Meeting of the Minds

Hatch-Waxman Litigation Post-Actavis: Crafting a Pro-Competitive Settlement Agreement

Andrew D. Regan and Charles E. Miller

©2013. Published in Landslide, Vol. 6, No. 1, September/October 2013, by the American Bar Association. Reproduced with permission. All rights reserved. This information or any portion thereof may not be copied or disseminated in any form or by any means or stored in an electronic database or retrieval system without the express written consent of the American Bar Association or the copyright holder.

For more than a decade, storm clouds of doubt and discord have been gathering over the legality of “reverse-payment” license agreements (RPLAs) in the context of Hatch-Waxman patent settlements. This past term, the U.S. Supreme Court finally stepped into the tempest and resolved the uncertainty: RPLAs are subject to antitrust scrutiny, despite the fact that one party to the agreement possesses a patent.

In FTC v. Actavis, Inc., the Court mandated that the restraint of trade inherent in RPLAs be analyzed under the highly fact-dependent rule of reason (RoR) standard.1 Under such an analysis—rather than choosing between the two different presumptions requested by the parties in Actavis2—courts must henceforth consider “a variety of factors, including specific information about the relevant business, its condition before and after the restraint was imposed, and the restraint’s history, nature, and effect.”3

With RPLAs now definitively subject to antitrust scrutiny, the Federal Trade Commission (FTC) and its adherents were quick to claim victory.4 But have RPLAs really become passé? Or instead, did the Court’s decision begin a new chapter? Unlike the per se illegality rule applied to price-fixing, or the presumptive illegality-based “quick-look” test prayed for by the FTC, the full RoR analysis prescribed in Actavis places the burden firmly on the antitrust plaintiff to prove an anticompetitive effect that unreasonably restrains trade.5 Depending on the particular RPLA at issue, such a showing may be difficult.

Consider that out of 495 cases between 1977 and 1999, where RoR was applied in different contexts, 84 percent of antitrust plaintiffs failed to meet this burden.6 More recently, out of 222 cases applying RoR between 1999 and 2009, a whopping 97 percent of antitrust plaintiffs failed to do so.7 Further, RoR analysis is typically preferred by antitrust defendants, because it best prevents the mistaken condemnation of pro-competitive conduct.8

Maybe the FTC’s victory lap was a bit premature.

Granted, RPLAs involving naked cash payments in exchange for market delay may be over. Pharmaceutical manufacturers entering into such settlements post-Actavis will make it easier for antitrust plaintiffs to challenge them. Now the question becomes: How can an RPLA be crafted to ward off antitrust challengers, but also retain its benefit to both sides at the negotiating table?

Reverse-Payment License Agreements

In patent litigation settlements involving the granting of licenses, the accused infringer typically pays the patentee in exchange for a license. In RPLAs, payments flow in the opposite direction: from the plaintiff patentee licensor to the defendant licensee. To understand how these settlements evolved, one must first appreciate the bifurcated nature of the pharmaceutical industry.

“Brand-name” manufacturers are the pharmaceutical industry’s innovative engine, translating scientific discoveries into useful products. They invest enormous amounts of private capital developing new drugs. To recoup and profit from their investment, they obtain and enforce pharmaceutical patents in order to prevent free-riding, and sell their patented products at a premium. In contrast, “generic” manufacturers follow in the wake, producing drugs already approved for marketing by the U.S. Food and Drug Administration (FDA). By avoiding upfront research and development (R&D) costs, generics can sell their products at a lower price. To this end, generics often try to avoid and/or invalidate brand-name patents. When doing so successfully, and in good faith, generics avoid waste and benefit consumers.

To regulate market entry and promote competition between brand names and generics, Congress enacted the Hatch-Waxman Act,9 allowing a generic to bypass certain FDA safety and efficacy requirements by showing that its product is equivalent to a previously approved drug.10 Additionally, Hatch-Waxman immunizes generics against infringement liability for copying patented drugs in preparation for the submission of an FDA application.11 With reduced upstream regulatory costs, and limited downstream liability, generics have less to lose in litigation compared to brand names. On this complex statutory playing field, RPLAs were born.

The argument for RPLAs has traditionally gone like this: If the brand-name patentee cannot leverage a threat of monetary damages, it has nothing to offer during negotiations and the generic has no incentive to settle. Therefore, in order to facilitate a settlement, the brand name offers some amount of monetary consideration. This benefits the brand name by maintaining its patent. It benefits the generic by providing it with capital to stay afloat and prepare for later market entry. And it benefits both parties by avoiding the cost and uncertainty of litigation.

However, while such a scenario is beneficial to pharmaceutical manufacturers, Actavis made clear that mutual benefit to private parties is not enough. We can debate its wisdom, but agree with it or not, the Supreme Court mandated—notwithstanding that one party may have a valid, enforceable patent—that in order for an RPLA to pass antitrust muster, it must benefit consumers as well. In the argot of antitrust law, such an agreement is referred to as being “pro-competitive.”

Underlying Interests

In order for RPLAs to remain useful, they must evolve. Simply paying for delayed entry will now prove more costly than rolling the dice on litigation, as undoubtedly it will result in a drawn-out, expensive, and probably unwinnable antitrust suit.

Instead, we should look beyond the positions of the parties, and create solutions based on the underlying interests of the parties.12 Rather than drawing lines to divide the proverbial pie, we should find ways to grow the pie itself, so that all parties—including consumers—will benefit.

It is worth a moment to reflect on this. For brand names, the position of “patent enforcer” is incidental, a necessary means to an end. In fact, brand names are actually concerned with maintaining and/or growing market share. To do this, they must recoup and profit from previous investments in R&D by protecting sales of their current products; expand the market for their current products (e.g., through increased market penetration, or via FDA approval for new indications); and reinvest in new R&D to create novel products and new markets in the future.

On the other side, the goal of “patent invalidator” is merely incidental to the underlying interests of a generic. What generics really want is market entry. Invalidating or avoiding patents is, again, only a means to an end. To achieve market entry, generics must cultivate expertise in the production, marketing, and sales of target drugs; maintain capital sufficient to support those commercial efforts; and avoid infringement liability.

Crafting a Pro-Competitive RPLA

With these goals in mind, what should an RPLA look like post-Actavis? Certainly it must address the underlying interests of the parties in dispute. However, it should also appear pro-competitive on its face. Only from this perspective can an RPLA be crafted in a form sufficient to deter antitrust challengers. Notably, the Court’s opinion in Actavis provides some clues as to where to begin.

Patent-term splitting will be a critical component of virtually any rational RPLA going forward. The Court plainly stated that “settlement on terms permitting the patent challenger to enter the market before the patent expires would . . . bring about competition . . . to the consumer’s benefit.”13 This makes sense. Patent-term splits guarantee that less expensive drugs will enter the market early, 100 percent of the time.14 This is a clear and undeniable benefit for consumers. Practitioners seeking to establish the pro-competitive nature of an RPLA should be able to lean heavily on this argument.

Importantly, the formulation of a patent-term split provides flexibility during negotiations. The split ratio can be rationally based on the strengths and weaknesses of the respective positions in the underlying patent litigation.15 Note also that a patent-term split should include a disclaimer of the generic’s first-to-challenge market exclusivity.16

A reverse payment will be a component as well; however, the Court explained that it could destroy the pro-competitive nature of a patent-term split, if the generic would have bargained for an even earlier date of entry but for the payment. Thus, the next question becomes: How and what amount of payment can be made? Fortunately, we can also find clues to this question in the Court’s opinion.

Determining an Appropriate Payment

Monetary consideration flowing to the generic can be based on an approximation of “litigation expenses saved through the settlement,” “compensation for other services that the generic has promised to perform—such as distributing the patented item or helping to develop a market for the item,” or for “other justifications.”17 Even the staunchest of RPLA opponents—the FTC—admits that payment under these circumstances can still be pro-competitive.18

Thus, brand names should feel confident making a payment commensurate with their estimated litigation costs. In a hard-fought, multiyear patent infringement case, reaching all the way to the Federal Circuit on appeal, this could represent a significant amount.

Further, brand names should be able to make payments in consideration of collaborative, contractual relationships. By having the brand name exchange payment for services such as research, clinical testing, manufacturing, sales, marketing, or other services, and receiving an abatement of the generic’s patent challenge in return, the underlying interests of all parties can be addressed. At minimum, the brand name protects current sales and maintains market share. Ideally, market share is increased through enhanced market penetration (e.g., generic promotes patented drug), increased sales due to reduced price (e.g., generic produces patented drug at a lower cost), or FDA approval for different indications (e.g., generic conducts additional clinical testing of patented drug). On the other side, the generic gains the certainty of an earlier market entry, safety from infringement liability for “at risk” entry, and payment for services that involve the cultivation of necessary commercial skills.

Note, however, it is critical the parties explain how consumers benefit. This should not only be a convincing narrative, it should be simple and to the point. If you can’t put it on a cocktail napkin, it’s probably too complex. For example: “This RPLA is pro-competitive because it expands the market for the product, thus increasing consumer choice among treatments for that disease.” Another example: “This RPLA is pro-competitive because it improves the method of production, and/or lowers costs through efficiencies of scale, thus providing consumers with a higher quality product and/or creating a reduction in price.”

These are just some examples. We should always be ready to craft new creative agreements based on the specific disposition of the parties in dispute. Also note, practitioners should be meticulous in compiling economic evidence to support these narratives, should the need arise at trial.

Additionally, the Court in Actavis explained that payment can be made for “other considerations.” What other considerations? That is unclear, but at least one possibility conceded by the FTC would be a “cash payment that enables a cash-starved generic manufacturer to avoid bankruptcy.”19 Another interesting route would be for the brand name to cross-license intellectual property from the generic.20 As more generics begin patenting in-house technology (e.g., drug formulations, methods of delivery, methods of manufacture), this is becoming a viable opportunity.

No matter what, any payment should be justifiable in court. To help repel antitrust challengers, practitioners crafting an RPLA should be diligent in researching and carefully documenting aspects such as reasonable approximations of bona fide fair value, congruence with industry standards, the brand name’s demonstrated history of interest or need for such services or assets, and the course and content of negotiations regarding the agreement.21

Notably, the Court’s opinion in Actavis suggests the amount a generic stands to profit—i.e., if it had been able to enter the market—may provide a cap on payment.22 This amount could be overly limiting, and thus practitioners should stand ready to argue that its speculative nature makes it an inappropriate measure. In addition, when monetary consideration is paid for additional services or assets, such a measure becomes less relevant.

Venue: More Important Than Ever

As a final note, practitioners can further insulate the parties to an RPLA by remaining cognizant of venue. Prior to Actavis, there was a clear dividing line between the circuits. The Second, Eleventh, and Federal Circuits held RPLAs immune from antitrust scrutiny, absent overreaching and/or fraud. The Third, Sixth, and D.C. Circuits came down on the opposite side, finding RPLAs presumptively illegal. Though both sides failed to convince the Court that theirs was the proper analysis, an RoR “kitchen sink”-style approach will likely do nothing to affect the disparate dispositions of these courts. Thus, for example, the same RPLA found to be anticompetitive in the Third Circuit may very well be held legal in the Eleventh. Imagine that.23

How can venue be affected? In addition to traditional tactics, it is instructive to examine how Actavis made its way to the Eleventh Circuit. The initial patent infringement suit giving rise to the RPLA at issue in Actavis was filed in the Northern District of Georgia.24 Later, multiple antitrust actions challenging that RPLA were combined by the U.S. Judicial Panel on Multidistrict Litigation, and then transferred back to the Northern District of Georgia because of its role in the underlying patent case. Though, of course, this does not provide a fail-safe formula, strategic practitioners should at least keep this in mind when filing a complaint for patent infringement.

Moving Forward

Though RPLAs may no longer enjoy antitrust immunity, they are far from dead. To remain useful, they must evolve to benefit consumers as well as parties to the agreement. If RPLAs are crafted in such a fashion, successfully challenging them will remain difficult for antitrust plaintiffs, even in a post-Actavis world.

And what does the future hold? Clearly, more debate and discussion is needed concerning the effect of Actavis on Hatch-Waxman litigation, including the behavior of brand names and generics, their dealings via licensing negotiations, and the effect on incentives underlying pharmaceutical innovation. Further, it remains to be seen how the decision interacts with potential follow-up legislation, and forthcoming U.S. Patent and Trademark Office administrative rules promulgated under the 2011 America Invents Act, most notably, the settlement of post-patent-grant review proceedings.

Endnotes

1. 133 S. Ct. 2223 (2013).

2. The FTC asked the Court to label RPLAs presumptively illegal. The pharmaceutical manufacturers, party to the RPLA at issue, argued for presumptive legality, as long as the restraint of trade fell within the scope of the licensed patent. Id. at 2237.

3. State Oil Co. v. Khan, 522 U.S. 3, 10 (1997) (citing Bd. of Trade of City of Chicago v. United States, 246 U.S. 231, 238 (1918)). Humorously, RoR was referred to by Justice Breyer during oral arguments as the “kitchen sink” approach.

4. See, e.g., Tony Mauro, FTC Calls Pay-for-Delay Ruling “Significant Victory, Am. Law., June 17, 2013 (“[T]he ruling ‘is a loss for the drug makers . . . . [T]he FTC came out on top.’”); Richard Wolf, Supreme Court Hits Drug Companies’ Profit-Sharing Deals, USA Today, June 17, 2013 (“The verdict was a victory for the [FTC] . . . .”); Edward Wyatt, Supreme Court Lets Regulators Sue over Generic Drug Deals, N.Y. Times, June 17, 2013 (“Officials at the [FTC] . . . were predictably enthusiastic.”).

5. See Michael A. Carrier, The Real Rule of Reason: Bridging the Disconnect, 1999 B.Y.U. L. Rev. 1265, 1268 (1999) (“In the initial stage, the plaintiff must show a significant anticompetitive effect resulting from the restraint.”). Though originally conceived as a pure balancing test, lower courts now apply a burden-shifting RoR framework in nearly every case. See Michael A. Carrier, The Rule of Reason: An Empirical Update for the 21st Century, 16 Geo. Mason L. Rev. 827, 828 (2009) (“[T]he burden-shifting trend has continued and, in fact, has increased. . . . They balance in only 2% of cases.”).

6. Carrier, Bridging the Disconnect, supra note 5, at 1268.

7. Carrier, Empirical Update, supra note 5, at 828.

8. See, e.g., Leegin Creative Leather Prods., Inc. v. PSKS, Inc., 551 U.S. 877, 895 (2007) (overruling precedent to apply RoR because presuming illegality “can increase the total cost of the antitrust system by prohibiting procompetitive conduct the antitrust laws should encourage”).

9. Drug Price Competition and Patent Term Restoration Act of 1984, Pub. L. No. 98-417, §§ 101–307, 98 Stat. 1585, 1585–1605.

10. 21 U.S.C. § 355(j)(2) (“bioequivalence” requirement).

11. 35 U.S.C. § 271(e)(1).

12. See generally Roger Fisher & Scott Brown, Getting Together: Building Relationships as We Negotiate (1989); Roger Fisher et al., Getting to Yes: Negotiating Agreement without Giving In (3d ed. 2011); Robert H. Mnookin et al., Beyond Winning: Negotiating to Create Value in Deals and Disputes (Harvard Univ. Press 2000).

13. FTC v. Actavis, 133 S. Ct. 2223, 2234 (2013).

14. If all patents were litigated to a final determination, and only half were found valid and infringed, early market entry of generic drugs would occur only 50 percent of the time. See Kimberly A. Moore, Judges, Juries, and Patent Cases—An Empirical Peek Inside the Black Box, 99 Mich. L. Rev. 365, 385 (2000) (noting that between 1983 and 1999, the alleged infringer prevailed in 42 percent of patent cases reaching trial). Yet, if all those patents were licensed via RPLAs, early generic market entry occurs 100 percent of the time.

15. RPLAs involving weaker patents should result in earlier dates for generic drug entry, and vice-versa.

16. This is critical. Before the Medicare Prescription Drug, Improvement, and Modernization Act (MMA) closed certain loopholes, the first generic challenger could bottleneck the system by retaining a 180-day period of market exclusivity, even if litigation settled with an RPLA. This discouraged subsequent generic challengers, producing a clear anticompetitive effect. Although the MMA generally addressed these concerns, generics should expressly disclaim this right in order to dispel any doubts.

17. Actavis, 133 S. Ct. at 2236.

18. See Brief for the Petitioner at 37–38, Actavis, 133 S. Ct. 2223 (No. 12-416) (“[T]he parties could show that ‘any money that changed hands was for something other than a delay,’ . . . [or] that the payment was commensurate with the litigation costs that the brand-name manufacturer avoided by settling.”).

19. Id. at 38.

20. In re K-Dur Antitrust Litig. (K-Dur II) involved an RPLA that attempted this type of cross-licensing strategy. 686 F.3d 197, 218 (3d Cir. 2012). The brand name agreed to a patent-term split, upfront milestone and sales-based royalties for cross-licensed patents, attorney’s fees, and an additional payment if the generic drug was approved for sale. This final component of the agreement is a red flag, because it appears to be aimed exclusively at market delay. Such provisions should be avoided post-Actavis.

21. See Brief for the Petitioner, supra note 18, at 37–38 (“Sufficient evidence on such subjects could dispel the presumptive inference that the payment secured a delayed entry date.”).

22. See Actavis, 133 S. Ct. at 2235 (“[P]atentees sometimes pay a generic challenger a sum even larger than what the generic would gain in profits if it won the paragraph IV litigation and entered the market. The rationale behind a payment of this size cannot in every case be supported by traditional settlement considerations.” (citations omitted)).

23. Previously, the Third Circuit in K-Dur II condemned an RPLA as plainly anticompetitive. What made the decision so interesting? Nearly seven years earlier, the Eleventh Circuit upheld the legality of the very same RPLA. Schering-Plough Corp. v. FTC (K-Dur I), 402 F.3d 1056, 1076 (11th Cir. 2005). Notably, both K-Dur II and Actavis were appealed to the Supreme Court; however, K-Dur II was placed on hold pending resolution of Actavis. On June 24, 2013, the Court granted the petition in K-Dur II, vacated the decision of the Third Circuit, and remanded for further consideration in light of its opinion in Actavis.

24. The actions were originally filed by Unimed Pharmaceuticals (Marietta, Georgia), a subsidiary of Solvay Pharmaceuticals, now wholly owned by Actavis. Unimed Pharm., Inc. v. Watson Pharm., Inc., No. 1:03-CV-2501-TWT (N.D. Ga. Aug. 21, 2003); Unimed Pharm., Inc. v. Paddock Labs., Inc., No. 1:03-CV-2503-TWT (N.D. Ga. Aug. 21, 2003).