FTC Patent Rules Overcome PhRMA’s Challenge

On May 30, 2014, the federal district court of the District of Columbia, Judge Beryl Howell upheld the Federal Trade Commission’s (“FTC”) newly adopted HSR rule governing reporting of transfers of certain exclusive patent rights in the pharmaceutical industry.

The rule was adopted in November of 2013.  The Pharmaceutical Research and Manufacturers of America (“PhRMA”) trade association filed suit to block the new rule, arguing that the FTC (1) lacked statutory authority to issue an industry-specific rule rather than a rule of general application; (2) failed to establish a rational basis for such an industry-specific rule; and (3) failed to comply with legally required procedures.  On February 7, 2014, PhRMA filed summary judgment papers asking a federal judge in Washington, D.C. to vacate a FTC rule specifically requiring pharmaceutical companies to report certain transfers of exclusive patent licenses for antitrust approval.  On cross motions for summary judgment, the court rejected PhRMA’s claims and upheld the rule.

Background

The FTC issued final rules under the Hart-Scott-Rodino Antitrust Improvements Act of 1976 (“HSR Act”) relating to the transfer of exclusive patent rights in the pharmaceutical industry.  These new FTC rules went into effect on December 16, 2013. The rules clarify when transfers of rights to a patent in the pharmaceutical sector are deemed a potentially reportable acquisition of assets under the HSR Act, and expand application of the HSR Act to exclusive licenses where the licensor retains limited patent rights to manufacture product for the licensee.

It has been the longstanding position of the FTC Premerger Notification Office that the HSR Act’s pre-acquisition reporting obligations apply to exclusive patent licenses, as well as assignments of intellectual property rights.  Historically, the FTC interpreted a license to be exclusive, and thus subject to the HSR Act as an asset acquisition, if a license (such as for a particular field of use) is exclusive in some aspect as to all parties including the licensor.  If the license is not exclusive in any aspect, then it is not considered an asset transfer and therefore is not subject to the HSR Act.

The new HSR Act rules treat the transfer of “all commercially significant rights” to a pharmaceutical patent to be a potentially reportable act.  For example, the FTC found that licensors often retain a right under the patent to manufacturer a product, provided that the licensor may only manufacture products for the licensee.  Under the historical approach, this retention of limited manufacturing rights would render the license not reportable.  In contrast, under the amended rules, a license would be regarded as transferring all commercially significant rights, and potentially reportable, despite the limited reservation of manufacturing rights for the licensee.

The FTC has also seen many instances where licensors retain the right to co-develop, co-promote, co-market, and co-commercialize product along with the licensee.  The amended rules codify the FTC approach that such “co-rights” to assist the exclusive licensee in developing and commercializing a product covered by a patent do not render a license non-exclusive.  Although providing new definitions and clarification, the revised rules generally treat the reportability of exclusive license arrangements in the same way the FTC has for decades, with the exception that the retention of a limited right to manufacture exclusively for the licensee will no longer render a license non-exclusive.

The amended rules only address transfers of patent rights for patents covering products whose manufacture and sale would generate revenue within NAICS Industry Group 3254 (pharmaceutical and medicine manufacturing), including medical and botanical manufacturing, pharmaceutical preparation manufacturing, in-vitro diagnostic substance manufacturing, and biological product (except diagnostic) manufacturing.

The license transfers in these industries that are regarded as potentially reportable asset acquisitions under the amended rules are those that transfer “all commercially significant rights” — in other words, the exclusive rights to use the patent in a particular therapeutic area (e.g., cardiovascular use or neurological use) or a specific indication within a therapeutic area (e.g., Alzheimer’s disease within a neurological therapeutic area).  Thus, a patent license can be subject to reportability under the HSR Act even if it only transfers exclusive rights to part of a patent.

In short, the amended rules make explicit that “all commercially significant rights” are transferred even though the patent holder retains (i) limited rights to manufacture product under the patent for the licensee; or (ii) co-rights which for this purpose means shared rights that are retained by the patent holder to assist the party receiving exclusive patent rights in developing and commercializing the product covered by the patent. Such co-rights include, but are not limited to, co-development, co-promotion, co-marketing, and co-commercialization.

PhRMA’s Argument

PhRMA, the primary trade association for U.S. pharmaceutical makers, argues on behalf of its members that the FTC rule, which expanded the types of pharmaceutical patent-licensing arrangements that must be reported to the FTC for antitrust approval, is above and beyond the scope of the HSR Act.  In particular, PhRMA is arguing that HSR intentionally and specifically “withheld from the [FTC] the authority to promulgate rules targeting particular industries.”  According to PhRMA, “no facts, no credible evidence, and no empirically based analysis were introduced to support the rule or indicate that the rule was needed in the pharmaceutical sector alone.”  This is in addition to the extensive financial burden that the rule would force upon PhRMA members—supposedly to the tune of over $8 million a year—and delays to the introduction of vital drugs for patients.

FTC Argument

According to the FTC, the new rules apply exclusively to the pharmaceutical industry because “this is where the need for clarification” is and “where the Commission has experience with the relevant transactions.”  Moreover, for the five-year period ending December 31, 2012, the FTC received filings for 66 transactions involving exclusive patent licenses, and all were for pharmaceutical patents.

The FTC also says that its new rules simply capture more completely its approach and long-standing position.  Namely, the new rules provide that (1) the transfer of exclusive rights to a patent or part of a patent in the pharmaceutical industry is a reportable asset transfer if it allows only the recipient to commercially use the patent as a whole, or part of the patent in a particular therapeutic area or specific indication within a therapeutic area, (2) the retention of co-rights does not render a license to the patent or part of the patent as non-exclusive, and (3) a reportable asset transfer may occur even if the licensor retains the limited right to manufacture under the patent or part of the patent for the licensee. The FTC also suggests that the new rule would only on average cost $1 million per year of additional licensing fees.

Judge Howell’s Opinion

In a 70 page opinion, Judge Howell ruled in favor of the FTC.  Judge Howell held that the FTC is entitled to deference on scope of statutory authority.  Moreover, Judge Howell found that the FTC did not exceed its authority because the HSR Act does not directly address industry specific rules.  While PhRMA argued that the FTC is to apply the HSR act uniformly to all similarly situated persons, Judge Howell concluded that the purpose of the HSR Act is not uniform application but prophylactic prevention of anticompetitive mergers.  The FTC argued that the HSR Act, which established the premerger notification rules do not prevent the Commission from applying industry-specific requirements.  Judge Howell agreed and held that the HSR Act authorizes the Commission to define critical terms in order to target those transactions triggering the reporting requirement.  As Judge Howell put it, the FTC views patents as assets and the transfer of patents may be reportable.  Judge Howell also held that the FTC’s rulemaking was not arbitrary, capricious, or an abuse of discretion.  Finally, Judge Howell held that the FTC’s rule making record included sufficient factual material in support of its decision.

Concluding Thoughts

Judge Howell’s ruling represents a significant victory for the FTC.  That being said, the new rule is unlikely to significantly increase the number of premerger filings that pharmaceutical companies make or to increase enforcement in the pharmaceutical industry.  Although these updated FTC rules focus on and provide clarification to exclusive licenses in the pharmaceutical area, it has been and will remain the position of the FTC that exclusive patent licenses (i.e., those that are exclusive even against the licensor) regardless of the industry are subject to the HSR Act, assuming the HSR Act reporting thresholds are met and no exemptions apply.  The new rules, however, make clear that certain transactions are included so it does increase the burden on pharmaceutical companies to report under the HSR Act.

Andre Barlow
202-589-1838
abarlow@dbmlawgroup.com

Mark Ye
202-589-1834
mye@dbmlawgroup.com