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“Regulatory” due diligence: a survey investigation of best practices in the medical products industry

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“Regulatory” due diligence: a survey investigation of best practices in the medical products industry

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“REGULATORY” DUE DILIGENCE: A SURVEY INVESTIGATION OF BEST
PRACTICES IN THE MEDICAL PRODUCTS INDUSTRY

by

Susan Bain

__________________________________________________________________

A Dissertation Presented to the
FACULTY OF THE USC SCHOOL OF PHARMACY
UNIVERSITY OF SOUTHERN CALIFORNIA
In Partial Fulfillment of the
Requirements for the Degree
DOCTOR OF REGULATORY SCIENCE

August 2011

Copyright 2011 Susan Bain
ii
DEDICATION
I would like to dedicate this dissertation to Marlene for her continued
unwavering encouragement and support in the realization of my dream. And to my
children, John and Jennifer, who believed and supported me in my aspiration of
attaining this doctoral degree.
iii
ACKNOWLEDGEMENTS
I would like to thank everyone who supported and encouraged me throughout
my doctoral studies, and who helped make this dissertation a reality.
First and foremost, I would like to express my gratitude to my thesis advisor,
Dr. Frances Richmond, whose selfless and unending encouragement, guidance,
patience and persistence made this dream a reality for me. I would also like to thank
my thesis committee members, Dr. Ron Alkana, Dr. Roger Clemens and Dr. Gerald
Loeb for providing many valuable comments and insights that improved the
presentation and contents of this thesis. In addition, I would like to acknowledge the
help and support given by Dr. Kathy Rolle, our program manager, who was always
available to answer questions and provide encouragement throughout my doctoral
journey. I owe much to the support of my fellow students in the 2008 doctoral class
for their support, both personally and professionally, over the last three years.
iv
TABLE OF CONTENTS
Dedication ii
Acknowledgements iii
List Of Figures v
Abstract vi
Chapter 1: Introduction 1
Chapter 2: Literature Review 12
Chapter 3: Methodology 41
Chapter 4: Results 45
Chapter 5: Discussion 57
References 79
Appendices
Appendix A: Listing Of Due Diligence Elements From Different 85
Sources
Appendix B: Survey Results Used For The Present Study; Text 88
Answers Include Exact Wording And Grammar Of
Respondents
v
LIST OF FIGURES
Figure 1: Three Aspects of Due Diligence Investigations 36
Figure 2: Role(s) Played by Respondents in the Due Diligence Process 47
Figure 3: Responses to the Question, “Did Due Diligence Activities 48
Adequately Cover the Full Scope of Regulatory Activities?”
Figure 4: Depth of Review in Different Aspects of Regulatory Due 49
Diligence: “Which Areas were Examined in Most Detail?”
Figure 5: Responses to the Question: “Once the Transaction was Complete, 52
Did Your Feelings of Trust and Honesty...”
Figure 6: Responses to the “Amount of Time Lost in Productivity Because 54
of the Due Diligence Exercise”
Figure 7: Responses to “Do You Feel the Due Diligence Exercise was 54
Successful?”
Figure 8: Responses to “Was the Success or Failure of the Acquisition 55
Linked to the Effectiveness of the Due Diligence Process?”
vi
ABSTRACT
This study analyzed current best practices for regulatory due diligence in the
medical products industries. A survey tool was developed to probe the views of
industry, and was validated using a focus group of professionals with experience in
legal, regulatory and quality due diligence. The survey was completed by 58
regulatory and quality professionals who have been involved in at least one due
diligence activity in the medical products area. The responses of respondents were
consistent with the predictions of learning theory that emphasize the importance of
two dimensions, information gathering and experience accumulation, when
developing best practices in regulatory due diligence. However, substantial
variability was reported in the experience level of due diligence experts who
participated in the due diligence exercises of the respondents. The survey results
further identified that current regulatory due diligence practices focus primarily on
the performance state of the company as viewed through documentation, but often
fail to probe sufficiently other aspects of the organization, including the ethical and
organizational state of the company. Results suggest that due diligence audits could
be improved by gathering information systematically about such elements as
personnel organization, decision-making styles, key personnel to be retained, and
evidence of ethical questions or misinformation. These additional elements would
provide information that later will be important to going forward with an acquisition
and eventually harmonizing the two organizations effectively.

1
CHAPTER 1
INTRODUCTION
Background of the Problem
The business environment responsible for new medical products is highly
dynamic. It depends on a constant infusion of ideas from small start-up companies
with only one or a few products, many of which are acquired or merge with others to
ensure the financial resources needed to take a product to maturity. The phrase,
"Mergers and Acquisitions" (M&A), refers to the process of combining two
companies. Often the two terms, “merger” and “acquisition”, are used
interchangeably. However, an acquisition is defined more broadly as the purchase of
an asset such as a plant, division or entire company (Sherman & Hart, 2006). A
merger is more specifically the combination of two companies in which assets and
liabilities of the selling firm(s) are absorbed by the buying firm. Although, the
buying firm may become a considerably different organization after a merger, it
retains its original identity. A merger differs in definitional terms from a
consolidation in which two or more companies combine to form a new entity and
both original companies cease to exist, forming instead a new entity (Gaughan,
2007).
Mergers or acquisitions between companies can occur to take advantage of
complementary capabilities. For example, a small biotechnology company might
have a promising new drug, but no large-scale production, sales or marketing
capability. Conversely, a large company might have substantial capacity in its
2
manufacturing plant and a large sales force, but these assets might be underutilized,
due to a gap in the new-product pipeline of the company. It may be in both
companies' interest to enter into a deal in order to capitalize on the synergy between
the companies. Acquiring an emerging start-up company is typically a way for a
larger company to expand its intellectual property portfolio and/or product
development expertise. Merging with or acquiring a well established pharmaceutical
corporation, by contrast, is most often directed at increasing efficiency or improving
the quality of the acquiring company’s earnings (Halasey, 2004).
In theory, the reasons behind mergers and acquisitions seem compelling, but
in practice, these types of consolidation often fall short of their desired outcomes
(Wood, 1999). For example, a much publicized survey by KPMG in 2003 concluded
that nearly 70% of mergers/acquisitions did not achieve the objectives believed to be
attainable by the companies’ management (KPMG, 2003). In part, failure to
understand thoroughly the strengths, weaknesses and constraints that are operating in
each company was believed to impact the success of the conjoint entity when the two
operations were integrated. The KPMG survey further identified that the most
important pre-deal activity identified by the individuals interviewed during the study
was “due diligence”. Due diligence is the term used to describe a process conducted
before a merger to examine in detail the financial status and the operational aspects
of one if not both companies in considerable detail. Lajoux and Elson (2000) further
explain that due diligence carried out prior to a merger refers primarily to an
acquirer’s review of an acquisition candidate to assure that its purchase would pose
3
no unnecessary risks to the acquirer’s shareholders. Legal requirements often exist to
perform due diligence, but due diligence can also be carried out as a voluntary
investigation.
Due diligence is a way to identify risks that then can be managed. In most
businesses, risk identification through due diligence centers on the assessment of
financial risks and rewards, and occurs through the examination of monetary tools
and holdings (Gibbs, 2000; Sall, 2008). Risks and rewards inherent in the product
itself are generally captured by estimating the value of intellectual property,
equipment, or product stock. However, in medical product companies, considerable
risk can also come from additional sources as a result of “the uncertainty associated
with companies whose values rely on future outcomes and developments in
unproven, uncharted fields” (Kohers & Kohers, 2000). Further, long delays and
uncertainty of product success can be related to the regulated nature of the product.
Regulatory risk is present when uncertainty exists concerning the ability of a product
to gain regulatory or reimbursement approval from governmental agencies such as
the Food and Drug Administration (FDA) or the Center for Medicare and Medicaid
services (CMS). In addition, large risks can stem from quality problems in either the
design or manufacture of the product. The failure of a company to assure Good
Manufacturing Practices or to prevent a problem product from reaching the market
has severe negative consequences that ultimately impact the company’s finances and
reputation. Regulatory agencies that identify product problems associated with a
particular company can issue publicly available warning letters followed by court
4
actions that can result in large fines and other financial penalties including the denial
of product registrations. At the same time, problem products pose safety risks that
often result in patient injury and subsequent lawsuits that have serious impact on the
financial status of the company (Wood, 1999). Thus, due diligence activities aimed
at understanding financial metrics alone are thought to be insufficient when used to
base the acquisition of a medical product company. Instead, it is important to assess
the nature of other types of risks associated with regulatory compliance and product
safety that would be adopted through acquisition by such companies.
Given the importance of due diligence in the regulatory and quality domains,
it is surprising that relatively little has been written about this subject. Most articles
that deal with regulatory due diligence appear in trade journals and focus on audit
checklists to guide information-gathering. Systematic research on due diligence is
hampered by the relatively poor theoretical base that exists to frame the research.
Generally, studies of due diligence are descriptive or case-study based. However,
Very and Schwieger (2001) used learning theory to dissect the acquisitions process
as related to the successful execution of cross-border deals between companies. This
application of learning theory was unusual because it looked at acquisitions not
simply as an information gathering exercise, but also as an exercise in which the
experience of the due diligence team will affect the ability to make informed
decisions about the collected information. This will shape the success of the process.
In the past, most considerations of due diligence have focused on information-
gathering activities with almost no attention to the role of experience. In medical
5
product industries where decision-making is complex because of added regulatory
and quality hurdles, it is possible that the experiential elements relating to the
assessments of regulatory and quality risk are at least as important as the
information-gathering elements.
Statement of the Problem
Due diligence activities are typically directed at understanding the business
aspects of a company targeted for merger or acquisition. In the past, arguments have
been made for expanding the scope of due diligence in a variety of directions,
including some that might impinge on regulatory and quality functions, for example
through legal /environmental audits, management audits or production audits
(Harvey & Lusch, 1995). However, the work of Harvey and Lusch was directed
quite generally at companies of all kinds and did not specifically identify regulatory
and quality concerns as items considered central to the due diligence audit. More
recently, some articles in trade journals have considered the need for specific
regulatory and quality due diligence (Fox & Minsk, 2009; Michor, 2009; Schomisch,
2002; Sibinga & Walsh, 2009). However, little systematic research has been carried
out to understand the methods and extent of due diligence carried out specifically in
the area of regulatory and quality practices during acquisitions of medical product
companies. Further, in the medical products community, discussions of regulatory
due diligence have focused on checklists that guide data-gathering, usually with
respect to performance elements, such as numbers of regulatory submissions or
compliance actions. Thus, companies have relatively little guidance concerning
6
overall best practices. Further, what has been written in the past about regulatory due
diligence has focused almost exclusively on information gathering activities. Thus,
we do not know whether experiential elements are also considered important by
regulatory professionals engaged in due diligence. For example, we do not know
whether regulatory professionals would agree that having seasoned individuals with
experience specifically in regulatory affairs and quality assurance is of particular
value when developing a due diligence team. We also do not know whether due
diligence teams have employed individuals with a strong background in regulatory
affairs and quality assurance in recent mergers within the medical products
community. Finally, we do not know whether most of these audits are directed only
at assessing logistical aspects of regulatory and quality functions, such as the
numbers of completed submissions to regulatory agencies or the numbers of
successful audits, or whether assessments also extend to other areas, such as the
organizational and ethical facets of regulatory and quality operations, that may also
affect the risk profile of a targeted company.
Purpose of the Study
I will use two frameworks to structure my analysis of best practices for due
diligence in medical products industries. First, I will use a three-sector division of
company attributes, including performance, ethics and organization, to evaluate the
balance of due diligence activities in these sectors. Second, I will use learning
theory to extend the evaluation to consider the constitution of the due diligence team
as well as the nature of the due diligence activities. Learning theory suggests that
7
due diligence prior to an acquisition should have two primary features: 1) target (or
information) acquisition, during which the acquirer must collect information about
the acquisition target, from which predictions about future problems and
performance can be estimated and 2) experience accumulation, in which the new
knowledge is measured against past experiences to guide the decision making
process. The research reported here has three principal aims: 1) to explore whether
experience accumulation as well as information acquisition is seen as important by
regulatory and quality experts who have been involved with regulatory due diligence
(through evaluation of the modest available literature and focus groups), 2) to
explore the range of areas that are seen to be important in regulatory and quality due
diligence by regulatory professionals more generally, and 3) to provide beginning
insight into the extent to which these “best practices” have been used by drug and
medical device companies during their recent acquisitions in the last 10 years.
Significance of the Study
Currently almost all published literature that deals with due diligence points
to activities that characterize the financial and commercial aspects of a company’s
profile. However, the underperformance of many companies has been linked at least
in part to failures of an acquiring company to recognize quality and regulatory
problems in the acquired company. The results of the present study should provide a
better roadmap of activities that constitute appropriate due diligence in the medical
products sector. From this study, a team engaged in due diligence activities should
be able to develop a systematic strategy for background research and auditing
8
activities. Because many of those who conduct regulatory and quality due diligence
are inexperienced with such processes, this research should help the individuals to
assure themselves that the analysis is sufficiently thorough. Additionally, the
benchmarks developed here may provide a professional standard against which an
individual may be able to judge the quality of due diligence assessment for any
particular acquisition. In a court of law, such guidance can be helpful in evaluating
whether due diligence activities have been adequate to protect investors or
shareholders, so that negligence can be identified if the extent of due diligence
activities falls far short of this standard. Finally, the study may provide a more
systematic basis for case studies and other forms of research in future, to understand
why acquisitions have underperformed. This may allow the researchers to gauge the
extent to which mismatches or problems in regulatory or quality practices have
contributed to the underperformance, and how to ensure that better acquisitions
practices are developed in order to protect the reconstructed company.
Limitations, Delimitations and Assumptions
Views on appropriate methods to evaluate regulatory risk through due
diligence might be anticipated to vary according the experience and viewpoint of the
individual whose ideas are sought. In this study I have delimited my explorations of
due diligence practices to focus on the views of regulatory and quality personnel at
the director level and above, who have had at least one direct experience with a
merger or acquisition, and who do business in the US. This research does not
evaluate due diligence exercises conducted by companies whose primary sphere of
9
activity is located outside of the United States. The study is further delimited to
companies with a primary focus in drug and medical device development and
commercialization. The topic of this thesis necessarily delimits the scope of the
project to “regulatory” due diligence, but in this analysis, regulatory due diligence is
defined broadly to include also those aspects of development that rely on quality,
preclinical and clinical aspects of development and post approval management that
will be topics of concern to federal and state health authorities and will be subject to
regulatory submissions to the FDA.
The limitations of this study are in part related to logistical aspects of study
design. The number and availability of executives with direct experience in due
diligence limited the breadth of experience and opinions that could be explored in a
time frame limited to a single year. The results are thus clearly limited to the
opinions of executives in the year 2010 and may not be typical of experiences and
opinions in preceding decades or decades to come. Research such as this dealing
with sensitive topics and sometimes exposing negative aspects of personal and
company performance may be limited by the willingness of the interviewees to share
sensitive information.
Another class of limitation is related to the limited skill and experience of the
researcher in this type of research. The results presented here are therefore
preliminary and should be viewed as a starting point in a more detailed consideration
and analysis of regulatory due diligence in future.
10
Definitions
For this project, the following definitions apply:
Merger. A reorganization in which one corporation absorbs the corporate
structure of another, resulting in liquidation of the acquired enterprise (Barron's,
2007).
Acquisition. The takeover of one corporation by another if both parties retain
their legal existence after the transaction (Blacks Law Dictionary, 2004).
Due Diligence. A study that often precedes the purchase of property or the
underwriting of a loan or investment and considers the physical, financial, legal, and
social characteristics of the property and expected investment performance (Barron's,
2007).
Research and analysis of a company or organization done in preparation for a
business transaction (as a corporate merger or purchase of securities) (Webster,
2004).
A prospective buyer’s or broker’s investigation or analysis of a target
company, piece of property, or newly issued security (Blacks Law Dictionary, 2004).
Organization of the Study
This study has been organized into 5 chapters. Chapter 1 provides a general
overview of the research question and considers its relevance, significance and
limitations. Chapter 2 expands this introduction to the research question by
considering the current state of the literature with regard to due diligence, with a
particular focus on regulatory and quality due diligence. It also outlines a theoretical
11
basis for the analysis of the experimental propositions. Chapter 3 describes in more
detail the methods to be used for this study. Results of the study are summarized in
Chapter 4 and Chapter 5. It relates these findings to a broader consideration of
thinking in this field.
12
CHAPTER 2
LITERATURE REVIEW
The Importance of Acquisitions
The pharmaceutical industry has produced a variety of medicinal and other
health-related products unanticipated by even the most imaginative visionaries in the
medical products industry. These drugs and devices save the lives of millions of
people and permit many ill people to recover or enjoy an improved quality of life.
Nevertheless, the pathway to secure a commercial product is becoming increasingly
long and tortuous. Research carried out at the Tufts Center for the Study of Drug
Development found that in 2000, the average out of pocket cost for drug
development to the point of market approval was $802 million to $1 billion (DiMasi,
Hansen, & Grabowski, 2003; see also Adams & Brantner, 2006). Additionally,
studies have shown that pharmaceutical costs have grown faster than other major
components of the healthcare system since the late 1990s (DiMasi, et al., 2003).
These costs are even higher for biological products where developmental activities
can require investments of $1 billion or more (DiMasi & Grabowski, 2007). Such
high costs impose a tremendous burden and potential for risk on even the richest
company. Efforts are therefore being made to reduce the volume and costs of
research needed to commercialize medical products.
A historical consideration of the pressures on medical product
commercialization helps to identify specific events that have contributed to the
challenges currently facing innovative companies. The decade of the 1980s
13
appeared to mark the end of the “golden days” for the pharmaceutical sector, which
had enjoyed steady price increases and few competitive worries from generic
competition until that point. The beginning of a more hostile climate for product
development could be recognized in 1984, with the passage of the drug Hatch-
Waxman Act (21 USC 355). This Act permitted the FDA to approve a generic copy
of a previously approved "pioneer" drug product without the submission of a full
New Drug Application (NDA) (Berndt, 2001). The ability to produce generic
“copies” of an innovative pharmaceutical using a much simplified regulatory path
increased the number of generic competitors and placed a concrete limit on the life
cycle of a product’s revenue stream. It forced innovator companies to search
vigorously for new sources of income to replace those lost after patents for already
commercialized products began to expire. Further, the Act also encouraged generic
companies to invalidate the patents of pioneer companies prematurely; the reward for
the first company to accomplish this goal is a substantial period of market exclusivity
for that generic company.
Today the effects of the generic legislation can be seen clearly in drug sales
trends and in patent expiration patterns. Generic drug sales in 1984 accounted for
18.4% of US pharmaceutical prescriptions; in 1994, ten years following the passage
of the Hatch-Waxman Act, they accounted for 41.6% of prescriptions, and by 1999,
had risen to 47.1% (Berndt, 2001). According to Datamonitor, between 2007 and
2012, the top 50 pharma companies face patent expiration on $115 billion worth of
drugs. The loss of major drug patents in 2011 and 2012 alone will have a multi-
14
billion dollar impact on “blockbuster” drugs in the US market. Products that are
losing patent protection in this period include drugs with household names such as
such as Lipitor (Pfizer), Advair (GlaxoSmithKline), Plavix (Sanofi-Aventis/Bristol-
Myers) and Seroquel (AstraZeneca) (Nature Reviews Drug Discovery, 2009). The
consultancy firm, Evaluatepharma, estimates that 13% of global pharmaceutical sales
will be vulnerable to the pending “patent cliff” between 2011 and 2012
(Vaitheeswaran, 2009). In contrast, generic drugs continue to expand market share.
Frost and Sullivan forecast revenue growth in the generic market from $21 billion in
2006 to $41 billion in 2013 (Sohal, 2008). The effects of generic replacement are
dramatic. In the United States, the price of a drug falls by more than 85% within a
year of patent expiration (Vaitheeswaran, 2009). Thus, US pioneer or branded
pharmaceutical companies will lose substantial revenue over the next five years.
Generic drug competition is not the only competitive force acting on the
branded pharmaceutical company. The period in which a first-in-class drug enjoys
an exclusive market position has also shrunk because of the more rapid introduction
of follow-on drugs, which are not exactly the same as the pioneer drug, but
nonetheless share the market because they possess similar activity against that same
disease state. A recent study by Tufts Center for Drug Development has shown that
the exclusivity period for pioneer drugs in the 1960s was about 9 years, but in the
2000s was only about 2 years because of the introduction of follow-on drugs
(Applied Clinical Trials, 2010). Additionally, the competition for follow-on drugs
has intensified and developmental timelines have become compressed. In the 1960s,
15
the average time for the introduction of a second, follow-on drug was 13.5 years.
This time has been compressed to slightly more than 1 year in the present climate
(Applied Clinical Trials, 2010).
How have companies responded to these challenges? A recession in the early
1990s, with pressures on pricing and threats of healthcare reform, forced medical
product companies even 20 years ago to find ways to increase revenues and decrease
costs. Cost saving measures such as spending cuts in their research and
development, sales force and marketing budgets often had short term effects that
appeared beneficial, but in the long term stifled product development and ultimately
damaged company growth. Companies then looked at other strategies designed to
reduce costs and maximize efficiency. An important focus was to remodel their
product portfolios or broaden their capabilities by considering ways to work with
other companies also developing or marketing medical products. The most common
options included the more limited path of licensing specific products, or the more
dramatic and expensive path of merging or acquiring other companies. Carmichael
(2001) has discussed several different goals of such acquisition activity, including
not only the ability to acquire new drug and medical device candidates, but also to
increase presence in emerging markets, to leverage research and development
investments and to increase market share.
Using mergers as a business strategy by medical products companies came
rather late compared to other large business sectors. In his authoritative review,
Gaughan (2007) identified five waves of merger activities in the US, with the first
16
three occurring prior to 1980. It is the fourth wave of merger activity identified by
Gaughan to be the first wave of mergers that involved the pharmaceutical and device
sector in any significant way. In this wave of mergers, including Bristol-Myers and
Squibb (1989) and SmithKline Beckman and Beecham (1989), the market share of
the top 10 pharmaceutical firms rose from 20% in 1985 to 48% in 2002 (Danzon,
Epstein, & Nicholson, 2007; Danzon, Nicholson, & Pereira, 2005). A number of
factors have been identified to correlate with this wave of merger activity. For
acquired firms, low stock value seemed to be a significant factor related to the
likelihood of merger. Ravenscraft and Long (2000) showed that target firms
typically had negative stock returns in the 18 months prior to the merger compared to
an index of non-merging pharmaceutical firms. For acquiring firms, product pipeline
seemed to be a significant motivating factor. Higgins and Rodriguez (Higgins &
Rodriguez, 2006) identified that most acquiring companies improved their
developmental portfolios immediately subsequent to a merger. They identified a
“desperation index”, related to the expected years of patent life for marketed and
pipeline products, which seemed to correlate with the likelihood that a firm would
engage in acquisitions activity. At the same time, Danzon and her colleagues
(Danzon, et al., 2007) focused on the role of excess capacity as a reason for
acquiring firms to look for targets. Excess capacity might be expected to go hand-in-
hand with concerns about weak developmental product portfolios. If a company
identifies that its currently marketed products are soon to lose patent protection
without backup products in the pipeline to replace them, then it makes sense to
17
acquire the needed new products in order to take advantage of the anticipated excess
manufacturing capabilities. At the same time, mergers can also rationalize the
needed developmental activities, so that two companies together can capture
economies of scale and cut down on investments in manufacturing infrastructure.
In the last few years, industry analysts have been predicting another wave of
acquisitions spurred by key patent expirations and a paucity of new drugs in the
pipeline. Merger activities typically increase with shocks to the market, and the
recession beginning in 2008 certainly seems to mark a significant challenge to US
manufacturing firms. Smaller medical products companies have had to cut staff and
terminate projects to stretch out their dwindling cash supplies during the latest credit
crunch beginning in 2008. During the Biotechnology Industry Organization’s 2009
“Super Session”, Stephen Sands noted that 50% of the biotechnology companies
have less than $1 million in market capitalization. During the first six months of
2009, 25 biotechnology companies had filed bankruptcy, a rate he had not seen in the
past 20 years (Noonan, 2009). Larger medical products companies, with more cash
reserves, appear to be using the downturn in the economy post-2008 to their
advantage by replenishing their pipelines through acquisitions that are considerably
more favorable to them than they were prior to the credit crunch. For example, Novo
Nordisk announced that they are looking to spend as much as $2 billion in
acquisitions in 2009-2010 (Beyond the crunch, 2009). Other factors will also
contribute to the financial pressure on larger pharmaceutical firms. More stringent
regulations to assure better manufacturing quality and decreased risk tolerance have
18
imposed new requirements that increase costs and slow product approvals (Donaghy,
2010). Further, it is becoming more difficult to conduct and complete an adequate
complement of clinical trials in a timely fashion. The need for more subjects in trials
has in some instances caused intense competition for subjects in the numerous
clinical trials that are ongoing. According to the 2005 Tufts Center for the Study of
Drug Development Impact Report, limits on the number of available research
participants and an increasing turnover of new investigators is now fueling
competition amongst companies that are trying to conduct clinical trials,
complicating the drug discovery process. Additionally, requirements for larger,
longer and more complex clinical trials, more diverse subject populations, extensive
safety studies and increased post-market surveillance have contributed to the rising
costs of medical product development (Scheible and Pozsgai, 2008). An increased
focus on patient safety has also been reflected in an increased number of high-profile
product recalls. Following the highly publicized withdrawal of the marketed drug
Vioxx in 2004 by Merck and Company, legislators in the US significantly increased
the FDA’s authority over product commercialization by passing the FDA
Amendments Act of 2007 (FDAA) (21 USC 355). This Act amended the Food,
Drug and Cosmetic Act to give the agency greater power to require additional
clinical studies prior to and after product approval. In recent years, drug
development time has increased from 7.9 years in the 1960s to 12.8 years in the
1990s (Dickson & Gagnon, 2004; Donaghy, 2010; McGee, 2006). Further, the
pressures on such industries are not restricted to premarket development stages.
19
FDAAA also strengthened the FDA’s ability to restrict advertising, to require
expensive risk evaluation and mitigation (REMS) strategies, and to increase its
ability to impose penalties on non-compliant firms. Today, as drug development
timelines grow and safety concerns continue to add risk to the likelihood of product
success, development costs are growing at a pace many companies cannot continue
to sustain (Pharmaceutical Business Review, 2008).
In summary, pharmaceutical companies today face a difficult business
climate. Growing competition from generics combined with increasing pressure
over drug safety and loss of patent protection for marketed products will force
companies to consider ways in which to increase efficiencies and buttress weakening
product pipelines. Over the next five years, more than 70 major drugs will come off
patent in the US and Europe. In 2009, five major drugs will lose patent protection in
the US and seven drugs lose patent protection in at least one of the major countries in
Europe (Sohal, 2008). The western European generics market, worth approximately
$17 billion in 2006, is expected to generate an 11.1% growth in revenues to $36
billion in 2013; the US generics market is estimated to grow 9.5%, from $21 billion
in 2006 to $41 billion by 2013 (Sohal, 2008). It is expected that from 2007 to 2012,
the top 50 pharmaceutical corporations will face patent expirations on $115 billion
worth of drugs (Pharmaceutical Business Review, 2008). In this difficult
environment it seems clear that companies will employ complex merger and
acquisition strategies to improve their businesses. For example, in the period
between 2009 and 2010, Pfizer not only acquired a large another large multinational
20
company, Wyeth, but focused its newly expanded pipeline by announcing that it will
discontinue about 100 compounds that it will offer to other companies as joint
ventures, licensing or spin-off opportunities. Johnson and Johnson, at the same time,
identified its business strategy as one in which it plans to diversify through
acquisitions of small companies. It acquired five smaller companies in 2009, and
announced plans to build its pipeline through further acquisitions to “aggressively
reinvest in business to: (i) drive revenue growth; (ii) offset the impact of recent
acquisitions; and (iii) contend with economic and broader healthcare pricing
pressures” (Olsen, 2010). Such merger activities are not limited to North American
companies. For example, in Japan, Astellas purchased OSI for $4 Billion, to acquire
its valuable pipeline, including the oncology drug, Tarceva. Takeda merged with
Millenium and Daischi Sankyo acquired Ranbaxy in similar multibillion dollar deals
(Vaitheeswaran, 2009).
Acquisitions (and conversely, divestitures) are an increasingly important part
of company strategy. Most commonly the acquisitions are targeting small start-up
companies whose technologies could support the development of high-value
products or key product-line extensions in the acquiring company. Although
mergers between large pharmaceutical multinational companies, such as that
between Pfizer and Wyeth, are most profiled by the media, acquisitions by
pharmaceutical and medical device companies are more commonly asymmetric in
nature; they involve the acquisition of a small company by one that is substantially
larger. Advantages could accrue on both sides of the “deal”. The attractiveness of
21
acquisition to a large company is relatively obvious. However, small companies also
have much to gain. These smaller, early-stage companies are often very strong in
scientific capabilities. They possess a particular set of skills suited to bring a product
from concept, testing and development to the point where it can be transitioned
through initial FDA filings for early-stage clinical trials. However, such companies
have little experience with product commercialization, and do not have the resources
or expertise to conduct large clinical trials and to market a new product globally.
Thus, start-up companies often seek to align themselves with larger companies for
sales, marketing and administrative services (Carmichael, 2001; Smith, Dickson, &
Smith, 1991). Not surprisingly, it is important that these acquisitions be managed
carefully in order to achieve their objectives. It has been reported that most
acquisitions fall short of expectations and produce less value than anticipated (Getz,
et al., 2009). There are many reasons for such failures but one reason that is often
identified is the failure to assess adequately the risks and opportunities posed by the
target acquisition, a process called “due diligence”.
Principles of Due Diligence
Black’s Legal Dictionary defines due diligence as “the diligence reasonably
expected from, and ordinarily exercised by, a person who seeks to satisfy a legal
requirement or to discharge an obligation.” Performing due diligence is an essential
component of mergers, acquisitions, and other commercial transactions, such as
licensing, collaborative ventures and initial public offerings (IPOs). Due Diligence
has its origins in common law, also known as case law, where standard practices
22
become recognized as judges resolve disputes using precedents of previous case
decisions rather than following legislatively enacted rules. Much of U.S. common
law regarding due diligence has since become codified into individual state statutes
as well as the Uniform Commercial Code, a widely used guide to commercial
transactions. A responsibility to conduct due diligence can be recognized in case law
in the contracts domain and in certain statutory laws, especially in state and federal
security statutes (Lajoux & Elson, 2000).
The term "Due Diligence" appears to have first come into common use as a
result of the Securities Act of 1933 (15 USC 77a). This Act was formulated out of
concern about fairness in the sale of companies. Its primary goal was to minimize
risk to the purchaser. The US Securities Act included a defense described in the Act
as the "Due Diligence" defense which provides a mechanism by which broker-
dealers could protect themselves when accused of inadequate disclosure to investors
of material information with respect to the purchase of securities. As long as broker-
dealers conducted a "due diligence" investigation into the company whose equity
they were selling and disclosed to the investor what they found, they would not be
held liable for nondisclosure of information that was not discovered in the process of
that investigation. Even though the term “due diligence” is not used in the statute, a
“due diligence defense” is used by securities lawyers to protect their clients from
lawsuits alleging violation of securities laws. The Securities Act of 1933 was
originally enacted for securities. However it has taken on a much broader
significance. Diligence and negligence are opposite qualities; the presence of one
23
suggests the absence of the other. Thus, due diligence activities imply the absence of
negligence (Lajoux & Elson, 2000). The conduct of due diligence is closely related
to a concept more familiar outside of the financial sector as “process due care”.
Process due care is the exercise of “reasonable diligence and care” to achieve a
“rational and good faith decision making process” (Bainbridge, 2009).
Although due diligence can be a legal obligation, the term more commonly
applies to voluntary investigations. Sherman and Hart (Sherman & Hart, 2006)
remind us that due diligence is not just a process, but a reality check. Due diligence
is an assessment of factors driving the deal. This assessment tests whether these
factors are real or illusory by performing systematic audits and evaluations. One
example of poorly conducted regulatory due diligence was observed when Fujisawa
of Japan bought the American drug company Lyphomed. Fujisawa spent $800
million acquiring Lyphomed, and later discovered, after the deal was final, that some
of Lyphomed’s product approvals had been fraudulently obtained (Prentice and
Langmore, 1994). The litigation initiated by Fujisawa to recoup some of its losses
resulted in more than 20 different court decisions (Gibbs, 2000).
Due diligence should not be viewed as a quest to break a deal, but rather a test of the
value proposition.
The basic function of merger and acquisition due diligence is to assess the
benefits and liabilities of a proposed acquisition by inquiring into all relevant
aspects of the past, present and predictable future of the business to be
purchased. Those making this assessment should focus on risk. (Lajoux &
Elson, 2000).
24
Before a deal closes, both the buyer and seller have much to consider in the context
of due diligence. In the past the focus of due diligence efforts was primarily directed
at evaluation of assets and liabilities. Acquisition of a newly-emerging company
little past the stage of a good idea usually required the assessment of intangible
assets, most notably its intellectual property (IP), which would have to be assigned a
value. An acquisition arrangement with a later-stage company typically involved a
broader focus on its business practices and corporate earnings. Both companies must
have a clear understanding of their own needs and values to help determine whether
the terms of the deal will meet their objectives. The approaches for financial due
diligence have been well-described in a multitude of textbooks and articles. Lajoux
and Elson (2000) suggest that the scope of a due diligence review in an acquisition
transaction should cover, at minimum, the following areas:
• Financial statements to confirm assets, liabilities and equity in the balance
sheet, assessing the financial health of the company based on income
statement.
• Management and operations review ensuring the reliability of the
financial statements and assessing other issues beyond the financial health
of the company.
• Legal compliance review, checking for potential legal issues coming from
previous decisions or actions taken by the firm.
• Document and transaction review ensuring the paperwork and structure of
the deal are appropriate.
25
As can be seen from the list above, most of the focus is on finance,
management structure and legal status. Due diligence usually starts with a plan for
the assessment of various aspects of company function through activities of a
multidisciplinary team. Huml (2010) notes that prior to undertaking an in-depth due
diligence audit, most members of a pharmaceutical company’s strategic investment
team will require input from both an R&D evaluation team and a commercial
marketing evaluation team to assess the strengths and weaknesses of the potential
partner’s products and provide guidance on a decision to go forward with the
process. This initial evaluation may include a product overview meeting, as well as
a one-to-two day data evaluation. If positive information is gathered during this
process, a recommendation to continue with a thorough and complete in-depth due
diligence audit will be made. This process will typically begin with some form of
document evaluation, often in a virtual office where relevant materials are held in a
highly secure website accessible to the review team. It is then followed by interviews
and on-site visits. The audit will test information provided by the seller, to determine
whether the information that has been presented is accurate and assumptions are
reasonable. The due diligence audit allows the acquiring company to perform a risk
analysis and put into place risk management and mitigating actions to address the
identified issues. The acquirer is not expected to discover every possible risk, but to
assess the overall financial and legal health of the company so that it can reorganize
the new merged company in a way that will assure effective business development
without unpleasant surprises that will affect the financial health of the acquirer.
26
More recently, the primary focus on financial and legal aspects has been challenged
as will be discussed below.
Sherman and Hart (2006) explain that due diligence is both an art and a
science. The “art” encompasses both the interpersonal capabilities and experience to
know which questions to ask, when to ask, how to ask and whom to ask. The goal is
to create an atmosphere where the seller has both “trust and fear”, encouraging full
and complete disclosure. The due diligence team is performing risk discovery and
assessment. This search identifies potential problems and liabilities, and attempts to
find ways to address or resolve these problems prior to closure of the deal. The
“science” of due diligence includes preparation of specific questions for the seller
and comprehensive checklists of the data and documents required for review. The
buyer must also assess any obligations into which the seller has entered, especially
obligations that will be assumed by the buyer after closing. From all of the mixed
data, the buyer must quantitate the valuation of the company. Often these numbers
can change throughout the course of the negotiation. For example, in 2004, an initial
offer of $25.4 billion by Johnson and Johnson was made for a target company,
Guidant, but was later modified to a lower value of $21.5 billion when Johnson and
Johnson became aware of recalls of cardiac devices that were central to Guidant’s
product pipeline. Of course the process of assigning value to a company is a
complex exercise depending upon multiple criteria. This is evidenced by the fact
that Boston Scientific conducted its own valuation of Guidant and eventually offered
$27 billion for the same company, thus outbidding Johnson and Johnson in the
27
process (Gaughan, 2007). The result of this unexpectedly rapid bid without a great
deal of due diligence was ultimately seen as an ill-considered move. In its
description of the subsequent acquisition, Tully (2006), writing in Fortune, called the
acquisition “the second worst deal ever”. The deal was followed within a month by
recalls and warnings on nearly 50,000 implantable cardiac devices for safety reasons,
which severely curtailed the earnings of the product line and resulted in serious
problems from a regulatory perspective. Tully reports:
It is a stark lesson on how the single-minded pursuit of victory can blind even
brilliant execs to the true costs of a deal. It's also a study in wildly contrasting
personalities locked in gladiatorial combat: the colorful, swashbuckling
crowd from Boston vs. the cautious, by-the-book executives at Johnson &
Johnson, who, despite their stiff bearing, proved as tough as they are proud.
And it sheds new light on the surprisingly brutal world of the medical-
devices industry, which helps save thousands of lives a year but is marked by
deep personal animosity and ferocious combat in the marketplace and the
courtroom - where the battle over Guidant continues.

Due Diligence Related to Regulatory and Quality Activities
Due diligence activities have well-developed models in the financial world,
and even in the financial world they have been known to fail to detect risks that later
have become publicly embarrassing and expensive. In the medical product world,
due diligence methods are often less developed and idiosyncratic. Methods for
valuation and assessment of critical variables are less formalized and often
incomplete and inconclusive. In part this challenge reflects the fact that medical
products have a more complicated development path whose costs and risks can be
difficult to quantify, or even to predict. In addition, the role of emotion or
28
competition cannot be ignored. If two companies are trying to acquire the same
company, a bidding war may develop, as identified in the case of Johnson and
Johnson versus Boston Scientific in the acquisition of Guidant as described above.
The competing firms may fail to pay sufficient attention to due diligence because
each company assumes that the other company’s valuation is well-founded and can
be used as a value benchmark, even if neither has completed its due diligence with
sufficient rigor.
One particular area that is often evaluated insufficiently when due diligence
is conducted is the state of regulatory and quality operations which have different but
complementary functions. Regulatory operations are principally outward facing, and
bear responsibility for interactions with the FDA in the US and comparable
regulatory agencies in other countries that are needed to obtain marketing approval
from those agencies. Quality operations are principally inward facing. The role of
the quality assurance branch of a company is to assess company-specific processes
and procedures, in order to assure adherence to standards, quality requirements and
best practices so that the products do not pose unanticipated risks through faulty
design, testing or manufacturing. As discussed above, both regulatory and quality
functions may harbor serious risks that might negatively impact an acquiring
company after its deal is transacted. It stands to reason that any due diligence
assessment should identify risks and liabilities to existing and pipeline products and
processes that are posed by regulatory, compliance and legal issues.
29
The added considerations associated with regulatory and quality activities are
important for the successful completion of due diligence. Regulatory and quality
activities can dominate the timelines and costs related to medical product
development and can add great risks to the financial security of a company. In the
premarket domain, risks can include loss of share price or commercial capabilities if
a new product fails to obtain market approval or clinical trials cause patient harm
through poor clinical design or management. In the post market phase, undetected
adverse events or product quality issues can also impose huge liabilities that can
greatly reduce the value of the acquiring company. For example, the acquisition of
Advanced Bionics from Boston Scientific became devalued shortly after acquisition
when the cochlear implants that were manufactured by Advanced Bionics were
found to have a manufacturing fault that compromised the eventual hermeticity of
the product, resulting in premature device failure (Winstein, 2007; Cruse, 2005).
Thus due diligence approaches must be broadened to assure that an acquiring
company has made appropriate regulatory and compliance decisions to reduce the
risk of unforeseen liability issues in its current product line and ongoing pipeline
projects. They are a critical part of risk analysis for the business development
process.
What then should be considered when designing due diligence activities in
the regulatory and quality domains? Only a scanty literature on this subject exists,
and that literature tends to focus on information gathering activities.
Recommendations for due diligence activities look much like quality audits, which is
30
perhaps not surprising given the familiarity with such auditing techniques amongst
quality and regulatory experts. Quality system audits assess whether manufacturing
processes can deliver product at a volume and quality that is specified by the
company, whether quality systems are effective, and whether raw materials and
manufactured parts or components consistently meet specifications. Buckley (2003)
identifies that such assessments should include interviews with site personnel,
facility inspection, and review of documentation and quality monitoring data; these
all constitute information gathering activities of a type that could be valuable for due
diligence.
In addition, however, information gathering activities must be extended
during due diligence to the regulatory as well as the quality domain. According to
Barry Sall (Sall, 2008), “Regulatory input is a vital component of the due diligence
process”. The regulatory elements of due diligence that he identifies to be critical to
the success of a merger or acquisition include an assessment of several factors that
may not be part of a typical quality systems audit, such as review of the regulatory
status of investigational products, the state of product approvals and clearances,
labeling and vigilance reviews and FDA compliance status. Similarly, Schomisch
(2002) emphasizes the importance of examining many different areas of regulatory
compliance. These primary areas include the evaluation of current and pending
submissions documents, compliance of labeling with regulations, adequacy of
documentation and procedural elements in animal and clinical trials, and quality
compliance including legal and enforcement actions taken against the company
31
being acquired. Appendix A identifies the areas of due diligence that have been
recommended by a series of papers that have been published on this subject over the
last decade.
The “How” of Regulatory Due Diligence
Regulatory and quality due diligence activities can often identify deficiencies
that would be sensible to correct. However, like due diligence activities more
generally, such information-gathering is not designed specifically to detect failures in
the regulatory or quality system, for the purposes of corrective action. Rather it is
concerned more broadly with risk detection and characterization. Nevertheless, the
few articles that can be found on this subject in the current literature typically
suggest an approach not unlike that which would be taken by a compliance audit
driven by the need for information that shows deviations from a stated standard or
regulation. An inexperienced person reading the literature on regulatory and quality
due diligence might come to the conclusion that effective due diligence is largely an
information gathering exercise. If that were true, such information gathering could
be put into the hands of generalists who are responsible for other parts of the due
diligence assessment as long as they were armed with a good checklist for the
documents to be inspected. However, the problem with information gathering and
box checking exercises is that a huge volume of information must be sifted.
Regulatory and quality operations are often extensive and complex and are
associated with voluminous records. Thus, auditors can fail to identify significant
areas that need special attention in the huge volume of information available to them.
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Most current descriptions of regulatory and quality due diligence activities do not
deal with priority setting in the due diligence process. Without some form of triage
to focus the investigation, it can be difficult to make sense of the results of the
information gathering. This problem can be particularly acute because due diligence
audits are often conducted by teams rich in financial and legal experts but lacking
deep expertise in the regulatory and quality domains, so the auditors can have trouble
distinguishing important from unimportant risk factors (Fox and Minsk, 2009).
The importance of more than information-gathering about regulatory and
compliance risks is also suggested by certain comments in recent papers on
regulatory due diligence. For example, Schomisch (2002) mentioned briefly the
potentially important role played by philosophy in assuring the compatibility of an
acquiring and target company. While this element was not elaborated, it points to
the potential importance of elements beyond the adequacy of records and compliance
with regulatory requirements that might deserve additional exploration.
If due diligence is more than an information-gathering exercise, then we
might ask what other elements might be important for conducting successful due
diligence? There is relatively little guidance in regard to regulatory or quality due
diligence in the immediate literature. For example, the same papers that yielded such
a long list of items for information gathering in Appendix A were relatively silent on
other aspects. The papers whose data are listed in Appendix A were all published
very recently. They suggest that regulatory and quality assessments may have
become more prevalent in just the last two years. The appendix also shows a
33
concentration of due diligence activities in areas where documentation is mandated
by regulation and risk assessment can be performed most easily. Is there insight to be
gained on the practice of due diligence from the broader literature in other areas of
due diligence with a longer history of practice? Research into due diligence more
generally suggests that information-gathering is not in itself adequate to assure a
good due diligence outcome, and other factors may be important to achieve the
desired objectives.
Nancy Isaac, Vice President, Regulatory Affairs for BD Biosciences told a
Regulatory Affairs Professional Society 2001 Executive Track session:
Regulatory Affairs compliance due diligence adds confidence in the stability
of the quality system, gains knowledge regarding the level of control in
manufacturing, provides information on the safety and clinical performance
of products marketed, details the company’s relationship with regulatory and
notified bodies and even establishes the legal status of the company’s
products (Schomisch, 2002).

Theoretical Bases for Studying Due Diligence
Most studies of practices that contribute to effective due diligence are case-
based or anecdotal. A more theoretical basis for understanding the elements
important in effective due diligence seems to be underdeveloped. However, an
interesting approach suggested by Very and Schwieger (2001) was conducted with a
potentially useful theoretical underpinning. The study by Very and Schwieger tested
the proposition that learning theory might provide a vehicle that could help to inform
the way that due diligence is analyzed. Learning theory is a well-recognized
constructionist theory in the field of education. The theory postulates that
34
performance of a complex activity requires active interaction with the environment,
often guided by more experienced practitioners. Performance improves as the
individual gains experience with the task and learns how to execute the process
effectively. Smith (1999) noted that this learning process involves two dimensions,
information-gathering activities and experience accumulation, that within its
operation involves both an ability to evaluate the gathered information and the ability
to learn from results. Learning theory was applied by Very and Schwieger to
analyze due diligence in a sample of 26 “middle-market” firms in a variety of
industry subsectors that had made recent acquisitions globally. In that study, the
investigators identified that both information gathering and experience accumulation
played a role in a successful due diligence exercise. They highlighted the failure of a
targeted learning process as a contributing factor to some of the difficulties that
occurred unexpectedly after a deal had closed. They pointed to the importance of
experience accumulation in solving acquisition-related problems in which “acquirers
use experiences to improve their approach to future acquisitions”.
Little has been said about the role of experience in regulatory due diligence.
Yet, in medical product industries where decision-making is complex because of
added regulatory and quality hurdles, it is possible that the experiential elements
relating to regulatory and quality risk are at least as important as the information-
gathering elements. One question that would be useful to explore is the perceived
importance of experience in the practice of regulatory and quality due diligence. It is
unclear whether most regulatory and quality due diligence exercises that have been
35
conducted in medical-products companies are performed by individuals who are
highly experienced in such evaluations. We do not know whether regulatory and
quality due diligence is commonly placed in the hands of due diligence experts with
experience in financial but not regulatory due diligence, or individuals with little
experience in due diligence but strong regulatory and clinical knowledge. We would
postulate that both experience in due diligence activities and experience in regulatory
and quality operations are both important for effective due diligence in the medical
products industry.
The “What” of Regulatory Due Diligence
A goal of the research identified here is to investigate best practices that
contribute to effective due diligence. One dimension that seems to be important is
the “how” of the process. As identified above, we suggest that “how” due diligence
is conducted might be investigated by learning theory with its dual dimensions of
information gathering and to experience accumulation. However, there is also
another practical aspect of regulatory due diligence that asks “what” should be
evaluated. In Appendix A, the checklists of activities to be evaluated give insight
into areas that most regulatory and quality experts might see as “what” should be
examined. The majority of items on that list appear to be related to the “performance
state” of the regulatory and quality systems as viewed through internal and external
audit findings represented as one of the circles in Figure 1. Areas to be considered,
for example, include the number and current status of submissions to FDA, the
effectiveness of quality systems, and the presence and correctness of records and
36
reports. However, throughout the literature on due diligence run threads suggesting
that other aspects of the organization must be captured in a thorough collection of
information that might be salient to acquisition decisions. These additional aspects
seem to fall into two main topic categories that are related to the culture of the
company and consider 1) the ethical state of the company, and 2) the organizational
state of the company. The three areas are illustrated graphically in Figure 1.

Figure 1: Three Aspects of Due Diligence Investigations

The first consideration, the ethical state of the company, might be especially
important to assess as part of a regulatory and quality review. At least some
information about the ethical state of the company might be revealed even if only the
37
performance state of the company were to be analyzed explicitly, because problems
in quality audits or the presence of FDA warning letters might reflect the company’s
view of its ethical responsibilities to patients, caregivers and regulators.
Nevertheless, in other industries, the importance of assessing ethical behavior and its
consequent effect on business has received special attention. In the medical products
industry, much has been written about companies that have produced fraudulent data
or problematic products. It would be of interest to understand whether research into
the “best practices” of regulatory due diligence would reveal a specific sensitivity to
characterizing the “ethics” of a company as an explicit area to be studied, or whether
this seems to be subsumed under other categories of investigation.
The third area of potential relevance is the “organizational state” of the
company. Organizations differ dramatically in their structures both at the formal
level of the organizational chart and the more informal level of communication and
decision-making. The dissonance between organizational structures in the acquiring
and acquired companies is often recognized to be at the heart of difficulties in post-
merger activity. For example, a study by Jemison and Sitkin (1986) in which
corporate executives and investment bankers were interviewed, provided a much
richer collection of factors contributing to merger success than most due diligence
exercises explore. One key aspect was organizational fit of a target company with
the acquirer, but organizational fit was considered as more difficult to assess because
of its subjective nature. As stated in that study: “Although they acknowledge the
importance of qualitative organizational issues in acquisition outcomes, the
38
investment bankers we interviewed told us that they rely chiefly on calculations
based upon purely quantitative criteria that can be more easily defended if
challenged legally”.
Often due diligence activities do not include an assessment of management
structure in the target company. However, Harvey and Lusch (1995) strongly
advocate the evaluation of management structure, including formal organization of
the company, assessment of personnel, compensation and benefit programs, and
management infrastructure such as training programs. This is seen to be particularly
relevant, because one major factor contributing to the failure of a merger to achieve
its desired objectives is the loss of talent that often occurs after merger. For the
personnel who remain, differences in company culture and decision making styles
can lead to infighting, can lengthen integration timing, and ultimately, can result in
productivity declines. Early appreciation of organizational difference can facilitate a
smoother transition. The organizational due diligence activities can uncover
capability gaps, reveal points of friction, and identify “critical” people to the
operation. This will facilitate decisions about personnel to be retained or to manage
the new combined business or project. Sometimes the ability to retain a key person
in an organization can be a pivotal requirement for the success of the acquired
product pipeline. It also can be used to guide the company in producing a human
skills “valuation” that becomes part of the assessment of “intangibles” (Harvey and
Lusch, 1995), Making decisions about personnel allocation must occur very quickly
39
after a merger takes place, and is considered to be critical to the success of the
transaction (Harding & Rouse, 2007).
According to Harding and Rouse, five basic questions should be asked when
performing what they call Human due diligence, or in the vocabulary used here,
organizational due diligence. They are:
• Who is the cultural acquirer?
• What kind of organization do you want?
• Will the two cultures mesh?
• Who are the people you most want to retain?
• How will rank-and-file employees react to the deal?
Unless these questions are addressed, Harding and Rouse suggest that the acquiring
company will experience greater hostility and increased fallout that could have
otherwise been avoided or at least lessened if dissonance in the organizations were
recognized early. The issue of structure might be particularly important in regulatory
and quality departments because these types of activities are typically team-based
and may often have teams with a global reach. These teams are structured very
differently from one company to another. Some companies have teams that follow a
product from “cradle to grave”, whereas others may have specialty teams that are
engaged for specific parts of the product life-cycle. In these latter teams, for
example, it is not unusual for the pre-commercialization and post-commercialization
groups to be completely different in constitution, the product is “thrown over the
wall” from one team to another when the product is approved for commercial sale.
40
In this study, we will examine in some detail what regulatory and quality
experts consider to be the key elements of best practices when “regulatory/quality
due diligence” is conducted in the in the medical products industry. By using focus
group methods, we will use the dimensions of “how” (framed by learning theory),
and “what” (framed by the performance/ethics/organization triad) to examine how
regulatory and quality experts view the important aspects of due diligence. We hope
to capture the essential elements of regulatory/quality due diligence as seen through
the eyes of these experts in a survey tool with which we can explore more generally
the way in which mergers have been conducted in a selected grouping of companies
that have been the targets of acquisitions. The responses of these experts will help us
to validate the information that has been identified from the available literature
above.
The goal of the survey is to evaluate whether regulatory and quality due
diligence has been conducted prior to the mergers in companies that have been part
of a merger or acquisition in the last 5 years. If regulatory/quality due diligence has
been conducted, we wish to understand whether it focused on only some or all of the
elements identified by experts as very important. From this analysis we hope to gain
insight into the current state of regulatory and quality due diligence activities in
medical products companies. If our gap analysis identifies major differences
between perceived best practices and common practices, recommendations can be
made about ways in which to improve regulatory /quality due diligence and
potentially, merger success.
41
CHAPTER 3
METHODOLOGY
The exploratory study described here used two methods, including focus
group methods and survey methods. Initial survey development was guided by
information gained from literature reviewed in Chapter 2. Content validity was
tested by convening a focus group to critique the survey instrument. The results of
the focus group were analyzed and the survey was modified to address the input and
concerns of the focus group. The survey was distributed to senior level regulatory
affairs and/or quality assurance professionals from 31 medical products companies
who have been directly involved in at least one merger or acquisition.
Survey Development
The survey was created as a 28-question set using a web-based survey tool
(Qualtrics, www.qualtrics.com). The survey was constructed using questions with a
Yes/No/Cannot Answer, Choose One, Scaled and Open Ended question formats.
The survey recipients were asked about their current job profiles and backgrounds,
including their backgrounds with regard to due diligence activities such as:
• Direct experience with mergers and acquisitions and with
regulatory/quality audits.
• The nature of the due diligence process and its effect the success/failure
of the transaction.
• Considerations of ethics in the due diligence process.
• Considerations of organizational structure in the due diligence process.
42
• Relative weighting of experience in construction of the team and
perceived adequacy of the approach.
• Nature of information-gathering activities, and perceived
comprehensiveness of this activity.
A focus group was then convened to review and provide input on these preliminary
survey questions prior to the dissemination of the survey. This focus group was
comprised of professionals in senior management from the medical products industry
the majority of whom had been directly involved with mergers and acquisitions. It
also included three non-regulatory/quality professionals who also had merger
experience to allow additional input on elements not related so specifically to the
regulatory environment, such as ethics and organizational structure that in many
instances may not be explicitly considered by the regulatory part of the audit team.
The focus group was scheduled for 90 minutes and captured videographically
with the permission of the participants for later analysis. A moderator and scribe
were present. The survey was sent to the participants via email prior to the focus
group meeting.
On the day of the focus group meeting, the participants were given a printed
copy of the survey instrument. Refreshments were provided. Participants were
encouraged to socialize and review the survey tool if they wished before the meeting
started. The moderator began the meeting with introductions and a short
presentation on the research question, the purpose of the focus group and the work
done to construct the survey instrument. The group was given an opportunity to ask
43
questions regarding the general proceedings. The moderator reviewed each question
and solicited input, answered questions and discussed the value of the question,
allowing about 3-5 minutes per question. If a particular question or subject area
warranted further discussion, time was managed accordingly. Prior to closure of the
meeting, general comments and questions on the survey were solicited. The
comments and discussions of the focus group were reviewed and survey questions
were modified to develop a final survey in a web-based format (Appendix B). To
assure that the web-based system would perform effectively, the survey was sent
electronically to 5 individuals in the Regulatory Science office of the University of
Southern California or the doctoral class who were accustomed to the operation of
Qualtrics and have participated previously in such surveys. Previous experience has
suggested that Qualtrics produces a robust and well-validated software system, but
any logistical problems that arose during this validation were addressed prior to the
dissemination of the survey to participants.
Survey Distribution and Analysis
The selection of participants for this survey instrument was limited to senior
managers (Director level or higher) from regulatory and/or quality departments in
medical products companies, who have been directly involved in the due diligence
process for at least one merger or acquisition. There is no basis from the literature to
believe that there is a difference in the due diligence outcomes between medical
device and pharmaceutical firms so participants were selected from either area
during this early-stage exploratory study.
44
Prior to selection, the participants were screened by phone or email to assess
their willingness to participate in the survey and assure that they meet the inclusion
criteria. Additionally, during the screening they were questioned about their
willingness to participate in an in-depth interview following the survey, if more
information or clarification were to be required for the survey analysis. The survey
was distributed electronically, unless the participant requested a paper copy. There
was no type of remuneration necessary to encourage participation. Follow up was
done with two staged reminders if the survey was not returned within a preset time
frame of 30 days.
45
CHAPTER 4
RESULTS
Results of Focus Group
The focus group was interviewed to provide input on the design and
execution of the survey tool and to maximize its response response rate by soliciting
advice on the best way to recruit participants. The meeting was divided into three
phases. The first phase, lasting about 30 minutes, consisted of a broad discussion of
the survey structure and target respondents. In this phase, the participants affrimed
the value of the survey, and agreed that a snowball approach might be most suitable
for a feasibility study of this kind. During the second phase, lasting about 45
minutes, the strengths, weaknesses and relevance of individual questions were
considered. Focus group members suggested additional areas in which more probing
questions might be included. These areas included: methods used to conduct the due
diligence (i.e. electronic reading rooms vs site visits); extent to which companies
evaluated the human and organizational elements of the acquiree; the overall
perception of the success or failure of the due diligence process; and whether the
amount of time spent on the due diligence exercise justified the outcome. These
suggestions were later incorporated into the survey. The final fifteen minutes was
devoted to general discussion of the topic and its potential impact on the industry,
followed by informal conversations.
46
Analysis of Survey Responses
Emails were sent to 109 potential survey participants, identified using a
snowball technique. Of the 109 persons emailed, 63 responded, stating they felt they
met the inclusion criteria to participate in the survey, while seven felt they did not
have the appropriate background or experience to participate. The other 39 did not
respond to the email. Reasons for not responding may include incorrect email
addresses, persons felt they were not qualified and did not respond to the email or
did not feel they could devote the time to complete the survey.
Surveys were sent to 63 regulatory and quality professionals, and 58 were
returned (Appendix B). Respondents were employed by companies that ranged in
size and maturity. About one-third (22/58) of respondents were employed at a start-
up company with intellectual property, but had no products on the market.
Approximately 19% (11/58), indicated they worked for a small company with less
than $5 million in sales per year, whereas 22% (13/58) were employed by small to
medium companies with less than $500 million in sales per year and 22% (13/58)
were employed by large companies with more than $500 million in sales per year.
Over half of the respondents (33/57) had been involved in due diligence activities in
the roles of both the acquirer and the acquiree, about one-third (19/57) were part of
the acquiring due diligence team, and the balance were involved with due diligence
activities on the side of the company being acquired (Figure 2). Respondents were
almost exclusively (98%; 52/53) involved most recently in an acquisition in which a
smaller company was being acquired rather than a merger between two companies
47
of similar size. The majority of the respondents (43/49 responses), identified that the
acquisitions were for the purpose either of increasing market share or obtaining
intellectual property.

Figure 2: Role(s) Played by Respondents in the Due Diligence Process

Certain questions in the survey focused on the nature of the due diligence
process and those who performed it. Almost all of the respondents (57/58) identified
that regulatory activities and documentation were reviewed during the due diligence
process; senior management from regulatory/quality departments were typically
involved (49/55). Most respondents (41/56) reported that their due diligence
activities were performed using a combination of site visits and electronic file
transfer or “e-rooms”. Most commonly, due diligence activities were performed by
company employees (38/56); however, 15 of 56 respondents reported that a
48
combination of company employees and oursourced experts were used in the due
diligence activity. Approximately 30% (16/57) of the respondents expressed
reservations about the adequacy of the review (Figure 3).

Figure 3: Responses to the Question, “Did Due Diligence Activities Adequately
Cover the Full Scope of Regulatory Activities?”

When asked specifically about the aspects of the due diligence exercise that
were or were not covered by the due diligence process, all respondents stated that
regulatory actions and submissions were examined, usually in comprehensive detail.
In contrast, most respondents identified that the credibility and ethics of key
personnel were examined superficially or not at all. Other aspects, such as adverse
event reporting, corrective and preventive actions, clinical materials and reports,
regulatory audits and assessments, and quality audits and assessments, were reported
to be examined by some respondents but not others, as shown in Figure 4.
49
Figure 4: Depth of Review in Different Aspects of Regulatory Due Diligence:
“Which Areas were Examined in Most Detail?”

Another area of interest was the level of expertise and specific knowledge of
the due diligence team. About three-quarters of respondents (42/56) felt that the due
diligence team had specific knowledge prior to the due diligence exercise regarding
the products of the target company. Further, a similar proportion (42/57) agreed that
the due diligence team was composed of persons with sufficient breadth and/or
experience. However, responses to other questions suggested that there might be
room for improvement in several of the due diligence experiences on which the
respondents were reporting. When asked to rate the knowledge or experience of the
due diligence team on a Likert scale, responses were broadly distributed from 16/100
to 100/100 (average= 70, s.d.=20, n=58) with “0” indicating minimal
experience/knowledge and “100” indicating very experienced/knowledgeable.
Further, numerous text responses to the question “if you feel that the team was not
50
adequately broad or experienced, what could be done better?” identified areas for
improvement. Of 26 text answers (Appendix B), seven felt that the due diligence
team should have been better trained and prepared in the area for which they were
responsible during the due diligence process. A further five felt that regulatory and
quality professionals should have been involved earlier in the process. Some gave
the impression that the due diligence exercise was driven by business development
and not enough time was devoted to the quality and regulatory aspects of the due
diligence process. Eight did not focus directly on the question being asked or entered
N/A as an answer.
Investigation was driven by business development. Should have been driven
by QA/RA and included adequate time for technical, QA, and RA to become
familiar with the product and current challenges.

The regulatory and compliance aspects and resources need to be involved
much earlier in the business development and acquisition process to assure
that there are not significant challenges when commitments have already
been made or the deal is essentially complete and adequate due diligence has
not been accomplished to limit liability and risk.

Text responses also identified areas of the due diligence process that were
challenging or needed improvement. The largest number of responses of the 32 text
answers (10/32) focused on ethics as the most challenging area of due diligence.
Eight respondents highlighted poor access to information or poor documentation
during the due diligence process. The remaining small number of responses dealt
with: lack of product knowledge, validation/testing/risks, language/cultural barriers,
compliance, FDA communication and time.
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Interpretation of regulations were based upon company culture and policies,
more than factual arguments of what the regulations intent and purpose
were.

Where information was withheld from the acquiree, and information was not
made available for review, ethics were called into question.

Seller was evasive, misleading and dishonest.

Different explanations were given by different people for the same questions.

Certain survey questions probed the degree to which due diligence involved
consultation with different levels of staff in the target company under consideration.
Most respondents (41/56) reported that their due diligence activities were performed
using a combination of site visits and electronic file transfer rooms ("e-rooms”).
When respondents were asked specifically about the extent and nature of interactions
with staff during the audit process, they identified that interviews with non-
management employees were not a common part of the due diligence exercise. Only
about one-third of respondents (16/49) answered “yes” when asked “Were low and
middle level management interviewed for their input on company culture, ethical
attitudes and overall support from senior management?” Further, only a small
minority (6/48; 13%) identified that non-managers were asked about quality and
attitudes of management personnel. Interviews were performed with lower level,
non-management employees to assess their overall job satisfaction and views
regarding company philosophy and management style in only a minority (7/ 50;14%)
of the due diligence exercises on which respondents reported. Respondents reported
that less than one-half (18/43) of the due diligence teams interviewed human
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resource personnel (“Did the due diligence include interview(s) with human
resources regarding issues such as attrition, management philosophy and company
hierarchy?").
Respondents were mixed in their views regarding honesty and trust in the due
diligence process. In response to the question, “Once the transaction was complete,
did your feelings of trust and honesty increase, decrease or stay the same?”, about
one-half of the respondents (28/55) identified that their perceptions of trust and
honesty did not change; the other respondents were split in their views, with about
one quarter (12/55) reporting an increase and the other quarter (25/55) a decrease.
When acquirers were asked specifically to judge what they believed to be the level of
honesty of the acquiree, the responses varied widely between “0” indicating “No
Honesty”, and “99” on a 100 point scale where 100 represented “Very Honest”. On
average, the level of honesty across all responses was 66±24 (Figure 5).

Figure 5: Responses to the Question: “Once the Transaction was Complete, Did
Your Feelings of Trust and Honesty...”

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Respondents were asked specifically about the time requirements for the due
diligence activity in which they had been engaged. Many respondents followed up
with comments regarding the large amount of time spent on the due diligence
exercise, the effect of the process on their time or the effect on others involved in the
exercise. Over 30% (14/45) of the respondents expressed the view that an
“excessive” amount of time had been devoted to the due diligence process. For
example, one respondent stated, “The loss of productivity was immense”. Another
noted, “Several months of man effort and tens of thousands of dollars were spent
evaluating a technology internally that could have been done prior to acquisition”. A
particular issue was lack of preparation where a more streamlined process could have
been achieved with better planning and proper identification and preparation of
participants, including better background on the acquiree’s product and processes.
Approximately 25% (11/45) felt the amount of time spent on the due diligence
process was a productive experience. One respondent commented “the time spent
was regained in product knowledge” and led to a better decision and transition after
acquisition. At the other end of the spectrum, one respondent noted that “the product
was not acquired but the due diligence contributed to that negative decision which
was ultimately the best outcome”. The amount of time lost to due diligence was
noted to vary from less than 1 week to 6 months (Figure 6).
54
Figure 6: Responses to the “Amount of Time Lost in Productivity Because of the
Due Diligence Exercise”

A large majority (52/57) of the respondents felt the due diligence exercise
was very or somewhat successful, while 5/57 (10%) did not feel the due diligence
exercise was successful (Figure 7).

Figure 7: Responses to “Do You Feel the Due Diligence Exercise was Successful?”

55
Almost 75% (36/56) of the respondents felt the success or failure of the
acquisition was linked to the due diligence process and was helpful in making the
right decision (Figure 8).

Figure 8: Responses to “Was the Success or Failure of the Acquisition Linked to the
Effectiveness of the Due Diligence Process?”

Respondents amplified on their experiences in text responses. Some noted
that the due diligence process required a large investment of time from very qualified
people and could have been more effective with better planning and training.
Additionally they felt the due diligence exercise was an uneven balance between a
primary focus on documentation and a less effective focus on the “soft aspects” of
employee and corporate culture.
56
The acquiree never wants to be acquired, so there will always be challenges.

The acquisition was problematic in many ways-a change in the diligence
process might have made it more “eyes open” as to what some of the
integration challenges would be.

We had an unrealistic view as to what it would take to be successful with the
acquisition.
57
CHAPTER 5
DISCUSSION
Regulatory due diligence is a necessary and dynamic part of the overall due
diligence process when two medical products companies merge or participate in an
acquisition. This retrospective study examined the views of regulatory and quality
professionals regarding the structure, depth and relevance of regulatory due diligence
activities in which they have recently participated. The results identified that no
comprehensive standard practices for regulatory due diligence appear to exist.
Although a basic set of core activities could be recognized in most due diligence
exercises, the nature and extent of other aspects of due diligence varied quite widely
amongst respondents. Results also confirmed an overall impression gained from the
anecdotal and trade literature, that the core activities of regulatory due diligence
consisted of document and record review, and that relatively few of the exercises
involved much person-to-person interaction, discussion or involvement of personnel
who had non-management roles. The survey tool also offered the respondents a
chance to express what they felt were the strengths and weaknesses of the process,
and to identify how their feelings of positivity or negativity about the process
changed after the due diligence exercise was finished. The consensus seemed to be
that ethics and credibility were often the aspects least appreciated and investigated
during the due diligence exercise.
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Considerations of the Methodology
Studies of due diligence such as that conducted here could in principle take
any one of a number of methodological approaches, including case study methods,
observational methods, interviews, or surveys. The major challenge in selecting a
research approach is how to gain insight into the study question systematically and
effectively. In this study, which has little precedence in the literature, we wanted to
understand the typical current practices for regulatory due diligence by exploring the
due diligence experiences of a relatively large number of individuals. Case studies
or interviews did not seem appropriate for this objective, because they would sample
only a small number of individuals or situations that might be unrepresentative.
Further, due diligence is a sensitive topic and interviewees may not wish to share
their honest experiences without a cloak of anonymity. For these reasons, survey
methods appeared to have advantageous attributes. The strengths of survey methods
include the ability to obtain information from a larger number of respondents, the
ability of respondents to answer questions anonymously, and the ability to
standardize and quantitate the data that is derived (Trochim 2006). The potential
weaknesses are related at least in part to whether the questions composing the survey
are appropriate (face validity), whether methods used to develop a respondent pool
are appropriate, whether honest and sufficient responses can be assured, and whether
data from the chosen sample can be generalized across all types of mergers and
acquisitions in the medical products sector (external validity). It is important to
59
consider the degree to which these concerns may limit the validity of the data in this
study.
Assuring Appropriateness of the Survey Questions
Survey methods depend heavily on the ability to select questions that can
capture the essence of the experience on which the respondents are reporting. The
development of a survey instrument is more challenging when the respondents are
very busy individuals who are unlikely to participate in a survey unless it can be
completed in a short period of time. In this study, respondents were senior managers
in medical products companies, whose time is valuable and difficult to capture.
Jamieson (2011) recently reported from interviews with individuals at this level of
seniority in medical products companies that most such individuals were reluctant to
participate in survey lasting more than 10 or 15 minutes. We therefore felt that it
was important to limit the survey length to only a modest number of questions, while
still to assure that the range of questions explored as fully as possible the views and
opinions of the respondents.
The approach used here, to construct a preliminary survey and then expose it
to critical evaluation by a focus group made up of experts, allowed questions to be
fine-tuned and discussed critically by individuals knowledgeable about the due
diligence process. This approach enhanced confidence in the validity of the survey
to accomplish its aims and reduced the risk of bias due to the preconceived notions
of the survey designer. From a reading of literature on the use of surveys in general,
the use of a focus group prior to survey dissemination did not appear to be common
60
practice. The order of our studies, with focus group first and survey second, is
opposite to the more traditional pattern in which surveys are carried out first and are
followed by focus groups in which interesting elements in the results are further
explored in detail in a specific subgroup of individuals (Patton, 2002; Hess-Biber &
Leavy, 2005). However, a two-stage approach to survey construction was used with
success in two recent studies of current practices in regulatory transparency (Solberg,
2011) and technology transfer (Jamieson, 2011), where it was felt to increase the
face validity of the surveys.
In this survey, a mix of questions of different forms was used to gain insights
of different kinds. Questions with a multiple choice or Likert format allowed
answers to be quantitated. These questions were helpful in identifying “typical” due
diligence activities, and in estimating the extent to which these activities varied in
the sampled subpopulation. At the same time other questions that elicited open-
ended, text responses allowed the respondent to decide whether to expand on their
views of particular facets of the activities. These questions provided a particularly
rich insight that was not easily probed by the close-ended questions that are more
typical of a survey. The results of these responses helped to provide a level of detail
that could be important in shaping follow-on studies of due diligence, as explored
further below.
Selecting a Survey Sample
Survey respondents were identified using a “snowball method”, where the
initial participants to be surveyed were queried for names of other potential
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participants based on a profile of inclusion and exclusion criteria that included the
desired backgrounds, experience and level of management within the regulatory and
quality arenas in the medical products industry. This approach allowed me to
enlarge the database of appropriate respondents relatively quickly, but had the
potential drawback of providing a smaller circle of participants, who might not
represent evenly the entire population of potential respondents (Patton, 2001). For
example, the experiences of the participants in this study may not represent evenly
the views or experiences of those across the entire United States. In the US, there is
a notable geographic localization of companies of different types. Large
pharmaceutical companies tend to be clustered in the Mid-Atlantic States whereas
medical devices companies are more commonly located in Massachusetts, Minnesota
and California (Makower, Meer & Denend, 2010). In this survey, questions asking
about the size and nature of the company with which the participant was affiliated
suggested a relatively broad representation across large and small companies.
However, it is not clear whether the participants were distributed preferentially with
respect to geographical location or medical product sector. Thus, follow-up studies
would be needed to assess whether the answers and written comments are similar
between the eastern part and the western part of the United States, or between
medical device and pharmaceutical companies. Another important determinant of
sampling validity is the ability to assure that the participants are fully qualified to
answer the survey questions. In this study, a modest number of participants could
not answer all of the questions posed by the survey, possibly indicating that the
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participants were not knowledgeable about the whole of the due diligence process.
A due diligence exercise can be a complex process in which many individuals are
involved, and it is likely that some are only peripherally exposed to subset of the
activities that have taken place during the full due diligence exercise. Thus,
individual answers may sometimes be suspect and it is important to look at overall
patterns rather than individual answers.
Most respondents (86%) who answered the survey were found to be the
“acquirers” or had experience as both “acquirer and acquiree”. Thus, they probably
were primarily from larger companies, interested in acquiring intellectual property or
pipeline products. It is unclear whether this is a bias introduced by the nature of the
snowball process. The acquiring company often has quite a sophisticated plan to roll
out the due diligence activities, but often does not share its procedures and activities
widely or thoroughly with its target “acquiree” company. Thus, "acquirees" may feel
that their experience has been too narrow to warrant participation in the survey, and
they may not have a full picture of all of the activities cared out by the acquirer. An
interesting follow-up study might be a case study series in which the experience of
the acquirer and acquiree in a particular acquisition could be compared to see if their
reflections on the experience are congruent.
Due Diligence Practices
Evaluating Performance State
In this thesis, we were interested in exploring the degree to which regulatory
due diligence activities focused on three aspects of regulatory activities known to be
63
important to legal compliance and company success-- regulatory performance,
organization, and ethics. Results obtained from the survey confirmed impressions
gained from the literature, that most of the emphasis during regulatory due diligence
is directed at the “performance state” of the company, primarily through the audit of
documentation. The fact that almost all of the participants had identified regulatory
document review as a focus for activities may not be surprising. The primary output
of the work of regulatory professionals is documentation related to product approvals
or post-marketing notifications such as adverse event reporting and manufacturing
changes. Quality activities, which are closely related to regulatory activities, are
primarily focused on audits of product and processes, reporting on product non-
conformances and defining overall product quality metrics. The records created by
both types of activities are typically captured in documentation. The state of these
records and the content contained in them might be considered a type of arms-length
scorecard, to confirm the extent and maturity of the product portfolio and the
capabilities of the regulatory/quality teams (Schomisch, 2002). Thus they constitute
a very important part of the assessments of regulatory accomplishments and
compliance.
The fact that most respondents (75%) felt that the due diligence team had
sufficient prior knowledge about the product they were reviewing reinforces the fact
that most reviews were strongly focused on the value of the products for which
acquisition was commonly undertaken. Survey respondents appeared well aware
that the primary motivation of the acquiring company was to acquire products that
64
would increase its market share or intellectual property portfolio, as reflected by their
responses identifying that acquisitions were directed at obtaining either intellectual
property or products that would increase market share. We would expect that these
types of mergers will continue to be common in the near future because of the
increasingly difficult economic environment surrounding medical product markets
into which medical-products companies must sell (IMS Institute, 2011). Thus the
pharmaceutical industry is becoming less profitable. This is illustrated by the
financial trends associated with the industry over the last decade. The pharmaceutical
industry of 2000 had a price to earnings ratio (P/E ratio) of 40 times earnings, but it
had a forecast of 20 times in 2002 (Cole, 2002). The average P/E ratio dropped to
about 16 times earnings in 2006 (Strupp, 2006). Further, large multinational
companies, especially companies in the pharmaceutical sector, are being squeezed by
two dual additional forces to diminish competitiveness. On one hand, many of their
branded “blockbuster’ products are coming off patent in the very near future (Kaitin,
2010). On the other, their pipelines of new products are not robust (Wechsler, 2011).
Thus the focus of the due diligence activities on regulatory documentation would
seem to reflect a particular interest in assessing the current state of the product line or
lines under development that might add strength to the acquiring company’s
portfolio (Higgins and Rodriguez, 2006). From a regulatory point of view, this
would include information about the presence and adequacy of regulatory
submissions that reflect the current state of maturity of the products under
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development, as well as evidence suggesting a failure to comply with regulatory or
quality requirements, thus compromising the value of the product being acquired.
If the primary objective of a due diligence exercise were to be the assessment
of performance state related to marketed and pipeline products, then the approaches
typically reported by respondents here, in which much is done through electronic
reading rooms and on-site paper evaluations, might make sense. These approaches
however, may not reflect a deliberate effort to focus solely on the performance state,
but rather a tendency for regulatory professionals to utilize those tools and practices
with which they are most familiar. Typically, regulatory and quality professionals
use audits as their primary tool to assess company compliance with regulations. The
due diligence activities that seem most emphasized both here and in the literature
summarized in chapter 2 suggest a due diligence approach very similar to a
compliance audit. Certainly the results of an audit-like approach would yield
valuable information. The questions, however, that could be posed are whether the
valuable information collected in this way is sufficiently comprehensive and whether
other aspects of the company’s regulatory structure and operation should be
evaluated as well.
Evaluating Organizational State
The survey responses accumulated here seem to point to a tendency to
emphasize paper over people, thus the taking the “human element” out of the
collected results. Most respondents suggested that little interaction occurred
between the audit team and company employees. The inability or failure to spend
66
time with company employees as part of the due diligence activities can result in an
incomplete picture of the state of the company. One area that can be particularly
difficult to understand is the organizational state of the company, and more
specifically of the regulatory, clinical and quality departments for which regulatory
representatives on the due diligence team are probably most concerned. The fact that
the human resources department of the acquiree was often not interviewed to assess
the company’s management philosophy, attrition or hierarchy suggests that many
acquisitions are operating with very little information about even the most basic
issues related to organization. More surprising perhaps were data suggesting that less
than one-third of due diligence teams interviewed lower and mid level management
about the company culture, senior management support, and perceptions on ethics.
Without such information it can be difficult to understand company structure and
decision-making patterns, to identify key thought leaders and subject-matter experts,
and to appreciate how much latitude to deploy resources is given to managers.
Further, it might be difficult to identify which employees are critical to the smooth
function of the organization and which employees might not add value. None of this
information has direct bearing on the products but it does have important
implications for the integration process that the acquiring and target companies must
undertake after the merger or acquisition has taken place. Many believe that analysis
of these “soft factors” has not reached the level of importance it should have in the
due diligence process (Pak, 2002; Harding and Rouse, 2007). The team that
conducts due diligence may not be the team that must harmonize the activities of the
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merged entities after the acquisition. Further the challenges inherent in merging
companies with very different structures and operational patterns may only become
apparent after the financial deal has closed and the companies have had some time to
implement change. Often the harmonization of the two entities is only later seen to
be unduly complicated because the acquiring company did not appreciate the depth
of organizational differences and the amount of effort and resources needed to
harmonize the policies and workteams of the changed organization (Harding and
Rouse, 2007). In this study about two-thirds of the respondents confined their
responses to a due diligence exercise that had been completed in the last 1-3 years, a
rather short space of time in which to assess how much the due diligence exercise
aided or handicapped the success of the acquisition in different domains, such as
organizational restructuring.
In the past, most due diligence exercises were focused on financial aspects of
company performance. Thus much has been written about ways to model and
predict expected financial performance and potential financial risks. (Sirower and
O’Byrne, 1998). However, despite the availability of many sophisticated models and
methods to evaluate financial expectations, predicted performance of the merged
company is typically much weaker than most companies had anticipated. For
example, an analysis of companies that had completed mergers between 1990 and
2000 and had time to evaluate the impact of those mergers typically lost rather than
gained market share by 3%-39% (Cole, 2002). Some of the reasons for failure have
been in retrospect assigned to the fact that organization structures were mismatched
68
in the two companies. For example, the acquirer may have a slow, consensus-driven
decision making process whereas the acquiree may have a more hierarchical, top-
down approach that emphasizes speed. In such as situation, acquirer executives will
want to keep the consensus-driven decision making process, but will need to
understand the acquiree’s more direct approach, when they try to select leaders who
will be able to deal with their consensus-driven decision making process after the
acquisition. Harding and Rouse (2007) suggest that executives must assess whether
the proposed structure envisioned for the new entity post-merger will be successful
given the acquiree’s organizational realities. The first requirement is to assess
whether the acquiree’s organizational structure is a coherent, functioning entity that
is able to make and execute decisions effectively. However, it is also important to
understand the specifics of the reporting structure, the number of levels of authority
between the top and bottom rungs of the organizational ladder, and the way that
authority is distributed between layers. The internal dynamics of the organization
must be also be assessed, identifying what processes the acquiree’s management uses
to make strategic and operating decisions (Harding and Rouse, 2007).
DeLor (2002) explains that understanding where company synergies lay is an
essential step toward building an effective decision-making platform for future
growth. The acquiring firm must have a solid knowledge base about the target
company that can be achieved best by conducting interviews with company
employees. Given that interviews with staff seem advantageous, the question can be
posed: Why does a company not do more interviews?
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There are several reasons why companies might shy away from interviews
during a due diligence exercise. Even experienced team members may not feel
sufficiently comfortable or confident to conduct such interviews. A due diligence
team must approach interactions with personnel employed by the target company
with caution. When a merger or acquisition is likely to involve cost reduction, it is
likely that the staffing structure will change, especially if the same job functions are
represented in both companies before the merger (Pak, 2002). Care must be taken to
manage the fears of employees regarding the changes that might result from the
merger or acquisition. Interactions can lead to unfounded rumors and decreased
morale, and result in an overall loss in productivity. Further if the valuable staff of a
target company becomes involved too early they may be “spooked” and begin to
search for jobs elsewhere, even if the acquisition does not go forward. The
employee response to a merger or acquisition and its effects is known as “merger
syndrome”. It relates to the changes in mood of the employees and resulting damage
to the atmosphere of the company before, during and after the transaction. Data has
shown that approximately 30% of the personnel regard an acquisition as positive,
while 20% have a negative view, leaving approximately 50% either neutral or unsure
(Pak, 2002).
Additionally, it can be difficult to know what information would be of value
to the subsequent integration team. Little research has been done to evaluate the
types of information that should be gathered with respect to the organizational state
of the company in general and regulatory/clinical/quality departments in particular.
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Thus it can be tempting for due diligence teams to avoid qualitative approaches to
due diligence, because of the challenges that such methods pose. However, these
types of exercises are critically important as the results of some well-publicized
mergers have shown. The merger between the US company, Upjohn, and Pharmacia
AB of Sweden, is a case that illustrates the issues that can arise for a failure to
consider organizational mismatch. The organizational cultures of the Pharmacia and
Upjohn were very different at the time that Upjohn was acquired in the mid 1990s.
The management culture of US Upjohn operated according to strict work rules, with
hierarchical and tightly managed teams, while the employees at Pharmacia were
accustomed to a more informal work environment, where managers had greater
latitude. Further, Pharmacia was at that time still coping with its own acquisition of
an Italian firm called Farmitalia, where employer-employee relationships were also
very different. Italian employees were accustomed to a strongly hierarchical
organization in which the lines between management and union were tightly drawn
and where employees expected more flexibility for family and holidays than either
US or Swedish employees were able to have. In fact, this merger has become an
often-used case study for the challenges of post-merger organizational
disappointment.
In the months and years following the merger unforeseen inefficiencies and
added costs began to undermine the potential synergies of bringing together two such
companies in the first place. At one level the problems amounted to things like
canceled meetings, new organization demands (such as monthly report writing), and
71
a general decline in staff morale. There were also unexpected difficulties integrating
the IT systems across the various parts of the merged organization. These and other
changes added an estimated $200 million to the predicted costs of the restructuring,
taking the total cost to $800 million (Crookall, 2008).
Evaluating Ethical State
The third reason to conduct due diligence was identified in chapter two as the
need to assess the ethics and credibility of the management team of the target
company under consideration as an acquisition target. The fact that respondents
varied so widely in their experiences with regard to the ethics and credibility of the
target company suggests that this is an area of some concern.
The importance for evaluating ethics of a company’s executive team and
employees is reflected in the unexpected consequences that have been seen in
previous examples of post-merger surprises. One recent case involves the
acquisition of Guidant by Boston Scientific Corporation. In this merger, the due
diligence activities failed to identify a number of failures to submit needed reports to
the regulatory authorities. The newly merged company was forced then to plead
guilty to two federal misdemeanor counts alleging that the company employees
failed to properly disclose changes made to some implantable heart devices. The
company admitted that Guidant had submitted false and misleading reports to the
FDA about one defibrillator model and failed to notify regulators about a safety
correction on another line of devices. The courts imposed a fine of $296 million,
which was at that time the largest criminal penalty ever assessed against a medical
72
device company. The assistant attorney general, head of the Justice Department’s
Civil Division wrote, “This successful prosecution serves as an important wake-up
call to all those who seek to withhold vital information about public health and
policy” (Forliti and Karnowski, 2010).
If a company is found to have a history of poor ethical practices or has poor
credibility, it calls into question the value of the information that might be given to
the due diligence team. Further it may presage the presence of problems that have
been hidden but can later emerge to damage the acquirer. Nevertheless, in this study,
it appeared to be the area of investigation where due diligence was often least
thorough. Further, over one-third of the respondents felt that the area of ethics was
the most difficult to explore.
What is the consequence of failing to detect ethical problems in a target
company? In a highly regulated industry such as the pharmaceutical or device
industry, problem products can threaten lives or seriously damage the health of
patients. Thus, the regulatory authorities have elaborate systems to detect adverse
events and to monitor the quality and integrity of products. As illustrated by the
Boston-Guidant case, failure to report problems has serious repercussions, ranging
from the expense of recalled product, to civil and criminal penalties, debarment, and
removal of product from market. Moreover, the presence of fraud or
misrepresentation has serious consequences when the company is sued by patients
who have been harmed by product or misled by labeling or promotional violations.
When ethical problems become apparent, a company will typically lose the lawsuits
73
and can be bankrupted by the very high monetary penalties that are incurred. No
acquiring company wants to inherit the problems that a small unethical company
might have initiated but hidden during the due diligence process.
The current study presumes that the acquisitions on which the respondents
report here are friendly in nature. There are particular problems if the acquisition is
being conducted as a hostile takeover. In such a situation, the acquiree does not wish
to be acquired and will not cooperate with the due diligence exercise at all. In such a
situation, the ability of a company to inspect regulatory documentation, that is
closely guarded by medical products companies, will be very difficult, and the only
option may be to obtain as much information as possible from informal sources, such
as off the record discussions with present or former employees, government
documents through freedom of information, or evaluation of publically available
databases such as clinicaltrials.gov. In such a situation due diligence will almost
certainly be incomplete, and companies take a substantial risk that no hidden
problems exist (Wiesman, 2011).
It is not clear whether all of the due diligence exercises on which this study is
based were friendly takeovers. In the past, hostile takeovers were relatively
infrequent perhaps because of the risk of acquisitions without full due diligence.
However, the diminishing pipelines in many large companies are making these
desperate companies increasingly willing to take on the risks associated with a
hostile takeover. Thus several recent acquisitions of a hostile nature have been seen.
For example, the takeover bid by Sanofi Aventis for Genzyme was initially
74
characterized as a hostile takeover (Ratner, 2010), but later the relationship thawed
and Sanofi had the opportunity to complete its due diligence. The presence of
regulatory and quality issues associated with Genzyme’s manufacturing appeared to
then be a central driver of the relatively low price offered and eventually accepted in
this acquisition (Cartwright, 2011). A few months later, the large Canadian
company, Valeant Pharmaceuticals International Inc., made a hostile takeover offer
to acquire Cephalon, by directly approaching the shareholders with their bid. This
offer followed numerous direct approaches to Valeant that had been rebuffed.
Michael Pearson, Valeant chief executive, told the Financial Times: “If we have a
chance to look at the books, there might be a little more on the table, but not
substantial [extra money]. If the shareholders don’t like it, we’ll move on. We will
not hang around for months.” (Jack, 2011).
In an analysis conducted for the Financial Times by Dealogic, for the first
half of the last decade, only one to three hostile or unsolicited bids each year could
be indentified in the pharmaceutical sector (Jack, 2011). In contrast, since 2006, the
practice of hostile takeovers has grown, with more than one third of all bids in 2011
being hostile or unsolicited bids, mostly driven by larger pharmaceutical companies
trying to sustain their financial health by acquiring rivals to secure new products.
The number of companies that are targets for acquisition has also grown after the
recession of the later 1990s, as smaller companies with little or no cash flow struggle
to find funding sources for new research to maintain their survival. One investment
banker noted “People have realized it’s cheaper to go hostile than friendly. You’re
75
better off doing it that way.” The approach may have logic to financial analysts.
However, given the discussion above, real risks exist. These risks include failure to
identify expensive ethical or legal problems, and missing an opportunity to develop a
more favorable negotiated arrangement, such as a reverse takeover (Jack, 2011).
Regulatory Due Diligence and Learning Theory
At the outset of this study we had hypothesized that learning theory might
provide interesting insights into the development of a successful due diligence audit.
The results of this study seem to support the importance of the dual dimensions of
learning theory, information gathering and experience accumulation, in guiding best
practices in regulatory due diligence. The survey responses confirmed our
expectation that most regulatory and quality experts view the information gathering
as critical but interpret it rather narrowly, as information about the state of
documented activities related to submissions, audits and similar activities. In
addition, respondents typically regarded their due diligence teams as experienced.
However, in this regard, the definition of “experienced” was not clear and this may
be an area in which more study could be helpful. The criteria that were used by
respondents to define "experienced" might vary. It could mean that the respondents
regard regulatory managers who have a record as successful auditors as
“experienced”, even though such individuals have never conducted due diligence
previously. Further, the fact that both multiple choice and text answers of some
respondents did not agree that their teams were sufficiently experienced suggests
76
substantial variability in the experience of due diligence experts in the regulatory
sphere.
The fact that a due diligence exercise was conducted largely as an
information gathering opportunity by experts in such activities does not mean that
learning has been successfully applied. Two facets of the due diligence exercise can
make it difficult to assure the evolution of best practices by learning from the
mistakes or limitations of previous due diligence experiences. First, the due
diligence teams may not be the groups that ultimately will have to harmonize the
policies and personnel of the merging companies. Thus it would be difficult for the
individuals involved in due diligence to “learn from their mistakes” and to identify
types of additional information that might be gathered to facilitate the whole process
of company integration, not just the successful transaction of an initial deal.
Learning requires that the consequences of an action be assessed fully and that the
feedback between action and outcome be clear. To do this there would have to be a
linkage between the due diligence and implementation teams.
Second, the consequences of an inadequate due diligence process performed
prior to the acquisition, especially in the area of regulatory and/or legal actions
resulting from ethical lapses, often take considerable time to become apparent. By
the time that problems do surface, the original members of the due diligence team
might no longer be with the same company and therefore no longer in a position to
appreciate the limitations of the due diligence exercise in identifying potential
problems.
77
Recommendations for Due Diligence
As earlier discussed, the literature on due diligence suggests that the due
diligence exercise is one of the most important opportunities to gain broad insight
into the performance and business practices of the new acquisition. The survey
results reported here suggest that regulatory due diligence practices now focus
primarily on the performance state of the company as viewed through
documentation, but often fail to probe sufficiently other aspects of the organization,
including the ethical and organizational state of the company. Expanding the audit
to explicitly include information gathering with respect to such elements as
personnel organization, decision-making styles, key personnel to be retained, and
evidence of ethical questions or misinformation, would provide information that later
will be important to going forward with an acquisition and setting its offered price.
Audits are commonly carried out using checklists. It seems reasonable to include
specific questions or points on such checklists regarding the ethics and organization
of the company. This would help to ensure that these important areas are not
neglected during the due diligence process. The regulatory part of the due diligence
exercise is perhaps best suited to detect issues of ethics and credibility, because
ethical concerns can sometimes be identified as improper actions captured in reports
to regulatory agencies and in internal company audits and complaints files.
However, such records are retrospective and only contain what the target company
wants to include. Thus it is important to go beyond the paper records if possible, to
talk to staff and others who have worked with the company. This could verify that
78
the impression gained through documentation is congruent with the discussions with
personnel. Often individuals who are currently working or have previously worked
with a company are happy to share their “war stories” with regard to poor ethical
practices, if they are asked directly and promised that the origin of the information
will not be disclosed.
A difficult but important element in gradually improving the expertise of the
due diligence process is the need to do post hoc, “lessons learned” evaluations of the
exercise. It would be interesting to consider in future research how best to capture
the lessons learned from the due diligence exercise not only in the immediate time
period after the deal has closed, but 12-24 months later, after the harmonization of
the companies has been underway for some time. In this way, problems that might
have been avoided or confronted proactively during the transitional phase could be
communicated to the due diligence team as part of the feedback to improve the
process in future. In large companies, it is not uncommon to have repeated
acquisitions over time, so that the ability to learn from mistakes or shortcomings can
be valuable in increasing the speed, usefulness and effectiveness of subsequent due
diligence exercises.
79
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85
APPENDIX A
LISTING OF DUE DILIGENCE ELEMENTS FROM DIFFERENT SOURCES
Audit Items Sources
Regulatory Affairs
Is facility registered? 1, 3, 4, 5, 6
Are all products listed? 1, 3
Are licenses/registrations current? 3, 5, 6, 7
Devices covered by 510(k) clearances or PMA approvals? 1, 2, 3
Have devices been significantly modified since clearance? 1, 2, 3
Are promotional materials consistent with 510(k) clearance or
PMA approval?
1, 2, 3
What were results of recent FDA Inspections? 1, 2, 3, 4, 7
Have any warning letters or untitled letters been received from
FDA?
1, 2, 3
Have all issues identified in past FDA audits been addressed and
resolved?
1, 3
Have there been any company or FDA recalls or field alerts? 1, 2, 3, 5, 6
Have any safety risks been identified? 3, 7
Do the data and regulatory correspondence support the indication
for which approval that was sought?
7
Are risks identified, prioritized and monitored? 2, 4
Are clinical trials reviewed by an Institutional Review Board
prior to initiation?
3
Are there any outstanding administrative actions - seizures,
detentions, injunctions?
3
Are the annual reports up to date? 3
Are study subjects providing informed consent? 1, 3, 7
Quality Assurance/Systems
Is the company properly incorporated with procedures for
involvement in potential litigation issues?
8, 9
Adequate controls over promotional material release? 1, 2, 4
Does seller possess the basic elements of QSR compliance? 1, 3, 6
86
Audit Items Sources
What does a review of complaints and medical device reporting
documents show?
1, 2, 3, 5
What does a review of corrective and preventive actions show? 1, 3, 4, 7
Are products properly validated? 1, 2, 5, 6
Is there documented employee training? 1, 3 , 4, 6
What do the seller's internal audits show? 1, 3, 4, 7
Is the vendor selection and qualification process (if required)
adequate?
2, 3, 6
Has the change control system properly evaluated product
modifications?
2, 3, 5
Do products comply with applicable labeling regulations? 2, 3, 7
Are production activities controlled? 2, 10
Are design control procedures being followed? 2, 3, 7
Is there a standard operating procedure for release of
investigational product to investigators?
3
Corporate/Legal/Financial
Do reports of independent accounts to the board of directors exist
for the past five years?
6, 8
Does seller own the 510(k) clearance or PMA approval? 1, 2
Is there correspondence with the FDA regarding any civil or
criminal penalties?
3
Are there accrued unpaid taxes? 6, 9
Were there any enforcement actions in the past five years? 3,
Are there agreements by the seller where it has served as a
guarantor for the obligations of 3rd parties?
8,
Do financial statements confirm to Generally Accepted
Accounting Principles (GAAP) for the past 5 years?
6, 8
Do records indicate that there is a possible exposure to
environmental liabilities?
6, 9
Are there annual (audited) balance sheets? 6, 8
Have credit and loan agreements been resolved without
limitations?
8, 9
87
Audit Items Sources
Are there unresolved Occupational Safety and Health
Administration (OSHA) claims?
6, 8
Are intangible assets valued and protected against potential
exposure to infringement claims?
6, 9
Do records address travel costs, time constraints of R&D and the
ability to track data sharing?
7

Sources
1. Gibbs, JN, Medical Device Link (2000)
2. Sall, B, Regulatory Aspects of Due Diligence, Medical Device Link (2008)
3. Schomisch, JW, Due Diligence: Assessing the Regulatory Risk, Regulatory
Affairs Focus (2002)
4. Buckley, D & Associates, Due Diligence: Obligations of the pharmaceutical
contract giver, Navigate GMP with DBA (2003)
5. Lajoux, AR, Elson, CM, Due Diligence Checklist, The Art of M&A Due
Diligence (2000)
6. Bruner, RF, Due Diligence, Applied Mergers & Acquisitions Workbook (2004)
7. Huml, RA, Role of the Regulatory Professional in Due Diligence, Introduction to
the due diligence process (2010)
8. Sherman, AJ, Hart, MA, Due Diligence, The Art of Due Diligence from A to Z
(2006)
9. Frankel, ME, Due Diligence, Mergers and Acquisitions Basics (2005)
*Denotes Years 2008-2010
88
APPENDIX B
SURVEY RESULTS USED FOR THE PRESENT STUDY; TEXT ANSWERS
INCLUDE EXACT WORDING AND GRAMMAR OF RESPONDENTS

1. Have you been involved with a due diligence exercise?

# Answer Response %
1 Acquirer

19 33%
2 Acquiree
8 14%
3
I have been in firms that were
both the acquirer and acquiree

30 53%
Total 57 100%

2. Please reflect on your experience with a single due diligence activity with which
you were involved. Were regulatory activities and documentation reviewed during
the due diligence process?

# Answer Response %
1 Yes
57 98%
2 No
1 2%
Total 58 100%

3. Were there areas of due diligence in which exploration was particularly
challenging?

Text Response (45 responses)
Yhe difference in general approach big company versus small
lack of regulatory precedent. marginal validation of analytical methods and
process
Ethics and off label activites
understanding the strategy of a particular NDA when only looking at documents. It
helped to have a face to face interview with the RA person responsible.
89
Seller was evasive, misleading and dishonest. RA submissions, FDA negotiations
and clin studies in process at time of visit.
When the product is made at a third party manufacturer it can be difficult to get
access to information.
Design and process validation.
Interpretation of regulations that were based upon company culture and policies,
more than factual arguments of what the regulations intent and purpose were.
Where information was withheld from the acquiree, and information not made
available for review. Ethics were called into question.
organization of documents
clinical - difficult to thoroughly assess cllinical results when only have clinical
reports and not access to raw data
concern about materials utilized to manufacture and test the product
no
The acquiring company did not have specific therapeutic area expertise so the due
diligence was more challenging for them because of this. They used some
consultants but it still made it more difficult.
FDA and other health authority unofficial communications.
Interpretation of Regulatory Agency interactions can be very different.
My activites associated with due diligence were strictly with the regulatory status
of current and pending applications. I was not with the group that was reviewing
cGMP status, qaulity audit results, ethics of key personnel or review of clinical
material/teports. The questioning regarding the regulatory status of applications
was not challenging as we were prepared for the line of questioning.
No
Compliance activities as the company was not doing it well.
There are sometimes challenges when foreign parties are involved due to a
language barrier, but things were handled well. In my opinion it would be better if
both parties would have an experienced language translator.
Clinical study results
no
I was involved only in the Regulatory exploration. It was as challenging as any
other regulatoyr actions or submissions.
90
Two areas were particularly challenge. First, personnel performing due diligence
assessments were of R & D and Clinical Research backgrounds only. Thus, they
were not well equipped to properly assess regulatory and quality issues. Second,
due to lack of ethics and credibility of some management personnel at the acquiree
firm, the acquirers were further hampered in gaining an accurate understanding of
the true level of compliance (or lack thereof) with regulations.
The time required to complete the due deligence.
When different explanations were given by different people for the same questions.
Risk and product performance
Manufacturing of certain types of components, such as needles, that were needed
as part of an injector.
This due diligence was to acquire a company for a product that was in the early
stage of clinical development and thus did not have a manufacturing history for
Quality Audits. We examined the validations and pre-clinical and early clinical
data carefully. The legal team looked into ethics of the company from legal
documents, but did not ask the regulatory team to explore this further. The
preclinical data was challenging becuase the company had discounted non-
responsive data and didn't understand why we wanted to review this data.
manufacturing
Drug master files owned by a third party
No
no
Cultural difference within North America was evident.
Incomplete documentation. Acquiree had just acquired another company and
institutional knowledge was lost.
While the audit of the manufacturing sites was a challenge from both the logistics
as well sa confidential nature, the audits of the clinical sites proved particularly
challenging due to a) some selected (major enrolling sites) had just been audited by
the Sponsor, b) the close working relationship between the Sponsor's Clinical
Dev/Ops and QA functions relative to confidentiality and the number of people and
amount of time involved at the clinical site, and c) certain "personalities" in the
Sponsor's Clinical Development group that were constantly defensive to start with
that there could not be any problems with the GCP at their sites (particularly of
Thought Leaders).
Key regulatory milestones (IND filings, CTA filings, formal/informal meetings,
NDA filings) are relatively straigtforward to track, as there are concrete "data" to
review. But, regulatory is a fuzzy "science," and tangible data do not tell the entire
story.
Making decisions without full access to company's documents
91
Proprietary or trademark information
It was difficult to follow the trail of compliance activities. Company was trying to
put best foot forward rather than providing documents openly. It was tough to
assess effectiveness of actions taken for lack of adequate documentation. The story
they told was not well supported by documentation.
NO
There was very little interaction between the due diligence team and our firm
The product was 15 years old. Much of the data was not easily accessible for
license changes post approval.
The diligence team really had no specific product area expertise and there were
many products with files dating back many years.
The key to due diligence is to focus on the company's weaknesses. Specifically as
they relate to product design and manufacturing process changes that stem from the
CAPA system, Design Controls or Changes Order process. You can also pick up
these weaknesses in Compliant system by following a complaint from start to
finish and see if the top complaints interact with the CAPA system (The
requirement in 21 CFR 820.198(e), records of investigation under this paragraph
shall include a determination of: (7) Any corrective action taken).

4. Do you feel that the due diligence team was composed of individuals with
sufficient breadth and/or experience?

# Answer Response %
1 Yes

42 74%
2 No
15 26%
Total 57 100%

5. If you feel that the team was not adequately broad or experienced, what could be
done better?

Text Response (26 responses)
Usually it was a reg person that may not have the breadth of experience and only
depth in one concentrated area. We had situations where 3 reg persons were
engaged one with clinical and one with CMC that made things easier.
Investigation was driven by business development. Should have been driven by
QA/RA and included adequate time for technical, QA, and RA to become familiar
with the product and current challenges.
92
I think the process needs to be defined well and people need to be trained in what
they are responsible for.
Due diligence team selection was based upon potential candidates and
promotibility of key personnel from the acquiring company in lieu of their specific
skill sets.
Even though there was sufficient breadth and experience, the overall activities
could be done better by allowing more time for the due diligence team to conduct
their evaluation.
understood basics but not depth of requirements and detail expected and would be
judged by investigators both domestic and international
Have more expertise on the team and ensure adequate understanding of the
material and possible areas that require more examination/review.
With respect to the regulatory status of current and pending applications I believe
the individuals were knowledgeable. The area where I believe not enough attention
was paid too was in the area of product development.
Identify your subject matter experts well in advance. Identify your weaknesses
ahead of the Due Dilligence and have your documentation organized and available.
Manage the DD well. Documentation should be readily available and well
organized. Check documents prior to bringing them in the DD room.
I felt the team was adequately experienced.
Include individuals who are well versed/experienced in the practical application of
quality principals and regulatory affairs as due diligence team members.
The regulatory and compliance aspects and resources need to be involved much
earlier in the business development and aquisition process to assure that there are
not significant challenges when commitments have already been made or the deal
is essentially complete and adequate due diligence has not been accomplished to
limit liability and risk.
More knowledge of clinical studies would be helpful.
We had a team of 8-9 persons from each area (Chemistry, Engineering, Regulatory,
Quality, Clinical, Legal)
Good team
N/A
While clinical and manufacturing were well represented, the regulatory team was
only partially represented (the regulatory rep phoned in and did not review any
document files that were availble) and the reg CMC person was very new to the
function, having spent most of the time on post-approval CMC areas (vs full
development/NDA activities). The regulatory function declined to review any
source documents stating that they "trusted" the Sponsor.
93
It is absolutely critical to have due diligence team members specifically familiar
with the therapeutic area of the company/product(s) that is(are) the subject of the
due diligence. This is often ensured for the clinical representative on due diligence
teams. But, this isn't always the case for the other functional members (e.g.
regulatory) of the team.
More time to learn about the product.
N/A
The team was composed of a submissions expert but not a compliance expert. The
submissions expert tried to gather information which was brought back to the
office for review by the compliance expert but it was not sufficient to draw well
founded conclusions and it was difficult assessing from a distance.
More hands-on staff, scientists, and engineers should have involved.
Due diligence iwas viewed as a legal activity not a quality audit. Big mistake!
More in-depth examination of quality assurance and regulatory affairs areas
The team could have been provided background materials on the product type,
competitor information, etc. A kick-off meeting to make sure everyone shared the
same knowledge base prior to starting the diligence review would be helpful.
The teams I have had interaction with had appropriate backgrounds in science and
or regulatory environment. Having the right combination of these areas are critical
in understanding the company’s technology and assessing the company’s
condition.

6. To the best of your knowledge, which areas were examined in most detail?

94

# Question
Examined
comprehensively
Examined
superficially
Not
examined Responses Mean
1
Regulatory actions
and submissions
43 14 0 57 1.25
6
Clinical materials/
reports
26 20 4 50 1.56
4
Quality audits and
assessments
25 19 6 50 1.62
2
Adverse event
reporting
18 25 5 48 1.73
3
Corrective and
preventive actions
17 23 9 49 1.84
5
Credibility/ ethics of
key personnel
9 18 18 45 2.20

Statistic
Regulatory
actions and
submissions
Adverse
event
reporting
Corrective
and
preventive
actions
Quality
audits and
assessments
Credibility/
ethics of
key
personnel
Clinical
materials/
reports
Min Value 1 1 1 1 1 1
Max Value 2 3 3 3 3 3
Mean 1.25 1.73 1.84 1.62 2.20 1.56
Variance 0.19 0.41 0.51 0.49 0.57 0.41
Standard
Deviation 0.43 0.64 0.72 0.70 0.76 0.64
Total
Responses 57 48 49 50 45 50

7. Do you feel the due diligence person/team had specific knowledge about your
product prior to the evaluation?

# Answer Response %
1 Yes

42 75%
2 No
14 25%
Total 56 100%
95
8. Were interviews performed with lower level, non-management employees to
assess their overall job satisfaction and views regarding company philosophy/
management style?

# Answer Response %
1 Yes

7 14%
2 No
43 86%
Total 50 100%

9. Did the due diligence include interview(s) with human resources regarding issues
such as attrition, management philosophy and company hierarchy?

# Answer Response %
1 Yes
18 42%
2 No

25 58%
Total 43 100%

10. Were low and middle level management personnel interviewed for their input on
company culture, ethical attitudes and overall support from senior management?

# Answer Response %
1 Yes
16 33%
2 No
33 67%
Total 49 100%

11. Were non-managers asked about quality and attitudes of management
personnel?

# Answer Response %
1 Yes
6 13%
2 No
42 88%
Total 48 100%
96
12. How would you rate the due diligence teams knowledge and experience
regarding "regulatory" due diligence?

# Answer
Min
Value
Max
Value
Average
Value
Standard
Deviation Responses
1
Click to
write Choice
16 100 70.12 20.47 58

13. If you were the acquirer, please rate the level of honesty you feel the acquiree
gave you during the due diligence process

# Answer
Min
Value
Max
Value
Average
Value
Standard
Deviation Responses
1
Click to write
Choice 1
0 95 66.16 24.45 43

14. Once the transaction was complete, did your feelings of trust and honesty:

# Answer Response %
1 Increase

12 22%
2 Decrease
15 27%
3 Stayed the same
28 51%
Total 55 100%

15. Can you provide your personal view on the amount of time that was lost in terms
of productivity because of the due diligence exercise?

Text Response (49 responses)
There was an inordinate of thime lost during the due dilligence activity.
3-5 days
50% of time spent on due diligience, but well worth the effort
30 FTE's for 3 months
at least 2 weeks of my time; plus 2 weeks of other broader team members
one week
10 business days
97
100's of hours
60 - 70%
Due Diligence exercises are part of the job description, so not always a loss in
productivity, per se. However, for this particular exercise, travel, meetings and
review accounted for approximately a month.
not significant. Time lost in preparing documentation for review.
from 2 working days up to two work weeks
Several weeks to months of productivity were lost in the due diligence process but
most of it was regained in product knowledge in the case that an acquisition was
made.
there are always things to discover once all the data have transferred and
development continues. there was a learning curve in manufacturing due to transfer
of technology
Much of the technology was controlled by two principles who tended to be overly
protective of details involved in the proceses and development until much time was
expended in the audit
Minimal time was lost. In this instance the product was not acquired but the due
diligence contributed to that negative decision which was ultimately the best
outcome. Note: responses above concerning interviewing with HR or different
managers about the company culture etc should really be NA for this instance of
due diligence as the product alone was being contemplated for acquisition, no
personnel.
During the due diligence exercise, there was a significant focus on the activities
and document collection/review. Of the personnel involved, at least 50% of their
total time was dedicated to the process.
several months of man effort and tens of thousands of dollars were spent evaluating
a techology internally that could have been done prior to acquisition
For the due diligence team (10 people) it took about 90% of their time for 3
months. for many others (100 people) 10-20% of their time for the same time plus
another 10-20% for the next year during integration.
I provided 100& of my time to prepare for the meetings as well as participate in the
meetings. The notice of the due diligence activties was short so I need to quickly
prepare for the meetings. Once staff became aware of the due dilignece activties,
staff wasted about 5% of their time in perpetuating rumors which was non
productive.
None. We invested 6 months in the process, but it was well worth the investment of
time.
1 week
98
100% of my time was always involved with DD. Preparation started prior to DD
The loss of productivity was an immense issue. We were a small company that was
totally innundated with personnel of all disciplines, on multiple occaisons. The
acquiring company sent due diligence teams from both the Corporate and the
division offices, causing redundant reviews. These were extremely time consuming
and, at times, frustrating. Some members of the due diligence team from the
division office were inexperienced and extremely 'aggressive". Generally speaking,
the Corporate representatives were more professional in their approach.
My company went through two due dilegences in the course of a year.....the first
involved an executive management buyout from a parent company and the second
was becoming acquired by a larger company. I was the second in charge in the
Regulatory-Clinical department. We spent an inordinant amount of time preparing
and providing documents and responding to questions for the due diligence
process, frequently at the expense of timely completion of FDA submissions. This
was followed in subsequent years by several more transfers in ownership...and I
believe this resulted in substantial depletion in company value and lack of new
product development.
I do not think any time was lost in terms of productivity because of the due
diligence exercise.
The loss of productivity was minimal since production operations were being
conducted on an infrequent basis due to lack of funding.
I participated as a regulatory consultant for the acquiree, so I gained time as far as
billing.
If the diligence exercise resulted in a good acquisition, then the time spent is worth
it. So far it's 50/50 for me.
I think Due Diligence saves time and cost. There is no loss. There is loss when
these activities are not done timely or with the appropriate personnel.
I feel due diligence is part of ensuring that a process is productive and that no time
is actually lost, but rather it is a gain.
None - because we gained a product that we could not have developed with
personnel within the company, so we gained quite a lot without loss to current
production.
did not fully understand all processes that were evaluated during due diligence;
post-acquisition learning curve took extra time
Because the transaction involved documents in a foreign language and personnel
with limited English speaking skills, there was a considerable amount of non-
productive (translation) time.
My time lost was about 16 hours.
Its very time consuing, but worthwhile.
99
We used a due diligence team that is assigned to a project and not any other work
so no loss of productivity from the buyer.
Significant amount of senior management time was used.
When I was (am) involved with due diligence projects, that was what I productivity
was.
Due to new SEC regulations regarding M&A activities, particularly with public
traded companies, there is a sensitivity as to limiting knowledge of the M&A
activity to officers of the company and possible a select few other top executives
that need to provide specific info (i.e. biostats). Those people are essentially
locked out of any stock transaction through out the M&A activitiy, which can go
on for a year or more. The amount of time that is spent on the aquired side is
significant (i.e. 50%) as data must be collected, meetings held with the various
interested parties off site, trips must be taken to accompany site visits . . all of
which requires many, many after hours work be done, especially with regards to
providing written answers to queries from the various M&A Due Diligence suitors.
Due dilligence requires a lot of time as there is the preparation before you go,
reserching the company, the class of products and/or similiar products, guideances
regarding the class or specific product; then there is the due dilligence which is
usually 2 to 3 days; finally there is the analysis of the opportunity, team
discussions, preparation of reprot and final recommendations.
I don't feel anytime was lost in evaluating a potential acquisition that could
ultimately be advantageous for the company (acquirer)
It did not consume an unreasonable amount of timne for the acquiring company. It
seems to consume a great deal of time for the company being acquired in that they
were preping just like you would for an FDA inspection. I think we could have
spent more time up front and saved ourselves some time on the back end by better
understanding the problems we were actually buying and haveing a more realistic
view of what it would take to resolve the problems. We severely underestimated
the costs to bring the acquisition up to the level expected by the Corporation.
my involvement was only a couple of days to support my boss in this acquisition.
Mostly a baby-sitting job for a key senior employee and not always a person with
regulatory knowledge.
About one week
Minimal impact to most of the site. Greatest impact was to a few upper managers.
This was alnmost all consuming for approximately a week and less consuming for
several weeks after that.
years
Maybe 2 days.
100
16. Do you feel that the due diligence exercise was successful?

# Answer Response %
1 very successful

19 33%
2 somewhat successful
33 58%
3 somewhat unsuccessful

3 5%
4 very unsuccessful
2 4%
Total 57 100%

17. In your OPINION, was success or failure of the acquisition linked to the
effectiveness of the due diligence process?

# Answer Response %
1 yes
36 73%
2 no
11 22%
4 comments?

9 18%

Comments?
we found problems that were ignored
the product was evaluated thoroughly but lended itself to quality problems
when i say 'succesful, i mean as good as i believe it could have gone. having been
through several the aquiree NEVER wants to be aquired, so there will always be
challenges.
We paid too much.
Financial Reasons.
helped to develop a good working relationship with company that was acquired
Strong cultural and language problems. Additionally, the acquiree had recently
acquired another company and many people with institutional knowledge lost. Not
sufficient time allowed to absorb information.
Somewhat. See response above - we had an unrealistic view as to what it would
take to be successful with the acquisition.
I think the acquisition was problematic in many ways - a change in the diligence
process might have made it more 'eyes open' as to what some of the integration
challenges would be.
101
18. Was your company the acquirer or the acquiree?

# Answer Response %
1 Acquirer

27 48%
2 Acquiree
11 20%
3
I have been in firms that were both
the acquirer and acquiree

18 32%
Total 56 100%

19. In what years did your most recent due diligence activity take place?

# Answer Response %
1 2008-2010

36 64%
2 2005-2007
8 14%
3 2000-2004
6 11%
4 1995-1999

6 11%
Total 56 100%

20. In your most recent due diligence experience was the acquiree:

102

# Question Yes Responses Mean
1
A start up company with intellectual
property but no products on the market?
22 22 1.00
2
A start up company with less than $5 million
in sales per year?
11 11 1.00
3
A small to medium company with less than
$500 million in sales per year?
13 13 1.00
4
A large company with more than $500
million in sales per year?
13 13 1.00

21. Was the most recent transaction a merger between two companies of similar size
or an acquisition of a smaller company?

# Answer Response %
1 Merger
1 2%
2 Acquisition
52 98%
Total 53 100%

22. Were the due diligence activities performed using

# Answer Response %
1 electronic file transfer or e-rooms

1 2%
2 site visits
14 25%
3 A combination of both

41 73%
Total 56 100%
103
23. Were the due diligence activities performed by company employees or
"outsourced"?

# Answer Response %
1 Company employees
38 68%
2 Outsourced

3 5%
3 A combination of both
15 27%
Total 56 100%

24. Did the due diligence process during this single experience cover adequately the
full scope of the regulatory activities at the time of the merger/acquisition?

# Question
Definitely
yes
Probably
yes Maybe
Probably
not
Definitely
not Responses Mean
1
Due
diligence
was
sufficiently
thorough
15 26 6 7 3 57 2.25
104
25. What was the primary reason for the merger/acquisition?

# Answer Response %
1 Increase market share

17 35%
2
Leverage research and development
costs

2 4%
3 Gain access to distribution channels

4 8%
4 Obtain intellectual property

26 53%
Total 49 100%

26. Was senior management from Regulatory/Quality involved in the due diligence
process?

# Answer Response %
1 Yes
49 89%
2 No
6 11%
Total 55 100%

27. Approximately how long did the due diligence activities take?

# Answer Response %
1 0-3 months

17 34%
2 3-6 months

23 46%
3 6 months to 12 months

8 16%
4 greater than 12 months

2 4%
Total 50 100%

Abstract (if available)

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Asset Metadata

Creator Bain, Susan (author)

Core Title “Regulatory” due diligence: a survey investigation of best practices in the medical products industry

School School of Pharmacy

Degree Doctor of Regulatory Science

Degree Program Regulatory Science

Publication Date 07/22/2011

Defense Date 07/22/2011

Publisher University of Southern California (original), University of Southern California. Libraries (digital)

Tag due diligence,OAI-PMH Harvest,pharmaceutical due diligence,regulatory due diligence

Language English

Contributor Electronically uploaded by the author (provenance)

Advisor Alkana, Ronald L. (committee chair), Richmond, Frances (committee chair), Clemens, Roger (committee member), Loeb, Gerald E. (committee member)

Creator Email skb5555@aol.com,susan.bain@usc.edu

Permanent Link (DOI) https://doi.org/10.25549/usctheses-c127-641660

Unique identifier UC1375695

Identifier usctheses-c127-641660 (legacy record id)

Legacy Identifier etd-BainSusan-154-0.pdf

Dmrecord 641660

Document Type Dissertation

Rights Bain, Susan

Type texts

Source University of Southern California (contributing entity), University of Southern California Dissertations and Theses (collection)

Access Conditions The author retains rights to his/her dissertation, thesis or other graduate work according to U.S. copyright law. Electronic access is being provided by the USC Libraries in agreement with the a...

Repository Name University of Southern California Digital Library

Repository Location USC Digital Library, University of Southern California, University Park Campus MC 2810, 3434 South Grand Avenue, 2nd Floor, Los Angeles, California 90089-2810, USA

Repository Email cisadmin@lib.usc.edu