Case Study: GSK China Scandal: A Risky Business?

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The Question: 1. Are local companies similarly targeted in China, or was GSK targeted because it was a foreign company?

GSK China Scandal: A Risky Business? GlaxoSmithKline (GSK) www.gsk.com

A Chinese court found GSK guilty of bribing doctors and hospitals in order to boost its sales in the country. The company was also charged with using pharmaceutical industry groups and travel agencies to channel the bribes to the recipients. China started its investigation of GSK executives in June 2013 and convicted them after 15 months. GSK was fined $489 million, which was the largest corporate penalty ever imposed in the country. For comparison, the three largest settlements under the U.S. Foreign Corrupt Practices Act (FCPA) are Siemens AG ($800 million), KBR Inc./Halliburton Co. ($579 million), and BAE S tem ($400 million) (Legal Monitor International, 2014, para. 2)

Mark Reilly, GSK's former China Head, and four other executives were also convicted. Each received suspended prison sentences of between two to three years. These reduced sentences were due to their confession and cooperation in the investigation (Legal Monitor International, 2014).

The GSK case reflects an increased Chinese emphasis on enforcing its anti-corruption laws against foreign companies and individuals who pay or offer bribes. Historically, China's anticorruption efforts were focused on Chinese government officials who received or solicited bribes. The GSK convictions reflect the Chinese determination to move beyond that historical focus. Foreign companies and employees doing business in the country should be aware that they operate under China's anti-corruption laws, in addition to their home countrie's laws, such as FCPA (United States), and the Anti-Bribery Act (UK) (Legal Monitor International, 2014)

GSK: History & Background (Hoovers, 2016) In 1873, Englishman Joseph Nathan established an import-export business in New Zealand. He bought the rights to a process for making powdered milk, and started selling it under the Glaxo brand. Nathan's son Alec was sent to London to run their business there. The Glaxo brand became a household name after the publication of a guide to child care; the Glaxo Baby Book. After World War I, Glaxo began distribution in South America and India.

In 1927, Glaxo introduced its first pharmaceutical product, Ostelin (a liquid vitamin D), and continued to expand globally in the 1930s. During this period, the company introduced Ostermilk, a vitamin-fortified milk. Glaxo began making penicillin and anesthetics during WWII; and went public in 1947. A sharp drop in antibiotic prices in the mid-1950s forced the company to diversify, and buy medical instruments businesses, veterinary companies, and drug distribution companies. Glaxo began its US operations in 1978.

In 1980, Glaxo abandoned its non-pharmaceutical operations. In 1981, its antiulcer drug, Zantac became a market leader in this sector. In 1995, Glaxo bought its British rival Wellcome. In 1997, Glaxo created a new genetics division, buying Spectra Biomedical and its gene variation technology. In 1998, the company Glaxo ended its joint venture with Warner-Lambert that had begun in 1993. In addition, Glaxo sold the Canadian and US marketing rights to Zantac.

GSK Overview GSK is a global healthcare company that operates in more than 150 countries, and has 89 manufacturing sites worldwide. The company has R&D centers in Belgium, China, UK, and USA. The company's product portfolio includes (GSK, 2016):

A. Pharmaceuticals: Leader in respiratory diseases and HIV medication ( 14.2 billion turnover, 60% of group turnover). B. Vaccines: The company produces 39 different vaccines; 690 million doses were sold in 2015 ( 3.7 billion turnover, 15% of group turnover). C. Consumer Healthcare: Include oral health, wellne , kin care, and nutrition. The company's portfolio of global brands includes Panadol (Tylenol equivalent), Sensodyne, Horlicks, and Voltaren ( 6.0 billion turnover, 25% of group turnover).

In 2015, GSK bought Novarti's vaccine business for $7.1 billion, and sold it oncology line to Novartis for $16 billion. The two companies also merged their consumer healthcare operations creating the worlds top provider of OTC (over-the-counter) products (Hoovers, 2016).

GSK: Competition

2015 Key Figures	GSK	Pfizer	MSD	Novartis
Annual Sales	$35.46B	$ 48.85B	$ 39.50B	$ 50.39B
Employees	101,255	97,900	68,000	118,700
Market Cap	$196.56B	$ 199.33B	$ 146.90B	$ 204.25B

Source: Hoover 2016

GSK: Basic Financial Information (GSK, 2016)

Sales (2015) $ 35.46 billion

Sales Growth (vs. 2014) (0.75) %

Net Income (2015) $ 12.48 billion

Net Income Growth (vs. 2014) 191.7 %

GSK: Code of Business Conduct (GSK, 2014, 2015) GSK trains its employees at all levels on its compliance program to ensure that its code of business conduct is understood and abided by. This includes new intakes, as well as recertification for existing employees.

GSK mentions that it has zero tolerance for corrupt practices and bribery: Our Code of Conduct is not negotiable. It is absolutely essential to how we achieve success.

GSK provides a hotline for reporting violations and non-compliance with its code of business conduct. Included in the Code of Business Conduct is whistleblower protection GSK encourages everyone to report concerns without fear of reprisal.

W e operate under many legal and regulatory requirements whic protect patients and consumers around the world. As a global company, this means the laws and regulations in one country can impact business activities in another. For example, our Corporate Integrity Agreement (CIA) with the US government has stringent obligations that reinforce US healthcare laws and programme requirements associated with engaging US healthcare professionals and activities anywhere across the globe. These US requirements are explained in detail on our GSK Code of Conduct and company policies resource center. We are expected to seek guidance from a Compliance Officer or Legal Counsel if questions arise on the impact and relevance of different countries laws on our local activities.

Failure to comply with the Code of Conduct, GSK policies, or applicable legal and regulatory requirements will result in disciplinary action up to and including termination of employment. This is also applies to managers who ignore violations or fail to detect and/or correct them. No matter where we operate in the world, we must live by our values, be aware of, and abide by, the legal standards and regulatory requirements applicable to our business.

If the code is so solid, then what happened at GSK China?

Law governing GSK Chinese operations: 1. Chinese criminal and antimonopoly laws. 2. UK Bribery Act (GSK is headquartered in UK). 3. FCPA of 1977 - as amended in 1988 (GSK is listed on NYSE).

The Chinese Healthcare System In the 1990s, China experimented with free-market health care. The governments reform left most Chinese people uninsured. In 1999, only 7% of rural Chinese (900 million) had coverage compared to 49% of the urban population. Also, healthcare workers never really had the opportunity to develop as independent healthcare professionals. Since then, new economic rules and incentives have encouraged physicians to operate like entrepreneurs, as if in a capitalist economy (Blumenthal & Hsiao, 2015).

Chinese physicians are chronically underpaid and overworked. They have often supplemented their low incomes through bribes from pharmaceutical companies, as well as payments that families make directly to them to ensure timely and proper medical care (Shobert, 2013).

The Chinese government maintained control of pricing in the healthcare sector, limiting the prices charged for certain services e.g. physicians' and nurses time. Yet, the government allowed much more flexible pricing for pharmaceuticals, thus encouraging the hospitals and physicians to increase the use of medications. This led to an increase in the cost of healthcare, while negatively impacting quality, and limiting access to the uninsured Chinese population. By the late 1990s, this resulted in distrust and public anger towards physicians and healthcare institutions, as well in increased threat of social instability (Blumenthal & Hsiao, 2015).

In 2003, the Chinese government responded by introducing a modest health insurance program that partially covered some of the hospital expenses for rural Chinese, because those expenses were deemed to be too high. This response reflected the limited understanding of the Chinese authorities of the real issues in healthcare management, and accordingly, the reforms did not rectify the problem (Blumenthal & Hsiao, 2015).

By 2008, the Chinese authorities realized that the healthcare system needed major reforms in both insurance and the delivery system. The officials started a plan to provide affordable basic healthcare for all Chinese by 2020. By 2012, a government-subsidized health insurance system provided 95% of the Chinese population with a modest, albeit comprehensive, coverage (Blumenthal & Hsiao, 2015).

While these extensive 2008 reforms are still in progress, they have faced many challenges. Several of the publicly owned, but profit-driven, hospitals have resisted these reforms. In 2012, the authorities responded by inviting private investors to own up to 20% of the hospitals. Also, major inequities still exist between the quality of the healthcare services in the urban and the rural areas. In addition, the country is continuing to struggle with creating a trusted, professional and high-quality physician workforce (Blumenthal & Hsiao, 2015).

Chinese Pharmaceuticals Market The Chinese pharmaceutical market is the second largest globally, after the U.S. (Globe News Wire, 2015); mainly due to the country's large population, rather than due to market sophistication (Deloitte, 2011).

Chinese hospitals have long been criticized for their over-prescribing of pricey pharmaceuticals and their high drug prices. And while the authorities have tried to address these issues, they have not yet found an effective balance between government regulation and market force (Wu, Zu, Liu, & Wu, 2014, p. 293). The National Development and Reform Commission sets price caps for retail drugs on the Urban Employee Basic Medical Insurance reimbursement drug list. However, market forces determine the prices for drugs that are not on the list. Chinese hospitals are the main channel for pharmaceuticals distribution (80%), while the remaining 20% are distributed through stand-alone pharmacies (Wu et al., 2014). Despite strong government intervention; especially in the form of hospital bidding, and price controls, market competition still has a downward impact drug prices in hospital. Also, there is an inverse relationship between the number of competitors and drug prices (Wu et al., 2014).

Pharmaceutical sales in China (Deloitte, 2011, p.6)

In China, generics are the mainstay of the pharmaceutical industry, and are expected to remain so in the future. And while the Chinese government supports innovation to meet industry targets, it will continue to rely on prescribing generics in the public insurance plan in order to control costs. On the other hand, improving IP protection is encouraging global pharmaceutical companies to tap the unmet demand in the Chinese patented drug market. Chinese consumers have more confidence in foreign brands, and accordingly, patented drugs are expected to grow at a CAGR of about 25% annually (Deloitte, 2011).

GSK China: What Happened?

July 2013 Chinese police raided GSK Shanghai headquarter , eized documents, and then announced that certain GSK employees were under investigation for economic crimes. The Chinese Ministry of Public Security announced that four GSK executives have confessed to economic crimes. A few days later, the Chinese authorities charged GSK with paying three billion Renminbi in bribes since 2007 using a network of 700 conference organizers (Campbell, 2014).

Ten GSK employees were detained in relation to the scandal, including Peter Humphrey, a British consultant who specializes in fraud investigations in China, and who was previously a GSK contractor. Mark Reilly , the head of GSK Chinese operation was out of the country at that time (Campbell, 2014).

Abbas Hussain, GSK emerging markets head, announced that some GSK China employees appeared to have acted outside the company's regulation and policies , and breached Chinese laws. He also added that GSK would support the Chinese government in reforming the medical sector and pledged that the company would revise its drug prices to make them more affordable (Campbell, 2014).

GSK CEO, Sir Andrew Witty, admitted that four executives seemed to have operated out of the company's control processes , and committed briber . However, he refused to take personal responsibility, and insisted that he remained confident in GSK worldwide compliance program. He also mentioned that the company would seek an independent review of what happened in China (Campbell, 2014).

September 2013 The Chinese authorities challenged GSK defense that the bribery had occurred outside the company's compliance system and control. As per a Xinhua news report, a Chinese governments spokeperson has alleged that the bribery was organized by GSK China, rather than it sale reps. He also added that the companys internal auditing was geared towards covering up of those violations (Campbell, 2014). GSK had around 5,000 sales reps at that time (Jourdan & Hirschler, 2015).

October 2013 GSK Sales in China plunged 61% following the bribery scandal; however, CEO Sir Andrew Witty denied that GSK was considering withdrawing from the Chinese market. He also stressed that GSK was totally committed to China, and that the country was crucial for the company's future. He added that GSK was totally committed to helping the Chinese authorities with their investigation to uncover what had really happened, and to take the necessary corrective actions. Mark Reilly, the British former head of GSK China, returned back to the country to assist the Chinese authorities with their investigation; however, he was subsequently barred from leaving China (Campbell, 2014).

December 2013 Glaxo stopped payments to Chinese physicians for promoting its drugs (Campbell, 2014), and stopped the sales reps incentive scheme that was based on the number of prescriptions the physicians wrote (Campbell, 2014; Jourdan & Hirschler, 2015).

April 2014 GSK announced that it was investigating bribery allegations in Lebanon, Jordan, and Iraq. An investigation b the BBC Panorama program claimed that a Polish GSK regional manager and 11 Polish doctors had been charged with bribery. However, despite these numerous investigations, GSK maintained that it did not have a company wide issue of non-compliance with its code of business conduct (Campbell, 2014).

May 2014 The Chinese authorities accused Mark Reilly , GSK China former head, of pressing the sales reps into bribing as they wrapped-up their ten-month long investigation into the scandal. The authorities alleged that Reilly had ordered his sales reps to bribe health institutions, hospitals, and physicians in order to boost sales, and to gain billions of dollars in illegal revenue. In addition, Reilly was also accused, along with two other Chinese GSK executives of bribing government officials in Beijing and Shanghai. The case was then handed over to prosecutors (Campbell, 2014).

References Blumenthal, D., & Hsiao, W. (2015). Lessons from the East China rapidl evolving health Care system. New England Journal of Medicine, 732(14), 1281-1285. doi: 10.1056/ NEJMp1410425 Campbell, S. (2014, May 14). Glaxo China bribery allegations timeline. The Telegraph. Retrieved from www.telegraph.co.uk Deloitte (2011). Opportunities in China's pharmaceuticals market. Retrieved from www.deloitte.com Globe News Wire (2015). Pharmaceutical Industry in China 2015-2020. Retrieved from www. globenewswire.com GSK (2014). Our code of conduct. Retrieved from www.gsk.com GSK (2015). Overview of compliance program. Retrieved from www.gsk.com GSK (2016). What we do. Retrieved from www.gsk.com Hoovers (2016). GSK. Retrieved from www.hoovers.com Jourdan, A., & Hirschler, B. (2015, November 26). GSK in China: escaping the shadow of a scandal. Reuters. Retrieved from www.reuters.com Legal Monitor Worldwide (2014, November, 5). GSK Bribery Conviction Signals Increased Risks in China. Retrieved from http:/ /bi.galegroup.com Shobert, B. (2013). Three ways to understand GSK's China scandal. Forbes. Retrieved from www.fobes.com