh's conclusions, however, are directly opposite to those of Dr. Asher. Greenhalgh opines that the relevant product market is the entire market for EAS systems. Furthermore, Greenhalgh concludes that within that market, Checkpoint's price is constrained by competition with Sensormagic, and thus its price per tag cannot be deemed to be supracompetitive. The court finds that although Dr. Asher and Greenhalgh reach different conclusions, both experts have grounded their opinions on a reliable factual basis. This quintessential battle of experts will need to be decided by the jury. See Bracy v. Waste Mngmt. of Pa. Inc., Civ.A. No. 99-1189, 2001 U.S. Dist. LEXIS 5504, at *910, 2001 WL 877582, at *3 (E.D. Pa. April 17, 2001).

Greenhalgh notes that the high switching costs between AM and RF systems and the incompatibility of the two systems do not alone mean that the RF tag market is the relevant product market in this case. Greenhalgh's approach looks to the market definition paradigm adopted by the Antitrust Division of the United States Department of Justice, which describes a relevant product market "as a product or group of products such that a hypothetical profit-maximizing monopolist in the sale of such product(s) would likely impose a small, non-transitory increase in prices above competitive levels." Expert Report of Mr. Greenhalgh, at 5 (quoting Dep. of Justice and Fed. Trade Comm'n Horizontal Merger Guidelines (issued April 2, 1992, revised April 8, 1997), at § 1.1). To demonstrate that the market is broader than simply that of RF tags, and that there are market forces that constrain Checkpoint from charging supracompetitive prices on its RF tags, Greenhalgh points to the competition between Checkpoint and Sensormagic, the manufacturer and distributor of AM tags.

Greenhalgh argues that when consumers make the initial decision to purchase an EAS system, they factor into consideration the price of the entire system, including tags. See Hr'g Tr., 3/8/02, at 8-10. Greenhalgh relies on an interview with a former sales manager at Checkpoint, who indicated that customers are provided cost estimates for the price of tags and told how those prices relate to the cost of stolen merchandise. Greenhalgh suggests that customers are placed on notice that they must continually purchase tags and that the tags will cost $.035. Thus, when a customer considers whether to purchase an AM or RF system, the customer is aware of the future tag costs and makes his decision accordingly. Greenhalgh notes that there is evidence of this competition in the respective prices of tags by Sensormagic and Checkpoint. Both companies sell their tags for $.035 per tag. Greenhalgh argues that this is not an arbitrary price, but the result of two firms competing on price and of customers considering the price of tags over the life of their EAS system.

Greenhalgh also notes that new tag sales consist of only 23% of Checkpoint's revenues for EAS products. Id. at 7. Greenhalgh argues, then, that tag sales are not the driving force of Checkpoint's profit maximizing efforts, but rather that "[i]t's the new system sales that are driving the company." Id. In order to attract new customers and compete with Sensormagic on hardware, Greenhalgh opines that Checkpoint must keep its tag prices on a competitive level with Sensormagic. Thus, Greenhalgh concludes, the market for hardware constrains Checkpoint from raising its prices on tags.

Greenhalgh further argues that Checkpoint's prices are not supracompetitive in comparison to ID Security's price. Since ID Security intended to enter the market at a higher price than Checkpoint's, Checkpoint's price could not have been supracompetitive. Though his conclusion is different from Dr. Asher on this point, both experts look to the same set of reliable facts to draw informed and reasonable conclusions. Additionally, Greenhalgh states that one customer, a purchaser from Avery Dennison, noted that ID Security offered higher prices than Checkpoint. Finally, Greenhalgh disputes ID Security's price of $.0295 as noting that it was merely an introductory price.

ID Security raises a two-pronged challenge to Mr. Greenhalgh. First, ID Security argues that Greenhalgh's methodology is flawed because he does not base his conclusion with respect to the relevant product market on the appropriate legal standard. Specifically, ID Security argues that Greenhalgh's analysis of the relevant product market is contrary to the Supreme Court's decision in Eastman Kodak v. Image Technical Servs., Inc., 504 U.S. 451, 112 S.Ct. 2072, 119 L.Ed.2d 265 (1992), and therefore must be excluded as being based on a faulty methodology. Secondly, ID Security contends that Greenhalgh has not provided sufficient reliable facts, as required by Kodak, to demonstrate that the relevant product market is the overall market for EAS systems. ID Security notes that the methodology must be guided by the controlling legal principle, and to the extent that the expert ignores that principle, the expert's testimony fails Danbert's test of a reliable methodology.

In Kodak, the Supreme Court confronted the issue of "whether a defendant's lack of market power in the primary equipment market precludes—as a matter of law—the possibility of market power in the derivative aftermarket." Id. at 455. Kodak involved claims under both §§ 1 and 2 of the Sherman Act.*fn3 There, the plaintiff alleged that even though Kodak faced competition in the market for equipment, its primary market, it wielded monopoly power in the derivative, or secondary market for parts and services, where it controlled an 85-90% share of that market. The Court rejected Kodak's argument that the aftermarket for parts and services could not be a relevant product market in which to assess plaintiffs § 2 claim. Id. at 481, 112 S.Ct. 2072. The Court determined that the relevant product market must be determined by the choices available to Kodak equipment owners. The Court noted that "because service and parts for Kodak equipment are not interchangeable with other manufacturers' service and parts, the relevant market from the Kodak equipment owner's perspective is composed only of those companies that service Kodak machines." Id. at 481-82, 112 S.Ct. 2072. Indeed, the Court suggested that the relevant product market may constitute only one brand of a product. Id. The Court concluded, however, that "the proper market definition can be determined only after a factual inquiry into the `commercial realities' faced by consumers." Id. at 482, 112 S.Ct. 2072 (citing United States u. Grinnell Corp., 384 U.S. 563, 572, 86 S.Ct. 1698, 1704, 16 L.Ed.2d 778 (1966)).

Based on its reading of Kodak, ID Security argues that Greenhalgh failed to consider the Supreme Court's direction concerning relevant product markets by concluding that the relevant product market in this case consists of the market for EAS systems. As Checkpoint notes, however, the Supreme Court did not conclude that the secondary market must always be the relevant product market; rather, the Court determined only that, although as a matter of law the secondary market was not precluded from being considered the relevant product market in all cases, whether it was or not was a question of fact. The Third Circuit, applying Kodak, has noted that in situations involving primary and secondary markets, "in most cases, proper market definition can be determined only after a factual inquiry into the commercial realties faced by consumers." Queen City Pizza, Inc. v. Domino's Pizza, Inc., 124 F.3d 430, 440 (3d Cir. 1997). See also Allen—Myland, Inc. v. Int'l Bas. Machs. Corp., 33 F.3d 194, 208 a. 16 (3d Cir. 1994) (noting that the "true inquiry" in determining relevant product market is a factual one of whether a company is constrained by the prices of one product when pricing a secondary product). Whether the secondary market in this case constitutes the relevant product market under Kodak is a question of fact that the jury must determine after considering the "commercial realities faced by consumers" in the EAS industry.

ID Security also contends that Greenhalgh's conclusions are not reliable as he has failed to make the appropriate factual inquiry. In looking at the relationship between the primary and the derivative, or secondary markets, the Supreme Court suggests that there are two factors that help explain the behavior of the primary and derivative markets for goods: information and switching costs. ID Security contends that Greenhalgh failed to investigate these factors adequately, rendering his testimony unreliable.

With respect to information costs, the Court notes that "for the service-market price to affect equipment demand, consumers must inform themselves of the total costs of the `package'—equipment, service and parts—at the time of the purchase; that is, consumers must engage in accurate lifestyle pricing." Id. at 473, 112 S.Ct. 2072. With regard to the second factor, switching costs, the Court states that "[i]f the costs of switching is high, consumers who already have purchased the equipment, and are thus `locked in,' will tolerate some level of service price increases before changing equipment brands." Id. at 476, 112 S.Ct. 2072. The Court explains this scenario, noting that "a seller profitably could maintain supracompetitive prices in the aftermarket if the switching costs were high relative to the increase in service prices, and the number of locked-in customers were high relative to the number of new purchasers." Id.

Despite ID Security's assertions to the contrary, Greenhalgh addresses both switching and information costs in his analysis. With respect to information costs, Greenhalgh explains that customers are aware that they will incur tag costs throughout the life of the system. During the Daubert hearing, Greenhalgh testified:

Yes, when they're buying these new systems they are given cost benefit analyses that show the profile of purchases like the profile over time and that they will be buying tags. So they're clearly on notice that they will be—to use these systems they've got to keep buying tags. And in response, many customers ask for a contract that establishes the price of that.

Hr'g Tr., 3/8/02, at 9-10. Thus, Greenhalgh contends that customers are not deceived by the costs of these tags, but are fully aware that they will need to purchase tags throughout the life of their RF system. Furthermore, Greenhalgh notes that Checkpoint's prices, for both old and new customers, have remained constant. These customers have not been subject to an initial price quote and then increased prices subsequent to the purchase of the hardware. Greenhalgh explains why such a tactic by Checkpoint, which would appear to be economically advantageous because of the high number of existing customers, would be economically irrational:

If they established a reputation that as soon as you bought [the hardware] they started gouging you on tags, what would do—what would that do to their success in selling new systems? In essence, the market doesn't allow them to do that. If they're going to sell new systems and preserve the reputation in the competition with Sensormagic they are not—the market doesn't allow them to price those tags higher than what they allow—what they price for new systems.

Id. at 8-9.

Finally, Greenhalgh acknowledges that once customers purchase an RF system they must purchase RF tags. Even though the factors of incompatibility and switching costs are present, Greenhalgh opines that "there still can be factors that constrain a firm's prices irrespective of these." Id. at 5. Specifically, Greenhalgh notes that how a company forms its prices is important. In this case, Greenhalgh contends that Checkpoint prices its product to compete with Sensormagic, and that although switching costs are inherent in the market, Checkpoint's price is constrained by its reputation and the information available to consumers.

Thus, the court concludes that Mr. Greenhalgh has considered the factors suggested in Kodak, and has based his conclusions on reliable information. Mr. Greenhalgh shall be permitted to ...


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