VRX - Valeant Pharmaceuticals International Inc.

[Valueguy134]

Sorry, take out $14.5 billion in debt off of your 38 billion so 23.5/38 ths of your interest expense as well.

 

"The companies said the deal had an enterprise value of $14.5 billion, which would include Salix's debt and any cash on hand. Valeant will pay $158.00 a share, valuing the all-cash transaction at about $10.1 billion."

 

http://www.reuters.com/article/2015/02/23/us-valeantpharms-salixpharms-idUSKBN0LQ0V420150223

 

so I took the debt value as of Q2/15.....the article is as of Feb 2015 with the deal closing shortly after. Why would my debt number be wrong? Also, before you point out the numbers don't match, it's because I'm looking at it in CAD, but then again my earnings are also Cad, so net, the ratios are the same.

 

Well if you took the value as of Q2 2015, with a December 31 year-end, would that not be debt as at June 30th 2015 which would include debt to finance an acquisition closing shortly after February 2015?

 

Unless they decide to pay down debt between now and December 2015, the number I gave you is what it stands at as of today. Cash on the books is only 995 USD,so call net debt like $29B USD. Looking at the Q, it doesn't look like they issued equity for the deal, and they sure don't make enough money to fund it off the books, so I'm sure that debt is here to stay for a while.

 

Looking at the note, it looks like most of that debt is also due in about 8 years. All being equal it will probably be easy to refinance should the market remain call and you have the cash flows (which I'm sceptical about).  The issue arises with, what if they don't grow fast enough, AZ's analysis shows they aren't, and I agree with him. No mater how you or Valeant calculates cash, debt is debt, that is hard money due, a bank isn't going to take your adjusted number as an excuse. So while it could be a 10 year growth story, one would hope that growth is very much front end loaded given what will happen after a patent cliff.  Also remember AZ's simple IRR formula only looked at cash flow after interest payments, he didn't account for CAPEX or the debt repayments. Think about how much money you would have to generate in excess of the massive amount of debt repayments you have to meet that 20% IRR hurdle over the life of the drug, then when you are done the math, take a step back and see if that growth number makes sense and is VRX generating that much on the bottom line. You can add back all the restructuring charges and one-offs you want, cash will be what you have in the bank, not what you show on a slide

 

All I'm getting at is, they are highly levered (approaching bank territory), and have products that truly only have a finite life of around 10 years. As long as you keep acquiring you can issue new debt to pay the old debt, but there will come a point in time where if your cash isn't coming to fruition, trouble will come swiftly. VRX needs big acquisitions to keep the party going.

[thepupil]

picasso, correct me if i'm wrong, but i think you are expressing that if you use such a high discount rate (like the much maligned and much vaunted 20% IRR implies) that years 11-30 do not have a lot of present value.

 

is this what you are saying?

 

If so, I agree. I don't know it it means anything as to whether or not Valeant story works out. But I agree with you that most of the value is in the beginning years at a high discount rate.

 

For a $10 stream of cash flows for 30 years, at a 20% discount rate, years 1 -10 are worth ~$42 and years 11-20 are worth $8.  80% of the value is in the first 10 years, so an analysis that focuses on the first 10 yrs isn't completely crazy.

 

Of course this is not true if one uses a normal discount rate and not one befitting a congolese copper miner...but no one is saying VRX is making normal discount rate type of returns on these deals.

 

I'm not sure if the lack of terminal/residual value completely discredits AZ's work or means his work is "misleading". I give him credit for making a very solid attempt at figuring it all out. Now I already have violated my self-imposed ban in terms of showing up on this thread twice, so I'm off to go solitarily slang some shitty REITs and BDC's on my single poster threads.

 

EDIT: if you grow the cash $10 by 5% per year, 75% of the value is in the first 10 yrs rather than 80%.

[original mungerville]

My point is that IRR is determined by how much cash you get back from your investment. Valeant would have to sell the business to get that final cash inflow to determine what the return is. You can't just add the value without knowing what the cash flows in years 10+ look like, and the time value of money especially when you're looking at 20% returns isn't going to assign much value to it today. So it's not going to move the needle on the IRR.

 

The terminal value is only meaningful if you're looking at it as a cash inflow at some point. And we aren't even getting into what the long-term cash flows of these acquisitions might look like. Like I said, I want to know what time frame VRX is looking to achieve these returns over. I suppose it can vary but it relies on constant deal making and suckers on the way out as well as coming in when doing acquisitions and divestitures.

 

No, the terminal value at year 10 will make a huge difference in the IRR calculation. Don't you see the problem? AZ is assuming that Valeant will get zero cash flows in every year after Year 10 from every acquisition it makes. This means either the business suddenly disappears OR Valeant sold the business. Because I don't believe in magic, Valeant would have to sell the business under AZ's IRR model, and if Valeant sells the business, it will get one big cash payment for that at the end of Year 10.

 

If they don't sell it, and you don't believe in magic, then take AZ's numbers and extend them to include a flat but inflation adjusted yearly cash flow stream from Year 11 to say Year 30, assume the business disappears at that point and then run the IRR again. The result will be materially different.

 

Have you run this calculation?  The result is not materially different, maybe 1 or 2%.  When I get a chance I'll break it out assuming you don't want to.

 

Yes I ran it. If you take AZ_Value's 2nd B&L IRR calculation where he says the IRR is 17.66% stopping at year 10. If you extend his year 10 number to year 30 using 2% inflation compounded per year, the IRR is 24.7%.

 

24.7/17.66 = 1.4 which means based on this simple assumption, his IRR calculation is off by 40%. 40% is a big number.

 

(Another way to do it is to assume a multiple for the business generating 5160 in year 10, and assume you get a one time cash payment for that business in that year.)

 

Anyway, that's it for me on IRR 101.

[original mungerville]

Sorry, take out $14.5 billion in debt off of your 38 billion so 23.5/38 ths of your interest expense as well.

 

"The companies said the deal had an enterprise value of $14.5 billion, which would include Salix's debt and any cash on hand. Valeant will pay $158.00 a share, valuing the all-cash transaction at about $10.1 billion."

 

http://www.reuters.com/article/2015/02/23/us-valeantpharms-salixpharms-idUSKBN0LQ0V420150223

 

so I took the debt value as of Q2/15.....the article is as of Feb 2015 with the deal closing shortly after. Why would my debt number be wrong? Also, before you point out the numbers don't match, it's because I'm looking at it in CAD, but then again my earnings are also Cad, so net, the ratios are the same.

 

Well if you took the value as of Q2 2015, with a December 31 year-end, would that not be debt as at June 30th 2015 which would include debt to finance an acquisition closing shortly after February 2015?

 

Unless they decide to pay down debt between now and December 2015, the number I gave you is what it stands at as of today. Cash on the books is only 995 USD,so call net debt like $29B USD. ... VRX needs big acquisitions to keep the party going.

 

OMG. You talkin' in circles now, right? We said $38B in debt minus 14.5B in debt = 23.5B. On top of that Schwabb corrected us, its actually $15.8B for Salix in cash so call that $16B. So, IF they had $38B in debt as of Q2 2015, given the deal closed prior to that, without Salix they would have had $38B minus $16 or $22 billion. So I said 23.5B, and got corrected to $22B.

 

So without Salix, they would have had $22B on the books. With only one quarter of Salix EBITDA, in your original "analysis" you chose to record the full $38B in debt, yet only include one quarter of Salix EBITDA by using a trailing twelve month EBITDA figure for Valeant!! Even worse than that, as I explained, that one quarter of EBITDA is probably not representative given the huge synergies Valeant has stated. Add to that the IBD confirmation which will generate even more EBITDA from the $16Billion in debt they took on. So, basically, in your figures you have the full debt related to Salix, but have probably less than 1/10th of its annual EBITDA going forward.

 

And then you finish with "...VRX needs big acquisitions to keep the party going." Why should anyone believe your conclusion when you can't compare basic apples to apples when running financial ratios? Same for AZ_Value, the guy can't do an IRR calculation correctly!

 

 

[original mungerville]

the pupil,

 

See my post, the second IRR calculation of AZ_Value's is off by 40% making a basic assumption for cash flows between Year 10 and Year 30.

 

Last time I checked, 40% is a big number. You can run it yourself in Excel, I gave you all the information you need.

[Liberty]

Sorry, take out $14.5 billion in debt off of your 38 billion so 23.5/38 ths of your interest expense as well.

 

"The companies said the deal had an enterprise value of $14.5 billion, which would include Salix's debt and any cash on hand. Valeant will pay $158.00 a share, valuing the all-cash transaction at about $10.1 billion."

 

http://www.reuters.com/article/2015/02/23/us-valeantpharms-salixpharms-idUSKBN0LQ0V420150223

 

so I took the debt value as of Q2/15.....the article is as of Feb 2015 with the deal closing shortly after. Why would my debt number be wrong? Also, before you point out the numbers don't match, it's because I'm looking at it in CAD, but then again my earnings are also Cad, so net, the ratios are the same.

 

Well if you took the value as of Q2 2015, with a December 31 year-end, would that not be debt as at June 30th 2015 which would include debt to finance an acquisition closing shortly after February 2015?

 

Unless they decide to pay down debt between now and December 2015, the number I gave you is what it stands at as of today. Cash on the books is only 995 USD,so call net debt like $29B USD. Looking at the Q, it doesn't look like they issued equity for the deal, and they sure don't make enough money to fund it off the books, so I'm sure that debt is here to stay for a while.

 

Looking at the note, it looks like most of that debt is also due in about 8 years. All being equal it will probably be easy to refinance should the market remain call and you have the cash flows (which I'm sceptical about).  The issue arises with, what if they don't grow fast enough, AZ's analysis shows they aren't, and I agree with him. No mater how you or Valeant calculates cash, debt is debt, that is hard money due, a bank isn't going to take your adjusted number as an excuse. So while it could be a 10 year growth story, one would hope that growth is very much front end loaded given what will happen after a patent cliff.  Also remember AZ's simple IRR formula only looked at cash flow after interest payments, he didn't account for CAPEX or the debt repayments. Think about how much money you would have to generate in excess of the massive amount of debt repayments you have to meet that 20% IRR hurdle over the life of the drug, then when you are done the math, take a step back and see if that growth number makes sense and is VRX generating that much on the bottom line. You can add back all the restructuring charges and one-offs you want, cash will be what you have in the bank, not what you show on a slide

 

All I'm getting at is, they are highly levered (approaching bank territory), and have products that truly only have a finite life of around 10 years. As long as you keep acquiring you can issue new debt to pay the old debt, but there will come a point in time where if your cash isn't coming to fruition, trouble will come swiftly. VRX needs big acquisitions to keep the party going.

 

Product life isn't around 10 years. Look a bit earlier in the thread, I posted a breakdown of what is durable and why.

 

And if the company's own audited numbers are more reliable than AZ's numbers, which I believe they are, they are showing strong organic growth which makes the debt load relative to the earning power fall over time.

 

The whole argument that 'the assets are losing value but the debt is retaining its value so all they can do is borrow ever more to buy ever more declining products until they hit a wall' is incorrect. The assets are mostly durable, they are growing (now guided double digit based on current pipeline for at least 2 years, expected until 2020), and new acquisitions are adding value because they target good assets with inefficient management, buy into fast-growing therapeutic areas and geographies and optimize profitability with lean operations, targeted R&D, low tax, and the scale benefits of plugging products into a large existing salesforce.

 

Anyone who doesn't believe that there's a lot of fat to cut in large, high-margin corporations, and that strategy and capital allocation can't be improved by superior management (or at least more shareholder-friendly management) at such companies (especially if you target the most inefficient ones with good assets) needs to get out in the real world more. I've worked at a startup that had lots of fat to cut...

[thepupil]

the pupil,

See my post, the second IRR calculation of AZ_Value's is off by 40% making a basic assumption for cash flows between Year 10 and Year 30.

Last time I checked, 40% is a big number. You can run it yourself in Excel, I gave you all the information you need.

 

okay, I definitely understand your point as it applies to that very specific scenario (where cash flows go from $1B to $5B over 10 yrs), whether or not the stream is perpetual IS absolutely very important!

 

I don't understand picasso's point then; my feeble attempt to understand it above led me to conclude he was just observing that at a high discount rate the majority of PV is in the front years. presumably he is running the same calc and comes to a completely differently conclusion.

 

Maybe he is using the $2,300 / year one where it stays flat and concluding differently? Picasso isn't an idiot and I think he generally posts great stuff, so I'm trying to understand both here.

 

EDIT: so if you run the 1st scenario (the expend $9,300 / year and make $2,300 / year for 10 years), the difference in IRR in just doing years 1-10 versus 1-30 is in fact 3% (21% versus 24%) so I think that's what Picasso is saying, not that 3% is inconsequential because it is not.

 

For the other scenario that involves quintupling of cash flow (20% per year growth) for 10 yrs, the one original mungerville extended out, the difference in IRR's is indeed ginormous (the 17% versus 24%).

 

So you are both right : )

[Picasso]

Sorry to have to drag you into this debate pupil.  I was trying to point out in several posts what you were able to quickly say in one.  The funny part is that the VRX  bulls are trying to justify perpetual 20% growth rates as reasons why AZ's work should be discredited.  The 20% growth is magically there and leaving out that superhuman achievement is somehow severely undervaluing Valeant.  We can't get any clear answers outside of presentations or commentary from management, just murky reasons that sound good enough to be true.

 

And still no cash flow spreadsheets out there showing a credible cash in/cash out returns.  Just more stories and slides from management.

 

We'll see if we can trust management but I should take your approach and focus more on the busted BDC's and scrappy cigar butts.  At least no one's calling each other names on those threads :)

[original mungerville]

the pupil,

See my post, the second IRR calculation of AZ_Value's is off by 40% making a basic assumption for cash flows between Year 10 and Year 30.

Last time I checked, 40% is a big number. You can run it yourself in Excel, I gave you all the information you need.

 

okay, I definitely understand your point as it applies to that very specific scenario (where cash flows go from $1B to $5B over 10 yrs), whether or not the stream is perpetual IS absolutely very important!

 

I don't understand picasso's point then; my feeble attempt to understand it above led me to conclude he was just observing that at a high discount rate the majority of PV is in the front years. presumably he is running the same calc and comes to a completely differently conclusion.

 

Maybe he is using the $2,300 / year one where it stays flat and concluding differently? Picasso isn't an idiot and I think he generally posts great stuff, so I'm trying to understand both here.

 

EDIT: so if you run the 1st scenario (the expend $9,300 / year and make $2,300 / year for 10 years), the difference in IRR in just doing years 1-10 versus 1-30 is in fact 3% (21% versus 24%) so I think that's what Picasso is saying, not that 3% is inconsequential because it is not.

 

For the other scenario that involves quintupling of cash flow (20% per year growth) for 10 yrs, the one original mungerville extended out, the difference in IRR's is indeed ginormous (the 17% versus 24%).

 

So you are both right : )

 

AZ_Value's method and calculation that I pointed out is wrong. That is the only point I am making - its dead wrong.

 

He inflated his analysis to prove that Valeant is "inflating" their numbers. Nice.

 

 

 

[original mungerville]

Sorry to have to drag you into this debate pupil.  I was trying to point out in several posts what you were able to quickly say in one.  The funny part is that the VRX  bulls are trying to justify perpetual 20% growth rates as reasons why AZ's work should be discredited.  The 20% growth is magically there and leaving out that superhuman achievement is somehow severely undervaluing Valeant.  We can't get any clear answers outside of presentations or commentary from management, just murky reasons that sound good enough to be true.

 

And still no cash flow spreadsheets out there showing a credible cash in/cash out returns.  Just more stories and slides from management.

 

We'll see if we can trust management but I should take your approach and focus more on the busted BDC's and scrappy cigar butts.  At least no one's calling each other names on those threads :)

 

Picasso, if I called you a name I apologize for that but you have to agree that AZ_Value's IRR calculations are wrong. Its just that simple, they are wrong - both in result and methodology.

[original mungerville]

Actually Picasso, I take that back, I didn't call you a name. I'm done with this discussion and AZ_Value's "analysis" of Valeant. I guess I was expecting a lot better.

[original mungerville]

Sorry, take out $14.5 billion in debt off of your 38 billion so 23.5/38 ths of your interest expense as well.

 

"The companies said the deal had an enterprise value of $14.5 billion, which would include Salix's debt and any cash on hand. Valeant will pay $158.00 a share, valuing the all-cash transaction at about $10.1 billion."

 

http://www.reuters.com/article/2015/02/23/us-valeantpharms-salixpharms-idUSKBN0LQ0V420150223

 

so I took the debt value as of Q2/15.....the article is as of Feb 2015 with the deal closing shortly after. Why would my debt number be wrong? Also, before you point out the numbers don't match, it's because I'm looking at it in CAD, but then again my earnings are also Cad, so net, the ratios are the same.

 

Well if you took the value as of Q2 2015, with a December 31 year-end, would that not be debt as at June 30th 2015 which would include debt to finance an acquisition closing shortly after February 2015?

 

Unless they decide to pay down debt between now and December 2015, the number I gave you is what it stands at as of today. Cash on the books is only 995 USD,so call net debt like $29B USD. Looking at the Q, it doesn't look like they issued equity for the deal, and they sure don't make enough money to fund it off the books, so I'm sure that debt is here to stay for a while.

 

Looking at the note, it looks like most of that debt is also due in about 8 years. All being equal it will probably be easy to refinance should the market remain call and you have the cash flows (which I'm sceptical about).  The issue arises with, what if they don't grow fast enough, AZ's analysis shows they aren't, and I agree with him. No mater how you or Valeant calculates cash, debt is debt, that is hard money due, a bank isn't going to take your adjusted number as an excuse. So while it could be a 10 year growth story, one would hope that growth is very much front end loaded given what will happen after a patent cliff.  Also remember AZ's simple IRR formula only looked at cash flow after interest payments, he didn't account for CAPEX or the debt repayments. Think about how much money you would have to generate in excess of the massive amount of debt repayments you have to meet that 20% IRR hurdle over the life of the drug, then when you are done the math, take a step back and see if that growth number makes sense and is VRX generating that much on the bottom line. You can add back all the restructuring charges and one-offs you want, cash will be what you have in the bank, not what you show on a slide

 

All I'm getting at is, they are highly levered (approaching bank territory), and have products that truly only have a finite life of around 10 years. As long as you keep acquiring you can issue new debt to pay the old debt, but there will come a point in time where if your cash isn't coming to fruition, trouble will come swiftly. VRX needs big acquisitions to keep the party going.

 

Product life isn't around 10 years. Look a bit earlier in the thread, I posted a breakdown of what is durable and why.

 

And if the company's own audited numbers are more reliable than AZ's numbers, which I believe they are, they are showing strong organic growth which makes the debt load relative to the earning power fall over time.

 

The whole argument that 'the assets are losing value but the debt is retaining its value so all they can do is borrow ever more to buy ever more declining products until they hit a wall' is incorrect. The assets are mostly durable, they are growing (now guided double digit based on current pipeline for at least 2 years, expected until 2020), and new acquisitions are adding value because they target good assets with inefficient management, buy into fast-growing therapeutic areas and geographies and optimize profitability with lean operations, targeted R&D, low tax, and the scale benefits of plugging products into a large existing salesforce.

 

Anyone who doesn't believe that there's a lot of fat to cut in large, high-margin corporations, and that strategy and capital allocation can't be improved by superior management (or at least more shareholder-friendly management) at such companies (especially if you target the most inefficient ones with good assets) needs to get out in the real world more. I've worked at a startup that had lots of fat to cut...

 

No shit on the fat. I have many good friends in pharma - all middle to upper middle management. Lots of late night drinks, etc talking about their work and organizations: tons of fat, its an epidemic if you ask me.

[merkhet]

Good lord. I feel like people on both sides of this thread have lost their shit. From the Megamind movie...

 

http://www.quickmeme.com/img/70/7038c6b355e9a725b5a6411618bf17e4ce8a46b8b560c90031aaa051febf027c.jpg

 

Btw, as a former math major (Is that bona fides enough to make a comment on IRRs? I was discrete and not continuous focused, if that matters. Also, I prefer a protein shake to IRRs for breakfast, if that also matters.), I'd like to step in to the IRR discussion with three things to point out:

 

(1) Dan Kahan of Yale Law had a fantastically good piece of research on how ideology motivates people's mathematical abilities (http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2319992) indicating that two people might see the exact same information and yet interpret things completely differently.

 

(2) Both OM & Picasso were talking completely past one another (ergo my posting of Megamind). You're both technically correct, but I suspect that your reasonings were colored the moment the two of you decided that you were on opposite sides of this debate. IRRs are heavily weighted towards the beginning few years, so OM was basically saying that if they could decrease costs immediately and/or increase sales immediately and maintain this amount w/ a not-substantial-drop once it hits the patent cliff, then they can make their IRRs. Picasso (& AZ) was saying that if they start from a lower base and ease into the decrease of costs and/or increase of sales, then the amount of compounding for the cash flows has to be large in order for the IRRs to work out as promised. See? Like I said before, you're both pretty.

 

(3) I've seen people on this thread confuse IRRs for CAGRs, and they are not the same. If you invest $100 in year 0 and then collect 10 years of $20 payments that you stick in a bank yielding you 0% and then sell the company again in year 10 for $200 (0% growth seems like a 10x-er), then your CAGR is not 20% -- it's 15%. Similarly, if your cash flows are high in the first 10 years but lower in the years after that, you can achieve a high IRR but have a low CAGR because of the lack of value on the back end. (Imagine going from $20 in years 1-10 to $10 from years 11 and beyond -- that drops your CAGR to 11%.) Incidentally, in a situation like the latter one, you'd require the cash flows you take out in the first decade to be reinvested in something to provide you with a CAGR that matches your IRR. (Someone check my logic on this -- it's late, and I'm in the Bahamas and sometimes my brain doesn't work right on the beach.)

 

FWIW, unless I missed it, everyone has glommed onto the IRR discussion but no one has made an effort to reconcile the difference between $11 billion in claimed cash from acquisitions and the $6 billion in total cash flow from operations during that time. A quick glance at cash flow from investments (possible divestments) indicates that it does not account for the $4 billion of difference once you've accounted for the Medicis sales, but I'll readily admit again that I might have missed it.

 

http://3.bp.blogspot.com/-8FPz1xTTuVA/Vd0CIM1PqHI/AAAAAAAAAPA/aRqd3ZaPqa8/s1600/2014%2BCash%2BPayback%2BTable%2B2.JPG

 

Disclosure #1: No position in VRX either long, short, etc. I definitely have a long position in popcorn though.

 

Disclosure #2: I'm long Fannie Mae preferreds, so if you'd like to attack my credibility (from either side), that's probably the easiest way to do it. ;)

[Valueguy134]

Sorry, take out $14.5 billion in debt off of your 38 billion so 23.5/38 ths of your interest expense as well.

 

"The companies said the deal had an enterprise value of $14.5 billion, which would include Salix's debt and any cash on hand. Valeant will pay $158.00 a share, valuing the all-cash transaction at about $10.1 billion."

 

http://www.reuters.com/article/2015/02/23/us-valeantpharms-salixpharms-idUSKBN0LQ0V420150223

 

so I took the debt value as of Q2/15.....the article is as of Feb 2015 with the deal closing shortly after. Why would my debt number be wrong? Also, before you point out the numbers don't match, it's because I'm looking at it in CAD, but then again my earnings are also Cad, so net, the ratios are the same.

 

Well if you took the value as of Q2 2015, with a December 31 year-end, would that not be debt as at June 30th 2015 which would include debt to finance an acquisition closing shortly after February 2015?

 

Unless they decide to pay down debt between now and December 2015, the number I gave you is what it stands at as of today. Cash on the books is only 995 USD,so call net debt like $29B USD. ... VRX needs big acquisitions to keep the party going.

 

OMG. You talkin' in circles now, right? We said $38B in debt minus 14.5B in debt = 23.5B. On top of that Schwabb corrected us, its actually $15.8B for Salix in cash so call that $16B. So, IF they had $38B in debt as of Q2 2015, given the deal closed prior to that, without Salix they would have had $38B minus $16 or $22 billion. So I said 23.5B, and got corrected to $22B.

 

So without Salix, they would have had $22B on the books. With only one quarter of Salix EBITDA, in your original "analysis" you chose to record the full $38B in debt, yet only include one quarter of Salix EBITDA by using a trailing twelve month EBITDA figure for Valeant!! Even worse than that, as I explained, that one quarter of EBITDA is probably not representative given the huge synergies Valeant has stated. Add to that the IBD confirmation which will generate even more EBITDA from the $16Billion in debt they took on. So, basically, in your figures you have the full debt related to Salix, but have probably less than 1/10th of its annual EBITDA going forward.

 

And then you finish with "...VRX needs big acquisitions to keep the party going." Why should anyone believe your conclusion when you can't compare basic apples to apples when running financial ratios? Same for AZ_Value, the guy can't do an IRR calculation correctly!

 

So let's take a look at Salix EBITDA, actually lets look at gross profit (I could do this on a straight revenue number if you prefer)

 

(All in USD millions)

2014: $579

2013: $709

2012: $565

 

So let's assume they get some ridiculous synergies, and they can pull out gross margins in cash in year 1.  What absurd growth rate would you need on those numbers to 1) pay back the $12 billion 2) and after factoring principal/interest payments still meet the 20% IRR hurdle. I'm not even going to bother running the math, just add up those numbers and let me know if it sounds reasonable in whatever possible combination you can think of.

 

You are also right about my leverage numbers, they are wrong, I used a site to pull the data in a pinch, so let me redo the leverage calcs now that I have bloomberg here. VRX has $30.88bn in total debt, and to be fair they carry a 1 billion on the books, so lets go with net debt of $29.88B. VRX did $2.614 billion in LTM EBITDA, after I give them a 20% bump for going into next year we get $3.138B.  Let's say Salix adds $700 million in EBITDA (almost 3 years worth). We get 7.8x. If you think I'm light on the growth of 20%, remember, I'm going on an organic growth basis, more acquisitions means more debt, so my guess would be that the ratio goes higher if anything. Doesn't seem to far off my off the cuff calculation the first time.

 

Now with interest.

 

If you take a look back in the notes, they issue debt around what 5%, but lets just go with 3%. Looking at the 2014 annual, EBITDA/interest expense is about 4x. But without really doing a lot of work, we know they took on about $10B in debt, net, pretty much for Salix. So we take my Salix number up top of $700M and we divide that by the interest expense on the new debt only ($10B*3%) we get $700/$300=2.3x. So the consolidated EBITDA/Interest expense ratio should drop since the Salix deal has a worse ratio than the whole company. It could look better if they get solid growth, but I doubt they will reach the number I provided in the first couple of years.

 

Now you tell me I'm crazy for thinking debt could catch up to them. Salix typically averaged about $80 million in CFFO, in 2013, they benefited from changes in working cap and got about $450. Again, run the math on some growth numbers, what would you need to pay back $10B.

 

I know you won't do the math, so let me give it to you.

 

Here are my assumptions

Debt: $10B

Cash flow yr 1: $700M (Remember I pretty much tripled the current EBITDA for Salix)

Cash Flow Growth Rate: 20%

Interest rate: 3%

 

Here is the answer.  It would take between 9-10 years to pay back. 9 to 10 years!, and I'm giving them the benefit of using interest based on debt at the lowest point each year, rather than averaging 2 years. And now, I'll refer you back to my first point on IRR because right now, the hurdle isn't looking to hot.

 

We can keep going at this, I can do this for VRX as a whole, and the picture wouldn't be much better. So when I mention that they need to keep acquiring to keep the party going, it's because they do. They just don't make enough cash, and like I said before, the bank is going to want hard cash, not 10% of the principal and some monopoly money.

 

If I'm clearly wrong, let me know, like I mentioned before, I have never read the 10-k and spent at most an hour looking at everything today. One way or another, here are some hard numbers to think about.

[ZenaidaMacroura]

removed - redundant!

[merkhet]

removed - redundant!

 

Haha, I was going to self-identify as the board member you were talking to and then refer you to my post above. :)

[rpadebet]

Man this thread was so much better before az_value showed up with his research :)

Everyone was happy and merry with their arguments only limited to: do you go long or super long.

Everyone said they welcome bear cases, but az_value took that offer seriously. ???

 

Let's ban Az_value for causing disharmony in this thread.

 

I still have a VRX position, about 5 shares. Please retain my membership as I am long. :)

[Valueguy134]

Good lord. I feel like people on both sides of this thread have lost their shit. From the Megamind movie...

 

http://www.quickmeme.com/img/70/7038c6b355e9a725b5a6411618bf17e4ce8a46b8b560c90031aaa051febf027c.jpg

 

Btw, as a former math major (Is that bona fides enough to make a comment on IRRs? I was discrete and not continuous focused, if that matters. Also, I prefer a protein shake to IRRs for breakfast, if that also matters.), I'd like to step in to the IRR discussion with three things to point out:

 

(1) Dan Kahan of Yale Law had a fantastically good piece of research on how ideology motivates people's mathematical abilities (http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2319992) indicating that two people might see the exact same information and yet interpret things completely differently.

 

(2) Both OM & Picasso were talking completely past one another (ergo my posting of Megamind). You're both technically correct, but I suspect that your reasonings were colored the moment the two of you decided that you were on opposite sides of this debate. IRRs are heavily weighted towards the beginning few years, so OM was basically saying that if they could decrease costs immediately and/or increase sales immediately and maintain this amount w/ a not-substantial-drop once it hits the patent cliff, then they can make their IRRs. Picasso (& AZ) was saying that if they start from a lower base and ease into the decrease of costs and/or increase of sales, then the amount of compounding for the cash flows has to be large in order for the IRRs to work out as promised. See? Like I said before, you're both pretty.

 

(3) I've seen people on this thread confuse IRRs for CAGRs, and they are not the same. If you invest $100 in year 0 and then collect 10 years of $20 payments that you stick in a bank yielding you 0% and then sell the company again in year 10 for $200 (0% growth seems like a 10x-er), then your CAGR is not 20% -- it's 15%. Similarly, if your cash flows are high in the first 10 years but lower in the years after that, you can achieve a high IRR but have a low CAGR because of the lack of value on the back end. (Imagine going from $20 in years 1-10 to $10 from years 11 and beyond -- that drops your CAGR to 11%.) Incidentally, in a situation like the latter one, you'd require the cash flows you take out in the first decade to be reinvested in something to provide you with a CAGR that matches your IRR. (Someone check my logic on this -- it's late, and I'm in the Bahamas and sometimes my brain doesn't work right on the beach.)

 

FWIW, unless I missed it, everyone has glommed onto the IRR discussion but no one has made an effort to reconcile the difference between $11 billion in claimed cash from acquisitions and the $6 billion in total cash flow from operations during that time. A quick glance at cash flow from investments (possible divestments) indicates that it does not account for the $4 billion of difference once you've accounted for the Medicis sales, but I'll readily admit again that I might have missed it.

 

http://3.bp.blogspot.com/-8FPz1xTTuVA/Vd0CIM1PqHI/AAAAAAAAAPA/aRqd3ZaPqa8/s1600/2014%2BCash%2BPayback%2BTable%2B2.JPG

 

Disclosure #1: No position in VRX either long, short, etc. I definitely have a long position in popcorn though.

 

Disclosure #2: I'm long Fannie Mae preferreds, so if you'd like to attack my credibility (from either side), that's probably the easiest way to do it. ;)

Agreed, that is quite the number to reconcile.

[rpadebet]

Valueguy134-

The more you do this, you are going to slowly and painfully realize that this is some sort of religion or cult you are making a bear case against. It's impossible to even doubt management speak here..

 

Eventually you are going to have to answer are you better than Valueact, Sequoia and Ackman to be taken seriously. Are you?

 

I was part of this cult unknowingly. The sermons I heard last August were good. The church was being attacked and they let me in at half the price.

 

This August I saw light and I ran outside.

[rb]

I was part of this cult unknowingly. The sermons I heard last August were good. The church was being attacked and they let me in at half the price.

 

This August I saw light and I ran outside.

Looks like you ran out with quite a bit of money too. Nice going!

[giofranchi]

Again nothing you guys have started involve numbers.

 

Sorry… But this is misleading… Again…

 

Just take the Q2 2015 conference call transcript and presentation, or Ackman’s valuation of VRX, and you’ll find lots of numbers!

 

The fact simply is: We bulls believe the numbers reported by VRX’s management are true, you bears believe they are false.

 

Moreover: With most companies outside investors simply cannot prove the numbers reported by management. Think of big banks for instance (I have already said you cannot know about BRK either!). Do you really think you can prove anything about a big bank? No, you can’t. That’s why trust is at the root of any business transaction… You must choose who you want to trust, and who you don’t… And you must have criteria that help you choose wisely.

 

Whatever else anybody says is utterly unconvincing.

 

Cheers,

 

Gio

 

[giofranchi]

By the way, the work I have done with VRX is surely not less, and most probably it is much more, than with any other investment of mine.

 

For all of you who don’t believe in ideas (what you sarcastically like referring to as “stories”), and don’t believe in trust, let me be very clear about this: I have never lost a meaningful percentage of my firm’s capital in any single investment of mine so far.

 

Of course, you might say VRX will be the first one… We will see! ;)

 

As an aside:

Sometimes I think the true reason why financial markets will always offer good opportunities is the following: those who really do business are too busy and preoccupied with the management of their companies to develop a real interest in the financial markets, therefore financial markets are left for the most part to people who basically have never and will never run a company in their whole life!

 

Cheers,

 

Gio

 

[Green King]

"I never saw a wreck and never have been wrecked, nor was I ever in any predicament that threatened to end in disaster."

 

Captain Edward Smith in 1907

 

[giofranchi]

"I never saw a wreck and never have been wrecked, nor was I ever in any predicament that threatened to end in disaster."

 

Captain Edward Smith in 1907

 

Well, if I tell you something, I am sure you will find the way to tell me the opposite. Always! Because all of you are intellectually very bright and active!

 

What that has to do with business though… I still have to figure out! In the end either you are right about business or you are wrong. Period.

 

Cheers,

 

Gio

 

[Valueguy134]

Valueguy134-

The more you do this, you are going to slowly and painfully realize that this is some sort of religion or cult you are making a bear case against. It's impossible to even doubt management speak here..

 

Eventually you are going to have to answer are you better than Valueact, Sequoia and Ackman to be taken seriously. Are you?

 

I was part of this cult unknowingly. The sermons I heard last August were good. The church was being attacked and they let me in at half the price.

 

This August I saw light and I ran outside.

 

It's hard to pull the Kool Aid away when their hands are taped to the jug.

 

I agree, but really all I'm saying is that it doesn't take much little leg work to show how absurd some of the claims management make, and AZ shows us. Back to an earlier point I mentioned. It's clear that there is doubt over some of the claims and you would have to make some pretty big leaps of faith to prove the numbers.  People here have made a lot of money off the stock, and probably have a large portion of their portfolio invested in it. All I'm saying is scale back, there is a shadow cast over the stock, so why not de-risk a bit and pull out the house money and let the rest ride if you think Pearson is a genius.