The Trounson Affair and its Financial Fallout

 StemCells, Inc., the California business founded by Stanford scientist Irv Weismann, seems almost certainly to have done a serious financial disservice to itself and its shareholders.

Alan Trounson
San Francisco Business Times photo

One week ago today, the publicly traded Newark, Ca., firm cast a dark shadow over its dealings with a $19-million benefactor, the California stem cell agency. The issue arose when the company appointed the former president of the research effort, Alan Trounson, to its board of directors, only seven days after the Trounson left the agency's employment.

Trounson earned $490,008 annually at the agency. Last year, directors of StemCells, Inc., received up to $99,800 each for their part-time efforts.

The Trounson announcement caught the agency by surprise, as it pointedly noted last week in a statement. Randy Mills, the agency's new president, expressed concern about a possible conflict of interest and ordered a “full review” of activities involving StemCells, Inc. Staffers and board members were banned from communicating with Trounson regarding StemCells, Inc.

Like most small biotech firms, StemCells, Inc., is in perennial need of cash. The firm has no products that generate significant income. Rather, it is in an almost constant fund-raising mode, either by selling stock, borrowing or securing awards, such as the $19.4 million “forgivable loan” from the $3 billion stem cell agency, formally known as the California Institute for Regenerative Medicine(CIRM). The award is basically a grant because it does not have to be repaid unless a product derived from the research reaches certain income thresholds.

But now StemCells, Inc., has damaged its relationship, probably irreparably, with the agency. The firm's chances of securing additional funding have to be rated nearly non-existent.  Putting aside purely business issues for the moment, the primary question for the agency now is whether it can trust StemCells, Inc. The company could not bring itself to notify – in advance – an enterprise with which it has a $19-million relationship about an event of importance to that enterprise. CIRM is likely to be wondering whether StemCells, Inc., can now be trusted to be forthright about other matters, such as results of its research or difficult problems that it faces in reaching the benchmarks laid out in its agreement with the agency.

Even prior to the Trounson announcement, StemCells, Inc., had a checkered history with the agency. The $19.4 million award  for Alzheimer’s research was rejected twice by CIRM’s prestigious reviewers. The 29-member CIRM board approved it on only a 7-5 vote in 2012 after heavy lobbying by the agency’s first chairman, Robert Klein. It was the first case of such public lobbying by Klein after he left the board.

It was also the first time the board had approved an application rejected twice by its reviewers. Almost universally, the board goes along with negative recommendations from its reviewers, saying it does not have enough information to override their decisions.

Pulitzer Prize-winning business columnist Michael Hiltzik of the Los Angeles Times later said the award was “redolent of cronyism.”

Approval of the award came during a grant round in 2012 that also saw StemCells, Inc., receive  another big award from the CIRM board -- $20 million. But that research received a high score from reviewers and was recommended by them.  Both awards required equal matching funds from the StemCells, Inc. – a total of about $40 million from a business that at the time was burning through $5 million a quarter and had only $10.4 million in liquid assets.   The financial capabilities of the firm were not discussed in public by the CIRM board. 

After eight months of negotiations with CIRM, the firm decided to take only the money for the project twice rejected by reviewers,  CIRM had no choice about whether it could fund the higher rated project, which is now in a clinical trial. That development came as the agency was urgently pushing to participate in clinical trials that would fulfill the promises to voters who created the agency in 2004 and help boost its drive for financing beyond 2017, when money for new awards runs out.

Trounson recused himself from the 2012 public discussions of the StemCells, Inc., applications because of his relationship with Weissman, who is a member of the company's board and chairman of its scientific advisory panel. Last January, Trounson strongly backed a $40 million award to a Stanford-led consortium that also involved one of Weissman's top associates. 

Beyond CIRM, the Trounson affair will also raise questions for StemCells, Inc.,’s efforts at private financing. The firm will now have to answer difficult questions about the appointment as it seeks loans or stock sales. The appointment could also play a role in the possible sale of the firm’s research to a Big Pharma company. One of the hopes of small biotech companies is that they will be purchased by a larger enterprise that wants to acquire their research. That is a common way for early investors to reap their profits.  But those big companies do not want unnecessary baggage in the deal.

The stock price of StemCells, Inc., last Monday hit $2.31. It dropped to $2.05 by the end of the week. The price has ranged from $1.15 to $2.43 over the last 52 weeks.

The company lists five analysts that follow its activities. Last week one recommended a buy and the others rated the stock as“outperforming.” Two of the analysts’ companies have financial relations with StemCells, Inc. The others may as well but that could not be immediately determined.

On July 2, prior to the Trounson announcement, The Street.com, which is not listed by the company as an analyst, said,

“TheStreet Ratings team rates STEMCELLS INC as a Sell with a ratings score of D-. TheStreet Ratings Team has this to say about their recommendation:

"We rate STEMCELLS INC (STEM) a SELL. This is driven by a number of negative factors, which we believe should have a greater impact than any strengths, and could make it more difficult for investors to achieve positive results compared to most of the stocks we cover. The company's weaknesses can be seen in multiple areas, such as its deteriorating net income, disappointing return on equity and generally high debt management risk."

The California Stem Cell Report last Monday asked StemCells, Inc., and Trounson for comments on the controversy about his appointment. They will carried verbatim when they are received.