Litigation in Israel and U.S. Mires RNA Drug Developer Arcturus

Xconomy San Diego — 

In the five years since it was founded, San Diego-based Arcturus Therapeutics (NASDAQ: ARCT) says it has built a versatile platform for developing a variety of RNA-based medicines. On the Arcturus website, the company’s pre-clinical development pipeline includes drugs for treating hepatitis B, cystic fibrosis, and other intractable rare diseases and disorders.

But a bitter power struggle between the company’s four-member board and the founding CEO they fired in January has cast a pall over drug development at Arcturus, and may determine the fate of the fledgling biotech itself. Dueling lawsuits between the ousted CEO and the board could consume much of the resources designated for product R&D.

In a statement Wednesday, Arcturus founder and ex-CEO Joseph E. Payne hailed an Israeli court ruling issued Sunday that blocked the board’s plan to raise capital by selling a 24.9 percent stake in Arcturus to an unnamed strategic investor. Payne, who is the biggest Arcturus shareholder with a 13.7 percent stake, said he asked for the injunction as part of a claim he filed in Israel against certain Arcturus directors, alleging they had breached their fiduciary duty to shareholders. Payne claims the previously undisclosed equity financing would set a purchase price 40 percent lower than the trading price of Arcturus common shares before he was fired, and would be “highly dilutive” to the company’s current shareholders.

Payne told Xconomy he filed his case against the company in Israel because of its merger last fall with Alcobra, an inactive Israeli biomedical company. An Israeli-based holding company was formed to operate Arcturus in San Diego, and Payne said the holding company is organized under Israeli law. So the Israeli district court has jurisdiction, he maintains. (The merger provided a way for Arcturus to become a publicly traded company on the Nasdaq exchange without a conventional IPO.)

Arcturus, meanwhile, has filed two separate lawsuits against Payne in San Diego, with the most recent case alleging violations of federal securities law.

Asked for a response to Payne’s statement, the company said in an e-mail to Xconomy Wednesday: “We are confident in the merits of our case in Israel and have asked the court to review the ruling. A cash investment from a strategic investor at a double-digit premium [to the current stock price] is critical to the long-term success and financial strength of Arcturus. The strategic investment, which would provide necessary additional capital to advance our programs towards the clinic, is the largest offer ever received from a strategic partner since Arcturus was founded in 2013.”

The company added: “Rather than viewing the proposed transaction as a pivotal moment in the company’s history, Mr. Payne is unwilling to accept any actions that might compromise his efforts to gain full control of Arcturus without paying a premium to shareholders.”

Nevertheless, the Israeli court ruling has blocked the company’s move to raise additional capital—and therein lies the heart of the matter.

With no drug candidates in clinical trials, Arcturus is now engaged in a full-blown legal battle for control of the company. On its face, at least, the fight would appear to boil down to a question of which side has deeper pockets to continue litigating—and how long it might take to determine whether court rulings in the U.S. or Israel take precedence.

(A proxy battle for control of the company was expected to play out at a special shareholder meeting scheduled for May 7, after Payne nominated his own slate of directors to replace the company’s four existing directors. But the company canceled the meeting, and has yet to reschedule it.)

Asked if the battle is boiling down to a matter of which side can litigate longer, Payne wrote in an e-mail to Xconomy late Wednesday: “It is clear that the current board is willing to waste shareholders money to keep their positions. This [is] about two visions for the company and will come down to who is best for the company and its shareholders vs. who isn’t.”

Such litigation is rare for an early stage biotech, according to Standish Fleming of Forward Ventures, a San Diego firm that specialized in life sciences deals but is no longer actively investing. Startups usually avoid litigation because it’s difficult for a pre-clinical biotech to stay on track amid such battles, Fleming explained. The battle tends to take control.

Fleming, who was responding to a query from Xconomy, said he knows Arcturus executive chairman Stuart Collinson, who also was a Forward Ventures partner, but he has not discussed the dispute with Collinson and prefers to remain neutral.

“The legal battles absorb capital that the company needs to stay alive,” Fleming said. “The ratio of legal-to-operating costs is so high that even good early stage companies can do one or the other, but not both.”

Asked how the company would recover from a months-long distraction from its core business and strategy, Payne wrote, “I am focused on doing what is best for shareholders. The fact is Arcturus and its shareholders want change and change is inevitable. The company I lead will emerge stronger and better positioned to pursue opportunities to grow shareholder value.”

“As for next steps,” Payne added, “May 9th hearing in Israel Court.”