The transfer of certain patent rights in the pharmaceutical industry will remain subject to the premerger notification rules under the Hart-Scott-Rodino Act (HSR Act) after a federal judge rejected a challenge brought by the Pharmaceutical Research and Manufacturers of America (PhRMA).1 The U.S. District Court for the District of Columbia held that the Federal Trade Commission (FTC) has statutory authority to issue industry-specific rules under the HSR Act, provided that there is a rational basis for the rule and the FTC observes the procedural requirements of the Administrative Procedures Act (APA).
The HSR Act applies to acquisitions of voting securities and assets. Patent licenses have been treated as asset acquisitions by the licensee only if the license is exclusive (i.e., if the license transfers the exclusive right to "make, use, and sell" under the patent, even as against the licensor). Non-exclusive licenses have not been treated as asset acquisitions. Under the "make, use, and sell" approach, which was never codified, a license was not considered sufficiently exclusive and, therefore, not an acquisition of an asset, so long as the licensee retained the right to manufacture under the patents in the United States. In promulgating the new rule, the FTC concluded that the reservation of limited manufacturing rights on the part of the licensor was "no longer adequate in evaluating the reportability of exclusive licenses in the pharmaceutical industry for HSR purposes."2
In August 2012, the FTC proposed a new rule in which a patent license in the pharmaceutical industry will amount to an asset acquisition if "all commercially significant rights" to a patent or part of a patent are conveyed. The FTC defines "all commercially significant rights" as "the exclusive rights to a patent that allow only the recipient of the exclusive patent rights to use the patent in a particular therapeutic area (or specific indication within a therapeutic area)."3 The agency provides little guidance as to what amounts to a transfer of "all commercially significant rights" other than that such rights can be transferred even if the patent holder retains limited manufacturing rights or co-rights. This is the primary effect of the new rule and what distinguishes the new treatment of pharmaceutical patents from the FTC's previous approach. The final rule was promulgated without any changes from the proposed version on November 15, 2013, and became effective on December 16, 2013.
The HSR rules already include several industry-specific exemptions, including exemptions for acquisitions of certain industry-specific assets (e.g., oil and gas reserves) and acquisitions by certain types of persons (e.g., securities underwriters, creditors and insurers, and certain institutional investors). However, this was the first time in the then-37-year history of the HSR Act that a premerger notification requirement singled out a particular industry.
PhRMA's Challenge to the New Rule
A few days before the new rule became effective, PhRMA—an industry group representing biopharmaceutical researchers and biotechnology companies—filed a complaint in federal court arguing that the new rule violated the APA and should be set aside. PhRMA moved for summary judgment, contending that the FTC: (1) lacked statutory authority under the HSR Act to issue an industry-specific rule rather than a rule of general application, (2) failed to establish a rational basis for such an industry-specific rule, and (3) failed to include in the rulemaking record the factual basis for its decision contrary to the procedure required by law. Interestingly, PhRMA only challenged the industry-specific application of the rule but not whether the FTC had exceeded its authority by improperly classifying certain types of patent licenses as asset acquisitions. Thus, even if PhRMA succeeded in its challenge, the FTC may have tried to apply the rule to all industries on remand.
Court Sides with the FTC
In denying PhRMA's motion for summary judgment and granting summary judgment for the FTC, U.S. District Judge Beryl A. Howell agreed with the agency that it was entitled to deference in its interpretation of the HSR Act's grant of authority to promulgate industry-specific rules under the relevant cases addressing promulgation of rules by agencies like the FTC.4 The court found that the rule survives the first step of the administrative deference analysis because the plain language of the HSR Act "does not mandate that the FTC only promulgate rules of general applicability and does not foreclose the FTC's issuance of an industry-specific rule." The court further found that the FTC's construction of the statute is permissible because Congress has not directly spoken on the issue and that it is entitled to deference in construing its powers to "define terms used" in the act and to "prescribe such other rules as may be necessary and appropriate to carry out the purposes" of the act as enabling it to promulgate an industry-specific rule.
Judge Howell also found that the rulemaking was not arbitrary, capricious, or an abuse of discretion because the FTC articulated a rational justification for limiting the new rule to the pharmaceutical industry, including observations that exclusive transfers of patent rights almost solely occur in the pharmaceutical industry and that transfers where the licensor retains limited manufacturing rights or co-rights have become more common for pharmaceutical companies in recent years. The court further found that that the FTC observed the procedure required by law under the APA because it included sufficient factual material in support of its decision in the administrative record and afforded PhRMA a sufficient opportunity to participate in the rulemaking process.
As a result of the district court's decision, the FTC's "all commercially significant rights" test will continue to apply to transfers of patent rights in the pharmaceutical industry. Thus, even if the patent holder retains limited manufacturing rights or co-rights, the transfer of exclusive rights to a pharmaceutical patent will be considered a potentially reportable asset transaction under the HSR Act. The new rule, however, only applies to the pharmaceutical industry. The FTC has not promulgated any rules or published any informal guidance as to whether it will apply the "all commercially significant rights" or "make, use, and sell" approach to other industries. Thus, it remains an open question whether the retention of limited manufacturing rights are sufficient to render an otherwise exclusive license to patents outside the pharmaceutical industry non-exclusive and therefore non-reportable for HSR purposes.
Parties in any industry must take heed when engaging in patent licensing transactions and engage antitrust counsel to determine whether their transaction requires notification under the HSR Act. Violations of the HSR Act, even unintentional ones, can lead to significant consequences, including civil penalties of up to $16,000 per day.
Finally, the district court's decision may not be the final word. PhRMA has up to 60 days to appeal the decision to the U.S. Court of Appeals for the District of Columbia Circuit. Wilson Sonsini Goodrich & Rosati will continue to monitor this case and related developments, including whether the FTC tries to apply the "all commercially significant rights" test to transfers of patent rights in other industries.
1 Pharmaceutical Research and Manufacturers of America v. FTC, No. 13-CV-01974 (D.D.C. May 30, 2014).
2 78 Fed. Reg. 68,705, 68,706 (Nov. 15, 2013).
3 Id. at 68,713
4 Judicial review of agency rulemaking under the APA is judged under the two-part Chevron deference standard. See Chevron U.S.A., Inc. v. Natural Res. Def. Council, Inc., 467 U.S. 837, 842 (1984). The first step of the Chevron analysis asks whether Congress has "directly spoken to the precise question at issue." Id. If yes, the court "must give effect to the unambiguously expressed intent of Congress." Id. at 843. If the statute is silent or ambiguous, then the court must proceed to the second step and defer to the agency's interpretation if it offers "permissible construction of the statute." Id.