Contracts for Transferring Rights to Indigenous Genetic Resources

The chemicals produced by natural organisms to resist infections or repel pests might be valuable in agricultural, industrial, and, especially, pharmaceutical applications. Since of all ecosystems tropical rain forests may have the greatest variety of life, these ecosystems may yield the greatest number of chemicals that could be used in the development of new products such as pesticides and drugs. Payments for the use of genetic resources—the natural organisms from which the chemicals are taken—could aid in the development of the poor countries in which most of these forests are found. Such payments would also provide greater incentives for poor countries to preserve their rain forests. Given that these forests are disappearing at an alarming rate, this is an important consideration.

Genetic resources are unusual in one respect. As nonrival goods—that is, goods that can be used or consumed by one person without affecting the ability of another person to use or consume them—they can be exploited by any number of people. This may affect the ability of the countries in which they are first found to obtain payment for their use.

Chemicals to be used in commercial products must be manufactured in large quantities. Once it has been established that an organism is the source of a valuable chemical, it is generally more efficient to produce the chemical by some means other than harvesting the organism in its original environment. For example, the organism may be cultivated on farms outside its original habitat. Its genes might also be transplanted into other organisms, which would then produce the desired chemical. In addition, the molecular structure of the chemical can sometimes be used as a model for developing a similar synthetic chemical. Under each of these production alternatives, a person who sells the chemical or a product containing the chemical would not need to rely on the original source of the organism to acquire the chemical. Thus, if the country from whose plants and animals commercial products are developed is to reap any benefits, it must have some way of controlling access to these organisms.

Simple arrangements for the transfer of genetic resources are unlikely to work; these resources cannot simply be sold in a single, once-and-for-all transaction. This is because large amounts of raw materials from which genetic resources are obtained may be needed to conduct research to develop new products. In the development of pharmaceuticals, for example, initial tests of chemicals may require a few kilograms of sample materials, but if the tests show promise, several hundred kilograms of the materials may be required for the next round of tests. If the latter tests show promise, thousands of kilograms of the material may be needed for clinical trials. Production of commercial quantities of drugs may require millions of kilograms. Even if the drugs are to be produced from organisms cultivated on farms outside their original habitats or are eventually to be synthesized from inorganic materials, several stages of testing and large quantities of the organisms are likely to be required.

It would be impractical to collect very large quantities of organisms before any tests are conducted, however. Experts estimate that only about 1 in 10,000 natural materials sampled yields a commercial product. It would be grossly inefficient to collect many samples of materials to be tested when the probability that any one of these materials will be useful is so low. The practical implication is that a researcher testing natural materials will need to have continuing access to the source of the materials.

The need for continuing access may raise several problems that, in turn, explain the creation of complex contracts between buyers and sellers of genetic resources. The first problem is that the buyer may fear exploitation if he or she requests more materials of the type originally purchased. If the buyer makes such a request, the seller may infer that the buyer has found something useful. The seller would then want to charge the buyer more for the next batch of samples. If the buyer anticipates that the seller will behave in this way, he or she would have little incentive to begin research in the first place: if a discovery is made, the buyer knows that the seller will try to deprive him or her of the profits by increasing the price of samples. A contract in which the price of subsequent samples is specified in advance will relieve such worries.

The second problem that necessitates contracts is that destruction of tropical forests may limit or curtail the continuing availability of sample materials. Rain forests are disappearing because people in the countries where they are located perceive it to be more lucrative to chop them down than to maintain them. As long as rain forests represent a potential payoff, however, they will be preserved. This suggests that a once-and-for-all payment for the right to prospect for genetic resources is unwise. Once such a payment is made, there is no further incentive for conservation.

Contracts are means, often imperfect means, of committing one party to perform in a way that another party desires it to perform. The problems that necessitate complex contracts would not arise if the same party were responsible for all stages of the commercialization of genetic resources. To avoid these problems, one party may attempt to vertically integrate these stages. The degree of vertical integration is the extent to which the same organization engages in the collection of wild species, the classification of these species, the testing of the chemicals they contain, the development of products containing the chemicals or synthetic variants, and, ultimately, the marketing of the products.

Complete vertical integration in the commercialization of genetic resources is unlikely. A major pharmaceutical company is not likely to incur the expense of a purchase of vast tracts of tropical forest, even if it could overcome objections to such a purchase on the grounds of national sovereignty. Nor are many developing countries where tropical forests are found likely to have the financial resources to buy a major pharmaceutical company or the technical know-how to establish one. However, countries rich in tropical rain forests are interested in partial vertical integration. They have expressed a wish to acquire the capability to undertake domestically at least some of the tasks required to produce pharmaceuticals derived from their genetic resources. Such tasks might include collection and classification of natural organisms, extraction of chemicals from the organisms, and some testing of the chemicals.

There are several reasons why a seller of genetic resources might wish to undertake part of the commercialization process. One is cost advantage. A seller may have greater knowledge about the location of raw materials and thus a better vantage point from which to direct collection activities than the buyer. In addition, he or she may have greater knowledge about which organisms may be valuable or about the uses to which the organisms may be put. It should be noted that if the seller can realize a cost advantage in performing certain tasks, it is to the advantage of both the seller and the buyer to let the seller do so. The more efficient the commercialization process is, the more profits both parties may realize. Thus, in the absence of other considerations, the party that can perform a task most efficiently should be entrusted with the task.

Another reason why a seller might wish to perform collection or other commercialization activities is to lower the cost of monitoring the performance of the buyer. Although buyers have an incentive to discover any valuable chemicals produced by the organisms with which they are supplied, they do not necessarily have an incentive to be honest about their profits from sales of these chemicals. Sellers may be compelled to monitor buyers to ensure that they receive their fair share of these profits. However, if a seller knows that one of the resources he or she sold is a promising antibiotic, for example, he or she could simply monitor the buyer's sales of antibiotics rather than monitor all of the buyer's revenues. Thus, by conducting some amount of research and testing, a seller might reduce the cost of ensuring that he or she is not cheated in royalty payments.

Yet another reason why sellers may prefer to perform commercialization tasks themselves is to improve their bargaining position. In general, sellers make more attractive deals when there is a lot of competition among buyers for their genetic resources. In the absence of such competition, a seller may offset the advantage enjoyed by a single powerful buyer by developing capabilities similar to those of the buyer.

A number of large and sophisticated pharmaceutical and chemical companies might bid for access to a particular seller's genetic resources. None of these companies is likely to have an appreciable advantage in terms of technology and general research expertise. It is possible, however, that one of the companies might have greater experience in working with natural organisms or with the types of organisms offered by the seller. In this situation, a less-well-informed company knows that if it receives the contract to commercialize the seller's genetic resources it will be because it has offered more than its better-informed rival, who, presumably, has a better idea of what the resources are worth. Thus less-well-informed bidders will bid less aggressively for contracts. The better-informed company will take this into account, and the seller can expect to receive less than he or she would have if all potential buyers had the same information. In this scenario, sellers may find it advantageous to establish their own research capacity in order to increase their knowledge about the value of their genetic resources and pass this knowledge on to buyers. A similar, albeit more complex, argument suggests that the seller would like to provide information to bidders when all have different, but not objectively better, information.

When one buyer dominates the market due to his or her information about the value of a seller's genetic resources, the seller may want to establish his or her own research capability in order to pass on information to all would-be buyers, thereby stimulating competition.

In recent years a number of organizations have entered into contracts for the commercialization of genetic resources. The National Cancer Institute (NCI) of the United States has negotiated contracts for access to genetic resources in Zimbabwe, Madagascar, Tanzania, and the Philippines. Biotics—a British firm that matches sellers of genetic resources with buyers and provides some extraction and processing services—has negotiated contracts with suppliers in Ghana, Malaysia, and New Zealand. Perhaps the most sophisticated agreement is that recently signed by Merck and Company, a leading U.S. pharmaceutical firm, and the Instituto Nacional de Biodiversidad (INBio), a quasi-governmental organization charged with oversight of Costa Rica's biological diversity.

All these contracts require that the parties promise to perform continuing or contingent obligations. The standard contract forms employed by NCI and Biotics provide for royalties to be paid in the event of discovery. While the Merck/INBio contract calls for a one million dollar up-front payment, there are also provisions for potentially substantial royalties. Reliance on royalties might seem somewhat strange, since sellers might be expected to prefer the certainty of receiving a smaller sum of money in the present to the remote possibility of receiving a larger sum of money in the future. As noted above, however, royalties are a way of creating incentives for the preservation of ecosystems.