Monday, June 6, 2016

Saving capitalism - Valeant edition

I had blogged earlier about Valeant Pharmaceuticals and its predatory capitalism. All too often there are such stock market darlings who claim to have discovered new approaches to making money. In case of Valeant, James Surowiecki describes its model,
For the past seven years or so, Valeant’s business model was to use cheap debt to buy pharmaceutical companies that it believed were undervalued, then to slash their costs, particularly in R. & D., and often to hike the prices of their drugs. In order to buy those companies, Valeant borrowed billions of dollars, promising investors that those companies, and the drugs they owned, would become far more valuable than before. Essentially, Michael Pearson sold those investors on the idea that Valeant’s core competencies were its superior approaches to capital allocation and drug pricing.
 James Surowiecki again writes,
Valeant became a serial acquirer, doing more than a hundred transactions between 2008 and 2015. It invested almost nothing in its core business; R. & D. spending fell to just three per cent of sales. It was ruthless about bringing down costs, sometimes laying off more than half the workforce of a company it acquired... A 2015 analysis looked at drugs whose price had risen between three hundred per cent and twelve hundred per cent in the previous two years; of the nineteen whose prices had risen fastest, half belonged to Valeant.
And their financial engineering borders on chicanery,
The company also pulled every trick in the financial-engineering handbook. In 2010, it merged with a Canadian company, in order to bring down its tax rate, and it sheltered its intellectual property in tax havens like Luxembourg. It used opaque accounting methods that made it hard for investors to judge how well acquired companies were doing. To ward off competition from generic drugs, Valeant entered into a complicated relationship with a mail-order pharmacy called Philidor. Meanwhile, it paid its executives exceedingly well, and tied their compensation to shareholder returns, thus encouraging a single-minded focus on stock price. Valeant embodied practically everything that people hate about business today. So it’s no surprise that much of Wall Street saw it as a profit-making machine.
This has been said before. Next time you come across a company with rising share price which is not grounded on any productive transformation but a new business model or financial engineering, it may be a good opportunity to short the stock and make good money. But it is more likely that people would still go long in the direction of the herd. 

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