Commentary: Subjecting reverse payments in patent cases to antitrust scrutiny: Sounds like a good idea, but can it work?

Alan Morrison is the Lerner Family Associate Dean for Public Interest & Public Service at the George Washington University Law School, where he teaches civil procedure and other courses.

On June 17, in FTC v.  Actavis, Inc., the Supreme Court by a vote of five to three largely agreed with the Federal Trade Commission (FTC) that so-called “reverse payment settlements” in some patent cases may violate the antitrust laws.

Justice Stephen Breyer wrote the majority opinion, holding that when such payments are “large and unjustified,” they may constitute unreasonable restraints of trade forbidden by the antitrust laws.  The defendants, who garnered the votes of the Chief Justice and Justices Antonin Scalia and Clarence Thomas (Justice Samuel Alito was recused), had urged that none of the Court’s prior antitrust decisions supported that outcome and that the long-standing policy favoring settlement of all disputes, particularly complicated ones like challenges to a patent’s validity, counseled against creating a new basis for antitrust liability.  The FTC, while declaring victory after the ruling was announced, had favored a stronger presumption against these payments, but will now have to live with Breyer’s middle ground.  The question is, what will happen on remand in this case, and how will future litigations over patents play out?  The answer, I fear, is not very pleasant to contemplate.

Reverse payment settlements arise in cases in which the holder of a patent sues an alleged infringer and ends up paying what are often substantial amounts of money to the alleged patent violator, instead of getting an injunction or having the money flow in the other direction.  While reverse payments may not be limited to patents in the pharmaceutical area, that is where they have mainly been made. They occur in that field because of the intersection of the patent laws with a variety of laws under which the Food and Drug Administration approves a new drug (a pioneer) following a lengthy review process and then permits generic versions to be sold after a much more expedited process.  The opinion carefully explains these processes and how they are affected by the patent laws, and vice-versa, but there is no doubt that these reverse payments take place and are for significant sums.  The FTC, quite correctly in my judgment, concluded that while some settlements may be legitimate, there is a real concern that some pioneers with questionable patents will make these reverse payments to keep the generic off the market for several years, during which they can reap monopoly profits that more than cover their settlement costs.  The generic is happy because it ends costly litigation, gets a steady stream of revenue for several years, and does not even have to manufacture the drug to realize its profit.   The losers are those who use the pioneer drug and those who pay for it, including insurance companies, Medicaid, Medicare, the Department of Defense, the VA, and health plans that are self-funding.  And in some cases, other generics that, because of special features of the law, do not have the same leverage as the first generic challenger, will lose out on the chance to make their own version if the patent is declared invalid.

But not all such reverse payments are improper.  A company with a very solid patent, but with the knowledge that there is always a chance it may be struck down and with the realization that even winning a patent case costs lots of money, may be willing to make a modest payment to gain several years of peace and profits.  The problem is separating the wheat from the chaff.  To which the majority answers, the antitrust laws forbid only those payments that are “large and unjustified.”

That leads to the next question:  how do we tell if a payment meets that test?  The Court opined that it is “normally not necessary to litigate patent validity to answer the antitrust question,” presumably because the second case is an antitrust, rather than a patent case, and because the validity issue was resolved by settlement in the prior lawsuit.  Let us take the Court at its word for the moment, and try to determine which payments are “large,” the threshold for all such claims.  First, what is the baseline or even the universe against which large is to be measured?  Annual gross revenues or net profits of the pioneer and/or the generic would be convenient yardsticks.  But most companies have many products, with different sales and profit ratios, and so the company-wide figures are likely to be an inappropriate measure of what is too large. Moreover, in all these deals, the non-compete lasts only so long, and so the open period has to be somehow taken into account.

The even more difficult question will be whether the payment is justified.  Cost of litigation is one common justification for settlement, but that cannot be the sole determinate because every lawsuit has costs, and there would be no way to distinguish justified payments from unjustified ones on that basis.  In an ordinary settlement, the plaintiff is willing to take less than the demand because of fears of not being able to establish liability and/or concern about how much damages could be proven.  But because Justice Breyer has taken the validity of the patent off the table, how will the risk of not establishing liability be shown in the antitrust case?  And even if the Court, or more likely the jury, will not actually determine patent validity, will there have to be a finding of the likelihood of the patent being upheld in terms of percentages or some other measure?   That still leaves the damages part of any reasonable settlement, and there is no way that can be determined without some reference to the patent’s validity.  In short, the Court may have created a theoretically beautiful lawsuit model that cannot work in practice.

One scenario is that the possibility of post-settlement litigation with this level of uncertainty and complexity may mean that there will be no more reverse payment settlements, good or bad.  The risk is not just that the FTC might sue for an injunction, but that consumers, state attorneys general, and/or insurance companies might bring treble-damages class actions against not only the pioneer who pays, but also the generic that receives the payments, because the antitrust violation would be an agreement that created an unreasonable restraint of trade, for which all parties to the agreement are liable.  The end of reverse payments might mean fewer patent suits involving new drugs in the first place, or the parties being forced to litigate them to the death as the only alternative.  Neither of those extremes seems wise as a policy matter.

This is not to say that the FTC and the Court majority are not onto something.  Some of these settlements are probably quite anti-competitive, given the incentives to the settling parties, and thus should be subject to some kind of antitrust scrutiny.  One solution would be for Congress to enact a statute that would create antitrust immunity if the district court approved the settlement as fair and reasonable, rather like the way that class actions are settled under Rule 23(e).  The statute would have to provide for an opportunity for interested persons to be heard, which would include players such as the FTC, state attorneys general, competitors, and consumers.  There is precedent for such a law.  In 1974, in the wake of some questionable antitrust settlements in cases such as the one against ITT brought by the Justice Department, Congress enacted the Tunney Act, which requires court approval of all such settlements based on the court’s determination that the public interest is served by the settlement.  Although the rationale for a patent version of the law, and the nature of the determination would be different, the approach would be the same.  Indeed, the certainty that no settlement of an FDA-related patent case would be protected from collateral attack without court approval would probably eliminate the most unjustifiable settlements in the first place.  While a court-approval procedure would not be without difficulty, it seems like a much more sensible approach than the kind of open-ended litigation over whether a prior settlement was too large and not justified, which is what the Court in Actavis created.

[Disclosure:  Goldstein & Russell, P.C., whose attorneys work for or contribute to this blog in various capacities, also represented Louisiana Wholesale Drug Company et al. as an amicus in support of the petitioner FTC in this case.]