Liberty

I don't know anything about options. My comment wasn't just about your last one, but about many from you and others that I've seen about absolute numbers of debt. Rather than relative debt to earning power and the quality of what the debt has been exchanged for. I'm happy they didn't issue equity. A business of this quality, showing such strong growth (organic and otherwise) and deleveraging quickly, shouldn't issue equity when it's trading as such low multiples. If the stock price goes down for any period of time because of some hiccup, they'll probably do buybacks (something they've mentioned in the past year, but the price has risen a lot since), another way to create value. What would worry me is deterioration in business fundamentals and/or management starting to do stupid things. I haven't seen that so far, so I'm happy to hold for the long-term.

Sad news.

Out of curiosity, what multiple of FCF would you consider paying for it?

Nobody seems to give a crap. But this got cheaper today.

Yes, of course! This is the scenario “everything goes according to plans”! ;) Gio Sure, but when the plan is conservative, with a large margin of safety, and something that has been done multiple times by the company before, I don't think it's crazy to use the plan as a base case. The whole point of spending months/years studying a company, digging up every insight possible about management and the assets, etc, is to get to a point where you either trust or don't trust management and the business (and if you don't, you don't invest!). When Prem says something, you tend to trust him because you've build up that trust over time. It's not just blind trust, right? To me, it's not crazy to trust Pearson at this point (trust but verify, of course). Salix appears to be going through a one-time, solvable problem. A salad oil scandal, if you will. The only reason the debt looks this high is because Salix EBITDA is depressed temporarily, but if it wasn't the case, they couldn't buy the company at this price. Maybe there are more problems, but I still trust VRX to make the best of the situation if that happens. I guess we'll find out over the next year or two how it works out.

You seem to be looking at the debt in absolute numbers quite often. Why? The number 30bn is meaningless on its own. The question that matters is: What did they get for this new 15bn of debt? If they got 15bn of value or more, then it's a wash or a gain. If you think their forecasts and models are conservative (they've pretty much always over-delivered in the past and don't take into account known things like the tax rate), and you saw them say that they expect to be below 4x debt-to-EBITDA next year, then the real question becomes "is 3-point-something debt-to-EBITDA too high for Valeant?". IMO <4x leverage is just fine for Valeant. What we're seeing now is a temporary spike, but just like you don't judge the market only at extremes, you shouldn't judge Valeant's debt load only at extremes. They went above 4x with B&L and then quickly delevered, and now they're doing it again.

http://scottgrannis.blogspot.ca/2015/02/the-65-year-trends-in-equity-prices.html

You and original mungerville might think this is strange, but my idea is that today an investment in VRX is much safer than it was when VRX stock price was around $120… Why? Because now we have the evidence the market still likes VRX’s deal making very much, despite all the attacks VRX business model went through in 2014, and despite renowned investors like Grant and Chanos having publicly shorted the stock. This evidence is important to me: never before in its history VRX business model had been put to the test like it was in 2014, and now we have at least some evidence VRX has passed that very demanding test with flying colors! So, let’s put it this way: first I doubled my money in VRX, then I watched from the sidelines when I thought the picture was too hard for me to judge, now that, despite all the doubts raised VRX seems able to proceed undisturbed, I have decided to invest again. With caution, because its debt is very high indeed, but I want to be again a VRX’s shareholder. Gio It definitely is more proven now, but I think it was proven enough before (but that's my determination, you can have your own). But IMO it isn't $80-100 USD more proven compared to back when it was around 100-120 a few months ago (esp. since the USD was a lot lower compared to the CAD that I use and the Euro that you use, so it's actually another double+ in a few months for us). Anyway, glad our little discussion made you reconsider. The ability to change one's mind is a good quality to have, and I've changed mine often reading things on this forum.

http://finance.yahoo.com/news/biosyent-releases-q4-full-2014-130000405.html

Thanks, much appreciated! What do you mean "add a number to the account"? Where can I see if my account has one? I don't know if you can "see" it. At one point in 2013 around October they added a digit to the account number and account numbers went from having 6 digits to 7 digits. If your account pre-dates that it falls into the category I mentioned. I think its a technical thing on their side. I created my IB Canada account in 2014, so I guess I should be ok on that front. Thanks.

Sure. And insurance is a cyclical commodity business with no barriers to entry and heavy regulation. I'm not saying insurance float is bad, just that it isn't the holy grail. It has good sides and bad sides. If it was this great in itself, more than just a handful of insurance companies in the whole industry would be doing great things with it. And Valeant isn't exactly keeping its debt in a revolving line of credit at the whims of the bank. Long-dated bonds have predictable maturities and interest rates. Valeant's CFO has also said that he thinks it's pretty much assured that Valeant will eventually be investment grade. That'll help its access to capital too, when/if that happens. As for economic shocks, well, look at Allergan's revenues in 2008-2009. Merely flat (actually grew a little). And this is during the worst crisis in many generations. And allergan is a decent proxy for the kind of durable portfolio of assets that Valeant is building.

Sure. My point was mostly that you can't look at the glass half full on one side and at the glass half empty on the other. Different businesses have different risks. Maybe I wasn't clear enough with my analogy. I haven't looked at these companies in a while, but when I did FFH had assets to equity of something like 4.5 and MKL was at 3.5. Now they're closer. This leverage magnifies moves, hence hedging can sometimes be useful defensively if you don't want to delever. Also, FFH tends to invest a good part of its equity in cigar butts, turnarounds, and other difficult situations. These are more fragile by definition if there's a big shock to the economy. Markel tends to prefer boring good quality businesses for its equity. That makes a difference. Not saying one approach is better than the other, and I didn't mean to turn this into a thread about FFH and MKL. My important points are those you didn't quote, about float and debt and what you can buy with each.

I don’t agree. Float is a completely different beast. That’s why, as long as you underwrite profitably, Buffett says float is even more valuable than equity. They must be good enough underwriters, of course! And that is the business judgement you have to make. But to compare the predictability of creams and contact lenses with the predictability of hurricanes and floods imo doesn’t make any sense at all… The hedging thing is also a myth imo: a big shock could have a similar impact on MKL’s equity, and yet they don’t hedge… ;) Gio Leverage is leverage, it cuts both ways. Float has a lower cost than debt if you underwrite well over a full insurance cycle, that's true, but the effect on the returns to shareholders is similar. If Fairfax does something stupid with its float, they can more easily wipe our their equity than if they didn't have any float, just like a company with debt can do the same. In a cyclical business or with non-durable assets (a mine, an oil well), paying back the debt and keeping it low is paramount because your cashflows have a limited life. But with durable businesses, you can stay levered permanently and that's just part of the model, like float is for insurance. Malone doesn't intend to ever pay down all his debt on businesses that can support it, and I doubt Valeant does too (if they couldn't make acquisitions, they'd probably keep levered up by buying back stock, like QVC and SIRI). Fairfax has a lot of low-cost float (hasn't always been low cost, might not always be), but they have to invest most of it in bonds and safe things because insurance has a claim on it, and they sometimes have to carry expensive hedges to protect their equity because of the leverage (another option would be to delever to a level similar to MKL, for example). Valeant is paying more for its debt than FFH is paying for its float, but it doesn't have to invest most of it in bonds and safe thing, it can go for much higher-return opportunities. If these opportunities offer better returns on average by at least the cost of debt, than Valeant's debt is actually quite a good deal even compared to insurance float. Insurance float isn't magical, it's just a way to lever up; it has benefits (low cost, durable), and disadvantages (restricted in what you can do because of insurance needs) Look at the ratio of assets to equity at MKL vs FFH (granted, the difference used to be higher not too long ago - but I think over the cycle it's mostly been much wider than now), and look at the kind of things they invest in in their equity portfolio. That's where the differences are. Sanjeev has made a compelling argument a while ago about exactly this, and I mostly defer to his expertise on this one.

What do you mean? Are you going to buy a company that has 30bn of debt when we're 7 years into a bull market? ;)

I am not comfortable at all! That’s why, though I would have preferred a rights offering rather than selling shares to new shareholders, I like the fact they have chosen not to raise their debt level. If you don’t owe anything to anyone, your business results may go up and down without feeling the pain too much. To owe lots of money might make business sense, like you have so clearly explained, but you better be sure business results go up and stay up… This is what makes me uncomfortable… Gio But Fairfax is levered, just in a different way. In fact, it's why they had to so aggressively hedge, because otherwise a big shock could have had a big impact on their equity. I'd say skin creams and contact lenses are more predictable than hurricanes and floods, but maybe it's just me ;) Valeant's organic growth has been accelerating for quite a while, but who the heck knows what will happen in insurance or with interest rates (which matter when you have a bond porfolio that is multiples of your equity)... You have to pick the risks that you are comfortable with.

Well, Salix went from $30 in 2010 to $170 in September 2014. Then in November 2014 it gets accused of stuffing its inventory, making its sales growth appear artificial. And the stock goes down 50%. The CEO and CFO resign, lawsuits ensue, etc. Then rumors of a sale begin, and the stock recovers. Pearson now accepts to buy at $158 per share, quite near its all-time high. I am sure Pearson knows what he is doing now, but it doesn’t seem a deal without risks to me… What if he is wrong on a deal that doubles VRX’s debt level? I understand he is giving away something which costs him 6% to get an asset that might earn 20%... But the 6% is sure, the 20%, though very probable, might not be that sure… Listen, in my experience business is difficult… I don’t know what might go wrong… But I usually have a very hard time thinking that nothing could ever go wrong! And the idea of having put myself in the situation of paying 6% over $30 billion no matter what happens to my business makes me somewhat nervous… Though for something as good as VRX, I am trying hard to control this feeling of discomfort! ;) Gio Indeed. As with any company that does M&A, you have to trust the due diligence process to some extent. Fairfax makes big acquisitions too, and has been burned very badly in the past. Why are you comfortable they won't make a big mistake soon? Pearson's track record is pretty good, and you could say that doing lots of small deals does build up experience for the DD team. I also think that as a ex head of McKinsey's pharma stuff, he's spent his whole career looking inside a lot of businesses. Chances are he was already pretty familiar with many of the companies he's looking at acquiring now. Not all CEOs have that background with other companies. I think the thing that makes me more comfortable with Salix is that there's a new management that has been auditing the company for a while, and in their DD process Valeant had access to inventory info from wholesalers (they said that they had "almost perfect information" by SKU and by distributor -- this isn't Salix giving them that info, it's the distributors, so you would have to not trust them either). They've already put 500m of inventory workout in the deal model and I think they mentioned on the call that they also made provisions for potential further problems if they were to arise, so the numbers they're giving us already include a pretty big margin of safety, they aren't a "everything goes perfectly" projection. I would be very surprised if they didn't over-deliver on synergies by at least 100m, and remember that their deal model is done at statutory tax rates, not at Valeant's actual tax rate, so there's another margin of safety there too.

Low-key interview with Pearson on Bloomberg. Nothing new... http://www.bloomberg.com/news/videos/2015-02-23/how-valeant-stands-to-benefit-from-salix-acquisition

Thanks, much appreciated! What do you mean "add a number to the account"? Where can I see if my account has one?

If debt were lower and more easily manageable, I wouldn’t worry at all! I wouldn’t worry even if Pearson might finally commit a major blunder… It is debt that makes me nervous… Because I think debt dangerously shrinks any room left for error… Anyway, thank you! Gio Gio, could you please tell me what type of scenario you are envisioning that could make the debt problematic? Like, they buy a big, profitable, growing company, and after the acquisition it turns out it's losing tons of money and shrinking? Or there's a global recession big enough that people all around the world stop buying products in all countries and all categories at the same time for long enough that we come to the debt maturities without the ability to refinance? What's the outline of a scenario that you're afraid of. I'm curious.

Of course Valeant has made mistakes, they even talk about that. The important thing is: How big are those mistakes, how are they fixing them, how are they learning from them? They've clearly admitted, for example, that cuts in the salesforce of Medicis was a mistake, and they learned from it for B&L and that acquisition was no doubt much smoother because of it. Same way that I'm sure Buffett learned from Dexter Shoes and General Re's derivatives and such. As for the ability to carry debt, that's a business determination that each investor must make for themselves. The way I look at it, some businesses can carry leverage, and some can't. Those that can tend to have certain characteristics that I see in Valeant, like stable, predictable, growing cashflows that are not susceptible to big single risks. That's why Malone likes subscription models with millions of tiny customers. Big pharma with blockbuster drugs and large R&D budgets are a lot more unpredictable, because when a blockbuster goes off patent or is challenged for whatever reason, you lose all of a sudden a huge chunk of revenue, and big R&D spending is also an unpredictable element because you can spend a lot until later stages of a project and it can lead to nothing. You also have a much smaller margin of safety if you spend most of your gross margin on SGA, taxes, and R&D. Valeant has thousands of small drugs, spread geographically across the world and across therapeutic areas. These assets were selected for strong growth and durability, and because they aren't at the whims of government reimbursement rules and such. In other words, risk is spread, cashflows are more stable and predictable. So you have to ask yourself what would need to happen for these cashflows to be materially affected? People around the world stop buying the creams recommended by their dermatologists and the contact lenses prescribed by their eye doctor? People stop getting traveler' diarrhea? I also think that the debt must be looked at from a business perspective, not just "oh, it would take the X years to pay it back". It's not like they're an unprofitable business that is funding operations with a credit card and at some point they'll run out of rope, and the best thing they can do it pay it back. What Valeant are doing is exchanging debt for assets, and these assets are more valuable than the debt, in good part because of Valeant's model. They are more disciplined than competitors on price - the vast majority of things they buy are private businesses and they are the lone bidder - yet assets are worth more in their hands than they are in competitors' hands because of the lean model, the "low-margin mindset in a high-margin industry", the low tax rate, the large worldwide salesforce which can leverage new assets coming in, etc. There's a margin of safety right there, like being an activist investor, or creating your own catalyst in a way. Look at almost anything they bought. They paid a reasonable price, and bam, the next day they own something that's already worth more because taxes went down double digits. Then 6 months or a year later the restructuring is done and the SGA has been cut down significantly, R&D has been rationalized, manufacturing consolidated, wasteful practices are gone, etc, and it's worth even more than on the day it was acquired. In fact, we've mostly seen organic growth pick up post-acquisition, so on that front too the businesses are worth more (the main exception is Biovail, but that one was done for different reasons, it brought billions in benefits indirectly from the inversion). What Valeant is basically doing is exchanging a 10 dollar bill for a 20 dollar bill (the businesses it gets are worth more in their hands than the debt they're taking on in exchange). Anyone who can exchange mid single-digit debt for businesses giving them high double-digit returns would be stupid not to do it. But of course, there's no guarantees, which is where business-like judgement is required.

Yes.

For those who have opened RRSP/TFSA accounts at IB Canada: If you haven't opened these accounts at the same time as a regular, unregistered account, can you tell me what the process was? (in other words, you have a regular account first, and later want to open these registered accounts) I see applications forms on the site, but I'm not sure if there's a way to open the accounts (RSP, TFSA) in a way that is linked to my current account, or if I have to fill out two independent forms and I'll end up with 3 mostly separate accounts. More in general, how does it work when you have multiple accounts like that at IB Canada. Are they somehow linked and managed together, or they all have completely separate logins/pass? Thank you in advance. (thanks rb for pointing out that I mistakenly posted this in the wrong thread -- oops)

I never said I was negative on China. I commented on a specific post about the Chinese work ethic and such. Nevermind.

Yeah but you can look at the huge gap in cost of workers and conclude there is still plenty of catching up to do. They would have to be a lot worse then western workers to justify their cheaper price. I agree with this sentiment if the difference was much smaller. But because the difference is so large, you can safely say that it is likely they will keep growing for another decade. A lot of things that are "likely" and "supposed to happen" don't happen, because there are way too many moving parts and variables and feedback loops and reflexivity in the system, and our information is too imperfect and limited, as is our brainpower. Looking back it's always obvious why something happened, but at the time nobody saw it coming. Were you shorting oil before the crash last summer? How are the other BRIC countries that everybody praised a few years ago doing? You need to learn self-doubt. I'm not even saying that China will do badly. Maybe it'll do better than people expect. That's not my point.

The point was not that China is Japan in the 80s. The point was that you can't know what will happen in advance, and if you think you do, you are fooling yourself.