Name that Trade: Whale Hunting in $HLF…Call Me Ishmael

by Dan September 16, 2014 2:29 pm • Commentary

Ackman, Icahn… Icahn, Ackman.  After the past few years it seems like these two hedge fund titans go together like peanut butter and jelly.  Both have been extremely vocal advocates for shareholders of publicly traded companies, most notably themselves.  Both have had some very high profile successes – Ackman (Allergen) and Icahn (Netflix, Family Dollar, Apple and Chesapeake).  However, like other investors, both have also had their share of disappointments – Ackman (TGT & JCP) and Icahn (well, there aren’t many, but currently targets EBAY & RIG are underwater).

What connects the two billionaires more than anything though, is their battle over Herbalife (HLF).  Ackman is short a good chunk of the 42% short interest of the $4.1 billion market cap company and Icahn, who became the largest shareholder in late 2012, owns 18% of the shares and holds 5 board seats.  Ackman thinks the company operates a pyramid scheme and will be shut down by regulators, while Icahn, aside from wanting to inflict pain on Ackman, thinks the company is cheap and under-levered.

Regular readers of the site know that we are not fans of HLF (read here and here).  Specifically after reading and viewing Ackman’s presentations, we agree that there is something fishy, but we have not done any real independent work and feel that this is a bit of an adult swim situation (billionaires only).  This past spring I did get a little fired up as a HLF bear when it appeared the company was pulling out all of the stops to squeeze Ackman on the short side and put on a bearish trade with defined risk, here. Herbalife issued a $1.15 billion convert and used the proceeds to aggressively buy back shares at what are now much higher prices.  In April, management suspended the dividend to use the proceeds to buyback shares.  Sounds like the moves of a desperate company in my opinion.

Despite all of this corporate action in 2014, HLF shares are down 43% on the year, today trading at new 52 week lows. In periods past, opportunistic longs have taken advantage of the potential for short squeezes given the high concentrated short interest (Dan Loeb of ThirdPoint was one), but currently it doesn’t appear there are any incremental buyers.  Taking a look at the top 10 holders in the latest 13f filing of large holders as of June 30th, it appears that there have been more sellers than buyers (far right colum below).  That has likely continued to be the case over the course of the summer and will be revealed in October when Q3 filings are released:

HLF top 10 holders as of June 30th, 2014 from Bloomberg
HLF top 10 holders as of June 30th, 2014 from Bloomberg

So I ask you this… If you had Carl Icahn’s Midas touch, would you want to have any of your record tarnished by an investment that, for all intents and purposes, started out of spite?  It doesn’t take a genius to see that no matter whether a pyramid scheme or not, there is something fishy going on at HLF.

Now Icahn, as the largest shareholder and controller of five board seats, can’t just sell in the open market   I suspect that if Icahn wants out while he still has a profit, or before he is willing to try to take the company private, he is actually going to have to take a page from Bill Ackman’s playbook. That being Ackman’s failed JCP investment from 2010 to 2013.

To refresh, Ackman took a stake in August 2010, got board representation in Jan 2011, resigned from the board on Aug 13th 2013, and then sold his entire stake on Aug 26 2013:

JCP 5 YR Chart from Bloomberg
JCP 5 YR Chart from Bloomberg

Reports suggest that Ackman lost close to $500 million on this investment.  However, his sale was still above the stock’s current price, so his exit looks like a good decision, especially considering his strong performance in 2014.

In January 2013, Icahn and Ackman famously battled on the air of CNBC’s Halftime Report, officiated by Scott Wapner (if you haven’t seen it’s a must watch here).  But just this past summer, Wapner got the two back together, face to face, at CNBC’s Delivering Alpha conference so they could hug it out.  Activist Bros.

The reunion was awkward of course (watch here) but you got to give both credit for attempting to bury the hatchet. While HLF did not get a lot of attention, one of the last topic’s covered, Ackman was quoted as saying per

“It’s not about winning,” Ackman said on Herbalife. “I would love to find a way to get Carl out of this stock.”

If I were Ackman, I would propose a transaction to Icahn.

Buy all 17,000,000 million shares that Icahn owns, at a big discount to current levels, but above his average price, effectively covering a portion of his short and get Icahn’s representatives off of the board.  But prior to this proposal I would lever up on over the counter puts, put spreads, short calls in listed market, whatever I could get my hands on that reflects my bearish view. Once Icahn is out, this thing is TOAST!!

This sort of proposal creates an incremental buyer, something Icahn would sorely need of if he is to ever exit his position. A buyer which, at the moment, does not appear to exist.  That would be a nice little commission for the broker that could get these two hedge fund whales together and put this little HLF disagreement to bed.