[author: Kevin E. Noonan]

Last month, the Federal Trade Commission accomplished a decade-long goal:  getting a Federal Circuit Court of Appeal (the 3rd Circuit) to support its position that so-called "reverse payments" (also known as "pay-for-delay" arrangements) between innovator pharmaceutical companies and generic drugmakers in ANDA litigation brought under 35 U.S.C. § 271(e)(2) are anticompetitve and barred by Federal antitrust law, in In re K-Dur Antitrust Litigation.  Such a ban on these agreements have been part of the Obama Administration's budget for the past few years, but neither Congress nor the courts have been willing to adopt the FTC's stance on their purported anticompetitiveness.  Indeed, most courts that have considered the issue disagreed with the FTC's position, based on their assessment that, on average, generic drugs actually come on the market sooner than they would if the patentee retained its exclusivity for the full scope of the patent term.  This rationale has been applied, in varying degrees, by the Second, Eleventh, and Federal Circuits, in Valley Drug Co. v. Geneva Pharmaceuticals, Inc., 344 F.3d 1294 (11th Cir. 2003); Schering-Plough Corp. v. Federal Trade Commission, 402 F.3d 1056 (11th Cir. 2005); In re Tamoxifen Citrate Antitrust Litigation, 466 F.3d 187 (2d Cir. 2006), Arkansas Carpenters Health & Welfare Fund v. Bayer AG, 604 F.3d 98, 105 (2d Cir. 2010); and In re Ciprofloxacin Hydrochloride Antitrust Litigation, 544 F.3d 1323 (Fed. Cir. 2008).  Where a court has found a reverse payment agreement to be anticompetitive, In re Cardizem CD Antitrust Litigation, 332 F.3d 896 (6th Cir. 2003), the facts of the case distinguished the behavior of these parties from the behavior of the other parties involved in such agreements.

To recap, the K-Dur case involved the drug K-Dur 20, a specific formulation of potassium chloride sold by Schering-Plough Co. and protected by a formulation patent, U.S. Patent No. 4,863,743.  Upsher filed its ANDA as first-filer with a Paragraph IV certification of non-infringement based on alleged chemical differences between Upsher's generic drug and Schering's branded drug product.  Schering filed suit and settlement negotiations ultimately resulted in an agreement, entered into on June 18, 1997, wherein Upsher would "refrain from marketing its generic potassium chloride supplement or any similar product until September 1, 2001."  In return, Schering agreed to grant Upsher a "non-royalty [bearing] non-exclusive license" and Upsher granted Schering non-exclusive licenses on several of its products (although Schering never marketed any Upsher products).  Schering agreed to pay Upsher sixty million dollars over three years, plus additional amounts tied to its marketing of Upsher's products under the non-exclusive license.  Finally, the agreement called for Upsher to dismiss the patent litigation and not to enter the market with its KCl product until September 1, 2001, thus forming the predicate for allegations that this was at heart a "pay for delay" agreement.

A second ANDA filer, ESI Lederle, was also involved in a separate litigation that was settled (under the supervision of a magistrate judge) with an agreement wherein ESI agreed not to market its generic KCl formulation (which, like Upsher, it alleged was not infringing) in return for a $5 million upfront payment and additional payments depending on when ESI's ANDA was approved by the FDA (an amount the District Court said varied from $10 million to $625,000 depending on the ANDA approval date); as it turns out, ESI obtained FDA approval of its ANDA in sufficient time to be entitled to $10 million, which it received from Schering.

An FTC action ensued, with the Commission alleging that the agreements between Schering, Upsher, and ESI amounted to an unlawful restraint of trade under Section 5 of the FTC act.  The Administrative Law Judge dismissed, based on his determination that the agreements included separate licensing terms that fell outside a simple "pay for delay" arrangement.  The Commission reversed the ALJ's determination, finding a "direct nexus between Schering's payment and Upsher's agreement to delay its competitive entry" and that this agreement "unreasonably restrain[ed] commerce," and that the Schering-ESI agreement violated the antitrust laws (wherein the Commission rejected the parties' contention that "judicial pressure to settle" was involved in their agreement).  The Commission did not review or rule on the merits of the underlying patent suits, creating a per se rule that:

[W]here a name brand pharmaceutical maker pays a generic manufacturer as part of a settlement, "[a]bsent proof of other offsetting consideration, it is logical to conclude that the quid pro quo for the payment was an agreement by the generic to defer entry beyond the date that represents an otherwise reasonable litigation compromise."

Under a "rule of reason" analysis, the Commission found that "the possible existence of a reverse payment raises a red flag and can give rise to a prima facie case that an agreement was anticompetitive."  Schering appealed in the Eleventh Circuit, which overturned the FTC.

This action named as plaintiffs drug wholesalers (Louisiana Wholesale Drug Co.) and retailers (CVS Pharmacy, Rite Aid, Walgreens, Eckerd, Safeway, Kroger, Albertson's, Hy-Vee and Maxi Drug) against Merck & Co. (the successor-in-interest to Schering-Plough) and Upsher-Smith Laboratories.  Characterized as "separate from the FTCs challenge" (but no doubt motivated by it), the plaintiffs here filed various lawsuits that were consolidated in the District of New Jersey by the Judicial Panel on Multidistrict Litigation (fortuitously for plaintiffs and the FTC, in an appellate circuit that had not ruled on the reverse payment practice).  A Special Master appointed by the Court filed a Report and Recommendation that the lawsuits be dismissed, based on Schering's right under the patents to "exclude infringing products until the end of [the patent's] term," and that reverse payment agreements warrant antitrust scrutiny only if they either exceeded the scope of the underlying patents or if the patent infringement lawsuits brought under the authority of the patents were objectively baseless (grounds that other appellate circuits had also considered in assessing the legality of reverse payment agreements).

The Third Circuit rejected the precedent of its sister circuits, finding reverse payment agreements to be presumptively illegal.  The opinion sets forth its view of antitrust law and its application to the reverse payment agreements before it.  The Court set forth its opinion that the proper approach is to evaluate any agreement alleged to be one that restrains trade by the "rule of reason," following its appreciation of applicable Supreme Court precedents.  In doing so, the opinion states that "the finder of fact must decide whether the questioned practice imposes an unreasonable restraint on competition, taking into account 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," citing State Oil Co. v. Khan, 522 U.S. 3, 10 (1997).  This inquiry has three parts, according to the Third Circuit:  there must be a showing of an anticompetitive effect on the market, which (if established) "shifts the burden to the defendant to show that the challenged conduct promotes a sufficiently pro-competitive effect."  The antitrust plaintiff can rebut this showing if it can establish that the restraint on trade is not "reasonably necessary to achieve the [purportedly] pro-competitive objective" asserted by the antitrust defendant.  The opinion also notes that there is a class of activities that have been deemed "unlawful per se" that includes "horizontal price fixing, output limitations, market allocation, and group boycotts," citing Copperweld Corp. v. Independence Tube Corp., 467 U.S. 752, 768 (1984).

The opinion rejected what it termed "precedent from other Circuits," namely the cases noted above that have almost unanimously found reverse payment agreements to be lawful.  The opinion noted that in each case, the appellate court found the reverse payments to be lawful based on the patent's presumption of validity and the patentee's right to exclude, and that the agreements did not involve an improper extension of that exclusionary right (as well as the policy considerations involving favoring settlements).  The panel opinion termed these considerations the "scope of the patent" test, which it identified from the Second Circuit's In re Tamoxifen Antitrust Litigation decision.  In a footnote, the panel acknowledged these decisions but, finding that they are persuasive and not binding authority and that the panel does not find the arguments persuasive, they "decline to follow [them]."

The panel then explained its analysis of this case law and why it is unpersuaded.  Put simply, the panel does not believe that the "scope of the patent" test is the appropriate test and should not entitle reverse payments to avoid antitrust scrutiny.  The opinion forms this conclusion because "that test [in the panel's view] improperly restricts the application of antitrust law and is contrary to the policies underlying the Hatch-Waxman Act and a long line of Supreme Court precedent on patent litigation and competition."  The opinion provides three grounds for this conclusion.  First, the opinion stated that it creates "an almost unrebuttable presumption of patent validity," due to the fact that the settlement "forces a presumption that the patent holder would have prevailed" in the underlying (and settled) ANDA litigation.  This presumption has (or should have) no substantive vitality, according to the panel, because it is merely 'a procedural device and is not a substantive right of the patent holder," citing Stratoflex, Inc. v. Aeroquip Corp., 713 F.2d 1530, 1534 (Fed. Cir. 1983).  The opinion also believed using the presumption of validity to uphold reverse payment agreements was "particularly misguided" when the basis for the underlying patent infringement defense is non-infringement (as it was in this case), because the burden is properly on the patentee, not the challenger, to prove infringement.  The panel opinion also "question[ed] the assumption" that subsequent ANDA filers will come forward to challenge "weak" patents.

The Third Circuit panel considered perceived pernicious effects on reverse settlements as being directed to first ANDA filers, which it asserts are the "most motivated" due to the promise of 180 days of market exclusivity.  The panel also cites several Supreme Court cases for the proposition that patent rights are "a limited exception to a general rule of the free exploitation of ideas" that indicate that "the public interest supports judicial testing and elimination of weak patents" (this in contrast to the 11th Circuit's recognition that:

No matter how valid a patent is -- no matter how often it has been upheld in other litigation or successfully reexamined -- it is still a gamble to place a technology case in the hands of a lay judge or jury.  Even the confident patent owner knows that the chances of prevailing in patent litigation rarely exceed seventy percent.  Thus, there are risks involved even in that rare case with great prospects.

The panel explicitly limited the scope of its decision to "reverse payments between patent holders and would be generic competitors in the pharmaceutical industry." It is clear that the panel was motivated at least in part by its perception, as argued by the FTC, that reverse payment settlement agreements were contrary to and in contravention of Congressional goals of "increase[ing] the availability of low cost generic drugs" (despite findings in other circuits that in some circumstances reverse payment settlements do just that).  Nevertheless, the panel found that "[t]he line that Congress drew between these competing objectives [of stimulating innovation and furthering the public interest] strongly supports the application of rule of reason scrutiny of reverse payment settlements in the pharmaceutical industry."  And the panel limits the scope of its decision only to settlements that involve payments from the patentee to the putative generic competitor:  "[n]othing in the rule of reason test that we adopt here limits the ability of the parties to reach settlements based on a negotiated entry date for marketing of the generic drug:  the only settlements subject to antitrust scrutiny are those involving a reverse payment from the name brand manufacturer to the generic challenger."  According to the Court, "the vast majority of pharmaceutical patent settlement [will be] unaffected" by its ruling.

The proper procedure under Third Circuit law is thus to use a "quick look" rule of reason analysis "based on the economic realities of the reverse payment settlement rather than the labels applied by the settling parties" and that "any payment from a patent holder to a generic patent challenger who agrees to delay entry into the market as prima facie evidence of an unreasonable restraint of trade."  In doing so, the Court also "agrees [] with the FTC that there is no need to consider the merits of the underlying patent suit because '[a]bsent proof of other offsetting consideration, it is logical to conclude that the quid pro quo for the payment was an agreement by the generic to defer entry beyond the date that represents an otherwise reasonable litigation compromise,'" citing the Commission's Final Order in this matter that was overturned by the 11th Circuit.

Merck has now petitioned for certiorari; the Question Presented is:

Whether the federal antitrust laws permit a brandname manufacturer that holds the patent for a drug to enter into a settlement of patent litigation with a prospective generic manufacturer, where the settlement includes a payment from the brand manufacturer to the generic manufacturer but does not exclude competition beyond the scope of the patent.

According to the petition, there are three reasons why certiorari should be granted.  First, the Third Circuit's decision creates a "circuit split" below regarding the "appropriate standard" to be applied in assessing antitrust liability for settlements of ANDA litigation between branded and generic drug makers.  Second, this case is an "ideal vehicle" for the Court to consider the question.  The "divergent legal standard" applied by the Third and Eleventh Circuits were applied "in reviewing the very settlements at issue [in this case]" (emphasis in petition), a circumstance where "the Court can be not only confident, but certain, that a circuit conflict concerning the appropriate legal standard is squarely implicated, because two courts of appeals have applied different legal standards to the same facts," citing United States v. American Can Co., 280 U.S. 412, 415-16 (1930).  In addition, in this case the Court would have the benefits of an extensive record, including the proceedings before the FTC, the District Court and two appellate courts.  Finally, the petition asserts that the Court will hear from all interested parties -- branded and generic drug makers, private plaintiffs including wholesale and retail drug stores, and the government.  Third, the petition characterizes the Question Presented as "an exceptionally important and recurring one" with great "legal and practical significance."  Moreover, "[f]urther percolation [] would serve no useful purpose."  And, "if left undisturbed, the decision of the Third Circuit -- a circuit with jurisdiction over many of the Nation's major pharmaceutical companies -- promises to have a chilling effect on patent settlements between brand manufacturers and generic manufacturers."  But while the Third Circuit's decision may appear to be limited to settlements where there is an actual payment from the branded drug maker to one or more generic companies, the petition notes that, "[s]eemingly emboldened by the Third Circuit's decision, however, the FTC has recently taken the position in litigation that 'payments'  include terms of settlements that cannot meaningfully be characterized as payments at all, such as terms concerning the entry of brand manufacturers' own generic versions, citing the FTC Brief in In re Effexor XR Antitrust Litig., Civ. No. 11-5479 (D.N.J.) (filed Aug. 10, 2012).

It is unlikely that any of the parties -- or the government -- will oppose this petition, making it likely for that reason alone that the Court will grant cert.  And insofar as this is in many respects a "patent" case, it seems even less likely that the Court will resist the siren call of another opportunity to consider this area of the law.