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Valeant's Latest Con Is On You

|Includes: BHC, Express Scripts, Inc. (ESRX), UNH, WBA

Summary

Valeant has not come clean, it has just cut Walgreens in on the action.

The game is monopolizing generic drug production, raising prices, and getting those increases through.

The biggest con of the decade is being found out.

Maybe you read Valeant's (VRX) latest press release, a deal with Walgreens Boots Alliance (NASDAQ:WBA) offering discounts of as much as 95% on its line of skin and eye drugs, with a term of up to 20 years.

You thought, wow, they're coming clean, they're changing their stripes, let's buy some. Sure enough, the stock has shot up, by nearly 20% near the close of trading on Tuesday.

Not so fast. Walgreens is just being brought into a plan described ably by our Early Retiree, whose disclosure indicates he is long VRX.

It's an agreement between makers of generic drugs, like Valeant, and Pharmacy Benefit Managers like Express Scripts (NASDAQ:ESRX). The drug companies consolidate so there are fewer suppliers, they raise their prices dramatically, then they cut the payers in on the action. As Early Retiree explains, PBMs don't pass on the full value of "price cuts" to patients. Their spread - the difference between what they pay for drugs and what they get - may actually go up.

While the Affordable Care Act has done an awful lot of good, bringing millions of patients into the health care system, supporting preventive care and electronic health records, creating new business models with incentives for cutting costs, it has done nothing to either prevent monopolization or the pernicious effects of it.

In my view, this is the decade's biggest scandal. Philidor, which is now closed, was just the tip of a very large iceberg. There may be criminal proceedings in the case of this specialty pharmacy, which it is said only existed to force monopoly prices through the insurance system, sometimes without patients' knowledge. Those proceedings could directly impact Valeant. Law moves slowly, but it moves. It's a ticking time bomb overhanging Valeant's profits and stock price.

This game of monopoly also affects hospitals, where new research shows that markets dominated by one or two chains can get much higher prices for the same procedures from big insurers like United Health (NYSE:UNH).

The result of monopolization is that the ACA is being undermined. Patients, or voters, see costs going up despite the law's changes, which turns them against the law. This is why support for the law is still underwater.

Now, some people are going to look at all this through a political prism, concluding that "Obamacare is dead," that the days of President Trump (or Cruz, or Rubio) are at hand, and that you should buy, buy, buy Valeant while you have the chance. These investors think no one will ever catch on.

There are legitimate gains in healthcare. Gains from creating new products and drugs are quite legitimate. New business models are highly legitimate. New medical devices deserve protection.

But price increases based on monopoly are not sustainable. Since we're entering a new political season, there is every reason to believe that this is about to get out.

The fix is even relatively simple fix. Enforce antitrust law on drug companies and hospitals. Allow Medicare to negotiate on drug prices, and give PBMs incentives to do so, cutting them in on savings that exceed what they now get for going along with price increases. The ACA itself does not have to be rewritten. A few laws need to be created, others need to be enforced, but the impact on costs would be dramatic. So would the impact on companies like Valeant.

Buying generic drug makers, laying off researchers, hiking prices, enforcing those increases through side deals, and exporting the profits to other countries sounds great if you are in on it. Everyone else is stupid but you. But you can't fool all the people all the time.

As I have written before, there are legal risks associated with Valeant it would not be wise to ignore. But there are also risks inherent in this business model investors would be foolish to ignore.

Disclosure: I/we 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.