Life sciences companies face difficult disclosure issues because they operate in a particularly complex and financially sensitive regulatory environment. Disclosure issues become increasingly important as life sciences companies tap into the public markets to obtain funding and face pressures from public investors for the first time.
In particular, the long and uncertain path to new product approval makes information about clinical developments especially valuable to investors and sensitive to the company. The market value of a life sciences company can rise or fall rapidly on investor perceptions of the company’s ability to bring a product to market. This volatility can create challenges in the form of credibility and litigation for the company.
The disproportionate number of shareholder class action litigation for life sciences companies highlights the serious nature of disclosure issues for this sector. While life sciences companies represent only 2% of U.S. public companies, they were defendants in 17% of shareholder class action litigation in 2003 and 10% in 2004.
Biogen Idec, Chiron, and Merck are just a few companies that have faced or are facing SEC investigations into their handling of the content and timing of public disclosures related to their drug products or manufacturing processes.
In addition to the serious risk of securities class action litigation, life sciences companies have two major regulatory agencies monitoring their activitiesthe FDA and the SEC. In recent years, these agencies have enhanced their interagency cooperation in reviewing disclosures by life sciences companies, making these disclosures subject to even closer scrutiny.
Review Design & Effectiveness of Controls
What can life sciences companies do to reduce the risk of securities litigation and SEC investigation? To begin with, it is incumbent on every life sciences company to design internal disclosure controls to ensure that any information that might involve a mandatory disclosure under SEC or stock exchange rules or that is otherwise material and could have an impact on the market price of the company’s securities is disclosed.
Next, each company must analyze all the elements of its disclosure system. For example, understanding what type of information is material is important. Managers in key operational areas, such as clinical development and manufacturing, should be aware of how issues within their areas of responsibility can play a role in increasing the risk of securities litigation.
The company must also be aware of who internally needs to have the information. Clearly senior management, the CEO, and the CFO must have information on a timely basis. However, other organizations, such as financial reporting, investor communications, and legal compliance must also be informed.
Lastly, disclosure controls and procedures are effective only if they provide the company reasonable assurance that material information is being identified, gathered, and communicated appropriately on a timely basis. Hence, every life sciences company must implement procedures to disseminate this information internally.
Reviewing the company’s documented policies is an important part of the evaluation process. Companies are well advised to have a current communications policy that, at a minimum, designates authorized spokespersons and the topics on which they may speak regarding financial information, clinical results, and other areas investors frequently ask about; prohibits the selective disclosure of material, nonpublic information about the company; addresses the disclosure of information or data for products in development; and ensures that all employees understand the treatment of news flow about the company.
A communications policy should also address chat rooms or message boards and commenting on rumors about the company. Generally, companies should not sponsor, link, or participate in chat rooms or message boards and may explicitly prohibit employees from discussing company matters in these forums. Also, the company’s policy may take a position on rumorsspecifically, that the company will not respond to rumors about the company’s business. This is important to avoid serious securities law issues, including the risk of selective disclosure and the risk of creating an expectation that the company will monitor and correct third-party statements.
In addition to the corporate communications strategy, companies are advised to have an insider trading policy, applicable to all transactions in the company’s securities by officers, directors, and all other employees or consultants who have access to material, nonpublic information. Insider trading policies and procedures should be approved and regularly reviewed by counsel.
Setting Up a Committee
Management-disclosure committees, composed of legal counsel, the CFO, the CMO, and other key functional representatives, play a critical role in monitoring a company’s disclosure controls and procedures. The committee reports on disclosure issues to the senior team and to the company’s audit committee, since these parties are required to review and, at times, certify the company’s financial disclosures and reports.
The committee should keep good records of its disclosure control functions. The completeness, accuracy, and consistency of its approach to assessing information that may be material to the company and its investors may be questioned from time to time.
Clinical Trial Results and Discussions with the FDA
There are many stages in the clinical development process where a life sciences company can get into trouble in its disclosures. First, it is important to note that the FDA does not require a company to disclose the status of clinical trials nor to disclose clinical results to the public. Nevertheless, investors demand updates on the progress of product development and this type of news is capable of moving a company’s stock. The disclosure policy should provide for a clear internal communication process when clinical results are imminent, so that appropriate and balanced disclosure of any data can be prepared.
While it is not necessary or appropriate to publicize every communication with regulatory authorities, if the company determines that information received from the FDA is material, it should consider disclosing that information. Companies should ensure that their filings and public statements contain cautionary language that is specific and meaningful to avoid securities class action lawyers or the SEC using the information as a basis for lawsuits. A good disclosure process will ensure that the regulatory team responsible for communications with the FDA has reviewed and approved any public statements.
The SEC is increasingly active in monitoring public disclosures by life sciences companies, and the FDA is in a position to assist the SEC in initiating investigations of life sciences companies’ public disclosures. The tremendous disclosure pressures life sciences companies face make it particularly important for them to manage and monitor their public disclosures to minimize risk of regulatory action or litigation. Disclosures that are not carefully reviewed by counsel and regulatory personnel before release create, at best, a major annoyance for senior management and, at worst, serious credibility problems and litigation for the company.