Inside Teamsters Local 443 Health Services & Insurance Plan, et al. v. John G. Chou, et al., CA No. 2019-0816-SG (Del. Ch. August 24, 2020), the Delaware Chancellery Court (the “Court”) held that the shareholders of AmerisourceBergen Corporation (“ABC”), a supply company and distribution of pharmaceutical products, properly pleaded facts that support the inference that certain ABC directors and officers violated fiduciary duties and acted in bad faith to consciously disregard a variety of red flags of illegal activity in connection with the packaging and distribution of medicines against cancer from ABC. The Court totally denied the defendants’ motion to reject it for failure to file a request for redress.
ABC is a publicly traded pharmaceutical supply and distribution company incorporated in Delaware. ABC has several business units and subsidiaries and, in this case, a program was in question that created pre-filled syringes of cancer drugs for sale and distribution to healthcare providers (hereinafter referred to as “Pharmacy”). Amid a litany of unsafe practices, the Pharmacy removed FDA-approved drugs from their original glass vials and repackaged them in single-dose plastic syringes, all in a dirty, unsterile environment. The pharmacy would then combine any medicine residues from the original glass bottles and repack them in new syringes to create additional doses of medicine. Instead of measuring these doses, pharmacy technicians would “watch” them. These practices resulted in syringes containing “floating” debris, and the Pharmacy developed its own mechanism for filtering this debris. Filtration did not successfully remove all contaminants from the product, and the syringes that were analyzed by outside laboratories tested positive for bacteria. In addition, the Pharmacy has not been registered with the FDA as a drug manufacturer or repackager. Finally, the Pharmacy and its affiliates distributed the product without obtaining valid prescriptions or maintaining mandatory records regarding the administration of the product.
The complaint appointed nine defendants, including seven directors and two officers. The complaint defended four distinct instances of red flags that, according to her, were ignored by the defendants in this context: (i) a 2006 capital expenditure claim for the pre-filled syringe program that provided no indication of a regulatory system or in force at the facility, (ii) a 2007 report commissioned by ABC from a well-known law firm that indicated that the Pharmacy and its affiliates had inadequate structures in place with respect to compliance, reporting and documentation, (iii) an action 2010 lawsuit regarding the syringe program pre-filled by a whistleblower who was the former director of operations for a Pharmacy affiliate and (iv) a 2012 FDA search and seizure warrant executed at the Pharmacy’s operational facilities and a simultaneous summons from the Department of Justice.
An affiliate of Pharmacy and ABC pleaded guilty to violating the Food and Drug Commission Act in 2017 in connection with these activities and paid $ 260 million in fines and confiscations to the Department of Justice at the time. In 2017, the affiliate also resolved civil claims under the False Claims Act for $ 625 million. The shareholders filed this collective class action in 2019.
The Claimants brought this claim under the theory of fiduciary duty articulated in In re Caremark Int’l Inc. Derivative Litigation, declaring that officers and directors have not instituted an appropriate supervisory system for the pre-filled syringe program or have consciously ignored a series of warning signs of the resulting illegal activities. Defendant directors and officers have moved to reject the plaintiffs’ claims for (i) failure to submit a pre-process requirement and (ii) failure to state a claim on which relief could be granted. The Court disagreed and concluded that (a) the pre-lawsuit demand was dismissed because plaintiffs pleaded particular facts to support a reasonable inference that ABC officers and directors faced a substantial likelihood of liability under a Caremark theory of liability, thereby excusing the failure of the claimants to make a pre-process requirement, and (b) the claimants have declared a Caremark complain, making well-founded claims, that ABC officials and directors acted in bad faith by consciously disregarding the warning signs that arose during the term of the pre-filled syringe program.
Here, the Court found that the plaintiffs successfully claimed that the defendants ignored the warning signs that revealed a mission-critical failure to comply with drug health and safety regulations. In particular, of the possible red flags identified in the complaint, the Court agreed that there was sufficient evidence to reasonably infer that each report from the law firm, the Justice Department’s action and subpoena constituted red flags that were ignored by the defendants. The Court did not agree that the absence of a compliance component in the 2006 capital expenditure claim would be a sufficient warning. However, the Court noted that the request for capital expenditures and the law firm’s report would have been important factors in considering whether defendants faced a substantial likelihood of liability for failure to ensure that a company has implemented an adequate system of controls, under an alternative Caremark theory (a theory on which the Court has not ruled).
The Court noted that the supervisory obligations of officers and directors are reinforced with respect to mission-critical products while operating in a heavily regulated industry. In particular, the audit committee of ABC’s board was responsible for compliance with legal and regulatory requirements, including obtaining management reports regarding such compliance. However, even after being warned of possible concerns about the red flags cited in the complaint, neither ABC’s board nor its audit committee ever received information on compliance by the Pharmacy or its pre-filled syringe program. The Court emphasized the importance of the supervisory function of executives and directors when a company is operating in the midst of a “mission critical” regulatory compliance risk, suggesting that oversight of such impacting business risks may be subject to further scrutiny. supervision of less critical business risks.