The high cost of prescription drugs is a problem that Americans know all too well. A 2021 survey found that 29 percent of respondents reported not taking their medications as prescribed because they could not afford them. Americans pay more for prescription drugs than people anywhere else in the world. Drug development costs can be significant, and companies need to be able to recoup those costs so that they can continue to make medical breakthroughs. However, it can be hard for the American public to feel sympathetic to those needs when the pharmaceutical industry regularly reports high profit margins. Proposed solutions to the pharmaceutical cost conundrum include allowing the federal government to negotiate drug prices for those on Medicare and Medicaid, setting price ceilings, increasing price transparency, promoting the production of generic and biosimilar drugs, importing lower-cost drugs, offering accelerated Food and Drug Administration (FDA) review in exchange for price concessions by manufacturers, and adjusting patent terms and protections.

Compounding pharmacies may also present a possible piece to the puzzle. Companies such as Mark Cuban’s Cost-Plus Drugs are utilizing a compounding model, in addition to price transparency, the elimination of private pharmacy benefit managers, and streamlining of its supply chain, to provide inexpensive generic drugs. Due to patent protections and U.S. compounding laws, compounding pharmacies are unable to expand into patented pharmaceuticals, where some of the cost overruns are the highest, leaving monopolistic pharmaceutical manufacturers free to engage in monopolistic pricing.

Compounding Pharmacies in the United States

U.S. law provides for two different types of compounding pharmacies, named for their respective sections of the Federal Food, Drug, and Cosmetic Act: 503A facilities and 503B facilities. 503A facilities are more traditional, compounding in response to a prescription for a specified patient. 503B facilities, also known as outsourcing facilities, compound in large batches, with or without a prescription, and distribute the compounded medications to healthcare facilities. 503B facilities may also dispense medications directly to consumers pursuant to a valid prescription order.

503A facilities are exempt from certain labeling requirements, new drug premarket approval requirements, and compliance with current good manufacturing practices. These facilities are not subject to registration or reporting requirements, nor FDA inspections. 503A compounded medications must be compounded by “a licensed pharmacist in a State licensed pharmacy or a federal facility” or by “a licensed physician.” 503A facilities may not “regularly or in inordinate amounts” compound “any drug products that are essentially copies of a commercially available drug product.” In order to compound drugs at a 503A facility in a given state, the state must have “entered into a memorandum of understanding with the Secretary [of Health and Human Services] which addresses the [interstate] distribution of inordinate amounts of compounded drug products” unless compounding makes up less than five percent of the physician or pharmacist’s “total prescription orders.” Because 503A facilities may compound only after receiving a valid prescription order or if there is a history of receiving orders for an individual patient or from a particular prescriber, they lack the scale that is necessary to impact drug pricing.

503B facilities are exempt from certain labeling requirements, new drug premarket approval requirements, and drug supply chain security requirements. 503B facilities must register with the FDA, comply with drug and adverse event reporting, and are subject to inspection pursuant to 21 U.S.C. § 374. 503B compounded medications must be compounded “under the direct supervision of a licensed pharmacist[,]” but need not be compounded by a licensed person. 503B compounded medications are subject to specific labeling and container requirements.

503B facilities are barred from compounding drugs that are “essentially a copy of one or more approved drugs.” The language is different from that for 503A facilities in that it does not include the “regularly or in inordinate amounts” qualifier. The FDA has explained that the “lower regulatory standard” that 503B facilities are subject to causes compounded drugs to present a greater health risk than FDA-approved drugs, so they should only be “dispensed to patients . . . whose medical needs cannot be met by an FDA-approved drug.” The FDA has also expressed concern that allowing 503B facilities to compound FDA-approved drugs would allow generic manufacturers to circumvent the abbreviated new drug approval process. Drugs that appear on the FDA’s drug shortage list are exempt from the limitation and the FDA has announced that it will not take action against 503B facilities that compound approved drugs that have been discontinued and are no longer marketed. Additionally, the FDA takes a narrow view of what “essentially a copy” means, requiring that the compounded drug product and FDA-approved drug have the same active ingredient(s), administration route, dosage form, dosage strength, and excipients. A change in one of those elements would seem to make the compounded drug different enough, though some restrictions apply.

U.S. Pharmaceutical Patents and Regulatory Exclusivity

Article I, Section Eight, Clause Eight of the United States Constitution gives Congress the express authority to promote scientific discovery and creative works by allowing “authors and inventors” to retain exclusive rights to their work for a limited time. Title 35 of the United States Code puts that power to work in the context of patents. All U.S. patents confer the right to exclude persons from making, using, offering for sale, or selling the patented subject matter for 20 years after the patent was applied for, provided the patentee pays the necessary maintenance fees. That right is subject to only a few limited and narrowly construed exceptions.

The Experimental Use or Research Exception

The experimental use or research exception applies when a patented invention is used “solely for amusement, to satisfy idle curiosity, or for strictly philosophical inquiry” without “the slightest commercial implications.” This minimal exception prevents even non-profit institutions such as universities from working with patented subject matter in most cases. The pharmaceutical context does have its own research-type exception. Under the Drug Price Competition and Patent Term Restoration Act of 1984, commonly known as the Hatch-Waxman Act, uses of patented subject matter that are “reasonably related to the development and submission of information under the Federal Law which regulates the manufacture, use, or sale of drugs” do not constitute patent infringement. Research is “reasonably related” if the information would be used in an FDA application, even if it is not submitted to the FDA. However, companies that wish to rely on the exception should be wary, as the scope of the Hatch-Waxman exemption remains murky, at best. U.S. law also provides a limited exception from infringement liability to vessels, aircraft, or vehicles that temporarily or accidentally enter the United States. A couple of other limited subject-matter-specific exceptions are also available.

Compulsory Licensing

The federal government may use any patented invention “without [a] license.” Generally the use will be in exchange for “reasonable and entire compensation,” thus avoiding a Fifth Amendment violation. The federal government used its compulsory licensing power regularly in the pharmaceutical context in the 1960s and 1970s, but has not done so since. The government may grant compulsory licenses to third parties for patents obtained with the use of federal funding, though that has never been done.

The Prior Commercial Use Defense

If an individual, acting in good faith, engaged in the commercial use of a patented “machine, manufacture, or composition of matter” at least one year before the claimed invention was disclosed or patent application was filed, the individual is entitled to assert the prior commercial use doctrine as a defense to infringement.

Patents and Exclusivity

The United States Patent and Trademark Office may issue patents in the pharmaceutical context on, inter alia, new active ingredients, drug formulations, uses or treatment indications, administration methods, manufacturing methods and technologies, and related chemicals. The FDA also provides exclusivities to pharmaceuticals. Drugs containing a new active ingredient “for which no other drug has been approved,” termed “new drugs,” receive five years of exclusivity. “New clinical investigations,” where the active ingredient of a drug has previously been approved, but something else about the medication is new, receive three years of exclusivity. “Orphan drugs,” those for conditions affecting less than 200,000 people in the United States or for which a company has no hope of recovering development costs, receive seven years of exclusivity. Manufacturers of generic drugs may either wait until a drug’s patent term and regulatory exclusivity have expired or file a “paragraph IV certification” with their abbreviated new drug application stating that the patent is invalid or that the generic does not infringe to enter the market. The first approved generic receives 180 days of exclusivity from other generics.  

A U.S. Compounding Pharmacy Exception

The entry of generic drugs into the market is known to cause a significant decrease in the overall price of a given medication. One study of oral generics found that generic entry reduced prices by 74 percent in eight months and 90 percent within two and a half years. The magnitude of the price drop is correlated with the number of competitors in the marketplace. In the two years following the first generic entry, the presence of three competitors has been shown to decrease prices by 20 percent, while 10 or more competitors decrease prices by 70 percent. The price declines build over time as well. Without competition, though, simply going “off-patent” does not ensure that a prescription drug’s price will drop. Single-source drugs, even when off-patent, are known to skyrocket in price.

Clearly, competition drives drug prices down. Congress has recognized that incentivizing and streamlining the entry of generic drugs into the marketplace to enhance competition is a critical element of reducing drug prices in the United States. However, focusing solely on generics ignores an untapped source of competitive, potentially inexpensive drugs that other nations have recognized: compounding pharmacies. Current federal law positions compounding pharmacies to fight drug shortages and assist with “clinical need[s].” It is only a short logical leap to think that such entities could also serve as a weapon against the prescription drug price crisis. As the law currently stands, 503B facilities can engage in the bulk compounding of FDA-approved drugs for which the FDA has identified a need. One option may be to allow the FDA to designate certain overpriced drugs for compounding pharmacies to compound. The FDA could do the same for single-source drugs. Facilities with the appropriate infrastructure could then dispense those medications directly to consumers with a valid prescription order, likely at vastly lower prices. Allowing compounding pharmacies to create patented medications would fill gaps where generic pharmaceutical manufacturers fall short, increase competition, and reduce the number of single-source drugs.

If the United States were to adopt a compounding pharmacy exception for patented drugs, compounding pharmacies could provide much-needed competition to the market. The distributed, lower volume, operations of compounding pharmacies would likely represent a lesser threat to pharmaceutical companies than generic entry. Allowing compounding pharmacies to work with patented compounds may also reduce the likelihood that a given drug will be without generic competition. The earlier entry and smaller scale may allow such entities to enter markets that generics would not view as profitable. The exception would also cause increased harmonization with the patent systems of other countries, which helps to streamline patenting around the world, lowering the costs of innovation.

However, aside from the necessary adjustments in the law, two main barriers stand in the way of a compounding pharmacy patent exception in the United States.

U.S. Patent Law’s Hostility Toward Exceptions

U.S. patent law generally shies away from and narrowly interprets exceptions to the rights conferred by a patent, which presents an obvious barrier to creating a U.S. compounding pharmacy exception. The World Intellectual Property Organization’s Standing Committee on Patents identifies nine categories of exceptions and limitations to patent rights, of which the United States ostensibly provides seven. Those exceptions are limited, often restricted to narrow contexts, and do not operate as functional exceptions. While pharmaceuticals do have their own exception for regulatory uses, it was codified before the Federal Circuit all but struck down the research exception. Although it has survived scrutiny, a new broad exception is not likely to be well received. The narrowing of the research exception to preclude any activity with “the slightest commercial implications” is particularly revealing about the attitude toward exemptions from patent rights. To go from that extreme view to an exception allowing a third party to practice a patent and sell the resulting product directly to consumers is a shift that does not seem probable.

Pharmaceutical Companies

The second and perhaps more formidable barrier to a compounding pharmacy exception in the United States is the lobbying power of the pharmaceutical companies. Pharmaceutical companies argue that patent monopolies are the price that the public must pay in order for them to make lifesaving discoveries and innovations, and maintain that they will be unable to profitably engage in research and development without maintaining their monopolies in order to recoup their costs. Pharmaceutical companies regularly engage in tactics such as evergreening, product hopping, pay-for-delay settlements, and creating burdensome patent thickets to extend their exclusive rights and block the entry of generic and biosimilar companies. In addition, pharmaceutical companies are not afraid to wield their money and influence to ensure that their agenda is front of mind for legislators.

In 2012, pharmaceutical manufacturers spent $21.3 million on federal elections. In 2021, the industry shelled out around $263 million.  Ultimately, a compounding exception, along with the necessary changes to Section 503B, would need to come through Congress.

While compounding may appear to be a small threat now, it has the potential to threaten the tight grip that pharmaceutical companies have on market exclusivity and the attendant ability to set prices. That threat presents a risk that the pharmaceutical industry is unlikely to take, and manufacturers will be willing to spend exorbitant amounts of money to ensure that their monopolies are safe. As a result, legislative change may be nothing more than a pipe dream. 

Conclusion

Although a number of nations have adopted laws permitting compounding pharmacies to prepare patented medications, such an exception is not feasible in the United States. With the E.U. set to employ such an exception in its Unified Patent Court, bringing U.S. law in line with the European approach would help streamline the international patenting process and reduce barriers to intellectual property protection. In addition, a compounding pharmacy exception would likely help drive down prescription drug costs in the United States and fill in gaps left by generic pharmaceutical manufacturers. However, the challenges presented by the United States’ general hostility toward patent exceptions, particularly those for commercial purposes, and the immense power of the pharmaceutical industry combine to form a daunting and likely insurmountable obstacle to the creation of such an exception in this country