VRX - Valeant Pharmaceuticals International Inc.

[original mungerville]

Eric, can you comment on my post to Picasso. Do you follow the logic of the methodology there? (Forget whether the numbers are exactly correct for now.)

[original mungerville]

Original_Mungerville,

I know what you are saying about the binary outcome and the LEAPS.

 

The shareholders that ValueAct are gathering will be asking some really hard questions and will want a lot more disclosures.  They will be pushing for much better financial disclosures about how each of the acquisitions is doing.  Break out their performance independently.  And to fully disclose what's going on with the things that people are openly questioning as channel stuffing.  They really can't put the suspicions to rest without that. 

 

So, I don't think it's necessary to pay for the excessive volatility premium all the way out to 2018.  Too much money at risk if the stock rapidly breaks the wrong way.

 

I think it would be more prudent to go with shorter-term options as it's not like we'll be going all the way to 2018 before we get the real scoop.  Once we have the real scoop if it's a positive scoop the stock will take off again and that's when you can roll your shorter term stuff to the 2018 options.

 

OK thks, interesting - I'll think about that. Let me know if you zone in on a maturity or any further thoughts on how to position.

 

Also, there is a lot of vested interest for the current investor group to somehow get the stock price up before year-end because that will affect their performance. They will be battling year-end tax loss selling though.

 

Another thing, this stock has fallen from a growth stock, right through the mid-range, all the way to value/deep value in a month. The contingent of large investors that owned it already, are value oriented buy a great biz at a good price types. These are big big name value investors, essentially. So now we are potentially going to get a whole bunch of deep value / regular value investors interested in a beaten down stock at this price. This new contingent has a lot of experience getting involved in really hairy situations - that's what deep value essentially is.

 

Not sure what I can conclude from the above, but thought I would post these thoughts.

[rb]

Just to quote from the AZ_Value blog:

 

Folks, for those of us who are users of financial statements, there is an extremely important concept that we all rely on to analyze companies. The concept in question is the sequential nature of financial disclosures, it is the reason why we constantly read disclosures in 10-Ks with sentences like:

 

    Company XYZ did such and such for a total of X amount and Y amount in 2013 and 2012 respectively.

 

And one would hope that the principle and accounting behind the sequential numbers disclosed stay consistent enough so that you can effectively operate a year over year comparison. Although we all probably take it for granted, I can guarantee you that, just like the air you breathe, the moment it’s taken away from you, you’re quickly reminded how crucial that concept is.

 

 

 

The reason why I quote that is to remind you of my analogy to the suspicious girlfriend.  When you get caught talking to pretty girls when you're supposed to be out studying, you are eroding trust.  Trust is crucially important.

 

It doesn't mean that they are necessarily doing anything will criminal intent, but they are just following a pattern that was laid out before by people who did have criminal intent.  People who look for frauds will be looking for these patterns.  So if you are actually honest and want people to respect you as such and you want an unquestionably clean reputation, you basically need to follow a pattern that doesn't fit a pattern that will raise suspicion.

 

And now there's just too much bad stuff coming out and these kind of patterns are getting scrutinized more heavily and rolled up into a narrative that there is just too many dots connected that individually you might talk yourself out of, but all of them put together and your credibility is just really hard to defend.

 

So...

 

That's why I think we'll either:

a)  find out some really seriously bad news

or

b)  we'll get some really awesome disclosures surrounding the successive performance of each acquisition independently so that these honest people at Valeant can hang their heads high in the community again and be respected.

 

They will have to get those disclosures out super duper fast unless they just want a low stock price that hurts their ability to use it as currency for more acquisitions.

 

So I wouldn't go to 2018 with the LEAPS.

 

I agree with another poster's comment that the stock isn't this heavily beat up because of the threat of fines... it's because people are looking at these suspicious patterns and rolling them into a narrative.  You could look past some of them if you had rock-solid confidence in management's integrity, but after the Philidor thing you aren't at "rock solid" anymore.  You might not think they are definitely crooks, but it's just relatively harder to rule it out.

Eric I think your narrative is very good but I have a feeling it won't happen that way. While I don't think there was fraud at Valeant or at least systemic fraud, I do think that they've been super aggressive in everything they do. If they go with the full disclosure then all parties get to see that and how it was done. That's bound to further piss off the PBMs and insurance companies - not good. Also this stuff won't play very well in the newspapers and congressional hearings. So I think that we're in for more murky disclosures and limbo.

[abitofvalue]

Two things -

 

1) I don't understand the ex-CFO / Ackman saying that VRX couldn't get comfortable with the specialty pharma regs / laws so structured Philador the way they did. I think Ack specifically said some thing about them not finding lawyers who knew this - are you kidding me?? A $50b company can't find lawyers? One f the most profiluc acquirers hence a firm that pays huge legal fees to white shoe firms can't find a lawyer who understands specialty pharma but is comfortable signing an option and paying 100m? I mean find me a bridge to buy while you are selling me that why don't you?

 

2) Ackman's complaints about it won PR issue seem a little hollow. The PR didn't set up the Philador agreement or have them cut corners as alleged. This notion that vrx is cheap so didn't spend money on IR or PR doesn't actually seem true. I mean their PR firm - Sard is one the mos well known crisis management firms and cannot be cheap. The amount that vrx pays Wall Street every year in Fees is t cheap. Coming up with cash eps and other such statistics requires an IR staff even if you have them in the CFO function. Te amount of massaging that vrx does to financials and presentations they put out are being done by someone. Not calling them ir doesn't make their job function any different. You really think ack, value act, sequoia brave warrior aren't meeting with VRX. I am not saying Pearson isn't cheap and cutting costs - jut that it's not obvious IR is where he is doing it. The VRx issues are not PR issues.. There are real issues that have been reported - with changing of prescriptions being the main serious -

[ERICOPOLY]

I have to think about that one because I can't swallow it as you've effectively fed it to me:

 

"Disclosing how much revenue a particular acquisition generates post-acquisition is going to reveal things to our partners, competitors and investigators that will hurt our business model and destroy a significant value of our company."

 

Do you think keeping things secretive is going to make the government investigators go away?  That seems to be what you said when you wrote " this stuff won't play very well in the newspapers and congressional hearings".

 

People are highly suspicious and the best course of action is to deny everything while refusing to improve disclosure?  That just makes you look more guilty and will only encourage more scrutiny. 

 

I'm sorry, but the current method of being "secretive" isn't playing very well anywhere and it's not playing well in front of the newspapers and IMO never will. 

 

Doesn't being under heavy suspicion and government scrutiny weaken their hands with competitors and partners?  Look at how quickly nobody wanted to be seen dealing with Philidor once it was in the newspapers.  They were perfectly fine with continuing their relationship the day beforehand.  It's not like those audits were all done in a week.

[ccplz]

Completely random point here - there are 6 company names which have been mentioned in the Valeant case (BQ6, Isolani, Lucena, Philidor, KGA, End Game) that are actually chess terms. (To be fair, "BQ6" is very old chess notation, and "End Game" is usually called "Endgame" by serious chessplayers.) It does seem weird that these chess terms keep popping up as a naming convention for Valeant companies. It does seem like the same entity is coming up with naming of these companies, which may matter at some point.

 

[ERICOPOLY]

There is also a very bad message here to investors.

 

"We can't break out our revenue numbers to help investors track how our acquisitions are faring, because if we were to do that it would tip off our partners that we are gaming them and deceiving them".

 

Like... if the revenue growth alone tells a partner that you're taking advantage of them...  what sort of a multiple should the stock market put on a business model that's built around gaming and deceiving the channel partners or the insurance companies?  Obviously it will eventually be figured out anyhow, one way or another.  And so it isn't sustainable and sustainability is the only thing you can put stock multiples on.

 

 

 

[Picasso]

OM, before I answer your post let's take a step back and look at this Q&A from the last conference call:

 

David Risinger - Morgan Stanley

That's great. And then just separately, you discussed alternate fulfillment, could you just put that in perspective, maybe what percentage of the US brand Rx business alternate fulfillment is and how much of that is Philidor?

 

Mike Pearson - Chairman and CEO

Sure. It's really primarily our dermatology brands and then some of our specialty products like Ruconest, Arestin and some of the products that some of the other orphan drugs. For certain products it is quite larger, for Jublia it is probably 50%, for a lot of other dermatology it is much, much less. David, I am sorry I can't-- it's significant but I don't know the precise number but it is certainly of our US portfolio, so 10%, 20% maybe, maybe Tanya's nodding probably closer to 10%.

 

We know that they paid for an option to own Philidor but they also included milestone payments.  Don't you think those milestone payments are dependent on the performance of the "specialty pharmacy channel?"  Is that really something Pearson had trouble answering?  "Oh, 10%, 20% maybe, oh 10%, nevermind 9%."  Either Pearson is asleep at the wheel or he was being misleading.  Neither of those reflects well.

 

I'm just having trouble taking their word anymore.  So why even assume the numbers they threw at us are even thorough enough to base any real analysis on.  We're stuck with 10-K's and 10-Q's and there isn't a heck of a lot to get from there.

[rb]

I have to think about that one because I can't swallow it as you've effectively fed it to me:

"Disclosing how much revenue a particular acquisition generates post-acquisition is going to reveal things to our partners, competitors and investigators that will hurt our business model and destroy a significant value of our company."

 

Do you think keeping things secretive is going to make the government investigators go away?  That seems to be what you said when you wrote " this stuff won't play very well in the newspapers and congressional hearings".

 

People are highly suspicious and the best course of action is to deny everything while refusing to improve disclosure?  That just makes you look more guilty and will only encourage more scrutiny. 

 

I'm sorry, but the current method of being "secretive" isn't playing very well anywhere and it's not playing well in front of the newspapers and IMO never will. 

 

Doesn't being under heavy suspicion and government scrutiny weaken their hands with competitors and partners?  Look at how quickly nobody wanted to be seen dealing with Philidor once it was in the newspapers.  They were perfectly fine with continuing their relationship the day beforehand.  It's not like those audits were all done in a week.

As you've seen in my post I did say that your thinking is correct. I don't know where you got the bolded quote above but if it's from the company I think it ties in with my thinking. I think they're in a sticky situation. They've been very aggressive. Maybe in ways that are still unknown. If they go full disclosure or these things come out they'll probably have to stop.

 

Now if a lot of their success has been from being aggressive and without that they become sort of an average pharma it's not that they'll make a bit less money. In their case the whole model crumbles. Full disclosure may be an existential threat. Of course full disclosure is best when you've been caught with the hand in the cookie jar. But if full disclosure is an existential threat then you're not gonna go that route. Plus people often do really dumb things when they're in these kind of positions.

[ERICOPOLY]

OM, before I answer your post let's take a step back and look at this Q&A from the last conference call:

 

David Risinger - Morgan Stanley

That's great. And then just separately, you discussed alternate fulfillment, could you just put that in perspective, maybe what percentage of the US brand Rx business alternate fulfillment is and how much of that is Philidor?

 

Mike Pearson - Chairman and CEO

Sure. It's really primarily our dermatology brands and then some of our specialty products like Ruconest, Arestin and some of the products that some of the other orphan drugs. For certain products it is quite larger, for Jublia it is probably 50%, for a lot of other dermatology it is much, much less. David, I am sorry I can't-- it's significant but I don't know the precise number but it is certainly of our US portfolio, so 10%, 20% maybe, maybe Tanya's nodding probably closer to 10%.

 

We know that they paid for an option to own Philidor but they also included milestone payments.  Don't you think those milestone payments are dependent on the performance of the "specialty pharmacy channel?"  Is that really something Pearson had trouble answering?  "Oh, 10%, 20% maybe, oh 10%, nevermind 9%."  Either Pearson is asleep at the wheel or he was being misleading.  Neither of those reflects well.

 

I'm just having trouble taking their word anymore.  So why even assume the numbers they threw at us are even thorough enough to base any real analysis on.  We're stuck with 10-K's and 10-Q's and there isn't a heck of a lot to get from there.

 

And I read that Philidor couldn't get a California license because they refused to disclose who owned them.  Who owns Philidor?  Who is getting these incentives?

[ERICOPOLY]

I have to think about that one because I can't swallow it as you've effectively fed it to me:

"Disclosing how much revenue a particular acquisition generates post-acquisition is going to reveal things to our partners, competitors and investigators that will hurt our business model and destroy a significant value of our company."

 

Do you think keeping things secretive is going to make the government investigators go away?  That seems to be what you said when you wrote " this stuff won't play very well in the newspapers and congressional hearings".

 

People are highly suspicious and the best course of action is to deny everything while refusing to improve disclosure?  That just makes you look more guilty and will only encourage more scrutiny. 

 

I'm sorry, but the current method of being "secretive" isn't playing very well anywhere and it's not playing well in front of the newspapers and IMO never will. 

 

Doesn't being under heavy suspicion and government scrutiny weaken their hands with competitors and partners?  Look at how quickly nobody wanted to be seen dealing with Philidor once it was in the newspapers.  They were perfectly fine with continuing their relationship the day beforehand.  It's not like those audits were all done in a week.

As you've seen in my post I did say that your thinking is correct. I don't know where you got the bolded quote above but if it's from the company I think it ties in with my thinking. I think they're in a sticky situation. They've been very aggressive. Maybe in ways that are still unknown. If they go full disclosure or these things come out they'll probably have to stop.

 

Now if a lot of their success has been from being aggressive and without that they become sort of an average pharma it's not that they'll make a bit less money. In their case the whole model crumbles. Full disclosure may be an existential threat. Of course full disclosure is best when you've been caught with the hand in the cookie jar. But if full disclosure is an existential threat then you're not gonna go that route. Plus people often do really dumb things when they're in these kind of positions.

 

Sorry, that bolded quote was just a summary of how I view their message -- not quoting them or anyone.  I should have explicitly said "paraphrasing" how I viewed the message.

[ERICOPOLY]

Now if a lot of their success has been from being aggressive and without that they become sort of an average pharma it's not that they'll make a bit less money. In their case the whole model crumbles. Full disclosure may be an existential threat.

 

Ah good point, now I understand the problem you were alluding to with my too-simple binary narrative. 

[rb]

Completely random point here - there are 6 company names which have been mentioned in the Valeant case (BQ6, Isolani, Lucena, Philidor, KGA, End Game) that are actually chess terms. (To be fair, "BQ6" is very old chess notation, and "End Game" is usually called "Endgame" by serious chessplayers.) It does seem weird that these chess terms keep popping up as a naming convention for Valeant companies. It does seem like the same entity is coming up with naming of these companies, which may matter at some point.

I'm sure some guy with a hobby at headquarters was just being cute. But it may come to bite them in the ass. Sooner or later someone beside you will make this connection and it'll look really bad as some other companies that failed spectacularly had subs/VIEs with cute names.

[ERICOPOLY]

Disclosure or not though, the gig is up if they are getting their growth by exploiting holes in other companies processes that their managements were completely unaware of.  Those managements, unless they don't read newspapers, will be reviewing whether their arrangements can be gamed.

 

Somewhat like in the late 1990s when in the world of Internet connected computers Microsoft had to radically change their approach to security.  They adopted new policies and there was much "penetration testing" where you review where your interfaces are exposed and you hire experts to see if they can be exploited.

 

My point is that channel partners and insurers will now look upon Valeant as "The Internet", and will review their interactions with Valeant and it's partners to see if it's possible that they are being gamed.  Then they'll make adjustments.

[AzCactus]

We should have a new poll: how long until Pearson loses his job?

 

A. 1-2 months

B. 3-6 months

C. He doesn't

 

The more I'm reading the more it sounds like he was walking near the edge of the field and it was a matter of time until something like this came up .

[rb]

We should have a new poll: how long until Pearson loses his job?

 

A. 1-2 months

B. 3-6 months

C. He doesn't

 

The more I'm reading the more it sounds like he was walking near the edge of the field and it was a matter of time until something like this came up .

I don't think he looses his job. But you're right when you always go to the edge you may trip or loose your balance and go over. Best to stay away from the edge.

[kevin4u2]

OM, before I answer your post let's take a step back and look at this Q&A from the last conference call:

 

David Risinger - Morgan Stanley

That's great. And then just separately, you discussed alternate fulfillment, could you just put that in perspective, maybe what percentage of the US brand Rx business alternate fulfillment is and how much of that is Philidor?

 

Mike Pearson - Chairman and CEO

Sure. It's really primarily our dermatology brands and then some of our specialty products like Ruconest, Arestin and some of the products that some of the other orphan drugs. For certain products it is quite larger, for Jublia it is probably 50%, for a lot of other dermatology it is much, much less. David, I am sorry I can't-- it's significant but I don't know the precise number but it is certainly of our US portfolio, so 10%, 20% maybe, maybe Tanya's nodding probably closer to 10%.

 

We know that they paid for an option to own Philidor but they also included milestone payments.  Don't you think those milestone payments are dependent on the performance of the "specialty pharmacy channel?"  Is that really something Pearson had trouble answering?  "Oh, 10%, 20% maybe, oh 10%, nevermind 9%."  Either Pearson is asleep at the wheel or he was being misleading.  Neither of those reflects well.

 

I'm just having trouble taking their word anymore.  So why even assume the numbers they threw at us are even thorough enough to base any real analysis on.  We're stuck with 10-K's and 10-Q's and there isn't a heck of a lot to get from there.

 

And I read that Philidor couldn't get a California license because they refused to disclose who owned them.  Who owns Philidor?  Who is getting these incentives?

 

Pearson doesn't seem to know who he handed the $100 million dollars to either.  If the straight answers don't start coming out soon it's going to be downhill in a hurry for VRX.  This is from the Monday conference call...

 

David Common - JPMorgan - Analyst

 

Yes. Thank you very much for taking a fixed income question. 

 

I wondered if you could tell us who got the $100 million and the potential $133 million in milestone payments. Is that basically money that is used by Philidor to stand the Company up? I wonder if the consideration really needs to be zero dollars for the purchase option. I normally think of some consideration to make that transaction legal...

 

J. Michael Pearson - Valeant Pharmaceuticals International, Inc. - Chairman and CEO

 

In terms of who received the money for the $100 million up front plus the first milestone payment, my understanding is that there are a number of equity owners. I think it's between 10 and 20, maybe more. And they would be whoever owns the equity of Philidor would've received the money.

 

And whether those individuals decided to contribute money into the operation I have no clue. I just know that we have not contributed any money into the operation. In terms of the zero dollar option value, I think it is legal and maybe it's unusual.

-----

 

As an aside, I know there are firms that use voice recognition technology to tell if a CEO is lying on a conference call.  Voice technology can analyze several conference calls, make comparisons, and predict whether they are lying or not.  It is noted in the inflections of the voice.  I wonder what an analysis of Mondays conference call would say?

[ERICOPOLY]

This seems like such an obvious game approach:

 

Raise your drug price by $30 and eliminate the $30 copay.  You are now the patient's best friend.

 

Did they do anything like that?  If so, expect it to not be a sustainable thing.

 

[shalab]

NYTimes on Valeant type accounting:

 

http://www.nytimes.com/2015/11/01/business/valeant-shows-the-perils-of-fantasy-numbers.html?&moduleDetail=section-news-1&action=click&contentCollection=Business%20Day&region=Footer&module=MoreInSection&version=WhatsNext&contentID=WhatsNext&pgtype=article

 

[feynmanresearch]

NYTimes on Valeant type accounting:

 

http://www.nytimes.com/2015/11/01/business/valeant-shows-the-perils-of-fantasy-numbers.html?&moduleDetail=section-news-1&action=click&contentCollection=Business%20Day&region=Footer&module=MoreInSection&version=WhatsNext&contentID=WhatsNext&pgtype=article

Good point. Perhaps if people looked at GAAP earnings, Valeant wouldn't get this much hype in the first place at all.

[jay21]

This seems like such an obvious game approach:

 

Raise your drug price by $30 and eliminate the $30 copay.  You are now the patient's best friend.

 

Did they do anything like that?  If so, expect it to not be a sustainable thing.

 

I mean they are basically tailoring the price to meet your insurer's plan. Is that wrong? I don't think so. It's just a dysfunctional system. Isn't that standard practice as well?

[cmlber]

This seems like such an obvious game approach:

 

Raise your drug price by $30 and eliminate the $30 copay.  You are now the patient's best friend.

 

Did they do anything like that?  If so, expect it to not be a sustainable thing.

 

That's what Philidor was doing and that part of the business will disappear, but even when it does its ridiculously cheap. 

 

And this is exactly why the gross sales would be growing significantly faster than net. 

 

[Wilson-TPC]

http://www.latimes.com/business/la-fi-1101-valeant-pharmacy-20151101-story.html

[rb]

I mean they are basically tailoring the price to meet your insurer's plan. Is that wrong? I don't think so. It's just a dysfunctional system. Isn't that standard practice as well?

 

 

That's what Philidor was doing and that part of the business will disappear, but even when it does its ridiculously cheap. 

 

And this is exactly why the gross sales would be growing significantly faster than net.

Yes it is wrong. Whether it's standard practice or not doesn't make it right either. What's this? The but ma he's doing it too approach to management?

 

Yes philidor was doing that and it was a tool valeant was using to grow. But what are the other tools? Will they get to keep them after they're made public?

 

Also Valeant may be cheap if you use valeant's opinion of how much money they're making i.e. cash eps. If you don't it's not necessarily that cheap. And there are many issues with cash eps. Just off the top of my head, they're backing out acquisition related professional fees. Since m&a is as much part of valeant's business as anything else aren't those just normal recurring operating costs?

 

[cmlber]

I mean they are basically tailoring the price to meet your insurer's plan. Is that wrong? I don't think so. It's just a dysfunctional system. Isn't that standard practice as well?

 

 

That's what Philidor was doing and that part of the business will disappear, but even when it does its ridiculously cheap. 

 

And this is exactly why the gross sales would be growing significantly faster than net.

Yes it is wrong. Whether it's standard practice or not doesn't make it right either. What's this? The but ma he's doing it too approach to management?

 

Yes philidor was doing that and it was a tool valeant was using to grow. But what are the other tools? Will they get to keep them after they're made public?

 

Also Valeant may be cheap if you use valeant's opinion of how much money they're making i.e. cash eps. If you don't it's not necessarily that cheap. And there are many issues with cash eps. Just off the top of my head, they're backing out acquisition related professional fees. Since m&a is as much part of valeant's business as anything else aren't those just normal recurring operating costs?

 

You're right, if you want to value the earnings stream at a multiple that implies continued 20%+ annual growth, it probably wouldn't be wise to back out acquisition related fees.  But if you want to value the earnings stream that would exist if they never made another acquisition again, it would be unwise to leave in acquisition related fees.  I think this business in run off is probably worth 1.5-2x this price, and all this noise is totally irrelevant at this price.

 

And the whole industry is constantly in a battle to game the system.  Valeant isn't unique in that respect.  Why else would Express Scripts be looking into Abbvie and Teva captive specialty pharma's after cutting ties with Philidor?  Probably because they suspect they might be doing the exact same thing.