I am sure that many of you, like me, felt a satisfying wave of schadenfreude when you heard the news last week that biotech bad boy Martin Shkreli had been arrested on securities fraud charges. Shkreli became the poster-child for drug company price-gouging after his company, Turing Pharmaceuticals, increased the price of Daraprim, a life-saving drug, by over 5,000 percent. However, his arrest is unrelated to his activities at Turing. Instead, his arrest relates to his previous activities as a hedge fund portfolio manager and involves a different biotech company, Retrophin Pharmaceuticals, which Shkreli founded and took public, and at which Shkreli had served as CEO until September 2014.
Now, as discussed below, Shkreli as been named as a defendant in securities class action lawsuit in connection with his role as CEO of yet another biotech company, KaloBios Pharmaceuticals.
As detailed in Bethany McLean’s biographical sketch of the 32-year old former hedge fund manager in the January 2016 issue of Vanity Fair (here), Shkreli has an uncommon talent for stirring up controversy and problems. As McLean puts it in her article, “’Sociopath’ is a not uncommon description of him.” Shkreli’s defiant and unrepentant defense of Turing’s drug pricing moves made him look almost like some kind of cartoon villain.
The criminal charges filed against him last week relate to the moves Shkreli made after disastrous losses at one of the hedge funds he managed. To simplify, the government alleges that, while managing a hedge fund called MSMB Capital, Shkreli made a wrong-way bet on a company called Orexigen Pharmaceuticals. After misrepresenting the hedge fund’s performance and financial condition to the fund investors, Shkreli then used more than $11 million from Retrophin to pay off the defrauded hedge fund investors. According to an FBI agent quoted in the New York Times, Shkreli’s actions represented “a securities fraud trifecta of lies, deceit, and greed.”
The FBI’s December 17, 2015 press release about Shkreli’s indictment and arrest can be found here. The indictment itself can be found here. In addition to the criminal charges, Shkreli has also been hit was with a civil enforcement action by the SEC, as described in the SEC’s December 17, 2015 press release (here). The SEC’s civil complaint against Shkreli can be found here.
Retrophin, which in August 2015 had filed a lawsuit against Shkreli for his alleged breach of the duty of loyalty while CEO of the company, issued a December 17, 2015 press release about Shkreli’s indictment (here). Turning Pharmacuetical’s December 17, 2015 press release about Shkreli’s arrest can be found here.
To all of these legal woes Shkreli now faces you can also add the securities class action lawsuit that was filed against him and others on December 18, 2015. However, the newly filed class action lawsuit involves neither Turing nor Retrophin. Instead, the new lawsuit relates to a company called KaloBios Pharmaceuticals, Inc.
As discussed in a November 23, 2015 Wall Street Journal article (here), KaloBios had been on its last legs and seemingly just about to close down when, on November 16 and 17, 2015, Shkreli began “snapping up” the company’s shares. On November 19, 2015, KaloBios announced that an investment group led by Shkreli has acquired 70 percent of the company’s shares and that Shkreli had been named as the company’s CEO and Chairman. According to the Journal, over the space of six trading days, the price of KaloBios’s shares soared over 4,000%. Unfortunately for KaloBio’s investors, the company’s share price declined 53% on Thursday before trading in the shares was halted on the news of Shkreli’s arrest.
On December 18, 2015, a KaloBios shareholder filed a securities class action lawsuit in the Northern District of California against the company, Shkreli, and the company’s CFO. A copy of the complaint can be found here. The complaint purports to be filed on behalf of KaloBios investors who bought the company’s shares between November 19, 2015 and December 17, 2015, inclusive. According to the plaintiff’s lawyer’s December 18, 2015 press release (here), the complaint alleges that the defendants
failed to disclose that: (1) that the CEO of the Company was engaged in a scheme involving the illegal use of stock from Retrophin, Inc. to pay off debts associated with other unrelated business ventures; (2) that discovery and revelation of the scheme would likely undermine the Company’s operations and prospects; and (3) that, as a result of the foregoing, Defendants’ statements about KaloBios’ business, operations, and prospects, were false and misleading and/or lacked a reasonable basis.
It will be interesting to see how plaintiff’s complaint fares. The allegation that prior to Shkreli’s December 17, 2015 arrest the defendants wrongfully omitted to disclose that Shkreli had been involved in transactions at an unrelated hedge fund and unrelated company that subsequently resulted in his arrest represents an interesting theory. The allegations raise the question of what the plaintiffs contend that the defendants should have disclosed and when they should have disclosed it. The purported class period’s beginning date suggests that the plaintiff will argue that the defendants had a duty under the securities laws when Shkreli became the company’s CEO to disclose that he had been involved in transactions at his hedge fund and at Retrophin that would subsequently result in his indictment. The relevant legal standard says that absent a duty to speak, silence is not actionable. The burden will be on the plaintiff in this new lawsuit to show that the defendants had a duty to disclose the information that the plaintiff claim was wrongfully omitted.
For those who are interested, on November 24, 2015 – that is, just following the period in which Shkreli was “snapping up” the KaloBios shares – Shkreli was the successful bidder (at $2 million) in the online auction for the sole copy of the Wu-Tang Clan album Once Upon a Time in Shaolin. The Cady Bar the Door blog has an interesting post (here) raising the question whether in light of Shkreli’s arrest the album is subject to criminal forfeiture. In any event, at least as of a month ago, Shkreli had ample financial resources. He is going to need whatever remains; he is going to have some serious lawyers’ bills to pay.
And on the question of the costs of Shkreli’s legal defense, you do wonder if KaloBios had and maintained D&O insurance. Shkreli’s acquisition of 70% of the company in November would likely have triggered the change in control provisions found in most D&O insurance policies. These provisions usually provide that upon a change in control, the policy converts to a runoff policy, providing coverage only for actual or alleged wrongful acts taking place before the change in control. Under some circumstances, the D&O carriers will agree to waive the change in control; however, in circumstances like those at KaloBios, where there was a complete change of ownership, management and of the board of directors, the insurers typically are less willing to waive the change in control. If that were the case, the usual course of action would be to purchase extended run-off coverage for the events prior to the change in control, and to purchase a separate go-forward policy for the post-change in control events.
If KaloBios did obtain go-forward coverage, its D&O insurance policy presumptively would respond to the securities class action lawsuit notwithstanding the criminal charges against Shkreli. The typical D&O policy conduct exclusion would not be triggered until a final adjudication that the individual actually engaged in the precluded conduct. If there were no insurance in place, Shkreli might well seen to have his costs of defending against the securities class action laws advance by the company under the company’s indemnification provisions (or under any separate indemnification agreement Shkreli may have negotiated with the company).
The Better Angels of Our Nature: There have been few darker hours in our country’s history than March 4, 1861, the date of Abraham Lincoln’s First Inaugural Address. Seven states had already seceded from the Union and the possibility of an armed conflict loomed. While denouncing secession as anarchy, Lincoln’s address was largely a call for reconciliation. Desperately hoping to avoid the coming conflict, Lincoln ended the speech with an eloquent and impassioned plea:
I am loath to close. We are not enemies, but friends. We must not be enemies. Though passion may have strained it must not break our bonds of affection. The mystic chords of memory, stretching from every battlefield and patriot grave to every living heart and hearthstone all over this broad land, will yet swell the chorus of the Union, when again touched, as surely they will be, by the better angels of our nature.
Yet, as Lincoln himself later put it, the war came. It was a terrible war, its brutality magnified by the use of new mechanized and electrified armaments and devices. By the time the war ended, over 700,000 soldiers had been killed. The war was drawing to a close in March 1865, when the time came for Lincoln’s Second Inaugural Address. Rather than sounding a triumphalist theme or calling for retribution or score-settling, Lincoln again pled for reconciliation, as well as for healing and peace. His address ended with one of the finest paragraphs ever written in the English language:
With malice toward none, with charity for all, with firmness in the right as God gives us to see the right, let us strive on to finish the work we are in, to bind up the nation’s wounds, to care for him who shall have borne the battle and for his widow and his orphan, to do all which may achieve and cherish a just and lasting peace among ourselves and with all nations.
I have had occasion to reflect on Lincoln’s words in recent months. In my view, Lincoln’s two speeches as much as any other Presidential action showed how a great leader leads. In his first address, Lincoln’s appeal to the “better angels of our nature” urged all to recall and preserve what made the Union great and worth preserving. In his second address, with its invocation not of retribution or score-settling, but rather of “malice toward none, with charity for all,” Lincoln communicated what would be required after the terrible ordeal to make America great again.
In July 2016, the party of Lincoln will be gathering in Cleveland to choose the Republican candidate for the November 2016 presidential elections. As we are all too aware, the campaign has already been underway for many months. With the nominating convention still seven months away, it is too early to know who the eventual Republican candidate will be. The current front-runner for the candidacy has made the centerpiece of his campaign a call to Make America Great Again. Given this campaign theme, it is interesting to compare this candidate’s words those of the figurehead of the party he seeks to lead.
For starters, it is clear that the front-running candidate is addressing himself to something decidedly different than better angels of our nature. A recent Time magazine article described one of the candidate’s rallies as involving “a meanness this country has not seen from a politician for generations. ‘This time, it’s not about nice,’ [the candidate] likes to say. ‘We have to be mean now.’” The Economist magazine quotes the candidate as saying “We’re going to be so tough and so mean and so nasty.” Readers will undoubtedly recall the many other things that this candidate has said.
It is disappointing but, alas, not surprising that this candidate’s message has found a receptive audience in certain quarters. There have been other occasions in our country’s history, and indeed in the histories of many other countries, where political figures have succeeded with these kinds of appeals and with this kind of approach.
Undoubtedly, there will be primary voters and convention delegates who believe that a multiplication of meanness is what is required for this company to return to greatness. For the country’s sake, one can only hope that there will be enough other voters and delegates who recall Lincoln’s words calling us to “do all which may achieve and cherish a just and lasting peace among ourselves and with all nations.” These words are as relevant now as when Lincoln first said them. As long as we remember them, we will have a union worthy of preserving. It is only if we forget them that our union will no longer be worthy of being called great.