Teamsters Local 443 Health Services & Insurance Plan v. John G. Chou
This text of Teamsters Local 443 Health Services & Insurance Plan v. John G. Chou (Teamsters Local 443 Health Services & Insurance Plan v. John G. Chou) is published on Counsel Stack Legal Research, covering Court of Chancery of Delaware primary law. Counsel Stack provides free access to over 12 million legal documents including statutes, case law, regulations, and constitutions.
Opinion
IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
TEAMSTERS LOCAL 443 HEALTH ) SERVICES & INSURANCE PLAN, ST. ) PAUL ELECTRICAL ) CONSTRUCTION PENSION PLAN, ) ST. PAUL ELECTRICAL ) CONSTRUCTION WORKERS ) SUPPLEMENTAL PENSION PLAN ) (2014 RESTATEMENT), ) RETIREMENT MEDICAL FUNDING ) PLAN FOR THE ST. PAUL ) ELECTRICAL WORKERS, AND SAN ) ANTONIO FIRE & POLICE PENSION ) FUND, ) ) Plaintiffs, ) ) v. ) C.A. No. 2019-0816-SG ) JOHN G. CHOU, STEVEN H. COLLIS, ) RICHARD W. GOCHNAUER, LON R. ) GREENBERG, TIM G. GUTTMAN, ) JANE E. HENNEY, M.D., KATHLEEN ) W. HYLE, MICHAEL J. LONG, AND ) HENRY W. MCGEE, ) ) Defendants, ) ) -and- ) ) AMERISOURCEBERGEN ) CORPORATION, ) ) Nominal Defendant. )
MEMORANDUM OPINION
Date Submitted: May 27, 2020 Date Decided: August 24, 2020 Ned Weinberger and Mark D. Richardson, of LABATON SUCHAROW LLP, Wilmington, Delaware; Christine M. Mackintosh and Rebecca Musarra, of GRANT & EISENHOFER P.A., Wilmington, Delaware; OF COUNSEL: David MacIssac, of LABATON SUCHAROW LLP, New York, New York; David Wales and Christopher J. Orrico, of BERNSTEIN LITOWITZ BERGER & GROSSMANN LLP, New York, New York; Frank Schirripa, of HACH ROSE SCHIRRIPA & CHEVERIE LLP, New York, New York; Nathaniel L. Orenstein, of BERMAN TABACCO, Boston, Massachusetts; Nicole Lavallee, of BERMAN TABACCO, San Francisco, California, Attorneys for Plaintiffs.
Stephen C. Norman, Jennifer C. Wasson, and Tyler J. Leavengood, of POTTER ANDERSON & CORROON LLP, Wilmington, Delaware; OF COUNSEL: Michael D. Blanchard, Andrew M. Buttaro, and Amelia Pennington, of MORGAN, LEWIS & BOCKIUS LLP, Boston, Massachusetts, Attorneys for Defendants and Nominal Defendant.
GLASSCOCK, Vice Chancellor It has become among the hoariest of Chancery clichés for an opinion to note
that a derivative claim against a company’s directors, on the grounds that they have
failed to comply with oversight duties under Caremark,1 is among the most difficult
of claims in this Court to plead successfully. As with many a cliché, there is truth
in the notion. In order to survive a motion to dismiss under Rule 23.1, a plaintiff
must raise an inference that demand on the board to undertake the action would have
been futile.2 Typically, in the Caremark context, this requires a pleading of specific
facts from which the Court may infer a substantial likelihood of liability on the part
of a majority of the board on whom demand would have been made. Such a pleading
must allege with particularity facts which imply that the directors utterly failed to
provide a corporate reporting system to permit board-level review of compliance
with law, or that the directors were provided sufficient notice of corporate non-
compliance with law such that their failure to remediate amounts to bad faith. This
is a formidable burden.
The facts of Caremark claims, on the other hand, often invoke judicial
sympathies. Frequently, the facts of the case involve corporate misconduct that has
led to material suffering among customers, or to the public at large. A judge in the
Caremark context must be careful to remember the issues before her. At issue is not
1 In re Caremark Int’l Inc. Derivative Litig., 698 A.2d 959 (Del. Ch. 1996). 2 Or that demand was made and wrongfully refused.
1 whether specific or society-wide victims may themselves receive a remedy for
corporate misconduct. Instead, the issue is whether the corporation, whose directors
have allegedly allowed it to commit bad acts, should itself recover damages that
ultimately inure to the benefit of the corporate owners, its stockholders. This
unusual posture raises the question of whether Caremark liability is merely a branch
of fiduciary liability designed to make the beneficiaries of that duty whole for
breach, or whether it should be seen also as a blunt but useful tool to encourage good
corporate citizenship. That question is for academic discussion, not judicial
resolution; again, a judge in equity must be mindful that it is the corporation, not that
corporation’s victims, to whom any recovery will flow.
It is of little wonder that Caremark liability is rarely imposed, as it is
fortunately rare that directors, otherwise unconflicted, should nonetheless take
actions knowingly inimical to the corporate interest, such as ignoring a known duty
to act to prevent the corporation from violating positive law. I find, however—at
least at this pleading stage where I must accept the allegations of the complaint along
with reasonable plaintiff-friendly inferences—that the Plaintiffs here have pled such
a case.
The Plaintiffs are stockholders in AmerisourceBergen Corporation (“ABC”
or, the “Company”). ABC acquired Medical Initiatives, Inc. d/b/a Oncology Supply
Pharmacy Services (“Pharmacy”) as an indirect wholly-owned subsidiary in 2001 as
2 part of a larger merger. Pharmacy, per the complaint, was run as a criminal
organization. Pharmacy was not, in fact, a state-licensed pharmacy, although it
operated in a way that made it appear as such to avoid Food and Drug Administration
(“FDA”) oversight. Pharmacy’s business was to buy single-dose sterile vials of
oncology drugs, put those drugs into syringes, and sell the syringes for injection into
a cancer patient’s body. As acquired by Pharmacy, these single-dose vials had been
intentionally overfilled by the manufacturer to account for human error in filling
syringes and to permit the medical provider to discharge a small amount before
injection to avoid air bubbles, but still have a full dose. Instead of discarding this
overfill, which was not intended for patient use, Pharmacy illegally “pooled” the
overfill and used it to fill additional syringes. This process was unsterile and led to
the contamination of the drugs so pooled.
Having thus created extra product, ABC both pocketed the extra revenue, and
undercut the competition by providing kickbacks to buyers to increase market share.
The operation used sham prescriptions to make it appear that Pharmacy was, in fact,
a pharmacy, and thus shielded from FDA oversight. When the pooled drugs were
so grossly contaminated that particulates were visible to the naked eye, Pharmacy
filtered out these “floaters” and sold the drug, nonetheless.
3 Ultimately, the criminal activities at Pharmacy and other associated ABC
subsidiaries were uncovered, and significant corporate criminal and civil penalties
ensued.
The question is whether, in allowing these conditions to obtain at Pharmacy
and its associated entities, the ABC directors failed their duty to oversee operations,
in bad faith. The Defendants have moved to dismiss under Rules 23.1 and 12 (b)(6).
According to the Defendants, the egregiousness of the allegations is undercut by the
small part of the total ABC business represented by the Pharmacy operations. It is
true that directors are not omniscient, that their eyes cannot be on every sparrow,
and that not every failure of oversight is the result of bad faith. Here, however, ABC
operated a criminal enterprise. The directors ignored such red flags as did exist, and,
in addition, permitted a woefully inadequate reporting system with respect to the
business line in which Pharmacy operated. At this pleading stage, assuming as true
the well-pled allegations and drawing reasonable inferences helpful to the Plaintiffs,
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IN THE COURT OF CHANCERY OF THE STATE OF DELAWARE
TEAMSTERS LOCAL 443 HEALTH ) SERVICES & INSURANCE PLAN, ST. ) PAUL ELECTRICAL ) CONSTRUCTION PENSION PLAN, ) ST. PAUL ELECTRICAL ) CONSTRUCTION WORKERS ) SUPPLEMENTAL PENSION PLAN ) (2014 RESTATEMENT), ) RETIREMENT MEDICAL FUNDING ) PLAN FOR THE ST. PAUL ) ELECTRICAL WORKERS, AND SAN ) ANTONIO FIRE & POLICE PENSION ) FUND, ) ) Plaintiffs, ) ) v. ) C.A. No. 2019-0816-SG ) JOHN G. CHOU, STEVEN H. COLLIS, ) RICHARD W. GOCHNAUER, LON R. ) GREENBERG, TIM G. GUTTMAN, ) JANE E. HENNEY, M.D., KATHLEEN ) W. HYLE, MICHAEL J. LONG, AND ) HENRY W. MCGEE, ) ) Defendants, ) ) -and- ) ) AMERISOURCEBERGEN ) CORPORATION, ) ) Nominal Defendant. )
MEMORANDUM OPINION
Date Submitted: May 27, 2020 Date Decided: August 24, 2020 Ned Weinberger and Mark D. Richardson, of LABATON SUCHAROW LLP, Wilmington, Delaware; Christine M. Mackintosh and Rebecca Musarra, of GRANT & EISENHOFER P.A., Wilmington, Delaware; OF COUNSEL: David MacIssac, of LABATON SUCHAROW LLP, New York, New York; David Wales and Christopher J. Orrico, of BERNSTEIN LITOWITZ BERGER & GROSSMANN LLP, New York, New York; Frank Schirripa, of HACH ROSE SCHIRRIPA & CHEVERIE LLP, New York, New York; Nathaniel L. Orenstein, of BERMAN TABACCO, Boston, Massachusetts; Nicole Lavallee, of BERMAN TABACCO, San Francisco, California, Attorneys for Plaintiffs.
Stephen C. Norman, Jennifer C. Wasson, and Tyler J. Leavengood, of POTTER ANDERSON & CORROON LLP, Wilmington, Delaware; OF COUNSEL: Michael D. Blanchard, Andrew M. Buttaro, and Amelia Pennington, of MORGAN, LEWIS & BOCKIUS LLP, Boston, Massachusetts, Attorneys for Defendants and Nominal Defendant.
GLASSCOCK, Vice Chancellor It has become among the hoariest of Chancery clichés for an opinion to note
that a derivative claim against a company’s directors, on the grounds that they have
failed to comply with oversight duties under Caremark,1 is among the most difficult
of claims in this Court to plead successfully. As with many a cliché, there is truth
in the notion. In order to survive a motion to dismiss under Rule 23.1, a plaintiff
must raise an inference that demand on the board to undertake the action would have
been futile.2 Typically, in the Caremark context, this requires a pleading of specific
facts from which the Court may infer a substantial likelihood of liability on the part
of a majority of the board on whom demand would have been made. Such a pleading
must allege with particularity facts which imply that the directors utterly failed to
provide a corporate reporting system to permit board-level review of compliance
with law, or that the directors were provided sufficient notice of corporate non-
compliance with law such that their failure to remediate amounts to bad faith. This
is a formidable burden.
The facts of Caremark claims, on the other hand, often invoke judicial
sympathies. Frequently, the facts of the case involve corporate misconduct that has
led to material suffering among customers, or to the public at large. A judge in the
Caremark context must be careful to remember the issues before her. At issue is not
1 In re Caremark Int’l Inc. Derivative Litig., 698 A.2d 959 (Del. Ch. 1996). 2 Or that demand was made and wrongfully refused.
1 whether specific or society-wide victims may themselves receive a remedy for
corporate misconduct. Instead, the issue is whether the corporation, whose directors
have allegedly allowed it to commit bad acts, should itself recover damages that
ultimately inure to the benefit of the corporate owners, its stockholders. This
unusual posture raises the question of whether Caremark liability is merely a branch
of fiduciary liability designed to make the beneficiaries of that duty whole for
breach, or whether it should be seen also as a blunt but useful tool to encourage good
corporate citizenship. That question is for academic discussion, not judicial
resolution; again, a judge in equity must be mindful that it is the corporation, not that
corporation’s victims, to whom any recovery will flow.
It is of little wonder that Caremark liability is rarely imposed, as it is
fortunately rare that directors, otherwise unconflicted, should nonetheless take
actions knowingly inimical to the corporate interest, such as ignoring a known duty
to act to prevent the corporation from violating positive law. I find, however—at
least at this pleading stage where I must accept the allegations of the complaint along
with reasonable plaintiff-friendly inferences—that the Plaintiffs here have pled such
a case.
The Plaintiffs are stockholders in AmerisourceBergen Corporation (“ABC”
or, the “Company”). ABC acquired Medical Initiatives, Inc. d/b/a Oncology Supply
Pharmacy Services (“Pharmacy”) as an indirect wholly-owned subsidiary in 2001 as
2 part of a larger merger. Pharmacy, per the complaint, was run as a criminal
organization. Pharmacy was not, in fact, a state-licensed pharmacy, although it
operated in a way that made it appear as such to avoid Food and Drug Administration
(“FDA”) oversight. Pharmacy’s business was to buy single-dose sterile vials of
oncology drugs, put those drugs into syringes, and sell the syringes for injection into
a cancer patient’s body. As acquired by Pharmacy, these single-dose vials had been
intentionally overfilled by the manufacturer to account for human error in filling
syringes and to permit the medical provider to discharge a small amount before
injection to avoid air bubbles, but still have a full dose. Instead of discarding this
overfill, which was not intended for patient use, Pharmacy illegally “pooled” the
overfill and used it to fill additional syringes. This process was unsterile and led to
the contamination of the drugs so pooled.
Having thus created extra product, ABC both pocketed the extra revenue, and
undercut the competition by providing kickbacks to buyers to increase market share.
The operation used sham prescriptions to make it appear that Pharmacy was, in fact,
a pharmacy, and thus shielded from FDA oversight. When the pooled drugs were
so grossly contaminated that particulates were visible to the naked eye, Pharmacy
filtered out these “floaters” and sold the drug, nonetheless.
3 Ultimately, the criminal activities at Pharmacy and other associated ABC
subsidiaries were uncovered, and significant corporate criminal and civil penalties
ensued.
The question is whether, in allowing these conditions to obtain at Pharmacy
and its associated entities, the ABC directors failed their duty to oversee operations,
in bad faith. The Defendants have moved to dismiss under Rules 23.1 and 12 (b)(6).
According to the Defendants, the egregiousness of the allegations is undercut by the
small part of the total ABC business represented by the Pharmacy operations. It is
true that directors are not omniscient, that their eyes cannot be on every sparrow,
and that not every failure of oversight is the result of bad faith. Here, however, ABC
operated a criminal enterprise. The directors ignored such red flags as did exist, and,
in addition, permitted a woefully inadequate reporting system with respect to the
business line in which Pharmacy operated. At this pleading stage, assuming as true
the well-pled allegations and drawing reasonable inferences helpful to the Plaintiffs,
I find that the complaint states a claim for Caremark liability, and that the likelihood
of that liability is such that demand is excused. A close look at the facts supporting
that conclusion, and my reasoning, follow.
4 I. BACKGROUND3
I turn first to the scope of the record on this Motion to Dismiss. The final
order in the Plaintiffs’ underlying 8 Del. C. § 220 action to obtain ABC’s books and
records required that within five business days of the completion of production
ABC’s counsel certify that “[w]ith the exception of any documents included on the
privilege log, to the best of my knowledge after reasonable investigation, the
Company’s production is complete with respect to every category of documents that
the Company is required to produce.”4 “Given this stipulation, if [ABC] failed to
produce a document that it would reasonably be expected to possess if a particular
event had occurred, then the [P]laintiff[s] [are] entitled to a reasonable inference that
the event did not occur.”5 The final order in the Section 220 action also deems all
books and records produced pursuant to the Plaintiffs’ demand to be incorporated
by reference in any plenary complaint filed by the Plaintiffs in any subsequent
3 I draw the facts from the well-pled allegations of the Plaintiffs’ Verified Stockholder Derivative Complaint, D.I. 1 (the “Complaint” or “Compl.”), the exhibits attached thereto, documents incorporated by reference or integral to the pleading, and judicially noticeable facts. See In re Clovis Oncology, Inc. Derivative Litig., 2019 WL 4850188, at *2 (Del. Ch. Oct. 1, 2019) (setting forth Delaware’s judicial notice doctrine). ABC has produced documents to the Plaintiffs in response to a demand for books and records by the Plaintiffs under 8 Del. C. § 220 in the case captioned In re AmerisourceBergen Corporation Section 220 Litigation, Consol., C.A. No., 2018- 0209-SG. See Compl., ¶¶ 37–39. I follow the Plaintiffs’ convention in citing to documents included in the Section 220 production, but not attached as exhibits to the Complaint, by using the Bates numbers, which begin with “ABC-220 CONSOLIDATED.” Specific page numbers are cited as ABC-220 CONSOLIDATED [Bates number of first page of document], at [last four digits of Bates number of cited page]. 4 Compl., Ex. 1, ¶ 2. 5 Hughes v. Hu, 2020 WL 1987029, at *2 (Del. Ch. Apr. 27, 2020) (citing Morrison v. Berry, 191 A.3d 268, 275 n.20 (Del. 2018)).
5 litigation relating to the Section 220 action.6 Consequently, I may consider any
documents incorporated by reference “in their entirety rather than rely only [on] the
portions ‘cherry picked’ by the [Plaintiffs].”7
A. The Parties and Relevant Entities
1. ABC and its Direct and Indirect Subsidiaries
Nominal Defendant ABC is a publicly-traded Delaware corporation with its
principal place of business in Chesterbrook, Pennsylvania.8 ABC is a
pharmaceutical sourcing and distribution company and was formed in 2001
following a merger between Bergen Brunswig Corporation (“Bergen Brunswig”)
and AmeriSource Health Corporation (“AmeriSource Health”).9 In the time period
pertinent to this Action, ABC’s pharmaceutical distribution segment consisted of
two operating segments: AmerisourceBergen Drug Corporation (which is not
pertinent here) and AmerisourceBergen Specialty Group (“Specialty”).10
Specialty, based in Frisco, Texas, is the parent entity for a group of companies
serving the specialty pharmaceuticals market, including the areas of biotechnology,
blood-plasma, and oncology.11 Specialty and its subsidiaries provide
6 Compl, Ex. 1, ¶ 3. 7 Clovis, 2019 WL 4850188, at *2 n.8 (Del. Ch. Oct. 1, 2019) (citing Amalgamated Bank v. Yahoo! Inc., 132 A.3d 752, 797 (Del. Ch. 2016), abrogated on other grounds, 214 A.3d 933 (Del. Aug. 7, 2019)). 8 Compl., ¶ 17. 9 Id. 10 Id. ¶ 18. 11 Id. ¶ 20.
6 pharmaceutical distribution and related services directly to physicians and to
institutional healthcare providers, including hospitals.12 One of the companies
operated by Specialty is ASD Specialty Healthcare, LLC d/b/a Oncology Supply
(“Oncology”).13 Oncology is located in Dothan, Alabama and has been distributing
chemotherapy and supportive care products to independent oncology practices
throughout the United States for over thirty-five years.14
Oncology operated its subsidiary, Pharmacy.15 Pharmacy is a Florida
corporation and was acquired by ABC following the 2001 merger between Bergen
Brunswig and AmeriSource Health.16 Pharmacy operated out of Oncology’s facility
in Dothan, Alabama between 2001 and 2014.17 Pharmacy’s sole function was to
create pre-filled syringes of oncology drugs for sale and distribution to healthcare
providers—this was known as the Pre-Filled Syringe Program, which is the focus of
this Action.18 ABC closed Pharmacy’s business on January 31, 2014.19
12 Id. 13 Id. ¶ 21. Oncology is an “unincorporated subsidiary” of Specialty. Id. 14 Id. 15 Id. ¶ 22. 16 Id. 17 Id. 18 Id. 19 Id.
7 Oncology Group was one of Specialty’s eight business units, and at all
relevant times included Oncology, Pharmacy, and ION (a group purchasing
organization).20
2. Director and Officer Defendants
Defendant Steven H. Collis is ABC’s Chairman, President, and Chief
Executive Officer, and is Chair of ABC’s Executive Committee.21 Collis has been
a member of ABC’s Board of Directors (the “Board”) since 2011 and has served as
the Board’s Chairman since March 2016.22 Collis founded the Specialty Group at
AmeriSource Health in 1994 (which later became Specialty) and has held various
positions at ABC and its subsidiaries and predecessors.23 Collis was President of
Pharmacy from 1999 until its closure in 2014.24
Defendant Richard W. Gochnauer has been a director of ABC since
September 2008.25 Gochnauer currently serves as Chair of the Finance Committee.26
Gochnauer was a member of the Audit and Corporate Responsibility Committee (the
“Audit Committee”) from 2011 to 2012.27
20 Id. ¶ 116, n.54. 21 Id. ¶ 24. 22 Id. 23 Id. 24 Id. 25 Id. ¶ 25. 26 Id. 27 Id.
8 Defendant Lon R. Greenberg has been a director of ABC since May 2013.28
Greenberg has been a member of the Audit Committee since 2013, and is currently
its Chair.29
Defendant Jane E. Henney, M.D., has been a director of ABC since January
2002, and has been the Lead Independent Director since March 2016.30 Henney was
a member of the Audit Committee from 2004 to 2010.31
Defendant Kathleen W. Hyle has been a director of ABC since May 2010.32
Hyle was a member of the Audit Committee from 2010 to 2017 and its Chair from
2011 to 2016.33
Defendant Michael J. Long has been a director of ABC since May 2006.34
Long was a member of the Audit Committee from 2011 to 2017.35
Defendant Henry W. McGee has been a director of ABC since November
2004.36 McGee has a member of the Audit Committee since 2018, and was
previously a member of the Audit Committee from 2009 to 2015.37
28 Id. ¶ 26. 29 Id. 30 Id. ¶ 28. 31 Id. 32 Id. ¶ 29. 33 Id. 34 Id. ¶ 30. 35 Id. 36 Id. ¶ 31. 37 Id.
9 Defendant John G. Chou has been the Executive Vice President of ABC since
August 2011 and ABC’s Chief Legal and Business Officer since June 2017.38 Chou
has worked at ABC since 2002 and has previously held several other positions with
the Company.39 Chou was the General Counsel of Pharmacy from at least 2008 to
2014 and a member of the Board of Directors of Pharmacy from at least 2008 to
2018.40
Defendant Tim G. Guttman was a senior executive at ABC from 2008 to
2018.41 Guttman was a Vice President and Director of Pharmacy from 2012 to
2018.42
3. Non-Party Directors
Non-party Ornella Barra has been a director of ABC since January 2015.43
Non-party D. Mark Duncan has been a director of ABC since September
2015.44
38 Id. ¶ 32. 39 Id. 40 Id. 41 Id. ¶ 33. 42 Id. 43 Id. ¶ 34. 44 Id. ¶ 35.
10 4. Plaintiffs
Plaintiff Teamsters Local 443 Health Services & Insurance Plan
(“Teamsters”) was a stockholder of ABC during the time period relevant to the
Complaint and has been a stockholder of ABC continuously since that time. 45
Plaintiffs St. Paul Electrical Construction Pension Plan, St. Paul Electrical
Construction Workers Supplemental Pension Plan (2014 Restatement), and
Retirement Medical Funding Plan for the St. Paul Electrical Workers (together, “St.
Paul”) own and have continuously owned shares of ABC since December 2009.46
Plaintiff San Antonio Fire & Police Pension Fund (“San Antonio,” and,
together with Teamsters and St. Paul, the “Plaintiffs”) owns and has continuously
owned shares of ABC since prior to August 1, 2008.
B. The Pre-Filled Syringe Program
Pharmacy operated the Pre-Filled Syringe Program out of Oncology’s facility
in Dothan, Alabama.47 The Pre-Filled Syringe Program consisted of the creation,
packaging, and shipping of pre-filled syringes to oncology practices treating
immunocompromised patients.48 The Pre-Filled Syringe Program shipped pre-filled
syringes to oncology centers, medical practices, and physicians.49
45 Id. ¶ 14. 46 Id. ¶ 15. 47 Id. ¶ 42. 48 Id. ¶ 41. 49 Id. ¶ 44.
11 Pharmacy created the pre-filled syringes by removing FDA-approved drug
products from their original glass vials and repackaging them into single-dose plastic
syringes.50 When Pharmacy would remove the desired dosage of oncology drug
from its original glass vial a small amount of drug product would be left over—this
is known as “overfill.”51 When packaging drug products, manufacturers
intentionally include overfill to help with accurate dosage, as it accounts for human
error in filling syringes and permits the medical provider to avoid dangerous air
bubbles.52 Overfill is not intended for patient use.53 Pharmacy would extract the
overfill from FDA-compliant vials and combine the contents from multiple vials—
this is known as “pooling.”54 The pooled excess drug product was repackaged into
new syringes.55 By pooling overfill, the Pre-Filled Syringe Program was able to
create more doses than it bought from the original drug manufacturers.56
In 2006, the Board approved a capital expenditure plan to expand Oncology’s
Dothan, Alabama facility that housed the Pre-Filled Syringe Program.57 The Pre-
Filled Syringe Program sold more than 1 million pre-filled syringes annually after
50 Id. 51 Id. 52 Id. ¶ 45. 53 Id. 54 Id. 55 Id. 56 Id. 57 Id. ¶ 42.
12 the expansion and at the height of its operation generated more than $14 million in
profit for ABC each year.58
In operating the Pre-Filled Syringe Program, neither Oncology nor Pharmacy
were registered with the FDA as a drug manufacturer or repackager.59 Additionally,
neither entity obtained valid prescriptions, performed checks for harmful potential
drug interactions, or saw or counseled patients.60 Oncology and Pharmacy did not
maintain records of medication history, diagnosis, laboratory data or other pertinent
information for the patients to whom pre-filled syringes were administered.61
Neither Oncology nor Pharmacy had sufficient information to identify the patients
to whom the pre-filled syringes were ultimately administered.62 Oncology and
Pharmacy routinely provided pre-filled syringes to oncology practices without
receiving prescriptions signed by practitioners for specific patients.63
Oncology and Pharmacy frequently assigned the name of a single
individual—as the receiving “patient”—to an entire batch of pre-filled syringes and
often filled orders that had been submitted with a single person’s name but in
amounts far in excess of what could be plausibly or safely administered to one
58 Id. 59 Id. ¶ 52. 60 Id. ¶ 54. 61 Id. 62 Id. ¶ 55. 63 Id.
13 patient.64 In many cases, the individual assigned to receive a batch of pre-filled
syringes was known to be an employee at an oncology practice (such as a nurse or
office manager)—sometimes the named individual was a former patient of the
customer practice, either because the individual had passed away or was otherwise
no longer receiving treatment.65
Pharmacy prepared the pre-filled syringes in an unclean and unsterile
environment.66 The FDA-approved vials from which Pharmacy transferred the
oncology drugs into the syringes were designated for single use, yet Pharmacy’s
technicians frequently re-entered vials multiple times after the vials were
decapped.67 Pharmacy’s process for creating pre-filled syringes resulted in some
syringes containing particulate or foreign matter—Pharmacy’s employees internally
referred to such particulate or matter as “floaters.”68 Floaters were identified in pre-
filled syringes before at least 2007, and from 2007 to 2013 Pharmacy tracked the
number of pre-filled syringes that contained floaters.69 Between 2007 and 2013,
more than 32,000 pre-filled syringes were identified as containing floaters.70
64 Id. ¶ 56. 65 Id. 66 Id. ¶ 58. 67 Id. 68 Id. ¶ 59. 69 Id. 70 Id. The Plaintiffs illustrate this amount by stating that more than 100 pre-filled syringes each week contained floaters. Id. Stated otherwise, because Pharmacy sold at least 1,000,000 pre-filled syringes each year after the Oncology facility expansion (in 2006), and an average of approximately 5,333 syringes per year from 2007–2013 contained floaters, an average of at least
14 Most of the pre-filled syringes containing floaters were made from vials of a
drug called Procrit®, which is used to treat chemotherapy-induced anemia, among
other conditions.71 The FDA-approved label for Procrit® stated: “drug products
should be inspected visually for particulate matter and discoloration prior to
administration. Do not use any vials exhibiting particulate matter or
discoloration.”72 Vials or syringes of Procrit® containing particulate were required
by the FDA to be destroyed.73 Pharmacy, however, did not destroy vials or syringes
containing floaters, and instead used its own process to “filter out” the visible
particulate before placing the drug in the pre-filled syringes.74
Pharmacy did not take steps to determine the cause, composition, or sterility
of floaters identified in pre-filled syringes.75 Nor did Pharmacy identify what may
have caused particulate matter to enter the pre-filled syringes or test the particulate
extracted from the pre-filled syringes to determine whether any sub-visible remnants
or contaminants remained in the syringes or posed a risk to patients.76 No assessment
was made to determine (i) whether Pharmacy’s filtration process impacted the
sterility, stability, or purity of the injectable drug content or (ii) the frequency of pre-
0.5% of the pre-filled syringes from 2007–2013 were identified as containing floaters. Id. ¶¶ 42, 59. This contaminated medicine was destined to be injected into cancer patients. 71 Id. ¶ 60. 72 Id. (italics in original). 73 Id. ¶ 61. 74 Id. 75 Id. ¶ 62. 76 Id.
15 filled syringes sold to health care providers in which particulate was present but not
visible.77
Out of more than nine million pre-filled syringes created by Pharmacy, only
eighty-two were submitted to an outside laboratory for sterility testing.78 Such
testing occurred on three occasions: once each in 2009, 2011, and 2012.79 On two
of the three occasions (2009 and 2011), several pre-filled syringes tested positive for
bacteria, but Pharmacy did not conduct follow up tests to confirm the source of the
bacteria nor did Pharmacy alert outside parties—including the healthcare providers
who purchased pre-filled syringes from the batches that tested positive for bacteria—
of the results.80
Additionally, rather than using a consistent and objective process to ensure
each pre-filled syringe contained the correct amount of injectable drug product,
when filling syringes, Pharmacy technicians “eyeballed” the volume using the
visible line on the syringe indicating the ordered dosage amount.81 Some Pharmacy
technicians drew drug product into the syringe just below the line whereas others
filled the syringe up to the line—these practices changed and/or varied among
Pharmacy technicians over the history of the Pre-Filled Syringe Program.82
77 Id. 78 Id. ¶ 63. 79 Id. 80 Id. 81 Id. ¶ 65. 82 Id.
16 Pharmacy had an “incentive program” whereby Pharmacy technicians who produced
more syringes using overfill received higher bonuses; this created a financial
incentive to use less drug product in each syringe, and thereby preserve more
overfill.83
Pharmacy technicians pooled drug product in a so-called “cleanroom.”84 On
multiple occasions the air flow hoods in the cleanroom tested positive for bacteria
in excess of acceptable levels.85 Pharmacy had the air hoods cleaned following the
positive tests, but did not conduct follow-up sampling to determine if the bacterial
contamination had been removed by the cleaning.86 Additionally, the air in the
cleanrooms tested positive for fungal contamination and/or bacterial contamination
in excess of acceptable levels on multiple occasions, but Pharmacy did not cease
operations during cleaning or conduct any immediate follow-up sampling.87
Pharmacy did not alert health care providers who received the pre-filled syringes of
the positive tests.88 Additionally, Pharmacy staff routinely entered cleanrooms
“without wearing any gowns or other protective clothing, and wore exposed jewelry,
makeup, nail polish and street clothing,” while preparing pre-filled syringes.89 Non-
83 Id. ¶ 66. 84 Id. ¶ 67. 85 Id. 86 Id. 87 Id. ¶ 68. 88 Id. 89 Id. ¶ 69 (internal quotation marks omitted).
17 sterile items were also left in the cleanrooms, including open Band-Aids, iPods and
exposed earbuds, skin lotion, aloe gel, chewing gum, lip balm, and non-sterile
mops.90
C. Criminal Guilty Plea and Civil Settlement Relating to the Pre-Filled Syringe Program
1. The Criminal Information
On September 11, 2017, the United States Department of Justice (“DOJ”)
filed a Criminal Information against Specialty resulting from allegations related to
the Pre-Filled Syringe Program (the “Criminal Information”).91 The Criminal
Information charged Specialty with the introduction of misbranded drugs into
interstate commerce under the Food and Drug Commission Act (“FDCA”) under 21
U.S.C. §§ 331(a), 333(a)(1), 352(o), and 360, and 18 U.S.C. §§ 2, 3551 et seq.92
The Criminal Information noted that it is illegal to introduce an unapproved
new drug into interstate commerce unless an approved new drug application
(“NDA”), biologics license application (“BLA”) or similar application is in effect
for the drug.93 The Criminal Information alleged that “commercial repackaging of
FDA-approved sterile injectable drugs or biologics from their original containers
90 Id. 91 Id. ¶ 72. 92 Id. 93 Id. ¶ 46; Compl., Ex. 3 (“Criminal Information”), ¶ 10. The similar applications, as identified in the Criminal Information, are an abbreviated new drug application or an investigational new drug application. Criminal Information, ¶ 10.
18 (i.e. glass vials) into syringes, using a process that contradicted the instructions for
the approved drug” was not exempt from filing an NDA or BLA “and in any event
doing so without obtaining patient specific prescriptions for such repackaged
products required filing a new NDA or BLA.”94 The Criminal Information alleged
that Specialty “unlawfully introduced unapproved new drugs into interstate
commerce via its [Pre-Filled Syringe] Program, which engaged in the removal of
FDA-approved drug product from glass vials and the repackaging of that product
into plastic syringes.”95
The Criminal Information also noted that any entity engaged in the
“manufacture, preparation, propagation, compounding or processing” of a drug must
register with the FDA.96 The requirement to register with the FDA “applied to
entities engaged in ‘repacking’ or ‘otherwise changing the container, wrapper, or
labeling of any drug package or device package in furtherance of the distribution of
the drug or device from the original place of manufacture to the person who makes
final delivery or sale to the ultimate consumer or user.’” 97 If a drug was
manufactured, prepared, propagated, compounded, or processed in an establishment
in any state not duly registered with the FDA it was deemed misbranded under the
94 Criminal Information, ¶ 13. 95 Id. ¶ 69. 96 Id. ¶ 15. 97 Id.
19 FDCA, but an entity operating as a pharmacy may have qualified for certain
exemptions, including by conformity with local laws regulating the practice of
pharmacy and medicine.98 The Criminal Information alleged that Specialty did not
register Pharmacy as a repackager or manufacturer with the FDA, in an attempt to
avoid the FDA’s regulatory oversight and instead Specialty portrayed Pharmacy as
a state-regulated pharmacy operated in compliance with local state law. 99 Per the
Criminal Information however, Pharmacy “did not function in accordance with local
state laws, and functioned solely to repackage drug product from vials to [pre-filled
syringes] on a massive commercial scale.”100
The Criminal Information alleged that the business model for the Pre-Filled
Syringe Program was “known to and approved at the highest levels of [Specialty]
and ABC.”101 Furthermore, in addition to charging Specialty with the introduction
of misbranded drugs into interstate commerce, the Criminal Information also
included a criminal forfeiture allegation.102 The Criminal Information served as the
first disclosure to ABC’s stockholders of the alleged misconduct that occurred at
Pharmacy.103
98 Id. ¶ 16. 99 Id. ¶ 66. 100 Id. 101 Id. ¶ 25. 102 Compl., ¶ 72. 103 Id. ¶ 74.
20 2. The Criminal Guilty Plea
On September 27, 2017 Specialty pleaded guilty to violating the FDCA.104 In
the plea agreement, Specialty admitted that in operating the Pre-Filled Syringe
Program, Pharmacy’s staff “opened sterile vials, pooled the drug product from the
vials, and then transferred the drug product into smaller [pre-filled syringes].”105
Specialty also admitted that Pharmacy “often dispensed [pre-filled syringes] in
response to order forms that were not prescriptions signed by practitioners,” and
“often filled orders that had been submitted with a single patient name, and/or
assigned a single individual’s name to an order of [pre-filled syringes], in excess of
plausible and/or safe use of the drug product contained in the syringes.”106
Specialty admitted that it did not register Pharmacy with the FDA as required
by the FDCA, and that Pharmacy did not qualify for an exemption to the registration
requirement for pharmacies that maintained establishments in conformance with
applicable local laws regulating the practice of pharmacy. 107 To fully comply with
Alabama pharmacy law, Pharmacy was required to maintain the medication history,
diagnosis, laboratory data, and other pertinent information for the patients to whom
pre-filled syringes were administered.108 Finally, Specialty admitted to have
104 Id. ¶ 75; see Compl., Ex. 4 (“Plea Agreement”). 105 Plea Agreement, ¶ 6. 106 Id. ¶ 8. 107 Id. ¶¶ 9–10. 108 Id. ¶ 10.
21 “introduced, or caused the introduction of, misbranded drugs into interstate
commerce, as such drugs were manufactured, prepared, propagated, compounded,
or processed in an establishment not duly registered with the FDA . . . .”109
Pursuant to its guilty plea, Specialty paid $260 million to the DOJ, consisting
of a $208 million criminal fine and a criminal money forfeiture of $52 million ABC
had obtained from unlawful sales of pre-filled syringes in violation of the FDCA.110
3. Civil Settlement
On November 21, 2017, ABC announced via an SEC filing that Specialty had
reached an agreement in principle with the United States Attorney’s Office for the
Eastern District of New York to resolve civil claims under the False Claims Act for
$625 million.111 The filing stated:
Since fiscal 2012, [ABC and Specialty] have been responding to subpoenas from the U.S. Attorney’s Office for the Eastern District of New York (“USAO-EDNY”) requesting production of documents and information relating to the pre-filled syringe program of [Pharmacy] . . . , [Specialty’s] oncology distribution center, its group purchasing organization for oncologists, and intercompany transfers of certain oncology products. [Pharmacy] voluntarily ceased operations in early 2014. [ABC] has produced documents and witnesses, and has engaged in [an] ongoing dialogue with the USAO-EDNY, since 2012.112
An accompanying press release stated:
109 Id. ¶ 11. 110 Compl., ¶ 79. 111 Id. ¶ 80. 112 Id.
22 The United States contends that ABC sought to profit from the excess drug product or “overfill” contained within the original FDA-approved sterile vials for these cancer supportive injectable drugs by establishing a pre-filled syringe program through a subsidiary that it claimed was a pharmacy. The United States alleged that the “pharmacy” was in reality a repackaging operation that created and shipped millions of pre-filled syringes to oncology practices for administration to cancer- stricken patients. As part of this operation, ABC purchased original vials from their respective manufacturers, broke their sterility, pooled the contents, and repackaged the drugs into pre-filled syringes.113
The press release also noted that it was alleged that ABC “never submitted any
safety, stability, or sterility data to the FDA to show that its operation ensured the
safety and efficacy of the repackaged drug products,” and that it was alleged that the
pre-filled syringes were “prepared in non-sterile conditions, contaminated with
bacteria and other unknown particles, and lacked the required quality and purity.”114
The allegations specific to the False Claims Act were that by harvesting
overfill, ABC was able to bill multiple healthcare providers for the same vial of drug,
causing excess billing of federal health care programs, and that the Pre-Filled
Syringe Program made it possible for ABC to provide drugs at a discount, enabling
ABC to increase its market share.115 The discounts were in the form of general
pharmacy credits provided to customers, constituting “illegal kickbacks”—
customers would be billed for the full price of a drug and then a “general credit”
113 Compl., Ex. 6, at 1 (emphasis in original). 114 Id. 115 Compl., ¶ 82.
23 would be issued to customers’ accounts, resulting in the submission of false claims
to federal programs.116
D. ABC’s Procedures for Oversight of Regulatory Compliance
According to ABC’s Corporate Governance Principles, the Board is charged
with providing “independent risk oversight with a focus on the most significant risks
facing [ABC], including strategic, operational, and reputational risks.”117 The Board
has five standing committees: the Audit Committee, the Compensation and
Succession Planning Committee, the Finance Committee, the Governance and
Nominating Committee, and the Executive Committee.118 The Board has “delegated
specific risk oversight responsibility” to all Committees other than the Executive
Committee.119 In addition to other specific responsibilities, the Board “asses[es]
major risks facing [ABC] and review[s] options for their mitigation,” and “ensur[es]
processes are in place for maintaining the integrity of [ABC],” including “the
integrity of compliance with law and ethics.”120
Under the Audit Committee’s Charter, the Audit Committee is charged with
“assist[ing] the [Board] with oversight of [ABC’s] compliance with legal and
regulatory requirements and performance of [ABC’s] internal audit function and
116 Id. 117 Id. ¶ 85; ABC-220 CONSOLIDATED R001754, at 1754. 118 Compl., ¶ 85. 119 Id.; ABC-220 CONSOLIDATED R001754, at 1754. 120 ABC-220 CONSOLIDATED R001754, at 1754–55.
24 independent auditor.”121 The Audit Committee also “obtain[s] reports from
management and [ABC’s] senior internal auditor that [ABC] is in conformity with
applicable legal requirements and [ABC’s] Code of Ethics and Business
Conduct.”122 ABC’s Code of Ethics and Business Conduct states that ABC is
“committed to the belief that, as a principle of sound management, all business
dealings shall be conducted with the highest level of business ethics, honesty and
integrity”—all directors, officers, and employees are “expected to . . . comply with
all federal, state, and local laws, regulations and rules . . . .”123 The Audit Committee
is responsible for reporting regularly to the Board.124
During the relevant time period, the Board did not set aside a portion of Board
meetings devoted to drug safety and compliance.125 Aside from the Audit
Committee’s responsibility to assist the Board with oversight of compliance with
legal and regulatory requirements, the Audit Committee was responsible to obtain
reports from management and the senior internal auditor regarding ABC’s
compliance with legal and regulatory requirements.126 The Audit Committee was
not otherwise required to deliver written materials to the Board.127
121 Compl., ¶ 87; ABC-220 CONSOLIDATED R002236, at 2240. 122 Compl., ¶ 87; ABC-220 CONSOLIDATED R002236, at 2240. 123 Compl., ¶ 87 n.35; ABC-220 CONSOLIDATED R001803, at 1804. 124 ABC-220 CONSOLIDATED R002236, at 2241. 125 Compl., ¶ 88. 126 Id. 127 Id.
25 According to a document entitled “Corporate Compliance Program,” ABC
also established (or contemplated establishment of) an Office of Compliance to
“oversee ABC’s Compliance Program on an enterprise-wide basis.”128 A Chief
Compliance Officer and a Chief Compliance Counsel were responsible for the
Compliance Program.129 The Plaintiffs’ Verified Stockholder Derivative Complaint
(the “Complaint”) alleges that this document was a draft and was never completed,
approved, or enacted.130
Additionally, ABC’s Corporate Security and Regulatory Affairs (“Corporate
Security”) unit provides “regulatory compliance and security assistance to all
operating units through the utilization of on-site audits[,] proactive/targeted visits,
training seminars and investigations.”131 However, Corporate Security has no
Board-level reporting obligations.132
No reports regarding ABC’s compliance with applicable legal requirements
were submitted to or obtained by the Audit Committee regarding Pharmacy or the
Pre-Filled Syringe Program until after the Pre-Filled Syringe Program was shut
down.133 Additionally, neither the Board nor the Audit Committee ever received an
128 ABC-220 CONSOLIDATED R008943, at 8945. 129 Id. 130 Compl., ¶ 124 n. 58. As support, Plaintiffs point out that the document was one of several attachments to an email and that the file was titled as a “DRAFT.” Pls.’ Answering Br. in Opp’n to Defs.’ Mot. to Dismiss, D.I. 16 (“Pls.’ Answ. Br.”), at 19 n.19. 131 ABC-220 CONSOLIDATED R001763, at 1763. 132 Compl., ¶ 107 n. 49. 133 Id. ¶ 89.
26 update regarding compliance at Pharmacy or in connection with the Pre-Filled
Syringe Program.134
E. The Board’s Monitoring of Specialty, Oncology, Pharmacy, and the Pre- Filled Syringe Program
1. Expansion of the Oncology Facility
On May 11, 2006, ABC’s then-CEO David R. Yost introduced a capital
expenditure request to the Board to expand the Oncology facility in Dothan,
Alabama where the Pre-Filled Syringe Program operated.135 The majority of the
expansion was dedicated to the facility whose sole business was to fill and distribute
pre-filled syringes.136 The capital expenditure request—which detailed the rationale
for undertaking the project—did not address any compliance or safety issue or any
expansion of compliance policies or procedures corresponding to the expansion of
the facility.137 The Board did not consider or discuss the regulatory and compliance
issues implicated by the expansion at that time. 138 The Board approved the capital
expenditure request to expand the Oncology facility.139
134 Id. 135 Id. ¶ 91. 136 Id. 137 Id. ¶ 92. 138 Id. ¶ 94. 139 Id. ¶ 91.
27 2. The Davis Polk Report
In 2007, Defendant Chou, acting on behalf of ABC, engaged Davis Polk &
Wardwell (“Davis Polk”) to “undertake an assessment of the adequacy of [ABC’s]
Compliance Program, to recommend improvements and to report the results of the
assessment to the Audit Committee” (the “Davis Polk Report”).140
Davis Polk notified the Audit Committee of deficiencies in ABC’s
compliance program. The areas for improvement in the Davis Polk Report included:
(1) greater accountability for compliance violations; (2) better organizational optics
around compliance function; (3) greater integration of Specialty from compliance
standpoint; (4) additional centralization of compliance and security decision-
making; and (5) better documentation and tracking of compliance and ethics
processes.141
Important implications of Davis Polk’s findings were that Specialty was not
integrated into ABC’s compliance and reporting function, and that oversight
responsibilities were being left to officers and directors of the various ABC
subsidiaries.142
140 Id. ¶ 97. 141 Id. ¶¶ 98–101; ABC-220 CONSOLIDATED R000001, at 0001–02. 142 Compl., ¶¶ 99, 102.
28 In the aftermath of the Davis Polk Report the Board and the Audit Committee
did not follow through on Davis Polk’s recommendations.143 Indeed, Pharmacy and
Oncology were kept out of ABC’s compliance programs for the entire period of the
Pre-Filled Syringe Program’s existence.144
With regard to greater integration of Specialty into ABC’s compliance
program and additional centralization of compliance authority, ABC’s Chief
Compliance Officer (“CCO”) Debra Swartz described to the Audit Committee
“efforts that [had] been implemented to increase oversight of [Specialty’s]
compliance activities by [Corporate Security].”145 But there is no report to the Audit
Committee detailing these efforts, and the Audit Committee never asked Swartz
what such efforts were or whether they had been implemented.146 Neither the Audit
Committee nor the Board received a single report from Corporate Security
concerning Specialty.147
Additionally, Swartz told the Audit Committee at the meeting where the Davis
Polk Report was presented that she “had presented a preliminary response to the
Davis Polk assessment and recommendations at the November 7, 2008 meeting and
that she would now present a more fulsome [sic] response and action plan” to the
143 Id. ¶ 104. 144 Id. ¶ 105. 145 Id. ¶ 107; ABC-220 CONSOLIDATED R000001, at 0002. 146 Compl., ¶ 107. 147 Id.
29 Audit Committee.148 However, neither the “preliminary response” nor the “more
fulsome response and action plan” were ever documented by Swartz or the Board.149
Swartz also proposed that she would serve as Secretary of ABC’s Ethics Committee
so that the Audit Committee would have transparency into ABC’s compliance
activities.150 The Audit Committee never received an update from the Ethics
Committee nor does it appear that the Ethics Committee reported to the Board.151
Swartz had also informed the Audit Committee in response to the Davis Polk
Report that an “electronic matter management system” would “enable [ABC] to
track matters from opening to signoff.”152 However, the Audit Committee never
heard or received a report from the system following Swartz’s comments.153 Swartz
“presented a proposed penalty matrix . . . intended to provide for greater consistency
of disciplinary action,” and informed the Audit Committee that the matrix would be
implemented around November 2008.154 No documentation of the matrix or other
reforms were presented to the Audit Committee or the Board.155
148 Id. ¶ 108; ABC-220 CONSOLIDATED R000001, at 0001. The November 2008 date is presumably an error, because the Audit Committee meeting was held in February 2008. 149 Compl., ¶ 108. 150 Id. ¶ 109. 151 Id. 152 Id. ¶ 111; ABC-220 CONSOLIDATED R000001, at 0001. 153 Compl., ¶ 111. 154 Id. ¶ 112; ABC-220 CONSOLIDATED R000001, at 0002. 155 Compl., ¶ 112.
30 The Audit Committee never received any reports specifically concerning
compliance at Pharmacy or in connection with the Pre-Filled Syringe Program.156
The Board did not receive any updates or progress reports on ABC’s reporting
controls following the Davis Polk Report or any time thereafter. 157 Additionally,
ABC had no committee specifically designated to oversee compliance with FDA
rules and regulations.158
3. Mullen’s Concerns and Qui Tam Action
Michael Mullen was an executive at Specialty beginning in 2003 and was
appointed to ABC’s Corporate Ethics Committee.159 In September 2009, Mullen
was promoted to COO of Specialty where he was responsible for Specialty’s eight
business units including the Oncology Group (which included Oncology and
Pharmacy).160
By January 2010, Mullen had identified significant issues across all of
Specialty’s business units, including serious issues with Specialty’s oncology
business model that created regulatory exposure.161 Mullen prepared six strategic
initiatives to address Specialty’s issues, which he summarized in a PowerPoint
156 Id. ¶ 110. 157 Id. 158 Id. ¶ 113. 159 Id. ¶ 114. Mullen was Specialty’s CFO from May 2003 to September 2008 and in September 2008 was appointed President, Distribution Services at Specialty. Id. 160 Id. ¶¶ 115–16. 161 Id. ¶ 117.
31 presentation.162 Mullen provided the presentation to Defendant Collis (and possibly
ABC’s then-CEO Yost), and presented the initiatives at a senior management retreat
held in January 2010.163 In the months after the retreat, Mullen repeated his concerns
about Specialty’s oncology business model to Collis and Yost, and in one such
conversation Yost noted there were aspects of the Oncology Group’s business—
which operated under Specialty’s umbrella—that he “would not want to see on the
front page of the Wall Street Journal.”164
Mullen met with Yost on March 23, 2010 regarding the Oncology Group, and
was adamant that serious issues needed to be addressed.165 Mullen’s concerns
encompassed a number of areas including business, competitiveness, and regulatory
exposure.166 Mullen provided Yost with another PowerPoint presentation detailing
his concerns with the Oncology Group—Yost did not inform the Board of this
information or provide the PowerPoint to the Board.167
After months of raising concerns about Specialty’s oncology business and
lobbying for ABC to address the compliance issues at Specialty, Mullen was
terminated on April 8, 2010, in a meeting with Yost, June Berry (then ABC’s head
162 Id. ¶ 118. 163 Id. 164 Id. 165 Id. ¶ 119. 166 Id. 167 Id.
32 of Human Resources), and Defendant Chou.168 Management never told the Board
about Mullen’s compliance concerns or firing.169 Likewise, Mullen’s concerns were
not documented, and the Board’s Compensation Committee was not informed of
(nor did it discuss) Mullen’s departure even though it was required to “[a]pprove or
recommend employment agreements and severance agreements for the CEO and
other executive officers.”170 Shortly after Mullen was terminated he contacted
Defendant Chou and later met with ABC’s in-house counsel, Rob Stone, in May
2010.171 At that meeting, Mullen provided Stone “extremely detailed written
documentation” regarding “a long-standing, and very profitable Specialty oncology
business group practice involving overfill and numerous oncology drugs.”172
Several email exchanges from July 2010 indicate that Chou and others made
inquiries into the Pre-Filled Syringe Program after Mullen’s termination, but none
of them were relayed to the Board.173 On July 23, 2010 Rob Stone forwarded an
email chain regarding overfill provisions in a proposed draft rule to the Medicare
Physician Fee Schedule to Chou, CCO Swartz, and others—the forwarded chain
includes a comment from a Senior Vice President at ABC that states: “Based on my
understanding of how we managed PFS at OS, I ‘think’ we are fine . . . but I wanted
168 Id. ¶ 122. 169 Id. ¶ 123. 170 Id. ¶ 124. 171 Id. ¶ 125. 172 Id. 173 Id. ¶ 128.
33 to alert you all to this provision as it may be wise to have an external/expert legal
review update an opinion on this issue.”174 An earlier email in the same chain from
an employee of an ABC subsidiary states: “[Center for Medicare and Medicaid
Services] recognizes that, in some cases, manufacturers intentionally include overfill
(an amount over what’s indicated on the FDA approved table) to ensure the patient
will get the full dose. In the context of [Average Sales Price] calculation and drug
payment, CMS proposes to clarify its regulations to clearly state that the unused
overfill amount should not be harvested and billed incrementally. That is, the
intentional overfill is ‘free’ product.”175 An email dated July 26, 2010, from Vinu
Pillai, Specialty’s Corporate Counsel, copied to Chou, attaches a “spreadsheet which
lists all of Oncology Supply’s contracted manufacturer products” and refers to a
DVD regarding the “OS syringe pre-fill program.”176
In 2010, ABC engaged the law firm Ober Kaler to conduct a compliance and
regulatory review of the Oncology Group—the review was announced to the Audit
Committee as a routine review.177 After the Audit Committee discussed Ober
Kaler’s finding and recommendations, the Audit Committee “instructed
174 Id. 175 Id. 176 Id. ¶ 129. 177 Id. ¶ 131.
34 management to undertake appropriate consideration and follow up of the
recommendations.”178
ABC made some changes after the Ober Kaler presentation, such as
commencing viable air sampling in Pharmacy’s cleanroom and anterooms and
conducting glove fingertip testing on Pharmacy technicians.179 However, many of
the unsanitary and unsterile conditions at the Oncology facility continued after the
Ober Kaler review and ABC failed to follow up on those issues.180 This included no
follow up testing when bacteria was found in the flow hoods, and when bacterial and
fungal infections were identified in the cleanroom and anterooms, and lack of follow
up when gloved fingertip testing came back positive for bacterial contamination.181
In February 2011, Chou reported to the Audit Committee that ABC “was
proceeding to implement all of the recommendations that were presented” by Ober
Kaler.182 But the Audit Committee did not follow up on whether management
actually carried out Ober Kaler’s recommendations, and no policies or procedures
were implemented, revised, or updated in response to Ober Kaler’s compliance and
regulatory review.183 The review by Ober Kaler and its findings and
recommendations were not presented to ABC’s full Board, and neither the Board
178 Id. 179 Id. ¶ 133. 180 Id. ¶ 134. 181 Id. 182 Id. ¶ 136. 183 Id.
35 nor the Audit Committee received subsequent reports on the sanitary, hygiene and/or
sterile conditions in the Pre-Filled Syringe Program.184
Meanwhile, on October 21, 2010, Mullen filed a qui tam complaint under seal
in federal district court in New York.185 Mullen alleged that the Pre-Filled Syringe
Program was an “overfill laundering scheme” involving “illegal kickbacks and price
concessions” to physician customers and undermined accurate pricing by
government healthcare programs, and that Pharmacy employed additional discounts,
price concessions, and/or “general pharmacy credit” issued to the accounts of
medical providers in furtherance of the program.186 Counsel for ABC’s management
learned of the qui tam complaint in November 2010 when it was inadvertently made
public, and counsel engaged outside law firm Morgan Lewis & Bockius LLP
(“Morgan Lewis”) without notifying the Board.187 Chou circulated an email on
November 17, 2010 to CCO Swartz and an attorney from Morgan Lewis with the
subject “New Qui Tam – Privileged and Confidential – Writeup for EY,” which was
not sent to any Board members.188
ABC publicly disclosed Mullen’s qui tam complaint in its Form 10-K filed
with the Securities and Exchange Commission (“SEC”) on November 23, 2010:
184 Id. 185 Id. ¶ 137. 186 Id. 187 Id. ¶ 138. 188 Id.
36 The Company has learned that there are both prior and subsequent filings in another federal district, including a complaint filed by a former employee of the Company, that are under seal and that involve allegations similar to those in the Federal District Court Action against the same and/or additional subsidiaries or businesses of the Company that are defendants in the Federal District Court Action, including the Company’s group purchasing organization for oncologists and the Company’s oncology distribution business.189
The “Federal District Court Action” was a “qui tam matter . . . pending in the United
States District Court for the District of Massachusetts . . . naming Amgen Inc., as
well as two business units of [Specialty] . . . as defendants.”190 This matter is referred
to herein as the Westmoreland case.
ABC’s Board—including then-CEO Yost and current Board members
Gochnauer, Henney, Hyle, Long, and McGee—all signed the 10-K.191 ABC’s 2011
Form 10-K contained a similar disclosure regarding the Mullen qui tam, and was
likewise signed by the Board.192 No remedial action was taken against any employee
for the misconduct identified in Mullen’s qui tam complaint.193
189 Id. ¶ 139. 190 Defs.’ Opening Br. in Support of Their Mot. to Dismiss, D.I. 10 (“Defs.’ Opening Br.”), Ex. 17, at 14. I take judicial notice of ABC’s 2010 10-K. 191 Compl., ¶ 140. 192 Id. ¶ 141. The 2011 10-K was signed by Board members Collis, Gochnauer, Henney, Hyle, Long, and McGee. Id. 193 Id. ¶ 142.
37 4. Search Warrant; USAO Subpoena; Article on Pre-Filled Syringe Program
In 2012, FDA agents executed a search warrant on the Oncology facility in
Dothan, Alabama where the Pre-Filled Syringe Program operated.194 The incident
was reported in the press, and an article on the search warrant quoted ABC’s
corporate spokesperson.195 ABC’s Form 10-K filed in November 2012 disclosed
that Specialty had received a subpoena from the United States Attorney’s Office.196
The 2012 10-K was signed by current Board members Collis, Gochnauer, Henney,
Hyle, Long, and McGee.197 Neither the search warrant nor the subpoena were
mentioned in the Audit Committee’s or the Board’s meeting minutes or materials.198
On November 15, 2012, ABC’s Board held a meeting attended by current
Board members Collis, Henney, Hyle, Long, and McGee—the Board minutes state:
“Mr. Collis reported on a possible article being prepared by a reporter on pre-filled
syringes and the Company’s response to the article. There was discussion of a
possible article on the subject of pre-filled syringes and developments in this
area.”199 The Board appears to have discussed the article, but apparently did not then
194 Id. ¶ 143. 195 Id. 196 Id. ¶ 144. 197 Id. 198 Id. ¶¶ 143–44. 199 Id. ¶ 145.
38 discuss then underlying issues, i.e. compliance issues with the Pre-Filled Syringe
Program.200
F. Closure of the Oncology Facility
In January 2014, ABC and Specialty ended the Pre-Filled Syringe Program
by closing the Oncology facility in Dothan, Alabama.201 The Audit Committee’s
first mention of ending the Pre-Filled Syringe Program was on April 23, 2014, where
the Audit Committee was informed that “the [Specialty] operating income included
the loss of income from a[] [Specialty] pharmacy closure in Dothan, Alabama.”202
The Audit Committee next discussed the Oncology facility closure at a meeting on
July 23, 2014.203 No discussion occurred regarding why the Oncology facility was
closing.204
G. Procedural History
The Plaintiffs filed the Complaint on October 11, 2019. The Complaint pleads
two counts of breach of fiduciary duty (Counts I and II).205 Count I is asserted
against Defendants Collis, Gochnauer, Greenberg, Henney, Hyle, Long, and McGee
(the “Director Defendants”).206 Count I alleges that the Director Defendants
200 Id. ¶ 146. 201 Id. ¶ 147. 202 Id. 203 Id. 204 Id. 205 Id. ¶¶ 207–21. 206 Id. ¶¶ 207–14.
39 consciously failed to implement and monitor compliance policies and systems and
failed to exercise their oversight responsibilities.207 The seven Director Defendants
are all current directors of ABC.208
Count II is asserted against Defendants Collis, Chou, and Guttman (the
“Officer Defendants”).209 Collis is ABC’s Chairman, President, and CEO; Chou is
the EVP of ABC and ABC’s Chief Legal & Business Officer; Guttman was a senior
executive at ABC from 2002 to 2018.210 Count II alleges that the Officer Defendants
consciously breached their fiduciary duties and violated corporate responsibilities
by knowingly operating and maintaining an illegal business model, and failed to
inform the Board about the Pre-Filled Syringe Program’s regulatory compliance.211
Count III alleges unjust enrichment against Collis.212
The Defendants moved to dismiss this Action on December 20, 2019. I heard
Oral Argument on May 27, 2020, and considered the matter submitted for decision
on that date.
II. ANALYSIS
The Defendants have moved to dismiss the Complaint pursuant to Chancery
Court Rule 23.1 for failure to make a demand on the Board and failure to plead
207 Id. ¶¶ 210–11. 208 Id. ¶¶ 34–35, 164. 209 Id. ¶¶ 215–21. 210 Id. ¶¶ 24, 32–33. 211 Id. ¶ 220. 212 Id. ¶¶ 222–23.
40 demand futility.213 The Defendants have also moved to dismiss under Chancery
Court Rule 12(b)(6) for failure to state a claim upon which relief may be granted.214
A. Rule 23.1
A “cardinal precept” of Delaware corporate law is that the board of directors,
not stockholders, manage the business and affairs of the corporation.215 Thus,
ordinarily, in the aftermath of a corporate trauma it falls to the board of directors to
determine the corporation’s course of action, including whether to pursue litigation
against the individuals involved.216 But in a derivative suit, a stockholder seeks to
sue on behalf of the corporation when the board fails to deploy a litigation asset.217
Because a derivative action necessarily “impinges on the managerial freedom of
directors,” Rule 23.1 requires that, where a stockholder has not demanded the
directors pursue the claim, the complaint must “allege with particularity the reasons
for not making the effort to make a litigation demand.”218 In other words, “[t]o wrest
control over the litigation asset away from the board of directors, the stockholder
213 Ch. Ct. R. 23.1. 214 Ch. Ct. R. 12(b)(6). 215 Aronson v. Lewis, 473 A.2d 805, 811 (Del. 1984) (citing 8 Del. C. §141(a)). Aronson, along with six other cases, were overturned by Brehm v. Eisner, 746 A.2d 244 (Del. 2000) “to the extent they reviewed a Rule 23.1 decision by the Court of Chancery under an abuse of discretion standard or otherwise suggested deferential appellate review.” Hughes v. Hu, 2020 WL 1987029, at *9 n.1 (Del. Ch. Apr. 27, 2020). Aronson, and the other overturned cases, otherwise remain good law, and this decision does not rely on Aronson for the standard of appellate review, and omits the subsequent case history. See id. 216 Hughes, 2020 WL 1987029, at *9. 217 Aronson, 473 A.2d at 811. 218 Hughes, 2020 WL 1987029, at *10 (quoting Ch. Ct. R. 23.1).
41 must demonstrate that demand on the board to pursue the claim would be futile such
that the demand requirement should be excused.”219
The Plaintiffs have pled derivative claims and concede they have not made a
litigation demand on the Board, but plead that demand would have been futile.220
Because the Plaintiffs have not made a litigation demand, the Plaintiffs can only
surmount Rule 23.1’s demand requirement if “demand is excused because the
directors are incapable of making an impartial decision regarding whether to institute
[this] litigation.”221 In pleading demand futility, the Complaint “must comply with
stringent requirements of factual particularity that differ substantially from the
permissive notice pleadings governed solely by Chancery Rule 8(a).”222 The
Complaint must set forth “particularized factual statements that are essential to the
claim.”223 However, on a Rule 23.1 motion all well-pleaded factual allegations are
accepted as true, and “[o]nce a plaintiff has made particularized allegations, the
plaintiff is entitled to all ‘reasonable inferences [that] logically flow from
particularized facts alleged.’”224
219 In re Clovis Oncology, Inc. Derivative Litig., 2019 WL 4850188, at *11 (Del. Ch. Oct. 1, 2019) (citing Beam ex rel. Martha Stewart Living Omnimedia, Inc. v. Stewart, 845 A.2d 1040, 1044 (Del. 2004)). 220 Compl., ¶ 163. 221 Stone ex rel. AmSouth Bancorporation v. Ritter, 911 A.2d 362, 367 (Del. 2006). 222 Brehm v. Eisner, 746 A.2d 244, 254 (Del. 2000). 223 Id. 224 In re Ezcorp Inc. Consulting Agreement Derivative Litig., 2016 WL 301245, at *34 (Del. Ch. Jan. 25, 2016) (quoting Beam, 845 A.2d at 1048).
42 The Plaintiffs have pled that the Board that would consider a demand is
composed of the seven Director Defendants and two non-parties: Ornella Barra and
D. Mark Durcan (the Director Defendants, together with Barra and Durcan, the
“Demand Board”).225
Because the Plaintiffs challenge board inaction, and not a specific board
decision, demand futility is analyzed under the test articulated in Rales v.
Blasband.226 To show that demand is futile in such an instance, a plaintiff must
allege “particularized facts that ‘create a reasonable doubt that, as of the time the
complaint is filed, the board of directors could have properly exercised its
independent and disinterested business judgment in responding to a demand.’”227 A
director cannot exercise her independent and disinterested business judgment where
a director is “either interested in the alleged wrongdoing or not independent of
someone who is.”228
A plaintiff can raise a reasonable doubt regarding a board’s interestedness “by
alleging particularized facts that reveal board inaction of a nature that would expose
225 Compl., ¶¶ 34–35, 164. 226 634 A.2d 927 (Del. 1993); In re Clovis Oncology, Inc. Derivative Litig., 2019 WL 4850188, at *11 (Del. Ch. Oct. 1, 2019); In re Citigroup Inc. S’holder Derivative Litig., 964 A.2d 106, 120 (Del. Ch. 2009). 227 Citigroup, 964 A.2d at 120 (quoting Rales, 634 A.2d at 933–34). 228 Hughes v. Hu, 2020 WL 1987029, at *12 (Del. Ch. Apr. 27, 2020).
43 at least half of the directors to a substantial likelihood of personal liability.”229 To
plead a substantial risk of liability, a plaintiff need not “demonstrate a reasonable
probability of success on the claim,” instead, a plaintiff “need only ‘make a threshold
showing, through the allegation of particularized facts, that their claims have some
merit.’”230
Alternatively, the Plaintiffs could plead demand futility by raising a
reasonable doubt that a majority of the Demand Board is independent.231 “[A] lack
of independence turns on ‘whether the plaintiffs have pled facts from which the
director’s ability to act impartially on a matter important to the interested party can
be doubted because that director may feel either subject to the interested party’s
dominion or beholden to that interested party.” 232 All pled facts pertinent to a
director’s relationship to the interested party must “be considered in full context in
making the, admittedly imprecise, pleading stage determination of independence.”233
“If the board of directors lacks a majority comprising independent and
disinterested directors, then demand is futile.”234
229 Oklahoma Firefighters Pension & Ret. Sys. v. Corbat, 2017 WL 6452240, at *14 (Del. Ch. Dec. 18, 2017) (quoting Horman v. Abney, 2017 WL 242571, at *6 (Del. Ch. Jan. 19, 2017)) (internal quotation marks omitted). 230 Hughes, 2020 WL 1987029, at *12 (quoting Rales, 634 A.2d at 934). 231 Rales, 634 A.2d at 936. 232 Sandys v. Pincus, 152 A.3d 124, 128 (Del. 2016) (quoting Delaware Cty. Employees Ret. Fund v. Sanchez, 124 A.3d 1017, 1023 n.25 (Del. 2015)). 233 Sandys, 152 A.3d at 128 (quoting Sanchez, 124 A.3d at 1022). 234 In re Ezcorp Inc. Consulting Agreement Derivative Litig., 2016 WL 301245, at *34 (Del. Ch. Jan. 25, 2016).
44 Count I is styled as claiming breach of duty under the theory articulated by
Chancellor Allen in In re Caremark Int’l Inc. Derivative Litigation.235 The Plaintiffs
also plead claims against three ABC officers (one of whom is also a director). The
claims against the Officer Defendants are breach of fiduciary duty (Count II) and an
unjust enrichment claim against Collis (Count III). 236
Below, I analyze whether demand was excused as to Counts I, II, and III. I
find that a majority of the Demand Board faces a substantial likelihood of liability
as to Count I, and therefore the Demand Board cannot bring its independent and
disinterested business judgment to bear in considering a demand. Consequently,
demand is excused as to Count I. Because Count I is necessarily bound up with the
claims against the Officer Defendants, demand is excused as to Counts II and III as
well.
235 698 A.2d 959 (Del. Ch. 1996); see e.g. Compl., ¶ 210 (“The Director Defendants consciously breached their fiduciary duties and violated their corporate responsibilities by failing to implement and monitor compliance policies and systems to ensure the safety of the Company’s [Pre-Filled Syringe] Program.”). 236 Count II is not a Caremark claim but a conventional claim for breach of fiduciary duty. Compl., ¶¶ 216, 218–19 (“[T]he Officer Defendants owed and owe [ABC] and its stockholders the highest duties of good faith, due care, and loyalty . . . . The Officer Defendants consciously breached their fiduciary duties and violated their corporate responsibilities by knowingly operating and maintaining an illegal business model . . . . [T]he Officer Defendants also consciously breached their fiduciary duties and violated their corporate responsibilities by failing to inform the Board about the [Pre-Filled Syringe] Program’s regulatory compliance.”).
45 B. Demand is Excused as to Count I
Count I alleges that the Director Defendants “consciously breached their
fiduciary duties by failing to exercise their oversight responsibilities.”237 Under
Caremark and its progeny, “a director must make a good faith effort to oversee the
company’s operations.”238 “A Caremark claim contends that the directors set in
motion or ‘allowed a situation to develop and continue which exposed the
corporation to enormous legal liability and that in doing so they violated a duty to
be active monitors of corporate performance.’”239 Such a claim “‘is rooted in
concepts of bad faith; indeed, a showing of bad faith is a necessary condition to
director oversight liability.’”240 Because a Caremark claim must plead bad faith, “a
plaintiff must allege facts that allow a reasonable inference that the directors acted
with scienter which, in turn, requires not only proof that a director acted
inconsistently with his fiduciary duties, but also most importantly, that the director
knew he was so acting.”241 A Caremark claim is “possibly the most difficult theory
in corporation law upon which a plaintiff might hope to win a judgment.”242
237 Id. ¶ 211. 238 Marchand v. Barnhill, 212 A.3d 805, 820 (Del. 2019) (citing Caremark, 698 A.2d at 970). 239 South v. Baker, 62 A.3d 1, 14 (Del. Ch. 2012) (quoting Caremark, 698 A.2d at 967). 240 City of Birmingham Ret. & Relief Sys. v. Good, 177 A.3d 47, 55 (Del. 2017) (quoting In re Citigroup Inc. S’holder Derivative Litig., 964 A.2d 106, 123 (Del. Ch. 2009)). 241 Oklahoma Firefighters Pension & Ret. Sys. v. Corbat, 2017 WL 6452240, at *14 (Del. Ch. Dec. 18, 2017) (quoting Horman v. Abney, 2017 WL 242571, at *7 (Del. Ch. Jan. 19, 2017)); In re Clovis Oncology, Inc. Derivative Litig., 2019 WL 4850188, at *12 (Del. Ch. Oct. 1, 2019)). 242 Stone ex rel. AmSouth Bancorporation v. Ritter, 911 A.2d 362, 372 (Del. 2006).
46 Caremark claims can take two forms. A so-called “prong one” claim arises
where “the directors utterly failed to implement any reporting or information system
or controls.”243 Under “prong one,” “a director may be held liable if she acts in bad
faith in the sense that she made no good faith effort to ensure that the company had
in place any system of controls.”244 A “prong two” claim, on the other hand, arises
where “having implemented such a system or controls, [the directors] consciously
failed to monitor or oversee its operations thus disabling themselves from being
informed of risks or problems requiring their attention.”245 To state a “prong two”
Caremark claim, the Plaintiffs must “plead [particularized facts] that the board knew
of evidence of corporate misconduct—the proverbial ‘red flag’—yet acted in bad
faith by consciously disregarding its duty to address that misconduct.” 246 “[A]
plaintiff asserting a Caremark oversight claim must plead with particularity ‘a
sufficient connection between the corporate trauma and the board.’”247
The Plaintiffs allege that the Director Defendants face a substantial likelihood
of liability under both prongs of Caremark.248
243 Id. at 370. 244 Hughes v. Hu, 2020 WL 1987029, at *14 (Del. Ch. Apr. 27, 2020) (quoting Marchand v. Barnhill, 212 A.3d 805, 822 (Del. 2019)). 245 Stone, 911 A.2d at 370 (Del. 2006). 246 Horman, 2017 WL 242571, at *10 (quoting Reiter on Behalf of Capital One Fin. Corp. v. Fairbank, 2016 WL 6081823, at *8 (Del. Ch. Oct. 18, 2016)). 247 Reiter, 2016 WL 6081823, at *8 (quoting Louisiana Mun. Police Empls.’ Ret. Sys. v. Pyott, 46 A.3d 313, 340 (Del. Ch. 2012), rev’d on other grounds, 74 A.3d 612 (Del. 2013)). 248 Compl., ¶¶ 179 (“By utterly failing to ensure that there was a system in place that would bring to the Board’s attention flagrant violations of federal law . . . the Defendants scorned their fiduciary
47 Seven members of the Demand Board (the Director Defendants) are alleged
to have served as ABC directors during the unlawful operation of the Pre-Filled
Syringe Program. Five of the Director Defendants have served on the Board since
at least May 2010.249 Additionally, five of the Director Defendants served on the
Audit Committee during the period most pertinent to this Action.250 The Defendants
do not argue that a majority of the Demand Board are insulated from a substantial
likelihood of liability because they were not directors during the relevant time
period. If the five Director Defendants who have served on the Board since May
2010 (at a minimum) face a substantial likelihood of liability, the Board cannot
properly exercise its independent and disinterested business judgment in responding
to a demand.
I find below that a majority of the Demand Board faces a substantial
likelihood of liability for Count I because the Plaintiffs have adequately pled that a
majority of the Demand Board consciously ignored red flags rising to the level of
bad faith.
duties. In doing so, the Director Defendants—including seven members of the Demand Board— face a substantial risk of liability.”), 186 (“This repeated failure of the Board and its committees to supervise ABC’s officers and employees to prevent illegal activity and to respond to red flags exposes the directors to a substantial risk of liability for their fiduciary breaches.”). 249 Id. ¶ 169. The tenures of the Director Defendants is as follows: Henney (since January 2002); McGee (since November 2004); Long (since May 2006); Gochnauer (since September 2008); Hyle (since May 2010); Collis (since 2011); and Greenberg (since May 2013). Id. 250 Id. ¶ 148. These Audit Committee members and their tenures are as follows: Gochnauer (2011– 12), Henney (2004–10), Hyle (2010–17; Chair 2011–16), Long (2011–17), and McGee (2009–15; 2018–present). Id.
48 1. Caremark’s Second Prong and Drug Health and Safety as a Mission Critical Compliance Risk
Again, to state a “prong two” Caremark claim requires a pleading of
particularized facts that the board knew of red flags but consciously disregarded
them in bad faith. That is, to survive the Motion to Dismiss under Rule 23.1, the
Complaint must plead particularized facts that the Defendant Directors knew of red
flags, but acted in bad faith by consciously disregarding their duty to address the
misconduct alerted to by such red flags.251 “In this context, bad faith means ‘the
directors were conscious of the fact that they were not doing their jobs, and that they
ignored red flags indicating misconduct in defiance of their duties.’”252 “The court
must remain mindful that ‘red flags are only useful when they are either waived in
one’s face or displayed so that they are visible to the careful observer.’”253 The
“careful observer” in this regard is “one whose gaze is fixed on the company’s
mission critical regulatory issues.”254
The concept of mission critical compliance risk emanates from our Supreme
Court’s decision in Marchand v. Barnhill.255 In Marchand, the company, Blue Bell
251 Horman, 2017 WL 242571, at *10. 252 Id. (quoting David B. Shaev Profit Sharing Account v. Armstrong, 2006 WL 391931, at *5 (Del. Ch. Feb. 13, 2006), aff’d, 911 A.2d 802 (Del. 2006)). 253 In re Clovis Oncology, Inc. Derivative Litig., 2019 WL 4850188, at *13 (Del. Ch. Oct. 1, 2019) (quoting Wood v. Baum, 953 A.2d 136, 143 (Del. 2008)). 254 Id. (citing Marchand v. Barnhill, 212 A.3d 805 (Del. 2019)). 255 212 A.3d 805 (Del. 2019).
49 Creameries, distributed ice cream containing the deadly bacteria listeria.256 The
Supreme Court found that Blue Bell’s board had failed to put in place a reasonable
system of monitoring and reporting on food safety, which for a “monoline company
that makes a single product . . . ice cream” was an “essential and mission critical”
compliance risk.257 In In re Clovis Oncology, Inc. Derivative Litigation,258 this Court
found that a complaint alleging with particularity that a biopharmaceutical firm
(Clovis) whose board consciously ignored red flags that “revealed a mission critical
failure to comply” with a market-standard protocol and associated FDA regulations
stated a claim under Caremark’s second prong.259 Like Blue Bell Creameries,
Clovis was a “monoline company operat[ing] in a highly regulated industry.”260
Clovis’s board’s conscious disregard imperiled FDA approval of a promising drug
that was “intrinsically critical to [Clovis’s] business operation.”261
Though ABC is a relatively more complex corporation than either Blue Bell
Creameries or Clovis, that does not mean the concept of mission critical compliance
risk is inapplicable here. ABC is a “manufacturer, distributor, and packager of
pharmaceutical drugs.”262 ABC operates in a highly regulated industry.263 The
256 Id. at 807. 257 Id. at 809, 824. 258 2019 WL 4850188 (Del. Ch. Oct. 1, 2019). 259 Id. at *15. 260 Id. at *1. 261 Id. 262 Compl., ¶ 40. 263 Id. ¶ 86.
50 Plaintiffs have pled that “compliance with FDA regulations is [ABC’s] primary
regulatory concern and is absolutely critical to its business.”264 Laws and regulations
governing the health and safety of drugs are thus the “most central . . . safety and
legal compliance issue facing the company.”265 And “when a company operates in
an environment where externally imposed regulations govern its ‘mission critical’
operations, the board’s oversight function must be more rigorously exercised.”266
Thus, when regulations governing drug health and safety are at issue, ABC’s Board
must actively exercise its oversight duties in order to properly discharge its duties in
good faith. The allegations here are a prime example: flouting laws meant to ensure
the safety and purity of drugs destined for patients suffering from cancer is directly
inimical to the central purpose of ABC’s business. I now examine the purported red
flags in light of this standard.
2. The Plaintiffs Have Pled Facts From Which I Can Reasonably Infer that the Board Consciously Ignored Red Flags267
The Plaintiffs allege that the Board and its committees failed to “supervise
ABC’s officers and employees to prevent illegal activity and to respond to red
264 Id. ¶ 40. 265 Marchand v. Barnhill, 212 A.3d 805, 824 (Del. 2019). 266 Clovis, 2019 WL 4850188, at *13 (quoting id.). 267 As noted, supra, the documents included in ABC’s Section 220 production are deemed incorporated into the Complaint regardless of whether they are cited by the Plaintiffs. But “Section 220 documents, hand selected by the company, cannot be offered to rewrite an otherwise well- pled complaint.” Id. at *14 n.216. “The only effect” of the condition that Section 220 documents are deemed incorporated into the Complaint “will be to ensure that the plaintiff cannot seize on a document, take it out of context, and insist on an unreasonable inference that the court could not
51 flags.”268 The Complaint pleads four separate instances of red flags (some multi-
part) that the Plaintiffs allege were ignored by ABC’s Board: (1) the 2006 capital
expenditure request to expand the Oncology facility, (2) the 2008 Davis Polk Report,
(3) Mullen’s allegations and qui tam suit, and (4) the 2012 DOJ subpoena and FDA
search warrant. Per the Plaintiffs, these red flags signaled to the Board that ABC
was engaged in illegal conduct in operating the Pre-Filled Syringe Program.
a. 2006 Capital Expenditure Request
The Plaintiffs contend that the Board’s consideration of the 2006 capital
expenditure request demonstrated conscious disregard of a red flag because the
capital expenditure request “did not address any compliance or safety issues or any
expansion of compliance policies or procedures to correspond to the expansion of
draw if it considered related documents.” Id. (quoting Amalgamated Bank v. Yahoo! Inc., 132 A.3d 752, 798 (Del. Ch. 2016), abrogated on other grounds, 214 A.3d 933 (Del. Aug. 7, 2019)). In line with this standard, I determine, with reference to the Complaint, whether I can reasonably draw the inferences the Plaintiffs ask me to draw—the Section 220 documents are used only to test whether those inferences which are reasonable from the face of the Complaint are rendered unreasonable by reference to a document incorporated by reference. Where the Plaintiffs have adequately pled a fact, a Section 220 document suggesting the facts are otherwise is insufficient at the pleading stage to refuse to draw the reasonable inference in the Plaintiffs’ favor. Yahoo!, 132 A.3d at 798 (“If there are factual conflicts in the documents or the circumstances support competing interpretations, and if the plaintiff makes a well-pleaded factual allegation, then the allegation will be credited. The plaintiff also will be entitled to ‘all reasonable inferences.’ This means that if a document or the circumstances support more than one possible inference, and if the inference that the plaintiff seeks is reasonable, then the plaintiff receives the inference.” (internal citations omitted)); accord id. At the pleading stage, “Defendants cannot ask the court to accept their Section 220 documents as definitive fact and thereby turn pleading stage inferences on their head. That is not, and should not be, the state of our law.” Clovis, 2019 WL 4850188, at *14 n.216. 268 Compl., ¶ 186.
52 the facility,” the Board “was neither asked to approve the expenditure of any funds
for the expanded [Oncology] facility’s compliance needs nor did it discuss the need
for compliance at the facility,” and “there was no indication there was any regulatory
or other compliance system even in place (much less being followed) at the Dothan,
Alabama facility.”269 But this is not a particularized pleading of facts demonstrating
conscious disregard of a red flag, because nowhere does the Complaint plead what
the red flag was. The Complaint instead appears to plead that it is obvious that a
compliance discussion should have occurred in connection with the capital
expenditure request, and the fact that such a discussion did not occur was itself
sufficient to alert the Board that the Oncology facility was not operating in
accordance with health and safety rules regarding drug manufacture and distribution.
Although drug health and safety is a mission critical compliance risk for ABC, there
is simply no particularized pleading of a red flag in connection with the expansion.270
The allegation is that the Board did not ask enough questions. That, to my mind,
tends to indicate that in bringing an expanded Oncology facility on line, the Board
failed in its duty to implement a compliance system, a fact important to a “prong
one” Caremark analysis. It does not, however, indicate that the Board ignored a
269 Id. ¶ 92. 270 See In re Citigroup Inc. S’holders Litig., 2003 WL 21384599, at *2 (Del. Ch. June 5, 2003) (“‘Red flags’ are only useful when they are either waived in one’s face or displayed so that they are visible to the careful observer.”).
53 “red flag” pertinent to “prong two.” Without a pleading of something that the Board
ignored, even though the allegation concerns a mission critical compliance risk, it is
not reasonably conceivable that the 2006 capital expenditure request constituted a
red flag.
b. The Davis Polk Report
Next are the Plaintiffs’ allegations regarding the Davis Polk Report. The
Plaintiffs have pled that the Davis Polk Report indicated that Specialty and its
subsidiaries—including Pharmacy and Oncology—were operating outside of ABC’s
compliance controls and that “there were no reporting structures in place to inform
the Board of compliance-related violations or complaints pertaining to [Specialty’s]
businesses, including the [Pre-Filled Syringe] Program.”271 The Complaint also
alleges that the Davis Polk Report indicated that ABC had no centralized compliance
and reporting structure, that there was inadequate documentation and tracking of
compliance and ethics processes, and that there was inadequate accountability for
compliance violations at ABC.272
The Plaintiffs allege that the Audit Committee and the Board ignored Davis
Polk’s recommendations and “failed to take any steps to ensure that [ABC’s]
inadequate compliance and reporting program was remedied.”273 Indeed, per the
271 Compl., ¶ 98. 272 Id. ¶¶ 99–101. 273 Id. ¶ 104.
54 Complaint, Pharmacy and Oncology were kept out of ABC’s compliance programs
for the entire period of the Pre-Filled Syringe Program’s existence, and “ABC
excluded the entire [Pre-Filled Syringe] Program from its standard regulatory audit
and pedigree compliance programs.”274 Supporting this allegation, the Plaintiffs
have pled that the Audit Committee never received any reports specifically
concerning compliance at Pharmacy or in connection with the Pre-Filled Syringe
Program.275
Again, the lack of a reporting system for the recently-acquired Specialty
business suggests a “prong one” failure of Caremark oversight. But, pertinent to
“prong two,” it is reasonably conceivable that the Davis Polk Report, at a minimum,
served as a red flag that Specialty’s mission critical compliance mechanisms—which
included both Pharmacy and Oncology—had substantial gaps. I need not decide
whether the Davis Polk Report alone could serve as a red flag sufficient to make it
reasonably conceivable that the Director Defendants face a substantial likelihood of
liability. Instead, as the Plaintiffs urge, the Davis Polk Report serves as a backdrop
against which the other pled red flags must be viewed. That is, the Audit Committee
(at a minimum) was on notice in 2008 that it was likely that significant compliance
274 Id. ¶ 105. 275 Id. ¶ 110.
55 gaps existed at the Pre-Filled Syringe Program, creating a void in which illegal
activity could occur undetected.
The Complaint’s allegations concerning the Davis Polk Report cite to minutes
from an Audit Committee meeting on February 27, 2008, where the Davis Polk
Report was summarized to the Audit Committee.276 The report itself is not among
the Section 220 documents presented in briefing this Motion to Dismiss, and I
presume it was not produced.
The Defendants refer to the same Audit Committee minutes in an attempt to
refute the inferences the Plaintiffs ask me to draw regarding the Davis Polk Report.
The Defendants cite that the minutes refer to efforts that had been implemented to
increase oversight of Specialty compliance activities in response to the Davis Polk
Report.277 But the Plaintiffs have adequately pled that the Audit Committee never
received any reports specifically concerning compliance at Pharmacy or in
connection with the Pre-Filled Syringe Program. The citation by the Defendants that
some efforts had been implemented is insufficient to render the inference
unreasonable because it is unclear whether the efforts to increase oversight over
Specialty’s compliance activities targeted the mission critical compliance risk that
undergirds the Complaint.
276 E.g. id. ¶¶ 97 n.42, 99 n.45, 101 n.47, 108 n.50, 111 n.51. ABC-220 CONSOLIDATED R000001, at 0002 (“Ms. Swartz described efforts that have been 277
implemented to increase oversight of [Specialty] compliance activities by [Corporate Security].”).
56 Moreover, the Defendants argue that “Plaintiffs here simply seek to second-
guess the . . . manner of the board’s response to the red flags, which fails to state a
Caremark claim.”278 The Defendants contend that the Audit Committee minutes
“reflect that steps were taken to improve the systems and controls related to” drug
health and safety regulations, and therefore, cannot represent a red flag consciously
disregarded by ABC’s Board.279 But, as noted, the Defendants have not pointed to
any part of the Section 220 production that refers to actions taken with regard to the
shortcomings at Pharmacy concerning mission critical drug health and safety
regulations. Moreover, the Davis Polk Report is the basis for the Plaintiffs’
allegations that the Board was on notice of gaps in Specialty’s compliance, making
the later red flags all the more consequential. Consequently, I find that it is
reasonably conceivable that the Davis Polk Report represents a red flag regarding
Specialty’s compliance failures and a potential void permitting illegal activity, and
the Plaintiffs have adequately pled that the Board did not respond to the potential
gaps regarding drug health and safety risks.
278 Oklahoma Firefighters Pension & Ret. Sys. v. Corbat, 2017 WL 6452240, at *17 (Del. Ch. Dec. 18, 2017) (quoting In re Qualcomm Inc. FCPA S’holder Derivative Litig., 2017 WL 2608723, at *4 (Del. Ch. June 16, 2017)). 279 Id.
57 c. Mullen’s Allegations and Qui Tam Action
The next alleged red flag is the allegations and qui tam suit by Specialty’s
former Chief Operating Officer Michael Mullen. The Complaint alleges that Mullen
raised concerns regarding Specialty’s oncology business model that created
regulatory exposure, that after raising concerns for months Mullen was fired, and
that Mullen’s concerns were never documented nor were the concerns or Mullen’s
firing conveyed to the Board. The Plaintiffs also allege that Mullen continued his
effort to convey his compliance concerns about Specialty and the Pre-Filled Syringe
Program after his firing, including emailing Specialty’s in-house counsel regarding
“a long-standing, and very profitable [Specialty] oncology business group practice
involving overfill and numerous oncology drugs.”280 While the Plaintiffs plead
mutually exclusive occurrences, that is, the Board was not informed of Mullen’s
allegations (supporting a “prong one” Caremark claim) and that the Board
consciously ignored Mullen’s allegations (supporting a “prong two” Caremark
claim),281 the Board did sign ABC’s 2010 and 2011 Form 10-Ks that disclosed
Mullen’s qui tam suit.282 I may consequently draw the inference that the Defendant
280 Compl., ¶ 125. Mullen’s report has been withheld as privileged. Defs.’ Opening Br., Ex. 14. 281 Compare Compl., ¶ 183 (“[T]he Board had no reporting system and as such was not informed of [Mullen’s] firing or the allegations he raised.”) with Compl., ¶ 184 n.83 (“There is no doubt Defendants knew about the Mullen report.”). 282 Id. ¶¶ 139–41.
58 Directors then serving on the Board283 were aware of Mullen’s allegations.284 For
context, the Board disclosed Mullen’s suit in November 2010, and the Pre-Filled
Syringe Program continued operation until January 2014.
Mullen’s inadvertently publicly disclosed qui tam complaint addressed
mission critical drug health and safety risks, specifically citing the problematic use
of overfill:
[Pharmacy] purchased vials of injectable drugs from drug manufacturers, used sophisticated centrifuge and vacuum technology to extract all of the product from these vials (including the free overfill amounts) and filled syringes with this free product. By doing this, the Defendants were able to create free doses of the drug in the form of pre- filled syringes. These pre-filled syringes were then sold to medical providers through [Oncology] at a steeper discount than was offered on the vials.285
Mullen also pleaded the following regard his meeting with Yost:
On March 23, 2010, Mr. Mullen had a face-to-face meeting with CEO Yost, during which Mr. Mullen provided an extensive “download” on the oncology business group and the status of ION.286 During that meeting, Mr. Mullen was very direct and adamant with Mr. Yost as to the serious issues that needed to be addressed and the changes that needed to be made; he expressed grave concerns in a number of areas including business, competitiveness, and regulatory exposure and told
283 This includes Henney, McGee, Long, Gochnauer, and Hyle—a majority of the Demand Board—who have served on the Board since at least May 2010. 284 See Rich ex rel. Fuqi Int’l, Inc. v. Yu Kwai Chong, 66 A.3d 963, 984 (Del. Ch. 2013) (“Facially, these disclosures are enough to allow me to reasonably infer scienter on the part of the Defendants.”). I note that Fuqi was a Caremark analysis under the “more lenient” 12(b)(6) standard. 285 Defs.’ Opening Br., Ex. 11, ¶ 8. I take judicial notice of this complaint, which was filed in the United States District Court for the Eastern District of New York on October 21, 2010. 286 ION was a group purchasing organization and was part of the Oncology Group.
59 Mr. Yost words to the effect that the situation was “worse” than Mr. Mullen had “thought.”287
Based on the Board’s disclosure of the Mullen qui tam complaint and the allegations
of the complaint relating to the Pre-Filled Syringe Program, it is a reasonable
inference at this pleading stage that ABC’s entire Board knew of Mullen’s
allegations that Pharmacy was operating the Pre-Filled Syringe Program illegally.288
The Complaint pleads that the Board never asked for any investigations, reports, or
updates concerning Mullen’s allegations.289
The Defendants retort that the Board responded to the substance of Mullen’s
allegations, and that they did not consciously disregard such allegations, because the
Board was addressing similar claims in the Westmoreland case, which was, as noted,
another qui tam action involving Specialty. Mullen’s own qui tam complaint alleges
that the Westmoreland case concerned Specialty’s nephrology (not oncology)
287 Defs.’ Opening Br., Ex. 11, ¶ 120. 288 The Defendants argue that because Mullen’s original complaint alleged that the Pre-Filled Syringe Program operated illegally based on Anti-Kickback Statute and False Claims Act theories, and not for failure to register Pharmacy with the FDA, Mullen’s complaint cannot constitute a red flag for the failure to register and the attendant drug health and safety violations. However, separation of allegations at Pharmacy into baskets of illegality strikes me as artificial. Mullen’s complaint was sufficient to alert the Board that Mullen’s allegations concerned, at least in part, mission critical compliance failures. That is, the factual predicate underlying Mullen’s qui tam complaint was that Pharmacy was harvesting and selling overfill. While it is illegal to bill for overfill (because it not intended for patient use), it is also illegal to sell overfill for patient use because the harvesting process imperils the safety and purity of the medicine. Because the drug health and safety regulations implicated by overfill harvesting are mission critical, the Board’s “oversight function must be more rigorously exercised.” In re Clovis Oncology, Inc. Derivative Litig., 2019 WL 4850188, at *13 (Del. Ch. Oct. 1, 2019) (citing Marchand v. Barnhill, 212 A.3d 805, 822, 824 (Del. 2019)). 289 Compl., ¶ 184.
60 business, that the allegations in Westmoreland were similarly applicable to the
Oncology Group, and that the nature of the wrongdoing applied to a number of
different oncology drugs.290
The Defendants contend that the Section 220 documents refute the
contentions of Board inaction with respect to the allegations in Mullen’s qui tam
action. The Section 220 documents put forward by the Defendants, however, at most
give rise to multiple inferences, and at this pleading stage that means the Plaintiffs
receive the inference.291 The otherwise nearly-entirely redacted292 Audit Committee
and Board minutes cited by the Defendants purportedly showing that the Board
monitored and received updates pertinent to the Mullen allegations state as follows:
“In Note 8, Legal Matters and Contingencies, the discussion of the Company’s litigation matters and contingencies, including the updated disclosure concerning the status of the qui tam matter and related filings”293
“In Note 8, Legal Matters and Contingencies, the discussion of the Company’s litigation matters and contingencies, including the updated disclosure concerning the status of the Bergen Brunswig matter and the qui tam matter”294
290 Defs.’ Opening Br., Ex. 11, ¶ 118 (“Moreover, Mr. Mullen recognized that the allegations made in the Westmoreland Case with respect to ABC’s nephrology GPO and wholesale practice . . . were also applicable to ABC’s oncology GPO and wholesale practice . . . .”). 291 Amalgamated Bank v. Yahoo! Inc., 132 A.3d 752, 798 (Del. Ch. 2016), abrogated on other grounds, 214 A.3d 933 (Del. Aug. 7, 2019). 292 By this, I mean, other than the language quoted, they are redacted in their entirety other than the information necessary to know what body was meeting, who the attendees were, and when and where the meeting occurred. 293 ABC-220 CONSOLIDATED R000005, at 0007. 294 ABC-220 CONSOLIDATED R000020, at 0022.
61 “Ms. Hyle stated that the Committee had received an update on compliance activities and calls to the Company’s hotline since the last meeting of the Committee. She said that the Committee had also received an updated on the status of certain qui tam litigation relating to the Company, [REDACTED] and a qui tam matter relating to the Company’s oncology supply business”295
“Mr. Chou then presented the legal update, reporting on significant legal matters affect the Company, including the qui tam lawsuit”296
“Mr. Chou presented the legal update, reporting on significant legal matters affecting the company. [REDACTED]. Mr. Chou discussed certain other matters, including the status of a pending qui tam action in New York involving a former employee of the Company”297
“Mr. Chou presented the legal update, reporting on significant legal matters affecting the Company. [REDACTED]. Mr. Chou discussed certain other matters, including the status of a pending qui tam action in New York involving a former employee of the Company. There was a discussion of these matters”298 The Defendants also put forth a single slide (presumably part of a larger
presentation) with the heading “Legal and CSRA FY 14 Accomplishments”—the
only other unredacted text reads: “Defend [REDACTED] and Oncology Supply299
qui tam investigations vigorously, with minimal disruption for business
associates.”300
295 ABC-220 CONSOLIDATED R000306, at 0310. 296 ABC-220 CONSOLIDATED R000231, at 0236. 297 ABC-220 CONSOLIDATED R000334, at 0346. 298 ABC-220 CONSOLIDATED R000372, at 0381. 299 Oncology’s full name is ASD Specialty Healthcare, LLC d/b/a Oncology Supply. Compl., ¶ 21. 300 ABC-220 CONSOLIDATED R001043, at 1043.
62 The Section 220 materials cited by the Defendants do not demonstrate that in
invoking the Mullen allegations and qui tam suit as a red flag, the Plaintiffs have
“seize[d] on a document, take[n] it out of context, and insist[ed] on an unreasonable
inference that the court could not draw if it considered related documents.”301 Many
of the minutes referenced do not even obviously refer to the Mullen suit—as noted,
both the Westmoreland case and Mullen’s action were qui tam actions—and even
those that inferably do refer to Mullen’s qui tam action do not demonstrate any
remedial action taken by the Board in response. The closest the Defendants get in
this regard is the single slide, but that slide is titled FY14 [inferably fiscal year 2014]
Accomplishments. Notably, Mullen’s original complaint was filed in October 2010,
and the Pre-Filled Syringe Program was ended in January 2014. Consequently, a
reference to a fiscal year 2014 “accomplishment” of defending Mullen’s qui tam
does not refute the inference that the Board knew of Mullen’s allegations and
consciously ignored Mullen’s allegations of wrongdoing in connection with the Pre-
Filled Syringe Program.
The Defendants next argue that that Board specifically reviewed the legality
the Pharmacy’s business in the aftermath of Mullen’s termination. Per the
Complaint, in 2010 Ober Kaler was brought in to conduct a compliance and
301 In re Clovis Oncology, Inc. Derivative Litig., 2019 WL 4850188, at *14 n.216 (Del. Ch. Oct. 1, 2019) (quoting Amalgamated Bank v. Yahoo! Inc., 132 A.3d 752, 798 (Del. Ch. 2016), abrogated on other grounds, 214 A.3d 933 (Del. Aug. 7, 2019)).
63 regulatory review in response to Mullen’s allegations.302 But the Plaintiffs allege
that the Audit Committee never followed up to determine if Ober Kaler’s
recommendations were implemented, and that no policies or procedures were
created or changed as a result of the review.303 Moreover, even after the Ober Kaler
review, “there were no reports to the Board or the Audit Committee regarding FDA
compliance or the unsanitary and unhygienic conditions at the [Pre-Filled Syringe]
facility.”304
The Plaintiffs ask for the inference that Ober Kaler informed the Audit
Committee of the “serious unsanitary and unhygienic conditions” in the Pre-Filled
Syringe Program.305 The extent of the information about the Ober Kaler review in
the Section 220 production is that Ober Kaler was engaged to conduct a “compliance
and regulatory review of [ABC’s] ION and Oncology Supply businesses,” 306 and
that ABC was “proceeding to implement all of the recommendations that were
presented as part of the [review].”307 It is unclear what Ober Kaler’s
recommendations were because the report was withheld as privileged. 308 But the
Plaintiffs do not need the inference that Ober Kaler informed the Audit Committee
302 Compl., ¶ 184 n. 84. 303 Id. 304 Id. 305 Id. ¶ 135. 306 ABC-220 CONSOLIDATED R000238, at 0238. 307 ABC-220 CONSOLIDATED R000244, at 0248. 308 See Defs.’ Opening Br., at 51 n.25; Defs.’ Opening Br., Ex. 14.
64 of concerns with the Pre-Filled Syringe Program because it is already reasonable to
infer the Board’s (as a whole) knowledge from their signed disclosure of Mullen’s
allegations.309 Furthermore, based on the Complaint and incorporated Section 220
documents, that Ober Kaler conducted a review is insufficient to rebut the otherwise
well-pled allegation that the Board consciously ignored Mullen’s allegations
because it is unknown what Ober Kaler recommended. Consequently, without
knowing what these recommendations were, it is not possible at this time to draw an
inference regarding the extent of the measures implemented, nor is it sufficient to
render unreasonable the Plaintiffs’ proffered inference: that the Board consciously
ignored concerns about the Pre-Filled Syringe Program.310
The Plaintiffs have adequately pled that the Board knew of Mullen’s
allegations regarding the Pre-Filled Syringe Program and that the Board ignored
such concerns in bad faith by failing take action regarding the operation of the Pre-
Filled Syringe Program in response. These well-pled allegations are sufficient to
309 As noted, the Complaint alleges that Ober Kaler presented only to the Audit Committee. The Complaint specifically pleads: “The review by Ober Kaler and its findings and recommendations were not presented to ABC’s full Board, and the Audit Committee never followed up to confirm that the recommendations from this ‘routine’ review were actually implemented.” Compl., ¶ 136. 310 The Complaint concedes that ABC “made some changes after the Ober Kaler presentation, but failed to follow up and ensure that the unsterile and unhygienic conditions in the [Pre-Filled Syringe] Program were discontinued.” Id. ¶ 132. Given that drug health and safety was a mission critical compliance risk, and given the other allegations in the Complaint, this concession is insufficient to render unreasonable the inference that the Board consciously ignored the substance of Mullen’s allegations in bad faith, especially because it is unknown what Ober Kaler recommended.
65 reasonably infer that the Board consciously ignored red flags regarding the Pre-
Filled Syringe Program and its attendant mission critical compliance risks.
d. The 2012 DOJ Subpoena and FDA Search Warrant
The final red flag alleged by the Plaintiffs is the FDA search warrant executed
at Pharmacy’s operations in 2012 and a subpoena received from federal prosecutors
that ABC “believe[d] could be related to a qui tam action that remains under seal,”
inferably Mullen’s qui tam action.311
The Plaintiffs allege that the search warrant was reported in the press, though
there is no mention of it in any Board or Audit Committee minutes or materials,
giving rise to a reasonable inference that it was never discussed by these bodies. As
to the subpoena, it was disclosed in ABC’s 2012 10-K, signed by ABC’s Board,
making it a reasonable inference that the Board had knowledge of the subpoena.
It is not reasonable to infer that the Board consciously ignored a red flag with
regard to the search warrant, because there is no well-pled allegation that the Board
had knowledge of the search warrant or the raid, and hence the scienter required to
adequately plead bad faith is absent.312 As to the subpoena, I can draw a reasonable
inference of the Board’s knowledge because the Board disclosed the subpoena in
ABC’s 10-K.
311 Id. ¶ 185. 312 The Complaint does not allege that the then-forthcoming article mentioned at the November 15, 2012 ABC Board meeting concerned the search warrant.
66 ABC’s same 2012 10-K noted that ABC was “in the process of responding to
the subpoena and is cooperating fully with the USAO.”313 But the Plaintiff is entitled
to the inference that the Board never discussed the subpoena due to its absence from
the Board’s minutes.314 The Defendants rely on the statement in the 10-K that ABC
was “responding” to the subpoena to negate an inference that the Board failed to take
action regarding the mission critical compliance shortcomings that the subpoena
implicated. To my mind, that does not follow. It is reasonably conceivable that
ABC could respond to the subpoena, in the way of handing over the information
requested, without taking any action with regard to the reason why the United States
Attorney’s Office was asking for information, that is, the illegality of the Pre-Filled
Syringe Program.
Given the Plaintiff-friendly standard at this pleading stage, I find that the
absence of any discussion of the subpoena by the Board is sufficient to make
reasonable the inference the Plaintiffs ask me to draw, that is, even after receiving
the subpoena the Board did nothing to correct the underlying mission critical
compliance shortcomings at Pharmacy. Whether this will bear out upon discovery
is a matter that awaits a record.
313 Defs.’ Opening Br., Ex. 15, at 57. I take judicial notice of ABC’s 2012 10-K. 314 Hughes v. Hu, 2020 WL 1987029, at *2 (Del. Ch. Apr. 27, 2020 (“Given [the stipulation that any remaining materials requested by Plaintiff either do not exist or had been withheld on privilege grounds], if the Company failed to produce a document that it would reasonably be expected to possess if a particular event had occurred, then the plaintiff is entitled to a reasonable inference that the event did not occur.” (citing Morrison v. Berry, 191 A.3d 268, 275 n.20 (Del. 2018))).
67 3. Demand is Excused as to Count I Because the Complaint Contains Adequately Pled Allegations that the Board Consciously Ignored Red Flags
To repeat, demand on the Board is excused if the Plaintiffs can “alleg[e]
particularized facts that reveal board inaction of a nature that would expose at least
half of the directors to a substantial likelihood of personal liability.”315 Seven
members of the Demand Board (the Director Defendants) are alleged to have served
as ABC directors during the unlawful operation of the Pre-Filled Syringe Program,
and five of the Director Defendants—a majority of ABC’s Board—have served on
the Board since at least May 2010. Therefore, a majority of ABC’s current Board
were on the Board when it disclosed the existence of Mullen’s qui tam action—the
principal red flag alleged—in November 2010.316 Moreover, a majority of the
Demand Board served on the Audit Committee around the time of the wrongdoing
alleged.
The Plaintiffs have demonstrated that a majority of ABC’s Board faces a
substantial likelihood of liability by pleading particularized facts from which it is
reasonably conceivable that a majority of the Board “knew of evidence of corporate
315 Oklahoma Firefighters Pension & Ret. Sys. v. Corbat, 2017 WL 6452240, at *14 (Del. Ch. Dec. 18, 2017) (quoting Horman v. Abney, 2017 WL 242571, at *6 (Del. Ch. Jan. 19, 2017)) (internal quotation marks omitted). 316 While it is true that a majority of the Demand Board was not on the Board at the time of the Davis Polk Report, even absent the Davis Polk Report the Complaint would survive a Motion to Dismiss based on the alleged knowing failure to respond to the Mullen qui tam action. Consequently, there is no need for a further inquiry regarding director independence.
68 misconduct—the proverbial ‘red flag’—yet acted in bad faith by consciously
disregarding its duty to address that misconduct.”317 That is, the Plaintiffs have
adequately pled that the Board was aware of the Pre-Filled Syringe Program’s
contravention of mission critical drug health and safety regulations, and that the
Board failed to act in response. The Board’s knowledge of these failures can be
reasonably inferred from, at minimum, the serious allegations of Mullen—
Specialty’s COO—regarding mission critical compliance failures regarding
Specialty’s oncology business. The Defendants have placed forth Section 220
evidence that shows that some Board-level (and Audit Committee-level) review was
taken in regard to failures at Pharmacy, but have put forth nothing to show tangible
action taken to remedy the underlying drug health and safety issues. Calling
attention to the hiring of law firms to review alleged illegality, without more, is
insufficient to refute well-pled allegations that the Board failed to address mission
critical compliance risks. The Defendants have put forth nothing from the Section
220 production showing a tangible reaction to—as opposed to a review of—the
mission critical compliance failures at Pharmacy.
Because a majority of the Demand Board faces a substantial likelihood of
liability for Count I of the Complaint, demand is excused as to Count I and the
317 Horman, 2017 WL 242571, at *10 (quoting Reiter on Behalf of Capital One Fin. Corp. v. Fairbank, 2016 WL 6081823, at *8 (Del. Ch. Oct. 18, 2016)).
69 Defendants’ Motion to Dismiss under Rule 23.1 is denied. The Defendants have
also moved to dismiss Count I under Rule 12(b)(6). “Because the standard under
Rule 12(b)(6) is less stringent than that under Rule 23.1, a complaint that survives a
motion to dismiss pursuant to Rule 23.1 will also survive a 12(b)(6) motion to
dismiss, assuming that it otherwise contains sufficient facts to state a cognizable
claim.”318 Consequently, because the Complaint otherwise contains sufficient
factual allegations to state a cognizable claim, the Defendants’ Motion to Dismiss
under Rule 12(b)(6) is likewise denied.
4. Caremark “Prong One” Allegations
Because the Complaint survives under a “prong two” theory, I need not decide
whether the Director Defendants face a substantial likelihood of liability under
“prong one” of Caremark. I note, however, that the Davis Polk Report indicates that
several years after acquiring Specialty, ABC had a woefully inadequate compliance
system. While the implication of a “prong one” claim is unnecessary to survive the
Defendant’s Motion, it nonetheless speaks to a lax approach (at best) to compliance
at ABC.
318 McPadden v. Sidhu, 964 A.2d 1262, 1270 (Del. Ch. 2008) (footnotes omitted).
70 C. The Motion to Dismiss Counts II and III is Denied
As noted, supra, the Complaint also brings claims against officers of ABC:
Defendants Collis (in his officer capacity), Chou, and Guttman (the Officer
Defendants).
Count II alleges breach of fiduciary duty against the Officer Defendants.
Specifically, the Complaint alleges that “[t]he Officer Defendants consciously
breached their fiduciary duties and violated their corporate responsibilities by
knowingly operating and maintaining an illegal business model” and that the Officer
Defendants failed to inform the Board about the Pre-Filled Syringe Program’s
regulatory compliance.319
Count III alleges unjust enrichment against Collis. Collis was allegedly
unjustly enriched because he “derived profits, benefits, and other compensation from
ABC and were [sic] otherwise unjustly enriched during the time in which the
wrongful practices occurred.”320
Neither party disputes that the factual allegations underlying Counts II and III
are congruous with those underlying Count I. An investigation of the alleged officer
breaches of duty would necessarily implicate the same set of facts as Count I.
Namely, the activities alleged as breaches of the Officer Defendants’ fiduciary
319 Compl., ¶¶ 218–19. 320 Id. ¶ 223.
71 obligations is the same conduct that the Director Defendants allegedly failed to
adequately oversee.
Because the Plaintiffs did not make a demand with regard to the Counts II and
III, like with Count I they must show why demand would be futile. Of the Officer
Defendants, only Collis is a member of the Demand Board. Rales applies because
Counts II and III do not challenge an action of the Board, but instead actions of the
Officer Defendants.321
“To evaluate a demand to assert the claim[s] posited in Count[s] II [and III],
the Demand Board would have to investigate and then assert litigation based on the
breaches of the duty of oversight that are the subject of Count I.”322 As noted, at a
minimum a majority of the Demand Board—Henney, McGee, Long, Gochnauer,
and Hyle, who have all been Board members since at least May 2010—face a
substantial likelihood of liability with regard to Count I and hence cannot impartially
consider a demand for the Caremark claim. In other words, the Director Defendants
could not bring their business judgment to bear on a demand to prosecute Counts II
and III, because such litigation would implicate their own wrongdoing adequately
pled in Count I. Thus, because Counts II and III “would implicate the same conduct”
321 Beam ex rel. Martha Stewart Living Omnimedia, Inc. v. Stewart, 833 A.2d 961, 977 (Del. Ch. 2003), aff’d, 845 A.2d 1040 (Del. 2004). 322 Hughes v. Hu, 2020 WL 1987029, at *18 (Del. Ch. Apr. 27, 2020).
72 as Count I, demand is futile as to Counts II and III.323 And for the same reasons
noted, supra, because demand is futile with regard to Counts II and III, the Motion
to Dismiss under Rule 12(b)(6) is likewise denied.
III. CONCLUSION
The Defendants Motion to Dismiss is DENIED. The parties should submit a
form of order consistent with this Memorandum Opinion.
323 Id.
Related
Cite This Page — Counsel Stack
Teamsters Local 443 Health Services & Insurance Plan v. John G. Chou, Counsel Stack Legal Research, https://law.counselstack.com/opinion/teamsters-local-443-health-services-insurance-plan-v-john-g-chou-delch-2020.