Valeant: 11 Months Later: The Countdown Continues
Nov. 8, 2017 3:44 PM ET|18 comments| About: Valeant Pharmaceuticals International, Inc. (VRX)
Michael Wiggins De Oliveira
Long only, value, contrarian
(3,014 followers)
Summary
Strong improvement of Valeant's fundamentals.
Valeant delivers early on its commitments.
Hugely mispriced.
Investment Thesis
I have been highly outspoken of Valeant's (VRX) opportunity since December 2016. At that time I wrote an article called 'Valeant Is A Great Investment To Start 2017', where I concluded with the following statement,
Although VRX will continue to suffer from negative press and investor stigma over the next 12-18 months, in time, investors will return to the stock. I expect an appreciation of this stock of at least 70% over the next two years.
On that day, the stock traded for $14.78 (or roughly 5% difference from today's price). However, the company today is so much stronger. The turnaround has not only started, it is at full strength. The market will very soon realize the price discrepancy between its current share price and intrinsic value.
Recent Developments
Valeant released its Q3 2017 results on Tuesday and they were solid throughout. And although the shares rallied, I believe that the market actually under-reacted to some much good news all around. I am generally not qualitative investors and so I will not devote too much energy to this endeavor in my analysis, but I can confidently say that I have never seen Papa and Herendeen so bullish of Valeant's prospects as they were on Tuesday. I will pare myself on this line of my analysis, but I thought I should briefly highlight that for readers.
It might read as old news by now, but the company not only delivered on its commitments; they did so early. In fact, as of November 7, 2017, they have actually reduced their total debt by approximately $6 billion since the end of the Q1 2016 versus what was originally set out; which was to pay down $5 billion of debt by February 2018. Valeant also has got rid of all long-term debt maturities until 2020, as well as, all mandatory amortization requirements. Which puts Valeant in a remarkably stronger position compared with this time last year.
However, objectively speaking, Valeant still remains highly leveraged. With its net debt (including its drawn revolver) of approximately $26 billion and its adjusted EBITDA for fiscal 2017 expected to come in at around $3.6 billion it still leaves the company stretched at 7.2 times. There is no disguising this ugly truth. Being a shareholder or not, this does not detract me from my ability to understand that Valeant remains a risky enterprise and one which keeps away many investors.
If you wait for the robins, spring will be over.
Warren Buffett, NY Times 2008
I have no uncanny ability to be prescient of Valeant's outcome. Clearly, if I had such an ability I would not have invested in Valeant so early and had to endure the stock's vicissitudes. In any case, I would much prefer to be too early than too late.
Core Business
Valeant's business is now leaner and more tightly focused on eye health, GI, and dermatology. And while headlines have been wrongly grouping together Valeant together with other specialty pharmaceutical companies, this is inaccurate.
Allow me to clarify some confusion; Valeant's Diversified Products is its smallest of three segments - approximately 15% of total revenue as of Q3 2017. A business line with its Diversified Products segment sells generics products. The rest of Valeant has nothing to do with generics and the price erosion which other specialty pharmaceutical companies have recently been witnessing.
In fact, the majority of Valeant's underlying businesses, B&L which accounts for nearly 57% of total revenue had 6% of organic growth. Furthermore, including Salix, the largest part of the Branded Rx segment, also generated organic revenue of 6%. Highlighting that Valeant clearly has found markets which need its products.
Although Dermatology was also a drag on Valeant's performance, according to CFO Herendeen, if one excludes Valeant's loss of exclusivity products, the balance of Valeant was basically flat compared with the same period a year ago.
Pipeline
Valeant believes it has new products which could return the franchise back to a growth mode. Worth singling out is VYZULTA, which received FDA approval and will be used for the treatment of glaucoma - a market expected to grow at a CAGR of 15% over the next four-year period accounting for over $11 billion in revenue by the end of 2020.
The other big drug from Valeant's portfolio is IDP-118, a lotion for treatment of plaque psoriasis which is expected to ignite growth in its Ortho Dermatologics business.
Moreover, Valeant's strong pipeline prospects lead CEO Papa's to comment 'we believe that the products in our pipeline over the next five years can double the size of our Dermatology business'.
Outlook
Valeant reiterated its outlook to include its asset divestitures. The fact that Valeant divested of many assets and did not have to revise downwards, its adjusted EBITDA for fiscal 2017, should inspire great confidence in investors of its ultimate prospects.
This drove Herendeen to say in the earnings call,
So the pieces are all there, but I'll give you one qualitative point, which I'm very comfortable making the statement is, set aside the LOE assets, set aside the divested assets, we are confident that the base business, the business that we manage, the business that we can control and manage and drive fundamentals for, will grow in 2018 v 2017. That's our core businesses. And so that I hope provides at least a framework for how you might think about 2018.
Once again, reinforcing, that not only does Valeant have staying power in this highly competitive industry, it looks set to solidify its position. However, at the same time, management remain singularly focused on one priority: bringing down its debt load. No doubt, most, if not all of the low hanging fruit has now been picked over, but Valeant continues to make this its top priority.
Valuation
Note: When the company disclosed adjusted EBITDA I used that above, otherwise I just used EBITDA in Lundbeck's (OTCPK:HLUYY) and UCB's (OTCPK:UCBJF) case.
Valeant remains reasonably priced if one expected it to be acquired. On the other hand, if one was to consider simply investing in its equity and not to acquire the whole company (everyone reading this post), its price becomes meaningfully more attractive. Obviously, there is still the debt element that will need to be addressed in 2020, but shareholders are acquiring a portion of the equity, and the underlying business will be responsible for refinancing the debt or paying it down over time.
Takeaway
Valeant delivered the quarter that many had been waiting for. It finally arrived. Obviously, the company still has huge hurdles to deal with, namely its debt, and the fact that Valeant's underlying business is still largely in the process of stabilizing. Sustainable growth, will most likely, still be some time away, but investors are not pricing in any growth at the moment.
