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Abu Dhabi, UAETuesday 11 December 2018

Theranos: a Silicon Valley rising star falls from grace in massive fraud

Holmes will pay $500,000 penalty, give up control of company

As part of the settlement with securities regulators Elizabeth Holmes the CEO of Theranos will pay a $500,000 penalty, give up control of the company, surrender 19 million shares and is barred from being an officer or director of a public company for 10 years. Brendan McDermid/Reuters
As part of the settlement with securities regulators Elizabeth Holmes the CEO of Theranos will pay a $500,000 penalty, give up control of the company, surrender 19 million shares and is barred from being an officer or director of a public company for 10 years. Brendan McDermid/Reuters

Elizabeth Holmes raised hundreds of millions of dollars from investors on the promise that her medical-testing startup Theranos Inc. would change medicine with a single drop of blood. On Wednesday, securities regulators called her a fraud and forced her to give up the company she built.

The lawsuit and settlement announced Wednesday by the US Securities and Exchange Commission detailed how Ms Holmes and her chief deputy lied for years about their technology, snookered the media, and used the publicity to get investors to hand more than $700 million to keep the closely held company afloat.

As part of the accord, Ms Holmes will pay a $500,000 fine, surrender 19m shares and is barred from being an officer or director of a public company for 10 years.

The settlement leaves unanswered whether federal prosecutors will pursue criminal charges. Theranos was under scrutiny by Justice Department prosecutors in San Francisco, but the status of any probe is unclear. Abraham Simmons, a spokesman for the US Attorney’s office in San Francisco, declined to comment.

Theranos said in a statement that it was “pleased to be bringing this matter to a close and looks forward to advancing its technology.” The company said it cooperated with the SEC’s investigation. John Dwyer, a lawyer for Ms Holmes with Cooley LLP, declined to comment.

“The Theranos story is an important lesson for Silicon Valley,” said Jina Choi, director of the SEC’s San Francisco Regional Office. “Innovators who seek to revolutionize and disrupt an industry must tell investors the truth about what their technology can do today, not just what they hope it might do someday.”

Ms Holmes began to rise to national attention in 2013 when she claimed that Theranos had developed a medical technology that could do what seemed impossible: Its secret machines could run thousands of medical tests using the blood from a tiny finger-prick, and do so quickly and cheaply.

High-profile board members joined as well -- including the diplomat Henry Kissinger, James Mattis -- now the Trump administration’s Secretary of Defense, and David Boies, the lawyer who tried to stop revelations about film producer Harvey Weinstein’s sexual harassment.

Behind the scenes, things were very different.

Holmes had claimed her machines could process 90 percent of the tests performed by standard lab equipment. Those statements won the company an agreement with a national pharmacy chain in 2010 even though the technology was not yet “commercially ready,” according to the SEC. The SEC refers to the pharmacy chain as “Pharmacy A.” In 2013,

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Theranos publicly announced a partnership with the drugstore chain Walgreens, which later sued Theranos. The companies eventually settled.

As the roll-out with “Pharmacy A” neared, according to the SEC, Holmes told the company’s engineers to modify standard blood-testing machines to run Theranos’s tests.

She hid that change from the pharmacy executives, conducting demonstrations using Theranos’s machines and leading them on company lab tours without revealing the company was using third-party technology. The pharmacy gave Theranos a $100m “innovation fee” to help with the expansion.

Around the same time, Ms Holmes was using the company’s glowing profile in the media to raise more money. According to the SEC’s complaint, Ms Holmes and former president Ramesh “Sunny” Balwani knowingly made repeated false or misleading statements to investors about the company’s products, its business relationships, and its prospects for long-term growth.

The SEC said that the company gave investors binders full of background materials including a slide presentation, financial projections and clippings from favorable media reports in publications including The Wall Street Journal, Wired, and Fortune. The Wall Street Journal later reported on the serious doubts about the company’s claims.

Theranos said in those materials that it expected to generate $100m in revenue in 2014, though it ultimately had sales that year of only about $100,000, according to the SEC complaint. The company told investors that by 2015 it would bring in revenue of $1 billion, the SEC said.

The binders also included purported endorsements from drug companies -- but that weren’t in fact written by those companies, according to the complaint. Theranos also misrepresented its dealings with the U.S. Department of Defense, the SEC said, falsely telling investors that Theranos technology had been used by the US military on the battlefield in Afghanistan and in medevac helicopters.

Balwani, the Theranos president, still faces an SEC lawsuit, which is pending in federal court in California. Bloomberg wasn’t able to reach Balwani for comment.

It’s unusual for individuals to settle with the SEC if there’s an ongoing criminal investigation by the Justice Department, said Michael Koenig, a former federal prosecutor. But because the SEC case was resolved without admissions of wrongdoing, prosecutors couldn’t use it against Ms Holmes and Mr Balwani, Mr Koenig said.

“Because this is not typical course, perhaps there are other considerations and circumstances that led the SEC and the defendants to settle this case now prior to any DOJ determination,” said Mr Koenig, now a partner at Hinckley Allen & Snyder LLP.

The company eventually had to retract or correct the results of tens of thousand of medical tests. It was sanctioned by regulators at the Centers for Medicare and Medicaid Services, which banned Ms Holmes from running a lab company for two years. The company let go many of its employees and shut down its consumer-testing operations, and said it would focus on developing its technology.

By the end of 2017, the company was on the “verge of bankruptcy,” according to the SEC. It has since obtained a term loan that will keep it afloat for about a year, the SEC said.

Steven Peikin, the co-director of the SEC’s enforcement division, said the company avoided paying any penalties in part because the misconduct was perpetrated by Ms Holmes and Mr Balwani. A corporate penalty would harm investors who had already been defrauded, he said.