Valeant Pharmaceuticals Intl Inc (NYSE:VRX) has imploded over the past 18 months. VRX stock is down nearly 95% since it peaked in 2015. The company has made a fool of many famous investors, including famed activist Bill Ackman. What was once one of Canada’s most exciting growth companies now sits at death’s doorstep.
With its market cap down to below $5 billion now, the question has become existential. Can Valeant survive? Or will it end up in bankruptcy court?
For investors in VRX stock, it’s a matter of handicapping. Valeant could be a multi-bagger if it survives. However, there’s a good chance the stock ends up at zero. Thus, what’s an investor to do?
Let’s look at the pros and the cons for VRX stock to decide.
VRX Stock Cons
Imploded Business Model: Ackman famously loaded up his huge position in VRX stock on the basis of “platform value.” This was the idea that Valeant was worth a great deal due to its ability to keep acquiring new drugs. Once Valeant acquired a new drug company, it typically would raise prices for the acquired drugs while slashing R&D spending and other overhead. This made for fantastic margins.
Valeant borrowed heavily to make these acquisitions using the assumption that drug prices could continue rising indefinitely. This assumption, however, proved false following increasing scrutiny toward the sector from 2015 onward. VRX also engaged in some questionable business behavior, including using gray-area specialty pharma operations to push drugs at high prices. This window of opportunity has shut. Valeant has greatly limited capacity to raise drug prices going forward, and it doesn’t have financial capacity to make further acquisitions.
Need to Sell Assets: In fact, the opposite is true. Valeant is having to dump assets. And a forced seller rarely gets top dollar for their goods. For a year now, Valeant management has talked up imminent asset sales. Rumors of a Salix sale for as much as $10 billion sent VRX stock flying.
But that rumor, as with most such Valeant rumors, amounted to nothing. Valeant did manage to sell two smaller non-core businesses early in January, leading to a smaller pop in VRX stock. But that quickly gave way. The EBITDA multiples, particularly for the Dendreon unit, received on the asset sales do not appear high enough to justify the company’s current valuation. Valeant likely has to sell more assets to avoid breaching debt covenants. And based on the past year’s efforts, it could be difficult to sell more properties at acceptable prices.
Huge Debt Load: Valeant sports about $30 billion in debt, against a minimal cash position. And virtually all of this debt is due no later than 2022. A sizable chunk matures in 2018.
Thus, Valeant is racing against the clock to come up with cash before it has to make good on its debt obligations. If lenders are generous, the company may be able to roll some of its debt over, though the interest rate would probably be unfavorable. Otherwise, it will have to sell yet more assets to stay liquid in the short-term.
VRX Stock Pros
Asset Sales a Step in the Right Direction: While there is much more work to be done, Valeant’s asset sales earlier this month are a clear positive. The company likely will have enough cash to make it through to 2018. Many prominent bears were suggesting that Valeant would go bankrupt in 2017. That looks significantly less likely now.
While VRX has much more to do, $2.1 billion is certainly a step in the right direction. The Dendreon business they sold was of low quality, and they appear to have gotten a decent price for it, all things considered. And the business they sold to L’oreal SA (ADR) (OTCMKTS:LRLCY) went at a solid price, though it was one of Valeant’s highest-quality assets.
Heavy Bearish Involvement: Valeant has attracted numerous short sellers. As of data from December 31st, there are 29 million shares of VRX stock that have been sold short. That constitutes more than 11% of the total float. Since at least August, short sellers have maintained a short position in excess of 25 million Valeant shares.
Numerous big-name short sellers, such as Citron Research and John Hempton of Bronte Capital, have devoted numerous time to blasting the company. Hempton tends to make comments such as: “Valeant deserves to go bankrupt — and will go bankrupt unless the goodwill of bond holders and pharmaceutical payers is forthcoming.”
These are talented market operators, and there’s a decent chance they’ll be proven right. But if not, bears may find themselves stuck in a position that changes character on them. Bill Ackman isn’t the only pro to ride a position for too long on occasion.
Better Drug Market Optics? President-elect Donald Trump will take office shortly. He’s made some prickly remarks about the drug industry over the past few months, notably saying that pharma is “getting away with murder.” That sounds bad. However, so far at least, he still appears more moderate on the issue. Hillary Clinton took to Twitter on various occasions to call out individual pharma companies and/or their executives.
Trump’s repeal-and-replace rhetoric is a question mark for the healthcare industry. But it’s an improvement from what would almost certainly have been a painful four years for pharma stocks had the alternative occurred. Healthcare performed worst of the S&P 500’s 10 sectors last year. Unless Trump’s words turn into concrete action against the drug companies, there is a good chance that sentiment picks up later this year in the sector.
VRX stock seems appealing as a sort of high-risk high-reward play on the surface. Shares are way down off the peak. The company seems to have put the worst behind it, and is starting to make the right moves on asset sales and new management direction. But oh what a hole they had dug for themselves.
Valeant is in a race against the clock, and they need a lot of things to go correctly to avoid bankruptcy. There is too high a chance of the company failing before the cycle turns for me to consider this as anything more than a long-shot speculation.
As of this writing, Ian Bezek did not hold a position in any of the aforementioned securities. You can reach him on Twitter at @irbezek.