Policy Reversal on Reverse Payments: Why Courts Should Not Follow the New DOJ Position on Reverse-Payment Settlements of Pharmaceutical Patent Litigation

• Author: Henry N. Butler; Jeffrey Paul Jarosch
• Position: George Mason University Foundation Professor of Law and Executive Director, Law & Economics Center, George Mason University School of Law./Searle Law and Public Policy Scholar, Searle Center on Law, Regulation, and Economic Growth, Northwestern University School of Law
• Pages: 57-125

Henry N. Butler. George Mason University Foundation Professor of Law and Executive Director, Law & Economics Center, George Mason University School of Law. A preliminary draft of this paper was presented at the NERA Antitrust and Trade Regulation Seminar (Santa Fe, July 8–11, 2009). The authors thank Professors Daniel Crane, Herbert Hovenkamp, Keith Hylton, and Joshua D. Wright for their valuable comments on drafts of this Article. The authors also thank Kate Johnson, Liz Dubats, Jonell Goco, and Dylan Hanson for their helpful research assistance.

Jeffrey Paul Jarosch. Searle Law and Public Policy Scholar, Searle Center on Law, Regulation, and Economic Growth, Northwestern University School of Law.

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I Introduction

A recent change in policy by the U.S. Department of Justice (“DOJ”) articulates a new direction for courts to take in evaluating settlements to pharmaceutical patent-infringement litigation in which an allegedly infringing generic drug manufacturer agrees, for a time, to not market its product, and the patent holder agrees to give something of value, often a cash payment, to the alleged infringer. These settlements are called “reversepayment,” “exclusion-payment,” or “pay-for-delay” settlements. They are called reverse-payment settlements because the payment goes from the patent holder to the alleged infringer—the reverse direction from a typical patent-infringement suit in which the alleged infringer is likely to pay the patent holder damages.¹ The terms “exclusion payment” and “pay for delay” suggest that settlements of this type are arrangements in which the patent holder pays the potential generic competitor to stay out of the market.² Reverse payments have created significant antitrust concern. These settlement agreements have been challenged by private litigants, the Federal Trade Commission (“FTC”), and, most recently, the DOJ. These suits allege that reverse-payment settlements are agreements that unreasonably restrain trade in violation of section 1 of the Sherman Act.³

Policy surrounding reverse-payment settlements falls at the intersection of two areas of the law—patent and antitrust. Both bodies of law generally seek an optimal competition environment—patents provide incentives for innovation and market entry, while antitrust law ensures efficient competition between market participants. In considering the intersection between these two bodies of law, it is important to carefully scrutinize the policies of government administrators, who often have an institutional bias to realize short-term political gains while either ignoring future costs or not carefully considering long-term consequences for innovation and, ultimately, consumer welfare. This myopic bias alone suggests that courts should lead the way in developing the application of the antitrust laws toPage 61 reverse payments without ceding judicial analysis to the political appointees in the executive branch.

For years, the FTC has vigorously challenged reverse-payment settlements as anticompetitive.⁴ While the FTC challenged settlements of patent-infringement litigation involving reverse payments, the DOJ abstained from using its power to prosecute the same type of settlements.⁵

The FTC has been largely unsuccessful in the courts, and its efforts have resulted in a split in the circuit courts over whether reverse payments warrant antitrust scrutiny. The Second, Eleventh, and Federal Circuits have focused on the exclusionary zone of the patent, resulting in minimal exposure to antitrust liability.⁶ The Sixth Circuit has held that reverse-payment settlements are per se illegal, allowing antitrust liability under section 1 of the Sherman Act.⁷

Recently, the DOJ, now under the Obama administration, switched its policy and, for the first time, joined the FTC in pursuing antitrust liability for reverse-payment settlements. The DOJ argues for a rebuttable presumption that reverse payments are unlawful under the antitrust laws.⁸ The DOJ claims that its position is a traditional rule of reason analysis that weighs the procompetitive and anticompetitive consequences of the practice, but this claim is misleading.⁹ In reality, the DOJ seeks a truncated, structured analysis which, unlike the traditional rule of reason, includes aPage 62 presumption that reverse-payment settlements are unreasonably anticompetitive.

It remains to be seen whether this recent convergence in policy between the DOJ and the FTC will increase the government’s success rate in challenges to reverse-payment settlements. In the only case to test the DOJ’s new position, it has not been successful. In Arkansas Carpenters, the case in which the DOJ adopted its new policy, the Second Circuit stood by its precedent, refusing to accept the DOJ’s new position. However, in the per curiam opinion, the panel urged an en banc rehearing, identifying “several reasons why this case might be appropriate for reexamination by our full Court.”¹⁰

Courts, including the Second Circuit in Arkansas Carpenters, should not follow the DOJ’s new position. This position, if adopted by the Supreme Court, by a consensus of circuit courts, or by legislation, would end the process through which the courts have slowly moved from extreme rules that reverse payments are either always procompetitive or always anticompetitive to a more nuanced middle ground that would allow examination of allegedly anticompetitive settlements in the contexts in which they occur. Much antitrust doctrine has evolved through this type of process and has benefitted from analysis unfettered by the short-term bias of the political branches. The DOJ policy is inferior to the policy toward which the circuit courts are evolving—a position that allows context-specific examination of reverse-payment settlements. The misleading DOJ position claims to advocate a “rule of reason” when it in fact seeks a presumption against reverse payments.¹¹ The reality of such a presumption is that it will effectively prohibit reverse payments given the threat of antitrust enforcement and the possibility of treble damages in private suits.¹² This de facto prohibition will negate the procompetitive benefits achieved by settlement, rather than litigation.¹³

This Article argues for a return to the traditional rule of reason in analyzing reverse-payment settlements, rather than adoption of the DOJ’s presumption or the severely limited antitrust scrutiny used by some courts. Reverse payments can be procompetitive or anticompetitive under different conditions. In arguing that they are anticompetitive, the DOJ misses several aspects of the context in which reverse-payment settlements occur, including the high costs of litigation, generic manufacturers with few liquid assets, differences in parties’ estimates of trial risks, the potential for decreasedPage 63 marketing upon generic entry, the existence of bona fide side deals, and the incentive effects of any proposed rule. These elements demonstrate that reverse payments may, at times, be procompetitive. The traditional rule of reason analysis provides an inquiry flexible enough to take account of these contextual nuances and allows courts to develop simplified analyses once they gain experience with reverse payments. Courts that limit the antitrust analysis of reverse payments by applying per se rules risk committing significant errors. These errors will be costly to brand-name drug manufacturers seeking to create and market new drugs, to generic manufacturers seeking to enter markets, and ultimately to consumers seeking to purchase medications.

This Article proceeds as follows: Part II examines the legislative and judicial history of reverse-payment settlements, detailing the state of the law and the circuit split over the appropriate antitrust analysis. Part III presents an economic model of reverse-payment...