If you’re having a tough time handicapping Valeant Pharmaceuticals Intl Inc (NYSE:VRX), don’t beat yourself up. It is a moving target and VRX stock is a “gut feeling” kind of play in the midst of a major transition. Two more developments unveiled within the past few days further muddy the waters as to where Valeant — and VRX stock — may be going.
The market currently thinks shares are poised to go higher, by the way, with VRX stock knocking on the door of a breakout thrust that’s been building for some time. That advance — if it develops at all — could be short-lived, though, if the stock’s current bulls digest the graphic I’m about to show you.
Shrinking Its Way to Viability
The crash course in Valeant Pharmaceuticals: The outfit is a specialty drug developer that went on a buying spree between 2011 and 2015, racking up more debt than the company could feasibly handle. Plans to ratchet up drug prices to fund all the acquisitions ultimately backfired, leaving the organization with a lot of expensive interest payments but not enough revenue to pay all the bills.
The latest chapter in the saga? VRX is selling pieces of itself to whittle down its debt load. Most recently, it agreed to sell its iNova Pharma business to a pair of private equity fund managers to the tune of $930 million. Most of those proceeds will be used to pay down debt related to a senior credit facility.
Makes sense. If buying too much got you into trouble, selling assets — even at a bit of a loss — gets you back to where you want to be.
And to the extent sale proceeds aren’t offsetting enough of the company’s debt, and the debt coming due soon in particular, Valeant Pharmaceuticals can buy time. Earlier this month the company announced it would essentially be refinancing debt coming due in 2020, swapping it out with $1 billion worth of notes that won’t come due until 2025.
There’s a key aspect to this debt-reduction dynamic the market is mostly overlooking, though. That is, each asset it sells also reduces the company’s capacity to produce much-needed revenue and, with a poor credit rating from S&P Global Ratings, the terms of the new debt are anything but cheap money for Valeant.
It’s Become a Horse Race
As was noted, the M.O. makes sense. Debt is killing Valeant. The company shells out something on the order of $450 million per quarter in interest payments — a sizeable chunk of change for an organization that only sported gross profits of a little more than $1.5 billion in each of the past two quarters. VRX spends more than $600 million per quarter on selling and administration activities. That $450 million worth of interest costs is not only relatively well above average, for Valeant, it’s often meant the difference between an uncomfortable loss and a respectable profit. Hence, anything that can whittle down the company’s current debt load of $28.6 billion is a good thing.
Here’s the piece of the strategy most people are missing, however: The shedding of divisions, marketable drugs and brand names are also taking a toll on the top and bottom line. INova Pharma, for instance, is expected to generate $65 million worth of revenue in its fiscal fourth quarter, translating into $35 million worth of EBITDA. Annualizing those numbers means the business was generating $260 million worth of yearly sales, and $140 million worth of EBITDA.
For perspective, Valeant Pharmaceuticals turned $2.2 billion worth of sales into EBITDA of $951 million last quarter.
Looked at from that perspective, the sale of iNova is not only palatable, but commendable. It’s not just iNova, though. Valeant has been methodically selling pieces of itself for a couple of quarters now at the same time it’s been organically losing ground. Next year, for instance, the loss of patent protection is expected to shave $785 million off the top line.
And that’s when it hits you — Valeant may be doing more damage to itself by selling assets and paying down debt than it would suffer if it simply kept those assets and tried to milk them for all they’re worth, while dealing with the interest payments. Or, maybe, the company is doing the right thing.
And there’s the rub: Will Valeant run out of time, or money, or both? It’s pretty much impossible to say. But, this is the core question all current and would-be owners of VRX stock should be asking themselves with each and every announcement the company makes regarding its debt and its properties that are put up for sale.
One thing is clear, though: Sooner or later, Valeant is going to have to do more with its pipeline and portfolio. Burning pieces of the very boat you’re sailing just to stay warm isn’t a long-term solution.
Looking Ahead for VRX Stock
I’ll be the first to concede that while the future looks more grim than not, Valeant stock may well go up in the weeks and months ahead. Joseph Hargett hosts that discussion right here.
It’s a purely technical trade, though, sparked more by psychology than prospects. For the long haul, Valeant has to play offense rather than defense, growing sales with the assets it’s keeping rather than avoiding that hard work by letting go of them.
That’s one thing CEO Joseph Papa has yet to prove he’s got in his repertoire, and that’s the one reason any technical breakout from VRX stock may not last all that long.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can follow him on Twitter.
