Why Valeant Stock Continues To Fall

  • Valeant’s business model of buying drugs and hiking prices succeeded.
  • Its use of specialty pharmacies may have been skirting the law.
  • There may be no bottom in this stock.

Valeant Pharmaceuticals (NYSE:VRX) would appear to have the perfect business model. Buy drug companies, fire the researchers, hike the prices and take the profits to Canada. Wash, rise, repeat.

But competition could be a problem. Hike prices and doctors might recommend another drug, even a generic. Valeant’s solution was allegedly to work with specialty pharmacies devoted to making certain that the name brand would be dispensed, even if it was more expensive, and even if the doctor didn’t really care.

The risk is that prosecutors may call that fraud, especially if it’s not an arms-length relationship. Medco Containment was able to get away with massive fines as it was purchased by Express Scripts Holding (NASDAQ:ESRX). Will Valeant?

The reporter selling the story that they may not is a “short” researcher, Citron Research, a company that writes reports designed to take stocks down and profit from it. Their report was followed by an anonymous file detailing the Valeant relationship with former Medco executive Laizer Kornwasser, accusing him of setting up specialty pharmacy Philidor RX, and affiliates, on behalf of a Valeant unit called KGA Fulfillment Services.

Since the Citron piece came out, Valeantstock has lost over half its value. More important, the company was subpoenaed by U.S. prosecutors and the U.S. Senate has begun investigating the company’s business practices. CEO Michael Pearson was forced to liquidate 1.3 million shares to satisfy a margin call. Valeant stock has plunged dramatically in last three months.
VRX stock chart

Source:Valeant Stock Price Data by amigobulls.com

A conference call by Valeant tried to wave the problem away by saying they had an option to buy Philidor, but Citron called this a cover-up of phantom accounts. Bill Ackman of Pershing Square, a hedge fund owner and major Valeant stockholder, moved to support the stock by buying more shares, as did Martin Shkreli, who engages in a similar business model at Turing Pharmaceuticals. As the stock fell analysts continued to support Valeant and called it a bargain.

Even at its present level, however, Valeant is selling at a Price/Earnings multiple of over 40. That’s higher than Alphabet Inc-C (NASDAQ:GOOG). Would you really rather own Valeant than Google?

By focusing on short-term profits, price hikes, manipulation of the payment system and overseas moves since the Affordable Care Act passed in 2010, all drug companies have made themselves vulnerable to re-regulation. The political and regulatory environment has shifted, even since 2013. The desire by prosecutors for “perp walks,” executives being paraded into courthouses wearing handcuffs, has increased dramatically.

Conclusion

My view on the drug stocks remains that they’re vulnerable to competition from biosimilars and other forms of competition. It’s a bearish call not based at all on possible illegality. But with that risk factor now introduced, I don’t see a bottom in companies like Valeant.

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