Rebuking Visa, MC, Judge Opens Banks to Amex

In a big win for American Express Co. and Discover Financial Services — and a potentially major blow to the underpinnings of the two bank card associations – a federal judge ordered Visa and MasterCard to abolish policies that prevent banks from issuing other card brands.

In a long-awaited decision, Judge Barbara Jones of U.S. District Court for the Southern District of New York, ruled that the policies — Visa’s bylaw 210(e) and MasterCard’s Competitive Programs Policy — “do weaken competition and harm consumers” in four specific ways.

In a 157-page ruling, the judge said that these rules have the effect of “limiting output of American Express and Discover cards in the United States,” and of “restricting the competitive strength of American Express and Discover by restraining their merchant acceptance levels and their ability to develop and distribute new features such as smart cards.”

Judge Jones wrote that the restrictive rules “effectively foreclos[e] American Express or Discover from competing to issue offline debit cards, which soon will be linked to credit card functions on a single smart card.” Furthermore she wrote, the rules “depriv[e] consumers of the ability to obtain credit cards that combine the unique features of their preferred bank with any of four network brands, each of which has different qualities, characteristics, features and reputations.”

Kenneth Chenault, chairman and CEO of American Express, called the decision “a win for the American consumer.”

“The decision is also a clear loss for Visa and MasterCard, and it illustrates how they have broken the law over a long period of time,” he said in a statement. “In light of this decision, we plan to resume our conversations with a number of banks, now free to make a choice about possible card issuing ventures.”

A Discover spokesman said the company was still evaluating the decision and declined comment.

The verdict concluded a three-month trial that ended over a year ago, in which the Justice Department had brought suit against Visa International, Visa U.S.A., and MasterCard International on antitrust grounds. Executives at American Express and at the Discover division of Morgan Stanley Dean Witter & Co. had testified about the harm they perceived had resulted from the restrictive rules, and some bank card executives had testified of their interest in issuing those brands of cards.

Noah Hanft, MasterCard’s general counsel, said MasterCard is “strongly considering” an appeal of the part of the judge’s decision that would allow MasterCard banks issue American Express and Discover. “We think that the record actually demonstrated that American Express has access to all consumers. We would have a strong legal basis if we elect to file an appeal.”

But Mr. Hanft said MasterCard was “very pleased that the judge ruled for us on what was the essence of the government’s case. The essence of the case was an attack on the industry structure, and on that issue, we’re pleased that the judge ruled in our favor.”

Visa issued a statement following the decision in which it said it was “pleased” with the judge’s decision on dual governance. “However, we are obviously disappointed with the judge’s decision on our bylaw that applies to American Express and Discover ... we are dismayed that the Court has seen fit to change the structure of the business with untested remedies and unknown consequences.”

Shares of American Express Co., lackluster for much of the session, jumped $1.56 or nearly 6% to $29 in the final few minutes of trading — just after the release of the verdict. Morgan Stanley Dean Witter shares climbed $1.50 or a little more than 3% to $49.26. Most of Morgan Stanley’s gains appeared to relate to a victory in a different legal dispute involving its Internet analyst Mary Meeker.

While the government won this part of its argument, it lost in its attempt to prove that the governing structures of Visa and MasterCard were unfair and stifled competition. Judge Jones said the Justice Department had failed to prove this aspect of its case, and that she saw plenty of evidence that Visa and MasterCard did compete vigorously.

“After a view of the evidence, the court concludes that with the exception of the associations’ failure to name each other in their advertising — a dated example that no longer reflects the aggressive advertising competition that has existed for some years between the defendants — the government’s examples fail to prove that dual governance has significantly diminished competition and innovation in the credit and charge card industry,” Ms. Jones wrote.

In conclusion, she wrote, “Even if market forces had not already all but ended dual governance, since the government has failed to prove that adverse affect, no remedy altering the governing structures of Visa and MasterCard is justified.”

Opening up banks to Discover and American Express will have the effect of leveling the playing field, the judge said. “The court has found that the abolition and prospective injunction of defendants’ exclusionary rules will open the market to American Express and Discover to compete with MasterCard and Visa to enter into card issuing arrangements with banks,” she wrote.

In addition to ordering the repeal of Visa’s and MasterCard’s respective exclusionary rules, the court included this cautionary order in the remedy: “each defendant is enjoined from enacting, maintaining, or enforcing any by-law, rule, policy or practice that prohibits its issuers from issuing general purpose or debit cards in the United States or on any other general purpose network.”

Judge Jones explicitly included debit cards in the court’s prohibition against exclusionary rules, despite Visa’s and MasterCard’s objections. She wrote, “the evidence demonstrated that the future of credit card products will be built on, and dependent upon, debit functionality.”

However, Judge Jones clearly stated that “including debit as a necessary part of the remedy does not put it in the same product market with general purpose cards.” The distinction is an important one, as it is a necessary premise for plaintiffs of the Wal-Mart case to make in order to make anti-trust charges against the associations for “tying-in” two different products, debit and credit cards.

Lloyd Constantine, a lawyer who represents the class of merchants that have sued Visa and MasterCard over debit card acceptance rules and fees, called the verdict a “split-the-baby decision,” and added that Judge Jones’ ruling is very favorable to his case. “Not one finding of Judge Jones rejects any contention merchants have made in their case,” he said in a telephone interview late Tuesday afternoon.

But Marc Sacher, managing associate for Auriemma Consulting Group Inc. of Westbury, N.Y., a credit card consulting firm, said that the “important takeaway” was that “there’s going to be no change in the fundamental change in the structure of Visa and MasterCard associations.”

“I would say there’s probably only a small number of banks that would even be interested in offering American Express cards or Discover cards in this country,” he said. Mr. Sacher said American Express will benefit more from the verdict than Discover, “because Amex already has arrangements with banks elsewhere in the world. Discover does not have any arrangements like that.”