Ackman’s Valeant defense nervy but unpersuasive

October 30, 2015

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.

Hedge fund founder Bill Ackman’s defense of Valeant Pharmaceuticals was nervy but unpersuasive. The Pershing Square Capital boss says the $34 billion drug giant is a victim of bad public relations, naive investors and jealous rivals. He even likened his stake to one of Berkshire Hathaway chief Warren Buffett’s riskiest but most successful bets. The reality is the company is flawed in ways that Ackman’s “pep talk” won’t fix.

Valeant shares have plummeted since the company disclosed earlier this month that it controlled Philidor, a drug distributor engaged in potentially illegal practices. The pharma firm announced on Friday that it had severed ties with Philidor. Ackman’s Valeant investment has already lost $1.5 billion in value so far.

Yet the hedgie remained unbowed during the four-hour conference call. He advised Amazon Chief Executive Jeff Bezos to get into distributing drugs by mail as an up-and-coming business. He compared himself to the Oracle of Omaha, who in the 1960s made a killing on American Express stock after the financial services firm got burned lending money to a salad-oil swindler. American Express wasn’t complicit in that scandal, however, and Buffett’s right-hand man, Charlie Munger, has already criticized Valeant’s strategy.

Ackman’s strong convictions have served him well in the past, but they may now be leading him astray. He claims Valeant lacked meaningful control over Philidor, and any fine it might pay for involvement in the distributor’s shenanigans would be manageable. He even trotted out examples of other drug firms surviving far more egregious behavior. At one point, Ackman suggested drugmaker Pfizer buy Valeant as a solid business trading well below its value.

Valeant is far from a typical pharma firm, though. It spends little on research and development and grows by acquiring rivals. It’s also heavily leveraged, with about $30 billion of debt. And it has relied on drug-price increases and the dodgy operations of specialty pharmacy distributors for its success.

The company has already admitted that the strategy may have reached its limits. As a result, Valeant says it plans to increase R&D, limit further price increases and stop paying for acquisitions with its stock. The problem is, of course, that cash flow will probably start to shrink. And with hefty fines, a crushing debt load and further revelations of unsavory behavior still possible, the prognosis may be too negative for even Ackman to spin.

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The problem with Valeant is the same as with Volkswagen: When you see one cockroach, there are bound to be some more.

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