On August 4, as it posted quarterly results, Mallinckrodt, a multi-billion-dollar manufacturer of niche medical products focused on the US market, informed the New York Stock Exchange that it was considering Chapter 11 bankruptcy – the American equivalent of an examinership. In the following week, its stock, already near an all-time low, lost over a third of its value.

The company has been facing an avalanche of litigation, compounded by shifts in demand for its drugs and devices targeting rare diseases, pain, disorders of the immune and digestive systems, and respiratory distress. Mallinckrodt’s lawyers are facing an uphill battle, and the company is now warning shareholders that compensation claims may wipe out their investment.

Three weeks before breaking the bad news, it had changed its address to an industrial estate in north Dublin.

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A descendant of a family pharmaceutical manufacturer founded in the 19th century in Missouri, Mallinckrodt PLC was registered in Ireland and listed in New York in 2013 when its business was spun out of Covidien, itself the product and mergers and de-mergers in the industry. Covidien was later taken over by another US medical giant with an Irish HQ, Medtronic.

By 2015, while still registered in Ireland, Mallinckrodt had shifted its headquarters to England, where it was tax resident for the past five years. Its shareholding and board, however, have remained dominated by US investors, with chief executive Mark Trudeau based in its home state of Missouri. That’s where commercial and corporate services for the entire group are based, as well as its generic drugs and ingredients division, which had sales of $739 million last year.

The real money, however, is in medical treatments that are exclusive to the company and protected by patents or trade secrets, as well as trademarks used to market them. Mallinckrodt’s Speciality Brands division handles this side of the business, which was worth $2.4 billion in revenue in 2019. And its “global external manufacturing operations” are located in a small factory at the IDA’s College Park in Blanchardstown, which employs 120 of Mallinckrodt’s 3,400-strong global workforce.

The Dublin suburban industrial estate is also home to a network of group subsidiaries – owned through intermediary holding companies in Luxembourg – used to manage most of the group’s intellectual property (IP). These have been in place since 2015, irrespective of their ultimate parent’s moveable residency between Ireland and the UK. 

Click image to enlarge the map.

Mallinckrodt had $7 billion worth of intangible assets on its books at the end of last year, $5.5 billion of which was housed in three Irish companies: 

  • $3.1 billion in Mallinckrodt ARD IP Unltd, which had originally acquired $4 billion worth of intellectual property associated with Mallinckrodt’s flagship drug Acthar, an anti-inflammatory used in the US in the treatment of diseases including multiple sclerosis, infantile spasms and several types of arthritis;
  • $2.2 billion in Mallinckrodt Hospital Products IP Unltd, which initially received $2.7 billion in IP covering the immunotherapy system Therakos, capable of injecting a drug into a patient’s white blood cells, then activating it with ultraviolet light in treatments for rare skin cancers; INOmax, a suite of machines, products and services used to pump nitric oxide gas into the lungs of patients on ventilators; and terlipressin, a new drug to protect the kidneys from the life-threatening effects of liver failure, for which Mallinckrodt is now applying for authorisation in the US;
  • $133 million in Mallinckrodt Pharmaceuticals Ireland Ltd, the group’s trading company here, which owns some research and development knowledge until it is transferred to dedicated IP vehicles for commercialisation.

Under Ireland’s capital allowance for intangible assets, each of these companies amortises intellectual property year after year. As they have no income of their own, the two main IP vehicles each post hundreds of millions in annual losses, which trickle up their ownership structure to be offset against profits in the group’s consolidated accounts. They report no tax payments in Ireland.

The Dublin facility is also where, on July 15, the group moved its global HQ. “Relocation of Mallinckrodt plc’s tax residence to Ireland allows us to mitigate the potential impacts of the UK’s departure from the European Union and align with the significant commercial activity in Ireland,” the company reported. “Accordingly, in fiscal 2020 we will report the Irish tax jurisdiction as our domestic jurisdiction using an Irish statutory tax rate of 12.5 per cent versus the UK statutory rate of 19 per cent, and the international jurisdiction will represent areas outside the Irish tax jurisdiction. There is no material financial impact to this change.”

Nor should the Exchequer expect any immediate corporation tax take from Mallinckrodt: it has been loss-making for the past two years, and is now on the verge of insolvency.

Annual accounts to the end of 2019 show that revenue fell marginally as growth in branded drugs were offset by a fall in generics sales. Gross margins remained stable, and the group looked set to return to break-even after writing massive impairments off the value of its drugs portfolio in 2018. But that was without counting the effects of America’s opioid crisis.

A national health emergency

Following his election to the White House at the end of 2016, US President Donald Trump declared abuse of opioid painkillers a national health emergency, estimating that over 2 million Americans were addicted to these substances, and 42,000 had fatally overdosed on them in the previous year alone.

Opioids are among controlled drugs on which the US administration imposes quotas. Through its finished products and the ingredients it sells to other labs, Mallinckrodt estimates that it holds 35 per cent of the national quotas for the substances in its portfolio. 

Increasingly, US authorities have also taken pharmaceutical companies to court to account for the overprescription and misuse of opioids. At the end of February, Mallinckrodt reported that it was aware of 2,882 separate legal actions targeting the Irish PLC or its US subsidiaries over the issue.

The litigation has cost Mallinckrodt a fortune in lawyers’ fees alone. “During fiscal 2019 and 2018, we incurred $56.2 million and $38.8 million in opioid defense costs, respectively,” it reported. Yet this is nothing compared to the multi-billion compensation claims in the cases.

To extinguish them, Mallinckrodt struck a deal with a court-appointed committee representing thousands of plaintiffs on February 25. Under the agreement, the group’s generic drugs subsidiaries, which include opioids, would file for Chapter 11 bankruptcy to restructure. Once they exit the insolvency procedure, the firm would pay $1.6 billion over eight years to a trust established on behalf of the claimants. The trust would also receive eight-year warrants with the right to acquire nearly 20 per cent of the PLC’s stock at a strike price of $3.15 per share – a discount at the time, though nearly twice the current share price.

In anticipation of the agreement, Mallinckrodt booked a $1.6 billion charge before closing its 2019 accounts, diving into the red by a similar amount. To succeed, the deal was subject to a list of conditions. Things looked bad, but manageable.

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Of the many legal and regulatory disputes facing Mallinckrodt, which are detailed over 11 pages of its annual filing for 2019, several pose a direct threat to its leading drug Acthar. Last year, US health insurer Humana issued proceedings against Mallinckrodt ARD, the US company marketing Acthar within Mallinckrodt’s Irish corporate sandwich.

In addition to its existing approved uses in the treatment of conditions such as MS and arthritis, the injectable gel is at the centre of further research on other potential indications including some kidney and lung diseases. Mallinckrodt is also developing a device to let patients self-inject the medicine.

Acthar has a dedicated double-layered corporate structure in Ireland: Mallinckrodt ARD IP, the company that acquired the drug’s $5 billion intellectual property in 2015, is amortising it over 17 years and recorded a $246 million loss as a result last year. New technology associated with Acthar has since been transferred to the company, adding $29 million to the value of its IP assets last year.

This structure is relatively recent. An interim order delivered last Friday by a US federal judge in the Humana v Mallinckrodt ARD case traces the history of the drug back to 1952, when it was first approved for use. A US company called Questcor acquired it in 2001 for $100,000 plus royalties. Judge Dale Fischer notes that at the time, the product was not very profitable and faced the axe. “However, as soon as Questcor acquired the rights to sell Acthar, it increased the price from approximately $40 per vial to nearly $750 per vial. On August 27, 2007, Questcor further increased the price from $1,650 to $23,269 per vial. By 2018, the price had increased to $38,892.” In the interim, Mallinckrodt had acquired Questcor in 2014, then moved its intangible assets to Ireland.

The judge found that annual net sales of Acthar increased from $218 million in 2011 to more than $1 billion in 2015. The period follows the expansion of health insurance in the US following the so-called Obamacare reform in 2010, through programmes such as Medicare (delivered by private insurers) and Medicaid (a government-funded programme for people on low incomes).

According to the factual background included in the court order, annual Medicare spending on Acthar increased from $50 million to $500 million during those five years, with insurers footing the bill. Humana alone has paid $800 million for Acthar since 2001.

Neither Questcor nor Mallinckrodt “made more than superficial efforts to pursue commercialization of Synacthen … to protect Acthar monopoly pricing”.

Judge Fischer

While Acthar is the only drug of its type approved for sale in the US, a product based on the same adrenocorticotropic hormone called Synachten is available outside the US. Judge Fischer noted that Novartis owned Synachten and put it up for sale in late 2012, attracting four bids. Even though Questcor had “inchoate plans for Synacthen and conducted limited due diligence when it submitted its initial offer,” its bid was the highest “at a minimum of $135 million”, the order notes. 

Accounts filed in Ireland reveal more details of the acquisition of Synacthen. In June 2013, Questcor International Ltd, a company incorporated here but tax-resident in the Isle of Man, purchased the intellectual property associated with the drug from Novartis. The price was in fact $300 million, payable over ten years. Yet by the time it closed its first set of accounts on September 26, 2014, the company had written off the value of Synacthen to zero. 

As accounting norms suggest that intangible assets should have a useful life of no more than five years, and “the true value of the asset is not expected to materialise until after the five-year period, the directors felt it was prudent to fully impair the asset.” Their filing here does not reveal whether the decision was made before or after the acquisition of Questcor by Mallinckrodt on August 14, 2014.

Why would a business pay $300 million for a drug, then realise it was worth nothing? Judge Fischer answers that neither Questcor, nor Mallinckrodt after acquiring it, “made more than superficial efforts to pursue commercialization of Synacthen … to protect Acthar monopoly pricing”. Another company has since gained approval for a sub-licence to market Synacthen in the US, but that did not happen until 2017, the judge notes.

For its part, Mallinckrodt decided in 2018 to dispose of Synacthen. Questcor International sold the drug’s IP for just $7.3 million on July 31, 2019. Mallinckrodt Specialty Pharmaceuticals Ireland Ltd, a separate company set up to commercialise Synacthen, sold off €3 million worth of equipment and inventory on the same date, and has since vacated its premises in Dublin’s Sandyford Business Centre. This subsidiary has since moved within Mallinckrodt’s Irish corporate structure and changed its name to Therakos EMEA, ostensibly to market another line of the group’s products.

Synacthen’s latest buyer was Atnahs, a small UK pharmaceutical group specialising in marketing older drugs acquired from larger companies. Atnahs had £118 million in revenue last year, less than £100 million of which was generated outside the UK. Its plans for Synacthen appear unlikely to pose an immediate threat to the supremacy of Acthar in the US.

“Essentially, each payment is a new contract preventing Synacthen from being developed to compete with Acthar. The Court agrees.”

Judge Fischer

When Humana sued Mallinckrodt just one year ago, it alleged that the pharmaceutical group was in breach of laws on antitrust rules, unfair competition, insurance fraud, consumer fraud, tortious interference with contract and the Racketeer Influenced and Corrupt Organizations Act. In addition to the sequence of events in the acquisition and marketing of Acthar and Synacthen, the health insurer also alleged that Mallinckrodt had acted illegally in the way it had paid doctors who prescribed Acthar and set up charities to co-pay some patients’ treatments.

A first court order on March 9 found in favour of Humana on most counts, but granted Mallinckrodt’s motion to dismiss antitrust and tortious interference claims. Both sides were allowed to file amended claims as the case continued. 

Following an examination of new submissions by Humana and Mallinckrodt, last week’s latest order ruled on a fresh motion by the pharma company seeking to dismiss all claims of wrongdoing against it. This time, Judge Fischer found that Humana had failed to defend most of its accusations of racketeering and bribery, tortious interference, as well as a portion of its antitrust claims. 

However, the insurer’s core antitrust claim against the transactions conducted in Ireland still stands. The court agreed with Humana’s claim that the development of Synacthen by a competitor could have lowered prices for this family of drugs. The plaintiff argued that Mallinckrodt’s regular payments to Novartis – over the 10-year instalment schedule agreed in 2013 with its Dublin subsidiary – amounted to a “continuing violation” of competition law. “Essentially, each payment is a new contract preventing Synacthen from being developed to compete with Acthar. The Court agrees,” Judge Fischer found.

The case continues.

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If Humana’s case against Mallinckrodt over Acthar pricing rules represents a big challenge for the company, it was not the first of its kind. While the private insurer covers prescription drug costs under the Medicare programme, the government-funded Medicaid for poorer patients is at the centre of a separate lawsuit.

The case file contains similar information on the history of Acthar – along with additional details, such as the fact that it is “derived from pigs’ pituitary glands”. Under US legislation, drugs are covered by Medicaid on the condition that their manufacturers provide a rebate on their market price. The formula to calculate the rebate is based on the drug’s price when it was first approved to be marketed in the US, adjusted for inflation. For drugs approved before 1990, that year is used as reference.

The US Food and Drug Administration (FDA) first approved Acthar in 1952. Pharmaceutical companies can apply for supplements to an existing drug, such as the one that saw Acthar approved for treatment of some MS cases in the 1970s.

Over the decades, Acthar had also become popular in the treatment of infantile spasm, though this was not part of its registered uses. Such off-label use was allowed, but the manufacturer could not actively promote it. Prior to its acquisition by Mallinckrodt, Questcor began the process of applying for this supplement in 2007, a US federal court opinion from March explains.

After an initial failed attempt, the company re-submitted its application in a different format, which led the FDA to open a separate file with a new number because the supplement was to be examined by its neurology division, which had not worked on Acthar previously. When the FDA finally approved the drug to treat infantile spasm in 2010, it attached the supplementary approval to the existing drug and closed the temporary file.

In the meantime, Questcor had raised the price of Acthar from $1,650 to $23,269 per vial in 2007. “Despite this price hike, however, Questcor grew antsy several years later about what it perceived to be the drug’s curtailed profitability under the Medicaid Drug Rebate Program,” Judge Thomas Hogan noted. 

In 2012, the company began to seek a change in the date of Acthar’s average manufacturer price, which would lower the rebate due. The firm claimed that it was losing money on sales of the drug through Medicaid. “Questcor went on to insinuate that Acthar’s ongoing participation in the program might be ‘untenable’ if its rebate liability was not reduced,” the court added.

The administration running Medicaid agreed to revise the price data on the basis that Acthar was now a new drug, because of the new approval file and number used by the FDA two years earlier. However, prompted by questions from a private researcher and a state official running Medicaid in Ohio, the Medicaid office later asked questions of the FDA and finally realised in 2015 that the new approval file had been temporary, and Acthar had been the same drug all along. 

“It would automatically trigger adjustments to the Acthar rebate calculations – not just prospectively, but retroactively, all the way back to 2013, resulting in losses totaling in the hundreds of millions of dollars for Mallinckrodt.”

Company submission

By then, Questcor had merged into Mallinckrodt. For the following four years, the company and Medicaid officials fought over the correct date to use in setting the reference price and associated rebate for Acthar. In May 2019, officials opposed a final refusal to Mallinckrodt’s calculations and gave the company two weeks to revise its data, or face exclusion from Medicaid and referral to the Departments of Justice and Health for investigation.

Ten days later, Mallinckrodt sued the Centers for Medicare and Medicaid Services, seeking an injunction to stop the government from ending cover for Athcar and arguing that the public health insurance body’s decision was “unlawful, arbitrary, and capricious”. If the company was forced to lower its average manufacturer price (AMP) to its 1990 level, “[i]t would automatically trigger adjustments to the Acthar rebate calculations – not just prospectively, but retroactively, all the way back to 2013, resulting in losses totaling in the hundreds of millions of dollars for Mallinckrodt,” its lawyers claimed.

In his March opinion, Judge Hogan sided with the Medicaid officials. “Mallinckrodt’s interpretation overlooks the statute’s straightforward textual language dictating that a drug’s base date AMP is tied to the date when the FDA approved the drug and the drug was first marketed – not when the FDA approved any so-titled ‘new drug application’ that relates to the drug,” he concluded. 

The company used the temporary approval file number in correspondence with Medicaid, suggesting Acthar was a new drug when that was not the case, the judge noted. When it became clear that officials were confused, “Questcor (and later Mallinckrodt) gambled by implementing a new base date AMP for Acthar without first clarifying this point,” the court opinion found. “Regardless of whether the Medicaid Drug Rebate Program statute’s definition of ‘single source drug’ could be interpreted in the crafted way that Mallinckrodt advocates, the statute nonetheless makes clear that the base date AMP is triggered by the dates on which the ‘covered outpatient drug’ was ‘approved by’ the FDA and ‘first marketed’ – and it remains undisputed that the date when Acthar was ‘approved by’ the FDA was 1952,” Judge Hogan concluded, rejecting Mallinckrodt’s motion.

Mallinckrodt appealed the ruling in early June, but failed to obtain an injunction to stop the revision of Acthar rebates until its case is heard again in September. Later that month, the manufacturer booked a $640 million charge to cover retrospective rebates to Medicaid. “The Company disagrees with the District Court’s decision and continues to believe that its lawsuit has strong factual and legal bases,” Mallinckrodt stated.

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Among the conditions to the February 25 settlement promising $1.6 billion in cash compensation to claimants in the opioid litigation, one was that the Medicaid lawsuit would end in a judgement “on such terms and at such levels as may be acceptable to the Company, such that the Company is able to make all payments required”. Three weeks later, this fell apart.

In its quarterly filing, Mallinckrodt declared that Judge Hogan’s opinion had triggered “a failure in the Medicaid lawsuit condition” to the opioid case settlement. The domino effect of court cases and claims is now threatening the entire group’s solvency. The company reported:

“While we are continuing to evaluate options with respect to addressing these liabilities and risks, there can be no assurances that we will be able to reach an acceptable resolution with respect to these matters that allows Mallinckrodt plc and its subsidiaries to avoid seeking bankruptcy protection. Although no determination has been made, it is possible that Mallinckrodt plc and most of its subsidiaries may choose to pursue a reorganization under Chapter 11 of the US Bankruptcy Code (the “Bankruptcy Code”) in the near-term.”

This is before fresh litigation in the opioid crisis is taken into account, including criminal charges filed in New York state in April and a “putative class action lawsuit” initiated in Canada on June 1.

Mallinckrodt’s financial woes are compounded by Covid-19, which has relegated other medical treatments to second priority. Group revenue was down over 15 percent in the six months to June 26, with only INOmax showing an increase in sales as the system saw further research into potential treatment for Covid-19 patients on ventilators.

Mallinckrodt’s shareholders have already lost 95 per cent of their investment since the company’s share price peaked two years ago. If it goes for Chapter 11 protection from its mountain of liabilities, the company has warned them that they stood to lose everything: 

“All of our indebtedness and litigation liabilities are senior to the existing ordinary shares in our capital structure. As a result, we believe that seeking bankruptcy court protection under a Chapter 11 proceeding could cause our ordinary shares to be canceled, resulting in a limited recovery, if any, for holders of our ordinary shares, and would place shareholders at significant risk of losing all of their investment in our shares.”

Crucial courtroom moves in the coming weeks will decide whether Mallinckrodt has a future. The risk of a $10 billion insolvency has never been so high – and it is set to unfold in Dublin.

US taxman revalues $780m painkiller IP transfer to Dublin

Aside from endless litigation over the marketing of its drugs, Mallinckrodt has also been battling the US taxman. The company disclosed that it had received an adjustment from the US Internal Revenue Service (IRS) in August 2019 regarding the acquisition of Cadence Pharmaceuticals. On that occasion, “we transferred certain rights and risks in Ofirmev intellectual property (“Transferred IP”) to one of our wholly owned non-US subsidiaries. The transfer occurred at a price determined in conjunction with our external advisors, in accordance with applicable Treasury Regulations and with reference to the $1,329.0 million taxable consideration we paid to the shareholders of Cadence,” Mallinckrodt reported. 

Documents filed in Ireland show that the subsidiary was Mallinckrodt IP, a company registered at the group’s Dublin outpost in Blanchardstown. In 2014, shortly after its incorporation, it acquired intellectual property for Orfimev, a powerful painkiller used in hospital settings, from Cadence Pharmaceuticals for $780 million. During the same year, Mallinckrodt IP reported guaranteeing a $1.3 billion term loan contracted by another group company – a transaction matching the date and value of the Cadence acquisition.

The US tax authority is now questioning the valuation of this deal. “The IRS asserts the value of the Transferred IP exceeds the value of the acquired Cadence shares and, further, partially disallows our control premium subtraction. The proposed adjustment to taxable income was $871.0 million, excluding potential associated interest and penalties,” Mallinckrodt warned. 

In the first half of this year, the company reported making progress in negotiations towards a settlement which would allow it to offset at least part of the tax liability against losses. “It is reasonably possible that this audit will be concluded within fiscal 2020,” Mallinckrodt announced earlier this month.