VRX - Valeant Pharmaceuticals International Inc.

[Compounder]

 

Recent James Grant interview where he mentions VRX ~14.50 as "I think Valeant is not as advertised a great company we have issues with its accounting"

[CorpRaider]

I agree Ackman does make a lot of waves.

 

His "Agenda" of course is to get the AGN - VRX deal done, if the deal falls apart, he will loose a loypt of money, at least on paper.

 

My personal opinion is that he is a crook. Just read up on Gotham Golf and the Union Real estate estate merger attemp, where he tried to save his failed Golf course company with other peoples money basically. This and other things lead to him closing Gotham Partners.

 

He does good research and likes to make big bets. He is either spectaculary right or very wrong.

 

He has really awesome hair.  85% of life is having awesome hair.

[lu_hawk]

To longs: are you really valuing VRX as if the $26bn in acquisitions it has made were made at zero cost?  By using a price-to-adjusted earnings measure to value the company, then I think that is exactly what you are doing, because the cost of the acquisition shows up nowhere, neither in the numerator nor the denominator.  If that is true, then do you even need to get down to the nitty-gritty of things?

 

Please, can someone explain to me how price-to-cash earnings does not treat the acquisitions as if they were gifts? 

 

 

As a hypothetical: say you have a company with zero assets.  It borrows $10mm to buy an asset that will produce $1mm/yr in income.  To value this company, you adjust earnings by adding back depreciation because it is a non-cash expense, and then you use the market cap as the numerator. 

 

So you look at this company and say "This has great management, I will value it at 20x price-to-adjusted earnings."  And so you value it at $20mm.  Now, say the asset stops producing after 10 years.  You have $10mm in cash, and $10mm in debt.  The equity is worth zero.  And you lose all your money on the stock.  And you lost this money because you made the mistake of not accounting for the cost of the asset anywhere.  You didn't account for the depreciation, and you didn't account for the debt.  You lost the money because you valued the company as if the asset was given to the company for free. 

 

Isn't this exactly what longs are doing with VRX??  The cost of the acquisitions shows up nowhere in the analysis if you use price-to-cash earnings to value the company (apart from the mostly immaterial interest expense). 

 

Is anyone able to make a logical refutation of this?  And please don't tell me that this doesn't apply to VRX because VRX's assets will never stop producing like the asset in my hypothetical.  VRX's assets clearly decline over time, as the company has plainly disclosed in its 10-K. 

 

And even if VRX's assets never stop producing, it is STILL wrong to value it as if the acquisitions were made for free, because they clearly were not.  VRX has $18bn in debt!!  That debt needs to be paid back with $18bn in real cash!  That's the one thing you can't get away from.  You can value the company any way you want, but the debt can only be paid with $18bn in real, actual cash.

 

 

[Fat Pitch]

And even if VRX's assets never stop producing, it is STILL wrong to value it as if the acquisitions were made for free, because they clearly were not.  VRX has $18bn in debt!!  That debt needs to be paid back with $18bn in real cash!  That's the one thing you can't get away from.  You can value the company any way you want, but the debt can only be paid with $18bn in real, actual cash.

 

Debt doesn't always get paid back, it sometimes become a permanent class in the capital structure by getting rolled over. This only occurs if the business model is so strong that it can rent this capital in perpetuity. I don't think VRX is in this category, but I could be wrong.

 

When looking at VRX you have to believe the company is making smart acquisitions and doing enough R&D spending to have organic growth from the companies they purchase or the goodwill gets impaired. If organic growth out paces the increase in interest payments then I wouldn't be so concerned how the acquisitions were financed since that is the definition of value creation. Given enough time the cash flows will dwarf the interest payments.

 

The purpose of using a different metric than GAAP earnings is to see how the company’s cash flows will look going forward. VRX is constantly changing that GAAP accounting gets very messy in the short term. I don’t 100% believe in their cash adjusted earnings methodology, but it does give you a good starting point to make your own adjustments then you can decide what the company is worth.

 

[Liberty]

I think Ackman had the right idea. Valeant is best valued as two different business. One is the bigger durable part, and one is full of declining products.

 

On the durable side, there seems to be nice high single-digit organic growth.

 

On the fast declining side (like an oil well near the end of its life), they seem to be getting very good IRRs because they didn't pay too much for those assets.

 

But if you mash the two together, you obscure what's going on because the rapidly declining part masks the organic growth of the other part, and so the bears go "how durable is the business if it has no organic growth overall? It must be because they underinvest in R&D and don't have a sustainable model.".

 

See pages 48-51 here: http://vpsevent.com/wp-content/uploads/2014/04/The-Outsider-Presentation-4.22.2014.pdf

 

Going forward, they have two choices. They can keep investing in oil wells near the end of their life when they find them selling cheaply enough to get good IRRs, but that'll keep looking bad because these decline quickly. Or they can let the ones they have runoff and let the more durable part of their business shine through at its high single-digit organic growth. Personally, I hope they do the former as long as they keep their 20% with statutory tax hurdle.

 

Pages 30-33 here have some description of what they call their durable products:

 

http://www.vpsevent.com/wp-content/uploads/2014/04/Valeant-Allergan-Investor-Presentation-Final.pdf

[loganc]

Please, can someone explain to me how price-to-cash earnings does not treat the acquisitions as if they were gifts? 

 

Again, how is valuing VRX on a price to free cash flow basis any different than valuing Liberty Global or any other company that has made an acquisition on a price to free cash flow basis?     

 

VRX's assets clearly decline over time, as the company has plainly disclosed in its 10-K. 

 

Please provide a specific reference here.  Thanks.

 

 

 

[giofranchi]

To longs: are you really valuing VRX as if the $26bn in acquisitions it has made were made at zero cost?  By using a price-to-adjusted earnings measure to value the company, then I think that is exactly what you are doing, because the cost of the acquisition shows up nowhere, neither in the numerator nor the denominator.  If that is true, then do you even need to get down to the nitty-gritty of things?

 

Please, can someone explain to me how price-to-cash earnings does not treat the acquisitions as if they were gifts? 

 

 

As a hypothetical: say you have a company with zero assets.  It borrows $10mm to buy an asset that will produce $1mm/yr in income.  To value this company, you adjust earnings by adding back depreciation because it is a non-cash expense, and then you use the market cap as the numerator. 

 

So you look at this company and say "This has great management, I will value it at 20x price-to-adjusted earnings."  And so you value it at $20mm.  Now, say the asset stops producing after 10 years.  You have $10mm in cash, and $10mm in debt.  The equity is worth zero.  And you lose all your money on the stock.  And you lost this money because you made the mistake of not accounting for the cost of the asset anywhere.  You didn't account for the depreciation, and you didn't account for the debt.  You lost the money because you valued the company as if the asset was given to the company for free. 

 

Isn't this exactly what longs are doing with VRX??  The cost of the acquisitions shows up nowhere in the analysis if you use price-to-cash earnings to value the company (apart from the mostly immaterial interest expense). 

 

Is anyone able to make a logical refutation of this?  And please don't tell me that this doesn't apply to VRX because VRX's assets will never stop producing like the asset in my hypothetical.  VRX's assets clearly decline over time, as the company has plainly disclosed in its 10-K. 

 

And even if VRX's assets never stop producing, it is STILL wrong to value it as if the acquisitions were made for free, because they clearly were not.  VRX has $18bn in debt!!  That debt needs to be paid back with $18bn in real cash!  That's the one thing you can't get away from.  You can value the company any way you want, but the debt can only be paid with $18bn in real, actual cash.

 

lu_hawk

I am glad a bear on VRX has shifted the discussion from a personal attack on Mr. Pearson, though disguised under the form of an “accounting issue”, to something more interesting: valuation.

 

I have invested many years in pharma companies, before investing in VRX: in JNJ, ABT, and NVS. And I have always looked at:

1) Sales

2) Free Cash Flow

But I agree with you VRX is different, because it is much more leveraged than, for instance, NVS.

 

Though, I still think Sales and Free Cash Flow are the right measures to use valuing VRX too.

 

You should look at GROWTH.

 

During the last 5 years VRX Sales growth has been 50% annual, while NVS Sales growth has been 6.7% annual… Yet, VRX is selling for 15x Cash EPS, while NVS is selling for 23.7x Free Cash Flow…

 

Now, let’s suppose VRX Cash EPS inflate true Free Cash Flow per share by 10%, like Vinod suggested… No, let’s say they inflate true Free Cash Flow by 25%… Just in case Vinod has not been conservative enough… Then we get to a multiple for VRX of 15 x 1.25 = 18.75x Free Cash Flow.

 

Therefore, I ask you: how do you reconcile a lower multiple, 18.75x < 23.7x, with much higher growth? Easy: debt! What growth gives, debt takes away! ;) They have purchased, and are going on purchasing, growth with debt, and that growth is not reflected in price… rightly so!

 

In the end what we are left with, if you want, are two companies with similar valuations, but two different business models… And here we go back to what I have always said: it is an entrepreneurial judgment. And the only question to answer is this one: is VRX business model a great one?

 

As I said yesterday, tough question to answer!

 

Gio

 

[giofranchi]

But why, you might ask, have they purchased, and are going on purchasing, growth with debt, if growth and debt cancel one another?

My idea is that Mr. Pearson strongly believes in VRX business model, and wants to get as big as possible (meaning he wants to acquire as many assets as possible), before the soundness of VRX business model becomes clear to everybody else… Then competition will become too fierce and VRX business model will undoubtedly be disrupt!

He not only believes the assets he acquires won’t stop being productive… I think he earnestly believes that getting the “VRX treatment” they will become much more profitable!

Is he right, or wrong? I repeat once more: that’s the only question that counts.

 

Gio

 

[giofranchi]

Retin-A,  Bausch & Lomb?

 

Thank you CorpRaider. I wanted to drop a line and thank you because you're officially the first to answer.

Frankly, I had hoped for a while that some of the fervent bulls would at least say the obvious ones like Retin-A or even the CeraVe lotion as they seem to be clear candidates.

However, for the readers of 10-Ks out here you'd see disclosures like this when the company is talking about the decline in sales for products not related to acquisitions

 

"decrease in product sales in the Developed Markets segment of $293.9 million, in the aggregate, in 2013, primarily related to a decline in sales of the Zovirax® franchise, Retin-A Micro®, BenzaClin® and Cesamet® due to the impact of generic competition"

 

Oh! Com’n! Don’t mistake popularity for durability!

If it weren’t for Mr. Buffett, probably less than 1% of world population would have ever heard about See’s Candies… Are they durable enough for you??

 

By the way, I could name you a lot of products that have not changed in decades, and that you have never heard of! ;)

 

Gio

 

[lu_hawk]

To longs: are you really valuing VRX as if the $26bn in acquisitions it has made were made at zero cost?  By using a price-to-adjusted earnings measure to value the company, then I think that is exactly what you are doing, because the cost of the acquisition shows up nowhere, neither in the numerator nor the denominator.  If that is true, then do you even need to get down to the nitty-gritty of things?

 

Please, can someone explain to me how price-to-cash earnings does not treat the acquisitions as if they were gifts? 

 

 

As a hypothetical: say you have a company with zero assets.  It borrows $10mm to buy an asset that will produce $1mm/yr in income.  To value this company, you adjust earnings by adding back depreciation because it is a non-cash expense, and then you use the market cap as the numerator. 

 

So you look at this company and say "This has great management, I will value it at 20x price-to-adjusted earnings."  And so you value it at $20mm.  Now, say the asset stops producing after 10 years.  You have $10mm in cash, and $10mm in debt.  The equity is worth zero.  And you lose all your money on the stock.  And you lost this money because you made the mistake of not accounting for the cost of the asset anywhere.  You didn't account for the depreciation, and you didn't account for the debt.  You lost the money because you valued the company as if the asset was given to the company for free. 

 

Isn't this exactly what longs are doing with VRX??  The cost of the acquisitions shows up nowhere in the analysis if you use price-to-cash earnings to value the company (apart from the mostly immaterial interest expense). 

 

Is anyone able to make a logical refutation of this?  And please don't tell me that this doesn't apply to VRX because VRX's assets will never stop producing like the asset in my hypothetical.  VRX's assets clearly decline over time, as the company has plainly disclosed in its 10-K. 

 

And even if VRX's assets never stop producing, it is STILL wrong to value it as if the acquisitions were made for free, because they clearly were not.  VRX has $18bn in debt!!  That debt needs to be paid back with $18bn in real cash!  That's the one thing you can't get away from.  You can value the company any way you want, but the debt can only be paid with $18bn in real, actual cash.

 

lu_hawk

I am glad a bear on VRX has shifted the discussion from a personal attack on Mr. Pearson, though disguised under the form of an “accounting issue”, to something more interesting: valuation.

 

I have invested many years in pharma companies, before investing in VRX: in JNJ, ABT, and NVS. And I have always looked at:

1) Sales

2) Free Cash Flow

But I agree with you VRX is different, because it is much more leveraged than, for instance, NVS.

 

Though, I still think Sales and Free Cash Flow are the right measures to use valuing VRX too.

 

You should look at GROWTH.

 

During the last 5 years VRX Sales growth has been 50% annual, while NVS Sales growth has been 6.7% annual… Yet, VRX is selling for 15x Cash EPS, while NVS is selling for 23.7x Free Cash Flow…

 

Now, let’s suppose VRX Cash EPS inflate true Free Cash Flow per share by 10%, like Vinod suggested… No, let’s say they inflate true Free Cash Flow by 25%… Just in case Vinod has not been conservative enough… Then we get to a multiple for VRX of 15 x 1.25 = 18.75x Free Cash Flow.

 

Therefore, I ask you: how do you reconcile a lower multiple, 18.75x < 23.7x, with much higher growth? Easy: debt! What growth gives, debt takes away! ;) They have purchased, and are going on purchasing, growth with debt, and that growth is not reflected in price… rightly so!

 

In the end what we are left with, if you want, are two companies with similar valuations, but two different business models… And here we go back to what I have always said: it is an entrepreneurial judgment. And the only question to answer is this one: is VRX business model a great one?

 

As I said yesterday, tough question to answer!

 

Gio

 

First, I am not a bear on VRX.  I am not anything on VRX.  If thinking critically makes me a bear, then so be it.  It's more that I see something that boggles my mind, and I am trying to figure how this can be possible. 

 

I don't think you even attempted to answer my question though.  Again, is VRX being valued as if the acquisitions were gifts?  If so, then how is it possible that smart people are doing this? 

 

Because the non-cash expenses aren't really non-cash.  They might be non-cash during that specific reporting period, but they turn into cash eventually.  Why?  Because debt is a cash expense.  The amortization of finite-lived intangibles represents a true cash expense--the debt.  The same as how depreciation of a finite-lived asset is a true cash expense, even though it might not result in a cash outflow during one specific reporting period. 

 

 

 

[giofranchi]

I don't think you even attempted to answer my question though.  Again, is VRX being valued as if the acquisitions were gifts?

 

Well, I thought I answered your question... And my answer is NO! Its multiple would be much higher if it had achieved the same growth rate (thanks to its acquisitions), without using debt… People know they eventually will have to repay their debt, and they are pricing VRX accordingly: as a slow growth company, instead of one of the fastest growing company out there!

 

Gio

 

[Liberty]

If VRX was growing at the rate it was with zero debt, I know I'd be using much higher multiples of Cash EPS to value it, but that's just me. But as long as they get much higher returns on what they buy than what they pay in interests, and as long as the durable part of their business has organic growth and the non-durable part has good IRRs, I think the debt is a very good thing. Not levering up would be a missed opportunity when you can do what they've shown they can do over the past 6 years.

 

Most other pharmas would be crazy to lever up that much because a much bigger part of their portfolio is not as durable, they have more blockbusters (something happens to 1-2 products and it's very material), and their growth depends more on uncertain R&D, and so their cash flows are a lot less predictable.

 

Bottom line for me is that if VRX stopped doing acquisitions, within a relatively short period of time it would be earning its cash EPS. The durable part of the business has high single-digit growth and represents the vast majority of the revenues, and the non-durable part would run off at very good IRRs. So I'd be left with a medium-growth business with a very nice cash flow that could be deployed into buybacks and dividends, as well as internal growth initiatives (if you're not doing acquisitions anymore, more could go to R&D). But as long as acquisitions meet the high hurdle of management and can create more value than this scenario, I hope they continue in that direction.

[loganc]

I don't think you even attempted to answer my question though.  Again, is VRX being valued as if the acquisitions were gifts?  If so, then how is it possible that smart people are doing this? 

 

Let me give this another shot.  How do you calculate the FCF generation of VRX in 1Q14?  I believe that a reasonable way to calculate it would be as follows (all numbers in MM):

 

Operating Cash Flow - $484.3

Purchase of Property & Equipment - ($58.1)

Free Cash Flow - $426.2

 

As one can see from the cash flow statement, $306.3 was spent on acquisitions during the quarter.  By my current analysis, I would consider this $306.3 of spending "growth" capital expenditures rather than "maintenance" capital expenditures.  Therefore, I would not deduct the $306.3 in computing the FCF generation in 1Q14.

 

However, I believe that reasonable people can disagree as to whether or not some percentage of the cost of acquisitions should be considered "maintenance" capital expenditures.  But,  I do not believe that 100% of the cost of acquisitions should be considered "maintenance" capital expenditures for the purposes of computing the FCF generation of the business.  It seems quite obvious to me that the acquisitions are resulting in significant growth in the business.

 

[lu_hawk]

I don't think you even attempted to answer my question though.  Again, is VRX being valued as if the acquisitions were gifts?

 

Well, I thought I answered your question... And my answer is NO! Its multiple would be much higher if it had achieved the same growth rate (thanks to its acquisitions), without using debt… People know they eventually will have to repay their debt, and they are pricing VRX accordingly: as a slow growth company, instead of one of the fastest growing company out there!

 

Gio

 

Let's forget the multiple for a minute (the price-to-cash earnings multiple).  Does using the price-to-cash earnings ratio treat the company as if the acquisitions were made for free?  I'm not asking if the multiple should be higher or lower, just whether the methodology of using price-to-cash earnings treats the acquisitions as if they were gifts.

 

I believe using price-to-cash earnings does treat the company as if the acquisitions were gifts, because it does not account for the costs of those acquisitions anywhere, neither in the numerator nor the denominator.  The cost is not reflected in the numerator because market cap is used, and debt is not added.  The cost is not reflected in the denominator because all amortization/deal costs/etc is added back.  Am I correct on that?  Again, I'm not asking about the multiple, just whether price-to-cash earnings treats the acquisitions as free. 

[loganc]

I don't think you even attempted to answer my question though.  Again, is VRX being valued as if the acquisitions were gifts?

 

Well, I thought I answered your question... And my answer is NO! Its multiple would be much higher if it had achieved the same growth rate (thanks to its acquisitions), without using debt… People know they eventually will have to repay their debt, and they are pricing VRX accordingly: as a slow growth company, instead of one of the fastest growing company out there!

 

Gio

 

Let's forget the multiple for a minute (the price-to-cash earnings multiple).  Does using the price-to-cash earnings ratio treat the company as if the acquisitions were made for free?  I'm not asking if the multiple should be higher or lower, just whether the methodology of using price-to-cash earnings treats the acquisitions as if they were gifts.

 

I believe using price-to-cash earnings does treat the company as if the acquisitions were gifts, because it does not account for the costs of those acquisitions anywhere, neither in the numerator nor the denominator.  The cost is not reflected in the numerator because market cap is used, and debt is not added.  The cost is not reflected in the denominator because all amortization/deal costs/etc is added back.  Am I correct on that?  Again, I'm not asking about the multiple, just whether price-to-cash earnings treats the acquisitions as free.

 

How do you value a company that has made an acquisition? 

[lu_hawk]

I don't think you even attempted to answer my question though.  Again, is VRX being valued as if the acquisitions were gifts?

 

Well, I thought I answered your question... And my answer is NO! Its multiple would be much higher if it had achieved the same growth rate (thanks to its acquisitions), without using debt… People know they eventually will have to repay their debt, and they are pricing VRX accordingly: as a slow growth company, instead of one of the fastest growing company out there!

 

Gio

 

Let's forget the multiple for a minute (the price-to-cash earnings multiple).  Does using the price-to-cash earnings ratio treat the company as if the acquisitions were made for free?  I'm not asking if the multiple should be higher or lower, just whether the methodology of using price-to-cash earnings treats the acquisitions as if they were gifts.

 

I believe using price-to-cash earnings does treat the company as if the acquisitions were gifts, because it does not account for the costs of those acquisitions anywhere, neither in the numerator nor the denominator.  The cost is not reflected in the numerator because market cap is used, and debt is not added.  The cost is not reflected in the denominator because all amortization/deal costs/etc is added back.  Am I correct on that?  Again, I'm not asking about the multiple, just whether price-to-cash earnings treats the acquisitions as free.

 

How do you value a company that has made an acquisition?

 

That is too difficult for me to answer.  But I can say one way NOT to do it: if the company is using debt to buy assets that are stable or declining, then you better not value it in a way that fails to account for the debt and the cost of those acquisitions.

 

And yes, the assets that VRX owns are stable to declining.  This is disclosed by them. 

 

 

 

[Liberty]

And yes, the assets that VRX owns are stable to declining.  This is disclosed by them.

 

That's a mistaken way to look at their assets since what they own and what they buy falls into two main buckets and they have different criteria for each:

 

http://www.cornerofberkshireandfairfax.ca/forum/investment-ideas/valeant-pharmaceutilcals-international-inc-(vrx)/msg175012/#msg175012

 

For the declining assets, everything i've seen shows me that they buy them cheap enough to get very good IRRs. It's like a company in runoff; if you buy it cheap enough, it's profitable, even if it'll make it seem like your revenues are dropping.

 

For the durable assets, for which they pay more, they've been getting high single-digit organic growth for years.

 

If you were right that the largest part of their portfolio which they call durable was declining, then yes, it would be a terrible business. But that's not the case. It's just that the rapid decline in the non-durable part masks the medium growth in the durable part when you consolidate the two.

[constructive]

Classifying a line of business as durable doesn't mean that a better product won't emerge. Especially since they are underspending on R&D compared to competitors.

 

Healthcare products are durable until they're not, it's an unpredictable punctuated equilibrium, not necessarily a gradual process.

[Liberty]

Classifying a line of business as durable doesn't mean that a better product won't emerge. Especially since they are underspending on R&D compared to competitors.

 

Healthcare products are durable until they're not, it's an unpredictable punctuated equilibrium, not necessarily a gradual process.

 

Well, of course it's not the label that makes them durable, it's various facts about them (this has been explained in detail in various places). It also doesn't mean that they are 100% durable for ever and ever with no maintenance; any consumer product by P&G needs some basic maintenance investment to keep going, and these aren't different, but compared to patent cliff products they can still be very durable and require minimal expenditure.

 

If you don't think the products they call durable are durable, that's another issue. What I've seen makes me think they are, but you can have a different view.

[loganc]

That is too difficult for me to answer.  But I can say one way NOT to do it: if the company is using debt to buy assets that are stable or declining, then you better not value it in a way that fails to account for the debt and the cost of those acquisitions.

 

And yes, the assets that VRX owns are stable to declining.  This is disclosed by them.

 

Ultimately, I think you make a fair point about the acquisitions.  As I tried to mention above, I would account for it by including some portion of the price of acquisitions into the "maintenance" capital expenditures that I use in the FCF calculation.  Also, I wouldn't argue that using EV metrics may be more suitable in this case. 

 

I think your second point is debatable.  Assuming what you are saying is correct, then one would absolutely have to include some amount of the acquisition costs in the capital expenditure number to arrive at a realistic FCF number.

 

It is pretty clear that the recent "organic" growth rates have not been good.  However, the Zovirax transaction is one of the main reasons that the "organic" growth rate looks so poor and I believe that the Zovirax transaction was actually successful from the perspective of the cash on cash returns received.  In other words, I don't think VRX should avoid allocating capital to shorter life assets just because they can obscure "organic" growth in the short term, assuming that VRX achieves high rates of return from a cash perspective on these transactions.

 

     

[constructive]

Classifying a line of business as durable doesn't mean that a better product won't emerge. Especially since they are underspending on R&D compared to competitors.

 

Healthcare products are durable until they're not, it's an unpredictable punctuated equilibrium, not necessarily a gradual process.

 

Well, of course it's not the label that makes them durable, it's various facts about them (this has been explained in detail in various places). It also doesn't mean that they are 100% durable for ever and ever with no maintenance; any consumer product by P&G needs some basic maintenance investment to keep going, and these aren't different, but compared to patent cliff products they can still be very durable and require minimal expenditure.

 

If you don't think the products they call durable are durable, that's another issue. What I've seen makes me think they are, but you can have a different view.

 

Bausch & Lomb seems very durable. The rest of their OTC products, much less so in my opinion. That isn't specific to Valeant. If you use "adjusted cash earnings" instead of GAAP earnings, Teva, Mylan, Actavis and other OTC drug manufacturers probably also look much cheaper than they really are.

[Liberty]

Bausch & Lomb seems very durable. The rest of their OTC products, much less so in my opinion. That isn't specific to Valeant. If you use "adjusted cash earnings" instead of GAAP earnings, Teva, Mylan, Actavis and other OTC drug manufacturers probably also look much cheaper than they really are.

 

Valeant's revenues this year break down: 41% RX, 21% devices, 20% OTC, and 18% generics. Different factors make part of each of these segment "durable", though most of their declining products are in RX. In some countries/segments, branded generics are very strong. For some others, it's hard to manufacture certain products, so there's not much generic threat. For others,  the product is too small to be worth the trouble for generic makers (when you add up lots of small products, you get something that moves the needle, yet no product alone is big enough to attract much attention), in certain areas, brands and doctor recommendations matter more (stuff you put in your eyes and on your skin is particularly sensitive). For some stuff, it's fairly easy to reformulate and extend protection. All those things and more combine to various degrees. Etc. But what's impressive is that about 80%+ of their products fall into these 'durable' categories (and a similar proportion is cash pay, so they don't have threats from government coverage changing, group buying power against them, etc) because this has been a specific focus for Pearson from the start. So add those predictable, stable cashflows to a low tax rate, low R&D and SG&A model with disciplined M&A and you get a different animal.

 

Their model is different from what Teva and Mylan does. These might be great businesses, but they're not the same, adjusted cash EPS or not.

[giofranchi]

Let's forget the multiple for a minute (the price-to-cash earnings multiple).  Does using the price-to-cash earnings ratio treat the company as if the acquisitions were made for free?  I'm not asking if the multiple should be higher or lower, just whether the methodology of using price-to-cash earnings treats the acquisitions as if they were gifts.

 

I believe using price-to-cash earnings does treat the company as if the acquisitions were gifts, because it does not account for the costs of those acquisitions anywhere, neither in the numerator nor the denominator.  The cost is not reflected in the numerator because market cap is used, and debt is not added.  The cost is not reflected in the denominator because all amortization/deal costs/etc is added back.  Am I correct on that?  Again, I'm not asking about the multiple, just whether price-to-cash earnings treats the acquisitions as free.

 

lu_hawk,

I think I have understood your question the first time you formulated it… And I have tried to answer it as honestly as I could…

Let’s put it this way: “technically” or “in theory” you are perfectly right: neither P, nor E take into account all the debt VRX has accumulated… but “in practice” at least one of them do: because P is the reflection of how the market thinks about VRX… market cap is not “carved in stone”, it is the result of how the market perceives VRX future prospects… and the market is not oblivious VRX has grown very fast (incredibly fast, I daresay!), because or thanks to all the debt it has accumulated on its balance sheet… and the market is not oblivious debt is a burden that must be repaid at some point… Why I think the market is not oblivious to those facts? Because of the multiple the market is according to VRX: it is clearly skeptical of such an amazing growth (meaning it knows that growth has not come without a very real cost!), and is pricing VRX accordingly.

But… If you don’t want hear me talking and reasoning about the P to Cash EPS multiple… I am sorry, I don’t think I have another answer to your question…

 

Gio

 

[biaggio]

Let's forget the multiple for a minute (the price-to-cash earnings multiple).  Does using the price-to-cash earnings ratio treat the company as if the acquisitions were made for free?  I'm not asking if the multiple should be higher or lower, just whether the methodology of using price-to-cash earnings treats the acquisitions as if they were gifts.

 

I believe using price-to-cash earnings does treat the company as if the acquisitions were gifts, because it does not account for the costs of those acquisitions anywhere, neither in the numerator nor the denominator.  The cost is not reflected in the numerator because market cap is used, and debt is not added.  The cost is not reflected in the denominator because all amortization/deal costs/etc is added back.  Am I correct on that?  Again, I'm not asking about the multiple, just whether price-to-cash earnings treats the acquisitions as free.

 

lu_hawk,

I think I have understood your question the first time you formulated it… And I have tried to answer it as honestly as I could…

Let’s put it this way: “technically” or “in theory” you are perfectly right: neither P, nor E take into account all the debt VRX has accumulated… but “in practice” at least one of them do: because P is the reflection of how the market thinks about VRX… market cap is not “carved in stone”, it is the result of how the market perceives VRX future prospects… and the market is not oblivious VRX has grown very fast (incredibly fast, I daresay!), because or thanks to all the debt it has accumulated on its balance sheet… and the market is not oblivious debt is a burden that must be repaid at some point… Why I think the market is not oblivious to those facts? Because of the multiple the market is according to VRX: it is clearly skeptical of such an amazing growth (meaning it knows that growth has not come without a very real cost!), and is pricing VRX accordingly.

But… If you don’t want hear me talking and reasoning about the P to Cash EPS multiple… I am sorry, I don’t think I have another answer to your question…

 

Gio

 

Why not look at Enterprise value vs cash earnings?

 

~$59 billion in EV (market value + debt) vs cash earnings of ~ $1.7B that may grow organically at 7%---> ~10% return

 

On a valuation basis does not look like there is any margin of safety. At best fairly priced.

 

I think Gio made a good decision cashing out as there has to be better opportunities.

 

I am out as well. Was in for a short period of time, enamoured by the respectable posters here as well as other great investors being involved.

 

Ok, now that I have posted the above (&sold) watch it take off to new highs (I hope so for the fellas holding here)

[Liberty]

Why not look at Enterprise value vs cash earnings?

 

~$59 billion in EV (market value + debt) vs cash earnings of ~ $1.7B that may grow organically at 7%---> ~10% return

 

On a valuation basis does not look like there is any margin of safety. At best fairly priced.

 

Hey Biaggio, always good to hear from you!

 

Does this mean that you give a 0% chance to the Allergan merger (which would be significantly deleveraging), or other similarly profitable deals in the future? It's not like VRX's valuation on an EV basis is much higher now than it's been in the past 6 years...