Health

Max Nisen is a Bloomberg Gadfly columnist covering biotech, pharma and health care. He previously wrote about management and corporate strategy for Quartz and Business Insider.

The latest of Valeant's (many) efforts to cast itself in a new, more stable light just hit a lawyer-shaped road bump. 

A federal investigation of the troubled drugmaker's relationship with specialty pharmacy Philidor has taken a criminal turn, The Wall Street Journal reported on Thursday. Philidor allegedly used controversial tactics to boost sales of Valeant's drugs. Prosecutors are reportedly probing whether Valeant and Philidor committed fraud by hiding their ties from insurers. Valeant shares fell nearly 10 percent on Thursday.

It's another reminder of the First Law of Valeant: Anything that can go wrong probably will, and the timing will be awful.

A criminal probe is alarming in any case, but this could complicate Valeant's embryonic turnaround plans.

Pop, Stop, Drop
A report of a criminal investigation has taken a bite out of Valeant's share price, two days after maintaining guidance sent it spiking.
Source: Bloomberg
Intraday times are displayed in ET.

It could also hurt Valeant's chances to significantly ease its $31 billion debt burden. On top of long-term repayment concerns, investors worry the company will violate debt covenants in the short run. Valeant's adjusted Ebitda has dropped so low it may brush up against a lender-required minimum interest coverage ratio of 2.75.  

Too Close For Comfort
Valeant's adjusted Ebitda is not outpacing interest expense at the rate investors would like.
Source: Bloomberg

Valeant assured investors it expects to comply with covenants this year. It hopes to pay down $5 billion in debt over the next 18 months. On top of that, it's offering concessions to lenders to loosen credit terms.

Those efforts just got more difficult. 

An expensive settlement could divert limited cash. The company may be exposed to as much as $1 billion in damages, Mizuho analyst Irina Koffler wrote in a note Thursday. Given that risk, lenders will likely require more convincing and concessions. 

It's not just about interest coverage: Valeant needs lender permission to sell enough assets to make a dent in its debt. Even with a green light, it has a difficult task. Valeant says it is looking to sell assets that generate more than $2 billion in revenue. It believes it can get $8 billion for them, or a weighted average of 11x Ebitda. 

Good luck! 

That average premium wouldn't be too far off the median 12.93 Ebitda multiple of Valeant's acquisitions over the past six years. But Valeant says it won't sell core businesses, such as its gastrointestinal and dermatology drugs; thus its most attractive assets are off-limits.

And the value of many Valeant assets has declined, due to age, limited growth and minimal investment. Valeant spent the equivalent of 5.14 percent of its net sales on R&D in the second quarter. The average among peers for the last quarter they reported, even in the lower-spending specialty and generics sector, was 12.67 percent. 

Valeant is already seen as a motivated seller. If its legal risks grow more acute, then it may be under even more pressure to sell at a discount.

Valeant already has to thread a needle to hit its 2016 guidance and calm investors on debt repayment. Its room for error just got smaller. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Max Nisen in New York at mnisen@bloomberg.net

To contact the editor responsible for this story:
Mark Gongloff at mgongloff1@bloomberg.net