Valeant: Ready To Leap Long-Term On Latest Acquisition

| About: Valeant Pharmaceuticals (VRX)

Valeant Pharmaceuticals (NYSE:VRX) recently signed a deal to acquire Medicis Pharmaceutical (MRX) for $2.6 billion, or $44 a share. The acquisition is only the latest in a series of mergers and takeovers for the company after its hostile takeover for Cephalon failed last year. Valeant had bid $5.7 billion. Teva Pharmaceutical Industries (NYSE:TEVA) won the bid at $6.2 billion.

Many of Valeant's competitors invest billions in research and development, but the company is taking a different strategy. Valeant Chief Executive Michael Pearson has overseen 50 mergers and acquisitions transactions since taking the helm in 2008, "expanding the company's annual revenue from $600 million to around $3.5 billion," reports "If the Medicis acquisition is completed...Valeant will have revenue of roughly $4.5 billion a year... [and] the deal will save $225 million a year by combining some operations."

Pearson said that Valeant spends "less than 5% of its revenues on research and development. Instead, its innovation comes from acquiring companies and products that are already approved and in the market, so (it avoids) the risk associated with R&D. What (it is) looking for is products or companies that (it thinks it) can grow, given its larger distribution or maybe a different marketing approach."

Pearson's strategy for Valeant is not new. Companies in this sector have been doing the same thing for years. Valeant itself is the product of a 2010 merger with Biovail that brought its operations from California to Canada. And, they are not the only ones.

The moves are fueled mainly by patent expirations, the pending expansion of healthcare in America (the Medicaid program in particular), and a variety of other factors. For instance, U.S.-based biotech Amgen is buying Turkey's Mustafa Nevzat Pharmaceuticals in a move to expand its presence in Turkey and the surrounding region. AstraZeneca will buy U.S.-based Ardea Biosciences for $1.26 billion to expand its pipeline of new medicines.

Watson Pharmaceuticals (WPI) is buying Swiss rival Actavis in a $5.92 billion deal that will give it a boost in the global rankings of generic drug makers.

"Generics is on fire now," said Tommy Erdei, a health-care investment banker at Jeffries International in MarketWatch. "Out of the 10 international health-care deals we did over the past 12 months, one third were generic drug makers, and that trend is continuing and probably accelerating." Erdei continued by saying that "a number of such deals are in the pipeline," but did not give details other than to say: "I could give you 30 to 40 names of companies that are probably worth $1 billion or more who are out there and either have appetites to build or could say: 'Hey, this is the right to time monetize our value and become part of a larger group."

The trend even remains true amongst healthcare insurers, such as when Aetna (NYSE:AET) bought Coventry Health Care (CVH) for $5.7 billion. The fact is that mergers and acquisitions are a great way for companies to increase their reach while consolidating their efforts. Anytime companies come together, there are inevitable job cuts because there are inevitable cost savings as many job functions overlap and there may be other synergies that improve efficiency, lessening the need for additional staff and possibly certain technologies.

The problem is, with so many companies buying or selling, it can be hard for investors to know where to jump in. For my money, I say follow the FDA. When a new drug is approved and ready for distribution, the stock of the company that makes that drug is bound to go up, whether that product is a revolutionary new find or a generic being introduced as a patent expires. On the downside, this strategy is better suited to shorter-term positions and more active traders.

For longer term positions, I recommend looking to companies with strong prospects for continued growth. Companies with a strong presence in emerging markets fit this bill well. They may be somewhat riskier but they also present the opportunity to tap into a largely underserved population, be it a company which enjoys greater profits because of its broader reach or a company, like Amgen, that acquires the company to develop its own reach further. Companies, like Valeant, with a strong sales force or distribution network also present a strong opportunity. They can acquire companies and be profitable in doing so just because they enjoy a stronger distribution network, even if they reach the same markets. Biotech drugs are a good investment as well because they are not subject to the same risks as generic drugs or regular "small molecule" drugs, and their commercial lives tend to be longer as a result.

These companies carry risk in that an emerging market could reject a new product offering. Likewise, a distribution network could fail. Further, a biotech medication requires more research and development, so there is a larger risk inherent to that. After all, not all medicines succeed and even those that do are eventually replaced by newer, more efficient products.

But, while medicine, and its distribution methods, is constantly involving, the long-term risk of investing in such companies is far less than those that churn out a variety of small molecule drugs each year hoping that one strikes gold. This makes choosing a long-term position based on its presence in emerging markets, one that focuses its research on more biotech-oriented medications or those with a more-developed distribution network is the more prudent course.

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

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