To be or not to be…Buffett
An interesting media spectacle is playing out in the US where fund managers, in support of Valeant, a pharmaceutical company, cite the company’s parallels with the types of investments Warren Buffett and Charlie Munger at Berkshire Hathaway make.
There’s one problem. Charlie Munger, Warren Buffett’s 2IC at Berkshire has commented and he’s scathing of Valeant.
Here are some of the excerpts from a recent article in Bloomberg that covered the storm.
“Charles Munger saw it coming, and now he’s shaking his head.”
“Months before Valeant Pharmaceuticals International Inc. tumbled under attack from short sellers, Munger told investors in Los Angeles the company reminded him of the excesses of the 1960s conglomerate craze. “I’m holding my nose,” Warren Buffett’s longtime business partner said.”
“In an interview Saturday, Munger tore anew into the besieged drug company, calling its practice of acquiring rights to treatments and boosting prices legal but “deeply immoral” and “similar to the worst abuses in for-profit education.” In his role as chairman of Good Samaritan Hospital in Los Angeles, Munger said, “I could see the price gouging.” And speaking as a storied value investor, he said, its strategy isn’t sustainable: “It’s deeply wrong.”
Once a high-flying stock – and a darling of star money managers like Bill Ackman – Valeant has slid more than 60 per cent since its peak in August…Lawmakers are examining how Valeant set higher prices for medications.
“Munger’s stance has extra significance, because some of the drugmaker’s largest shareholders follow the style of investing that he and Buffett, 85, popularized. Ackman frequently expresses his admiration for their firm, Berkshire Hathaway Inc. And Valeant’s largest investor, Ruane Cunniff & Goldfarb, which runs the Sequoia Fund, shares decades-long history with Buffett.
“Munger, 91, brought up Valeant in March, before an audience of about 200 people assembled to hear him at the annual meeting of Daily Journal Corp., where he is chairman. He was discussing a passage in Buffett’s recent letter.
Companies like ITT Corp., Munger said, made money back in the 1960s in an “evil way” by buying businesses with low-quality earnings then playing accounting games to push valuations higher. Investment managers looked the other way. And worse, he added, it was happening again.
“ITT acquired more than 350 companies during its years as a conglomerate, wrapping together Sheraton hotels, Avis Rent-a-Car, the maker of Wonder Bread and other businesses. It broke up in 1990s. One of its descendants, an industrial company, later took back the name.
“As Valeant’s stock plummeted over the past two weeks, some big shareholders came to its defense, propelling the debate into a business-media spectacle. Ackman held a four-hour presentation on Friday, comparing the company to Berkshire as he sought to persuade investors that Valeant should be trading higher. His pitch fell flat, and the stock closed lower.”
“Munger elaborated on Saturday: Valeant relied on “gamesmanship” to run up its value. Its strategy, using acquisitions and price increases, is different from ITT, but it still created a “phony growth record,” he said. Unlike Enron, Valeant’s stock isn’t a house of cards because it has some some valuable properties, including its portfolio of treatments, he said.”
“Sequoia’s managers, Robert Goldfarb and David Poppe, didn’t respond to messages seeking comment. They also have defended their investment.”
Buffett’s ties with the fund stretch back decades. In 1969, he shut down his investment partnership to focus on Berkshire and suggested that clients put their money with William Ruane, a friend from Columbia University.
Ruane co-founded the Sequoia Fund in 1970 along with Richard Cunniff. Over the next decades, the pair used many of the same investing strategies that Buffett and Munger employed, looking for undervalued stocks that would climb over the long-haul. While both Ruane and Cunniff are now deceased, Berkshire is the second-largest holding at the $8.1 billion fund.
“The biggest is Valeant. On June 30, the holding accounted for 29 per cent of assets, largely because it had gained so much since Ruane Cunniff bought the stock.”
“The share plunge in recent weeks has pushed Sequoia’s current managers to publicly defend their pick to investors.”
“Valeant is an aggressively managed business that may push boundaries, but operates within the law,” they wrote in a letter last week. The recent value of $110 a share “does not strike us as a rational price for a company with a diverse collection of product lines and strong earnings growth.”
“Munger said Saturday that he had lots of admiration for Goldfarb, adding that “he’s been very right” on Valeant because the Sequoia Fund invested so early in the drugmaker.”
The full article can be read here.
Roger Montgomery is the founder and Chief Investment Officer of Montgomery Investment Management. To invest with Montgomery domestically and globally, find out more.
Roger Montgomery is the Founder and Chairman of Montgomery Investment Management. Roger has over three decades of experience in funds management and related activities, including equities analysis, equity and derivatives strategy, trading and stockbroking. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Jeff Tairi
:
Nice piece Roger, well done.
Roger Montgomery
:
Thanks for the encouraging words
Chris
:
In response to the emphasis on maintaining personal integrity – “Never get involved with anything that you wouldn’t want your mother to read about on the front page of the newspaper”….then I wonder what he has to say for himself regarding Moody’s (of which he was a major shareholder at the time), which oversaw the credit ratings of the “weapons of mass destruction” CDOs and which were a huge part of the cause of the GFC, or the allegations regarding donations to abortion groups ?
Personally, I don’t buy the “lovable old Grandpa” figure that is put out there.
Jeff Tairi
:
A litte unfair to blame Warren Buffett for Moody’s way of conducting business. He was exactly what you say he was, a major shareholder. He didn’t and still doesn’t have any say on how business is run at Moody’s. It isn’t the first time Warren’s been blasted. Remember Saloman?
http://dealbook.nytimes.com/2008/09/24/warren-buffett-and-the-salomon-saga/?_r=0
Andrew
:
Thanks Roger.
Another story at the link below about similarly dubious practices associated with the Fitbit product.
http://seekingalpha.com/article/3636256-hedge-funds-will-make-a-few-billion-shorting-fitbit
I can’t help but agree with the previous poster’s concluding remarks.
Making money is great, but in the words of a very famous person..”what does it profit a man if he gains the whole world & loses his soul?”.
Robert Summers
:
This has been a fascinating debate to watch, although I suspect the outcome will be pretty one-sided. Thanks for the article.
Valeant has been widely detested by people working in the industry for years* (as well as lauded as an example for other pharma companies to follow suit) for its practice of buying companies with successful products of R&D (using debt), stripping out all R&D spending, and jacking up product prices as high as the payers (insurance companies) will tolerate. The model is only sustainable for as long as they can retain access to debt markets, keep the insurance companies on side, and finally as long as others are willing to put up the capital to invest in drug R&D.
Valeant’s practice is akin to Google buying a tech company and firing the software engineers. From what I understand, this is the exact opposite of what Google/Alphabet, Apple and the likes have been doing in recent years, they have been buying companies primarily for the people.
I recall that Buffett likes to own companies with strong purchasing power, however I am not familiar with him interfering quite so drastically with the core operations of the businesses Berkshire has accumulated.
Buffett also tends to like products with strong branding or competitive positions. Many of the products Valeant has acquired are mostly re-formulations of generic drugs. There is often little medical reason for a doctor to prescribe Valeant’s product over a generic equivalent. The main reason why a Valeant product would be favoured is due to the aggressive specialty pharmacy model which provides a benefit to the patient (waiving of co-payments) at the ultimate expense of insurers.
At best the practice aims to aggressively exploit an inefficient system, but from what the short sellers are saying, some of what has been happening on the ground is actually fraudulent.
The whole schemozzle has damaged what little trust health insurers had in Valeant, and one hopes, will put a permanent dampener on the entire business model.
Finally, I recall Buffett’s emphasis on maintaining personal integrity – Never get involved with anything that you wouldn’t want your mother to read about on the front page of the newspaper. It may serve some of his devotees well to re-read some of his speeches and letters.
*http://blogs.sciencemag.org/pipeline/archives/2011/04/11/rd_is_for_losers
Roger Montgomery
:
Well said Robert. Thanks for the post.