Enforcement Trends

Silicon Valley Becomes Epicenter of Lab Investment Scams

On paper, the Silicon Valley venture capital and innovation that have lifted so many other industries seem like the perfect elixir for medical labs. Perhaps one day it will prove to be just that. But so far at least, things haven’t gone well. Instead of driving game-changing diagnostic innovation, the infusion of Silicon Valley can-do into the lab sector has yielded mostly massive Wall Street scandals.

Stanford dropout Elizabeth Holmes has become the literal face of the beauty and perversion of the Silicon Valley-ization of lab diagnostics. The Steve Jobs-wannabe who appeared on the cover of Forbes magazine and became a media sensation transcending the white coat world of the testing lab with a breathtaking new modality capable of performing a full menu of rapid tests from a single drop of blood. But, alas, Ms. Holmes and her startup, Theranos, turned out to be smoke and mirrors.


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Unfortunately, by the time it became clear that the technology didn’t support the vision, investors from across the nation, including not only notable wealthy backers but also retirement funds supporting many from middle class America, had made Theranos a $9 billion company. What can’t be calculated is the medical harm inflicted on the patients who were diagnosed based on results from tests performed with Theranos technology.

Ms. Holmes is still awaiting criminal trial on wire fraud, investment fraud and other charges, with pregnancy being the source of the latest delay. Odds are that the Theranos feature film will appear on movie screens before Ms. Holmes appears in the defendant’s docket.

The Theranos Formula

In retrospect, the Theranos fraud seems so obvious. So, how were Ms. Holmes and her partner Ramesh “Sunny” Balwani able to rise so quickly to stardom? According to John Carreyou, The Wall Street Journal writer who broke the story and subsequently turned it into the Pulitzer prize-winning book Bad Blood: Secrets and Lies in a Silicon Valley Startup, what made the scandal not only possible but predictable was the Silicon Valley culture of “faking it until you make it.” It’s a culture where hype and overpromise win funding and it’s okay to go to market with a buggy product, as long as you get to market quickly.

The formula worked for Steve Jobs and Apple Computer. And Holmes and Balwani felt it would work for Theranos. The problem, of course, is that laboratory diagnostics isn’t the same as consumer electronics. “Iterating and debugging once you are already commercial may be okay in the world of computer hardware and software, but that way doesn’t transfer well to medicine,” Carreyrou told G2 Intelligence in an interview.

The “Formula” Plays Out during COVID-19

Sure enough, the Theranos scandal would prove to be only the first in a pattern of scandals generated by the wedding of diagnostics and the Silicon Valley “formula.” Only, this time there would be a new twist: COVID-19. Tests that detect the SARS-CoV-2 virus don’t command high reimbursement. Even so, the global pandemic has created the desperate demand for breakthrough COVID-19 diagnostics. Thus, the seeds were sown for Theranos-type Wall Street scandals involving bloated claims about the capabilities of COVID-19 tests to lure investors.

Sure enough, in June 2020, another executive of a publicly traded Silicon Valley medical tech firm was charged with swindling investors and insurers by misrepresenting the diagnostic capabilities of a SARS-CoV-2 test using finger stick blood collection. The defendant is Mark Schena, president of Sunnyvale, California-based Arrayit. According to a criminal complaint filed by the U.S. Department of Justice (DOJ), Arrayit sought to cash in on the COVID-19 pandemic to sell more of its high-reimbursing allergy tests. Starting in March, Schena and colleagues distributed marketing emails claiming that the company’s unapproved blood test based on finger prick technology, was capable of rapid novel coronavirus detection when used in combination with the allergies test kit.

However, the DOJ claims that the test didn’t exist. It was only on the day that the emails were sent that Schena actually ordered the COVID-19 antigens. The company later developed and self-validated the test and submitted it the FDA for emergency use authorization (EUA). But the agency denied EUA clearance after finding the test’s performance wanting.

Of course, none of this was known to investors. Nor did investors know that Arrayit was actually broke. All they heard were the company’s claims that it was generating millions of dollars in billings for a rapid COVID-19 detection test. Thinking they had spotted a pearl in a pandemic, investors caused Arrayit’s stock price to double—albeit it remained a low-priced penny stock. The federal Securities and Exchange Commission (SEC) suspended trading for the stock for two weeks in April 2020.

On June 9, the DOJ dropped the hammer charging Schena with criminal securities fraud and conspiracy to commit healthcare fraud by transmitting email communications and marketing materials that misrepresented Arrayit’s ability to provide accurate, fast, reliable and cheap COVID-19 tests in compliance with applicable regulations and instructing its patient recruiters and medical clinics to add on or bundle Arrayit’s much more lucrative allergy test with its COVID-19 test regardless of medical necessity.

uBiome Becomes the Most Recent Theranos

The next scandal was revealed in March 2021, when federal prosecutors filed criminal charges against the co-founders of a San Francisco biotechnology start-up firm for defrauding investors by making bloated claims about a revolutionary diagnostics product. This time the role of Theranos was played by uBiome Inc, a business created in 2012 to develop and commercialize tests to detect microbiomes in the gut and other parts of the body. uBiome’s Gut Explorer, Smart Gut and SmartJane were sold in mail-order kits that patients could use to collect samples from home, complete surveys and get results online in a few weeks. According to prosecutors, uBiome’s co-founders Zachary Apte and Jessica Richman were able to raise over $76 million in a pair of fundraising rounds by misleading investors about the firm’s revenue growth and ability to secure coverage from payors even though many tests weren’t clinically validated or medically necessary. uBiome filed for bankruptcy in 2019.

Acting U.S. Attorney Stephanie Hinds is in charge of the criminal prosecution. If the name sounds familiar, it may be because Ms. Hinds’ office is also prosecuting Elizabeth Holmes and Theranos. “The innovation that emerges from our Bay Area companies is unparalleled,” noted Ms. Hinds, “but all innovation must exist within the boundaries of the law. In addition to the criminal charges, Apte and Richman have been hit with civil charges of stock fraud from the Securities Exchange Commission (SEC).

Takeaway

The Silicon Valley playbook is “ill-suited” to health care, Carreyou warns. “Increasingly medical technology and the traditional Silicon Valley are going to converge,” he told G2. “It’s inevitable that convergence will accelerate and the people involved in that convergence need to adjust their behavior for anything that touches medicine, where ultimately the product affects people’s lives.”


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