Commentary: Can Big Pharma Cure Its Legal Migraines?

A wide-ranging assault may force the industry to change the way it does business

Criminal investigations, multistate assaults by attorneys general, circling class-action lawyers, corporate whistle-blowers, industry-reform legislation, op-ed indignation. Sound like a rehash of the legal woes that once haunted the tobacco industry? Nope. These are the current headaches facing the companies that probably do the most to improve people's health: drug manufacturers.

While Big Pharma isn't receiving quite as much bad publicity as other besieged industries, such as accounting or tobacco, it is facing an equally wide-ranging legal and regulatory onslaught. The recent wave of private and government litigation against drugmakers targets nearly every major player in the industry, including Merck (MRK ), Johnson & Johnson (JNJ ), Bristol-Myers Squibb (BMY ), Pfizer (PFE ), and GlaxoSmithKline (GSK ). Coming under attack are some of the basic business practices that have helped fuel the industry's growth (table).

The assault will, at a minimum, cost the industry big bucks in defense fees--and perhaps damages awards. The announcement on July 9 that Wyeth's (WYE ) hormone replacement therapy product Prempro raises the risk of breast cancer and heart disease, for instance, may well trigger a race to the courthouse. But the greater worry for pharmaceutical executives is that the growing vilification of the industry could force them to change the way they sell drugs--and possibly give momentum to legislation and regulation aimed at squeezing drug prices. The legal attacks "further demonize the industry," warns Pfizer Inc. Chairman Henry A. (Hank) McKinnell, who worries that Big Pharma's image problem could lead to tough new laws. "If we are seen as part of the problem, we'll be dealt with as a problem."

How did the once blue-chip industry get in such a mess? In many ways, the drugmakers are victims of their own success. In the 1990s, they became heroes on Wall Street by consistently delivering double-digit earnings growth. But the fierce competition to keep making the numbers prompted some players to test the legal boundaries when it came to promoting products. Compounding the pressure: the proliferation of me-too drugs that force companies to rely on aggressive sales ploys rather than science to grab market share.

Unfortunately, the cutthroat tactics spread like a virus. "If your competitors are pushing the envelope, it is very difficult to compete with that," says Dr. Joseph Gerstein, pharmacy strategy consultant at Tufts Health Plan, who was a whistle-blower in a recently settled case against TAP Pharmaceutical Products Inc. The result, he says, is that overly aggressive players "push everyone in that direction."

While Wall Street applauded the industry's performance, insurers, consumers, and the government--those footing the fast-growing drug tab--began to howl about increased bills. In response, Big Pharma hired armies of lobbyists to kill any moves to rein in drug costs. The current legal backlash is the inevitable fallout from the drug industry's refusal to address the mounting cost problem. "The greed has run amok," declares Congressman Pete Stark (D-Calif.). "They're going to end up...with a serious revolt on their hands."

Indeed, the rebellion already has begun. Players are being held up to new standards, and some industry practices that have been commonplace for years suddenly are being treated as sinister. Take, for example, the reimbursement of some drugs under Medicare and Medicaid. In lawsuits filed earlier this year by the state attorneys general of Nevada and Montana, a long list of drugmakers, including Pharmacia Corp. (PHA ) and GlaxoSmithKline PLC, is alleged to have reported inflated prices for government reimbursement purposes while selling the drugs at discounts to physicians. (The cases primarily concern drugs such as cancer therapies that are administered directly by physicians). The suits charge that inflated reimbursement prices win market share, since doctors favor drugs that allow them to pocket the spread between their price and the price at which the government reimburses. Spokespersons for Glaxo and Pharmacia say their pricing practices are legal.

But while the discrepancy between the reimbursement prices and true market prices has been known for years, it only recently became a hot-button legal issue. That's no surprise, since total state budgets are expected to rise 6.6% for fiscal year 2002, while state Medicaid bills for prescription drugs are rising about 18% a year, according to the National Association of State Budget Officers. And while drug companies argue that prescription drugs will keep health-care costs down in the long run--for example, by reducing hospital stays--that is little consolation to states facing budget deficits now.

Magnifying the legal worries is a new crop of whistle-blowers throughout the industry. A former Warner-Lambert Co. employee has sued the company, now owned by Pfizer Inc., alleging that Warner had an extensive program aimed at promoting unapproved uses for its epilepsy drug Neurontin, including the treatment of neuropathic pain. The U.S. Attorney's office in Boston is investigating. A Pfizer spokesperson says it is cooperating with the inquiry and that the marketing at issue took place before it bought Warner.

At the same time, Merck & Co.'s pharmacy arm, Medco Health Solutions Inc., has disclosed that it was hit with two whistle-blower suits in 2000, alleging, among other things, the inappropriate switching of people from one drug to another. The company says its programs have complied with the law. Adding to Merck's woes is the ongoing controversy over Medco's aggressive accounting practices. "Once you start looking at an industry, the whistle-blowers come out of the woodwork," says James G. Sheehan, assistant U.S. Attorney in Philadelphia. His office is investigating, among other things, whether marketing programs aimed at managed-care companies violate anti-kickback laws.

The whistle-blowers are producing a steady stream of negative news stories and providing the industry's enemies with plenty of cannon fodder. That in turn could make it easier to attack some of the drugmakers' most controversial practices. Consider, for example, the heavy-handed legal attacks companies have used to delay rival products from generic drugmakers, such as barraging them with seemingly frivolous patent-infringement claims. Such stratagems have landed companies such as Bristol-Myers Squibb Co. (BMY ) in hot water. More than two dozen states are suing the company for alleged antitrust violations in delaying generic versions of the cancer drug Taxol and the anti-anxiety drug BuSpar. A Bristol-Myers spokesman says the company doesn't comment on pending litigation.

With congressional elections coming, the drug industry is a prime political target. At the state level, Michigan and Maine, among others, have passed laws aimed at bringing drug costs down. Meanwhile, legislation to limit some patent-extension strategies has picked up steam in Washington.

There's little doubt the drug industry is beginning to respond to its mounting image problem. A number of companies have recently rolled out programs aimed at providing discounts to low-income consumers. And in April, a trade group adopted a new set of guidelines to halt the extravagant dinners and other gifts sales reps often give to doctors. That's a start. But with new scandals surfacing regularly, drugmakers may find those moves are too little, too late to heal their damaged reputations.

By Amy Barrett

With Lorraine Woellert in Washington

— With assistance by Lorraine Woellert

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