Antitrust and Unfair Competition Law

Competition: Fall 2015, Vol 24, No. 2


By Jordan Elias1

Justice Cardozo summed up the essential challenge of deciding cases with a single sentence: "There are gaps to be filled."2 Gap-filling best describes the judicial function that a unanimous California Supreme Court performed this year in its major antitrust decision in the Cipro reverse payment litigation.3 Confronting spaces in the law left by the U.S. Supreme Court in its own recent reverse payment decision—FTC v. Actavis, Inc.4—the California court elaborated at length on why reverse payment agreements must be treated as suspect under the rule of reason and how a reverse payment trial under the Cartwright Act5 must be structured.

The California Supreme Court’s Cipro decision is binding authority as to Cartwright Act claims in state and federal courts and, in my view, should also be persuasive authority for courts interpreting and applying Actavis. As one federal judge remarked, Cipro contains "one of the most thorough and thoughtful discussions of Actavis yet"; it explains "that ‘the period of exclusion attributable to a patent is not its full life, but its expected life had enforcement been sought,’ and that ‘[t]his expected life represents the baseline against which the competitive effects of any agreement must be measured.’"6

The authoritative guidance and reasoning in the Cipro decision should inform the prosecution, management and resolution of reverse payment claims, under California law and otherwise, for years to come.7 Where Actavis left questions, Cipro supplied answers grounded in existing antitrust principles and economic analysis, from the high court of the most populous state. And to the extent Cipro has a lasting effect on the contours of future reverse payment cases, and on antitrust law in general, it will be because the California Justices refused to dodge the issues that have made reverse payments such a conundrum.

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Few if any business developments over the past generation have produced as much consternation among antitrust practitioners and commentators as reverse payments. These are payments with which a brand manufacturer of a valuable prescription drug, whose patent comes under attack in the brand’s own suit for infringement, settles with the defendant generic manufacturer. The settlement payment is known as "reverse" because the plaintiff in the patent infringement suit (the brand) is making it, and to a defendant with no counterclaim for damages. In exchange for dropping its legal challenge to the drug patent, the generic receives a chunk of the brand’s profit stream over the life of the patent monopoly. Sometimes this payment can even surpass what the generic would have earned from selling the drug in a competitive market, giving the generic an incentive to accept the deal even if it is certain it can strike down the patent. Thus, where there was once a chance the patent would be declared void, with generic competition thereafter flooding the market to reduce prices, a reverse payment barricades the asserted patent monopoly and ensures high prescription drug prices for consumers and insurers alike, often for several years.

What made reverse payments—also known as "pay-for-delay" settlements—so perplexing as a matter of jurisprudence? The main factors, it is now apparent, were their novelty and courts’ reluctance to engage with patent law issues.8 No other factors can explain why the pre-Actavis case law spanned the full range of antitrust standards in less than a decade. Pharmaceutical companies argued—for a time, with growing success—that the underlying patent must be presumed valid and there can be no violation if the payment excludes no more competition than the patent already excludes. They also raised the specter of the settled patent suit having to be reopened and tried within the confines of an antitrust suit. From 2003 to 2012, a line of federal cases constructed an immunity making that unappealing prospect unnecessary.9

But neither the U.S. Supreme Court analyzing the Sherman Act, nor the California Supreme Court analyzing the Cartwright Act, accepted these formalistic arguments or the speculative claims that subjecting reverse payments to scrutiny would dampen innovation or burden settlement of patent cases.10 Both courts instead held that the antitrust laws prohibit a payment to avoid even "the risk of competition,"11 or, in the California court’s refraining, to gain "freedom from the possibility of competition."12 This is the key antitrust insight: the inherent uncertainty about how a fact finder would have decided the patent suit militates not against, but in favor of a subsequent antitrust suit over the payment that neutralized the simple threat of market entry. This insight, in turn, gives rise to a rule of reason with "bite" that should go a long way toward deterring this form of collusion among firms. Experience shows that drug patent cases under the Hatch-Waxman Act are perfectly capable of settling on procompetitive terms—for example, through licenses that account for the risk of invalidation by allowing generic entry before the patent is scheduled to expire.13

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In Actavis, the U.S. Supreme Court "left] to the lower courts the structuring" and operation of the rule of reason in the reverse payment setting.14 The California Supreme Court, for its part, held that although Actavis "is not dispositive" on issues of California law,15 "the rule we adopt is in harmony with Actavis, which offered only broad outlines and explicitly left to other courts the task of developing a framework for analyzing the anticompetitive effects of reverse payment patent settlements."16

What characterizes the framework the California Justices put in place?

In three significant ways, without creating a conflict, the Justices built upon Actavis to settle expectations surrounding reverse payments.

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First, Actavis says nothing about reverse payments that do not take the form of cash. The omission matters because pharmaceutical companies have lately been camouflaging reverse payments as transfers of intellectual property or other assets or valuable consideration providing the equivalent of cash to would-be challengers.17 Cipro, by contrast, condemns outright this trend of "noncash forms of consideration": "courts considering Cartwright Act claims should not let creative variations in the form of consideration result in the purchase of freedom from competition escaping detection."18 Nor, the California court declared, should side deals relating to other goods or services "be permitted to serve as fig leaves for agreements to eliminate competition."19 These statements will prevent drug makers from defeating reverse payment cases under California law with contentions that their wealth transfer did not include cash.

Second, Cipro eschews "rigidly distinct analytic boxes" for antitrust analysis, endorsing a "more nuanced approach" by which courts tailor antitrust rules to particular restraints and legal or economic contexts.20 Following this approach, Cipro lays out a detailed, "structured" rule of reason for reverse payment trials.21 Plaintiffs make out their case-in-chief by showing that the patent settlement (1) limits the generic’s market entry, and (2) includes cash or other financial consideration from the brand to the generic exceeding (a) the value of any other goods and services that the generic agrees to provide to the brand (apart from the delayed entry), plus (b) the brand’s anticipated costs to litigate the patent suit to a conclusion.22 Actavis mentions elements 2(a) and 2(b) without specifying how they might figure in a trial.23 Cipro, however, realistically requires the antitrust defendants to come forward with evidence on these points, once the plaintiff has shown a payment for delay, because "these are matters about which the settling parties will necessarily have superior knowledge."24 If the defendants fail to meet this burden of production, or if the plaintiff persuades the fact finder that the reverse payment exceeds the brand’s remaining litigation costs plus the value of any collateral benefits it is to receive, the plaintiff has met its burden of proving anticompetitive effects and market power.25 The reason is that "[i]fa brand is willing to pay a generic more than the costs of continued litigation, and more than the value of any collateral benefits, in order to settle and keep the generic out of the market, there is cause to believe some portion of the consideration is payment for exclusion beyond the point that would have resulted, on average, from simply litigating the case to its conclusion."26 A payment of that nature violates the antitrust laws.27

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Third, while the burden then shifts to the defendants to present evidence of procompetitive effects, the logic of Cipro forecloses all or most patent-based justifications for reverse payments. According to Actavis, "it is normally not necessary to litigate patent validity to answer the antitrust question (unless, perhaps, to determine whether the patent litigation is a sham)."28 Cipro quotes this language and adds a significant gloss that cuts off the ability to relitigate the patent itself.29 Most importantly, Cipro makes clear that "consideration of whether the agreement is justified as procompetitive will not turn on whether the patent would ultimately have been proved valid or invalid."30 Nor can the drug makers assert that their agreement "allows competition earlier than would have occurred if the brand had won the patent action."31 They therefore cannot contend that the patent would have been upheld absent the settlement, for "[a]greements must be assessed as of the time they are made, at which point the patent’s validity is unknown and unknowable."32 What matters is the state of affairs when the antitrust defendants settled their patent dispute, and a reverse payment larger than the brand’s saved litigation costs and any side consideration itself demonstrates that the settlement resulted in more exclusion than would otherwise, on average, have prevailed in the market for the prescription drug.33 Cipro thus lends support to the jury instruction that a group of distinguished antitrust scholars proposed, following Actavis, for reverse payment trials: "You may not consider the validity of the patent as a defense."34

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In these three areas, the California analysis reveals the common law process of iterative decision making at work: we now have Cipro corollaries to go along with the Actavis doctrine. And the California Supreme Court extended the U.S. Supreme Court’s teachings in a manner that should give drug firms pause before striking more reverse payment deals and risking treble damages. For if there was one principle of law that the California court crystallized and amplified, it is that payments to eliminate the threat of competition deserve no protection, even when accompanied by the grant of a limited patent monopoly.

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1. The author is of counsel to Lieff Cabraser Heimann & Bernstein, LLP and one of the attorneys representing the indirect purchaser class in the California Cipro litigation. The views expressed in this article are the author’s and do not necessarily reflect those of Lieff Cabraser or the Cipro plaintiffs.

2. Benjamin N. Cardozo, The Nature of the Judicial Process 14 (1921).

3. In re Cipro Cases I & II, 61 Cal. 4th 116 (2015) reh’g denied (July 8, 2015)("Cipro"). The Cipro case arises from Bayer Corporation’s payment of $398.1 million to Barr Laboratories for Barr’s agreement to drop its counterclaims that Bayer’s patent on the blockbuster antibiotic was invalid and unenforceable. Bayer settled the California antitrust claims against it for $74 million in 2014, leaving Barr and its financial backers, alleged co-conspirators, as defendants.

4. 133 S. Ct. 2223 (2013).

5. Cal. Bus. & Prof. Code § 16720 et seq.

6. In re Aggrenox Antitrust Litig., No. 3:14-md-2516, 2015 WL 4459607, at *9-10 (D. Conn. July 21, 2015) (quoting Cipro, 61 Cal. 4th at 149).

7. Most of these claims now proceed in federal court as a result of the Class Action Fairness Act of 2005, Pub. L. No. 109-2, 119 Stat. 4 ("CAFA"), codified at various provisions of the U.S. Judiciary Code (28 U.S.C.). The California Cipro case, a relic of pre-CAFA times, was remanded in 2001 from federal multidistrict litigation to San Diego Superior Court. See In re Ciprofloxacin Hydrochloride Antitrust Litig., 166 F. Supp. 2d 740 (E.D.N.Y. 2001).

8. See Caldera Pharms., Inc. v. Regents of Univ. of Calif., 205 Cal.App.4th 338, 344 (2012) ("The appearance of a patent in state court is more than likely to unsettle lawyers and judges. . . . Even federal judges can be uneasy. . . . [¶] [T]his trepidation is unreasonably exaggerated.") (citation omitted).

9. In adopting the now-repudiated "scope-of-the-patent" rule of immunity, the Eleventh Circuit opinion reversed in Actavis held that it would be improvident to undertake such a "turducken" task. FTC v. Watson Pharms, Inc.., 677 F.3d 1298, 1315 (11th Cir. 2012). Federal appeals courts went from treating reverse payments as per se unlawful (In re Cardizem CD Antitrust Litig., 332 F.3d 896 (6th Cir. 2003)), to recognizing a defendant-friendly rule of reason (Valley Drug Co. v. Geneva Pharms., Inc.., 344 F.3d 1294 (11th Cir. 2003); Schering-Plough Corp. v. FTC, 402 F.3d 1056 (11th Cir. 2005)), before veering to the scope-of-the-patent test (In re Tamoxifen Citrate Antitrust Litig., 466 F.3d 187 (2d Cir. 2006); In re Ciprofloxacin Hydrochloride Antitrust Litig., 544 F.3d 1323 (Fed. Cir. 2008); Watson, 677 F.3d 1298). Finally, in In re K-Dur Antitrust Litig., 686 F.3d 197 (3d Cir. 2012), the Third Circuit pushed back with a pro-consumer opinion supporting a quick-look antitrust rule. Against this disarray Actavis established the unique rule of reason on which the California Supreme Court expounded in Cipro.

10. The California Supreme Court found "the incentives to innovate far sturdier" than judges adopting the scope-of-the-patent test "had feared," and that "[i]ndeed, insufficient scrutiny of [reverse payment] settlements has the potential to hamper innovation by allowing weak patents to offer the exact same exclusionary potential and monopoly possibilities as strong ones, thus steering innovator incentives away from more costly true innovation and toward cheaper, less socially valuable pseudoinnovation." Cipro, 61 Cal. 4th at 140, 155 (footnote omitted). Similarly, "[f]ears of chilling even legitimate settlements are overstated; all that allowing antitrust scrutiny does is remove the incentive to settle as a way to split monopoly profits." Id. at 141.

11. Actavis, 133 S. Ct. at 2236.

12. Cipro, 61 Cal. 4th at 150 ("[A]s the leading antitrust treatise notes, ‘the law does not condone the purchase of protection from uncertain competition any more than it condones the elimination of actual competition.’ ") (quoting 12 Phillip E. Areeda & Herbert Hovenkamp, Antitrust Law: An Analysis of Antitrust Principles and Their Application ¶ 2030b, at 220 (3d ed. 2008)).

13. Commonly known as Hatch-Waxman, the Drug Price Competition and Patent Term Restoration Act of 1984, Pub. L. No. 98-417, 98 Stat. 1585, codified as amended at 21 U.S.C. § 355, established the procedures that funnel brand and generic drug manufacturers into litigation over the brand’s patent. In Hatch-Waxman patent cases between 2000 and 2004, before the scope-of-the-patent test’s heyday, "not one of twenty reported agreements involved a brand firm paying a generic filer to delay entering the market. During this period, parties continued settling their disputes, but in ways less restrictive of competition, such as through licenses allowing early generic entry." Michael A. Carrier, Unsettling Drug Patent Settlements: A Framework for Presumptive Illegality, 108 Mich. L. Rev. 37, 75 (2009).

14. 133 S. Ct. at 2238.

15. Cipro, 61 Cal. 4th at 141.

16. Id. at 160. This comment came in the course of Cipro‘s reversal of the California Court of Appeal’s secondary holding of federal preemption. The California Supreme Court further explained that the U.S. Supreme Court "has been quite clear that states may depart from federal rules—or, here, accept an invitation to develop a gap in the law explicitly left by the Supreme Court—absent evidence of a clear congressional purpose to the contrary." Id. at 162 (citing California v. ARC America Corp., 490 U.S. 93, 103 (1989)).

17. See e.g., In re Aggrenox Antitrust Litig., No. 3:14-md-2516, 2015 WL 1311352 (D. Conn. Mar. 23, 2015), pet. for interlocutory review granted, 2015 WL 4459607 (D. Conn. July 21, 2015).

18. Cipro, 61 Cal. 4th at 151 n.11. The first federal appellate opinion interpreting Actavis agrees: "We do not believe Actavis‘s holding can be limited to reverse payments of cash. . . . We do not believe the Court intended to draw such a formal line. Nor did the Actavis Court limit its reasoning or holding to cash payments only." King Drug Co. of Florence, Inc. v. Smithkline Beecham Corp., 791 F.3d 388, 403-06 (3d Cir. 2015) (footnotes omitted).

19. Cipro, 61 Cal. 4th at 152.

20. Id. at 146-47.

21. Id. at 161-63.

22. Id. at 151-53.

23. Actavis, 133 S. Ct. at 2236 ("Where a reverse payment reflects traditional settlement considerations, such as avoided litigation costs or fair value for services, there is not the same concern that a patentee is using its monopoly profits to avoid the risk of patent invalidation or a finding of noninfringement.").

24. Cipro, 61 Cal. 4th at 153.

25. Id. at 153-57.

26. Id. at 154.

27. Id. at 150.

28. Actavis, 133 S. Ct. at 2236 (citation omitted).

29. Cipro, 61 Cal. 4th at 159 (quoting Actavis, 133 S. Ct. at 2236).

30. Cipro, 61 Cal. 4th at 158 (emphasis added).

31. Id.

32. Id. (citation omitted). Antitrust analysis considers whether an alleged restraint "promoted enterprise and productivity at the time it was adopted." Polk Bros., Inc. v. Forest City Enters., Inc., 776 F.2d 185, 189 (7th Cir. 1985) (Easterbrook, J.). An early reverse payment opinion, often cited by defendants, likewise holds that "the reasonableness of agreements under the antitrust laws are to be judged at the time the agreements are entered into." Valley Drug, 344 F.3d at 1306.

33. Cipro, 61 Cal. 4th at 149-50, 154, 159.

34. Aaron S. Edlin, C. Scott Hemphill, Herbert J. Hovenkamp & Carl Shapiro, Activating Actavis, 28 Antitrust 16, 21 (Fall 2013). The jury in a rule of reason case weighs anticompetitive against beneficial effects. See Cal. Civ. Jury Instr. No. 3411. If a plaintiff satisfies the elements in the reverse payment rule "and thereafter can dispel each additional justification the defendants put forward to explain the consideration, the conclusion follows that the settlement payment must include, in part, consideration for additional delay in entering the market. That payment for delay is condemned by the Cartwright Act, as by federal antitrust law. . . ." Cipro, 61 Cal. 4th at 159-60. It is as unclear after Cipro as it was after Actavis, however, what sort of justifications might legitimately be offered in defense of a reverse payment. One possibility: "a modest cash payment that enables a cash-starved generic manufacturer to avoid bankruptcy and begin marketing a generic drug might have an overall effect of increasing the amount of competition in the market." K-Dur, 686 F.3d at 218.

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