Tolling for Pharmaceutical Production in Russia

Nina Belozertseva
Senior Attorney, Pepeliaev Group
Pharmaceuticals and Health Care Sector

It is obvious now that Russian pharmaceutical companies today and in the near future will not be able to satisfy the demand for medicine. For this reason, Russian authorities are creating wide opportunities for the development of local production established by or with the participation of foreign pharmaceutical companies.

A number of foreign producers are considering the options of establishing joint ventures or pharmaceutical production at existing production facilities in Russia by entering into tolling agreements (agreements for the processing of raw materials supplied by the customer).

The established Russian practice of pharmaceutical production using the raw materials supplied by the customer implies the transfer to a Russian enterprise holding a pharmaceutical license of imported medical raw materials in bulk and packaging materials for primary and secondary packing. To implement such arrangements, it is required to establish a clear-cut modern legal regulation of the issues associated with the development, registration, production and distribution of medicine for the purpose of the most efficient, timely and quality supply of medicine to the population of Russia. At the moment, there are no key legal notions in the pharmaceutical sector, or such notions are ­construed not in a straightforward manner.

The primary challenge facing pharmaceutical companies entering the Russian market when they choose an operating arrangement is a certain ambiguity of the key notion of “domestic” or “local” producer. The effective version of the federal law “On Medicine” sets out the following notions: A pharmaceutical producer means a company engaged in pharmaceutical production in accordance with the law. Pharmaceutical production means mass production of medicine in accordance with the rules for the production and quality control of medicine. Based on the above notions, only a company holding a production license is deemed to be a pharmaceutical producer.

The question remains whether primary and secondary packing activity constitutes production and how to classify a company (as a local or a foreign producer) that transfers raw materials and packaging for processing by an outsource company and that is an owner of said raw materials and other supplies as well as finished goods under the contract between said parties. May we classify such a company as a producer of finished goods, or is it only a trading company? The federal regulations do not answer these questions.

The new federal law No. 61-FZ “On Circulation of Medicines,” dated April 12, 2010, which enters into force fr om Sept. 1, 2010, contributed to the ambiguity of the situation. Under the new federal law, a pharmaceutical producer means a company engaged in pharmaceutical production in accordance with the law. Pharmaceutical production means production of medicine carried out by companies, which are pharmaceutical producers, at a single stage, several stages or all technological stages, as well as storage and sale of produced medicine. If we proceed fr om the above definitions, not only the company holding a production license but also a trading company engaged in the storage and sale of produced medicine may be classified as a pharmaceutical producer.

It is the author’s opinion that primary and secondary packing of medicine may be classified as production activity. According to the Rules for Production and Quality Control of Medicine (GMP) (approved by the Russian Ministry of Health Care and Social Development on Feb. 25, 1998) — OST 42-510-98, “finished goods” are understood to mean “medicine that has undergone all production stages, including packing and labeling,” wh ereby packing and labeling are expressly referred to as production stages.

A company transferring raw materials for subsequent processing may also be recognized as a pharmaceutical producer. Firstly, under the contract, such a company will be the original owner of produced medicine. Secondly, in accordance with the Rules for Production and Quality Control of Medicine (GMP), “production” is understood to mean “all operations of the production of finished medicine, starting fr om the purchase of raw materials, auxiliary, packing and labeling materials and semifinished goods to production and packaging, including granting of a license for the sale, storage and transporting of medicine and relevant control measures, including quality control of finished goods.

Consequently, both the company that purchases and transfers raw materials for processing and the company processing such raw materials are immediately involved in the production. In other words, they may be classified as pharmaceutical producers. A company processing raw materials should be recognized as an entity responsible for product quality.

The above conclusions are of great importance inter alia for the taxation of the company that transfers raw materials (whether a producer or not). Moreover, the issue has become even more acute with the introduction of the rules for compulsory state registration of the lim it selling prices for the essential medicine list. It is still not clear, however, which company is obligated to register the lim it selling prices.

The absence of clear-cut definitions leaves grounds for possible conflicts of interests, giving the person that makes a decision the right to determine the final definition, which surely creates additional barriers to long-term foreign investment in the Russian pharmaceutical sector.