Singapore Post Limited (SGX: S08) is a Singapore-listed company whose corporate governance has been called into question lately by some market observers. At the same time, there is another corporate governance debacle unfolding in the U.S. stock market with a company called Valeant Pharmaceuticals International. While Valeant is a U.S.-listed firm, there are a few key lessons about the company’s experience that investors in Singapore can take away too. A simple introduction of Valeant Valeant, once a darling holding of many influential fund managers in the U.S., is a drug company based in Canada that is known for…
At the same time, there is another corporate governance debacle unfolding in the U.S. stock market with a company called Valeant Pharmaceuticals International. While Valeant is a U.S.-listed firm, there are a few key lessons about the company’s experience that investors in Singapore can take away too.
A simple introduction of Valeant
Valeant, once a darling holding of many influential fund managers in the U.S., is a drug company based in Canada that is known for shunning research and development. Instead, the company has focused on growing by acquiring other drug-makers and then slashing their operational costs and raising prices of their drugs.
In July 2015, Valeant’s shares hit a peak price of US$263.10 each, after rising by a phenomenal 15-fold since the start of 2005. But from there, the troubles started coming in – accounting issues and a potential default on its debt were some of the problems that surfaced in the past few months. Its chief executive, J. Michael Pearson, announced recently that he’d be stepping down from his post.
All told, Valeant’s shares are sitting at a price of US$27.07 today, a plunge of 90% from the peak.
So what are the key lessons for investors to take away?
1. A growth-by-acquisition strategy may not be a good thing
There are generally two ways for a business to grow – it can grow organically or it can acquire other businesses. The former is slower but may entail relatively lower risks.
Valeant, under the guidance of its superstar chief executive Pearson, has grown its business tremendously and it has done so mainly by buying other drug companies and raising the prices of their drugs as opposed to conducting traditional research and development.
To the point on growth, Valeant’s revenue had soared over 10-fold from US$757 million in 2008 to US$8.26 billion in 2014. 2008’s a good starting point too since that was the year that Pearson became the company’s leader.
But, the strategy may have started to backfire with Valeant having had to cut its revenue and profit estimates for 2016 by double-digit percentages.
2. Beware of aggressive accounting
Valeant has been aggressive with its accounting practices. To further complicate matters, the company also has an aggressive growth-by-acquisition strategy as mentioned earlier.
One example of Valeant’s aggressive accounting is the recent fact that the company had to restate its earnings for 2014 and 2015 as a result of early recognition of revenue.
3. Debt is a double-edged sword
Valeant had been quite successful in utilising debt to fund its acquisitions in the past. And boy did it use debt. According to data from S&P Global Market Intelligence, Valeant’s total debt had increased from zero in 2008 to US$15.3 billion in 2014.
When utilised effectively, debt can help a company enhance the overall return to its shareholders by improving its return on equity. But, it can also drown a company.
The recent problems plaguing Valeant I had described earlier have caused the company to delay the filing of its 10-K and 10-Q forms, which are annual and quarterly filings that listed companies in the U.S. have to file. The delay in the filing may cause the company to potentially breach its debt covenants.
The breach could in turn lead to Valeant’s debt holders requesting for faster debt repayments, further worsening the firm’s financial position.
Though the aforementioned takeaways may have just touched the surface of Valeant’s issues, they are still useful and investors may want to sit up and take notice if they run into any similar situations in the future.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Lawrence Nga doesn’t own shares in any companies mentioned.