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Tying The Valeant Roll-Up Together: Presenting The Goldman "Missing Link"

Tyler Durden's picture




 

While the Valeant soap opera has had constant, heart-pounding drama for weeks and following yesterday's report that it allegedly fabricated prescriptions, even an element of career-ending (and prison-time launching) criminality, so far one thing had been missing: an antagonist tied to Goldman Sachs.

Thanks to a profile by Bloomberg, we are delighted to reveal the "missing link", one which ties everything together. Its name is Howard Schiller.

 

Schiller was, between December 2011 and June 2015, the CFO of Valeant, and is currently on its board of directors.

More importantly, prior to joining Valeant, he worked for 24 years at Goldman Sachs as chief operating officer for the Investment Banking Division of Goldman Sachs, responsible for the management and strategy of the business.

How and why did Schiller end up at Valeant? Jeff Ubben, of the hedge fund ValueAct Capital, helped bring in J. Michael Pearson from McKinsey to run Valeant. Pearson then helped lure Schiller from Goldman Sachs.

And, as Bloomberg notes, "Goldman Sachs and other banks brought in investors, making many millions in fees in the process."

All thanks to the "roll-up" strategy that blossomed and ballooned under Schiller.

Because much more important than using Valeant as a Wall Street fee piggybank, which in turn resulted in a circular loop whereby virtually every analyst covering the company had a "buy" recommendation as we showed two weeks ago...

 

.... which then pushed its price ever higher, making it even easier to acquire smaller (or larger) companies using the stock as currency, and creating the impression of virtually perpetual growth (simply due to the lack of any purely organic growth comps), and even more important than the company's current fiasco involving Philidor (which may or may not involve a criminal investigation before too long), was that Valeant was nothing more than a massively indebted serial acquirer, or a "roll-up", taking advantage of the recent euphoria for specialty pharma exposure, and with Ackman on board, a sterling activist investor to provide his stamp of approval (recall the surge of Weight Watchers stock just because Oprah Winfrey came on board).

That aggressive roll up strategy was the brainchild of Schiller (and Pearson) which in turn was developed with Wall Street's help in one massive monetary synergy, whereby everyone profited, as long as the stock kept going up.

With the price crashing, the entire business model of the Valeant "roll-up" has now come undone.

So now that the time to count bodies has begun, let's meet the architect who was the brain behind Valeant aggressive expansion spree.

Schiller ran Goldman Sachs’ health-care practice until 2009, when he became the chief operating officer of Goldman’s investment bank. The next year, the bank advised Valeant on its breakout purchase of Biovail Corp.

 

After Schiller arrived at Valeant, in late 2011, the drug company orchestrated some of its most controversial deals. In the process, Valeant enriched its shareholders. Its market value soared from $14 billion to $70 billion during Schiller’s tenure as CFO, as one Wall Street analyst after another placed “buy” on its stock.

It also enriched Wall Street:

Under Pearson and Schiller, Valeant became a lucrative client for Wall Street. Goldman Sachs, for instance, was entitled to more than $15 million in fees for the Biovail deal. The firm also earned about $55 million for helping the drug maker raise $9.3 billion in debt and equity financing for the 2013 acquisition of Bausch & Lomb Inc., including its role as sole underwriter of a $2 billion stock sale, regulatory filings show.

... Goldman at this point, of course, was Schiller's former employer. Surely there was no conflict of interest there.

Goldman Sachs Lending Partners served as the lead lender among a group of banks that provided a credit line and term loans to Valeant. Later, the same banking group agreed to raise as much as $8 billion in financing for Valeant’s proposed acquisition of Allergan Inc. Goldman Sachs didn’t participate in that group offering financing and stepped down as the banking group’s administrative agent because it was involved in defending Allergan against the deal.

We don't understand: why would that stop the bank that was just fined a whopping $50 million for wilfully and criminally stealing inside information (which helped it make who knows how many billions in profits) from the New York Fed?

And then, just as abruptly as when Hank Paulson quit Goldman to join the Treasury just so he could cash out of his GS stock tax free, Schiller announced his resignation one short month after Valeant's failed attempt to acquire Allergan (in collusion with Bill Ackman who made hundreds of millions buying calls on Allergan having material non-public information that a hybrid strategic/financial bid was coming) fell appart after it was outbid by Actavis Plc.

As Bloomberg observes, "it was an opportune exit." Under the terms of his departure, he stands to continue vesting in a stock and options package that made up the bulk of his $46 million in pay through 2014, according to company filings.

It gets better: before stepping down, he sold $24 million of Valeant stock to pay taxes, including a portion when the shares were trading above $200, company filings show.

Call him lucky, just don't call him a criminal.

But while he is no longer CFO, he most certainly has present this past Monday on a conference call in which Valeant defended its relationship with Philidor: "Valeant turned to him, rather than to a company officer, to walk investors through a big part of Valeant’s presentation about its ties to Philidor."

Schiller told listeners that Valeant had launched a pilot prescription-fulfillment program through Philidor, and based on its success decided to strengthen its relationship with the specialty pharmacy. Then, last December, Valeant "acquired the option to acquire Philidor," he said.

Just four days later, after news broke that Philidor was fabricating prescriptions, that view changed at 5 am this morning when the company announced that "we have lost confidence in Philidor’s ability to continue to operate in a manner that is acceptable to Valeant and the patients and doctors we serve."

Call it unlucky, just don't call it criminal.

During the Monday call, Umer Raffat, an analyst at Evercore ISI, raised a question on many people’s minds: Why did Schiller leave when he did? “I feel like no one’s satisfied, and I keep getting that question from many investors in many meetings. So, would appreciate all your input there,” Raffat said.

Schiller reiterated that after two careers over 30 years, he wanted to "do some things on my own.”

He continued: “The timing was right. And again, just to be absolutely crystal clear, if I had –- and which I’m guessing, it could be an undertone of the question, if I had any concerns whatsoever about Valeant or Mike I would not have stayed on the board. It’s as simple as that."

 

Pearson quickly followed up. He said Schiller had called him shortly after the stock-commentary site Citron Research, run by short-seller Andrew Left, sent Valeant’s stock into a tailspin with a report questioning the company’s accounting and its relationship with Philidor, the pharmacy. Pearson has since called for authorities to investigate Citron.

Good, and when those authorities find nothing wrong with Citron, which merely blew the whistle on a rollup that many others had suspected for years, they can focus all their attention on Valeant.

For their benefit, here is a quick primer from HBS on the rapid rise and even more rapid collapse of some of the best known (and most infamous), as well as unknown roll-ups yet, and what exactly bursts their bubble:

The notion behind roll-ups is to take dozens, hundreds, or even thousands of small businesses and combine them into a large one with increased purchasing power, greater brand recognition, lower capital costs, and more effective advertising. But research shows that more than two-thirds of roll-ups have failed to create any value for investors.

 

We were interested to find that many roll-ups were afflicted by fraud—among them, MCI WorldCom, Philip Services, Westar Energy, and Tyco—but we won’t focus on those in this article because for the most part the lesson is simply, “Don’t do it.” Instead, let’s look at the fortunes of Loewen Group. Based in Canada, it grew quickly by buying up funeral homes in the U.S. and Canada in the 1970s and 1980s. By 1989, Loewen owned 131 funeral homes; it acquired 135 more the next year. Earnings mounted, and analysts were enthusiastic about the company’s prospects given the coming “golden era of death”—the demise of baby boomers.

 

Yet there wasn’t much to be gained from achieving scale. Loewen could realize some efficiencies in areas like embalming, hearses, and receptionists, but only within fairly small geographic proximities. The heavy regulation of the funeral industry also limited economies of scale: Knowing how to comply with the rules in Biloxi doesn’t help much in Butte. A national brand has little value, because bereaved customers make choices based on referrals or previous experience, and being perceived as a local neighborhood business is actually an advantage. In fact, Loewen often hid its ownership. And it damaged whatever reputation it did have with its methods of shaming the bereaved into buying more expensive products and services (such as naming its low-end casket the “Welfare Casket”).

 

Nor did increased size improve the company’s cost of capital. Funeral homes are steady, low-risk businesses, so they already borrow at low rates. The cost of acquiring and integrating the homes far outweighed the slight scale gains. What’s more, the increase in the death rate that Loewen had banked on when buying up companies never happened. Fast-forward several years and the company filed for bankruptcy, after rejecting an attractive bid. (Relaunched under the name Alderwoods, Loewen was sold to the same suitor for about a quarter of the previous offer.)

 

Often roll-ups cannot sustain their fast rate of acquisition. In the beginning, all that matters is growth—buying a company or two or four a month, with all the cultural and operational issues that accompany a takeover. Investors know that profitability is hard to decipher at this point, so they focus on revenue, and executives know that they don’t have to worry about consistent profitability until the roll-up reaches a relatively steady state. Operating costs frequently balloon as a result. Worse, knowing that the company is in buying mode, sellers demand steeper prices. Loewen overpaid for many of its properties. In another case, as Gillett Holdings and others tried to roll up the market for local television stations in the 1980s, the stations began demanding prices equal to 15 times their cash flow. Gillett, which bought 12 stations in 12 months and then acquired a company that owned six more, filed for bankruptcy protection in 1991.

 

Finally, roll-up strategies often fail to account for tough times, which are inevitable. A roll-up is a financial high-wire act. If companies are purchased with stock, the share price must stay up to keep the acquisitions going. If they’re purchased with cash, debt piles up. All it took to finish off Loewen was a small decline in the death rate. For Gillett, it was an unexpected TV ad slump. When you go into a roll-up, you need to know exactly how big a hit you can withstand. If you’re financing with debt, what will happen if you have a 10%—or 20% or 50%—decline in cash flow for two years? If you’re buying with stock, what if the stock price drops by 50%?

This is precisely what just happened to junk-rated Valeant (which has leverage of just over 6 times) which - even if found innocent of any Philidor wrongdoing - is essentially finished: the rollup bubble has burst and now it has to show it can be profitable and generate cash.

Judging by its stock price today, few are hanging around to see if it can.

 

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Fri, 10/30/2015 - 14:59 | 6731964 E.F. Mutton
E.F. Mutton's picture

"...the rollup bubble has burst and now it has to show it can be profitable and generate cash"

A Business?  Show Profit?  Why that's just Crazy Talk!

Fri, 10/30/2015 - 15:30 | 6732078 Fish Gone Bad
Fish Gone Bad's picture

Vale ain't

Fri, 10/30/2015 - 15:57 | 6732174 cheka
cheka's picture

clawbacks?

oh yeah, can't do that because of brain drain

we have to keep these special people happy, or they might leave for uhh uhhh landscaping businesses

Fri, 10/30/2015 - 17:27 | 6732437 Fahque Imuhnutjahb
Fahque Imuhnutjahb's picture
shill SHil/ North Americaninformal noun noun: shill; plural noun: shills
  1. 1. an accomplice of a hawker, gambler, or swindler who acts as an enthusiastic customer to entice or encourage others.
    • a person who pretends to give an impartial endorsement of something in which they themselves have an interest.


      "a megamillionaire who makes more money as a shill for corporate products than he does for playing basketball"

    •  
    • This guy needs to drop the c out of his name.                                                                                                                                                                                                                                                                                            
Fri, 10/30/2015 - 16:23 | 6732284 OldPhart
OldPhart's picture

Finally, we're going to see perp walks and prison sentences for these thieves. /sarc

Fri, 10/30/2015 - 15:54 | 6732176 junction
junction's picture

Ordinary people who tamper with prescriptions face jail time.  Rush Limbaugh got the same Lorcet painkiller prescriptions from different doctors and was the subject of a criminal investigation, which ended in 2006 when Limbaugh turned himself in for fraud. 

http://www.washingtonpost.com/wp-dyn/content/article/2006/04/28/AR200604...

Limbaugh's case involved three or four overlapping prescriptions.  Philidor's fraud involves tens of thousands of falsified prescriptions. Expect AG Loretta Lynch to find a way to do nothing but lie and look ugly.  

Fri, 10/30/2015 - 14:59 | 6731969 THE COIN
THE COIN's picture

Quickly !! Release the Black Squid Ink !

Fri, 10/30/2015 - 15:08 | 6732001 assistedliving
assistedliving's picture

without further comment...

https://www.youtube.com/watch?v=AR8SkOhKG9Y

 

Fri, 10/30/2015 - 15:08 | 6732005 Bay of Pigs
Bay of Pigs's picture

That's a great article Tyler(s).

Fri, 10/30/2015 - 15:12 | 6732024 Raymond_K._Hessel
Raymond_K._Hessel's picture

Fucking Irish.

Fri, 10/30/2015 - 15:15 | 6732036 ThirdWorldDude
ThirdWorldDude's picture

You beat me to it...

 

Who wants to bet that this guy will end up in the same cell as the Dishonorable Jon Corzine?

Fri, 10/30/2015 - 16:37 | 6732322 californiagirl
californiagirl's picture

Corzine is busy raising money for Clinton again. Unfortunately it won't hurt her campaign at all.  http://freebeacon.com/blog/hillary-clintons-old-friends/   It is just how these criminals operate as they collect billions of tax-free, influence-peddling money and use it for various unethical and illegal purposes, like putting Ghislaine Maxwell in charge of a nonprofit they fund through their foundation. On top of drawing a salary, Maxwell can then extravagantly travel the world in high style giving small speaches and attending high society fundraising galas, all means of providing taxpayer-subsidized hush money so Maxwell keeps her mouth shut about Bill's numerous adventures with Epstein's Lolita Express and island. 

The whole thing is just revolting!  

Sat, 10/31/2015 - 20:56 | 6735817 Palladin
Palladin's picture

Yep, and it's no wonder why Corzine got off so easy?

Guess he had friends in high places.

http://imageck.com/495883604-obama%EF%BC%86corzine.html

 

And I bet this guy has got Blankfine on speed dial.

 

Fri, 10/30/2015 - 15:13 | 6732025 Seer
Seer's picture

It kind of supports my hypothesis that the real underlying reason why companies are buying up their own stock is to get more distance from the Squid+Wall-Street.  Even though I'm no fan of big corporations I still think that there are folks out there running them (and all else working for them) that give a shit about that business (and not just to engorge shareholders).

Sad when you think that there's a lot of this shit out there and that a LOT of folks' pensions are holding such in their portfolios.

Fri, 10/30/2015 - 15:15 | 6732032 RopeADope
RopeADope's picture

So how much did they loot out of the US Treasury with all of the roll-ups?

I would probably not be surprised if it came close to matching the total fees paid to Goldman and its ilk.

Fri, 10/30/2015 - 15:19 | 6732052 Palladin
Palladin's picture

 

Thier stock symbol, VRX, kinda rhymes with Bre-X.

Wonder if they have any company helicopters?

 

Fri, 10/30/2015 - 15:28 | 6732075 BlueStreet
BlueStreet's picture

And there sits Ackman who manages $15 billion (and falling) without ANY apparent risk management other than believing in the company, ha.  So he's basically prepared to ride this down to $0 then. Baffling that anybody would give him a penny of money to manage.  He clearly didn't do his research and even worse buys 2 million more shares after those who do the research release their findings. Doesn't matter where a gambler is educated they're still just a gambler.  

Fri, 10/30/2015 - 18:50 | 6732625 Government need...
Government needs you to pay taxes's picture

If Ackman has strong relationships with the investment bankers @ a TBTF, those bankers will rescue him by selling him a derivative collar at the expense of some of their muppets.  It's a variant of the 'pick yer bitch' strategy.

Fri, 10/30/2015 - 15:29 | 6732079 wmbz
wmbz's picture

Well, everyone knows how this story ends.

No "laws" will be found to have been broken, bent a little perhaps but no harm done. They always had the customers best interest at heart.

Running a big business can be tricky so lets be fair. Perhaps a small fine and a stern talking to, coupled will the slap on the wrist.

Last but not lest a very,very large bonus!

Fri, 10/30/2015 - 15:45 | 6732140 Omega_Man
Omega_Man's picture

not enough bullets for these people... need ovens

Fri, 10/30/2015 - 16:08 | 6732227 SillySalesmanQu...
SillySalesmanQuestion's picture

Surprise, surprise, the Squid riding shotgun on all of these deals with another "one of their own" directing traffic...of course, the Devoid Of Justice and Loretta Lynch will never pin the tail on this donkey. Or rather, tentacle on the Squid.

Fri, 10/30/2015 - 16:56 | 6732378 Colonel Klink
Colonel Klink's picture

Loretta only lynches the racist white goy, not those in the criminal tribe.

Fri, 10/30/2015 - 16:25 | 6732290 venturen
venturen's picture

well at least I know where my Obamacare dollars go now

Fri, 10/30/2015 - 16:53 | 6732374 Colonel Klink
Colonel Klink's picture

Wow that's amazing and typical male pattern baldness you have there, Howard B. Schiller! I'm sure you're in the club, and it ain't the Hair Club for Men!

Fri, 10/30/2015 - 17:00 | 6732384 I am a Man I am...
I am a Man I am Forty's picture

andrew left was way off, bronte capital has it pretty much pegged

Fri, 10/30/2015 - 17:45 | 6732473 WarPony
WarPony's picture

You should know you're in trouble when the ears fall under a line traced straight back from the corner of their eyes.

Fri, 10/30/2015 - 21:26 | 6733043 FrankDieter
FrankDieter's picture

Jail time for these crooks.

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