The issue with distributors
Medical device manufacturers are under an obligation in the EU MDR and IVDR to establish a system of communication with other economic operators and with customers for their devices.
Communication is necessary for the manufacturer to properly fulfil their vigilance and post market surveillance obligations, but also with respect to distributors, to ensure that the quality of the devices is maintained through to the end user. The difficulty for manufacturers who use distributors and/ or who don't sell directly to end users or customers is retaining sufficient control over the supply chain such that they have a direct line of sight all the way through to the end customer and/or user.
How to manage distributors
The right way to manage onward sales by distributors is through contractual provisions. The contract should include provisions on complying with applicable laws including:
- An obligation to comply with good distribution practice for medical devices, or something equivalent (for which a schedule of such obligations can be included).
- An obligation to report all complaints to the manufacturer as well as for overseas manufacturers, to the Authorised Representative (for the EU and Northern Ireland) and to UK Responsible Person (for Great Britain) and in the case of a distributor, to the importer.
- An obligation to support the manufacturer in post market surveillance requirements, including in recalls.
- A requirement that all the above and other important terms necessary to allow the manufacturer to comply with its legal obligations (including GDPR) should be included in any sub-distribution agreements.
The distribution agreement can include permitted clauses in relation to active and passive sales in the EU and UK to control onward sales, as discussed in more detail below.
How not to manage distributors
It is tempting for manufacturers to want to impose more practical restrictions on sales by their distributors. However, some of these could cause competition law issues and potentially open the manufacturer to substantial fines.
The EU, in advancing its single market, has specific rules that deal with restriction on trade between Member States. The Vertical Block Exemption Regulation (VBER) and the corresponding Guidelines go into detail on what can and can’t be done. The VBER makes a fundamental distinction between active and passive sales.
"Passive" sales are those which a distributor makes when it receives an unsolicited request from a customer/reseller in another EU country. "Active" sales are those where the distributor actively approaches individual customers (with visits and calls etc), or where they use an active approach to marketing by advertising to potential customers.
In agreements with distributors, the VBER allows a manufacturer to impose restrictions on active sales only for sales in the territory of another exclusive distributor. The EU accepts that, to encourage investment, the appointed exclusive distributors must be protected from active sales. Passive sales on the other hand, must always be allowed (and there are very few specific exemptions to this rule).
When considering what might amount to an unlawful restriction on passive sales, EU law considers not only the language in the agreement but also conduct which has the effect or could have the effect of partitioning the market, including by practically preventing passive sales such as:
- having products with slightly different labelling in different countries in Europe, either (a) to make it difficult for distributors to sell in other countries, or (b) to use different bar codes to determine if a distributor makes sales in other countries, particularly if there are then retaliatory actions against distributors
- the addition of a country flag label to indicate where the device is to be sold (rather than showing the origin of the device)
- a label prohibiting onward sales within the EU/EEA.
These rules apply to the countries in the EU and the EEA, so it is permitted to prevent or prohibit exports outside the EEA.
UK position
In relation to the UK, the situation is a bit more complicated. The UK has now its own Vertical Block Exemption Order (VABEO), very similar to the EU VBER, and the distinction between active and passive sales is included but in relation to trade between the four counties of the UK.
Since the UK has left the EU, the VBER does not apply in the UK. This does not mean that manufacturers could restrict all exports from the EU to the UK: UK competition law should still be taken into account. The UK Competition Authority, the CMA, has stated that export bans to the UK are not per se illegal but if they have a restrictive effect on competition in the UK, they could be considered a be a breach of UK competition law which, following an investigation, could lead to a fine. For these reasons, most manufacturers are treating the UK as it was still part of the EU for the purposes of applying the VBER when structuring their distribution network.
Breaching the law
In the EU, fines for restricting passive sales are high: Nike was fined in March 2019 €12.5 million, Sanrio in July 2019 €6.2 million, Comcast Corp in January 2020 €14 million, Melia in February 2020, €6.7 million. The maximum fine that might be imposed in the EU is 10% of annual worldwide turnover of the company or group of companies.
The UK has not yet seen any cases in respect of sales restrictions.
Online sales
The VBER also deals in detail with active and passive sales online. A vertical agreement which has the object of preventing the effective use of the internet by the distributor or its customers to sell the contract medical devices to particular territories or customers would be a serious breach of competition law.
However, restrictions relating to the use of particular online sales channels, such as online marketplaces, or the imposition of quality standards for online sales can be legal as long as they do not indirectly have the object of preventing the effective use of the internet by the buyer to sell the contract medical devices to particular territories or customers
When it all goes wrong
If manufacturers find that their devices are being sold from inappropriate locations, for example an online platform for selling directly to consumers in the case of prescription only medical devices, this should be taken up with that retailer. The instructions for use (IFU) for a prescription-only medical device will state that it should only be used under the supervision of a medical professional. Large consumer marketing platforms with a large online presence cannot afford the loss of reputation if they are found to be selling a medical device directly to consumers without a doctor's prescription contrary to the IFU.
Separately, although the manufacturer cannot stop passive sales by its distributors, the manufacturer has the right to enforce by contract the requirement to show proof that the sale is purely passive.
Where there is unlawful activity, including any failure of a distributor to register with a national regulatory authority, it is of course open for the manufacturer to report this to the relevant competent authority.
Conclusion
This is a complex area where not only is the risk of fines high, but the fines are also high. Companies, especially those outside the EU, might not be familiar with the peculiar EU rules in vertical agreements. We have advised on several initiatives that could have been deemed an indirect restriction of passive sales and we have redesigned the distribution systems of our clients to ensure they are compliant with EU and UK competition law and afford only the permitted controls over the supply chain.
