Strongly suggesting a web of deceit in the executive office of HBO & Co., the board of McKesson HBOC last week fired four top officers of the newly merged company's information technology unit and summarily dismissed HBO's former chief executive officer.
The fallout from the debacle included the resignation of the two top officers from the McKesson side of the merger, CEO Mark Pulido, former chairman and CEO of San Francisco-based McKesson Corp., and Richard Hawkins, chief financial officer at McKesson Corp. and at the new company.
The shake-up and allegations of impropriety marred the can-do record of HBO senior managers, who had amassed the largest customer base in the healthcare industry. The software conglomerate claims to have systems in more than 65% of U.S. hospitals.
The firings reflect the seriousness of a continuing audit of irregularities in HBO's accounting practices. Those practices apparently escaped notice during the due-diligence process that led to the Atlanta-based software giant's January merger with McKesson Corp.
The clean sweep of veteran HBO executives also left McKesson HBOC's information technology business without the architects of HBO's elaborate strategy to acquire and integrate many types of software to meet a range of needs in healthcare systems.
That vacuum worries some customers more than HBO's loss of independence did.
"These are deep and significant changes," said John Lee, senior vice president of Seattle-based Providence Health System. "We're one of HBO's largest clients . . . and we were concerned when McKesson purchased them-mostly around the argument of, 'Does this mean a change of focus (at HBO)?' "
The new executive in charge of focusing the information systems business, Graham King, was president of HBO's chief competitor, Shared Medical Systems, from 1987 to 1994. King joined HBO eight months ago after the company he most recently headed, US Servis, was acquired by HBO just before the merger.
Charles McCall, HBO's chief strategist in an aggressive six-year acquisition and expansion streak, was ousted as McKesson HBOC's chairman. McCall had been HBO's chairman and CEO since 1991. He also was dismissed as an employee.
The housecleaning was necessary "because of the nature of accounting improprieties that we have found at the old HBO & Co.*.*.*.*and the participation of senior-level employees of this business in such improprieties," said Alan Seelenfreund, a board member who was appointed nonexecutive chairman. Seelenfreund was McKesson Corp.'s CEO from 1989 to 1997, preceding Pulido.
"The failure of responsible leadership in the (information technology business) unit has harmed our entire employee population and shareholders, and cannot be tolerated," Seelenfreund said.
After the first irregularities surfaced in April, the company hired auditors, whose "private-investigator-type work" revealed an "orchestrated, deliberate attempt to hide information," said Charles Trafton, a healthcare analyst at Adams, Harkness and Hill in Boston.
McKesson HBOC's auditors are not likely to meet a June 30 target for completing their work and issuing a report, said spokesman Larry Kurtz.
The audit uncovered a scheme involving the use of "side letters" to spell out contingencies that had to be met before a contract was completed, Kurtz said. The letters were kept separate from main sales contracts, he said.
Another practice, Kurtz confirmed, was backdating signed contracts into the previous quarter. That was a way to manage earnings statements to meet quarterly investor targets even though some sales were not final.
"One must assume that the intent of this entire episode was to inflate revenues," said Kurtz, adding, "The responsible individuals have been fired for cause, and at this point no other terminations are planned."
Those dismissed were Albert Bergonzi, who headed the McKesson HBOC information technology unit and had been president and CEO of HBO, with responsibility for its sales organization; David Held, formerly CFO and controller of HBO; Jay Lapine, HBO's general counsel; and Michael Smeraski, who headed HBO's sales of systems that automate functions across healthcare organizations.
McKesson HBOC did the right thing from a fiduciary standpoint, said Seth Frank, a healthcare analyst with SunTrust Equitable Securities Corp., Nashville. "It's in their best interests to get this cleaned up as quickly as possible," he said.
But in the process, McKesson HBOC "surgically removed the key people who know what's going on" in the information technology business, Frank said. "When you pull out the most senior management across the organization, it creates a vacuum."
Besides moving Seelenfreund into McCall's chairman role, McKesson HBOC's board appointed former McKesson Corp. officers to all the top executive positions. Two former executive vice presidents, John Hammergren and David Mahoney, were named co-CEOs, with Hammergren taking responsibility for the supply management and information technology businesses.
"We have met with HBO and McKesson and listened to their concerns, and we have been willing to give them the benefit of the doubt," said Providence Health System's Lee. "We hope that McKesson will set up HBO as a separate division with a specific focus and sense of purpose that we believe is essential for any business to survive."
HBO customers are going to have to monitor the company closely and watch for a falloff in meeting contractual objectives, said Sheldon Dorenfest, president of a Chicago-based information systems consulting firm that bears his name.
Of primary concern to healthcare customers and investors is the task of integrating stacks of healthcare applications inherited from about 20 software development companies acquired during the past six years, Frank said.
Hammergren said he intends to give King the authority and resources to tackle daunting challenges such as integration.
"If Graham calls me up tomorrow and says he needs 200 (software) developers, we give him 200 developers," Hammergren said.
But the industry has underestimated the magnitude of that task, said Ron Tarrant, a Broomfield, Colo.-based clinical systems consultant and former HBO project manager. He left the company in October 1998.
A program management director at CliniCom, a Boulder, Colo.-based clinical information systems company HBO acquired in 1995, Tarrant said he became involved in executing HBO's central sales pitch: a one-stop shop for all information needs, with integration an implicit promise.
"It appealed to the 'magic pill' customer who really didn't have the skills and wherewithal to do enterprise management," he said.
But HBO's product management wasn't organized across business units and product lines until a year ago, when project managers became program managers, Tarrant said.
HBO inherited client bases that included many "late adopters" of new technology with a lot of catching up to do, he said. That multiplied the integration problems for customers who depended on a company with integration problems of its own.
Internet innovations are beginning to cut through some of those problems, allowing World Wide Web browsers to access information stored in older-model applications. But software developers also are inventing ways to deliver entire applications over the Internet, a competitive threat to established and conventional vendors (June 21, p. 36).
Frank said he hasn't seen McKesson HBOC articulate a strategy to meet that Internet challenge.
Most leading healthcare software companies have focused more on resolving computer glitches related to systems' inability to handle dates past 1999. A companion problem has been an industrywide pause in purchases of new software, which cut deeply into sales for most of McKesson HBOC's competitors. But early this year HBO said its sales engine was still humming, Trafton said.
By April, however, McKesson HBOC was restating revenues and earnings for the quarter ended March 31 to account for $26 million in improperly recorded sales. That started a 50% slide in its stock price, prompted a "forensic audit" of previous quarters and culminated in last week's shake-up.
The deal between HBO and McKesson originally came together in a week's worth of whirlwind negotiations between McCall and Pulido. Observers said Pulido's resignation resulted from his failure to catch the alleged problems with HBO's books.
Indeed, Pulido told investment analysts a glowing story of financial integrity when the merger was announced last fall.
In a briefing in New York Oct. 19, Pulido said, "In our due diligence, we were very comfortable with (HBO's) revenue (and) expense recognition policy, which is, in my opinion, conservative relative to other companies that we've looked at."