Long-serving CEO faces wrath of feds—and Icahn
July 31, 2011 5:59 a.m.
Howard Solomon, 83, has led Forest Laboratories for more than 30 years.
Howard Solomon, the chairman, CEO and president of Forest Laboratories, began his latest annual letter to shareholders by touting the company’s line of promising new drugs: “This year may be the most remarkable year in Forest’s history, or maybe in the history of any pharmaceutical company.”
It may well be that, but not for the reasons Mr. Solomon suggested as Forest faces pressure from both outraged federal regulators and a famous corporate raider.
Mr. Solomon, 83, is one of New York’s most durable and successful CEOs. Over his 34-year tenure, he’s transformed Forest from a tiny company into a giant valued at $11 billion. Along the way, he has generated average annual shareholder returns of 23%—just a hair below Warren Buffett’s 24%. But now, Washington could force Mr. Solomon to abdicate his throne.
Uncle Sam plays hardball
The government, fed up with Forest’s encouraging doctors to prescribe for children antidepressants approved only for adults, has demanded that Mr. Solomon be sent packing. If the company fails to comply, Washington will effectively bar Medicare and Medicaid from buying its drugs. Such a move “could amount to a corporate death sentence,” according to a memo co-authored by Kenneth Breen, a partner at Paul Hastings, a law firm that has represented Forest in the past.
Uncle Sam’s hardball approach, coming six months after the Justice Department extracted three guilty pleas from the company and more than $300 million in fines and penalties, has some people on Wall Street crying foul.
“What the government is doing to Solomon is unfair,” said Ronny Gal, a health care analyst at Sanford C. Bernstein & Co. “I understand the need to hold CEOs to account, but in this case you had a criminal and civil settlement struck months ago, and now the government is coming back with more demands.”
At this point, though, the feds aren’t the only ones breathing down Mr. Solomon’s neck. Carl Icahn has bought 7% of Forest’s stock and is demanding that four of his candidates be elected to its nine-member board at the annual meeting on Aug. 18. Should Mr. Icahn prevail, the new directors will probably push to sell Forest to a larger rival.
Adding to the troubles, Forest’s earnings are expected to fall by more than 50% in the next few years. The cause of the projected decline is a “patent cliff,” a drug-industry malady in which a company’s patent protections on key brand-name drugs expire. In 2013, that will happen with Lexapro, an antidepressant that accounts for almost half of Forest’s $4.4 billion in annual sales.
The company is feverishly trying to develop new drugs and has had some success, such as with an Alzheimer’s treatment that had more than $1 billion in sales in the last fiscal year. Yet that drug’s importance to Forest only compounds the pressure on the CEO, as Medicare accounted for two-thirds of those sales, according to Bernstein research.
Forest’s difficulties date back to 1998, when a subsidiary began promoting the company’s blockbuster antidepressant, Celexa, to children and teenagers, even though it was approved only for adults. According to federal prosecutors, Forest concealed a study showing that the drug was not effective for minors and might even pose risks, including making them suicidal. Forest marketed the drug illegally for four years, the feds alleged.
The company also got in trouble with the Food and Drug Administration, which in a 2003 letter warned Forest to stop marketing an unapproved new drug. Rather than comply immediately, prosecutors said, Forest tried to move as much of the item as possible, going so far as to override computer systems, hire extra trucks and pay staffers overtime at a St. Louis distribution facility before halting shipments a day after receiving the FDA missive.
Forest pleaded guilty last November to obstructing justice, distributing an unapproved drug and distributing a misbranded drug. In addition to agreeing to $313 million in penalties—equal to about a third of earnings in the last fiscal year—Forest signed a Corporate Integrity Agreement with the Department of Health and Human Services’ inspector general. The matter seemed resolved until April, when the agency dropped the bomb and insisted that Mr. Solomon be “excluded” from Forest.
What triggered the action isn’t clear; neither the inspector general’s office nor Mr. Solomon would comment. But in an interview in June with online publication Pharmalot, an assistant inspector general said the office was determined to hold more senior health care executives accountable. “One of our concerns is that we’re not protecting federal health care programs … by continuing to enter into … settlements where the only result is paying money, which is perceived as a cost of doing business,” the official said.
HHS has forced out the chief executive of KV Pharmaceutical, who pleaded guilty to presiding over the production and distribution of oversized morphine tablets. The agency also orchestrated a coup at Purdue Frederick after the CEO and two others pleaded guilty to misbranding OxyContin.
What makes the potential expulsion of Mr. Solomon unusual, Mr. Breen noted, is that he wasn’t charged with personal wrongdoing in the criminal and civil cases against Forest. Mr. Solomon has challenged the exclusion action, but few believe the government will back down.
“We’re kind of in this in-between world,” Chief Financial Officer Frank Perier conceded during a conference call with analysts last month, adding that Forest’s board had already identified Mr. Solomon’s successor. (Candidates appear to have included Mr. Solomon’s son, David, who was appointed head of corporate development and strategy last November.)
Meanwhile, Forest must also deal with Mr. Icahn. In the conference call, Mr. Perier described two meetings between Forest officials and the activist investor as “substantive but short.” Mr. Icahn has “really not offered any plan or strategy for the company,” he added.
Mr. Icahn has pointed out that Forest’s stock—priced at about $37 late last week—trades for about half as much as it did seven years ago. He has also criticized board members for “putting their personal loyalty to and friendship with Mr. Solomon above their fiduciary duties.”
Mr. Icahn’s slate has a “good chance” of getting elected because many investors want new directors who will keep a closer eye on management, said Mr. Gal of Sanford Bernstein, who added, “The shareholders I’ve talked to say, ‘Why wouldn’t I want that?’ ”