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When a negotiating a license or collaboration agreement for a early stage drug or discovery collaboration, the 10-15 years length of the royalty term seems like a long time in the future, especially if the drug will not even be launched for 5-10 years. However, as Lilly, BMS and others recently learned, every year can be worth millions or even billions of dollars in revenues to the pharma company and 5-15% of that amount in royalties to the biotech licensor.

How should this issue be handled? Typically, license agreements provide that royalties are payable for the longer of a fixed number of years (i.e., 10-15 years) after the first commercial sale or the life of the patent. “First Commercial Sale” should be defined to clarify whether the parties intend to include such activities as sales on a named patient basis or under treatment IND programs. Royalty terms are typically specified on a country-by-country basis, or at least on a regional basis. A more difficult issue to resolve is usually defining which patents are used as the benchmark.

Licensor’s patents may be appropriate when licensing a late stage product that is fully protected by patents. Such approach is often not acceptable under discovery programs because usually the more important composition of matter patents will be owned or licensed is actively involved in the medicinal chemistry efforts and is likely to play a key role in the conception of the compound. Moreover, the licensee should play a important role in activities that may extend the patent extending formulations and clinical uses. Accordingly, licensors will often insist that patent rights held by both the licensor and licensee should be used to measure the royalty term.

Three performance issues should also be addressed. First, the agreement should provide which entity shall be responsible for developing patent extending product improvements, such as formulations (e.g., slow release formulations), methods of manufacture or new indications of use.

Second, both U.S. and European law also provide statutory patent extensions of up to 5 years to account for delays in conducting clinical trials and obtaining regulatory approval. Composition of matter and method of use patents are eligible for extension and only one patent may be extended for each approved product. Thus, it is critical that the parties agree on the appropriate patent to extend. This issue can sometimes be difficult to resolve if, for example, there may be choice between the stronger composition of matter patent with a shorter life and a weaker method of use patent with a longer life. The agreement should therefore provide a procedure for obtaining the maximum extension possible.

Royalty terms typically refer to a fixed number of years of the life of relevant patents. However, the parties should also consider the exclusivity protection provided by statutory market exclusivity rights other than patents – especially if there are no composition of matter patents. For example, an NDA or ANDA for a drug designated as an “orphan drug” for the same indication cannot be filed by another company for 7 years (10 years in the EU and Japan) after marketing approval of the orphan drug. NDA holders of New Chemical Entities that are into designated as “orphan drugs” are protected for 5 years from the submission of an ANDA.

The third performance issue that should be considered, as the BMS Taxol cases highlight, are provisions concerning responses to potential generic competition. If the NDA holder commences patent litigation after an ANDA applicant makes a so called “Paragraph IV” certification (i.e., states that the generic drug does not infringe or the patent is not valid), no other ANDA may be approved for 30 months. Thus, the NDA holder may enjoy a further period of exclusivity so long as the patent infringement suit is continuing.

Additionally, licensors may demand that royalties be paid for so long as a product is sold-although at reduced rates after exclusivity ends.