ADVERTISEMENT

Pesticides and Staph Poison a Private-Equity Drug Maker to Death

Pesticides and Staph Poison a Private-Equity Drug Maker to Death

(Bloomberg) -- Michael Musso had been on the job only a few days in July as Product Quest Manufacturing’s new boss when the head of quality control told him that its over-the-counter drugs made for brands such as CVS and Walgreens were contaminated with potentially deadly microbes. Things went downhill from there.

A dozen recalls followed, which would have been bad enough, but a federal investigation had already found that a second factory was contaminating other human products with a pesticide that Product Quest was making on the same equipment, regulatory and court filings show. Major customers fled in mid-August, and it didn’t help that the company, controlled by private equity firm Kainos Capital, had been in default since at least September 2016, court papers show.

By Sept. 7, Product Quest was bankrupt, leaving its factories shut, about 600 people out of work and the owners to ponder how its 2015 buyout went so wrong. The collapse left a long list of creditors ranging from vendors like Federal Express to lenders like Carlyle Group LP and Blackstone Group LP’s GSO Capital Partners, according to a September court filing.

People involved in the process declined to discuss Product Quest’s demise or didn’t respond to messages seeking comment for this article, and Kainos says it hasn’t been involved for a year. But Musso, the company’s interim chief executive, didn’t mince words in his declaration to the bankruptcy court. He cited “ineffective senior leadership, employee turnover, extensive product quality issues” as well as “operational cost overruns, ineffective production standards and poor pricing practices.”

Carlyle, Madison

Kainos bought Product Quest in August 2015 for undisclosed terms, with lenders including Carlyle and Madison Capital Funding helping to provide an initial $20 million revolving loan and a $120 million term loan, according to Musso’s declaration filed in the bankruptcy. The sum eventually swelled to $153.6 million.

It looked like a good fit for Kainos. The Dallas, Texas-based private equity firm has invested successfully in consumer products such as Slimfast Foods Co. and Ghirardelli Chocolate, and its co-founder and managing partner, Andrew Rosen, had once worked at Carlyle Group as an associate, according to the Kainos website.

Product Quest was started in 1995 by John Regan, the former head of operations for Hawaiian Tropic, known for its sunscreen lotions. Regan expanded from sunscreen into cosmetics, over-the-counter drugs and prescription medicines made at plants in Daytona, Florida and Kannapolis, North Carolina. Until recently, court filings show, customers included chains such as CVS, Rite-Aid, Walgreen’s, Walmart and Target, and brands such as L’Oreal and Valeant.

FDA Warning

Regan initially stayed on at Product Quest until December 2016 when he was replaced by William Smith. But financial and operational difficulties grew, and in September 2017, senior lenders exercised their right to replace everyone on the board of managers, according to Musso’s declaration. The board also hired turnaround firm Conway MacKenzie as an adviser.

Matters were made worse by a U.S. Food and Drug Administration inspection in October 2017 of the North Carolina plant in Kannapolis that found cross-contamination between “topical human drugs and several pesticides,” according to an April 2018 warning letter. It threatened seizures and injunctions if Product Quest didn’t correct the violations.

Expensive Fix

After the company received the letter from the FDA, Smith told the board that fixing the problems in Kannapolis would take several months and cost up to $4 million, Musso’s filing said. The board, which decided the compliance problems at the Kannapolis facility were much worse than Smith had told them, fired him in early July, the filing shows.

The role passed on July 10 to Musso, a managing director at Conway MacKenzie and former CEO of Summit Industries Inc., which also made over-the-counter drugs. The next day, the head of quality control told Musso that products from the Daytona factory were contaminated, and that she had told Smith about the problems in person and in writing, the declaration states. Regan had also known about quality problems at Daytona, but neither had addressed the issue or notified the board, according to Musso’s declaration.

Regan couldn’t be reached for comment and a lawyer for Smith didn’t respond to emails.

Products shipped to customers from Daytona tested positive for bacteria including staph, spurring a recall of 13 products at the end of July and a shutdown of the factory, Musso wrote. The recall expanded to all nasal products and baby oral gels, according to court papers and news releases. Such contaminations are potentially fatal to babies, young children and those with weakened immune systems, the company said, adding that it didn’t know of any actual illnesses or adverse events.

Musso and Carlyle declined to comment for this article, and representatives for Madison didn’t respond to messages. Mark Semer, an outside Kainos representative, said via email that “Kainos has not been involved in Product Quest for a year.” An Oct. 5 court filing by Product Quest shows that Kainos still owned a stake of at least 86 percent. Semer didn’t respond to follow-up emails or calls.

Both factories are now shut, and earlier this month, Product Quest lawyers moved for the bankruptcy to be converted from a Chapter 11 reorganization to a Chapter 7 liquidation. A hearing is set for Oct. 29. John Northen, a lawyer representing the company in bankruptcy, said, “There is no expectation that operations will resume.”

To contact the reporter on this story: Josh Saul in New York at jsaul15@bloomberg.net

To contact the editors responsible for this story: Rick Green at rgreen18@bloomberg.net, Dan Wilchins

©2018 Bloomberg L.P.