By Lenny Bernstein and Scott Higham

The Washington Post

To combat an escalating opioid epidemic, the Drug Enforcement Administration trained its sights in 2011 on Mallinckrodt Pharmaceuticals, one of the nation’s largest manufacturers of the highly addictive generic painkiller oxycodone.

It was the first time the DEA had targeted a manufacturer of opioids for alleged violations of laws designed to prevent diversion of legal narcotics to the black market. And it would become the largest prescription-drug case the agency has pursued.

Ultimately, the DEA and federal prosecutors would contend the company ignored its responsibility to report suspicious orders as 500 million of its pills ended up in Florida between 2008 and 2012 — 66 percent of all oxycodone sold in the state. Government investigators alleged in internal documents that the company’s lack of due diligence could have resulted in nearly 44,000 federal violations and exposed it to $2.3 billion in fines, according to confidential government records and emails obtained by The Washington Post.

But six years later, after four investigations that spanned five states, the government has taken no legal action against Mallinckrodt. Instead, the company has reached a tentative settlement with federal prosecutors, according to sources familiar with the discussions. Under the proposal, which remains confidential, Mallinckrodt would agree to pay a $35 million fine and admit no wrongdoing.

“Mallinckrodt’s response was that ‘everyone knew what was going on in Florida but they had no duty to report it,’” according to an internal summary of the case prepared by federal prosecutors and obtained by the Post.

The case shows how difficult it is for the government to hold a drug manufacturer responsible for the damage done by its product. DEA investigators appalled by rising overdose deaths said they worked for years to build the biggest case of their careers only to watch it falter on uncertain legal territory and in the face of stiff resistance from the company.

“They just weren’t taking this seriously, and people were dying,” said a former law enforcement official who spoke on the condition of anonymity because the case is pending. “People were dying all over the place. It wasn’t their kids, their wives, their husbands, their brothers. It was some hillbilly in central Florida, so who cares?”

In a statement, a Mallinckrodt spokesman said the company has worked hard to fight drug diversion.

“Mallinckrodt has long been a recognized leader in developing and sharing best practices related to the prevention of opioid diversion and misuse, and has continuously invested significant resources to address this serious drug epidemic,” the statement said. “We are proud of the programs and initiatives we’ve developed to ensure appropriate use of pain medication and, most importantly, to deter such medications from ending up in the wrong hands.”

Officials at the DEA declined to comment for this article. The U.S. attorney’s office in Detroit, which is handling the case, issued a statement. “Our office works diligently to use all the legal tools available to us to hold corporations responsible for their actions,” acting U.S. attorney Daniel Lemisch said. “This is particularly true in a highly regulated industry such as the manufacture of opioids. As this case is still in settlement negotiations, we cannot comment on the specifics of the matter.”

Under federal law and DEA policy, pharmaceutical companies such as Mallinckrodt are required to “know their customers” and monitor the pattern, frequency and amounts of drug orders. When suspicious orders occur, companies must immediately notify the agency or risk losing their DEA licenses to sell or manufacture controlled substances, as well as face civil and criminal penalties.

According to the documents and sources familiar with the settlement talks, Mallinckrodt was willing to acknowledge its responsibility to report suspiciously large orders placed by its customers, a network of wholesale distributors. But the company said it should not be held responsible for what happens to its drugs once the distributors send them to their customers, such as doctors and pharmacies. Mallinckrodt contended that the DEA has never required manufacturers to know their customers’ customers and that the agency provided the company with conflicting advice about its responsibilities under the law.

“Mallinckrodt took unprecedented steps beyond the legal obligations of a manufacturer. Mallinckrodt began monitoring downstream sales between wholesalers and pharmacies, and proactively informed both its customers and the DEA of its findings,” said Brien O’Connor, a lawyer for the company. “The company continues to enhance its anti-diversion programs to this day.”

The proposed $35 million settlement comes as the nation’s prescription opioid epidemic continues to worsen, with nearly 180,000 lives lost to overdoses since 2000.

The Post reported in October that the DEA’s civil and administrative enforcement efforts against the mammoth wholesale distributors that deliver painkillers to pharmacies stalled in the face of a stepped-up lobbying campaign by the drug industry.

The Mallinckrodt case was something different: an aggressive attempt to hold a drug manufacturer accountable.

Mallinckrodt was founded 150 years ago in St. Louis and became the leading supplier of chemicals for the emerging photography industry. Now based in the United Kingdom after corporate acquisitions, Mallinckrodt is one of the nation’s largest manufacturers of oxycodone, a powerful opioid made from the natural painkiller found in poppies.

“When you get to the manufacturing level, it’s hard to prove that they knew what was happening,” another law enforcement official familiar with the investigation said. “But they were making the product, they were selling it to the country’s largest distributors, and they had a responsibility under the law to detect and report orders that were suspicious. These orders were beyond suspicious.”

The investigation begins

The first hint that Mallinckrodt might pose a problem for the DEA came not from Florida but from Tennessee.

On July 7, 2009, members of a Tennessee drug task force in a sting operation seized several 100-tablet bottles of Mallinckrodt-made oxycodone. Task force agents alerted Mallinckrodt. The company’s lot numbers were printed on the labels, allowing for easy tracking of the pills.

Three days later, Mallinckrodt responded that the oxycodone had been prescribed by Barry Schultz, a doctor who ran a medical clinic in Delray Beach, Florida. The company said that one of its distributors, Sunrise Wholesale of Broward County, Florida, had sent 20,400 tablets of oxycodone to Schultz in the previous year.

The Florida Department of Health had just issued an administrative complaint against Schultz for prescribing oxycodone outside “the course of his professional practice.” His medical office had become a thoroughfare for those seeking easy access to drugs, records show.

On July 27, a Mallinckrodt security director told DEA Supervisor Paul “Pete” Kleissle in St. Louis about the Tennessee connection. Kleissle recommended that Mallinckrodt conduct an audit of Sunrise and the company agreed, government documents show.

The investigation seemed to stall there, but the events in Tennessee would later prove significant.

At the time, the DEA’s Diversion Control Division was ramping up enforcement efforts against the nation’s wholesale drug distributors — including Sunrise — warning them and drug manufacturers that they would be held accountable if they failed to report suspicious orders. Under the DEA’s “distributor initiative,” the agency had begun to make cases against large and small wholesalers.

In 2010 and 2011, DEA investigators in several states started to see large amounts of Mallinckrodt’s oxycodone being sent to Florida.

By then, Mallinckrodt’s blue 30-milligram oxycodone tablets had become so popular among drug users and dealers that they had a street name — “M’s,” for the company’s distinctive block-letter logo.

Florida’s lax laws, dishonest doctors and unscrupulous pharmacists had turned the state into ground zero for the nation’s prescription opioid crisis.

One distributor that caught the attention of the DEA for sending drugs to Florida was KeySource Medical, a regional company based in Cincinnati. In 2010, it sent 41 million tablets of Mallinckrodt-made oxycodone to Florida, documents show. That was nearly 2.5 pills for every man, woman and child in the state.

The DEA accused KeySource in June 2011 of trying to conceal the amounts of drugs it was shipping by splitting its orders and told the company to halt its oxycodone shipments.

Mallinckrodt’s oxycodone cropped up again when the DEA looked at one of the nation’s three largest drug distributors, Cardinal Health, which was sending vast quantities to four pharmacies in Florida.

The DEA had seen enough.

On Aug. 23, 2011, DEA supervisors met with Mallinckrodt executives at the agency’s headquarters in Arlington, Virginia, the day a rare 5.8-magnitude earthquake hit the Washington, D.C., region. People involved in the case still call the gathering “the earthquake meeting.”

DEA officials showed the company the remarkable amounts of its oxycodone going to distributors and the number of arrests being made for oxycodone possession and distribution on the street, according to one participant in the meeting who also spoke on the condition of anonymity because the case is pending.

“There were a lot of follow-ups, and they said they would adjust their practices,” the participant said.

The next day, the DEA’s chief regulatory officer wrote to the agency’s investigators and a federal prosecutor assigned to the case, Leslie Wizner, an assistant U.S. attorney in Detroit.

“I think we can all agree that yesterday’s meeting was an eye opener for the company, and very successful, on so many levels, from DEA’s perspective,” Barbara Boockholdt wrote in an email obtained by the Post. She noted that there were “pending and proposed investigations” of Mallinckrodt.

Boockholdt declined to comment. Wizner did not return calls requesting an interview.

Three weeks after the Aug. 23 meeting, Mallinckrodt notified 43 of its distributors that they would no longer receive rebates from the company if they continued to supply certain pharmacies whose orders appeared to be suspicious.

But by then, the DEA and federal prosecutors had decided to take the investigation of the company to another level.

On Nov. 30, 2011, the DEA served a subpoena on Mallinckrodt, demanding documents related to its suspicious-order-monitoring program, according to the company’s filings with the Securities and Exchange Commission.

Confidence grows

The subpoena brought a windfall of information. The DEA gained access to data from Mallinckrodt’s rebate or “chargeback” program, an industry-wide practice that provides reimbursements to wholesale distributors. That information and other records showed where Mallinckrodt’s oxycodone was going — from the company to its network of distributors to retailers down the chain.

The significance of the Tennessee case started to become clear.

The DEA learned that in the six weeks after the Tennessee task force alerted Mallinckrodt to the drugs found in the 2009 sting operation, the company had shipped another 2.1 million tablets of oxycodone to Sunrise, the Florida distributor.

The DEA also discovered that Sunrise, over an 11-month period, had sent at least 92,400 tablets to Schultz, the Delray Beach doctor who prescribed the pills found in Tennessee. In one day, he had prescribed 1,000 tablets to one patient.

At the time, the street value of oxycodone was $30 a tablet. The Mallinckrodt drugs that Sunrise sent to Schultz after Mallinckrodt was notified of the Tennessee sting were worth nearly $2.8 million on the street, prosecutors said.

Prosecutors were becoming increasingly confident in their case. Under pressure from the DEA, Sunrise had surrendered its license to distribute narcotics. The Palm Beach County Sheriff’s Office had arrested Schultz, charging him with drug trafficking and manslaughter because one of his patients died of a drug overdose. Schultz was later convicted and sentenced to 25 years in prison.

“Mallinckrodt knew through law enforcement reports that Barry Schultz was diverting controlled substances, and that the diverted oxycodone was supplied by Mallinckrodt through Sunrise,” prosecutors later wrote in an internal document sent to the company. “When Mallinckrodt continued to distribute oxycodone to Sunrise for such purposes, and continued to pay incentives in the form of chargebacks for the product sales to Barry Schultz, Mallinckrodt was diverting oxycodone.”

In Oct. 22, 2012, the DEA served Mallinckrodt with another subpoena for records relating to its suspicious-order-monitoring program, the company disclosed in SEC filings.

Those filings also showed that the DEA was examining Mallinckrodt’s plant in Hobart, N.Y., about 70 miles southwest of Albany. Investigators documented scores of alleged violations, including the failure to secure narcotics, to keep accurate records or to document transfers of drugs, according to a confidential memo obtained by the Post.

Conflicting rules guidance

In 2014, Mallinckrodt, which is publicly traded and maintains its U.S. headquarters in St. Louis, notified its shareholders that it was under investigation by the federal government and had received subpoenas for documents.

But with no sign of civil action by the DEA, the company said it believed that “the ultimate resolution will not have a material adverse effect on our financial condition, results of operations and cash flows.” In fiscal 2016, the company posted $3.4 billion in revenue and a $489 million profit.

Behind the scenes, however, the case against Mallinckrodt was growing more serious.

Prosecutors said in internal documents that they found the company’s behavior so egregious that they initially considered framing it as a civil conspiracy.

“Mallinckrodt did knowingly, intentionally and unlawfully combine, conspire, confederate and agree with Sunrise and Barry Schultz to commit offenses against the United States,” prosecutors wrote in a draft complaint against the company that was never filed. “That is, to knowingly, intentionally and unlawfully distribute, dispense or prescribe controlled substances, including but not limited to the Schedule II drug oxycodone 30 mg.”

O’Connor, the Mallinckrodt lawyer, said that the draft document reflects “discredited allegations made in the heat of negotiations in 2015” and that the government and the company moved past those accusations.

“In particular, it is wrong to suggest Mallinckrodt was involved in any conspiracy related to Dr. Barry Schultz and Sunrise Wholesale,” O’Connor said. “In reality, Mallinckrodt worked with law enforcement to investigate potential diversion by the physician and to audit Sunrise, and, importantly, the DEA praised the company’s handling of the investigation.”

Prosecutors weighed the strengths and weaknesses of their case in an internal summary they prepared Aug. 7, 2014.

“We will argue that thousands of orders from the distributors as well as tens of thousands of orders from these down-stream customers were suspicious because of the pattern of distribution to Florida,” prosecutors wrote. In all, they said they considered 43,991 orders from distributors and retailers to be suspicious — orders that Mallinckrodt should have reported to the DEA.

Prosecutors also acknowledged the weaknesses of their case in the summary. They noted that the DEA had provided conflicting guidance to Mallinckrodt about its responsibilities to report suspicious orders from retailers such as Schultz.

For example, Kleissle, the DEA supervisor in St. Louis, had told the company in 2010 after the Tennessee sting that it had a responsibility to keep close tabs on its customers, the distributors, as well as the distributor’s customers, the pharmacies and doctors.

But that same year, a DEA investigator in New York, Heather White, told Mallinckrodt that no one in her region, including her supervisor, had heard anything about “know your customer’s customer and that the regulations do not reflect such a requirement,” according to the prosecutor’s summary. White declined to comment for this article.

Mallinckrodt pushed back against the government’s contention that it was responsible for the acts of downstream retail customers such as Schultz.

The company said during discussions with prosecutors that it was impossible to monitor all of the 55,000 retail outlets where its drugs are delivered. Mallinckrodt also said that the DEA was aware of the company’s increased sales of oxycodone and could have acted by reducing the amount of narcotics the company is permitted to sell. The DEA sets quotas for the quantities of controlled substances that can be manufactured. The company also complained that the DEA has not provided guidance on how to track suspicious orders.

“Mallinckrodt has agreed to pay a settlement amount relating to orders from its distributors,” prosecutors wrote in the summary. “However, it refuses to negotiate any settlement relating to the downstream customers orders.”

The company put together a high-powered legal team to fight on its behalf. It included O’Connor, a former federal prosecutor who specialized in fraud and corruption cases, and D. Linden Barber, a former associate chief counsel for the DEA’s diversion division who was one of the architects of the agency’s crackdown on the pharmaceutical industry.

Following negotiations between Mallinckrodt’s legal team and the U.S. attorney’s office in Detroit, prosecutors dropped the civil conspiracy allegation, according to sources close to the talks. The negotiations then focused on the relationship between Mallinckrodt and its distributors, their customers and the amount of drugs that were going to Florida.

Prosecutors noted that the DEA had twice placed the industry on notice about its responsibility to report suspicious orders. They also said Mallinckrodt was aware of enforcement actions the agency had taken against distributors for failing to report the inordinate amounts of painkillers they were shipping to retail customers in states such as Florida.

“With respect to distributor orders,” prosecutors wrote in a document, “Mallinckrodt’s obligations to monitor and notify of suspicious sales were known to the company.”

About more than money

On July 10, 2015, the U.S. attorney’s office sent a proposed settlement offer to lawyers for Mallinckrodt.

Prosecutors said that they could fine the company as much as $2.3 billion because 222,107 orders to Florida were “excessive” and should have been reported as suspicious. Or they could fine the company up to $1.3 billion based on an analysis of the 217,022,834 Mallinckrodt 30 mg oxycodone tablets that were sold for cash in Florida in 2009 and 2010.

“As you are aware, significant cash sales are an indication of diversion,” prosecutors wrote in their offer.

But the big buildup resulted in a much smaller proposed fine. Despite the billion-dollar figures bandied about, the prosecutors proposed settling the case for $70 million. They cited the “litigation risk” they faced if the case went to trial, Mallinckrodt’s previous legal arguments and the size of other recent settlements with drug distributors.

This year, on Feb. 7, Mallinckrodt told its shareholders in an SEC filing that the investigation “will not have a material adverse effect on its financial condition” because it has set aside the money.

Sources close to the negotiations said that the two sides had recently reached a tentative agreement to settle the case for $35 million. With final approval pending from the Justice Department, some of those who worked on the case said they are deeply disappointed by the dollar amount of the proposed fine.

For a company the size of Mallinckrodt, a $35 million fine is “chump change,” one government official said.

“The problem you have is this was new ground, and it had never been done before,” said another former law enforcement official with knowledge of the case. “There was a lot of back and forth over whether we could pull this off. Is it ideal? No. Is this a number that everyone wants to see? No. People would probably like to see more. But this is about more than money. It’s about holding a manufacturer accountable, and it will put the industry on notice.”

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