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By Jason Zweig | Apr. 26, 2016 1:39 pm ET
Not every value investor bought Valeant Pharmaceuticals International high.
Bill Miller, manager of the $2 billion Legg Mason Opportunity Trust, says he sank about 3.5% of the fund into Valeant in late March and early April, mostly at prices between $28 and $32 per share.
Mr. Miller rose to fame between 1991 and 2005, when the fund he managed then, Legg Mason Value Trust, achieved the unparalleled feat of outperforming the S&P 500 for 15 years in a row. His trademark was perceiving undervaluation where others saw overpricing — as in Amazon.com during the Internet bubble, Tyco International after its accounting scandal and Alphabet (then Google) in its initial public offering.
The fund peaked at more than $20 billion in 2007. But Mr. Miller, by his own admission, stuck too long with financial stocks like Bear Stearns Cos. and American International Group. Legg Mason Value Trust (since rechristened ClearBridge Value Trust) lost a dreadful 55% in 2008, and Mr. Miller stepped aside in 2011.
Still, since 2000, Mr. Miller has run the smaller Legg Mason Opportunity Trust, where he has amassed big positions in homebuilders, airlines and other unorthodox picks.
This fund, too, has been like the girl who had a little curl: When it is good, it is very good indeed, as in 2012 and 2013, when it gained 41.1% and 68.4%, outperforming the S&P 500 by 16 and 32 percentage points, respectively. And when it is bad, it is horrid, as it was in the first quarter, when it underperformed by more than 12 percentage points. Overall, since its launch, the fund has beaten the market by an average of more than half a percentage point annually.
“We like to buy companies that can earn above the cost of capital for long periods of time, especially after they have been annihilated and we can keep them for years,” he says.
Mr. Miller is gambling that Valeant’s accounting problems are mostly behind it and that, at recent prices, the underlying businesses are still worth owning.
Mr. Miller reckons that Valeant’s operations, including its Bausch & Lomb, Salix and Medicis units, should generate about $7 per share in free cash flow this year and perhaps $9 next year.
“It wouldn’t surprise me if revenues were disappointing relative to guidance over the next quarter or so,” he says. “Sales could well drop off temporarily because of all the bad publicity. But the totality of these businesses aren’t in dying assets.”
Valeant, says Mr. Miller, is “in this chasm right now where almost all the news is bad, and the news flow isn’t going to make anybody jump up and down for joy anytime soon.”
Without even a current financial statement to go on, Valeant is “like a poster child for every aspect of behavioral finance,” he says, as investors focus their attention on what already has gone wrong and what else could still go wrong.
“The normal contrarian buyers just aren’t there anymore,” he says. “Nobody wants to own Valeant except for people like me who’ve been around for so long.” Many of his fund’s board of directors have known him for decades, he says: “They’ve seen this movie before, and they’re comfortable with the strategy.”
As so often has been the case, Mr. Miller isn’t likely to be proven half-right. He will either hit a home run with Valeant or strike out.
“Where you want to take some risk,” he says, “is on companies that have already gotten crushed.”
Source: The Wall Street Journal