Genzyme Corp. chief executive Henri A. Termeer's conference call with Wall Street on May 8, 2003, quickly turned ugly. Analysts peppered him with questions about the Cambridge biotech company's plan to buy back shares of its biosurgery division. The price, they said, was far too low.
"This is unfair to the biosurgery shareholders," said an analyst from Fahnestock & Co.
At least one Genzyme executive shared that opinion. Just a few hours before the call, Earl "Duke" Collier Jr., head of the company's biosurgery division, told Genzyme's board of directors that the division could be worth from $12.75 a share to $75 a share. But board members decided to pay only $1.77 apiece and, because of the way the division had been set up, shareholders were helpless to stop them.
When one analyst called the transaction "highly suspicious," Termeer bristled. "Genzyme is a $9 billion corporation, and we're not going to play around with that kind of nonsense," he said.
The conference call was the culmination of a secret two-year endeavor known internally as Project Eleanor, in which the company planned to buy the biosurgery shares at a bargain price, according to court records and company documents that Genzyme unsealed after the Globe asked a federal judge to lift a secrecy order.
Like many large biotech firms, Genzyme has built its success as much by acquiring businesses and clever financing as by developing new drugs. The biosurgery division was a typical Genzyme creation.
The company set up Genzyme Biosurgery in December 2000 when it bought Biomatrix Inc., a New Jersey company. The attraction was Synvisc, a promising material that could be injected into arthritic knees to ease pain. Genzyme used tracking shares in the new division to pay for most of the transaction, worth about $860 million, according to a shareholders' lawsuit filed three weeks after the conference call and substantially revised in December 2005.
The suit alleged Biosurgery shareholders did not get anything close to a fair price. In court papers, the shareholders also claimed Genzyme made the decision to buy back the shares long before the May 8 announcement, but waited until just the right time to get them "on the cheap."
Last month, days before the case was to go to trial in New York City, Genzyme agreed to pay $64 million to settle the case. It said the elimination of the tracking stock "was done in accordance with the terms of the company's charter, and to the long-term benefit of its shareholders."
Jonathan Sherman of Boies, Schiller & Flexner LLP, the lead lawyer for former Genzyme Biosurgery shareholders, declined to comment on the dispute.
Dan Quinn, a Genzyme spokesman, said the company worked hard to boost the value of Biosurgery shares prior to buying them. "No one was more frustrated than we were that the stock price for Biosurgery wasn't higher," he said.
At the outset, the appeal for shareholders of Genzyme Biosurgery was that Synvisc and the division's other products had enormous growth potential that would allow the stock to rise faster than shares of Genzyme. Aside from the normal risks of owning stock, there was an additional one: Genzyme could at any time buy the tracking shares and absorb the division into the parent. The price was supposed to reflect the division's fair market value, but Genzyme had the right to choose the timing for the purchase.
Within six months of the acquisition, Genzyme soured on the arrangement. Company officials asked their investment bankers how to eliminate Biosurgery stock. A Feb. 27, 2002, Genzyme report on Project Eleanor described a timeline for buying the shares the following year.
"We are working towards reabsorbing" Genzyme Biosurgery, Peter Wirth, Genzyme's top lawyer, told Termeer in March 2002, an outline of the meeting said.
That August, Genzyme executives held a dinner discussion about the tracking stocks entitled "Where Do We Go From Here?" The conclusion, according to company briefing materials, was that the biosurgery tracking stock had been a flop. Small biotech stocks were out of favor on Wall Street, and the tracking shares were not worth enough to finance acquisitions. Moreover, after corporate accounting scandals at Enron and Tyco, investors thought complex corporate structures such as tracking stocks were risky, according to a company document. The recommendation, according to the report, was to fold the biosurgery division into the parent corporation.
But how quickly? The corporate charter said the parent firm could buy the tracking stock at any time, using cash or its own stock. The price would be the average of Genzyme Biosurgery's closing price over 20 trading days, plus a 30 percent premium. Genzyme preferred to use its stock rather than cash. But its stock had dropped by two-thirds between January and June of 2002 because of poor sales of the company's dialysis drug, Renagel. That meant Genzyme would have to use more of its own shares, making the deal more expensive.
Internally, Genzyme expected sales to improve, and its stock to bounce back. The company decided to wait, keeping Genzyme Biosurgery intact until that happened.
When the board met Oct. 3, 2002, directors discussed in detail eliminating Genzyme Biosurgery. Based on a company estimate, the division could be "rolled up" for only 60 percent of what Genzyme actually thought Biosurgery was worth. Shareholders would get $3.55 a share. Directors also discussed steps to protect themselves from lawsuits that might result from the buyback.
But Genzyme did not act immediately. Instead, according to shareholders' allegations, Genzyme tried to drive down the price of Biosurgery shares, to make the acquisition even cheaper.
For instance, Genzyme disclosed bad news about the Biosurgery division while withholding good news.
In early 2003, Genzyme made public that the US distributor of Synvisc was lowering inventory levels - a sign of poor sales. The result was that Genzyme Biosurgery shares dropped to a record low, $1.17 a share. But according to the complaint, Genzyme had known about the inventory reduction since 2001.
Quinn, Genzyme's spokesman, said the company knew the distributor, Wyeth, was trying to reduce its inventory prior to the disclosure. "We were trying to delay [the inventory reduction] for as long as possible and hoped we could avoid it entirely, particularly if sales rose to a point where it wouldn't be necessary," he said. "Ultimately, it was Wyeth's decision."
Shareholders alleged that Genzyme also withheld information about a business within the biosurgery division that makes cardiothoracic surgical instruments. The division tried to sell the money-losing unit but the deal fell through in the summer 2002. In December 2002, Genzyme restarted the sales process, hiring J.P. Morgan Securities Inc. to identify prospective buyers. By March 2003, J.P. Morgan was guiding a group of prospective buyers through final steps prior to soliciting formal offers.
Genzyme kept secret its renewed effort to sell the instrument business. That news, shareholders claim, could have sent Genzyme Biosurgery shares up sharply, because the division would have immediately become profitable upon sale of the division. But Termeer did not tell shareholders until the May 8 conference call. It was too late: The price for the share buyback had already been set.
Genzyme also kept secret news that the Food and Drug Administration had given Biosurgery approval to conduct clinical trials on Synvisc's use in hip joints.
Quinn said Genzyme made "all appropriate disclosures" regarding both developments. In particular, he said, the company's policy is not to disclose clinical trials until physicians begin giving doses to patients. That policy also applied to the Biosurgery division, he said, even though the start of the hip trial potentially might have had a major impact on prospects for the division.
At a Feb. 27, 2003, meeting, Genzyme directors took a final look at the mechanics of the Biosurgery buyback. Once again, directors examined ways to minimize their legal exposure. They called for an outside valuation on the exchange price - known as a fairness opinion - to provide "additional comfort" in the event of legal action disputing the deal.
A committee of directors was appointed to finalize the buyback. Termeer did not serve on the committee to preclude a conflict of interest because of his overlapping roles at Genzyme and the Biosurgery division. The committee met once, for 40 minutes, on March 13, and decided to hire an outside financial adviser to provide the fairness opinion, and to present its final recommendation to the full board on May 8. It was at that meeting that Collier said Genzyme Biosurgery was worth as much as $75 a share.
The outside firm, Houlihan Lokey Howard & Zukin Capital, concluded that Biosurgery shares were worth $1.31 to $2.54. The purchase price of $1.77 was comfortably in that range. In court papers, shareholders characterized the report as a "sham" that used arbitrary methodology to arrive at a predetermined price and provide cover for Genzyme's bargain price. A Houlihan Lokey spokeswoman declined to comment on the shareholders' allegations.
In legal filings, Genzyme disputes the shareholders' interpretation of the events leading up to the buyback. For instance, it said it did not control the timing of the sale of the surgical instrument business, which was handled by a consultant who had no interest in Genzyme Biosurgery. Genzyme said there was no scheme to buy the Biosurgery shares for less than their true value, and that all material events - news that could have an impact on the price of the stock - was properly disclosed.
On the conference call with investors, Wirth, the general counsel, did not explain that Genzyme had been laying the groundwork for buying back the tracking stock for more than two years. He told investors the company "really didn't know" that it would eliminate the Biosurgery division until the special committee of the board met March 13.
During his meeting with the board of directors just prior to the call, Collier, the division chief, made some predictions. He said Genzyme Biosurgery shares, if allowed to trade, would "appreciate significantly over [the] next eight to 12 months as [the] business turns profitable," according to a PowerPoint presentation. And investor reaction to the elimination of their shares, he predicted, would be "negative."
Jeffrey Krasner can be reached at firstname.lastname@example.org.