The Second Circuit recently weighed in with its view of the legality of reverse payment settlements in Hatch Waxman patent litigation. In re Tamoxifen Citrate Antitrust Litigation, 2005 U.S. App. LEXIS 23653 (2d. Cir 2005). The Sixth Circuit previously found such payments to be per se illegal as analogous to market allocation agreements among competitors. In re Cardizem, 332 F.3d 896 (6th Cir. 2003). By contrast, the Eleventh Circuit rejected per se treatment if such settlements did not restrict competition beyond the exclusionary scope of the patent themselves. Valley Drug Co. et al. v. Geneva Pharmaceuticals, 344 F.3d. 1294 (2003). See also Schering Plough Corp. v. FTC, 402 F.3d. 1056 (11th Cir. 2005), cert. petition pending 2005 U.S. LEXIS 7855. In Tamoxifen, the Second Circuit largely aligned itself with the Eleventh Circuit and affirmed dismissal of the Complaint at the pleading stage for failure to state a claim for relief under Federal Rule 12(b). There was no discovery and no trial. The Court accepted the allegations of the Complaint as true and accurate but nonetheless found them insufficient. It affirmed a judgment dismissing the Complaint.

These reverse payment cases involve the intersection of patent and antitrust law with an overlay consisting of the Hatch Waxman Act. Both patent and antitrust law are designed to spur innovation. Patent law does so by rewarding the inventor with the right to exclude others, and hence a lawful monopoly, for 21 years. Antitrust law does so by outlawing conduct such as market allocation agreements among competitors. When a patent holder decides to maintain its monopoly by paying a potential generic infringer to stay out of a market, however, the two bodies of law collide. What appears to be a legitimate agreement by a patentee to maintain its lawful monopoly may in fact be a per se unlawful agreement not to compete among competitors. The FTC has launched many investigations and enforcement actions challenging the legality of reverse payment settlements under the antitrust laws.

Under Hatch Waxman, 21 U.S.C. § 355(j), the FDA approval process for a generic manufacturer of a patented drug is expedited by allowing it to file an Abbreviated New Drug Application (“ANDA”). Hatch Waxman also requires the patentee to submit patent information to be listed in the FDA Orange Book. The generic ANDA applicant must then “certify” to such patents prior to FDA approval. If the certification is under Paragraph IV – that the listed patent is either invalid or not infringed – the patentee has 45 days to file an infringement suit. If suit is filed, this delays FDA approval of the generic another 30 months, or until there is a court decision that the patent is either invalid or not infringed. Hatch Waxman thus authorizes infringement suits before the infringer has made any sales or the patentee has suffered any damages, but is threatened with the loss of its patent monopoly. This creates an incentive for the parties to settle a patent infringement suit by a payment from the plaintiff patentee to the defendant infringer to stay off the market until the patent expires. Hence the phrase “reverse payments.” The final wrinkle in this unusual statutory scheme is that the first generic to file a Paragraph IV certification is given a 180 day exclusivity period running from the earlier of when it begins commercial marketing or a court decision declaring the patent invalid. This creates an additional incentive for the patentee and the first generic to “settle” their lawsuit through reverse payments, thereby creating a “bottleneck” which blocks entry by other generics.

The fact pattern of Tamoxifenis one familiar to those following Hatch-Waxman cases, albeit with a few unusual twists and turns. Zeneca, through a predecessor, obtained the patent on Tamoxifen in 1985 with an expiration date of 2002. Tamoxifen became a widely prescribed drug for the treatment of breast cancer. Barr filed an ANDA seeking FDA approval for its generic version with a Paragraph IV certification in September 1987. Within 45 days, Zeneca sued Barr for patent infringement. The trial court found Zeneca’s patent invalid. While the appeal to the Federal Circuit was pending, however, Zeneca and Barr reached a settlement in 1993. Zeneca paid Barr a $21 million payment plus another $43 million to Barr’s suppliers over a 10 year period. The parties also filed a joint motion to vacate the trial court judgment finding the patent invalid which was granted. Barr changed its Paragraph IV certification to a Paragraph III certification (which delays FDA approval of the generic until the patent expires) with the ability to reassert a Paragraph IV if the patent was invalidated in a later lawsuit. Zeneca also granted Barr a non-exclusive license to market Zeneca’s branded version of Tamoxifen. In the 1993-2000 period, three other generic manufacturers filed ANDAs with Paragraph IV certifications. Zeneca filed infringement suits against each one. In each case, the court rejected the generic’s attempt to rely on the vacated judgment and upheld the validity of Zeneca’s Tamoxifen patent.

The plaintiffs, mainly consumers and third party payors, filed their lawsuits while the challenges to the patent by the other generics were pending. Plaintiffs alleged that the 1993 settlement agreement violated Sections 1 and 2 of the Sherman Act by, inter alia, eliminating generic competition and thereby maintaining an artificially high price for Tamoxifen. Plaintiffs asserted that, had the trial court’s invalidity decision not been vacated and affirmed on appeal, then Barr and the other generics would have entered the market well before the 2002 expiration of the patent thereby lowering the price of Tamoxifen to consumers. They emphasized that the timing of the settlement — after a court had found invalidity while appeal was pending — plus the fact that the settlement amount exceeded the profits Barr could expect to earn had it prevailed on appeal and began selling its generic version demonstrated that the settlement was anticompetitive and not just to preserve a lawful patent monopoly.

The Second Circuit first noted that litigation settlements are favored by public policy, that settlements of a patent litigation alone do not violate the antitrust laws, and the validity of such settlements should not be based on a “guess” about whether the appellate court would have affirmed the invalidity ruling. 2005 U.S. App LEXIS 23653 at 21-23. It then rejected the notion that reverse payment settlements are per se unlawful, explaining that “the Hatch Waxman Act creates an environment that encourages them.” Id. at 54. Hatch Waxman encourages the filing of Paragraph IV certifications by providing a profit incentive to companies that have not invested in the development of a drug, and the patent holder stands to gain little from winning infringement litigation other than the continued protection of its lawful monopoly. Thus, the Court saw no basis for categorically condemning reverse payments employed to lift the uncertainty surrounding the validity and scope of a patent. Id. at 24-26.

Perhaps the most noteworthy aspect of the Tamoxifen opinion, however, is its analysis of whether the reverse payments were excessive and thereby anticompetitive for that reason. Id. at 27-30. The court stated that the FTC and various commentators took the position that reverse payments to exit the market should be presumptively anticompetitive if they exceed the patentee’s litigation costs, the generic’s expected profits, the value of the patent, or some combination thereof. Here the payments exceeded the profits Barr could expect to make had it entered the market. Citing an FTC statement that “the total profits of the patent holder and the generic manufacturer . . . will be lower than the total profits of the patent holder alone under a patent-conferred monopoly,” the Second Circuit stated it would thus make “economic sense” for a patent holder to pay some of that difference to the generic to keep the patent monopoly to itself. Since that amount exceeds what the generic sees as its likely profit should it prevail in the patent suit, it likewise makes “economic sense” for the generic to accept such payment. While the court conceded that a large payment may also be motivated by a weak patent, limiting the amount of such settlements to the generic’s projected profits would not change the resulting level of competition or lower prices to consumers since the competitive effect of the settlement would be the same, i.e., there would still be no generics in the market. Thus, it would be “pointless,” said the Court, to permit settlement, thereby protecting the patentee’s monopoly over even a weak patent, but to limit the amount of the settlement to the generic’s projected profits had it won the litigation. Id. at 30.

The Court expressed its agreement with the Eleventh Circuit that, so long as the exclusionary effects of the settlement do not exceed the scope of the patent itself, it is unlikely to violate the antitrust laws. Absent an extension of the monopoly beyond the patent’s scope or fraud, the question is whether the lawsuit which gave rise to the settlement is objectively baseless under the Prof’l Real Estate Investors, Inc. v. Columbia Pictures, 508 U.S. 49 (1993) standard. That clearly was not the case here as given the later decisions upholding the validity of the patent. The Court went on to conclude that the 1993 settlement did not restrain the introduction or marketing of unrelated or non-infringing products emphasizing that Zeneca’s patent is on a compound, and not just a formulation patent, that by its nature excludes all generic versions of the drug. The settlement also ended the litigation and did not entirely foreclose competition since Barr got a license to market Zeneca’s version of Tamoxifen. Id. at 33-34.

One interesting sidebar in the case was Barr’s FDA petition to reinstate its 180 day exclusivity as the first generic, when the “successful defense” requirement for 180 day exclusivity for the first generic was removed in 1998. The FDA granted Barr’s petition, but a court later overturned the FDA decision by holding that the pre-1993 court decision finding invalidity, although vacated, was a sufficient court decision to trigger the exclusivity period, and thus it had long since expired. Although Barr’s petition was not explicitly part of the 1993 settlement, plaintiffs nonetheless asserted it was part of the Section 1 conspiracy to delay generic entry. The lower court had found Noerr-Pennington immunity for Barr’s petition, but the Second Circuit did not agree. Rather, it found that, since the settlement agreement itself was not an unlawful conspiracy, Barr’s petition was not in furtherance of an unlawful conspiracy and thus not unlawful itself. Moreover, it further found that such a conspiracy would have been implausible in 1993 when a successful defense was a precondition to such exclusivity, as Barr had given this up by vacating the trial court invalidity judgment. It then concluded that plaintiffs could not show antitrust injury from Barr’s petition since, by the time it was filed, other courts had already found the patent valid anyway. Id. at 35-36.

The last element of the 1993 settlement – the nonexclusive license to Barr for the patented version of Tamoxifen – was found by the Court to have increased competition by adding a competitor to the market, and reduced the value of the reverse payment by having money flow from Barr to Zeneca. While Barr’s version sold at retail for just five percent less than Zeneca’s and resulted in less price competition than if Barr had introduced its own generic version, this was “competition nonetheless.” Id. at 34-35.

The dissent seized upon the summary nature of the dismissal and sharply criticized the majority’s treatment of the excessive payment issue. Judge Pooler advocated a more subjective reasonableness inquiry as to the strength of the patent at the time of settlement and whether the amount of the reverse payment exceeded what the generic would have received had the appeal affirmed the invalidity ruling. As such, the dissent found the Complaint allegations sufficient to state a claim, and that a more complete factual record was necessary to evaluate the claim under the antitrust laws.

Tamoxifen signifies an emerging trend to analyze reverse payments in the context of whether the restrictions on competition exceed the scope of the patent monopoly, an issue the Supreme Court may choose to address should it grant certorari in Schering Plough. The discussion and analysis of the excessive payment issue is also quite instructive. The fact the Second Circuit affirmed dismissal at the pleading stage is quite significant, as in Valley Drug, the Eleventh Circuit remanded for further trial court proceedings. All this is not good news for the FTC enforcement actions in this area, as courts appear to be developing roadblocks to the Commission’s liability theories in reverse payment cases.

Carlton A. Varner