An Independent Analyst's View of the Biovail Lawsuit (BVF)

As a former independent biotech stock analyst and owner of an independent research firm (Crownstone), I felt compelled to comment about the Biovail Corp. (BVF) lawsuit against hedge funds and research firm Camelback (now Gradient Analytics). For the record, Crownstone's research was always written by me, without the financial influence of anyone affiliated with a company or hedge fund. I did explore the possibility of writing research that was funded by companies under review but found the market to be weak and fraught with conflicts that are difficult to surmount. I never considered receiving funding from hedge funds in advance of writing a report, because that would have made me too dependent on the hedge fund(s) and too prone to the types of conflicts described by this story.

If you saw the 60 Minutes piece this past week, it did a fair job of covering one of the story's relevant issues, namely, the use of "independent research" by hedge funds as a tool to influence investors. It did a less than fair job of explaining the role of short-sellers. Biovail alleges that SAC (an extremely powerful hedge fund named after its extremely rich founder, Steven "Stevie" A. Cohen) manipulated the market to its advantage by influencing "independent research" on Biovail.

As you learned in the 60 Minutes story, the research by Camelback (now Gradient Analytics) was research-for-hire. In my judgment, there is nothing unethical about research-for-hire, unless the research is disseminated without a disclaimer that describes how it was funded and who was responsible for writing it. Allegedly, the Camelback research was funded and influenced by SAC without disclosure. If that is true, it was unethical--by any reasonable ethical standard--because readers ignorant of that fact might be influenced by an unarguably biased report without knowledge of its biases, to their potential detriment. Is it unethical with respect to the company under review? That's perhaps a closer call. I say no, it's not, UNLESS the research contains information that is knowingly false. It's not unethical because investors are free to make up their own minds and the company is free to refute the research findings. In other words, no matter how biased, the report is still just someone's opinion.

As far as legalities, it depends on several factors. If Camelback was a broker-dealer it is subject to regulations , part of the Sarbanes-Oxley Act, that govern the disclaimer language of equity analyst research (you can find the boilerplate language on any brokerage analyst report). If Camelback was not a broker-dealer there was no requirement for this type of disclosure, unless it was a registered investment adviser, in which case it was governed by business practice guidelines (promulgated by NASAA) and the Investment Adviser Act of 1940, which itself makes no requirements for disclosure of funding or public information sources in written research. So, basically, unless Camelback was a broker-dealer, it didn't have a legal obligation to disclose its alleged relationship with SAC in its research.

As described in 60 Minutes' interview with Richard Blumenthal, the Attorney General of Connecticut, demonstrating that Camelback did something illegal wouldn't be easy:

"There is no prohibition against anyone calling an analyst and providing information and that kind of free flow of information often can do the market good," says Blumenthal.
"I'm curious to know whether it matters that the information was true or false for law enforcement?" Stahl asked the attorney general.
"It matters a lot whether the information was true or false," Blumenthal said.
"So sharing in and of itself is okay, but if they're feeding false information?" Stahl said.
"With the knowledge it's false?" Blumenthal said.
"With the knowledge that it's false." Stahl replied.
"For the purpose of driving down the stock and with a position in the stock," Blumenthal said.
"All of that together is a crime?" Stahl asked.
"Within...well, it may not; it depends on who knows what, what the criminal intent may be, if it's there," Blumenthal answered."

As far as the role of short-sellers, short selling has important positive influences in the market, and short sellers are often the most careful speculators and investors. Yes, short sellers can profit from bad news, but a profit potential is what makes a market. Short sellers who distort facts to drive stock prices down commit a sin, but it's no worse a sin than those who distort facts to drive stock prices higher. Would Biovail have cared as much if it thought SAC engaged in a "pump and dump" scheme? No, no way. Not if the stock price had held up, because Biovail only cares that its stock price was driven lower and stayed lower.

And so we come to the real issue behind this lawsuit. Biovail's stock price is down. And they're looking for someone to blame and some way to get paid. I'll go out on a limb and say that, even if it is shown that SAC manipulated the market to its advantage as alleged, Biovail does not deserve to receive compensation from SAC or Camelback. Why? Because the market for Biovail's stock was and is liquid. If anything, SAC promoted liquidity by shorting the stock. If SAC engaged in illegal activities as alleged, those activities would have long ago been digested and absorbed into the market, and any adverse effects on Biovail's market value short-lived. The fact is Biovail has no one to blame but itself for the degradation of its shareholders' value.