However, if the patent is strong, the monopolist may not offer a deal as long as the litigation costs are less than its expected monopoly profits. The challenger gains from settling as long as the payment to stay out at least equals the expected future profit net of litigation costs. Alternatively, it can avoid the uncertainty and litigation costs and accept a suitable payment. If it wins, it can earn duopoly profits for 180 days, followed by an N-opoly period in which it shares the generic segment of the market with other generic producers. The generic firm can reject the deal and face litigation cost and take its chances in the court. There are clear trade-offs in arriving at such a deal. Such a reward is not available to later challengers even if the first one settles with the patent holder. The first generic company to successfully file for market authorization under section IV of the Act is explicitly rewarded a 6-month exclusivity period, during which time no other generic firm can market its drug. As has been noted in this literature, these deals are typically initiated after the patent protecting the molecule expires, but while other patents associated with the drug, as registered by the US Food and Drug Administration (FDA), remain in force. Prior literature has relied on institutional details of the American legal system vis-à-vis the market authorization rules and provisions of the Hatch–Waxman Act of 1984, particularly section IV of the Act (called a ‘para IV challenge’) to provide an explanation of how P4D deals come about (Bulow, 2004 Frank, 2007 Hemphill, 2009 Mulcahy, 2011 Regibeau, 2013 Scott Morton, 2013 Scott Morton & Kyle, 2011). The eventual entry by a generic firm takes place at a later date, potentially well after a court may have declared the patent invalid, but also typically before the expiration of patent itself.
#FIRST MOVER ADVANTAGE LICENSE#
The branded firm may additionally agree not to launch an in-house generic during the exclusive license period. Moreover, it often also acquires a right from the patent holder to enter at a later date, but before the patent expiration itself as an authorized licensed generic with an exclusive license. In return for the payment, the generic firm abandons its challenge and agrees to stay out of the market. The deals are referred to as ‘reverse payments,’ because the payment is from the infringed to the infringer, rather than the other way around. They arise in out of court settlements because the patent holder has sued the potential entrant for infringement of its intellectual property. Tentative implications for patent policy are proposed.A pay-for-delay (P4D) deal is a ‘reverse payment’ from a patent holder to another drug manufacturer seeking entry for its generic equivalent drug. But in the majority of cases investigated, innovation is profitable even without patent protection. Cases emerge under which incentives are insufficient without patent protection, most notably, when target markets are small, imitation lags are short, and imitators’ erosion of the innovator’s market share is rapid.
Computer simulations then investigate whether profitability under diverse first mover advantages is sufficient to motivate investment in research and development. The paper begins by modifying the pioneering analysis of William Nordhaus to deal with product innovations. This paper advances the analysis of incentives for technological innovation by examining the conditions under which first mover advantages – e.g., a head start, the necessity for imitators to incur their own research and development costs, production cost advantages derived inter alia through learning by doing, and the reputational “image” advantages of first movers – provide an adequate substitute for patent protection.
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