Lina Khan Fires a Crooked CEO
The FTC blocked a genomics technology merger, leading to the firing of a CEO. The deal involved Bill Gates, Barack Obama, China and Jeff Bezos. And corporate America is in shock.
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One of the most famous lines from progressive muckraker Upton Sinclair has to do with incentives. “It is difficult to get a man to understand something,” he said, “when his salary depends on his not understanding it.” Typically, this line is used to promote the idea that corruption makes it impossible to get good ideas implemented. But there’s a more optimistic flip-side. If you can create a scenario where the incentives are to operate a company prudently, then attitudes at the top will shift in a positive direction.
With that in mind, it’s worth taking a look at one of the biggest recent stories in corporate America that went largely unnoticed by the political world. Last Sunday, Francis deSouza resigned from his position as the CEO of Illumina, which is one of the most important medical technology firms in the world. Since 2019, deSouza had pursued a string of failed acquisitions, and ultimately his shareholders revolted. His most recent was an attempt to buy cancer test producer Grail, which was ruled unlawful by both European antitrust enforcers and the Federal Trade Commission’s Lina Khan.
You may not have heard of Illumina, and you probably haven’t heard of deSouza. But deSouza is now the second CEO to lose his job due to Biden antitrust enforcers, after Penguin Random House CEO Markus Dohle resigned last year in the wake of a failed merger with Simon & Schuster. In C Suites, and within the antitrust bar, deSouza, and Dohle, are now cautionary tales of empire building gone wrong.
More than any other possible penalty, the prospect for CEOs that they could lose their job is going to change corporate behavior. Here’s the front page story in the Wall Street Journal on deSouza, noting that behavior across corporate America is changing.
And this brings me to Microsoft, which is pursuing a somewhat irrational acquisition of game giant Activision, a bank shot attempt to monopolize gaming. The merger is on the rocks, because Great Britain ruled that it’s illegal, and the combination is also being challenged by the FTC. And yet Microsoft won’t relent. A few weeks ago, in an essay called Corporate Temper Tantrums, I noted that there’s an open question about whether large corporations or democratic governments set the rules for our societies. Microsoft is the key example. Its threat to combine operations with Activision, despite the British government calling the transaction illegal, looks completely crazy, akin to civil disobedience by a Fortune 500 firm. There’s no reason for it, since the firm has a great path ahead embedding AI in its products. Gaming is a sideshow. Why would the firm destroy its political reputation with this scorched earth campaign?
The answer, I believe, runs straight through the resignation of Illumina’s CEO. When a merger gets announced, someone in the corporation is responsible for the deal, like the general manager of a football team’s choice to bet the future of the team on a high-profile quarterback. If that quarterback turns out not to be good, the general manager who picked him is likely to be fired or lose credibility. So often, even if the quarterback struggles, he will still get playing time, because the football executive who made the call to draft that player needs him to succeed. Similarly, with a merger, the executive who pulled the trigger needs to close the deal, even if that deal stops making sense to the corporation. In other words, it may not be in Microsoft’s interest to be this aggressive, but corporations are run by people. And in this case, it’s possible that a specific person - Microsoft President Brad Smith - might have his job on the line. That is, if Smith doesn’t manage to break the democratic state and close the Activision deal, he will lose power within Microsoft.
With that in mind, let’s take a look at Illumina, because it illustrates the stakeholders involved in arranging power within corporate America (and as we’ll see, China). Illumina is a gene sequencing and array technology corporation. Though not a household name, it’s hard to overstate the importance of its products. Illumina, whose platform produces 90% of the world’s DNA data, has been at the center of the revolution in medicine derived from genetic technology. The DNA of Covid, for instance, was mapped just a few days after the virus was isolated, and it was sequenced on an Illumina machine.
But to speak of Illumina as if it is a medical technology firm underplays its real strength, which is as a political and legal influence peddling operation. Like a lot of important firms, Illumina’s business relies on proprietary technology, and so it wields the power of the state in the form of patents to maintain its market power. Unsurprisingly, it has been in constant litigation over patents. It was sued in 2010 for infringing on patents developed in the 1990s by Cornell academics. Recently, Illumina was sued for secretly paying off the lawyers for the opposing sides in a patent dispute, which, if true, is highly unethical. In 2022, a Delaware jury ruled it willfully infringed on the patents of a rival over gene sequencing, and it had to pay out over $330 million. Illumina is also a firm that has attempted to maintain its monopoly through mergers, trying to buy nascent rival Pacific Biosciences in 2019, before being blocked by the Trump FTC.
Most corporations just house different lines of business, and are focused on their customers, investors, and workers. Monopolists, however, are politically oriented. And this makes sense, monopolists don’t have to think about rivals, they instead worry about government. According to one study, the consequence of mergers that consolidate industries is that lobbying spending skyrockets. Illumina does do medical technology, but deSouza clearly spent his time running a political operation to protect the firm’s franchise. The firm is the fourth largest spender on lobbying among biotech firms, outgunned only by much larger giants Pfizer, Roche, and Amgen.
But there’s much more than that. Take, for instance, its 2022 ‘inaugural Illumina Genomics Forum’ in September of last year, which featured, among others, Barack Obama as a keynote speaker.
There’s something inevitably and dimly sad about an ex-President appearing at a corporate conference, like a once great football player hawking hair loss treatments, or Ashton Kutcher pitching WeWork investments. But sure enough, on a “stage lit with glowing strips of coral-orange and a backdrop of soothing electric blue,” according to one nauseating account, Obama last year showed off his remarkable charisma for the Illumina-gathered crowd, veering from comedy to tragedy, discussing the loss of his mother from cancer, as well as the virtues of diversity in scientific research. Corporations don’t hire ex-Presidents for an appearance to learn anything, but as an ornament, a symbol of their political potency. And deSouza was on stage beaming.
Along with Obama was Bill Gates, the third richest man in the world. Anne Wojcicki, the ex-wife of Google co-founder Sergei Brin, made an appearance, as did former U.S. Food and Drug Administration head Scott Gottlieb, who is also on the board of Illumina.
Beyond this sad but illuminating conference is a vast political machine. A key lawyer is Christine Varney, who was once the head of antitrust under Obama, and was an FTC Commission under Clinton. Illumina has close relations with the Wall Street Journal editorial page, which routinely promotes its interests. The firm’s connections are bipartisan, of course. Republican Judiciary Chair Jim Jordan is attacking regulators investigating the company, and 34 members of Congress have filed an amicus brief on behalf of Illumina. It might be hard to find someone in the politics of medical technology in D.C. who is not involved in some way with Illumina.
Like most political operations of big technology-focused firms, Illumina is deeply enmeshed in China, because the Chinese government makes it worthwhile for firms that have important technology to integrate themselves with the state. Now, there’s nothing wrong with doing business in China, indeed, it’s a good thing that Chinese scientists had the Illumina machines in 2020, otherwise they wouldn’t have been able to sequence Covid. But Illumina acts as a ward of the Chinese government. It promotes Chinese genomics startups along with FTX backer and politically wired venture capitalist Sequoia, it does PR for Chinese genomics firms, and even supplies technologies for biometric-enabled surveillance of Uyghurs in Xinjiang. The corporation isn’t some innocent exporter of medical technology to Chinese firms, it’s a global political operation.
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All of these elements came together in 2015, when Illumina spun off a cancer test division into an independent company, Grail. The goal of Grail is to have one blood test that can screen for multiple forms of cancer, instead of having to do individual tests for each one. A bunch of firms are trying to build out multi-cancer early detection tests, and Grail is just one of them. But Grail got investment capital from a group of power players, including Jeff Bezos, Bill Gates, Chinese giant Tencent, Amazon, and a series of Chinese state owned firms. Yet testing for early forms of cancer is difficult and not necessarily medically helpful. Recently, for instance, the firm incorrectly told over 400 people they may have cancer.
In 2020, Illumina sought to repurchase Grail for $8 billion. It was a bit weird for Illumina to buy back its own subsidiary it had spun off just a few years earlier. Still, in one sense, the future, it seemed, was bright for the genetic technology firm. It had the richest and most powerful people in the world as investors, and it was doing work on the cutting edge of science.
There were, however, challenges. Both the Federal Trade Commission and the European Union’s antitrust enforcement agency sought to block the acquisition. All multi-cancer early detection firms, not just Grail, use Illumina’s technology to test for genetic markers. So if Illumina were able to purchase Grail, then it would have the ability to stop cancer test rivals from accessing its sequencing machinery, like Apple blocking rival music services from the iPhone.
But even before the merger challenges, investors were unhappy with the acquisition. The same week of the Grail acquisition, a rival paid just $2 billion for a competitor to Grail that had similar technology, meaning Illumina overpaid by 75%. Indeed, one wonders if deSouza was using Illumina’s stock to bail out powerful investors like Gates, Bezos, and various Chinese enterprises. Investment analysts noticed the high price, and also the conflicts of interest embedded in the vertical nature of the merger.
“We are not sure that 1+1=2 in this instance. In fact, when we factor in concerns about “competing with customers”, Illumina will need to clearly address any concerns that in this instance “1+1” could actually equal “less than 2,” Cowen analysts wrote in a note to investors.
Over the course of the next three years, deSouza conducted a political and legal campaign to close the merger. In Europe, despite Grail having no presence, the European competition authority surprisingly chose to block the merger. Illumina ignored the ruling, subjecting itself to fines of 10% of its global revenue for flouting the law.
In the U.S., the Federal Trade Commission directly ruled that the merger is unlawful. Illumina filed an appeal to the 5th Circuit, which is the most hostile jurisdiction for government enforcers. The firm’s legal counsel, Christine Varney (of the former Obama administration), cut to the chase and argued that the FTC’s structure is unconstitutional. The Wall Street Journal editorial page accused the FTC effectively of killing people, with the headline “Lina Khan Blocks Cancer Cure.” Many members of Congress objected to the FTC’s challenge, including “several dozen members of the Congressional Black Caucus, the Congressional Hispanic Caucus, and the Congressional Asian Pacific American Caucus,” who argued that this merger challenge would disproportionately affect nonwhite communities.
But neither the Europeans nor the FTC dropped the case. And the problems for Illumina grew. Earlier this year, the rival it tried to buy in 2019, Pacific Biosciences, launched a DNA sequencer that is cheaper than Illumina’s. And the corporation now faces an array of startups who are going after its monopoly. Basically, deSouza’s strategy was to find ways of maintaining the firm’s market power through political action, and because of the more aggressive enforcement regime, he failed.
As a result, Illumina’s share price slid, even as the rest of the stock market skyrocketed. And so activist investor Carl Icahn got involved, and began demanding deSouza’s resignation, noting deSouza’s pay package increased 87% to $26.8 million in 2022 despite losing $50 billion of shareholder value. “I’d find it comical, if it wasn’t so reprehensible that ILMN’s share price is down 63% due to CEO Francis deSouza making such an absurd and questionable purchase,” Icahn said. Finally, late last month, shareholders voted with Icahn to replace a board member, and deSouza finally resigned.
It’s not clear what happens now. Despite deSouza’s resignation, technically speaking Illumina is still trying to buy Grail. And the 5th Circuit granted an expedited review, so the case will be heard soon, if Illumina doesn’t withdraw from the purchase and somehow chooses to keep spending millions on its legal campaign. Dozens of trade associations who wrote amicus briefs are hoping Illumina marches forward, because this is a case they’d like to use to neuter the FTC, and ultimately have the Supreme Court knock out some of its power to enforce antitrust law. Hopefully, Illumina will drop its clearly problematic merger attempt and stop paying its hefty legal bills.
There are a couple of key lessons here. First, many big mergers occur not for strategic reasons but because executives want a capstone, something to indicate that their tenure was Very Important and Strategic. There are golden parachutes, sure, and bad incentives, but AT&T bought Time Warner because some Texans were tired of running a mere phone company and didn’t have any other ideas. This is one of those cases. And second, mergers, especially for firms that engage in a number of them, are often a way of focusing on arranging the rules of a market while the operational capacity of a firm declines.
Finally, investors and CEOs are not always aligned on mergers. In the case of Illumina, this firm looks fairly dirty, so antitrust enforcement will improve its operational capacity. To put it more simply, add “firing bad CEOs” to the list of Federal Trade Commission Chair Lina Khan and Antitrust Division chief Jonathan Kanter’s accomplishments. (And I’m not just saying that, the Wall Street Journal editorial page wrote an editorial giving her bitter credit, Lina Khan Wins as Illumina’s CEO Resigns.)
In many ways, the conflict is existential for the people, though not the companies, involved. DeSouza needed to win his fight to buy Grail, just as Penguin Random House CEO Markus Dohle needed to win his fight to buy Simon & Schuster. They are both gone, but Illumina and Penguin still exist.
For Microsoft, which is in a similar situation in its attempt to buy Activision, the main person on the hot seat is Brad Smith. The CEO of Microsoft, Satya Nadella, cares about artificial intelligence, and his goal, as the former head of Bing, is to beat Google search. It is Smith, who rescued Microsoft from its post-antitrust suit blues, and kept the firm out of the Congressional crosshairs during the big tech investigation of 2019-2020, who has bet big on the Activision purchase. His value is that of the savvy political guy. If he loses, his prestige will be significantly dented inside the company.
So again, you may not have heard of Illumina and this board room drama. But I guarantee you that every CEO thinking of taking a risky gamble on an acquisition has. So going forward, when an investment banker pitches a CEO on a potential merger, that executive may no longer see the point. After all, as Upton Sinclar once noted, “it is difficult to get a man to understand something, when his salary depends on his not understanding it.”
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