Here's A Transcript of Benzinga's Interview With Probes Reporter's John Gavin On The Valeant-SEC Investigation

On Monday afternoon Probes Reporter published a report that Valeant Pharmaceuticals International, Inc. VRX is facing a new investigation by the SEC. The stock had fallen as much as 16% since that report. On Tuesday morning Benzinga's PreMarket Prep spoke with John Gavin, the man who published that story. Here's a complete transcript of that interview. 

How long have you been following Valeant and how do you conduct research?
We use the Freedom of Information Act as a primary research tool at the SEC. We’re the ones that figured out how to use that as a research tool. Valeant, we just did a normal routine request for documents on them. In September we were told there’s no records. In october the Citron report came out and of course that changed the world for Valeant. We filed a new FOIA request in December and on February 4th we got our first indication of a possible undisclosed investigation. We filed an administrative appeal which is part of our routine and just this past weekend we got a response to that appeal confirming ongoing enforcement proceedings at Valeant.

What is the SEC looking into?
Our requests look into records related to a company’s conduct, transactions or disclosures. And so with them blocking our access to records with a legitimate reason--law enforcement proceedings--they are confirming that they're investigating something pertaining to conduct, transactions and disclosures.

How long does it usually take to respond?
Sometimes we get an answer pretty quickly. That usually happens when there’s nothing there. The vast majority of companies we report on have nothing going on. So Valeant ends up in the category of something going on, and so with a Valeant the time turnaround can last months. This one actually went relatively quickly. Our request went in in December, the first response was in February, an appeal response was dated February 22nd and received by us on Saturday.

Do you know how many allegations there are?
Generally no.

Were you tipped off to Valeant? What got you interested?
We just did a normal request and as of September 30th the response came back and said nothing was found. The Citron report came out in October as did some other reports. Reports like Citron are actually on our own list. The SEC reads the same things that you do. If they see that a huge stock has an accounting controversy they’re going to look into it.

They know who Citron is. They know who we are. They know who the hedge fund players are. They know their agendas, but they also know the quality of their work. And so when you have a mega-cap company in a massive accounting controversy, they will look into it and we watch for those red flags as well. And that’s why we knew to do a new request on Valeant in December.

How long will investors care about this news?
Less than they should. The street can’t help themselves with their little pom poms and such. Valeant in my opinion was trying to manipulate that yesterday by trying to have that supposedly sell side conference call. I think that’s terrible for them on their part. We’re an independent research firm, we cover them too and nobody invited us to the party. Here’s why I think they should care longer than they will. Let’s just look at that restatement that occurred about a week ago. This is a massive company and you have massive accusations of accounting fraud. big companies don’t move that fast. To have had a problem solving restatement occur in just a few months, just doesn’t happen. You need the auditor, you need the audit committee, you need the depth and complexity of the investigation to complete itself.

So that itself tells you this isn’t going away. There’s other problems that are telling you it’s not going way. For example let’s look at an investigation no one’s talking about, the Salex investigation. The Salex investigation is a formal investigation the company continues to disclose. Even though they acquired the company, that should tell you that management views it as material to the entire company. It’s a risk to the entire company.

Now you have the Citron new stuff. And here’s something that the company is staying silent on. Back in October, when this story broke, there was references to Quebec’s securities regulator having not yet started a formal investigation but watching the situation very seriously. I am certain that the Quebec authorities have begun their own investigation by now as well. And the SEC and the Canadian authorities cooperate.

Why do you think Valeant remains silent?
I don’t know. I think it’s really bad what they’re doing, but it’s not without precedent. For example when the subpoenas came out last fall, they put that out on a press release at first. They didn’t give it prominence by putting it into an official filing. Last night the company made two filings. They filed an 8-K announcing the return of the former CEO Chairman and they also filed a new filing indicating their 10-K had been delayed. But during the day they put out that little press release news announcement that “Oh yea by the way the SEC is investigating.’.

There’s no prominence given to that. so they’re doing what we call disclosure games, things like delaying a disclosure, teasing it out, not giving you the details, no prominence. Things like that. This has all the feeling of a management that’s hunkered down. Their attitude is ‘There ain’t nothing wrong here until you can prove it.’ And they’re not going to help you with it. I think the sell side, God bless them, will look for reasons to get positive, although I’m sure a lot of them are very frustrated right now. But this could get worse before it gets better.

Could this result in a similar situation to what happened with Enron?
I think it’s very reasonable to ask that. Sometimes we can get dramatic and say ‘These guys deserve to be locked up.’ But the company is already under criminal investigation. When federal prosecutors and U.S. attorneys are investigating you, those are criminal probes. So this company is facing both civil investigations from the SEC certainly and criminal exposure on an array of matters. And so we don’t know what they are in detail but yes criminal charges could result from this. That’s not unreasonable to ask about.

Shouldn't the SEC disclose this kind of information?
That’s a really good question and it actually gets to one of the most common misperceptions that we encounter. That is, investors have the assumption that companies are required to disclose all SEC investigations, which is not true. Companies are only required to disclose matters deemed material to investors, but management gets to be the judge of what we as investors might consider material. I made a joke about it I called these guys dumb bunnies, but they really are.

Because they almost certainly knew the SEC was investigating last fall. We have other companies in our database where the SEC started an investigation quite quickly. I’ll use a quick example. Hertz in June 2014 announced a massive restatement. We wrote a report like we did in October on Valeant. And we said ‘Holy cow this is catnip for SEC enforcement officials. They’re going to get investigated. And it took until November of 2014 for Hertz to finally disclose it and they said it started in November.

So we think almost certainly the SEC started an investigation in October or November. The problem, and this is where investors need to worry, is this management judged that it wasn’t material. Even though it’s formal and involves subpoenas, they judged that it wasn’t material until they were essentially forced to disclose it yesterday. They were planning to just bury it in the 10-K.

The other reason they are their own worst enemy is last fall when they disclosed a ton of other investigations, they should have just thrown this one in. People wouldn’t have cared as much. Everyone was investigating it, it was kind of like the kitchen sink phenomenon, just throw it all in. Now by waiting, waiting, waiting playing the restatement game and having us put the pressure that ultimately caused them to disclose this, their credibility is badly damaged.

How will you continue to monitor Valeant?
With Valeant itself we’ll continue to monitor the situation. This investigation will go on for a long time. So what we will respond to is what disclosures they give, what answers they give on conference calls. And since we’re wrapping up I’ll offer a final thought to any investors as they think about companies under investigation. A common dodge on a conference call is when management gets asked about an investigation and they do the old ‘Well you know it’s confidential, it’s an investigation we can’t disclose it.’ Yes they can. They can talk about whatever they want. They’re choosing not to.

An investigation disclosed is a material event. If management discloses a material event and doesn’t give you the information you need to analyze it, you now have a risk you can’t analyze, and you have to ask yourself, do you want that in your portfolio.

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