Business context and reporting period
Valeant Pharmaceuticals International, Inc. (now Bausch Health Companies Inc.) filed this Form 10-K on April 29, 2016, for the fiscal year ended December 31, 2015. It reports a multinational specialty pharmaceutical and medical-device business operating in more than 100 countries, with Developed Markets and Emerging Markets segments. Comparisons below use the restated 2014 figures where applicable. The filing also provides unaudited fourth-quarter results.
Financial performance and position
| Metric | 2015 | 2014, restated |
|---|---|---|
| Revenue | $10.45 billion | $8.21 billion |
| Operating income | $1.53 billion | $2.00 billion |
| Net income (loss) attributable to Valeant | $(292) million | $881 million |
| Diluted earnings (loss) per share | $(0.85) | $2.58 |
| Net cash from operating activities | $2.20 billion | $2.29 billion |
| Cash and cash equivalents, year-end | $597 million | $323 million |
| Long-term debt, including current portion, year-end | $31.09 billion | $15.23 billion |
- Revenue grew 27%, chiefly from acquisitions, which contributed approximately $2.21 billion of incremental product sales. Foreign exchange reduced existing-business revenue by $597 million; divestitures and discontinuations reduced it by $141 million. Excluding those factors, existing-business product sales grew $763 million.
- Operating margin was approximately 14.6%, down from 24.4% in 2014. Cost of goods sold, excluding amortization and intangible-asset impairment, was 24% of revenue versus 27% in 2014. Total segment profit rose 17% to $2.70 billion, but segment profit margin declined to 26% from 28%.
- Interest expense increased 61% to $1.56 billion, mainly reflecting acquisition-related borrowing. The company reported a $132.5 million income-tax provision.
- Working capital was $195 million, compared with $1.42 billion in 2014; the company attributed the decrease principally to increased current debt and a $500 million deferred Sprout acquisition payment, paid in the first quarter of 2016. Current assets were $5.51 billion and current liabilities $5.31 billion.
- Investing activities used $15.58 billion, mainly for acquisitions. Financing activities provided $13.68 billion, principally from debt and equity issuance. Capital expenditures were $235 million.
- Fourth-quarter 2015 revenue was $2.76 billion, up 23% from restated fourth-quarter 2014. The company recorded a $386 million net loss, compared with $513 million net income, and generated $562 million of operating cash, down 31%.
Material changes versus the prior comparable period
- Revenue increased substantially, driven largely by the April 2015 Salix acquisition and other acquisitions, including Sprout, Amoun, and selected Dendreon and Marathon assets. Developed Markets revenue rose 40%; Emerging Markets revenue fell 9%, with currency weakness a significant factor.
- Despite revenue growth, the company moved from net income to a net loss. Higher amortization and intangible impairments, SG&A, other expense, and interest costs outweighed increased product contribution.
- Year-end debt more than doubled, primarily to finance Salix. Debt contractual payments, including interest, totaled approximately $41.4 billion, including $2.43 billion scheduled for 2016.
- Research and development expense rose to $334 million from $246 million. The company recognized $248 million of in-process R&D impairments and other charges, including write-offs for development programs.
Restatement, outlook, risks and unusual items
- Restatement: The company restated 2014 and specified 2015 quarterly periods after concluding that certain pre-consolidation sales to Philidor should have been recognized when dispensed to patients, not when delivered. Restated 2014 revenue fell approximately $58 million, net income attributable to Valeant fell approximately $33 million, and EPS fell $0.09. The restated 2015 first-quarter revenue was approximately $21 million lower, while attributable net income was approximately $24 million higher, primarily reflecting reversal and timing effects. The 2014 restatement did not change total operating cash flow.
- Controls: Management and the auditor concluded that material weaknesses existed in internal control over financial reporting, involving tone at the top and accounting and disclosure for non-standard revenue transactions, particularly near quarter-end. Disclosure controls were deemed ineffective. The auditor’s opinion on the financial statements was unqualified, but it concluded internal control over financial reporting was ineffective. Remediation was ongoing.
- Philidor and investigations: The company terminated its Philidor arrangements, with transition services ending in January 2016. Philidor-related and other matters prompted investigations, information requests, and securities litigation concerning accounting, distribution, marketing, patient programs, and pricing. Outcomes and potential costs were uncertain.
- Debt and filing risk: The company reported that delayed filing had triggered defaults under debt documents; lender waivers and the filing of this 10-K addressed the reported defaults. An April 2016 credit-agreement amendment raised borrowing costs by 1 percentage point until delivery of specified financial statements and imposed restrictions, including a $250 million acquisition cap subject to exceptions and leverage and reporting conditions. Credit ratings had been downgraded and remained under review.
- Management outlook: Management expected acquisition activity to be minimal in 2016 and possibly beyond while prioritizing debt reduction. It intended to focus on key products, pipeline development, launches, and transition to Walgreens fulfillment arrangements. The company expected 2016 increased volume across distribution channels to approximately offset lower average selling prices under the Walgreens program; longer term, it expected volume to more than offset the price impact. These are expectations, not assurances.
- Other notable items: The Walgreens program included an average price reduction of about 10% for certain dermatology and ophthalmology products, phased in from January 2016. Management targeted reducing Russian and Polish wholesaler inventory to below three months, which it estimated could reduce 2016 revenue by approximately $50 million. The company also identified generic competition, foreign exchange, product reimbursement, litigation, and substantial debt service as significant risks. No dividends were paid or planned in the foreseeable future.
Important facts for investors to verify
- Review the complete restatement reconciliation and confirm the effects on 2014 and each affected 2015 quarter, including revenue, earnings, rebates, and inventory.
- Track remediation of material weaknesses, the status of controls testing, and whether subsequent filings are timely and reliable.
- Assess debt maturities, interest costs, covenant compliance, leverage tests, credit ratings, and the company’s ability to generate cash and reduce debt.
- Monitor the outcomes and potential financial exposure from Philidor-related, pricing, securities, regulatory, and other legal matters; the filing does not provide a clear aggregate estimate of potential losses.
- Test whether the Walgreens transition, price reductions, reimbursement and formulary access, product volumes, and inventory reductions deliver the stated outlook.
- Evaluate acquisition-related revenue dependence, intangible-asset impairment risk, and the ability of key products and pipeline candidates to offset generic competition.