Testimony by
Derek J. Schafer to FTC hearings October 23, 1995
Competition in Innovation
We live in a world of change. Companies need the agility to find new products and the resources to overcome whatever technical hurdles stand in the way of bringing those new products to market rapidly. If they fail to innovate, then companies will inevitably lose out in the marketplace. A dominant position in that marketplace with yesterday's products is no longer sustainable for any serious length of time. Indeed, companies which fail to innovate as rapidly and effectively as their competitors in todays commercial markets find themselves fighting to survive.
Technology has moved to the top of the list of factors which determine market performance and which allow market dominance.
To innovate successfully, companies need to tap into two different types of resource. First, they need to have a depth of developmental expertise and professionalism dictated by the nature of the industry concerned. This may be a matter of ensuring product safety, dealing with regulatory bodies, meeting a variety of different standards or just the sheer technical complexity of the area. In the pharmaceutical industry, the requirements of proving safety and efficacy to the satisfaction of the FDA and other regulatory bodies around the world makes this both a costly and lengthy exercise. Companies which build up professional resources capable of taking new products through this process rapidly and successfully have a real competitive advantage in the marketplace. This advantage is not easily duplicated by new competitors and acts as a real barrier to entry in the industry.
For many year, this barrier to entry seemed difficult to breach. However, the rapid development of the biotechnology industry showed that the combination of venture capital combined with entrepreneurial science could create competitive new development of pharmaceutical products. I am using the term "biotechnology" but really intend these remarks to extend to a whole range of new, innovation-driven entrants to the pharmaceutical market which may not all be based strictly on biological products. Biotechnology companies have chosen a variety of ways of getting their products to market, often using strategic alliances with larger pharmaceutical companies. They may also, of course, be the subject of acquisitions by those companies.
Antitrust needs to recognise the biotechnology companies as a positive force for competition in the pharmaceutical industry and in particular to ensure that the development of antitrust does not hinder their ability to raise capital and compete. I make no specific recommendations but it is worth noting that, in being dependent on investors and investor sentiment, rather than cash flow from existing products, the financial strength of the newer companies can fluctuate substantially over quite short time scales. The companies usually have to rely on what are often complex commercial and technical relationships with both other companies and sources of technology. We need to ensure that such relationships are, by and large, treated sympathetically by antitrust.
The second ingredient for technological success is that difficult to define quality or power of inventiveness - the ability to create significantly better products. Here, a critical factor is a company's ability to protect an invention - usually by means of a patent. It seems to me extremely important that patents are integrated into antitrust thinking in a positive and constructive way.
Why? Well, the first thing to recognise is what seems at first sight to be a paradox. Monopoly promotes competition. Of course monopoly also has adverse effects on competition, but in the area of technology, the limited monopoly granted by a patent is vital in stimulating the process of invention. It provides both the financial incentive and the protection of investment without which the invention of new products would not happen. The limited monopoly granted by a patent should be regarded not as in conflict with the antitrust laws but as the borderline defining the area where the pro-competitive effects of monopoly exceed its anti-competitive effects in the area of technology.
This should also be reflected in commercial transactions involving patents. So, for example, while the division of a market between companies who would otherwise compete may be a ligitimate target for antitrust, the division of a ligitimate monopoly granted by a patent, between competitors, should be presumed pro-competitive absent clear evidence to the contrary.
Finally, however, technology does provide the means for companies to acquire market dominance beyond that anticipated by the patent laws. Such concerns may arise, for example, where a company acquires or merges with a competitor or competitors and in the process acquires a dominant position in a market by controlling key products or technologies which it has not created solely by its own inventive efforts. Concerns of this sort have been raised in relation to recent mergers and acquisitions in the pharmaceutical industry. In my view, the changes in the industry have been prompted mainly by fundamental changes in the provision of healthcare in the United States, and indeed in many other advanced economies, rather than by a desire to concentrate market power. Nevertheless, such mergers do raise real antitrust concerns, including those based on new product pipelines as well as existing products.
Antitrust faces many special problems in seeking to alleviate concerns based on such technology - based accumulations of market power.
Timing and Risk. In pharmaceuticals, development is spread over timescales of many years and is usually very visible because R&D, at least at the clinical stage, is conducted outside the company and in an open, publishing environment. New products are usually, therefore, well recognised and their potential impact on the market anticipated well before sales begin. On the other hand, pharmaceuticals are at risk of catastrophic failure at any time during their development, because a single sufficiently adverse clinical or toxicological finding can prevent the product absolutely from reaching its intended market. Antitrust analysis has to begin before sales take place but must still incorporate such uncertainties.
Market definition. The familiar problem for antitrust in distinguishing between broad and narrow definitions of the relevant market are made more difficult with technology - based markets. There is a risk of being lured into too narrow a market definition by the technical distinctions which can be drawn between products. On the other hand, new classes of product may change the fundamental shape of a market by providing new and much more effective treatments.
Divestment. Divestment of a technology or of a product under development, if that is a way of resolving an antitrust issue, raises many difficult practical issues compared to divesting other assets. Indeed, many of the problems are familiar to those engaged in the business of technology transfer and licensing. Firstly, a product development program is not an entity separate from all other company activities. On the contrary, the program will be made up of contributions from throughout a company's development functions and staff, most of whom will usually not be the subject of the transfer. The transfer of information, data and technology to new staff, new laboratories, etc. is therefore very critical and can easily cause damage and delay to the integrity of the asset if not carried out well. Secondly, timing can be critical. The stage of development of an asset may have a substantial effect on its transfer to another company or on the choice of company to whom it can be transferred. Thirdly, the commercial basis for a transfer may not be simple. Valuation of technology, pre-market, has always been a problematic issue. Timing and the assessment of remaining risks of failure are critical but difficult to forcast. In the pharmaceutical industry, whose technology transfer executives are a very professional and experienced group, licensing is still carried out by a process of bartering assets - rather like commerce before the invention of money.
The FTC has turned to people outside the Commission to help in the process of divestment of technology - based assets and it is my privilege to be involved in one such situation. In general, I think that each case requires a careful analysis of all the facts and there is no easy way to set out rules for what should or should not be done in each case.
In recognising the importance of technology - based markets, I think that the FTC is becoming one of the important forces in the business of technology transfer. I think there is an opportunity for the Commission to work with the technology transfer profession to find ways of securing efficient technology transfer and to explore creative solutions to technology - based antitrust issues.