No scalps please, we're pharma

Spot the difference: the banking giant Barclays is fined £290m ($450m) for fixing interbank loan rates, and the end result is an 18% drop in shares and the departure of its chairman and chief executive. GlaxoSmithKline is given a fine seven times larger – a huge $3bn for unlawful drug promotion – but this prompts very little share price reaction and no top executives fall on their swords.

One explanation for these diametrically opposed reactions is that shareholders have come to view pharma's legal settlements merely as a cost of doing business. The industry’s penalties topped out at more than $4bn in 2009 to settle US charges ranging from defrauding government healthcare programmes through unlawful off-label promotion to violation of good manufacturing practices - this year that figure could double. “Investors are used to this by now,” argues Sammy Almashat, co-author of a 2010 report on pharma fines by the advocacy group Public Citizen. “It’s been a growing trend, and the only question is, ‘How much?’”

It could also be that the length of the investigations – the Glaxo charges centre on activities that date back to the 1990s – tend to insulate current management from any culpability. Alternatively, investors might believe that with the sun setting on massive primary care sales forces, the risk of “rogue” sales reps illegally pushing off-label drug use has diminished. It is probably a combination of these factors.

However, the chief explanation for the market’s relaxed reaction to multibillion-dollar settlements could be the regularity with which they have started to occur – of the 165 cases settled over a two-decade period ending in 2010, 97 were settled in the last three years. Companies also warn investors these payments are coming by setting aside cash early to buffer any effects on quarterly earnings.

The numbers

To date UK-based Glaxo holds the record for a pharma company's US government penalty - a whopping $3.4bn restitution in 2006 for accounting practices deemed to be in violation of US tax law that overshadows even this week’s $3bn illegal promotion pact (see table).

Overcharging the US government’s Medicare and Medicaid programmes accounted for $2.3bn of the $19.8bn collected from the industry by government prosecutors over a 20-year period ending in 2010. This is a charge that often goes hand in hand with illegal promotion – as was the case in the Glaxo settlement announced this week – accounting for another $4.5bn, according to Public Citizen.

The total paid to the government by pharma companies between 2006 and 2010 was $14.8bn, indicating an acceleration in government enforcement activities. Since the advocacy group completed its report other massive settlements have been announced, including Abbott Laboratories' $1.6bn payment for improper Depakote marketing in November 2011 and Merck & Co's $1bn agreement over Vioxx in November 2011.

In December, Taxpayers Against Fraud, another advocacy group, forecast that the US government would collect nearly $8bn from pharma manufacturers in its 2012 fiscal year, an amount that incorporated the presumed $3bn Glaxo settlement. That estimate also suggested $1bn for a settlement due soon with Johnson & Johnson over illegal marketing of the antipsychotic Risperdal, although some reports have put this yet-to-be-announced amount as high as $2.2bn. The New Jersey company recently announced that it would take a charge of $600m in the second quarter as it prepares to settle.

As with Glaxo, many of the drugs that have been subject to settlements were blockbusters widely prescribed by primary care physicians and requiring large sales forces, such as Neurontin, the subject of a 2004 settlement for which Pfizer paid the government $430m. Driven by the looming threat of patent expiries, pharma sales forces were driven by maximising returns on the massive products they had before revenue ran dry, argues Eric Le Berrigaud, pharma analyst at Bryan, Garnier & Co in Paris.

“Between the golden age and the current age, the industry was looking for an exit. They made some mistakes,” Mr Le Berrigaud says. “They argued for products using some positives that were not approved and oversold the positives of the products.”

Source: Public Citizen. Does not include settlements announced since November 1, 2010.

Who is responsible?

The amount of blame that can be laid at the feet of Glaxo’s chief executive Andrew Witty and his leadership team can be debated, although logically the buck should stop with them.

There is no doubt that Glaxo has been a bad actor - the $3bn penalty just announced brings its total payout to more than $7bn, the most in the industry. Mr Witty has worked for Glaxo and its predecessor companies for nearly three decades, including serving as US marketing chief for the legacy business Glaxo Wellcome, although Glaxo's spokesman Stephen Rea says he was serving in the Asia-Pacific region during the time in question.

There were no calls for Mr Witty's resignation, and although investors were not happy with the payout, the risk from contesting the charges, including potentially greater fines and damage to the company's reputation, was much greater than the cost of settling it and concluding the matter, Mr Rea says.

It is worth pointing out, however, that every dollar paid in fines is one less dollar available for research and development, or dividends and share buybacks, harming both the long and short-term health of Glaxo shares. Neither does it help Glaxo and big pharma's reputation to be paying out billion-dollar fines. But with no top executive having lost their job at any pharma company over illegal marketing practices, as far as EP Vantage's research can conclude, the only cost is cash.''

Glaxos current management is helped by the fact that in the words of Mr Le Berrigaud it “put the final point on the story” by settling the case, and agreeing a corporate integrity document with the government.

Take it to the limit

Certainly, there were incentives to push the boundaries. This resulted in sales forces going beyond the limits of legally allowable marketing. US sales for the three products subject to the Glaxo settlement - Wellbutrin SR, Paxil and Advair - were $42.8bn over the 1999-2010 period covered by the settlement, according to EvaluatePharma data. It is conceivable that fraudulent marketing practices, which ranged from the publication of questionable data to documented promises of rewards to physicians who wrote more Glaxo prescriptions, could have generated sales in excess of the $3bn payout.

The growing transparency of clinical trials will help guard against overstating any claims in the future, Mr Le Berrigaud argues. Part of the government’s case against Glaxo was built around an article on the use of Paxil in adolescents published in 2000 in the Journal of the American Academy of Child and Adolescent Psychiatry that mischaracterised the drug’s efficacy and was later used in marketing campaigns.

Among the integrity agreement’s provisions is putting executives’ bonuses at risk to prevent future misconduct. However, Mr Almashat says of the corporate integrity agreements: “We suspect they’re not enforced and companies don’t take them seriously.”

One approach to making the industry more accountable has been proposed by US Senator Bernie Sanders, who wants to remove market exclusivity for any drug that a company has been marketing fraudulently. His proposal was submitted as an amendment to PDUFA reform legislation in the Senate, but was defeated by an 88-9 vote.

Mr Almashat believes that without stronger tools marketing misconduct will continue. “I don’t expect anything to change ... unless the settlements begin to reflect the amount of fraud that occurred,” he says.

Huge fines have undoubtedly led big pharma to clean up its marketing act. However, investor pressure for returns is high, not the least because R&D has failed to produce hoped-for blockbusters of the past. The size of settlements in coming years may be the best measure of how well the industry balances these two opposing forces.