More than 5,000 people gathered in San Francisco Monday morning for the start of the JPMorgan H&Q health care investment conference, and everyone was asking the same question: Can the management of

ImClone Systems

(IMCL)

be trusted?

The

revelation that ImClone could be having much more serious problems than previously disclosed with its experimental cancer drug, Erbitux, has cast a cloud over the conference. H&Q, as the confab is known colloquially, is the largest Wall Street biotech and drug investment conference of the year, and as such helps set the tone for the health care sector for the rest of the year. And right now, fund managers gathered here are angry at ImClone and its management.

"This gives the entire biotech and drug sectors a black eye," says one fund manager, who, until last week, was long ImClone. "This is going to have investors questioning whether they can ever trust anything that a biotech executive says anymore."

Shares of ImClone closed Monday down $7.66, or 17.6%, at $35.83 per share.

Contradiction

As fund managers woke up in hotel rooms Monday morning, their New York offices were already faxing copies of

The Cancer Letter

newsletter. The newsletter claims to have obtained a copy of the "refuse to file" letter that the Food and Drug Administration sent to ImClone on Dec. 28, 2001, which details the concerns regulators have with the approval application for Erbitux. What has Wall Street pros attending H&Q so angry is not the actual contents of the RTF letter, but that it clearly contradicts many of the assertions and promises that ImClone has made for well over a year.

"What's so shocking to me is that the letter makes it clear that the FDA has had issues with ImClone and Erbitux for a long time, but the company never told anyone about it," says another fund manager who has been playing ImClone as a trade, both long and short.

ImClone executives did not return phone calls seeking comment.

In particular, there is one passage from the RTF letter that has everyone scratching their heads. "In order for your application to be considered complete, you were informed during the meeting of Aug. 11, 2000, in our letter of Jan. 19, 2001, and during the telephone conference call of Jan. 26, 2001, that the application must provide evidence that the addition of a toxic agent (irinotecan

CPT-11) is necessary to achieve the clinical effect."

ImClone has repeatedly told investors and Wall Street that FDA regulators had signed off on its development strategy for Erbitux. When the company began filing its approval application last summer, ImClone executives said they were in constant contact with the FDA to ensure that any agency concerns were resolved before they escalated into outright problems.

The RTF letter as quoted in the newsletter paints a different picture -- one of a company that continuously ignored FDA concerns.

FDA Wants New Trials

The RTF letter also seems to raise questions about ImClone's decision to use Erbitux in combination with an existing chemotherapy drug, irinotecan, or CPT-11. Simply put, the FDA seems to believe that Erbitux might be an effective drug by itself. In the alleged RTF letter, the agency asks ImClone to conduct tests that would prove this. These tests would be controlled, and therefore more robust than the small "single agent" trial ImClone already has conducted using Erbitux as a stand-alone treatment.

So, if the FDA believes, based on what it's seen so far, that Erbitux might work by itself, why is ImClone pursuing the approval of Erbitux only as a drug used in combination with existing chemotherapy treatments?

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That's the $64,000 question that's really sticking in everyone's craw at the H&Q conference.

A couple of possible answers: The FDA might be dead wrong on this point. ImClone has always believed that Erbitux works by weakening drug-resistant cancer cells, allowing drugs like irinotecan to deliver the coup de grace.

But there's an alternative explanation: ImClone knew that Erbitux works well on its own, but decided against pursuing this development path because of intellectual property issues.

ImClone has been granted a patent on the use of Erbitux in combination with other chemo treatments, which gives it a measure of protection against competition. But ImClone would have no such protection if it pursued development of Erbitux as a standalone cancer therapy. Companies like

Genentech

(DNA)

already own ironclad patents in this area, which would make it very difficult for ImClone.

Genentech, in particular, has been very aggressive in protecting its patent estate, and already has threatened ImClone with legal action if it doesn't agree to license at least one, if not two, Genentech patents, a source familiar with the negotiations tells

TheStreet.com

.

Genentech and its partner

OSI Pharmaceuticals

(OSIP)

are working on a cancer drug called Tarceva that will compete directly with Erbitux, so Genentech has little incentive to offer ImClone a patent license on favorable terms.

Questions for Bristol-Myers, Too

Finally, fund managers gathered at the H&Q conference are ripping

Bristol-Myers Squibb

(BMY) - Get Report

, ImClone's new partner. Was Bristol-Myers misled by ImClone? How much, if any, independent due diligence did the drug giant conduct on Erbitux? Does Bristol-Myers intend to stick by ImClone, or is the partnership in trouble?

Bristol-Myers has yet to make any public statement about the troubles with Erbitux or its commitment to ImClone. That seems strange from a company that has committed $2 billion to ImClone and its cancer drug. Recently ImClone executives insisted the partnership remains solid and that Bristol-Myers is offering all the help it can.

But these days it's hard finding someone who takes ImClone's word at face value. The company is scheduled to make a presentation at the H&Q conference Wednesday morning. Conference organizers might need to rent out a bigger room because there are 5,000 people here who are looking for answers to a lot of questions.