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Selling stock has been a lifeline for Biocontrol Technology, Inc. With no revenues to speak of, it's been the only way the Indiana, Pennsylvania-based company has been able to raise the millions it's spent over the last decade developing its experimental blood monitoring machine for diabetics.
After a Food and Drug Administration panel last February raised serious doubts about the device's accuracy and safety, and concluded it shouldn't be sold in the United States, Biocontrol said it would have to issue even more stock to feed operations and fund further research.
In its quest for cash, however, the company has been selling stock illegally.
Pennsylvania regulators, worried about Biocontrol's lack of revenues, its high executive salaries, and the fact that it had no product to sell, in 1993 refused to give it or its Diasense, Inc. subsidiary permission to issue shares in the state.
Nevertheless, Diasense has done so and Biocontrol, according to one securities industry source, has at least tried.
At the same time, the companies' top executives have continued to take lucrative salaries and to use investors' money for lavish lodgings on business trips, expensive cars and other perks.
To get around state laws, investors in Pennsylvania were told to buy their shares using a false address, such as the address of a friend, relative or vacation home located in a state where the companies weren't prohibited from issuing stock.
In response to inquiries, Biocontrol issued a written statement Friday March 22, denying such practices.
"Neither Biocontrol nor Diasense made or authorized any such statements to any investor," the company said.
But investors and former employees say otherwise.
Dr. Sean Nolan, an endocrinologist who treats diabetics at Shady-side Hospital here, said it happened to him.
He said he spent everything he had-about $30,000 in retirement savings-to buy Diasense stock from the company last fall.
What attracted him, he said, was the chance to fund research that might someday release diabetics from the painful ritual of pricking their fingers to test their blood sugar. Biocontrol's device, called the Diasensor 1000, uses an infrared beam to measure glucose levels.
Nolan said he was told he'd have to use an out-of-state address if he wanted the stock.
"I'm just not a sophisticated person with this type of thing," he explained. "I said, 'Well, I guess this is the way it's done.' I thought I was following the rules, rather than disobeying them."
There's no way to estimate how many Diasense or Biocontrol shares have been sold illegally to Pennsylvania residents. But Nolan and investors like him may be able to get their money back if the cash-short company's funds don't run out first.
Companies caught selling unregistered securities are obliged to refund investors' money for up to two years after the sale, according to Philip Rutledge, director of corporate finance for the Pennsylvania Securities Commission. The commission is the agency that wouldn't register the two companies' public stock offerings filed in 1993, the last filings the companies made with the commission.
At the time, Rutledge said, the companies voluntarily withdrew their request to issue stock in the state because of regulators' negative comments about the offerings.
Among regulators' concerns, Rutledge said, were the fact that the companies "had no revenues, and there were substantial amounts of cheap stock out there, stock issued to insiders at substantial discounts to the public offering price."
The agency also was "concerned" about the high salaries of executives "in light of the fact the companies had no revenues" and "no product to sell," he said.
Rutledge said the commission's misgivings were the same for both companies since they are "alter egos of each other," run by the same top executives and both pinning their future on the successful launch of the glucose monitor.
Diasense, formed in 1989 in Pittsburgh as another vehicle for funding the monitor's research, owns the technology and marketing rights to the Diasensor, while Biocontrol is developing the product and retains manufacturing rights.
Although Biocontrol was denied permission to sell stock directly to Pennsylvania residents, investors here still can obtain the company's stock by buying existing shares over the counter. Diasense shares don't trade publicly, however, so investors can buy them only from the company and only in states where the stock is registered.
Rutledge said the commission has the authority to bar future stock offerings and revoke previous ones for companies breaking the state's securities rules. If authorities suspected a company "willfully" attempted to violate the Securities Act, he said, a criminal investigation could ensue.
The way investors and others tell it, Biocontrol's executives knew they were not following the law.
The research director at a Pennsylvania-based investment advisory firm said Fred E. Cooper, Biocontrol's chief executive and Diasense president, tried to sell newly issued Biocontrol stock to his clients shortly after the 1993 offering was withdrawn from the Securities Commission.
Cooper readily admitted the shares weren't registered but told the securities analyst that "we can get around that," said the analyst, who spoke on condition of anonymity.
Cooper, through the company's public relations office, Friday denied making those statements.
Nuala Seper, a former receptionist at Biocontrol's executive offices in Pittsburgh, said that when she asked to buy some Diasense shares, Biocontrol's accountant, David Staudenmaier, told her she'd have to use somebody else's address.
"He told me he bought stock for himself through his son" who lived out of state, Seper said.
"I thought that's the way it must be done all the time, that there were only so many states picked out" for marketing the stock, she said. "I never had dealings with stocks before."
In addition to being told to use a bogus address, Seper said, she was told to use a fictitious name.
Staudenmaier explained it this way, she said: "If they come and look at the books, they're going to see $5,000 worth of stock to Nuala Seper. And Nuala is a name that will stick in your head."
Staudenmaier didn't return telephone calls seeking comment. Biocontrol sent a fax to the Post-Gazette on Friday saying not to expect a reply.
Last August Biocontrol fired Seper, saying it was cutting back on support staff. But Seper believes the real reason she lost her $13,500-a-year job was that Cooper became upset that she'd seen several faxes from a disgruntled investor, complaining about top executives' salaries.
To lure investors, Diasense used rosy and ambitious growth projections.
A Diasense business plan obtained by the Post-Gazette projected sales of the Diasensor would total $5.3 billion over the next four years, climbing from an estimated $176 million in 1996 to $2.5 billion by 1999. An earlier business plan had projected sales of $162 million in 1994, rising to $325 million in 1995, when the company would already be selling a "second generation" Diasensor for use in hospitals, schools and other community settings. The company's current model must be calibrated for each patient, and thus can't be used on multiple patients.
But if Diasense used its business plan to solicit investors, that also would violate securities laws. In general, the laws limit companies to selling stock by means of a prospectus, according to Rutledge.
On Friday, March 22 Biocontrol denied it or Diasense ever used such documents in that way.
Over the years, Biocontrol has repeatedly fallen off stated timetables for developing the glucose monitor and for seeking and gaining FDA approval.
Initially, the company projected it would begin manufacturing the machines in late 1990 and start selling them the following year.
Despite the setbacks, executives continued giving the impression that a saleable product was just around the corner.
"They even gave me that impression," said Dr. Jann Johnston, the endocrinologist who shepherded clinical trials on roughly 20 patients at Mercy Hospital in Pittsburgh in February 1995. "They kind of led me to believe this is the final data we need."
This past January, only weeks before the FDA panel review hearing in Gaithersburg, Maryland, Biocontrol issued a news release saying it was told "only one issue needs to be resolved to gain approval" to market the Diasensor. It didn't say what that issue was.
As it turned out, if there was only a single issue, it was a big one: whether the Diasensor worked.
At the hearing, Biocontrol presented data claiming the Diasensor successfully monitored blood sugar levels on eight of 23 patients it followed in month-long clinical trials. Biocontrol considered as a "success" any patient who received accurate readings on the Diasensor at least 50 percent of the time.
But FDA panel members said a 50 percent accuracy rate wasn't good enough. They also questioned the overall validity of the data, since so few patients were tested and because the tests covered such a short time period.
In addition, they questioned the Diasensor's safety, noting that seven of the eight patients who were said to have been successfully monitored had showed wide, potentially dangerous variations in their glucose readings on the machine.
Biocontrol wasn't happy with the outcome. At the hearing and later in a letter to shareholders and in an advertisement in USA Today, the company argued that if the Diasensor "works for only one patient in the United States, that one person should be allowed to have the machine."
The problem was the FDA panel wasn't convinced the device worked on anyone.
"It would be a great beginning if we knew that [the Diasensor] ... would reliably and accurately, precisely work for some populations, whatever that percentage would be," panel member Richard Kahn of the American Diabetes Association in Virginia said at the end of the day-long review. "Unfortunately, with the data submitted, that does not seem to be the case."
In the end, the 20-member panel of experts convened by the FDA concluded that Biocontrol shouldn't be allowed to market the Diasensor, and urged the company to continue its studies. The FDA hasn't made its ruling on the device yet, but it almost always follows the recommendations of its expert panels.
Biocontrol's chairman and founder, David L. Purdy, had acknowledged during the hearing that "we don't have as much data as we would like."
But he argued that Biocontrol should be allowed to sell the Diasensor anyway because the company desperately needed the money to fund further research. He promised to prove the Diasensor worked by conducting "post-market" studies.
"We want to be able to make the money that we need to do the testing that you would like us to do," he told the panel.
Back to the investors
With that financing avenue closed, however, Biocontrol again turned to investors for help.
Earlier in March, Biocontrol, which together with Diasense has more than 60 million shares outstanding, filed preliminary plans with the U.S. Securities and Exchange Commission to put 5 million more shares on the market aimed at raising another $11 million.
Later, however, Biocontrol withdrew the filing saying that "in order to serve the best interests of its shareholders ... it must be able to disseminate information without being subject to" regulatory restraints.
Companies must eschew publicity during a so-called "quiet period" while they have stock in registration with the SEC. Biocontrol didn't say on March 22 whether its letter to shareholders or its newspaper ads were questioned by the SEC before the company withdrew its offer.
Still, Biocontrol will ask shareholders at a meeting in Pittsburgh on April 11 to increase the authorized number of shares outstanding by 20 million so it can conduct offerings in the future.
And Diasense, which in December filed plans to issue more stock, apparently has not changed those plans.
But while investors continue to wait for their big payoff, corporate executives continue to reap rewards.
Although it's been more than two years since the state securities commission first voiced its concerns about executives' salaries, paychecks have only grown fatter.
Cooper's salary, for example, has more than doubled, going from $200,000 in 1993 to $480,000 last year, including $150,000 that he was paid as president of Diasense.
In addition, Cooper exercised warrants he was granted to buy 70,000 shares of Biocontrol stock at prices ranging from 25 cents to 33 cents a share, bringing his total compensation last year to more than $800,000.
The company, meanwhile, lost $29 million in 1995, bringing its accumulated losses to more than $66 million.
Perks for top execs
Besides their six-figure salaries, top executives including Purdy, Cooper, Senior Vice President Anthony Feola, Vice President Glenn Keeling and accountant Staudenmaier all have employment contracts with the company that, among other things, call for them to be reimbursed for "the cost of purchasing or leasing a vehicle" for business use.
Cadillacs are the most popular choice among the executives. Cooper drives a Cadillac Seville, a model that sports a base sticker price of just under $43,000.
And the perks don't stop there, former employees say. They claim the executives routinely spend extravagantly while on the road.
Several recent trips appear to support those claims.
On a business trip to Orlando, Florida, last June 13-15, for instance, Cooper and Feola checked themselves into a two-bedroom executive suite at the Hyatt Regency Grand Cypress. The cost: $850 per night.
In February, the Wednesday before the FDA hearing, Cooper, Biocontrol's medical director Stuart Fine and public relations consultant Susan Taylor traveled to Washington, D.C., each spending the night at the swanky, five-diamond-rated Four Seasons Hotel at a cost of $295 per room, per night.
And late February, at the same time the company was pleading poverty to the FDA, Cooper and Fine showed up at the Four Seasons again, this time for two nights, and each in one-bedroom suites. The cost: $895 per suite, per night.
When asked Friday why Biocontrol pays for such expensive accommodations, the company replied that its executives "stay in a wide variety of hotels" while traveling.
"Although Biocontrol claims to have this empathy for diabetics, I have a hard time justifying their lack of progress and them taking so much money for their own enrichment," said Jack Onorato, a former officer and director of Biocontrol, who said he left the company in September over a contract dispute.
"It leads me to believe they're more interested in making money for themselves than in producing a product."
Copyright, Pittsburgh Post-Gazette. Reprinted with permission. Originally appeared in the Post-Gazette Sunday, March 24, 1996.