Greg Saitz: writer and photographer

ARE THE CHOCOLATE PRICES FIXED?

BY GREG SAITZ
STAR-LEDGER STAFF

At the Auberge du Pommier, diners can lunch on roasted leg of rabbit complemented by a $1,500 bottle of 1983 Chateau Margaux.

Service at the French restaurant in Toronto, one reviewer noted, is “silken smooth and deliciously attentive.” It was in this milieu that Canadian authorities suspect executives from two of the world’s largest chocolate companies perpetuated a scheme to fix prices.

Officials there are investigating whether Canada’s most prominent chocolate powers — among them Hershey, Mars and Nestlé — have been colluding for years to set prices for their products. In recent weeks, the inquiry has melted south to the United States, where the Department of Justice has begun asking questions, and to New Jersey, where at least nine class-action cases have been filed in federal court.

The allegations raise questions about how the $74 billion industry operates and how it has reacted to the challenges it faces, from health concerns to rising commodity prices. While price fixing in recent years has been uncovered in industries as varied as vitamin makers and auction houses, the idea it may have occurred at companies pumping out millions of kids’ favorites such as M&Ms and Hershey’s bars is hard for some to swallow.

“The industry it’s involved in — who would think the makers of chocolate, the supposed do-gooders in the world, would get together and fix prices?” asked attorney Hollis Salzman, who represents a Bayonne confectioner suing the big chocolate makers on charges they secretly fixed prices. “That’s outrageous.”

Chocolate is big business. And for the most part, it’s controlled by just a handful of companies that have hooked generations of children with their sweet treats.

Three years ago in Canada, Hershey, Mars, Nestlé and Cadbury Schweppes split nearly 98 percent of the chocolate market, court records show. And in the United States in 2006, Hershey controlled about 43 percent of the market, Mars had nearly 25 percent and Nestlé had 8 percent, according to Packaged Facts, a market research firm in Rockville, Md.

But all is not Kisses and Kit Kats. Overall, industry growth in the United States has been stagnant, said Curtis Vreeland, a market research analyst in the chocolate industry and a former Hershey manager who conducted the industry study for Packaged Facts. While 2003 saw sales grow 7.6 percent, by 2006, sales had dropped 0.9 percent from the prior year, he said.

People are worried about sugary snacks and obesity in children, and prices for cocoa beans, milk and energy have been rising, Vreeland said.

"The market has not been doing all that well," he said. "The general situation they (manufacturers) are running into is their big markets are not robust and expanding, and they're not in markets that are."

Simply put, sales growth of the plain old chocolate bar or Easter bunny is being outpaced by dark and premium chocolates, Vreeland said. In the past five years, sales of premium chocolate have grown at almost four times the rate of conventional chocolate, according to Packaged Facts.

Although both Hershey and Mars have tried to push into the premium and organic markets, he said they've had limited success. Hershey, which is set to release its 2007 financial results this week, expects sales to drop about 1 percent, and profit could be as much as 29 cents a share lower than 2006.

It's against this backdrop that the allegations of price fixing are emerging. Such schemes often happen after a period of intense competition or hard times that hit everyone operating in a given industry, experts said.

"They are facing lower profits and are sort of desperate to do something to get higher profits, healthier margins, and somebody gets on the phone with a competitor," said Lawrence White, an economics professor at New York University's Stern School of Business and former chief economist at the Justice Department's antitrust division. "And the conspiracy starts."

CONSPIRACY ALLEGED
Calls, e-mails, faxes. They all were part of the chocolate conspiracy in Canada that appears to reach back as far as 2002, according to court papers filed in Ontario by that country's Competition Bureau. The agency is similar to the Justice Department's antitrust division.

But it all began to unravel about five months ago, when an unnamed company approached the bureau and sought immunity from prosecution for its participation, court records show. Canada, like the United States, offers immunity to the first person or company to reveal collusive activity.

The business provided testimony from one of its top executives and tales from many other employees, as well as e-mails, phone records and receipts to corroborate their stories. In November, Canadian authorities searched the local offices of Hershey, Mars, Nestlé and ITWAL, a food distributor based in Ontario.

"The means used to enhance prices was by way of a deliberate, secretive and high-level price-fixing agreement," bureau attorney Daniel Wilcock wrote in a court affidavit filed to support the search warrants. "In the case of at least the cooperating party, Hershey and Nestlé, the alleged conspiracy was brought about and sanctioned at the highest levels of the companies involved."

Hershey, based in the Pennsylvania town that bears its name, generated nearly $5 billion in sales and profit of almost $560 million for 2006, the latest full year available. Mars North America, headquartered in Hackettstown, has $7 billion in annual sales of snacks, food and pet-care products, according to its Web site. The company is not publicly traded and does not reveal specific financial information.

A Hershey spokesman said the business is cooperating with Canadian authorities and will do the same for any U.S. investigation, although U.S. officials have not asked Hershey to provide anything.

Alice Nathanson, a spokeswoman for Mars, said the Justice Department's antitrust division contacted the company a few weeks ago about a preliminary investigation of pricing practices in the U.S. chocolate industry.

"We haven't heard from them since," Nathanson said, noting Mars would cooperate with any investigation.

Similarly, Swiss chocolatier Nestlé said it will cooperate if asked. "It is our policy to operate ethically and follow all applicable laws and regulations wherever we do business," spokeswoman Laurie MacDonald said.

Cadbury Adams USA, the Parsippany-based confectionery arm of Cadbury Schweppes, doesn't sell chocolate in the United States. Instead, the company has a licensing deal with Hershey to sell its products here. Spokeswoman Luisa Girotto declined to comment on the price-fixing allegations other than to say, "We're letting the investigation run its course, and we will fully cooperate if necessary."

Canadian officials did not seek a warrant to search the offices of Cadbury.

But in asking a judge for permission to search the other manufacturers and ITWAL, the Competition Bureau provided two affidavits outlining meetings in coffee shops, restaurants and trade association gatherings where the topic du jour was "taking a price increase."

CLANDESTINE MEETING
The meeting at Auberge du Pommier occurred July 4 between the main cooperating executive and Sandra Martinez de Arevalo, president of Nestlé Confectionery, one affidavit said.

Martinez, the court records said, suggested the cooperator's company raise its prices first in 2007, "as Nestlé wanted to take a price increase in the third quarter." The executive cooperating with authorities told Martinez he would follow on a price hike, but not lead, according to the affidavit.

Two years earlier, the cooperating executive eventually told authorities, Nestlé Canada Chief Executive Robert Leonidas found him at a trade association meeting. Leonidas said words to the effect, "We are going to take a price increase and I want you to hear it from the top," the affidavit said. Leonidas then gave him an envelope.

Inside was information about a price hike Nestlé planned to announce in 2005, according to the affidavit. About a month later, the cooperating executive's assistant was directed to go to Nestlé's offices, where Leonidas met that person and handed them another envelope. It also contained a letter, forward dated, announcing Nestlé was increasing its chocolate prices, court records show.

"When this thing goes up to the top (of a company), it really says something about the culture," said White, the NYU professor.

Companies the size of Hershey and Mars undoubtedly have compliance departments that presumably instructed employees about what they can and can't do, said Richard Donovan, co-chairman of the antitrust group at the law firm Kelley Drye & Warren in New York.

"Usually, talking with competitors about pricing is at the top of the list of things you don't do," Donovan said.

LEGAL FALLOUT
The alleged wrongdoing has spawned not only government investigations, but also more than a dozen purported class-action lawsuits filed in federal courts by consumers or smaller chocolate companies.

Perhaps it is fitting a majority of the complaints were filed in Newark, where, according to the book "The Emperors of Chocolate," Mars first produced M&Ms in the early 1940s — with a helping hand from Hershey.

Hershey supplied machines to Mars so the company's Newark plant could make the chocolate candies, the book said. Hershey also sold Mars chocolate.

But it's quite a different cooperation between the companies that's alleged in the civil lawsuit filed by CNS Confectionery Products of Bayonne. CNS, which makes chocolate Santa Clauses and other candy, buys chocolate from at least one of the main manufacturers.

In their complaint, attorneys for CNS noted Mars increased wholesale prices about 5 percent on certain chocolate bars in late March, and Hershey followed suit shortly afterward. The conspiracy led to CNS, as well as other buyers, paying higher prices than they would have in an open market, the lawsuit charged.

"This is an antitrust injury of the type that the antitrust laws were meant to punish and prevent," the complaint said.

It's likely the civil cases filed across the country will be consolidated to one jurisdiction, said Salzman, an attorney for CNS. Canada's criminal investigation is ongoing, and prior price-fixing cases have led to prison sentences for high-level executives.

A. Alfred Taubman, who owned Sotheby's auction house, was convicted in 2001 of conspiring with Christie's to fix commissions. Three top executives at Archer Daniels Midland went to prison in the late '90s over a price-fixing scandal involving the animal feed additive lysine.

"It's always, `What could they have been thinking?'" said Andy Gavil, a law professor at Howard University who teaches antitrust law. "And the answer always is a lot of money."