Subiotto on the relationship between patent remedies and reverse payments

"Reverse payments" or "pay for delay" settlements are a topic I've been writing about for several years now, most recently here.  Briefly, under U.S. law (specifically, the Hatch-Waxman Act) a generic drug company may submit an Abbreviated New Drug Application (ANDA) to the Food & Drug Administration certifying that any patent covering the drug at issue is either invalid or not infringed.  The brand-name drug company then has 45 days to file suit for infringement, and if it does so it obtains an automatic 30 month stay of approval of the ANDA.  In several cases, the brand-name company and the generic firm have settled the patent litigation on terms that call for the brand-name company (that is, the plaintiff) to pay the generic firm (the defendant) a sum of money.  At first blush, this looks like one firm paying its competitor to exit the market, which is normally a per se illegal antitrust offense.  On the other hand, given (among other things) the peculiar setting under which the Hatch-Waxman Act operates--the plaintiff is allowed to file suit before the defendant has sold any allegedly infringing drugs--the mere fact that payment is going from plaintiff to defendant isn't necessarily indicative of an anticompetitive agreement, particularly if the payment is commensurate with avoided litigation costs or other risks.  Nevertheless, I and others have argued that when the amount of the reverse payment exceeds the defendant's expected profit from marketing the generic drug, that may be a pretty good sign that the agreement cannot plausibly be defended as procompetitive or competitively neutral.  Whether you agree with that or not, these cases present a fascinating, though complex, set of economic questions.

Last year, in FTC v. Actavis, the U.S. Supreme Court made it significantly easier to challenge reverse payment agreements as violative of the antitrust laws, though without rendering them per se illegal.  The legality of reverse payments has also come up in Europe in recent years.  In 2013, the European Commission ruled in the Lundbeck decision that certain reverse payment agreements were illegal under European competition law.  I understand that the matter is currently on appeal, and there have been other investigations in addition to Lundbeck.

Anyway, I was interested to come across this recent paper by Cleary Gottlieb's Romano Subiotto, titled The Implications of the Imperfect European Patent Enforcement System on the Assessment of Reverse Payment Settlements, which "was submitted as background material for Item VI of the 121st meeting of OECD Competition Committee on 18-19 June 2014."  In a nutshell, Mr. Subiotto argues that "settlement agreements must be examined under the antitrust laws against the background of the applicable patent system," and that under the EU patent enforcement system "the limited availability of preliminary injunctions, insufficient compensation in case of infringement, and the absence of a unified patent judiciary" may be factors motivating brand-name drug "companies to enter into reverse payment settlements . . . ."  Mr. Subiotto asserts, among other things, that damages are often not fully compensatory for a number of reasons--among them, that states often lower drug prices after generic entry and keep them there even if the generic firm is subsequently found to have infringed a valid patent, without requiring the generic firm to compensate for these losses.   According to Mr. Subiotto, "The incomplete compensation for damages or legal costs resulting from the the European patent enforcement system, creates an asymmetric situation between the originator and the generic, which allows the generic to hold up the originator regardless of the patent strength. This asymmetry renders it rational for a patent owner to make payments to the generic for settling the dispute, even if the patent is objectively strong."  More specifically:

Suppose that the originator expects actual losses from infringing generic entry (including litigation costs, etc.) of $100; and that, although being sure (100%) of winning in litigation, the originator expects to be able to recoup from the generic only $60, because of the defects in the patent enforcement system. The difference ($40) represents the “invisible” value transfer. To avoid bearing the consequences of the imperfect enforcement system, the originator is forced to make a “visible” payment of $0-39 to the generic as a settlement reverse payment. . . .

Although the hold-up described in the Sections above seems to be less of a problem in the US,
the US Supreme Court’s Actavis judgment has recently confirmed that lack of full compensation is a relevant factor that must be taken into account in the assessment of patent settlement agreements. The judgment rests on the proposition that “the size of the unexplained reverse payment can provide a workable surrogate for a patent’s weakness,” but “where a reverse payment reflects traditional settlement considerations, such as avoided litigation costs […] there is not the same concern.” The “avoided litigation costs” must include all irreversible, financial losses with which a patent owner would have to bear, even in case of litigation victory.

I'll need to give the matter some more thought, but on its face it appears that Mr. Subiotto makes some interesting points about the relationship between the availability of appropriate remedies in fact and the competitive consequences of reverse payments.  I'll need to take his analysis into account in my next paper or presentation on reverse payments, which probably will occur sometime next February at a conference hosted by the University of San Francisco Law School.