MorningWord 7/22/14: Multi Level Takedown? – $HLF

by Dan July 22, 2014 9:46 am • Commentary

Bill Ackman, founder of hedge fund Pershing Square, is not that popular of a guy in the C-level suite at Herbalife (HLF). He’s also not that popular at the offices of HLF’s  largest shareholder, Carl Icahn, who holds 17 million shares and as recently as last Wednesday stated that he has not sold a share, despite having an average price somewhere in the mid $30s.

To quickly recap, Ackman and Icahn have been locked in a battle over the validity of HLF’s business model, which Ackman thinks is a pyramid scheme (see his website where he makes his case: and Icahn, well, let’s just say he disagrees.

The problem that Ackman has faced is plain and simple, the burden of proof for a short bet of this magnitude can be high, and Ackman has recently said that his two year investigation in support of his $1 billion short bet has amounted to almost $50 million in costs. Ackman has always had a fairly asymmetric bet from a risk standpoint as the stock has almost 35% short interest (much of it him) against a very tightly held ownership by insiders and activist hedge funds.  The stock could only go to zero, while on the flip-side it theoretically it has no cap.

At CNBC’s Delivering Alpha conference last week, Icahn and Ackman were on the stage together in an attempt to bury the hatchet, and the last back and forth was on HLF where Ackman said that he wishes they both could make money in the investment, but intimated that Icahn’s time was running out. Since then HLF is down 15% as that day he announced that Pershing will be disclosing the finding’s of their 2 year investigation this morning.

This is a story we have just not liked from the get go.  Back in late April we placed a bearish trade (read here), essentially taking a leap of faith that anyone as vocal as Ackman, given his track record is likely to be right.  Many believe that Ackman restructured a good portion of his trade from largely a naked short stock position to over the counter (otc) and listed put options.  The three largest strikes of open interest are 70,000 Jan15 50 puts, and 30k of each of Jan15 65 and 60 puts, believed to be Ackman.  And these are likely the tip of the iceberg on the put side as otc options with dealers would not be reported to any exchange.

Back in late April when HLF reported their Q1 results, I almost fell off of my chair when the company announced that they were suspending their dividend and issuing a convertible bond to raise cash to buyback stock. This seemed like a clear attempt to manipulate their stock and squeeze shorts (ACKMAN).

The endgame for Ackman has always been to cause regulatory authorities to take note and shutdown what he believes is an illegal pyramid scheme (underway – here). We’ve also wondered at what point Ackman starts to address the fact that the products themselves may offer little to any health benefits.

But here’s the thing. Our economy is littered with MLM companies like Amway. And our shelves are filled with products that are at best placebos and at worst outright scams. And generally regulators look the other way as people walk around with their Power Balance bracelets, taking their homeopathic cold medicines while on the way  to listen to testimony from polygraph tests in jury duty away from their MLM sales job.

In other words, regulators generally let American’s be stupid. If Ackman is able to convince regulators that this MLM selling products that don’t work is special because it’s a publicly traded company, things will get pretty interesting.