When it comes to Valeant Pharmaceuticals Intl Inc (NYSE:VRX) and Valeant stock there’s no question I’m an unabashed bear. In my last article in August about VRX I said that buying Valeant stock was a dumb choice.
Simply put, Valeant’s debt situation has forced it into a corner where the only way out is to sell one of its cornerstone assets such as Bausch & Lomb providing investors with even less reason to own VRX stock.
Well, I’ve just read an April 2017 report from the International Monetary Fund that’s given me even less enthusiasm for the company, something I didn’t think was possible.
The IMFs Global Financial Stability Report is especially eyeopening because I’d just read something in the Globe and Mail about cheap retail stocks that filtered out any company with net debt to EBITDA greater than the industry average of 3.4.
Read IMF’s First Chapter
The first of the report’s three chapters address the vulnerabilities in the U.S. corporate sector and, not surprisingly, debt is at the top of the list.
“There has been a stronger reliance on debt financing as the credit cycle entered a mature phase. Corporate credit fundamentals have started to weaken, creating conditions that have historically preceded a credit cycle downturn,” Page 9 of the report states. “At the same time, a rising share of rating downgrades suggests rising credit risks in a number of industries, including energy and related firms in the context of oil price adjustments and also in capital goods and health care.”
The last time I checked Valeant is a healthcare company.
The report goes on to point out that the median net debt of S&P 500 firms is slightly higher than 1.5 times earnings and very close to an all-time high. Widening the scope to 4,000 companies, the IMF found that debt levels are exceeding those just before the 2008 financial crisis.
If you exclude the energy industry from S&P 500 net leverage statistics between 1980-2015, the median net debt to EBITDA today is about the same as it was in 2000, suggesting we are sitting on the precipice of a potentially devastating correction.
The Situation with Valeant Stock
Using data from Morningstar, Valeant’s net debt in the trailing 12 months subtracting the $920 million it’s to receive from the recently completed sale of its iNova Pharmaceuticals business, is $25.5 billion; its EBITDA is $2.4 billion for a net-debt-to-EBITDA ratio of 10.6.
Reverting to the IMF report, it shows that of all the S&P 500 sectors, real estate has the highest net leverage with net debt six times EBITDA.
So, Valeant has net leverage almost double the real estate sector, a sector known for leverage, and yet there are people still making arguments why Valeant stock is a worthy play.
That to me is a head-scratcher because if the IMF sees financial instability in the U.S. corporate sector, how in Hades is Valeant supposed to navigate this successfully?
Bottom Line on Valeant Stock
Further along in the IMFs first chapter appears some foreshadowing about Donald Trump’s tax plan and the unintended effects it could have on business.
“Tax cuts in the United States in the 1980s coincided with an increase in financial risk taking, abetted by a broad rollback of regulations. Similarly, a tax holiday for offshore unremitted profits in 2004, amid financial deregulation that started in the 1990s, was followed by a surge in financial risk taking,” states page 13 of the IMF report. “In general, increased financial risk taking is associated with pronounced leverage cycles that gradually build up and end abruptly in recessions, as for example in both 2001 and 2008.”
Will we add 2018 to the list?
That I can’t say, but what I can tell you is that investors ought to be prepared for a potentially devastating market correction over the next 12-24 months. Only by owning quality stocks with little debt and lots of cash will you have a chance of holding off a deep slide in the value of your portfolio.
By no means is Valeant stock on that list.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.