Russian regulation on antimonopoly vs. anticorruption law: tensions on the rise

JULY 2015 Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise Anton Smirnov Dispute resolution practice Counsel, Moscow T +7 495 933 3000 [email protected] Alexei Dudko Head of dispute resolution practice Partner, Moscow T +7 495 933 3000 [email protected] Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise July 2015 1 Background: What is the problem? Briefly, Russian law and enforcement practice suggest that any major pharmaceutical company with a meaningful market share is at risk of being considered to have a dominant position in the market. As a consequence, such a company could be accused of abuse of dominance if it refuses to enter into an agreement or supply goods on the basis of an alleged breach of anticorruption law by the counterparty. Abuse of dominance is a violation of Russian antimonopoly law and could entail serious fines. Under Russian antimonopoly law (in particular, Article 5 of the Russian Federal Law dated 26 July 2006 No.135- FZ "On Protection of Competition" (the "Competition Law")) an entity could be considered to have a dominant position in a specific commodity market if it holds no less than a certain minimum share of that market, or, in some cases, even in the absence of such a minimum market share, if the entity in question is capable of decisively influencing the price of the commodity and other commodity circulation conditions. A commodity market is defined by the Competition Law as a sphere of circulation of the commodity together with its substitutes (interchangeable commodities). The FAS' approach to interchangeability of medicines is that any original medicine (defined by its INN) that has no generics is considered to be non-interchangeable, and therefore, occupying 100% share of the market. Furthermore, from 1 July 2015 in certain situations even those medicines that have generics could be considered non-interchangeable due to the new rules on interchangeability of medicines that require equivalence of qualitative and quantitative characteristics of active substances and excipients, pharmaceutical form, administration mode and clinically significant effects.1 And finally, even if the medicine in question has interchangeable generics, the medicine's manufacturer could be considered to hold a dominant 1 See Hogan Lovells Life Sciences Alert | Amendments to Russian Law on Circulation of Medicines - March 2015 position if, together with the two other largest market participants, they hold more than 50% market share in aggregate. Consequently, in certain circumstances any major pharmaceutical company with a meaningful market share is at risk of being considered to have a dominant position in a given medicine's market. In accordance with Article 10(1) of the Competition Law, a dominant entity is forbidden from abusing its dominant position which results or may result in prevention, limitation or elimination of competition or violation of interests of other persons. In particular, such abuse could include: − imposing on a counterparty of conditions of a contract that are unfavourable for it or are not related to the subject matter of the contract (e.g. demands that are economically or technologically unjustified or that are not expressly permitted by law or court acts, making signing of the contract in relation to one product conditional upon inclusion of provisions related to another product in which the counterparty is not interested, etc.); − economically or technologically unjustified refusal or avoidance of entering into a contract with specific customers, if there is a possibility of production or supply of the respective product and where the law or court acts do not expressly permit such refusal or avoidance; − economically, technologically or otherwise unjustified establishing of different prices for the same product. On that basis, a dominant entity could refuse/avoid contracting with, or refuse/avoid supplying to, a distributor only to the extent such actions are (1) economically justified, or (2) technologically justified, or (3) expressly permitted by law or court act. The Competition Law does not provide for the possibility to refuse/avoid contracting or supplying with reference to anti-corruption, reputational or compliance concerns. Accordingly, such refusal, as Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise 2 Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise July 2015 well as inclusion of the respective refusal rights into an agreement, would likely be viewed as an abuse of dominant position. The first Novo Nordisk case2 The question on the interrelation between antitrust and anticorruption regulation in Russia was raised for the first time in 2010 when FAS and courts considered the case in relation to the Novo Nordisk pharmaceutical company. Upon inspecting the company's activity in 2010 FAS revealed the facts of the company's avoidance from entering into agreements with several distributors. FAS determined that Novo Nordisk had had dominant position in the pharmaceutical market in relation to certain products (in particular, insulins), and therefore under the Competition Law was not entitled to refuse or avoid to enter into agreements for supply of such products without economically or technologically justified grounds. Novo Nordisk objected with reference to the fact that it, as an international company, was subject to foreign anticorruption laws, including the FCPA. Novo Nordisk argued that it had to carry out anticorruption due diligence of existing and potential counterparties to mitigate the risks of liability under the FCPA. Novo Nordisk's Commercial Policy and Standard Distribution Agreement provided for the company's right to carry out anticorruption due diligence, as well as to refuse to enter into an agreement with a potential distributor or terminate the relationships with an existing one. FAS rejected the company's arguments. FAS took into account that the company's then existing policy failed to specify in detail the procedure of counterparties' due diligence, and noted that Russian law did not contemplate the requirements for partners' reputation, including anticorruption compliance. Consequently FAS concluded that Novo Nordisk violated antimonopoly law and ordered Novo Nordisk to exclude from its Commercial Policy and Standard Distribution Agreement the provisions regarding counterparties' anticorruption due diligence and counterparties' obligations to comply with the requirements not contemplated by Russian law, as well as the right to refuse to enter into an agreement in case of a counterparty's violation of these provisions. The court challenge of the decision and prescriptive order of FAS ended in 2011 with an amicable settlement3 under which FAS acknowledged in 2 Court case No. A40-148956/10-92-998 3 Ruling of the Moscow Commercial Court dated 28.07.2011 on case No. A40-148956/10-92-998 particular that Novo Nordisk, as a dominant entity, may conduct due diligence of its counterparties to check their compliance with Russian, foreign and international anticorruption laws, without abusing its dominant position and violating antitrust law in the process. FAS also acknowledged that Novo Nordisk had complied with the FAS' prescriptive order, in that it introduced the required amendments into and approved new versions of its Commercial Policy and Standard Distribution Agreement, where it established the criteria and procedure of counterparties' evaluation procedure, the counterparties' obligation to comply with Novo Nordisk business ethics principles, and the right to terminate the agreement in case these principles are violated. At several business conferences that followed the Novo Nordisk case in 2011 – 2013, FAS several times praised Novo Nordisk's new Commercial Policy as an example of an acceptable approach to refusing to deal with the distributors. In sum, under Novo Nordisk's new Commercial Policy, Novo Nordisk could refuse to deal with a potential distributor or terminate relations with an existing one if at least one of the criteria mentioned in the policy was not met. In essence, these criteria included: − Absence of false or misrepresented information in the distributor's questionnaire; − Absence of a potential distributor / its affiliates in any of the lists of suspicious business partners (including World Bank Listing of Ineligible Firms & Individuals, U.S. Department of Treasury Specifically Designated Nationals List and several others); − Consent of a potential distributor to sign the agreement with the ethics and anti-corruption compliance clauses and to conduct its business activity in accordance with the principles of the business ethics and fair deals; − Absence of any governmental acts or resolutions confirming the facts of (1) corrupt offences, (2) violations of the law on circulation of medical products, and/or (3) competition law violations, by a potential distributor / its affiliates / its employees; − Absence of other information on possible corrupt offences by a potential distributor / its affiliates / its employees, which had not been reviewed by the authorities; − Absence of state officials among the ultimate beneficiaries of a potential distributor. Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise July 2015 3 In light of the FAS' positive reception, after 2011 the Novo Nordisk's "one tier" approach to commercial policies (i.e. that all criteria had equal "weight", in a sense that incompliance with each one of them was sufficient to refuse to contract) became more or less market standard. However, the three recent cases reviewed in this alert run contrary to that approach and the FAS' earlier praise, and bring uncertainty to the market. These are the cases involving the alleged abuse of dominance by Novo Nordisk,4 Baxter5 and Teva.6 We deal below in detail with the two of the three cases: the Novo Nordisk and the Baxter cases. In the Teva case the FAS and the courts implemented similar approaches. The second Novo Nordisk case In March 2013 Novo Nordisk signed its standard distribution agreement with CJSC TPP Severo-Zapad ("Severo-Zapad"). The contract included the clauses which contemplated Novo Nordisk's rights to conduct anti-corruption due diligence and refuse to supply in case of probability of violations of law by Severo-Zapad. Later in 2013 Severo-Zapad filed a complaint with the FAS alleging that inclusion of the clauses in question into the agreement constituted abuse of dominance by Novo Nordisk, as these clauses were unfavourable and not related to the subject matter of the agreement. FAS and the courts ordered Novo Nordisk to exclude these clauses from the distributor's contract. The courts noted that non-inclusion of the anti-corruption audit provisions into the distributor's contract did not deprive Novo Nordisk of the right to demand from SeveroZapad to comply with the anti-corruption laws outside the contractual framework. They also noted that: − The anti-corruption audit provisions of the distributor's contract did not specify compliance with which particular anti-corruption laws would be the audit's subject matter, and could therefore be implemented arbitrarily by Novo Nordisk; − Novo Nordisk's right to refuse to supply in case of probable violations by Severo-Zapad was found to be non-specific, as the respective 4 Court case No. A40-154847/13 5 Court case No. A40-72433/13 6 Court case No. A40-42997/14 provisions did not include the signs and criteria of assessment of probability, which could make it possible for Novo Nordisk to refuse to supply at any time. In reaching these conclusions FAS and the courts appear to have disregarded Novo Nordisk's Commercial Policy which they earlier approved and which contained the required provisions specifying the extent of the audit and the criteria of assessment of the distributor's compliance with anti-corruption law. The trial and appellate courts have already supported FAS' position. Novo Nordisk decided not to appeal further. The Baxter case In the Baxter case Baxter was found abusing its dominant position by avoiding entering into the distribution agreement with LLC Medical Services Company ("MSC"), a potential distributor. Baxter sent to MSC a potential counterparty's questionnaire required to pass the due diligence procedure, which MSC filled in and sent back. When Baxter informed MSC that they have been rejected, MSC filed a complaint with the FAS. In holding Baxter responsible for the dominance abuse, the FAS relied on the following factors and made the following conclusions: − Baxter policies and procedures were global, did not expressly cover the territory of the Russian Federation and contained only general provisions on good faith behaviour and the need to comply with anti-corruption regulations by Baxter employees and counterparties. They did not include criteria of selection and approval of distributors, time limits and procedures of applications' review and the conditions for termination of distributor relations. As the result, it was not possible for a potential distributor to assess its eligibility for working with Baxter; − Baxter explained that the decision not to contract with MSC was taken by the global compliance team after careful application of its anti-corruption policies and procedures, but FAS insisted on the necessity of provision of the minutes of the respective discussions; − FAS dismissed Baxter's arguments on incompleteness of information provided in the questionnaire (in particular, MSC did not mention the existence of another company incorporated by its shareholders) and suspicious behaviour of MSC at certain state 4 Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise July 2015 tenders (e.g. joint participation of affiliated companies in the tenders and the fact that the electronic version of the technical specification ("техническое задание") of one tender was (presumably) created by MSC,7 which implied the existence of anti-competitive agreement between the purchaser and the distributor) due to: o absence of any investigations by or complaints to the state authorities in relation to the tenders in question, o the fact that the MSC-created electronic versions of the technical specification were equally used by the customer in tenders where the MSC did not participate, and o the fact that Baxter did not refer to the said suspicions as the ground to refuse to contract with MSC, but only referred to them for the first time when FAS already started considering the case; − Baxter failed to provide any court acts or documents from the authorised state bodies which could confirm MSC's involvement in anticompetitive, corruption or other illegal behaviour, which could have been the grounds to refuse to contract with MSC. The trial, first and second (cassation) level appellate courts have upheld the FAS' conclusions. Russian anticorruption law is not a defence In the Baxter and the second Novo Nordisk case the FAS and the courts also dealt with an issue of whether a dominant entity could rely on the provisions of Russian anticorruption law to justify the refusal to enter into an agreement. In this regard, Article 19.28 of the Administrative Offences Code of the Russian Federation (the "AOC") provides for a company's administrative liability for bribery on its behalf or in its interests. In turn, Article 13.3 of the Federal Law dated 25.12.2008 No. 273-FZ "On Countering Corruption" (the "Anticorruption Law") 7 This part of the text has been redacted from the FAS resolution, but the context implies that it was MSC or its employees who created the first draft of the technical specification for the tender. obliges companies to take measures to prevent corruption. In furtherance of these provisions, in November 2013 the Ministry of Labor and Social Protection of the Russian Federation published on its web-site the Methodical Recommendations on Development and Taking by Organizations of Measures on Prevention and Countering Corruption (the "Methodical Recommendations") where: − in clause 2 of section II it was emphasized that companies may be subject to rules and sanctions contemplated not only by Russian but also by foreign anticorruption law, e.g. the FCPA and the UK Bribery Act; − in clauses 1 and 8 of section IV it was pointed out that one of the anticorruption workstreams is taking preventive measures when choosing counterparties through establishing and retaining business relationships with good faith companies which take care about their reputation, demonstrate commitment to high ethical standards in carrying out their business and implement their own anticorruption measures; − in clause 8 of section IV the necessity for companies to introduce special measures to check counterparties, e.g. through collecting and analyzing publicly available information on potential counterparties (their reputation in business community, time of business activity on the markets, participation in corruption scandals), was highlighted. In such a way, by 2013 Russian law had in place certain provisions favoring anti-corruption due diligence, which had before been contemplated only by foreign regulation. However, in the Baxter and the second Novo Nordisk cases the FAS and the courts dismissed the companies' arguments that their actions were required to comply with Article 19.28 of the AOC and Article 13.3 of the Anticorruption Law. In FAS' and the courts' view, a distributor's actions aimed at subsequent resale of the product do not affect the supplier's rights in the context of administrative liability under Article 19.28 of AOC. FAS and courts came to such conclusion on the following grounds: − for a legal entity to be punishable by administrative liability (Article 19.28 of AOC) in the context of the Anticorruption Law, illegal acts need to have been taken "on behalf or in the interests of a legal entity"; Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise July 2015 5 − as far as the relations between the supplier (pharma manufacturer) and the distributor are concerned, it is impossible for the latter to act on behalf or in the interests of the former given the following: first, their distribution agreement does not contemplate "such a structure", second, the supplier is no longer responsible for the legal fate of the goods upon the transfer of the ownership title to the distributor; − consequently, the supplier shall not be entitled to refer to Article 19.28 of AOC and Article 13.3 of Anticorruption Law to justify its right to audit potential counterparties and refuse to contract with them. In our view this approach is disputable, as Article 19.28 of AOC does not require any formally established principal – agent legal relationship between the bribe giver (the distributor or its employee) and the legal entity on behalf of which a bribe is given (the supplier). Russian law therefore leaves open the possibility to hold a supplier responsible for its distributor's actions even without any formally established principal – agent legal relationship between them, which would be consistent with the commonly accepted worldwide practice. It is notable that the FAS and the Russian arbitrazh (commercial) courts that made conclusions on the issues of anticorruption law are not the anticorruption enforcement authorities in Russia. Their conclusions are therefore not binding for anticorruption law enforcers, i.e. public prosecutors and the courts of general jurisdiction. Accordingly, while from the antimonopoly law enforcement standpoint a dominant entity cannot rely on the Russian anti-corruption law provisions as the grounds for refusal to supply, it at the same time should not be able to rely on the conclusions from the Baxter and Novo Nordisk cases to avoid liability for bribes paid on their behalf by their distributors. This controversy further increases the legal uncertainty and the companies' risks. What can be done to mitigate the risks? Using the Baxter, Novo Nordisk and Teva cases as examples, on 30 June 2015 FAS published its official Recommendations on the development and application of commercial policies by the dominant pharmaceutical companies8 . The following notable suggestions were made in these Recommendations: − a dominant company shall adopt and publish on its website a Commercial Policy, spelling out criteria of selection of counterparties, procedures of due diligence checks, time limits for considering distributors' application, list of persons responsible for taking the related decisions and the commercial conditions of working with the distributors (pricing, volumes, payment terms, discounts, bonuses, etc.); − the Commercial Policy shall include templates of (1) the distribution contract and (2) the distributor's questionnaire, which shall be made publicly available at the company's website; − the counterparty selection criteria may concern legal, financial or business aspects of the counterparty's activity; they shall be clearly and unambiguously drafted, their list shall be exhaustive; − examples of acceptable counterparty selection criteria include: o proper registration as a legal entity; o absence of unpaid taxes and levies; o absence of liquidation / insolvency / suspension procedures in respect of the distributor; o holding of valid required licenses; o absence of prior criminal convictions of the counterparty's management or shareholders; o absence of state officials having conflict of interest among the counterparty's management or shareholders; o "other objective criteria"; 8 In parallel FAS (together with the representatives of pharmaceutical companies) is developing a Code of Conduct for pharmaceutical manufacturers. In light of the Recommendations it could be expected to include similar provisions on the relations with distributors. 6 Russian Regulation on Antimonopoly vs. Anticorruption Law: Tensions on the Rise July 2015 − the Commercial Policy should not only exist on paper, but shall be consistently applied in practice to all distributors; − in FAS' view, it is "erroneous" to refuse to contract due to suspicions of anticorruption violations by the counterparty based on unofficial sources (phone calls, internet and mass media sources, etc.) which are not confirmed by official resolutions of authorized state agencies on the issue – pharmaceutical companies are "entitled to make the respective applications with the authorities" in this regard to address their concerns; − all counterparty selection procedures shall be properly documented and kept for a minimum of 5 years. The FAS Recommendations are in line with the approach voiced by FAS officials at numerous industry meetings that unverified information on corruption violations that has not been reviewed by the state authorities would not be the sufficient ground to refuse to contract with a counterparty. While most of the recommendations above are understandable, it is not wholly clear how the distributor selection criteria should be applied. In the second Novo Nordisk case FAS appears to have rejected the one-tier approach implemented in the 2011 Novo Nordisk policy, i.e. that all distributor rejection criteria had equal "weight" in a sense that non-compliance with any one of them was sufficient to refuse to contract. Still, in its Recommendations FAS simply lists the selection criteria without assigning different "weights". In this regard, a possible solution (to determining and designating the "other objective criteria" in the Commercial Policy not yet tested or even considered by the FAS) could be to establish a multi-tier system of distributor evaluation criteria based on different level of risks for each adverse fact about the target distributor. For example, this system could include definitions of "red", "orange" and "yellow" flags (ranging by the level of risk), and specify an evaluation process whereby the occurrence of a certain number of the flags would make a distributor ineligible to contract with the company. This approach is potentially capable of establishing a set of nuanced, yet objective, criteria to justify the refusal to deal with high-risk distributors, which is what FAS declares to be the purpose of the commercial policies. If you have any questions, please feel free to reach out to Anton Smirnov (Counsel, Moscow). www.hoganlovells.com Hogan Lovells has offices in: Alicante Amsterdam Baltimore Beijing Brussels Budapest* Caracas Colorado Springs Denver Dubai Dusseldorf Frankfurt Hamburg Hanoi Ho Chi Minh City Hong Kong Houston Jakarta* Jeddah* Johannesburg London Los Angeles Luxembourg Madrid Mexico City Miami Milan Monterrey Moscow Munich New York Northern Virginia Paris Perth Philadelphia Rio de Janeiro Riyadh* Rome San Francisco São Paulo Shanghai Silicon Valley Singapore Sydney Tokyo Ulaanbaatar Warsaw Washington DC Zagreb* "Hogan Lovells" or the "firm" is an international legal practice that includes Hogan Lovells International LLP, Hogan Lovells US LLP and their affiliated businesses. The word "partner" is used to describe a partner or member of Hogan Lovells International LLP, Hogan Lovells US LLP or any of their affiliated entities or any employee or consultant with equivalent standing. 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