Are More Criminal Charges Coming in Theranos Case?

Federal prosecutors say criminal case is bigger than what was described in earlier indictments

CEO SUMMARY: As a going business, Theranos may have been dissolved in September, but it continues to be in the news. The biggest development was a disclosure in federal court earlier this month by federal prosecutors that there may be additional criminal charges to come that go beyond the indictments of former CEO Elizabeth Holmes and former COO Ramesh “Sunny” Balwani. Separately, a national news service reported that incomplete financial records were a factor in the firm’s demise.

More criminal charges may be coming in the criminal case the U.S. Department of Justice is bringing against Theranos Inc.  Recent reporting also reveals new details about the financial problems that caused the failure of Theranos.

The possibility of additional criminal charges surfaced during a hearing at the U.S. District Court for the Northern District of California on Oct. 12. at is when federal prosecutors in the case against the blood-testing company said the case is broader than what has been disclosed publicly to date.

In June, the DOJ led criminal fraud charges against former Theranos Founder and CEO Elizabeth Holmes and against former company President Ramesh “Sunny” Balwani. In June, a grand jury returned an indictment charging Holmes and Balwani with two counts each of conspiracy to commit wire fraud and nine counts each of wire fraud. (See TDR, June 18, 2018.)

During that same hearing in court in San Jose, Calif., Holmes and Balwani sought to block the DOJ from going through more than 200,000 company documents. However, U.S. Magistrate Judge Susan van Keulen denied that request, according to reporting from Joel Rosenblatt of Bloomberg News.

Van Keulen ordered lawyers for both sides to find a way to review the documents while protecting confidential information from prosecutors. In her order, van Keulen referred to undisclosed “charges and activities” in the government’s broad, ongoing investigation of Theranos. This suggests the government’s case may extend beyond the activities of Holmes and Balwani.

Assistant U.S. Attorney John C. Bostic described the government’s request for the documents as part of an ongoing investigation. He also said the indictment of Holmes and Balwani in June was “just an event in the ongoing investigation” and not the end of the investigation, Rosenblatt added.

During the hearing, Bostic said, “This story is bigger than what’s captured in the indictment.” Although the DOJ does not yet have particular targets, Bostic added that the indictment, “doesn’t capture all the criminal conduct” the investigation has uncovered, Rosenblatt wrote.

“The ruling could give prosecutors additional leverage at trial or in any plea deal, including any potential agreement by one defendant of the former couple to aid the prosecution of the other,” Rosenblatt wrote.

Attorney Jeffrey B. Coopersmith, a lawyer for Balwani, spoke for both defendants when he charged that the government was abusing its investigative powers by using the grand jury to make demands for information months after the indictment was filed on June 14. Last month, the DOJ revised the indictment slightly.

Coopersmith charged that the DOJ wanted to “storehouse” information to use later at a criminal trial by “saving up the acorns for winter, because they mayfind something,” Rosenblatt explained. During the hearing on Oct. 12, the two sides sparred over more than 200,000 pages of Theranos’ documents and e-mails from 2016 to 2017, he added.

Van Keulen asked the lawyers to work out a way to review the documents while shielding protected information from prosecutors – and denied the defense’s motion to limit the grand jury.

“As explained by the government at the hearing, and as evident from the record in this case, the government’s investigation concerning Theranos is far-reaching, extends beyond the subject matter of the current indictments, and may extend beyond these defendants,” Judge van Keulen wrote. The scope of the grand jury’s investigation includes charges and activities that are not the subject of the Holmes and Balwani indictment, she added. Therefore, she allowed the government to continue to use the grand jury.

In her ruling, van Keulen explained that the government issued a subpoena for Theranos’ documents in September 2017, nine months before the grand jury returned the original indictment in June 2018, and that Theranos has been producing documents since the subpoena was issued. “The parties’ present dispute focuses on Theranos’ final production of documents, which concerned the period October 2016 to September 2017, whereas the indictments relate to an earlier period,” the judge wrote.

Judge’s Ruling

“These facts support a finding that the subpoena and the government’s continuing efforts to enforce the subpoena after the original and superseding indictments are proper,” she added. “Defendants make much of the fact that the grand jury issued a superseding indictment in September 2018. However, defendants have failed to demonstrate that the timing of the relevant events renders the government’s ongoing efforts to enforce the Theranos subpoena improper.”

Among the more than 200,000 pages that the two parties will review are contracts Theranos had with dozens of companies and institutions, including: GlaxoSmithKline Plc, Pfizer Inc., Celegene Inc., Novartis AG, Bristol-Myers Squibb Co., Merck and Co., AstraZeneca Plc, the Mayo Clinic, Stanford University, and Johns Hopkins University, Rosenblatt explained.

In a court filing, the DOJ said it plans to turn over more than 12-million pages of documents to Holmes and Balwani as part of pre-trial information sharing.

In Struggle to Keep Going, Auditors Could Not Get a ‘Clean Opinion’ of Theranos’ Financials

IN A DETAILED EXAMINATION of the financial challenges that Theranos Inc. faced over the past two years, MarketWatch revealed that producing a clean audit of its financial statements last year was a significant challenge that helped bring down the clinical laboratory company.

MarketWatch reporter Francine McKenna wrote, “The goal of the 2017 audit was to get a clean opinion on Theranos’ financials.” This means the auditors needed to be reasonably assured that the company’s financial statements did not include a material misstatement due to error or fraud.

Doing so was challenging because the company had previously not tracked its fixed assets, such as its technology, equipment, or furniture, McKenna explained. For her research, McKenna quoted a number of sources, including Philippe Poux, who served as Theranos’ final CFO.

Poux was at Theranos from November 2017 until last month. On his LinkedIn page, he said he was tasked to rebuild the company’s core finance functions prior to the raising of a $100 million debt facility. Previously, he worked as a principal at the consulting firm Booz & Co. and as a director at the accounting firm of Ernst & Young.

When he arrived, Theranos had no budgeting process, no accurate cash-flow forecasting, and no auditable financial statements, McKenna reported. These facts are remarkable given that Holmes founded the company in 2003, and by 2014, it was valued at $9 billion.

Soon after arriving at Theranos, Poux helped to close a deal to borrow $100 million from Fortress Investment Group LLC, a division of SoftBank, McKenna wrote. In the deal, the private-equity firm became Theranos’ most important creditor in part because the arrangement gave Fortress “a lien on all of Theranos’ assets, including its portfolio of patents,” McKenna explained.

But Fortress also required an independent auditor’s opinion of the company’s 2017 financial statements by June of this year. “Fortress released $65 million when the deal closed, with the rest contingent on achieving certain milestones, as well as the audit,” McKenna wrote. If Theranos could not deliver a clean audit, it would have defaulted on the Fortress agreement, she added.

As Poux and others worked on the financial statements, it became clear that the company would run out of funds, McKenna said.

“To avoid the auditor’s ‘going concern’ warning, Theranos needed to prove it would have enough cash to support itself for 12 months from the date of the audit report, which was expected to be in June,” McKenna wrote. The Public Company Accounting Oversight Board says auditors’ “going concern” statements are important judgments about whether a company has the financial resources to run viable operations for the next 12 months.

As the June deadline approached, Holmes was unsuccessful in getting investors to provide more financial support and failed to sell the company, McKenna explained.

As TDR reported last month, Theranos CEO and General Counsel David Taylor wrote an e-mail to the company’s share-holders on Sept. 5, explaining that the company had only about $5 million in cash on hand and would distribute those funds to its unsecured creditors. That same day, Wall Street Journal reporter John Carreyrou wrote that the big-name companies that had invested in Theranos would get nothing. “All told, investors in Theranos have lost nearly $1 billion,” he added.


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