Last quarter, the billionaire super-investors Bill Ackman of Pershing Square and David Tepper of Appaloosa Management took very different stances on the beaten down Canadian drugmaker Valeant Pharmaceuticals International (NYSE:BHC). Specifically, Ackman stood pat on his fund's massive $434 million stake in Valeant, while Tepper's fund sold its entire position, according to the recent 13F filings with the SEC.
Now, while these 13F filings shouldn't be used to blindly follow billionaires into or out of stocks, these contrasting positions do show that Valeant has transformed into a contentious battleground stock in the eyes of at least some elite investors like Ackman and Tepper. With this in mind, let's consider if this once high-flying drugmaker is worth the risk.
Out of the frying pan into the fire?
Although Valeant has desperately been trying to turn the page on its litany of financial, political, and business miscues over the past year, the bad news just keeps on rolling in for the pharma company.
This week, for instance, the New York Hotel Trades Council & Hotel Association of New York City and the Detectives' Endowment Association of New York filed a class action lawsuit against Valeant and its former specialty pharma Philidor Rx Services, alleging that they "unnecessarily paid for or incurred excessive costs" for Valeant medications. This lawsuit is only the latest development in the Valeant saga that includes allegations of channel-stuffing, pricing push-back from payers, and serious concerns regarding the company's ability to meet its debt obligations moving forward.
The short story is that Valeant's practice of acquiring companies like Bausch & Lomb and Salix Pharmaceuticals and then raising prices on their products by staggering amounts has landed the company in no man's land. With an unsightly debt-to-equity ratio of 575% and a political storm raging over its pricing practices, Valeant's going to need to take drastic measures to put its house back in order, so to speak.
The good news is that the company's new CEO Joseph Papa certainly understands the reality of this dire situation. During the company's second quarter earnings call, after all, Papa pledged to start selling non-core assets such as its Synergetics U.S. OEM business, and commit a significant portion of the company's free cash flows to reduce debt by up to $5 billion over the next 18 months. While that's a step in the right direction, Valeant's legal troubles are far from over, and a turnaround isn't a sure thing as a result.
Is Valeant worth the risk?
Valeant's new leadership isn't promising a miracle and is, in fact, asking for patience from its frustrated shareholders. As it stands now, the company hopes to complete an about-face by 2018, emerging as a more efficient, streamlined operation with far less debt.
Although a turnaround is certainly possible, Valeant needs to sell these non-core assets at a fair price and avoid having to divest core products -- i.e. its main growth drivers -- to pull it off.
Unfortunately, Valeant's peers may not be particularly eager to pay market value for assets that might become available via a bankruptcy fire sale in the not-so-distant future. And as an ironic real world example, Valeant played this exact same game with the now-defunct cancer company Dendreon, acquiring its prostate cancer treatment Provenge for a meager two years' worth of the therapy's annual sales. That's a huge bargain for an FDA-approved cancer therapy, and it shows why Valeant may in fact struggle to consistently strike deals at reasonable prices.
So, despite Valeant's rather enticing forward price to earnings ratio of 3.92, this stock may have a hard time regaining even a fraction of its former glory in the near term. As a result, it might be best to wait until Valeant has actually retired a big chunk of its outstanding debt and resolved at least some of its legal issues before grabbing shares. After all, there's no telling what this company will actually look like from either a product portfolio or balance sheet perspective in just two years. And that's not a reassuring thought in light of the company's recent past.