VRX - Valeant Pharmaceuticals International Inc.

[Cardboard]

I had an order in to short the stock at $310 CAD if I recall properly around September 10, 2015. It did not get filled. Then the stock rallied back to the $320 range a few days later and I was relieved that my trade did not go through since who knows how high it could have gone??? Maybe that $345 reached in early August was not the top after all...

 

Even if my short trade had been placed, there is no way that I would have held to this point. After the very rapid 30% decline that followed, I would have been scared to death and likely covered my short. So even if I was skeptical, it was very hard to foresee that this thing would implode the way it did or as fast as it did. Down 85% in 2 months from that last hurrah of September 18 for a company of that size, wow!

 

Regarding learnings for the future, it seems that all these roll-ups end up facing trouble eventually. I recall Tyco, Worldcom and even Fairfax (in the late 90's). They all relied on overvalued currency (stock), debt, could always apparently do miracles with the acquisitions and the pace is exponential.

 

Cardboard

[cmlber]

Hmm, I think they were just lying about the 7%....that's my point.

 

I highly doubt that they were lying about the 7%.  Wouldn't it have been a great face saver for Ackman, who now has intimate inside knowledge of the business, to say in his exit press release "I relied on management statements that Philidor was only 7% of revenues, which turned out to be a serious misrepresentation"? 

 

Wouldn't the auditors have said something, or the independent committees?  That's a serious lie to tell, it's fraud. 

[Guest roark33]

I think what happened is that Philidor itself was "7%", but the Philidor shell game actually consisted of multiple pharmacies and different operating units, which allowed them to say Philidor was only 7%. 

[Rasputin]

it's not the loss of philidor or any other phantom mail in pharmacies that cause the massive drop in revenue and ebitda, it's the additional hurdle put up by the gate keepers on every single valeant rx. 

 

For example with jublia, gate keepers now require prior authorization and coverage is only approved if the patient wasn't successful with generics or has some sort of contra-indication to generics.  This is after significant increase in rebates.  Dermatology was down 50% due to 20% decline in net prices on a 30% volume decline. 

 

Prior to the philidor disclosure etc., the gate keepers were not focused on valeant since each valeant rx represents a small percentage of their total. 

 

 

 

[maybe4less]

I think what happened is that Philidor itself was "7%", but the Philidor shell game actually consisted of multiple pharmacies and different operating units, which allowed them to say Philidor was only 7%.

 

+1

 

This is my interpretation too

[Jurgis]

When fellow boardmembers are going beyond just questioning the acquisitions, the accounting, the long-term strategy...but are also questioning the ethical practices...do not invest.

 

In other words, adhere to the smell test.

 

I'm not saying your advice is bad, but...

 

Keeping in mind your advice, would you invest in WFC? DVA? TDG?

 

Aren't there people questioning some ethical practices of FFH?

 

Where's the line? Isn't every company doing things that are possibly borderline unethical? I'm pretty sure I could accuse every company I own with unethical behavior in some way in the last five years or so...

[Guest roark33]

it's not the loss of philidor or any other phantom mail in pharmacies that cause the massive drop in revenue and ebitda, it's the additional hurdle put up by the gate keepers on every single valeant rx. 

 

For example with jublia, gate keepers now require prior authorization and coverage is only approved if the patient wasn't successful with generics or has some sort of contra-indication to generics.  This is after significant increase in rebates.  Dermatology was down 50% due to 20% decline in net prices on a 30% volume decline. 

 

Prior to the philidor disclosure etc., the gate keepers were not focused on valeant since each valeant rx represents a small percentage of their total.

 

 

??? that was the whole point of Philidor.  Also of those "hurdles" were theoretically there before, but Philidor just rammed the approvals through by any means necessary.  Now, Walgreens won't do that.  People still don't get it.  That's why Philidor was such a secret.....

[Rasputin]

Bridging from the $12 B revenue guidance dec 2015 to $9 B revenue guidance for 2017:

 

1.  Oncology, Dentistry, Women's Health, Neuro and other ($2.75 B in dec 2015 guidance)

Dec 2015 guidance:mid single digit revenue growth for Neuro and other (~$2.2 B), double digit growth in dentistry (~$0.16 B), oncology (~$0.33B), $100 million addyi sales. 

2017 guidance: $655 million Loss of Exclusivity in Neuro and other, minimal Women's Health, pricing erosion and volume decline in all rx.  $1.1 B neuro and other + $0.3B oncology + $0.15 B dentistry for a total of $1.45 B projected in 2017. 

 

2.  Dermatology and Skin Care ($2.2 B dec 2015 guidance)

 

Dec 2015 guidance : double digit growth in dermatology (~$2 B) and skin care (~0.22 B)

2017 guidance : decline of 50% in dermatology to $800 million, $220 million skin care.  Total revenue $1 B. 

 

3.  GI ($2.6 B dec 2015 guidance)

 

Dec 2015 guidance : double digit script growth, revenues.

2017 guidance : $1.5 B, higher volume, lower net prices.

 

 

4.  B+L, Ophthalmology RX, International ($5 B dec 2015 guidance)

 

2017 guidance : $5 B.  Severe decline in egyptian pound vs USD, lower net price in ophthalmology (increased rebates) offset by significant growth in B+L contact lenses, growth in preservision/occuvite. 

Note: Canada sales of $320 million is now included in branded rx (vs International in dec 2015 guidance)

 

[Rasputin]

yes, philidor helped valeant got through hurdles, but philidor only distributed dermatology products.  dermatology is down $800 million from 2015. 

 

the additional hurdles on every single valeant rx and treatment with additional rebates to every single payor is the killer.

[rb]

Ahhh this discussion brings me back. Remember when they were flying high and they were buying Addy and the attitude was like "sure it's more like an option rather than a business but who cares it's only a billion". That billion would sure come in handy right about now.

[Guest roark33]

I wonder how much ackman netted personally from the Addy sale, crazy to think he will make X dollars personally and his investors will lose over $4B...now that's heads I don't lose, tails I win investing....

[Cigarbutt]

My background from productive life is related to the pharmaceutical industry.

I have looked at VRX a few times. I pass by the HQ fairly often.

No merit in avoiding this one as I have been never able to connect the top line to the bottom line. Too hard pile.

 

If you look at the pharma industry from a long term perspective, the industry dynamics have changed+++.

Perhaps, it is not realized how little new products (ie new category or class) are actually developed.

Most new pills are related to very specific conditions or are simply a slight modification to something existing already.

Also, when you look at the "blockbusters" carefully, the evidence behind widespread use is actually quite weak!

R&D budgets are less important and include now a huge component which is really marketing funds destined to the prescribers...

 

This is the context that led to the formation of firms like Valeant whose model was based on minimum R&D and serial leveraged acquisitions.

The big question: Was the model creating lasting value? I could never answer that question.

Some people questioned the sustainability of the model. Interesting. I remember reading an article by Jim Grant in the Interest Rate Observer (around early 2014).The article was relatively sketchy ans was titled "Drug dealer". Mr. Grant felt the firm was "financialized" and borrowing its way to prosperity. The article raised concerns but I was not convinced. The stock price was then only! around 150$. At that point, issues were raised but, in essence, VRX was somehow a market darling. What I recall from Mr. Grant's article was that it required strong confidence to publish such a negative article. The interesting part is that he was right. It can be tough to be a contrarian, to move against the grain. Successful investing is not a popularity contest.

 

I like how KCLarkin sums this: "Overpaying for acquisitions with massive amounts of debt was the real problem. For investors, the blindspot was ignoring debt when things were going well. Now, debt is all that matters."

 

Liabilities are stickier than sticky assets.

 

 

 

[LC]

This is a good example of how Philidor was basically bilking the system:

 

https://www.pissedconsumer.com/company/philidor-rx-services/philidor-rx-services-llc-took-my-hsa-funds-20150102577512.html

 

That is seriously f#&*ing hilarious. $10,000 over 2 years to treat toe fungus!

 

Alternatives (Lamisil) cost $150 over the same timeframe!

 

Hmm...

[KCLarkin]

Regarding learnings for the future, it seems that all these roll-ups end up facing trouble eventually.

 

There was a study of total shareholder returns based on acquisition strategies. Frequent acquirers actually provided the best returns. Presumably the winners (e.g. Berkshire) are able to make up for the frequent catastrophic losses in roll-ups.

 

In other words, shorting a single roll-up might be a good idea. But shorting a basket of all roll-ups is a bad idea.

 

Unfortunately, I can't recall who did the study. But I have seen similar studies before.

[A_Hamilton]

Regarding learnings for the future, it seems that all these roll-ups end up facing trouble eventually.

 

There was a study of total shareholder returns based on acquisition strategies. Frequent acquirers actually provided the best returns. Presumably the winners (e.g. Berkshire) are able to make up for the frequent catastrophic losses in roll-ups.

 

In other words, shorting a single roll-up might be a good idea. But shorting a basket of all roll-ups is a bad idea.

 

Unfortunately, I can't recall who did the study. But I have seen similar studies before.

 

Under that theory Fairfax should be up 5x by next week.

[KCLarkin]

Regarding learnings for the future, it seems that all these roll-ups end up facing trouble eventually.

 

There was a study of total shareholder returns based on acquisition strategies. Frequent acquirers actually provided the best returns. Presumably the winners (e.g. Berkshire) are able to make up for the frequent catastrophic losses in roll-ups.

 

In other words, shorting a single roll-up might be a good idea. But shorting a basket of all roll-ups is a bad idea.

 

Unfortunately, I can't recall who did the study. But I have seen similar studies before.

 

Under that theory Fairfax should be up 5x by next week.

 

Found the source: McKinsey Valuation

 

 

[Cigarbutt]

Yes, at the micro level, Shkreli type price gouging gives rise to unbelievable circumstances and clearly has limits. The pendulum can swing the other way. Especially if you become the poster child.

 

I will look up this idea of studies on long term return of roll-up strategies. Perhaps this is quite a heterogeneous group. I will be careful evaluating the inclusion criteria and the time frames. If I come up with something interesting, this may be an idea for a new thread.

 

Regarding lessons learned and potential opportunities within the pharma sector, I suggest links included in the following:

http://viableopposition.blogspot.ca/

 

There are obvious long term fair/good candidates within the sector if your aim is the benchmark such as JNJ, Abbott labs. Also, niche players can still have an edge. But I submit that, if you commit capital to this industry, you should keep in mind the following:

-I know, innovation sometimes comes in leaps and bounds, but, in terms of material new ideas, the industry is very mature now.

-The ratio of benefit over price paid is astoundingly low now and the incremental gains are practically zero. Where's the value?

-The entire system is now VERY much influenced by VERY questionable incentives (regulatory capture, prescriber capture).

 

An unsustainable model is sustainable until it isn't. Despite the above, opportunities will come. Survival of the fittest.

 

 

 

[A_Hamilton]

Regarding learnings for the future, it seems that all these roll-ups end up facing trouble eventually.

 

There was a study of total shareholder returns based on acquisition strategies. Frequent acquirers actually provided the best returns. Presumably the winners (e.g. Berkshire) are able to make up for the frequent catastrophic losses in roll-ups.

 

In other words, shorting a single roll-up might be a good idea. But shorting a basket of all roll-ups is a bad idea.

 

Unfortunately, I can't recall who did the study. But I have seen similar studies before.

 

Under that theory Fairfax should be up 5x by next week.

 

Found the source: McKinsey Valuation

 

My comment wasn't meant to be a criticism of your comment/the study which may be very valid. More a comment on the prolific number of M&A deals FFH is involved in. I find it unlikely that they are all driving fantastic IRR's.

[KCLarkin]

My comment wasn't meant to be a criticism of your comment/the study which may be very valid.

 

Fair enough. I was just clarifying that it was a historical study not a theory. And not a particularly robust study either.

[Guest roark33]

This is a good article, and it highlights what we were discussing yesterday, Philidor wasn't just Philidor, there were multiple entities doing the same thing, so the 7% number is a red herring, also the game with the insurance companies was cat and mouse, they were constantly trying to stay on step ahead of insurance companies. 

 

Also, I seriously doubt Philidor (and its elk) were only doing derm drugs, that's another misconception. 

 

http://www.afr.com/markets/aussie-john-hempton-beat-wall-street-royalty-on-valeant-20170314-guy6g8

[Green King]

"He is worth billions of dollars.

In alternative histories, he would not be worth as much. Making money by being good and making money from looting and raiding are not the same thing. This is what he is doing, his investors gets the downside he gets the upside. It is the long Henry Singleton or John Malone VS Warren Buffett debate."

 

 

I have had that thought a lot.  I wasn't aware it was a long, well known debate.  Would be interested to hear where singleton figures in or perhaps some references to source materials so I can evaluate that myself.  (I've read that one book about him by his former number 2 and the outsiders).  I definitely view you know who as a result of selection bias or at least try to be very aware of the problem when examining his record. Thx.

 

Singleton took advantage of his investors by manipulating their psychology. I think Munger commented on it in one of the Daily Journal meetings.I don't like talking about the dark arts in a public forum, someone might use it to do harm.

 

On a un-related note in that lunch with my mentor, we came to the partial view that roll ups do not work. They are either doing accounting game or unsustainable things operationally. BRK doesn't do roll ups they take advantage of the opportunities created by the market.

[LC]

 

Singleton took advantage of his investors by manipulating their psychology. I think Munger commented on it in one of the Daily Journal meetings.I don't like talking about the dark arts in a public forum, someone might use it to do harm.

 

If you don't know the game, how can you avoid being the mark?  ;)

[Rasputin]

http://video.cnbc.com/gallery/?video=3000601972

 

he also talked about how PBMs threatened not to cover any of VRX drugs

[plato1976]

If that's the case, wonder if it's better to sell the company piece by piece and the acquirer may hope that after acquisition each drug may not receive this kind of check from gatekeepers

 

Bridging from the $12 B revenue guidance dec 2015 to $9 B revenue guidance for 2017:

 

1.  Oncology, Dentistry, Women's Health, Neuro and other ($2.75 B in dec 2015 guidance)

Dec 2015 guidance:mid single digit revenue growth for Neuro and other (~$2.2 B), double digit growth in dentistry (~$0.16 B), oncology (~$0.33B), $100 million addyi sales. 

2017 guidance: $655 million Loss of Exclusivity in Neuro and other, minimal Women's Health, pricing erosion and volume decline in all rx.  $1.1 B neuro and other + $0.3B oncology + $0.15 B dentistry for a total of $1.45 B projected in 2017. 

 

2.  Dermatology and Skin Care ($2.2 B dec 2015 guidance)

 

Dec 2015 guidance : double digit growth in dermatology (~$2 B) and skin care (~0.22 B)

2017 guidance : decline of 50% in dermatology to $800 million, $220 million skin care.  Total revenue $1 B. 

 

3.  GI ($2.6 B dec 2015 guidance)

 

Dec 2015 guidance : double digit script growth, revenues.

2017 guidance : $1.5 B, higher volume, lower net prices.

 

 

4.  B+L, Ophthalmology RX, International ($5 B dec 2015 guidance)

 

2017 guidance : $5 B.  Severe decline in egyptian pound vs USD, lower net price in ophthalmology (increased rebates) offset by significant growth in B+L contact lenses, growth in preservision/occuvite. 

Note: Canada sales of $320 million is now included in branded rx (vs International in dec 2015 guidance)

[ourkid8]

ValueAct bought an additional 3M in Valeant stock at an average price of $10.82.