The issue of second-round drug price negotiations following centralized procurement (“Price Renegotiation”) was bound to be controversial from the start. From its opponents’ point of view, Price Renegotiation has no merit: it reduces the credibility of provincial bid invitations, violates the Law of the People’s Republic of China on Tenders and Bids (“Bidding Law”), breeds corruption and unhealthy practices within medical institutions, adds to sales costs and expenses, and reduces profit margins for drug manufacturers, gives rise to inconsistent regional purchase prices, creates disorderly market competition, and results in a decreased quality of drugs. HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Supporters of Price Renegotiation believe that its advantages far outweigh any drawbacks: it helps to widely decrease drug prices, restores balance to the bargaining power between hospitals and pharmaceutical companies, brings transparency to drug purchase discounts offered to medical institutions, reduces the opportunity for doctors to collect kickbacks, efficiently solves the chronic problem of commercial bribery, lightens financial burdens of local governments, and promotes the reform of centralized drug procurement (“Centralized Procurement”). Centralized Procurement Has Led to Price Renegotiation From 1993 to around 2000, Henan, Liaoning, Sichuan, Zhejiang, Shandong, Fujian and other provinces carried out independent exploratory work regarding Centralized Procurement. On November 12, 2001, the promulgation of Working Procedures on Centralized Bidding and Procurement of Drugs by Medical Institutions (Trial Implementation) [No. 308] marked the formation of Centralized Procurement at the national level. On September 23, 2004, six ministerial level governmental departments promulgated the Certain Provisions on Further Regularizing the Centralized Bidding and Procurement of Drugs by Medical Institutions [No. 320], which improved the organizational units in charge of Centralized Procurement at the provincial level. On January 17, 2009, six ministerial level governmental departments jointly issued the Opinions on Further Regularizing Centralized Procurement of Drugs by Medical Institutions, and the system design using provincial online Centralized Procurement as a model came into effect. On February 9, 2015, the General Office of the State Council issued Guidance on Improving Centralized Procurement of Drugs by Public Hospitals [No. 7], which presented the model under which Centralized Procurement would take place both at the provincial level and in certain pilot cities undergoing medical system reforms. The policy aims of Centralized Procurement are to “consolidate the orderly distribution of drugs, standardize drug prices, redress unhealthy tendencies found in medical procurement and sales, and lighten the burden of public medical expenses,” and of these, the primary aim is to decrease drug prices. However, Centralized Procurement at the national level inevitably weakened the independent drug procurement rights of regional governments and hospitals, which gave rise to the issue of Price Renegotiation. On April 14, 2012, the General Office of the State Council issued the Circular on Major Arrangements in Deepening Health Care System Reform in 2012, which stated that the reform of public hospitals would result in the cancellation of drug price markups. Prohibiting drug price markups reduced the income streams for public hospitals from three to two, namely service charges and government subsidies. The remaining income streams for public hospitals have not been enough to offset the loss of income derived from drug price markups since service charges have not keep pace with expenses and government subsidies have been insufficient. As public hospital income decreased, the issue of Price Renegotiation became even more severe. HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Attitudes of Ministries Vary, Local Authorities Lack Coordination Price Renegotiation involves multiple government authorities, including the State Council’s Office for Rectifying Malpractice (supervisory authority), the National Health and Family Planning Commission (“NHFPC”), the Development and Reform Commission (the Administration of Commodity Prices), the Administration for Industry and Commerce, the Food and Drug Administration, and the Administration of Finance, among others. At the ministerial level, the NHFPC is the most adamant opponent of Price Renegotiation. Since 2004, the NHFPC has repeatedly stated its opposition to Price Renegotiation in a series of regulatory documents and notices. The attitude of the National Development and Reform Commission (“NDRC”), however, has been relatively vague. On November 21, 2013, the NDRC declared its support for Price Renegotiation in a symposium about drug prices. However, it is noteworthy that the NDRC is also a co-signer of several documents prohibiting Price Renegotiation issued by multiple ministries from 2004 to 2010. Government attitudes towards Price Renegotiation differ widely at the subnational level. According to rough estimates, approximately 16 provinces prohibit Price Renegotiation in written documents while 3 provinces permit it. Other provinces have not issued any specific opinions. However, even in the provinces that expressly prohibit Price Renegotiation, there exist some flexible approaches at the municipal level, and many local governments give tacit approval to Price Renegotiation from a financial perspective. Pharmaceutical companies are most disadvantaged by Price Renegotiation and are always in opposition to it. Price Renegotiation not only increases the burden on pharmaceutical companies, reduces profit margins, disrupts sales strategies, but also subjects companies to possible administrative punishment. By contrast, public hospitals generally seek to initiate various forms of Price Renegotiation in order to realize profits under the existing procurement system while facing pressure from the NHFPC. Legal Application Issues of Price Renegotiation Public hospitals and pharmaceutical companies are most concerned about regulatory prohibitions on Price Renegotiation and the potential administrative penalty risks that apply to engaging in such transactions. Price Renegotiation is prohibited by a series of regulatory documents promulgated by the General Office of the State Council, the NHFPC and other ministries, and local government regulations promulgated by different provinces. However, according to relevant provisions of the Legislation Law and the Administrative Punishment Law, these regulatory documents and local government regulations cannot not give rise to any administrative penalties without legal or State Council regulatory authorization. Therefore, Price Renegotiation prohibition penalties could only be found in higher-level legislation. HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com The main laws and regulations relating to Price Renegotiation include the Bidding Law, the Government Procurement Law and their implementing regulations, the Anti-unfair Competition Law, the Price Law, the Drug Administration Law, and the Administrative Punishment Law. Currently, it remains controversial whether the Bidding Law is applicable to Centralized Procurement and Price Renegotiation. The reason for this controversy is that it is ultimately the medical institutions which act as the final signatories and purchasers under Centralized Procurement, although the provincial and municipal Centralized Procurement centers and other platforms engage in the bidding and procurement process. Therefore, this case does not involve a conventional bidding arrangement since the tenderee and the purchaser are not the same party. In addition, another controversy has arisen as to whether the Government Procurement Law is applicable to the Centralized Procurement of drugs following the case of Shenyang Aojina Pharmaceutical Co., Ltd. v. Shandong Finance Bureau, which was heard by the Shandong Jinan Intermediate People’s Court in March, 2015. Another law which cannot be ignored is the Anti-monopoly Law. The language of the Anti-monopoly Law might be adopted to challenge certain ministerial regulations, and local government normative documents which prohibit Price Renegotiation. Some have argued that a prohibition of all Price Renegotiation enables administrative monopolies in violation of the Anti-monopoly Law. Additionally, in practice, the local NHFPC and/or the medical groups organize public hospitals within a particular region, and the hospitals can use their collective market position to force pharmaceutical companies to conduct Price Renegotiation after the companies win bids through Centralized Procurement. Such activity may constitute an abuse of market dominance in violation of the Anti-monopoly Law. Possible Legal Risks Based on the cases collected so far, no pharmaceutical company has been punished as a result of engaging in Price Renegotiation. In most circumstances, it was the medical institutions which were punished because they were involved in compliance issues related to commercial bribery or other anti-unfair competition activity during Price Renegotiation. In other words, the medical institutions received administrative punishment for unrelated matters when engaging in Price Renegotiation and were not punished by the NHFPC, despite the NHFPC’s express opposition to Price Renegotiation. In terms of legal risk, pharmaceutical companies cannot be entirely exempted from liability in the context of commercial bribery. In practice, precedent shows that both parties found to be engaging in commercial bribery will be subject to administrative punishment. In addition, we cannot completely discount the risk of criminal prosecution. In commercial bribery cases, it is relatively difficult for pharmaceutical companies to prove that such bribery was not aimed at obtaining illegal benefits or competitive advantage. The NHFPC, however, cannot directly create any administrative penalties without legal or State HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Council regulatory authorization. Therefore, the NHFPC’s administrative penalties for engaging in Price Renegotiation require a legal basis from laws such as the Government Procurement Law, the Price Law or the Anti-unfair Competition Law. In addition, it should be noted that the NHFPC is in charge of directly regulating medical institutions under the functional division of government agencies. Therefore, NHFPC regulations are seen as only applying to medical institutions rather than pharmaceutical companies. Furthermore, if the Government Procurement Law is applicable to Centralized Procurement, medical institutions and pharmaceutical companies have to consider the potential risks posed by the Government Procurement Law and the Administrative Measures on Tenders and Invitations to Bid in Government Procurement of Goods and Services in the case that purchasers and suppliers substantively change the bidding results. Strategies for Pharmaceutical Companies In this article, we have discussed the issues that pharmaceutical companies should pay attention to during Price Renegotiation and the strategies that they may take in response. We welcome pharmaceutical companies with specific Price Renegotiation issues to discuss those issues with us for a more targeted case analysis and discussion. We also recommend pharmaceutical companies to re-examine their existing contracts and business methods from the following aspects: a. Be clear about the policy environment and regulatory attitudes in different provinces. The Centralized Procurement of drugs is the responsibility of local governments, and it is therefore crucial for pharmaceutical companies to clarify local policy orientations and regulatory attitudes. We recommend pharmaceutical companies to consult local government authorities and refer to relevant laws and regulations in order to better understand local policies and regulatory attitudes, and to evaluate potential risks. Meanwhile, we recommend pharmaceutical companies to pay special attention to informal methods of Price Renegotiation and to evaluate different levels of potential risk. b. Optimize business models and processes. For instance, when doing business with distributors, pharmaceutical companies should engage in risk prevention and conduct a review of business practices such as processing documents, communication methods, issuing invoices, and distributors’ codes of conduct. c. Implement internal checks and recordkeeping. For transactions involving Price Renegotiation, we recommend that pharmaceutical companies establish an internal check and recordkeeping system to record the transaction process which can be used as a basis of evidence or defense in any possible subsequent investigation. d. Legal defenses based upon anti-monopoly legal analysis. As pharmaceutical companies are faced with more and more pressure to engage in Price Renegotiation, it is worth noting that HAN KUN LAW OFFICES BEIJING SHANGHAI SHENZHEN HONG KONG www.hankunlaw.com Price Renegotiation may be involved with administrative monopoly or abuse of market dominance. It is of interest to the pharmaceutical industry to discuss how the Anti-monopoly Law can be used as a tool to protect the rights of pharmaceutical companies.