Practical insights for compliance and ethics professionals and commentary on the intersection of compliance and culture.

Theranos and the clash of financing emerging high-tech enterprises and regulatory compliance

The mysterious corporate life of Theranos illustrates many of the challenges that a disruptive business model faces when competitive ambitions take precedence over business foundations. A corporate environment that tolerates, or indeed relies, on a lack of ethical controls develops a culture where misleading and non-compliant conduct becomes the unsustainable norm.

Theranos is a technology company in the health care industry. It has become well-known for its eccentric, charismatic founder Elizabeth Holmes, a precocious and provocative entrepreneur who began developing the blood testing technology Theranos purports to be producing while she was a student at Stanford University. Theranos received tremendous attention from the media, undertaking several successful fundraising rounds and winning prized corporate partnerships and awards for its innovations on the basis of this publicity, all before any of its devices were ever proven effective.

Typical of many high-tech startups, Theranos operated in secrecy, with Holmes acting as its chief evangelist and marketer but speaking always in aspirational terms. Confidentiality, of course, has its place in launching new products to market – especially in the highly competitive and fast-changing technology industry. Beating other firms developing in the same space can make or break disruptive products and the companies that market them. However, these companies and their products have to be real, and an overemphasis on secrecy can also be a red flag for a pervasive fraud.

Unfortunately, all that glitters does not seem to be gold with Theranos. Despite huge valuations and capital raises, the blood testing technology has been criticized for lack of peer-review and has failed to stand up to validation studies. FDA inspection reports necessary before the devices could be sold on the commercial market indicated that the devices were not validated or approved. The media and scientific community turned skeptical of Theranos as time went on, and corporate partners have suspended or cancelled their engagements with the company, which is under criminal investigation by the U.S. government. Laboratories have failed inspections, lost their licenses and certificates to operate, and been closed. A whistleblower came forward regarding design defects in the blood testing technology, leading to a storm of negative publicity and investigations. The future viability of Theranos, and possible liability of Holmes herself for potential wrongdoing, remains uncertain.

Theranos and Holmes, who created a cult of personality around herself which even if briefly convinced the media, investors, the board, and the employees of Theranos to accept her at her word, perfectly illustrate the integrity pitfalls of financing a new company about which the investors are only allowed to know what they are told. Traditional critical review and the studied analysis of outside observers shouldn’t be abandoned in the heat of the venture capital moment due to the persuasion of a person who seems ambitious and charismatic. To do so could be as serious as enabling fraud at the expense of due diligence.

For more insight on the case of Theranos, Nick Bilton’s investigative report for Vanity Fair is an excellent resource.