David Poppe:
I do not think we actually know the weighted average P/E on GAAP earnings. For companies like Valeant, I am not sure it would be a relevant number anyway. On the rest of it we will bring Rory up and put him on the spot.
Rory Priday:
Valeant (VRX, Financial) does spend on R&D. I think the company is going to spend, adding Salix and the legacy Valeant businesses, about $300 million. We met with Mike a few weeks ago and he was telling us how with $300 million, you can get an awful lot done. Mike can get a lot done with very little. Jublia is a good example. Jublia is a toenail fungus drug that Valeant just launched last year. It spent $30 − $40 million developing that drug over the last few years, and it is probably going to do more than $300 million in sales this year.
Valeant has a number of other compounds in the pipeline, especially on the dermatology side. It bought Dow Pharmaceuticals early on in Mike’s reign at the company — he paid $285 million. Valeant has gotten Acanya out of it, which was a $70 − $80 million drug, and it is getting Jublia now. Valeant has six or seven drugs that it expects to launch over the next eighteen months. One of them, Vesneo, for glaucoma, management thinks could generate as much as $1 billion in sales globally. I think Mike said the company is going to spend less than $100 million on that program, in total. With an R&D budget of $300 million, Valeant can do quite a bit in terms of building its pipeline.
In terms of the pharmaceuticals and Valeant’s exposure to patents, one of the things the company has tried to do is go into areas where the company has durable products. Valeant has a lot of branded generic drugs overseas, which are off patent drugs. Valeant has contact lens solutions and OTC pharmaceuticals. It has CeraVe, which is a moisturizer. And Valeant has a lot of drugs that are not going off patent. The key in the pharma game is always, once you have the distribution, once you have a sales force in the ophthalmology space or in the dermatology space, how do you source innovation? You can do that through R&D or you can do that through buying things. Mike is making a big bet that it is cheaper sometimes to buy things, to source that innovation when you have the distribution. So it seems like that model is working. The business is growing right now pretty nicely.
David Poppe:
Mike Pearson believed that he could build a large and successful pharmaceutical company without taking the risk of expensive R&D that most large, successful pharma and biotech companies had taken. He would instead do it by focusing on specialties that did not require these risks through lean R&D, zero-based budgeting, minimal taxation, and high returns from the get-go on numerous acquisitions. He would target companies of all sizes in product and geographic areas in which big companies did not compete and in which there was minimal reimbursement risk. By avoiding all of those other risks, he would be able to take some risk by leveraging his balance sheet to generate very rapid growth and high returns on total capital and spectacularly high returns on shareholders’ equity.
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Question:
On page three of the prospectus, there is a bar chart showing the performance. We all know that Valeant has a big effect on the total bottom line. But if you start with 2012 when the return was about 16% and the next year 35%, last year 8%, this year it is about 12% — if you backed out Valeant, what would those percentages be for the other 80% of the investments in the Sequoia Fund?
David Poppe:
Valeant has outperformed the S&P 500 by a substantial margin over the last three years. If you backed Valeant out, the other 80% would have underperformed the S&P, but that includes a substantial cash position at all times. The stock portfolio performed roughly in line with the S&P.
Question:
So on a percentage basis, what would let’s say last year’s 8% be without Valeant?
David Poppe:
About 4%.
Question:
Let’s say the current bottom line is about 12%, right?
David Poppe:
Valeant came into the year at 20% of the portfolio and it is up 56% year to date. So that is over eleven points of return for the total portfolio.
Sequoia is up about 12% so the rest of the portfolio generated less than one point of return and the market has generated about 3.
Question:
So you are saying that without Valeant, instead of its being 12%, it would be less than 1%?
David Poppe:
When a 20% position goes up over 50% that works out to a lot of performance, yes.
Question:
If you skip last year and you go to the wonderful year of 2013 when the result was 35%, what would that have been without Valeant, about?
David Poppe:
Valeant was up almost 100% that year. It started the year at about 12% of assets. If Valeant went up 100% in 2013 and it was 12% of the portfolio that was twelve points of performance. We were up 35 that year and began with about 14% in cash. So, the rest of the stocks, about 74% of the portfolio, were up around 31% in aggregate and generated 23 points of return.
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Question:
I have two quick questions. I might have missed the first one, but I was wondering what you thought of Valeant going forward, if you thought it was going to perform similarly well from now to next year. The other question I had that you might have answered earlier is based on kind of an expertise thing. I noticed that given your asset allocations mostly in equities that you are probably very correlated to the S&P, and I was wondering if you had ever thought about investing in other asset classes, going into FX, commodities or anything to maybe reduce that, or not?
Bob Goldfarb:
I would disagree with your statement that our equities are closely correlated to the S&P. They are not. That lack of correlation accounts for much of the significant variance in performance, in both directions, between Sequoia and the S&P over 45 years. The firm has invested in bonds twice since it was founded. But given the results from this week’s auctions, maybe we should have invested in art. We did not. And we do not have any plans to diversify on that score. With regard to Valeant, we are not any good at predicting short term movements in the stock; so we are not going to hazard a guess. But I would say that it is definitely ... it is a virtual certainty that we will have significantly lower returns from Valeant in the next five years than we had in the first five.
From Ruane, Cunniff & Goldfarb Investor Day 2015 Transcript Part II - Sequoia Fund.
