How Mallinckrodt sweetened Citron
The tweet didn’t contain much: just an ominous comparison of business models with the promise of ‘more to follow’. Yet in a sign of the increasing influence of short-selling activists, its vague text was enough to send the shares of Mallinckrodt Pharmaceuticals into a tailspin. By market close on November 9, and following three trading halts, the firm’s share price had plummeted by about 17 percent. Mere weeks after a scathing report had routed the shares of Valeant Pharmaceuticals, also a specialty drug maker, short-seller Andrew Left of Citron Research had struck again.
But unlike Valeant, which hedge fund mogul Bill Ackman has faulted for insufficiently reacting to Citron’s allegations of fraud, Mallinckrodt chose a more active investor relations strategy. Key to the decision, perhaps, was the very paucity of information contained in the 107-character tweet.
The cryptic communiqué arrived at a time when investor anxiety about pharmaceutical stocks had been growing. In the wake of public outrage over Turing Pharmaceuticals ‘predatory’ drug pricing, Valeant had come under Congressional scrutiny in August 2015, accused of employing a similar business model. The Canadian company’s stock price plunged further when a Citron report about its relationship with a drug distributor raised concerns about the accuracy of its financial reporting. As with Mallinckrodt, Left offered little proof. But it didn’t matter: investors were spooked.
In wasn’t Mallinckrodt’s first contact with the vocal short-seller. In April 2014, Mallinckrodt announced its plan to buy Anaheim-based Questcor Pharmaceuticals for a sum representing a 27 percent premium over its share price. The acquisition was great news for Questcor investors but terrible news for those who sold the stock short based on Citron's online reports that alleged, among other things, that the company was ‘a scheme, not a business’. While Mallinckrodt inherited ongoing federal investigations into Questcor, the uncertainty fuelled, in part, by Citron’s reports has led some observers to dub the purchase a ‘bargain’.
On this occasion, however, Mallinckrodt strategists found uncertainty of no advantage. Company policy was not to respond to market speculation. Yet the vacuum of credible information in an already uneasy market gave impetus to action – at the highest level. At 7.33 the following morning, Mark Trudeau, Mallinckrodt’s president and CEO, appeared on CNBC to engage in a verbal duel with Andrew Left.
Recent short-selling reports have sparked significant volatility in companies’ stock movements. Data firm Activist Shorts Research tracked 171 public short campaigns last year, up from 145 in 2014, and with short interest in the US now at the highest level since the financial crisis, the strategy’s popularity seems set to surge in 2016.
Opinions vary about the short-seller’s role in markets. IR teams may be tempted to regard them poorly, yet the reality is that their opinions have sometimes proven right and those of company managements’ wrong. And sometimes short reports do bring to light inconvenient – even criminal – truths. If so, an IR professional’s next step is to sit down with his or her management team and board in order to address it appropriately with shareholders.
Either way, as demonstrated by Mallinckrodt, the best course may be to encourage open dialogue and engagement. Make your case while sticking to the facts, then get out of the way and let investors draw their own conclusions. In time, the fundamentals of companies building honest value always overtake speculation.
‘For every buyer there is a seller,’ noted a buy-side participant at a recent IR Magazine conference. ‘When they are shorting your stock, they are actually building buying demand because eventually they’ve got to cover their short.’
Only time can tell, but that’s just what seems to have happened in the months following the crisis at Mallinckrodt. At present, the market still awaits Citron’s promised additional information.