Able Labs Disabled

Generically speaking, Able Labs (NASDAQ:ABRX) is nearly out of business.

The one-time hotshot generic drug maker recalled its entire inventory of mostly prescription drugs last week because of quality control issues. The CEO has resigned, 200 employees have been laid off, and Able has withdrawn its financial guidance for the year. Simply put, Able is unable.

Only a month ago, the company was reporting first-quarter revenue growth of 43%, a 151% increase in operating income, and a 140% increase in earnings per share. Gross profits were up 75% and margins had increased to 54% from last year's 44%. The stock has traded in a fairly tight range between $20 and $25 a share, and was up about 8% so far this year.

This was a company that seemed to be doing things right. So how did it all go so horribly awry?

Well, this isn't the first time the company has run afoul of federal safety guidelines. In February of 2004, the FDA sent the company a letter noting that inspectors had found 27 instances where adverse drug reactions reported to the company were never forwarded to the FDA. Additionally, Able Labs' written procedures for dealing with federal reporting requirements were judged deficient. Able has also had several other product recalls. They weren't quite as sweeping and all-encompassing as this one, but they were serious enough that just two weeks ago, Able felt the need to create the position of vice president of compliance and promote its regulatory affairs director to fill the position.

Able Labs was formed in 2001 from the corpse of failed biotech company Dynagen. It changed its focus from biotechnology to generic drugs, particular those with large sales or little to no competition. For example, it makes -- er, made -- generic versions of Tylenol with codeine, Vicodin, and Ritalin. When name-brand drugs go off-patent, the price falls and the company producing them often withdraws.

It's a problem confronting many pharmaceutical companies today. Motley Fool Income Investor selection Merck (NYSE:MRK), Motley Fool Inside Value pick Pfizer (NYSE:PFE), GlaxoSmithKline (NYSE:GSK), and others face the prospect of some $30 billion worth of branded drugs losing their patent protection, which weighs heavily on their share prices.

The generic drug market is crowded. Large companies such as Novartis (NYSE:NVS) and Sanofi-Aventis (NYSE:SFY) produce generics, as do smaller rivals such as Forest Labs, Barr Pharmaceuticals, King, Teva, IVAX, and MylanLabs. Despite the competition, the industry is growing as pressure from managed care and other cost-containment efforts drive the need for less expensive drug alternatives, as well as legislation to bring generics to market faster. Generic drug revenues are forecast to double over the next five years, while branded drug growth is expected to be around 6% or so.

It's too early to know why Able stumbled so badly. Did the need to try for a larger slice of the growing pie cause it to lose sight of basic safety precautions? The company is no longer able to say precisely how far it has deviated from its formerly high manufacturing standards.

What is known is that Able Labs is a shambles. Its stock price cratered 75% the day after the announcement and has since fallen another 30% since then. In addition to pulling all 40 of its generics off the market, the company suspended any further manufacturing and announced that it would lay off 200 of its 420 employees. Able's CEO is in the wind, and its future remains in grave doubt. It's amazing that anyone is still able to trade in Able's stock.

Specific information about generic pharmaceuticals:

• A Gold Mine in Generics
• Is Big Pharma a Bargain?

Fool contributor Rich Duprey owns shares of Merck but does not own any of the other stocks mentioned in the article. The Fool has a disclosure policy.