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Summary

  • It's looking like the QCOR/MNK merger is going to happen, regardless of concerns raised by many about Questcor's Acthar Gel.
  • While I believe this to be foolish on MNK's part, it's going to make MNK an attractive short going forward.
  • I'd love to show Mark Trudeau that while profits are extremely important, ignoring regulatory risk and serious concerns surrounding Acthar could prove to be even more important going forward.
  • I wrote last week that Questcor seemed to "lie by omission" in their proxy by not disclosing their massive drop in Tricare numbers - no one seemed to care.
  • Like a Penn & Teller show, we have the old misdirection act going on; everyone at MNK is so focused on EPS gains, they're ignoring blatant risks and regulatory concerns.

Some of the greatest all time stock market shellackings have come during situations where short sellers have tried to warn shareholders or executives of issues and they were ignored.

Bill Ackman, in a Reuters interview just posted days ago, said that if David Einhorn was able to get Lehman to recapitalize when he wanted, the company would likely still be in business and we could have dampened the effects of the financial crisis. Along those same lines, with Mr. Ackman and MBIA; if the company had listened to the solvency issues Mr. Ackman brought up and addressed them, they wouldn't have crippled themselves the way that they did after the financial crisis.

Which again brings us once again to Mallinckrodt (NYSE:MNK) and Questcor (QCOR).

Mallinckrodt reported impressive earnings last week, made nary a mention of the major risks surrounding Acthar, and walked analysts around in a perfect circle when they (kind of) asked about Acthar on the company's conference call. The analyst questions weren't full blown cream puffs, but they were definitely somewhere in the marshmallow genus.

Trust me when I say the entire case around Mallinckrodt acquiring Questcor Pharmaceuticals has to do with the bottom line. Two low multiple companies mashing themselves together to create a leaner, more profitable entity. Sounds like an easy win/win situation for shareholders and insiders, right? The brilliant tactic of M&A, just like they taught at Harvard Business School. Bottom line improvements, layoffs for the little guys, lots of posters with the word "synergy" on them in corporate headquarters. It's a no brainer, right? Wrong. It appears that at this stage of the game, this close to the merger going through, Mallinckrodt insiders have completely thrown caution to the wind.

The really disturbing thing is that Mr. Trudeau holds a degree in chemical engineering. Surely he knows there's a massive efficacy difference between pure ACTH and deamidated porcine corticotropin, right? Perhaps Mr. Trudeau is letting his MBA do the decision making in this deal; or perhaps he's focused on the gratuitous amount of money that insiders could potentially make off of this transaction.

Who knows - I'm not a mind reader.

If you'd like to take a stab at getting into Mr. Trudeau's head, you can read all of Mallinckrodt's conference call from last week at this link.

Mr. Trudeau touched on Acthar early in the call, saying absolutely nothing concerning Questcor's regulatory risks, and focusing only on the monetary benefit that Acthar could provide for his shareholders (and insiders):

On the acquisition front, we are very excited about the prospects of bringing H.P. Acthar Gel into our business once we close the Questcor transaction and we were very pleased to see the strong performance that they highlighted in their recent quarterly earnings reports. Acthar will extend our brand's platform into the highly specialized therapeutic areas of autoimmune and rare diseases and significantly enhance the sustainability and durability of our portfolio.

Then, in what appears to be a moment of either sheer ignorance or brazen recklessness, Mr. Trudeau concludes the following about Acthar:

With regards to Acthar Gel, so you are right there have been some changes to the published guidelines for reimbursement of Acthar by some of the national payers and again this is really something that Questcor has seen happened with a couple of payers over the last couple of years. What we continue to see and we've seen this in the due diligence of the product is that the reimbursement status or the actual reimbursement of the product continues to remain strong, really regardless of what the changes to the reimbursement policies tend to be. And the simple reason for that is that this is a product that is used really by very few patients, there are very few patients on Acthar, there are really only about 10,000 patients that are on Acthar. It's a product that tends to be used at the end of the line for many patients in very debilitated conditions. And when it gets down to that, when the choice is between the Acthar versus any other alternative, in many cases, the payer decision is fairly straight forward, because of those other alternatives are many times much more expensive than Acthar.

So, we continue to feel very good about the reimbursement for Acthar, just because of the nature of the way the product is used. And I think these changes that have been published really are designed to ensure that the product continues to be used in that manner, but it's used kind of after virtually everything else has been tried. And that's the appropriate place for the product to be used.

He "continues to feel very good about the reimbursement?"

Really, Mr. Trudeau? You're levering up your company and betting the house that four major insurers [Aetna (NYSE:AET), Cigna (NYSE:CI), UnitedHealth (NYSE:UNH), Tricare] are all going to make policy changes on paper that they're just simply not going to make in practice?

Even after last week, when I posted audio of Aetna's National Medical Director of Drug Policy saying:

Questcor's "combination of aggressive marketing and aggressive price increases finally caused it to become a line item that a finance guy looked at and said: 'What the hell are we paying for this? Why? What is it?' And that's when we started looking at what's our policy around this stuff," Pazella said.

and

We're all trying to figure out how to ratchet it down.

and

We see a gradual decline, and hopefully almost no use outside of infantile spasms within the next couple of years. This is one of those things that's taking a while.

If I was a massive institutional shareholder in Mallinckrodt, I would be furious. I'd also be recommending shareholders to vote against this merger. On the contrary, however, everyone seems to be ignoring the same evidence that fuels the short theses for people like myself, Whitney Tilson, David Einhorn, and Citron Research.

It baffled me to hear the way in which Mr. Trudeau was blindly going forward with this transaction - seemingly ignoring not only questions about Acthar's efficacy, but it's price, chemical composition, decimated Tricare numbers, and demonstrable proof that insurers don't seem interested in covering it going forward. That would be enough for me to take notice.

I spoke with an another extremely well known and successful investor on Thursday about this deal. I told him that I couldn't believe MNK was blatantly ignoring it. He said, "A lot of people smarter than the two of us have lost money on this so far, and they're all staying short."

People continue to foolishly write off the regulatory concerns surrounding this company, citing that the investigation is 2 years old and that similar cases have resulted in slaps on the wrist. As a reminder, Pfizer (NYSE:PFE) settled with the US DOJ for $490.9 million last year due to its marketing practices. Rapamune had done $350 million in revenues in 2013 - that's almost a year and a half's worth of revenues for Pfizer. Strictly hypothetically for Questcor, applying the same ratio, you'd see a settlement in this case of near $1 billion. And Pfizer's case was for a drug where the efficacy and chemical composition weren't under intense scrutiny like Acthar is.

The fact that two years have passed just says to me that regulators are that much closer to coming to a decision on Questcor. And, I just have this feeling - I don't know why - that regulators are not as amused by Questcor as many longs are.

Considering MNK is levering up to make this transaction, I think this has the potential to be a slaughter for MNK shareholders. The last line of defense here is the shareholders, who vote on August 14th. While it's a lovely thought to think that the common folk could have a chance in voting this down, institutions and profit-minded thinking will push this deal forward, where MNK may become one of the better short candidates I've ever seen.

The truth behind this story is out there, if you know where to look. Mr. Trudeau doesn't seem to care either way, and I contend he could be leading his shareholders into the slaughter. Time will tell the tale here.

I'll be confidently going short MNK after this merger goes through.

Best of luck to all investors.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.