Wyatt Research Week in Review: Nov. 1-7

The Valeant Pharmaceuticals International (NYSE: VRX) soap opera was running again this week, with an investing legend making a cameo appearance in the melodrama.

As I wrote in this column a couple weeks ago, Valeant shares have been under fire since a report was published on Oct. 21 by the aggressive short-selling outfit Citron Research which claimed that the Quebec-based drug company used the specialty mail-order pharmacy Philidor Rx Services to fraudulently inflate revenues. The report likened Valeant to the pharmaceutical industry’s version of Enron, the poster child for U.S. corporate fraud.
Denials and rebuttals from the Valeant brass ensued, including a conference call on Oct. 26 which was roundly criticized as smacking of scripted damage control. The market wasn’t impressed: shares fell 5% following the performance.
Billionaire activist investor Bill Ackman of Pershing Square Capital Management – the third-largest Valeant shareholder and the public face of the scandal – laid an even bigger egg on Oct. 30 when he defended Valeant in a four-hour conference call. The market greeted his pitch with a 16% rebuff, though he was more a victim of timing. That same day Valeant announced that it had severed ties with Philidor.

Charlie’s Take

For my money, the most interesting recent developments in the Valeant saga center around Warren Buffett – a man with no direct connection to the scandal – who may have read about it in a print newspaper with a bemused grin in between sips of a Coke and bites of a Big Mac at his home in Omaha.
During the marathon Oct. 30 conference call Ackman invoked the Oracle of Omaha’s famous purchase of American Express (NYSE: AXP) during the “Great Salad Oil Scandal” of 1963.
The details of that con job are complicated, but basically it involved a swindler named Tino De Angelis, who discovered that he could profit on vegetable oil futures by faking receipts on inventory he didn’t own. In a ruse worthy of a Hollywood gangster picture, he fooled American Express inspectors by floating a small amount of vegetable oil on tanks filled with water.
Buffett, then a youthful sage in his early thirties, recognized that AmEx had been duped but wasn’t complicit in the scandal. He bought big, investing 40% of his firm’s holdings in American Express stock. Fast forward to the present and AmEx remains the fourth-largest position in Buffett’s obscenely profitable Berkshire Hathaway (NYSE: BRK-B) portfolio.
Buffett didn’t weigh in on Ackman’s recent remarks, but Berkshire Hathaway Vice Chairman Charlie Munger did. Buffett’s right-hand man chastised both Ackman’s AmEx analogy and Citron’s Enron reference.
“It’s just a company that was too aggressive in ignoring moral considerations in the way it did business,” the 91-year-old Munger said in an interview on Monday with The Wall Street Journal. He added that the Valeant situation “goes way deeper than American Express” and that in the 1960s AmEx’s “basic franchise wasn’t being hurt at all.”
Munger’s invocation of “moral considerations” is telling. While socially responsible investors might object to the product sold and marketed by a company like tobacco giant Altria Group (NYSE: MO), it’s hard to argue with the viability of Altria’s business model or its management’s commitment to returning cash to shareholders.
There’s also a key distinction between selling “sinful” goods like cigarettes (a product almost universally acknowledged and forewarned as being harmful) in a manner which conforms with generally accepted business practices, and Valeant’s alleged practice of selling drugs essential to the well-being of the end consumer in an underhanded and deceitful manner.
“I’ll tell you why I like the cigarette business,” Warren Buffett said back in 1987. “It costs a penny to make. Sell it for a dollar. It’s addictive. And there’s fantastic brand loyalty.”
Buffett was right in 1987. He was also right in 1963.
American Express was a buy in ’63; it’s still a buy today. Valeant Pharmaceuticals? Not so much.
Here are some of my favorite Wyatt Investment Research articles from the week:
Top 5 Dividend Increases for November – Month in and month out there are plenty of stocks paying dividends, but only a handful are upping their dividend payouts. These five stocks are the best of the best in November.
Walgreens-Rite Aid Merger: Prescription for Profits? – Walgreens Boots Alliance (NASDAQ: WBA) made a $17.2 billion offer (including debt) last week for its rival Rite Aid (NYSE: RAD). The deal would unite two of the country’s three biggest drugstore chains. The key rationale behind the merger is that the deal could make the newly merged company the largest single purchaser of drugs globally. That would in turn give it the necessary oomph to drive better deals on drug pricing. Walgreens is targeting about $1 billion in cost-saving synergies, but will it work?
The Secret Strategy of the Great Investors – If you vet the investing strategies of the great investors, you’ll find a wide field of stock preferences. But a common denominator nevertheless exists.
Can Carl Icahn Break Up AIG? – You’ve probably the phrase “too big to fail.” But in calling for an American International Group (NYSE: AIG) breakup, activist Carl Icahn says that AIG is “too big to succeed.” Icahn has taken a roughly 2% stake in the massive insurer and proposes breaking AIG into three different insurance companies: one focusing on life, another on mortgage and the last one on property and casualty. However, not everyone is in favor of breaking up AIG, including CEO Peter Hancock.
Time to Call on This Budding Dividend Growth Stock – Thanks to a forthcoming acquisition, this already high-yield dividend stock will be able to realize significant cost synergies by incorporating its takeover target. This will allow the company to eliminate duplicative expenses, while gaining millions of new customers.
Bank Account Earning Nothing? Try a Bond ETF Instead – A bond ETF isn’t about blockbuster returns. These funds are meant to give investors some relatively safe short-term options to allocate excess cash. And with interest rates being at all-time lows and interest-bearing checking and savings accounts paying next to nothing, considering parking some cash in a bond ETF.
How to Play the Hotel Buyout Trend – Merger-and-acquisition mania is everywhere. The latest news is that Hyatt Hotels (NYSE: H) is looking to buy rival hotel operator Starwood Hotels & Resorts (NYSE: HOT). The move would give Hyatt and Starwood the reach and resources to better compete with the big boys of the industry, including Marriott International (NASDAQ: MAR) and Hilton Worldwide Holdings (NYSE: HLT). Even Warren Buffett won’t be immune to the fallout.
Split Decision: Which Stock Wins in the HP Split? – After months of preparation, HP Inc. (NYSE: HPQ) and Hewlett Packard Enterprise Co. (NYSE: HPE) have finally split. Formerly known as a single entity, Hewlett-Packard Co., the company has separated its flagship PC and printer businesses from its strategic growth areas like servers and storage devices. Which stock is a buy?
Have a great weekend!