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Doctoring the Hatch-Waxman Act
August, 2003
STANFORD GRADUATE SCHOOL OF BUSINESS—Generic drugs are often much less expensive than their brand-name counterparts. So, while it's in the interest of the public for generic manufacturers to get their products to market as quickly as possible, it is not in the interests of the companies that first developed the drugs and hold the original patent. The 20-year-old Hatch-Waxman Act has been remarkably successful in increasing the number of generics on the market by easing the Federal Drug Administration (FDA) approval process for generics.
Hatch-Waxman also provides the mechanism for resolving pharmaceutical patent disputes when a generic manufacturer believes that it can manufacture a bioequivalent product that does not infringe on the original patent, or when it believes that a patent is invalid. But in recent years some major pharmaceutical companies have settled such patent disputes by simply paying the generic to stay out of the market. Others have taken advantage of loopholes in the Act to game the system, enabling them in some cases to tie up potential generic entrants for many years. In June, the Senate overwhelmingly voted in favor of a bill targeting these abuses.
The recent Hatch-Waxman cases and settlements, and what to do about them, were the subject of a recent paper by Jeremy Bulow, Richard A. Stepp Professor of Economics at the Stanford Graduate School of Business. In his paper "Gaming of Pharmaceutical Patents", Bulow, who was chief economist on the Federal Trade Commission during the Clinton administration, explained his views on these settlements and on how the system should be reformed.
While he was at the FTC, the Commission began to vigorously contest Hatch-Waxman settlements. Economists felt particularly strongly that if anti-trust laws exist, then firms should not be able to buy off potential competitors, and argued that pharmaceuticals were a key area of antitrust concern.. "With the possible exception of high tech, the pharmaceutical industry has contributed more to human welfare in the past 50 years than any other. That is why the efficient, competitive functioning of this market is so important," wrote Bulow.
In addition, companies have taken advantage of two provisions in the Hatch-Waxman bill. When a generic manufacturer files an application to sell a drug it makes one of two claims: either that the generic does not violate any of the patents the brand has listed in the FDA's Orange Book of approved drugs, or that the patents are invalid. The brand drug manufacturer is given notice of this filing and then files suit against the generic maker. Hatch-Waxman then prohibits the FDA from approving the generic's application for a minimum of 30 months, unless the generic first wins a conclusive verdict.
Some brands have added additional patents to their Orange Book listing well after the litigation has started. So, for example, a company could have lost a case in District Court and then—while appealing the decision—added a new patent to its list, thereby forcing a new filing by the generic and a re-start of the 30 month clock. Paxil's clock has been re-started five times, for example.
The other provision is the 180-day rule which holds that the first generic to file an application will get 180 days of exclusivity as the only generic manufacturer of that product. The clock starts either when the generic enters the field or a generic wins in appeals court. The trick there has been for brands to make a payoff to the first generic, getting it to agree to stay out of the market until the disputed patents all expire. Then if the brand does not file suit against a subsequent filer the FDA still cannot approve the second firm's application because the 180 day clock never starts. This has been referred to as the "cork in the bottle" strategy.
Some drug companies have developed a more sophisticated smoke screen. Schering Plough paid $60 million to the generic company Upshur as part of a deal in which Upshur agreed to put off its efforts to introduce a generic version and licensed a Upshur product to Schering. Schering then argued that the $60 million was for the license for the product, and that the negotiated postponement of Upshur's entry was based on the weakness of Upshur's legal case. However, the economists who were involved in the case, and who informally called the licensed Upshur product "Brooklyn Bridge-izone" were skeptical, to say the least.
In his recommendations, Bulow supports an FTC proposal to allow brand-name companies only one 30-month stay when the firm claims patent infringement by a generic manufacturer. He also suggests that the 180-day exclusivity rule should be extended to the first company that manages to get a product approved and to market, not the first to file an application.
Furthermore, he argues, generic drug companies that make any kind of deal involving postponing their entry into the market should have to forfeit their right to any exclusivity. "There should not be any cash payment allowed unless a generic company can show that the amount it was given was less than the amount it would have received from an outside party," he says.
The stakes, says Bulow, are high. In one case, a brand with annual sales of over $750 million kept a generic off the market for over six years. But, more important are the implications for society. "If Coke and Pepsi were to merge, the price of soda would go up, but the effect on the larger social welfare wouldn't be particularly important," he says. "But artificial price increases for valuable pharmaceuticals can have very severe consequences."
The real function of generics is not to provide a superior product to the market, but to make the patent laws work properly, giving innovators exclusivity for the amount of time that they deserve under the law. If companies with invalid patents are able to buy as much exclusivity as those with strong patents, then the cost to society of providing those who develop the strong patents with any given level of exclusivity will effectively be raised. Bulow argues that if the cost of providing strong patents with any given level of exclusivity is raised, then in the long run it is likely that the patent laws will be designed to provide less protection for the companies that really deserve it. As a result, incentives for innovation would be reduced. "The bottom line," concludes Bulow in his paper, "is you should not get to pay your competitors to stay out of the market."
—by Anne Field
Related Information
Gaming of Pharmaceutical Patents, GSB Research Paper #1804, 2003
FTC Antitrust Actions in Health Care Services and Products, Brennan, Jeffrey W., Pender, David R., and Meier, Markus H., Health Care Services and Products Division, Bureau of Competition, Federal Trade Commission, November 8, 2002. Details
"How Increased Competition from Generic Drugs Has Affected Prices and Returns in the Pharmaceutical Industry," Congressional Budget Office, July 1998. Details