Supply Agreement for Medicinal Products

 

Anna Ivanova, Lawyer at BRACE Law Firm

May 30, 2022

BRACE Law Firm ©

 

Under Article 506 of the Civil Code of the Russian Federation (the "Civil Code"), a supplier-seller engaged in business activity undertakes to transfer, within a specified period or periods, goods it produces or purchases to a buyer for use in business activity or for other purposes not related to personal, family, household, or other similar use.

As one of the most critical types of civil law transactions, the supply agreement is reliably regulated by the relevant articles of the Civil Code. Consequently, the key provisions of Articles 506–524 of the Civil Code (concerning the parties to the transaction, the assortment of goods, the procedure and form of settlements, the moment of title transfer, etc.) generally apply to supply agreements for medicinal products.

However, supply agreements for medicinal products possess specific features both from a legislative standpoint and within the framework of established law enforcement practice.

General Provisions on Supply Agreements for Medicinal Products

First, it should be noted that relations regarding the supply of medicinal products within the Russian Federation constitute part of pharmaceutical activity, which is regulated based on the provisions of Federal Law No. 61-FZ dated April 12, 2010, On the Circulation of Medicinal Products (the "Law on Circulation of Medicinal Products"). Pharmaceutical activity includes the wholesale trade of medicinal products, their storage, transportation, and (or) retail trade of medicinal products, their dispensing, storage, transportation, and manufacturing. Thus, the supply of medicinal products is nothing other than the wholesale trade of medicinal products.

According to FAS Russia (Letters of FAS Russia No. IA/64899/17 dated September 19, 2017, No. IA/41856-PR/17 dated June 21, 2017, and No. AD/43043/14 dated October 23, 2014), if the object of procurement is the supply of medicinal products, the Customer must establish a requirement for bidders to comply with Russian legislation. Specifically, if a bidder is not a manufacturer of medicinal products, it must hold a pharmaceutical activity license for "wholesale trade of medicinal products". Roszdravnadzor confirms this position. [1]

Under the general rule of Article 54 of the Law on Circulation of Medicinal Products, manufacturers of medicinal products and pharmaceutical wholesale organizations conduct wholesale trade of medicinal products according to the rules of Good Distribution Practice (GDP) and the rules of good practice for the storage and transportation of medicinal products approved by the relevant authorized federal executive bodies. Furthermore, pharmaceutical wholesale organizations must comply with the maximum periods for shipping medicinal products for medical use requested by a pharmacy organization and may not refuse to supply medicinal products to a pharmacy organization with which they have a corresponding supply agreement. The authorized federal executive body establishes the maximum shipping periods for the requested medicinal products depending on the location of the shipping point.

Thus, in addition to the general requirements of the Civil Code for supply agreements, the supply of medicinal products must comply with the Rules of Good Distribution Practice within the Eurasian Economic Union. One of the requirements of these Rules is the implementation of a pharmaceutical quality system, which includes the organizational structure, procedures, processes, and resources, as well as actions necessary to ensure the quality and integrity of the supplied medicinal products and to prevent their falsification during storage and (or) transportation.

Furthermore, a distributor must have a sufficient number of qualified employees involved in medicinal product distribution at all stages. The volume of work and the legislative requirements of the member states determine the number of employees. [2] Additionally, the rules of Good Distribution Practice establish requirements for equipment and the procedure for supplier assessment. Medicinal products must be stored appropriately in designated and clearly marked areas, accessible only to authorized personnel. A distributor purchasing medicinal products from another distributor must verify that the supplier complies with GDP requirements and holds the necessary authorization issued by the authorized body.

According to the Rules of Good Practice for the Storage and Transportation of Medicinal Products for Medical Use, approved by Order of the Ministry of Health of Russia No. 646n dated August 31, 2016, the area of premises used by manufacturers and pharmaceutical wholesale organizations must correspond to the volume of stored products and must be at least 150 square meters.

The above requirements primarily apply to manufacturers and distributors of medicinal products and are often not explicitly stated in supply agreements. However, a manufacturer's or distributor's compliance with these requirements must be verified before concluding a supply agreement during the counterparty due diligence process.

Below, we consider the primary terms of a supply agreement that typically cause the greatest number of disputes.

Supply Price for Medicinal Products

When concluding a supply agreement between two legal entities, based on the principle of freedom of contract, the parties determine the supply price independently, forming it based on market prices for similar goods. However, when medicinal products are supplied within the framework of state and municipal procurement, specific rules for price determination apply.

Order of the Ministry of Health of Russia No. 1064n dated December 19, 2019, establishes the procedure for determining the Initial Maximum Contract Price (IMCP), the contract price with a single supplier, and the initial price of a unit of goods when purchasing medicinal products.

This document establishes the following methods for determining the IMCP:

• The comparable market price method;
• The tariff method;
• The weighted average price calculation method;
• The method using reference prices.

The comparable market price method (market analysis) involves establishing the IMCP for a contract concluded with a single supplier based on information about the market prices of identical goods, works, or services planned for procurement, or, in their absence, homogeneous goods, works, or services.

The Customer applies the tariff method if, in accordance with Russian legislation, the prices of the purchased goods are subject to state regulation (when purchasing medicinal products included in the List of Vital and Essential Drugs (the "VED List")). In this case, the IMCP is determined according to the state register of maximum selling prices of manufacturers for medicinal products included in the VED List. [3]

The weighted average price is determined based on all state (municipal) contracts or agreements for the supply of the planned medicinal product, taking into account equivalent dosage forms and strengths, executed by the supplier for the Customer during the 12 months preceding the month of the IMCP calculation.

The calculation of reference prices is performed automatically, considering the volume of medicinal product procurement, using the resources of the Unified State Health Information System in the Sphere of Healthcare (EGISZ).

The IMCP per unit of a medicinal product is established by the International Nonproprietary Name (the "INN") or, in the absence of such a name, by the grouping or chemical name.

After calculating the IMCP using these methods, the minimum IMCP value must be selected, to which the amount of VAT (10%) or the wholesale markup for drugs included in the VED List is added.

When procuring drugs with the possibility of supplying several equivalent dosage forms and strengths within one INN, Customers at the procurement announcement stage used the functionality developed within the EIS to add relevant supply options within the selected INN or used already formed groups of medicinal products unified by the principle of dosage form equivalence and strength multiples. Reference information on equivalent dosage forms and multiple strengths of drugs included in the VED List is available on the ESKLP website in the "Interchangeability Groups of Medicinal Products" section. [4]

On the one hand, determining maximum selling prices for the VED List is a critical measure in price policy regulation. On the other hand, it is essential to maintain a balance of interests between the supplier and the buyer to prevent suppliers of vital drugs from leaving the Russian market. With this in mind, maximum selling prices must be indexed with a certain frequency. [5]

Thus, establishing the IMCP for purchased medicinal products, including those in the VED List, has its own specifics. Furthermore, Article 7.29.1 of the CAO RF provides for liability of a state customer’s official in the amount of 30,000 to 50,000 rubles for violating IMCP determination rules.

In some cases, additional price justification is required if a procurement winner offers a price 25% lower than the IMCP. Under part 9 of Article 37 of Federal Law No. 44-FZ dated April 5, 2013, On the Contract System in the Sphere of Procurement of Goods, Works, and Services for State and Municipal Needs (the "Federal Law No. 44-FZ"), if the subject of a contract for which a tender or auction is held is the supply of goods necessary for normal life support (food, means for providing emergency or urgent medical care, medicinal products, fuel), a bidder offering a contract price or a sum of unit prices 25% or more below the IMCP must provide the Customer with a justification for the proposed price. This justification may include a guarantee letter from the manufacturer indicating the price and quantity of the goods to be supplied, documents confirming the bidder has the goods, and other documents and calculations confirming the bidder's ability to supply the goods at the proposed price.

If the procurement winner fails to provide such information, it will be deemed to have evaded concluding the contract, followed by the entry of its data into the Registry of Unfair Suppliers (the "RNP"). [6] In some cases, FAS Russia may refuse to include a winner in the RNP if evidence is obtained showing that the winner was not at fault for failing to provide the required justification. For example, the Vladimir OFAS decided against RNP inclusion because evidence was presented that the failure to sign the state contract resulted from unforeseen circumstances, namely an emergency power outage. The provision of contract performance security confirmed the intention to conclude the state contract. [7]

Based on the above, price determination in a supply agreement plays a key role in coordinating supply terms. Particular attention is paid to price determination in supplies within state and municipal procurement and supplies from the VED List. These features are driven by the need for the reasonable use of budget funds while maintaining the availability of medicines for the end consumer.

Quality of Medicinal Products Supplied Under a Supply Agreement

According to the Rules of Good Pharmacy Practice, ensuring the quality of medicinal products is the set of all organizational measures taken to satisfy quality requirements for medicinal products in accordance with their intended use. Under Article 4 of the Law on Circulation of Medicinal Products, the quality of a medicinal product is the compliance of the medicinal product with the requirements of a pharmacopoeial monograph or, in its absence, the regulatory documentation or regulatory document.

Clearly, only high-quality medicinal products must be supplied under a supply agreement. However, in practice, various disputes regarding the quality of supplied goods may arise, which may subsequently result in civil law disputes or disputes related to administrative or even criminal liability.

Specifically, cases involving the liability of suppliers for the supply of falsified medicinal products are most common. Under Article 6.33 of the CAO RF, the sale of falsified medicinal products entails an administrative fine of 70,000 to 100,000 rubles for individuals; 100,000 to 600,000 rubles for officials; 100,000 to 600,000 rubles or administrative suspension of activities for up to 90 days for individual entrepreneurs; and 1,000,000 to 5,000,000 rubles or administrative suspension of activities for up to 90 days for legal entities.

For example, in one case, the court, having examined and evaluated the evidence in the case file, concluded that the supplier's actions contained elements of an administrative offense under part 2 of Article 6.33 of the CAO RF. The courts noted that medical gases (gaseous and liquid medical oxygen, xenon, etc.) are classified as medicinal products. Liability was imposed because Roszdravnadzor established the use of a medicinal product (medical oxygen) supplied by the company to a hospital that was not registered in the State Register of Medicinal Products. [8]

Administrative liability for the supply of falsified medicinal products applies if the conditions for criminal liability are excluded. Under Article 238.1 of the Criminal Code of the Russian Federation, the sale of falsified medicinal products on a large scale (exceeding 100,000 rubles) is punishable by compulsory labor for 3 to 5 years with disqualification from holding certain positions or engaging in certain activities for up to 3 years, or by imprisonment for 3 to 5 years with a fine of 500,000 to 2,000,000 rubles. In judicial practice, when imposing criminal liability on officials, courts consider whether the accused compensated for the harm caused by the crime. In one case, criminal prosecution against an accused was terminated under Article 25.1 of the Criminal Code because he took active measures to restore the rights violated by the crime—he voluntarily transferred 5,000 rubles to the "Podari Zhizn" (Gift of Life) charitable foundation. As a result of these actions, the person’s public danger significantly decreased, and the court considered it inappropriate to hold him criminally liable. [9]

The introduction of mandatory labeling is intended to reduce the supply of falsified products. Since 2021, labeling medicinal products in the "Chestny ZNAK" system has been mandatory for all medicinal products manufactured in or imported into Russia.

In disputes between suppliers and buyers, courts favor bona fide suppliers if the registration of medicinal products was terminated after delivery. The Supreme Court of the Russian Federation supported a supplier's position in a dispute over the proper delivery of medicinal products, noting that at the time of delivery, the product was not among rejected, falsified, substandard, counterfeit, or withdrawn products; the buyer made no claims regarding quantity or quality upon receipt. The court rejected the buyer's arguments that the medicinal product lost its quality attributes and could not be in civil circulation by law, noting that its shelf life had not expired when the plaintiff approached the defendant. [10]

The most critical aspect in determining the quality of a supplied medicinal product is its shelf life. It is extremely important to regulate the required shelf life at the time of delivery when concluding a supply agreement. Particular attention is paid to residual shelf life in procurement under Federal Law No. 44-FZ. Shelf life represents the date after which the product cannot be used or the period during which it can be used. FAS Russia notes that economic entities offering medicinal products from the same market (or the same medicinal product) but with different shelf lives (or different residual shelf lives despite identical registered shelf lives) are placed in unequal positions if Customers establish shelf life requirements as percentages. For example, if Bidder 1 and Bidder 2 offer the same drug with a 2-year shelf life, Bidder 1 might supply it with a 70% residual shelf life and Bidder 2 with 60%. Both satisfy the Customer's 1-year consumption period, yet Bidder 2 would be unable to participate if requirements were expressed as percentages.

Thus, Customer requirements for residual shelf life expressed as percentages may restrict competition and the number of bidders. FAS Russia believes that the residual shelf life of medicinal products established in procurement documentation must be justified and defined by a specific period (e.g., in years, months, or days) or a specific date. [11]

In addition to these quality requirements, disputes often arise at the procurement stage regarding the equivalence of medicinal products offered by bidders.

Under clause 1 of part 1 of Article 33 of Federal Law No. 44-FZ, the description of the procurement object must be objective. It must not include requirements for trademarks, service marks, trade names, patents, utility models, industrial designs, names of origin, or manufacturers, nor requirements that restrict the number of bidders, unless there is no other way to ensure an accurate description of the object’s characteristics.

In practice, FAS Russia individually assesses requirements for various medicinal products to identify competition restrictions. For example, FAS Russia explained that if a Customer needs additional auxiliary devices, it may form a separate lot or allow bidders to provide such items separately from the medicinal product if it cannot be used without them. [12] A Vologda OFAS decision stated that Customers have an objective need for a drug with specific characteristics: the requirement "the vial must fit the mixing cannula" allows for needle-free dissolution of powdered drugs, protecting medical personnel from injury and contact with hazardous substances. Thus, the control body concluded the state customer justified its requirements. [13]

The above law enforcement practice regarding the quality of medicinal products transferred under supply agreements is common and relevant for assessing risks for both buyers and suppliers.

Parties to a supply agreement are also recommended to specify terms for quality expertise of supplied medicinal products, including the choice of an independent expert institution, which may help avoid prolonged litigation.

Procedure and Deadlines for the Supply of Medicinal Products

Supply deadlines for medicinal products may be determined by a specific delivery schedule or date (for one-time agreements) or by establishing a delivery period from the date the Customer sends an application/order/specification (for framework agreements).

Based on the Civil Code, parties may establish liability for delivery delays through liquidated damages and (or) fines. Under Article 333 of the Civil Code, a court may reduce the amount of liquidated damages. Grounds for reduction include the disparity between the supplier's losses and the penalty amount, a penalty exceeding the agreement's total value, or the insignificance of the delay. [14]

The rules for determining the amount of a fine for improper performance by a Customer or supplier (excluding delays) and the amount of interest for each day of delay are approved by Decree of the Government of the Russian Federation No. 1063 dated November 25, 2013.

The penalty for delivery delay is determined as 1/300 of the key rate of the Central Bank of the Russian Federation for each day of delay on the amount not paid on time (starting from the day after the deadline).

Within the framework of concluded contracts, when a supplier delays performance, special attention is paid to the reasons for the delay and the supplier's fault. For example, a supplier was not included in the RNP because the delay resulted from the absence of certain medicinal products in warehouses, as confirmed by evidence. [15]

In addition to supply deadlines, it is mandatory to regulate the supply procedure (mode of transport, shipping, and acceptance procedures). Parties may voluntarily agree on delivery to the buyer's location or self-pickup from the supplier's warehouse. When organizing supplies through carriers, it is vital to regulate the date and place of the transfer of risk of loss from the supplier to the buyer and the dispute resolution procedure for loss caused by the carrier. Generally, a buyer may demand compensation directly from the supplier even if the loss was the carrier's fault, if the supplier engaged the carrier. If the buyer performed self-pickup, claims would be filed against the organization engaged by the buyer for shipping.

Furthermore, the supply agreement must include provisions on dispute resolution and the procedure for interaction between counterparties and their authorized representatives (via written notices, email, etc.).

This article examined the main features of supply agreements based on key terms that cause the most disputes. The supply agreement is a critical tool for regulating medicinal product supplies and requires a serious approach to its terms. Order of the Ministry of Health of Russia No. 15n dated January 18, 2021, approved a model contract for the supply of medicinal products for state procurement. Nevertheless, it is crucial to analyze all terms of concluded contracts to avoid risks associated with their performance.

 

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References

[1] Letter of Roszdravnadzor No. 01i-71/20 dated January 16, 2020, On the Retail and Wholesale Trade of Medicinal Products.

[2] Decision of the Council of the Eurasian Economic Commission No. 80 dated November 3, 2016, On Approval of the Rules of Good Distribution Practice within the Eurasian Economic Union.

[3] Letter of the Ministry of Finance of Russia No. 24-01-07/64223 dated July 23, 2020.

[4] Letter of the Ministry of Health of Russia No. 18-2/I/2-17599 dated November 17, 2020.

[5] Pharmaceutical Manufacturers Requested a Price Increase for Vital and Essential Drugs // Izvestia, March 17, 2022.

[6] Decision of FAS Russia dated January 20, 2022, in Case No. 22/44/104/34.

[7] Decision of Vladimir OFAS Russia dated January 19, 2022, in Case No. RNP33-1662.

[8] Ruling of the Supreme Court of the Russian Federation No. 308-AD18-16168 dated October 18, 2018, in Case No. A53-1879/2018.

[9] Ruling of the Vyborgsky District Court of St. Petersburg dated March 24, 2020, in Case No. 1-377/2020.

[10] Ruling of the Supreme Court of the Russian Federation No. 303-ES21-62 dated March 10, 2021, in Case No. A73-23863/2019.

[11] Letter of the Federal Antimonopoly Service No. IA/71717/17 dated October 18, 2017, On Clarification of Issues Concerning the Establishment by State and Municipal Customers of Residual Shelf Life for Medicinal Products in Procurement Documentation.

[12] Letter of FAS Russia No. RP/65863/16 dated September 23, 2016.

[13] Decision of Vologda OFAS Russia No. 5-2/256-16 dated October 28, 2016.

[14] Resolution of the Plenum of the Supreme Court of the Russian Federation No. 7 dated March 24, 2016, On the Application by Courts of Certain Provisions of the Civil Code of the Russian Federation on Liability for Breach of Obligations.

[15] Decision of Samara OFAS Russia No. RNP-63-115 dated August 13, 2014.