Loyal to investigating pharma product discounts? - New CMA investigation

The Competition and Markets Authority (“CMA”) has recently opened a new investigation into product discounts in the pharmaceutical sector. This news follows hard on the heels of the CMA’s closure of a year-long investigation into a similar issue with another (unnamed) pharmaceutical company. The CMA intends to conduct an initial information-gathering phase, with a view taking a decision on whether to proceed with the investigation by May 2016. 
As we discussed here, the CMA’s previous investigation into pharmaceutical discounts was closed in accordance with the CMA’s Prioritisation Principles. The CMA decided on ‘administrative priority grounds, not to continue its investigation because it longer fitted within the CMA’s casework priorities’. The CMA did, however, offer some guidance on potential competition concerns arising from the offering of discounts or rebates, an indication that it was taking these potential abuses of competition seriously even though such offerings tend, in the short term, to result in lower prices for the NHS.  It also noted that the “decision to close this investigation should not be taken to imply that the CMA would not prioritise investigations into suspected loyalty-inducing discount schemes in the future”, a comment which appears to be borne out by the new investigation.

In comparison to investigations against excessive pricing (the CMA issued a Statement of Objections against Pfizer and Flynn Pharma in relation to such allegations back in August), the CMA’s decision to investigate low prices can seem counter-intuitive. After all, one of the primary aims of competition law is to ensure that prices are competitive. 

The danger is of course that if a dominant company keeps prices artificially low through discounts, it can prevent a newcomer from entering the market. In order to compete on price to win sales from the dominant company, the newcomer would essentially have to compensate the customer for the loss of the discount it would otherwise have received.  Restricting new players’ access to the market in this manner can stifle innovation, and may mean that the end-user is worse off in the long run. Loyalty discounts can make it particularly difficult for third parties to access the market, depending on how they are structured, as recently confirmed by the CJEU in Post Danmark II (available in English here). In that case, the Court rejected the requirement of a de minimis threshold that would have to be met before a finding of abuse of dominance could be reached.  This may assist competition authorities to meet the threshold for a case to be brought. 

However, despite this decision, a case of this kind is unlikely to be straightforward for the CMA.  In addition to proving the dominance of the pharmaceutical company in question, the discount scheme must be shown to be capable of restricting competition.  And of course, as in its previous investigation, the CMA will have to consider its Prioritisation Principles, including whether it has sufficient resources and whether the discount scheme has a significant enough impact to warrant seeing the investigation through to a conclusion.

US Court guidance on principles to apply for RAND royalty calculations

In a useful addition to the pool of incremental guidance on RAND royalties, the US Court of Appeal for the Federal Circuit (“CAFC”) has recently given judgment in CSIRO v Cisco on a damages only trial relating to a patent essential to the IEEE 802.11 WiFi standard.

Whilst the decision is of course US-centric, with the Georgia Pacific criteria featuring heavily, it builds on the previous CAFC decision in Ericsson v DLink (see our blog here) and offers commentary on broad principles that may well be of use this side of the Pond.  In particular the judgment focuses on two core issues: 

1. Smallest saleable unit

Cisco (the defendant) argued that damages models must begin with the smallest saleable unit. This is a methodology that can be helpful. If the smallest component in which the patent is implemented can be identified, and royalties charged using that component as a base, it avoids the risk that the patentee will capture some value from elements of the final product that do not depend on the patented technology. This, understandably, is an attractive prospect for any company faced with paying royalties.

However, the CAFC found this argument ‘untenable’; it conflicts with the use of other CAFC approved methodologies, such as the use of comparable licences to determine value (as the District Court had validly done in this case). The CAFC noted that different cases may require different methodologies. 

It also reiterated that the entire market value rule exists as a narrow exception to the smallest saleable unit principle; the patentee can rely on the end product’s entire market value as a royalty base where it can prove that the patented invention drives demand for the end product. This is of particular relevance in the US context where, as the CAFC noted in Uniloc v Microsoft, the value of the end product can ‘skew the damages for the jury’. 

2. Standardisation

The CAFC reaffirmed its finding in Ericsson that the patentee should only be compensated for the incremental benefit to the user which arises from the patented invention, and not for the additional value that can be attributed to the patent due to it being essential to a standard. To do otherwise would prevent the benefit created by standardisation from flowing to consumers and businesses practising the standard as intended. 

Furthermore, the CAFC found that in this case, the District Court had erred in law by using the parties’ informal negotiations as a basis for valuation without accounting for the possibility that the rates mentioned in negotiation might have been affected by standardisation and might need to be adjusted.

There is an interesting comparison to be drawn between the findings of the CAFC and the principles espoused by the newly established Fair Standards Alliance (“FSA” - see our blog post here), of which Cisco is a member. Whilst the FSA and CAFC are in agreement that any (F)RAND royalty should avoid apportioning any value to the patent that is attributable to its inclusion in the standard alone, the FSA favours the use of the smallest saleable unit in the majority of cases. Whilst there is no obvious tension between this and the CAFC’s ruling that the smallest saleable unit should not always be used as the royalty base; it’s a difference in emphasis that may be drawn out further in the future. 

The CAFC judgment is well worth a read. In addition to the above, it also suggests that similar principles should apply to SEPs generally, not just those subject to RAND commitments, and comments on the relevance of comparable licence agreements. It also has the unarguable benefit of being fairly short.

New industry coalition established to promote FRAND licensing

A group of companies has recently formed a new coalition to promote the licensing of standard essential patents ("SEPs") on fair, reasonable, and non-discriminatory ("FRAND") terms.  The Brussels-based Fair Standards Alliance ("FSA") was launched in mid-November, and the diversity of the member companies is striking.  Members include multinationals such as Cisco, Dell, HP, Intel, Lenovo, Sierra Wireless, BMW and Volkswagen, as well as a number of SMEs.  According to the FSA, the aggregate turnover of the member companies is more than €430 billion.

The Alliance states that its aim is to make SEP licensing more transparent and predictable, arguing that FRAND must have a clearer meaning if standards are to foster innovation, economic growth, competition, and consumer choice.  In an introductory position paper, the FSA makes clear that [a]buses of commitments to license [SEPs] on [FRAND] terms are [its] primary concern”.  It claims that unfair and unreasonable SEP licensing practices “pose a significant risk to the innovation eco-system, create barriers to entry for new market players, threaten to stifle the full potential for economic growth across major industry sectors, and ultimately harm consumer choice”

The FSA’s position paper sets out a number of ‘key principles’ relating to the licensing of SEPs, and suggests that FRAND should, at a minimum, mean the following:

  • A SEP holder should make licences available at any point in the value chain where the standard is implemented, and the key terms of those licences should be transparent to other companies implementing the same standards;
  • A FRAND royalty should reflect the value of the invention, and should also take into account the overall royalty that could be reasonably charged for all patents that are essential to that standard;
  • Injunctions and similar legal threats should be a last resort;
  • A FRAND commitment made in respect of a SEP should not fall away simply because the SEP is transferred to another company.
The Alliance emphasises the importance of an appropriate royalty base, suggesting that in most cases a FRAND royalty should be based on the ‘smallest saleable unit’ that implements the SEPs in question – and that it “should reflect only the value of the SEP, not the additional value conferred on it by its inclusion in the standard”.  In what is perhaps a sign of the times, the FSA also intends to address the prevalence of portfolio fragmentation. It argues that the diffusion of SEP portfolios over “more and more independent owners can exacerbate the problem of royalty stacking” (that is, the phenomenon whereby the royalties independently demanded by multiple SEP holders do not account for the presence of other SEPs and thereby lead to an inappropriately high overall royalty burden for implementers).  In addition, the Alliance urges standard-setting organisations and regulators to remain vigilant in ensuring that the initial transferee and all subsequent transferees remain bound by the FRAND commitment in situations where FRAND-encumbered SEPs are transferred. 

The foundation of the FSA reflects a trend toward clarifying – or at least attempting to clarify – the meaning of FRAND.  As we commented here, earlier this year the IEEE (the US standards body which developed the wi-fi standard) made a series of changes to its IP policy, placing limits on the ability of SEP owners to obtain injunctive relief and stipulating that SEP royalties should be based on the ‘smallest saleable unit’.  Some see these changes as striking at the heart of many SEP holders’ business models.  

At an IBC Legal conference that took place in London last week, representatives of Ericsson and Qualcomm warned that some SEP holders may become more reluctant to license their technologies if the recent changes to the IEEE’s IP policy are adopted more widely.  Speaking in her personal capacity, Claudia Tapia, a director at Ericsson, said: “If we are going to have extreme policies, like IEEE, where you favor one business model over another … I can imagine that technology leaders won't have the incentive to continue to share the best technology in standardisation."  Dan Hermele, a senior director at Qualcomm, also expressing his personal views, said that the IEEE had “made 'FRAND' stand for 'fragmentation, devaluation and delay'."  Dirk Weiler, the chairman of the board of ETSI, agreed with Tapia that some companies might become more reluctant to share their technology.  "If the FRAND concept gets developed in a way like IEEE has now implemented it, on a larger scale, […] every contributor of technology will be very careful … [and will be] unwilling to accept rules which do not allow you any more to monetise your technology," he said.

The FSA’s definition of FRAND is very similar to the one that the IEEE adopted earlier this year.  In pushing for more transparent – and lower – licensing royalty rates, the FSA has put itself on a collision course with some industry players who seek high financial rewards for the standard essential technologies that they have developed.  There has been a mismatch in the standardisation world between the expectations of SEP holders and manufacturers of products that implement SEPs for a number of years now, but the rift now seems to be deepening, rather than narrowing.  This is perhaps unsurprising: the stakes are high, particularly at a time when more and more devices depend on connectivity / interoperability.  (It is noteworthy that the FSA’s members include not just IT and mobile telecommunications companies, but also two big players in the automotive sector.)  And it seems likely that the debate over what FRAND means will only intensify as the market for the ‘Internet of Things’ grows and various appliances become connected to the internet for the first time.

6th Report on the Monitoring of Patents Settlements – déjà vu?

Last week the Commission published its 6th report on the monitoring of patent settlements, exploring the use of such agreements in the pharma sector in the EU during 2014.  The report triumphantly declares that the number of agreements which limit access to the market and contain a value transfer, attracting the highest degree of antitrust scrutiny, has “stabilised at a low level”.  It also claims that an increase in the total number of settlements (compared with the period before the pharmaceutical sector inquiry) demonstrates that companies have not been deterred from concluding settlements in general. 

Unfortunately the Commission’s conclusions are based upon a shaky foundation – the same criticisms made of the 5th report last year can be made again here.  This report similarly contains a fairly limited review of the impact of the Commission’s overall policy. 

First, the report  fails to consider a number of other reasons that may have contributed to or caused the number of patent settlements to increase in recent years compared with the period before 2008 (e.g. number of medicines losing patent protection, general increase in litigation, greater readiness of parties to settle and the introduction of new legislation).  The report doesn’t explain how, if at all, it has allowed for these variables in reaching its conclusions.  The report also overlooks the reduction in the number of patent settlements concluded each year since 2012.  It is therefore difficult to say with any certainty how the Commission’s enforcement activities in this area have affected the willingness of companies to engage in or to settle their patent disputes more generally. 

Second, the categorisation of patent settlements is flawed: settlements which involve a genuine compromise (as opposed to one party or the other just giving up) would most likely involve some form of limitation on access to the market and potentially some form of value transfer (as defined by the Commission).  It does not therefore follow that a decrease in the number of settlements of this type is necessarily a measure of effective antitrust enforcement or indeed that it enhances consumer welfare.  Given the uncertainty that faces parties in the pharma sector who may be contemplating settlement it is no surprise that they may be cautious in concluding agreements of this kind.  

Drawing reliable conclusions about the effect of the Commission’s enforcement activities on the settlement proclivities of the pharma sector would require something much less superficial than this annual scanning of the horizon.  This applies with even greater force to any attempt to draw conclusions about the overall effect of Commission competition policy on the sector; its impact on the speed and effectiveness of generic entry; and whether the Commission’s focus on that issue has indeed incentivised pharma companies to invest more in developing innovative products or fundamental R&D – an original rationale for the sector enquiry and all that flowed from it.

Approaches to Drugs Going Off-Patent: Naughty or NICE?

Last month the CMA published its evaluation of the OFT’s 2011 decision concerning Reckitt Benckiser’s withdrawal of Gaviscon prescription packs (which we wrote about, in the context of follow-on actions, here).

Such evaluations assess the validity of previous decisions and their impact, but are also a window into to the ‘mind’ of the CMA and can indicate what the CMA may investigate in the future.

The OFT’s original investigation considered whether Reckitt had abused a dominant position by hindering generic entry in competition to its prescription drug Gaviscon Liquid, an alginate-based compound used to treat acid reflux. 

Shortly before expiry of the patent covering Gaviscon Liquid, Reckitt launched a new formulation, Gaviscon Advance, which was protected by a further patent.  At around the same time, Reckitt withdrew Gaviscon Liquid from the database of prescription NHS drugs.  Had the product not been withdrawn, the OFT concluded that it would have been easier for doctors to prescribe generic versions of Gaviscon Liquid.  Instead, most patients were transferred onto the new Gaviscon Advance product for which there was no generic alternative, and which therefore resulted in higher costs for the NHS.  Consequently, the OFT concluded that Reckitt Benckiser had abused a dominant position. 

A focus of the recent CMA review was whether the OFT would have achieved greater impact had the investigation been concluded earlier.  The CMA’s conclusion was that any intervention would have had to take place very shortly after the withdrawal if it were to have had any greater impact.  Such an outcome would be difficult to achieve in practice, since competition investigations are usually complaints-based rather than the result of continuous monitoring.  Vast resources would be required to monitor the country’s economy in this way – such an approach would be disproportionate to any gain.

So much for the CMA’s introspection.  Of particular interest to companies active in the pharmaceutical sector is the fact that the CMA places an increasing emphasis on intelligence-led enforcement. While the CMA’s main targets are cartels, the evaluation of the Reckitt decision suggests that “there could be merit in taking a more proactive approach to monitoring drug markets when originator drugs go off patent”.  This would be of concern to the innovative pharmaceutical industry.  Coupled with the recent reduction in the standard for interim measures to be imposed by the CMA, this is an area where increased vigilance may be needed.  

While the CMA is pondering how to react to drugs going off-patent, Parliament is considering the same topic.  The Off-Patents Drugs Bill is due to continue its second reading in the Commons later this week (due on 4 December 2015).  If the Bill were to pass, the Secretary of State for Health would be required to take steps to secure licences for off-patent drugs in relation to new indications.  NICE would then conduct a technology appraisal.  If NICE recommends the drug for the new indication, the relevant health bodies would provide funding to ensure the drug is available for patients.  

However, the chances are that the bill won’t make it to the statute books. It’s the second time that MPs have tried to pass the Bill in little over a year – its second reading was adjourned last month, and the Bill was abandoned in the last parliamentary term due to lack of support.  Perhaps part of the problem is that little thought appears to have been given to the interaction between legislation of this kind and other patent protection which may be available for new indications.  Indeed, for many drugs, the expiry of the main chemical compound patent does not mean that there is no longer any relevant patent protection.  It is unclear how this bill would apply if there are already second medical use patents in play, or other forms of continuing protection.  Nevertheless, the bill’s promotion by a number of medical charities demonstrates the continued and understandable desire for cost-effective new medicines.