In late Spring, the Second Circuit became the first court of appeals to address “product hopping” in the pharmaceutical industry—the practice of shifting consumers from a drug nearing the end of its patent to a new version that faces no immediate threat of generic competition. Specifically, in New York v. Actavis PLC,  the Second Circuit upheld a preliminary injunction in favor of the New York Attorney General, prohibiting Actavis and its Forest Laboratories subsidiary (jointly “Actavis”) from discontinuing production of its Alzheimer’s drug, Namenda IR (“IR”) in advance of its July 2015 patent expiration. As a result, consumers seeking Namenda would have to switch from IR, a twice-per-day drug, to Namenda XR (“XR”), a once-per-day product, that is patented through 2029.
The Second Circuit ruled that the defendant would likely violate Section 2 of the Sherman Act through its intended action, distinguishing between: (i) a “soft switch”—allowing consumers to obtain either XR and IR, which would not be an antitrust violation, and (ii) a “hard switch”—forcing patients to switch to XR, which the court declared would be exclusionary conduct that violates the Sherman Act because Actavis had monopoly power (a Namenda-only product market was uncontested by Actavis). The Second Circuit upheld the preliminary injunction, which requires Actavis to keep IR on the market until 30 days after the anticipated launch of generic competition with that product.
New patented drugs today are granted a 20 year period of patent exclusivity, after which bioequivalent generic substitutes can enter the market. Aided by state laws, generic drugs typically obtain a substantial share of the market previously held by the brand-name patented drug manufacturer. To some degree, this is because all states have drug substitution laws either that require or encourage pharmacists to fill prescriptions with generic equivalents for brand-name drugs. In thirty states, including New York, generic substitution is only permissible if the generic is a bioequivalent and pharmaceutical equivalent to the brand-name drug under FDA standards. That is, the generic drug must be exactly the same as the brand-name drug and follow the same route of administration. Most state laws require or recommend substitution unless the prescribing physician forbids substitution for medical reasons.
The key difference between Actavis’s two Alzheimer drugs was that Namenda IR—which Actavis sought to discontinue—was administered twice-per-day, and Namenda XR—which would replace IR—can be administered only once-per-day in a time-release formula. Because of this difference, twice-per- day generic versions of IR are not bioequivalent to XR, and could not be substituted for XR. Thus, if IR was removed from the market before generic equivalents entered, consumers would be required to switch to once-per-day XR until generics competitive with IR entered the market, and even then could not be substituted for XR if that product were prescribed by a physician forbidding generic substitution.
The New York Attorney General argued that forcing patients to switch to XR and lose the opportunity to purchase a generic substitute constituted irreparable harm, stressing that the only cost-effective way for generic drugs to compete is the pharmacist’s ability to substitute. If IR was removed from the market, its generic equivalents could not be substituted for XR because they were not bioequivalent.
Actavis made a number of arguments supporting its decision to discontinue IR: (i) it had no legal obligation to keep IR on the market in order to aid competitors; (ii) launching XR was pro-competitive; (iii) preventing the launch of a superior product deterred innovation; (iv); Actavis’s conduct was permitted by patent law; (v) deterring free riding by competitors is pro-competitive; and (vi) competitors could launch, promote, and advertise generic substitutes for IR after July 15, 2015.
Second Circuit Decision
The Second Circuit declared that “neither product withdrawal nor product improvement alone is anticompetitive,” but it is “when a monopolist combines product withdrawal with some other conduct . . . the overall effect of which is to coerce consumers rather than persuade them on the merits and to impede competition.” The court relied heavily on its 1979 decision in Berkey Photo, Inc., v. Eastman Kodak Co.,  for the proposition that while a monopolist usually may remove or discontinue a prior version of a product, it may not if the action compels consumers to purchase the new product. In that case, Kodak had a lawful monopoly on camera film and released a new camera, the Kodak 110, that could only be used with a new Kodacolor II film. Berkey, a smaller camera manufacturer, argued that Kodak’s action constituted the illegal use of its monopoly in film to increase its sales in the camera market. The Second Circuit ruled that Kodak’s conduct was not unlawful because consumers could continue to purchase Kodak film for Berkey cameras in the old 126 film size. Had Kodak removed the 126 film from the market, the court cautioned, “the situation might be completely different.”
The Second Circuit Panel stressed that unlike the situation in Kodak, Actavis had sought to compel consumer use of XR by removing IR from the market. It noted that Actavis initially had considered encouraging consumers to switch to XR through acceptable “persuasion,” but had projected that only 30% of patients would voluntarily switch to XR prior to generic entry. On the other hand, the company had projected that a hard-switch would cause between 80% and 100% of consumers to switch. By removing IR from the market before its patent expired, the court determined, Actavis would “cross the line from persuasion to coercion.” The court indicated that basic market principles should determine which product consumers chose to buy, and by removing IR from the market, doctors and consumers would lose the benefit of determining whether switching to once-per-day XR outweighed the benefit of less expensive, twice-per-day generic IR.
The court emphasized that the hard switch impeded competition by eliminating “the only cost-efficient means of competing available to generic manufacturers." Referring to the D.C. Circuit Court decision in United States v. Microsoft Corp., the court declared that an antitrust violation would occur not only if generic drugs were excluded from the market, but also if there was no cost-efficient means of obtaining generics.  While consumers could, theoretically, switch to the generic IR once it was introduced, due to many state drug-substitution laws, pharmacists could not replace XR with generic IR. Generic manufacturers would be forced to adopt the “impractical and ineffective” task of marketing and promoting their product to physicians, which the court predicted would not be cost-efficient. The court also determined that it was irrelevant that XR was a superior product to IR, as had been argued by Actavis. The issue was the coercive nature of the intended conduct, which had nothing to do with the superiority of the two-per- day replacement product.
The Second Circuit was not persuaded by the argument that issuing the injunction would be anticompetitive and promoted free riding, stressing that state substitution laws and the Hatch-Waxman Act specifically permitted, and encouraged, the conduct Actavis labeled as free riding. Similarly, the court rejected the argument that the antitrust laws were an inappropriate means for enforcing drug law, noting that antitrust analysis must take into account the nuances of the industry at issue. Market defects inherent in the pharmaceutical industry, such as price disconnects and exclusive patents, are considered by courts when analyzing antitrust claims. On the other hand, the court believed that antitrust actions were an appropriate avenue to prevent pharmaceutical manufacturers from taking advantage of the Hatch-Waxman act to prevent generic competition. Taking into account evidence supporting an anticompetitive motive, the Second Circuit concluded that the so-called “procompetitive justifications for withdrawing IR were pretextual.”
Although it did not find any of the defendants’ alleged pro-competitive benefits convincing, the court did believe that potential anticompetitive harms were significant. While Actavis argued that antitrust scrutiny would deter innovation, the court viewed the conduct at issue to be the opposite. Allowing Actavis to withdraw IR would encourage manufacturers about to lose patent protection to make “trivial or minor product reformations” instead of investing in developing “riskier, but medically significant innovations.” This was evidenced by Actavis’s failure to explain, absent an anticompetitive motive, why it would forgo profits in IR sales that would likely exceed projected XR sales in the short term. Patent rights did not protect Actavis from antitrust evaluation. It did not have an “absolute and unfettered right” to use its patent in any way it chose. The use of state substitution laws to prevent generic competition went beyond its patent rights. Although the Patent Act provided Actavis with a monopoly of limited duration, the Second Circuit was of the view that Actavis did not have a right to use patent rights “as part of a scheme to interfere with competition ‘beyond the limits of the patent monopoly." There was nothing preventing Actavis from launching XR and benefiting from the XR patent; it was the pre-patent expiration withdrawal of IR from the market at the same time that raised antitrust concerns.
Implications of the Second Circuit Decision
Going forward, the Second Circuit’s Actavis decision raises three implications for pharmaceutical manufacturers considering “product hopping.” First, the court emphasized the distinction between “soft switches” and “hard switches,” declaring that only the latter raises serious antitrust concerns. It appears that, at least in the Second Circuit, pharmaceutical manufacturers can advertise and promote the benefits of a new product while ceasing all such activities on a patented older version, so long as the older product remains available in the market. Yet, if manufacturers impose significant barriers to obtaining the older product, even if remains available in theory, it can still raise antitrust concerns.
Second, manufacturers should consider not withdrawing a patented product until after the patent expired. Here, the Second Circuit upheld an injunction which would expire thirty days after generic competition to IR begins.
Third and significantly, the Second Circuit’s decision focused heavily on Actavis’s intention to stifle competition. The opinion includes numerous quotes evidencing an anticompetitive motive. For example, the court referred to a January 2014 earnings call during which Actavis stated: “if we do the hard switch and we convert patients and caregivers to once-a-day therapy versus twice-per-day, it's very difficult for the generics then to reverse-commute back.” The CEO actually admitted that he was “trying to . . . put up barriers or obstacles” to generic competition. It was fully anticipated that the hard switch would allow Actavis to “hold on to a large share of base users.” Largely in view of this evidence, the court concluded that the pro-competitive arguments were “pretextual.”
The Second Circuit Actavis decision has provided important clarity to pharmaceutical manufacturers on the potential antitrust implications of product hopping, at least within the Second Circuit. In enjoining Actavis from withdrawing IR from the market until thirty days after the expiration of its patent, the court has given a clear indication that attempts by a patent holder to derail generic alternatives will result in serious antitrust scrutiny. Perhaps most importantly, the Second Circuit’s distinction between soft switches and hard switches should provide guidance to pharmaceutical companies on the manner in which they should consider introducing upgraded versions of drugs that will shortly lose their patent protection.