McKesson Versus the State of West Virginia
The Opioid Crisis has created significant reputational and financial risks for drug distribution companies; with McKesson Corporation currently in the eye of the storm. The company recently reached a USD 14.5 million settlement with the state of West Virginia, with an additional USD 4.5 million per year to be paid over the next five years. The funds will be used in support of state initiatives to combat the opioid epidemic, including rehabilitation, job training, mental health and other important public health efforts. In addition, a USD 150 million civil penalty was imposed on the company for alleged violations of the Controlled Substances Act regarding the distribution of opioids. The company was also ordered to suspend sales of controlled substances from four distribution centers. However, this is not new litigatory territory for McKesson, as the U.S. Department of Justice imposed a USD 13.25 million civil penalty in 2008 for similar violations.
The most recent settlement however did lead to a call for governance changes at the company, as the International Brotherhood of Teamsters General Fund proposed a shareholder resolution at the company’s 2017 annual general meeting requesting an Independent Board Chair.[ii] As the proposal received approximately 40% of shareholder support, in response the board set up an independent Special Review Committee in 2018. The Board disclosed that the Committee in its findings revealed a strong company culture that encouraged ethical and compliant conduct, as led by management and reinforced by the Board.[iii]
However, given the substantial reputational risk and significant fines imposed on the company, the question is raised if there were any red flags that could have warned both management and the board, as well as investors, to the potential for such regulatory breaches. Specifically, was the board appropriately equipped to sufficiently perform its risk and compliance oversight function, particularly with regards to regulatory and legal matters within the pharmaceutical industry?
Utilizing CGLytics’ board skills matrix assessment analytical tool, we see that McKesson’s Board is currently composed of nine members in total, with six individuals having sector experience. However, the relevant sector/industry experience for these six individuals has been primarily garnered through operations and executive roles in the healthcare sector. Most interestingly, we find only one board member, Bradley Lerman, with actual experience in regulatory and risk compliance within the pharmaceutical industry, in which McKesson does play a significant role. Mr. Lerman’s previously held positions include Senior Vice President, Corporate Secretary of Medtronic Plc until 2014 and Senior Vice Price, Associate General Counsel and Chief Litigation Counsel of Pfizer Inc until 2012. The lack of a broader base of directors with significant experience in regulatory matters should have served as a bullhorn to investors, the board as a whole, and the company’s executive team regarding the potential for legal issues to arise.
During its most recent quarterly earnings call, McKesson reported that it expects to spend USD 150 million defending itself in state and national opioids lawsuits into FY 2021, up from more than USD 100 million this year. This however is just an estimate, as the total amount may go up into the billions as several states have already stated that they currently intend to file similar suits against the company. The recent settlement that the company has been engaged in only highlights the need to actively and vigorously evaluate board composition and skill set in the face of significant risks that the company faces, or otherwise pay the reputational and financial price.
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[ii] 2017 Proxy Statement
[iii] 2018 Proxy Statement