Editor’s Note: Shortly after this article was published, Valeant responded to Citron’s claims, calling the report “erroneous.” You can read Valeant’s press release addressing the matter here.
Boy, Citron Research sure does have some major influence over the stock market. That’s a rather unfortunate fact of life for Valeant Pharmaceuticals Intl Inc (VRX) stock, which swiftly cratered in midday trading, losing roughly 30% in a matter of minutes.
The reason for the fall was a flamboyantly bearish note from the famed short-selling outfit Citron Research, which lowered its price target for VRX stock from above $200 per share to a mere $50 per share.
The title of the report, “Valeant: Could this be the Pharmaceutical Enron?” couldn’t have cast VRX stock in a worse light.
The allegations made by Citron are rather serious. At a bare minimum, VRX stock holders should be aware of what they entail.
Confusing Relationships With Specialty Pharmacies
Citron’s bearish case on VRX goes as follows:
The story starts with a small pharmacy called R&O Pharmacy in California, which received a bill for a whopping $69 million from VRX, despite claiming that it had no invoices from Valeant. It filed a lawsuit in September contesting the bill.
VRX had already been facing scrutiny from the New York Times for its controversial practice of acquiring specialty drugs and boosting the price.
In addition to the R&O Pharmacy situation, a specialty pharmacy by the name of Philidor RX was coming under the microscope, and with the VRX earnings report slated for Oct. 19, “Valeant came prepared for the conference call with pre-written questions and answers — one about Philador, and one about R&O — in its slide deck.”
Then, The New York Times dropped a bombshell of sorts:
“Valeant had said little about Philidor until Monday, when J. Michael Pearson, Valeant’s chief executive, revealed on his company’s quarterly earnings call that Valeant had purchased an option to acquire Philidor late last year. He said that Valeant consolidated Philidor’s results in its own financial reports.”
The Bombshell: Phantom Revenues?
Citron then gets to the meat of the argument, and one that should definitely worry VRX stock holders.
After “a fair amount of due diligence,” Citron makes the bombshell accusation of its own, and the one that’s responsible for today’s massive selloff: “Philidor owns R&O Pharmacy. Citron believes the whole thing is a fraud to create invoices to deceive the auditors and book revenue. PHANTOM ACCOUNTS.”
The famous short selling firm reached this scandalous conclusion because of some eerie similarities between R&O Pharmacy and Philidor. Namely:
“The two companies have the same patient privacy disclosure, in fact formatted identically, on both companies’ websites.”
“The pharmacies — R&O, in Camarillo California, and Philidor RX in Horsham PA, have the identical toll free number to reach their Privacy Officer.”
Citron goes on, saying it suspects VRX has created an entire network of “phantom captive pharmacies.”
In other words, this could just be the tip of the iceberg.
Considering that VRX has said in the past about 40% of its business results from specialty pharmacies, this theoretically could open up as much as $4.4 billion of Valeant’s $11 billion or so in 2015 revenues to scrutiny.
There’s no doubt that Citron Research is controversial, but it does have a track record that includes a number of accurate calls on, among other things, a large number of Chinese stocks and Nu Skin Enterprises, Inc. (NUS).
“Citron Has Seen This Movie Before.”
The VRX note closes with a bang, highlighting similarities between its Valeant call and one it made seven years ago:
“In 2008, Arthrocare, a successful medical device company, was doing its dirty deeds through Discocare, an undisclosed captive ‘independent company’. When Citron exposed the relationship, Arthrocare tried to make it all go away by announcing it was buying Discocare. At the time, virtually every investment banking house on the Street had a ‘buy’ or ‘strong buy’ on Arthrocare, and Goldman-Sachs had been engaged to ‘explore strategic alternatives’. The entire thing began to unravel when Citron discovered — and published — that Arthrocare and Discocare — ostensibly separate companies, had the same fax number.”
How did that end up?
“The CEO of Arthrocare is now doing 20 years.”
At the end of the day, these are still merely accusations. But they’re serious accusations, and there’s enough behind them to merit a detailed explanation from VRX.
If one isn’t forthcoming in the next few days, that $50 price target might not be so unrealistic after all.
As of this writing, John Divine did not hold a position in any of the aforementioned securities. You can follow him on Twitter at @divinebizkid or email him at firstname.lastname@example.org.
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