Ackman vs. Icahn: The Herbalife Battle That Shook Wall Street

Most Interesting Resources

This is the video of the phone-in where Carl Icahn just lays into Ackman- it’s TV gold and well worth watching: https://www.youtube.com/watch?v=6QWZbxeJd6g

This is the video where Michael Johnson responds to Ackman's accusations- he is livid and it shows how determined Herbalife will be in fighting Ackman: https://www.youtube.com/watch?v=5zjjq_1y0A4

This is the documentary Betting on Zero- a really great movie: https://www.youtube.com/watch?v=4DTqMszUZTw

This is a link to the fantastic article by Wiliam D. Cohan in Vanity Fair titled The Big Short War- well worth a read: https://www.vanityfair.com/news/2013/04/bill-ackman-dan-loeb-herbalife

This is a link to the article in Fortune magazine by Roger Parloff titled The Siege of Herbalife it gives a great insight into the whole affair: https://fortune.com/2015/09/09/the-siege-of-herbalife/

This is the TV moment where Icahn and Ackman meet having already made up- the part where Ackman comes onstage is at the 30 minute 35 second mark:

https://www.youtube.com/watch?v=tWQRts7sieo

Link to Lex Friedman interview with Bill Ackman- 3 hrs 33 minutes of Bill Ackman seems like a lot, but it’s actually a pretty interesting interview: https://open.spotify.com/episode/7rc0ltSzV5dXdtBVhJ7yvd?si=HLXE-RhHRSCb4TnGZkWlKA

This is the story of a clash of wall street titans or perhaps it’s more accurate to say wall street egos- the younger, pompous, easy to dislike Bill Ackman versus Carl Icahn the gnarly, veteran street fighter.

It centres around Ackman’s short play on Herbalife, a company that sells weight loss food products using the often shady practice of multi level marketing. Given the 3 protagonists (Ackman/Icahn/Herbalife), it’s hard to root for anyone, but it is easier to root against Ackamn and Herbalife for different reasons even though it’s ackman who is taking the moral and self righteous crusade here in his attempt to bring down herbalife and in the process make a lot of money.

I found Icahn a more likeable character based solely on the fact that he appears more upfront, more straight talking, and far less superior than how Ackman comes across.

And while there is a cast of other wall street characters and ceo’s that we’ll dig into, without a doubt, the central character is Bill Ackman, so let's take a look at him and how he got involved in the Herbalife short squeeze.

Ackman comes from a well-heeled background- his family were involved in real estate- he’s tall, fit, a huge tennis fan and by all accounts a pretty good player- well dressed, prematurely grey.

He worked in his fathers company for a couple of years but he had an interest in investing and was heavily influenced by Warren Buffet so in 1992, at the age of 26 he raised $3 million from from his college professor and mentor Marty Peretz (owner of The New Republic), from his father, and by cold calling over a hundred members of the Forbes 400 list (four are said to have invested). Together with a college friend he set up a hedge fund called Gotham Partners which performed well and within 10 years they’re managing $300 million- but they make a bad investment on a golf club company and instead of bailing out, they double down- things go south and they have to close down Gotham and unwind their positions.

However, 2 important things comes out of this: First, Gotham Partners has shares in a company called Hallwood Realty- Ackman believed it’s shares are way undervalued at $60 and he believed they were worth $140, but he needed to get rid of them so he called Icahn. They hammered out a deal where Icahn agreed to buy them for $80, but they also built into the agreement something Icahn called Schmuck insurance- an agreement that if Icahn sold his shares within 3 years the 2 would split any profit above a 10% return (it was called Schmuck insurance as if Icahn made a big quick profit, this prevented Ackman from looking like a schmuck). When the company was merged a year later and Icahn got $137 per share, Ackamn expected to be paid around $4.5 million, but Icahn refused on the basis that technically a merger didn’t constitute a sale of his shares.

Ackman sued, and by all accounts I believe that Ackamn has Icahn bang to rights- the case dragged on for 7 years until eventually Icahn was forced to pay Ackman what was owed including interest, a total of $9 million - chump change to Icahn who by this stage in 2010 had a net worth of around $14 billion.

However Icahn was enraged - he maintains that he and Ackman had a verbal agreement that Ackman broke, but based on my research, I believe that what really got under icahn’s skin was the fact the Ackman went to the press and got a nice puff piece written about his victory in the New York Times and in doing so violated a decades old code on wall street- never rub it in the other guys face, no matter how gratifying the win (Icahn is old school and was infuriated by Ackman’s posturing).

But this is the thing about Ackman- he’s needlessly competitive, always has to be right, but more importantly, he wants everybody else to know just how right he is. He’s a difficult person to like because he has this air of superiority about him.

But getting back to the wind down of Gotham Partner, his first hedge fund- the second vital thing to come out of it was that Ackamn had been building a short position on a huge bond insurer called MBIA believing that it was over-leveraged.

To briefly explain short selling: it involves borrowing a security/shares whose price you think is going to fall and then selling it on the open market. You then buy the same stock back later, hopefully for a lower price than you initially sold it for, return the borrowed stock to whomever you bought it from, and pocket the difference. The risk with short selling is that if the price goes up the short seller is on the hook and may be forced to buy back the shares at a huge cost thereby incurring a huge loss.

So Ackamn waged a lengthy war against MBIA that lasted 5 years and when in late 2007 he was eventually proved right, his bet earned a $1 billion profit- so this cemented Ackman’s reputation and also emboldened him- or in the words of one article: “Thus was born Mr. Ackman’s nearly fanatical belief that he can see, and fix, what even those closest to a situation are blind to”.

Now while he was waging this war with MBIA he had also started a new fund Pershing Square in 2004 by raising $50 million (apparently from his own personal funds and also an investment from a New York financial services company) , and he scored some big wins over the coming years- not just MBIA, but also McDonalds and Wendy’s and by the time of the MBIA victory in 2007 Pershing’s fund stood at $5 billion. His method of operating was usually to take big bets on undervalued companies that also had a strong real estate presence. Now it has to be pointed out that he wasn’t going short on these bets- MBIA was one of the few times Ackman shorted- Ackman is known mostly as an activist investor- this is where the hedge fund buys a lot of shares in a company that they believe is undervalued and then tries to use their influence to get the company to make certain changes that they believe will increase the share price allowing them to then sell the shares at a profit.

Ackamn’s MO is to go big or go home- it’s what helped him make his name on wall street (note: despite modelling himself on Buffet and even being compared to Buffet in some of the media, Ackman is no Warren Buffet- his vanity and ego keep getting in the way). But this strategy has a downside- it leads to Ackman either winning big or losing big, and between 2004 and 2012 he had some big wins but also some big losses, notably Borders, Target and JC Penney.

The target investment is of particular importance to this story as he had many of his hedge fund buddies invest in this particular fund- they lost out big time, estimated to be about $1.5 billion and it left a very sour taste in some of their mouths- and this would come back to bite Ackman when he decided to go short on herbalife. But more of that anon.

From my research though I get the feeling that it wasn’t the losses that pissed people off as much as Ackamn’s character- although I’m sure the losses did hurt. Ackamn has an air of certainty and superiority that can really rub people up the wing way. In the excellent article in Vanity Fair by William D Cohan, there are 2 particular quotes from acquaintances of Ackman that are pretty scathing:

“There is a saying in this business: ‘Often wrong, never in doubt.’ Ackman personifies it. . . . He is very smart—but he lets you know it. And he combines that with this sort of noblesse oblige that lots of people find offensive. On top of that he is pointlessly, needlessly competitive every time he opens his mouth”.

Note: noblesse oblige a French expression that means that nobility extends beyond mere entitlement, requiring people who hold such status to fulfill social responsibilities.

“He’s just pompous and arrogant and seems to have been born without the gene that perceives and measures risk. He seems to look at other members of society, even legends such as Carl Icahn, as some kind of sub-species. The disgusted, annoyed look on his face when confronted by the masses beneath him is like one you’d expect to see [from someone] confronted by a homeless person who hadn’t showered in weeks. You can almost see him puckering his nostrils so he doesn’t have to smell these inferior creatures.”

However, despite some big losses and rubbing many on wall street the wrong way, when the herbalife story starts in earnest in 2011, Ackamn is now 49 and at the top of his game- he is regarded as a brilliant, cocksure, media-savvy activist investor whose fund, Pershing Square, has harvested 21% average net returns since inception in 2004. The fund commands nearly $19 billion in assets.

Before we get into Herbalife, it’s also worth looking briefly at the other main protagonist in this story- Carl Icahn. Icahn deserves an episode of his own, and we will get round to it at some stage. To summarise him, Icahn is without doubt one of the most legendary investors on Wall Street. While in his late 80’s now and at the tail end of an illustrious and controversial career, for the last 60 years Icahn has been involved in more deals and more battles than almost anyone else on Wall Street- he’s a tough, ruthless and extremely clever investor, with a reputation for always being a few moves ahead of everyone else.

Unlike Ackamn who talks with a neutral accent, Ichan has a proper, street tough New York accent. He started off with help from a wealthy uncle and quickly built a reputation as a corporate raider.

Early on he outlined his MO to investors- namely that sizeable profits can be earned by taking large positions in undervalued stocks and then attempting to control the destinies of the companies in question by: a) trying to convince management to liquidate or sell the company to a white knight. b) waging a proxy contest c) making a tender offer d) selling back their position to the company

This was the formula for Icahn’s success and while he did get tarred with the greenmail tag- whereby companies took option d and simply paid him a premium on his shares just to go away, he did also buy companies notably the airline TWA and became a large investor in Texaco and RJR Nabisco- the company that was at the centre of our episode Barbarians at the Gate- in total he made about $850 million from that company over the years, and by 2000 he had a net worth of $4.2 billion

As he moved into the 2000’s he lost the corporate raider tag and became known as a shareholder activist. In 2004 he started hedge fund called Icahn Partners- the standard fees for a hedge fund are 1 to 2%- Icahn charged 2.5%, also he took 25% of net annual profits whereas the industry standard 20%- he had no problem raising money

By 2008 he had net worth of $14 billion- in 2012 net worth of $20 billion and his annualised return had outpaced Warren Buffet over a similar 20 year period.

So we have our 2 protagonists- Ackman the young gunslinger who likes to take big and often risky bets and then Icahn, the tough, calculating street fighter.

Then in 2012, enter stage right Herbalife.

Herbalife was founded in 1980 by Mark Hughes, a charismatic but complicated Californian. According to company lore, he started the company by selling weight loss products from his car - his main product being a shake called formula 1. He said that he got into the business as a result of his mother dying from taking weight loss drugs to deal with her obesity. This wasn’t quite true- his mother wasn’t overweight but she did die from overdosing on prescription drugs.

Within 5 years Herblife had over $300 million in annual sales. The main issue or controversy that centres around Herbalife is the way in which it sells it’s products- it uses multi-level marketing, in the same way that companies like Amway, Tupperware, Nu Skin and many more. Back in 2012, when our story is based, the MLM sector was worth around $34.5 billion and Herbalife was the second largest by revenue at $4 billion per year (behind Avon).

MLM’s are controversial and for good reason- they are often accused of being pyramid schemes. Now the whole MLM sector is a fascinating story onto itself and it’s one we may cover in the future, but it’s too complex and vast to get into right now- however, if you'd like to find out more about how it operates, then I highly recommend season 1 of The Dream with Jane Marie from 2018.

In short, a good definition of a pyramid scheme is as follows: “An organisation is deemed to be a pyramid scheme if the participants obtain their monetary benefits primarily from the recruitment rather than the sale of goods and services to consumers.”

In essence, MLM’s pay a distributor—as Herbalife does—based on the products the distributor orders (significantly, not on the amount of product the distributor sells), and on the products ordered by the distributors first three levels of recruits, i.e., direct recruits, recruits’ recruits, and recruits’ recruits’ recruits. (A distributor’s recruits and all their recruiting descendants are referred to collectively as his downline.)

While it’s true, then, that no distributor is paid for recruiting as such, it’s also true that no distributor will ever achieve the upper echelons of an MLM’s compensation scheme, including Herbalife’s, without recruiting.

While the hope is that the products purchased by distributors eventually find their way to actual customers it’s hard to be sure that they are.

MLM companies deliberately complicate their business models and distributor agreements to obscure unfavorable practices. Herbalife's 124-page distributor agreement (as of 2012) exemplifies this tactic. While they can make sweeping claims about their operations, the fine print often reveals questionable practices. For instance, while Herbalife could truthfully state that all distributors have the option to sell their inventory back to Herbalife, and that only 0.35% of distributors utilized this option, further investigation revealed a different story. The buyback process is deliberately convoluted and includes hidden costs, discouraging most distributors from pursuing it due to the perceived lack of benefit compared to the effort required.

Crucially, the one figure I could never get from my research (and the 1 figure that Ackamn could never prove)- what percentage of Herbalife’s sales comes from real costumers outside of the network- knowing this exact figure will help us know if herbalife is a pyramid scheme.

And while MLM’s had and continue to come under government scrutiny, Hughes managed to build herbalife into a very successful company and by the year 2000 it had revenues of $1.7 billion. But in May 2000 Hughes died after a 4 day binge on wine and prescription drugs. Sales started to slow, the company went through 3 different CEO’s. Then in 2002, it was bought by 2 VC’s for just $350 million and in 2003 they brought in a new CEO- Michael Johnson, president of Walt Disney International. The company went public again, in 2004, netting the private-equity firms a fortune estimated at $1.3 billion,

With dark, close-cropped hair and pointy ears, Johnson, a passionate nutrition nut and endurance athlete who often rides his bike 30 miles to work, looks like a cross between Lance Armstrong and Star Trek’s Mr. Spock. He worked in the international division of Disney’s home-video unit. That business took off, and he rose up the ranks until he was heading the international operations of the whole company. While the move to an MLM like Herbalife surprised many people, there were 2 good reasons for the highly ambitious Johnson to make the move. The first is that he was never going to get the top job at Disney- Bob Iger was in pole position and indeed got the role in 2005.

The second reason is that he offered a piece of Herbalife as well as very lucrative terms. He did a good job at building the business - revenues were just $1.4 billion in 2004, by 2011 when our story starts in earnest, revenues had reached $4 billion dollars, and from 2008-2011 Herbalife shares rose 870%.

In 2011 Johnson was one of the highest paid CEO’s in America taking home $89 million dollars and his total net worth is estimated somewhere north of $275 million.

Herbalife was on a roll so let's see how it happened to come to the attention first of all of Bill Ackman.

When Ackamn had his big win by shorting MBIA in 2007, a journalist named Christyine Richard wrote a book about it called Confidence Game, so she and Ackman knew each other. By 2011 Richard was working for a boutique research company called Indago Group- they did detailed research on companies and then presented their research to their customers- their customers are mainly hedge funds who paid Indago a retainer of $10,000 per month.

Richard had undertaken research on Herbalife and believed that it was a pyramid scheme. She contacted Ackman and her other clients recommending that Herbalife presented a good opportunity to take a short bet on their shares.

Ackman, spurred on by one of his leading in-house analysts, was intrigued but was reluctant to take the lead on this- the MBIA bet, while ultimately very profitable, was also gruelling, and from what I can gather it was the last stock tha Ackamn had shorted.

Also, Ackman and other hedge funders were sceptical that the government would take any action. When investors decide to go short on a stock, they are always looking at what the catalyst might be- a catalyst is an outside force—a regulator, a journalist, a downturn in the business cycle—that exposes a dirty little secret at a company’s core, causing its stock to plummet.

For an MLM, the big catalyst would be government intervention in the form of the FTC (Federal Trade Commission) opening an investigation into the MLM and ultimately finding that it is a pyramid scheme- in such a circumstance, the company would be closed down.

But there are many problems with this - first of all, there is no federal statute defining “pyramid scheme”. For years MLM critics have begged the FTC to draw some bright-line rules—but in vain. Such schemes are usually prosecuted by the FTC as an “unfair or deceptive act or practice.” If an MLM or its distributors have merely made some misleading claims, the FTC may fine the company and let it live to see another day. But if the commission finds that an MLM is a pyramid scheme—which is considered inherently deceptive—it must shut it down.

Secondly, many former FTC officials are hired by the MLM companies after they leave the FTC- so MLM’s are very aware of how to circumnavigate the rules. Also, because they have former FTC lawyers working for them, these people often have close relationships with current FTC staff- and that can only help the MLM.

Furthermore, the MLM sector is a huge contributor to political parties and has a well funded lobby.

As a result, Herblaife had managed to grow consistently and successfully over 30 years without having too much trouble from the the FTC, which is why the hedge funds who were being tipped off by Richard of the Indigo Group were asking- what’s the catalyst- what new information do you have that will force the FTC to open an investigation?

While the research produced by Richard did show that Herbalife was skating on very thin ice, and there were legitimate question marks over it’s business practices, there was no catalyst, no smoking gun. However Ackamn was interested, as was a former friend of his and a very successful short seller at that time, David Einhorn.

Einhorn is another interesting character- he was a very sharp operator, a skilled and successful poker player, once winning $4.3 million at the 2012 Worlds Series Poker Main Event and was famed for shorting Lehman Brothers just months before the bank collapsed in 2008.

So the Indago group had given the hedge funders their herbalife report in 2011 and both Ackman and Einhorn had continued to look into it, but they didn’t do anything yet.

Then in May 2012 when Herbalife released their earnings, they took questions over the phone from various analysts and David Eionhorn was also on the call and they took a question from him. Einhorn asked the following question:

“How much of … final sales are sold outside the network, and how much are consumed within the distributor base?” Now this question gets to the root of the issue as it seeks to find out if the company is making its sales as a result of real demand from real consumers, or is it simply recording sales as a result of large orders made by distributors.

And while there is no federal statute defining a pyramid scheme, a watershed case settled by Amway with the FTC in 1979 set several benchmarks that MLM’s would have to adhere to including that 70% of all products sold had to be to customers outside the Amway network. Another condition is that Amway was required to offer distributors a buyback and full refund for unsold merchandise.

On this particular call with Einhorn, Herbalife were not able to say definitively what that percentage was, although their president, an Irish guy called Des Walsh, told Einhorn that he estimated that about 70% of their sales came from customers outside of the network- this was an incorrect figure- apparently, but this is the thing- I cannot find that actual figure anywhere.

Note: Walsh makes several appearances in the film Betting on Zero and he gives me the impression that he spends his life thinking on his feet, as if every question is a trick one, and he’s the company’s top glandhandler- in short, I found him to be slippery and untrustworthy. In another interview I read with Walsh he maintains that they can rightly claim that the majority of sales comes from consumers because the majority of distributors who sign up do so not to make money, but so that they can avail of the big discounts that distributors get. In effect he’s saying that most of their distributors are simply consumers who buy in bulk to get discounts. I find this hard to believe when you consider that competing products were being sold to the public at a fraction of the cost. Also, how many consumers do you know buy up to $3,000 thousands of dollars worth of a consumer product up front in order to get a discount? And if Herbalife is all about just selling thousands of dollars worth of shakes and other products at discount to individuals, why doesn’t it then promote itself in that way? Why does it promote itself as a business opportunity? Finally, and technically, of they now maintain that most distributors join to buy product at discount and have no intention of making money, then these are still recruited as distributors and so the product is not being consumed by people outside of the network- ergo it’s a pyramid scheme. Everything about it stinks.

The MLM’s own figures can’t be taken at face value because they're hidden behind so many different terms and conditions and definitions as to what constitutes a consumer, that it’s just not credible. In the end I emailed Robert Fitzpatrick, perhaps the preeminent expert on MLM’s and who also featured in the movie Betting on Zero. Fitzpatrick, to his credit, emailed me back a very comprehensive and detailed reply, but due to the deliberate complexity of MLM’s in terms of how they structure their data and contracts with distributors, even Fitzpatrick wasn’t in a position to say exactly how much of Herbalife's sales came from consumers.

What I would recommend however, for those interested in digging deeper into this is to read Fitzpatricks excellent book Ponzinomics.

But the mere fact that Einhorn was asking probing questions was enough to torpedo Herbalife stock, dropping it 20%, from $70 to $56 and over the next few weeks the share price dropped more as there was intense speculation that Einhorn was going to announce a large short position in herbalife when he was presenting at the upcoming Sohn Conference on May 16th.

The Sohn conference is an event where investors and hedge funders give a presentation where they tout their short or long positions, after having already accumulated them, knowing that their very words will move the market in their favour. “Talking your book”, as it’s known on Wall Street, is not exactly kosher, but it’s done all the time.

Ackamn believed that Enhorn’s upcoming presentation would be the catalyst that he was looking for in relation to Herblaife- and he was relieved- he could build a short position and simply let Einhorn do all of the work and be the public face of the short bet.

So Ackman pulled the trigger and started buying shares at an average price of $48. You may wonder why did Ackman buy after the shares had dropped so significantly? Well he believed that after Einhorn gave his presentation, the shares would drop even further, and he’d be able to make a nice, quick profit.

However, when Einhron presented at the Sohn conference, he blindsided everyone - he wasn’t going short on Herbalife, instead he was going short on a different company and as result Herbalife's stock rebounded slightly.

So this left Ackman with a dilemma- should he simply sell what he had and make a very small profit, or should he be the catalyst? Should he go big and go public on his short position (what’s known as a public short where you publicly announce your short position)

Ackman’s ego, love of the spotlight, and sense of self-righteousness are on full display here. Despite his claims that he didn’t want to repeat the MBIA scenario or be at the forefront of another highly publicized conflict, his actions suggest otherwise. It's evident that he enjoys being in the limelight, craves attention, and, above all, relishes the opportunity to prove not only how right but also how morally superior he is to the world.

And Ackamn really does believe that he’s a moral crusader, as per the following quote: “I’m a change-the-world guy, I don’t like to make investments that are not good for America”. Ackman invests in companies like McDonalds. Wendy’s Canadian Pacific Railways- all good companies, but he’s doing it to make money for him and his investors- trying to dress it up and claim that he makes investments for the good of America is so pompous and deluded.

There’s also a level of hypocrisy to Ackman's investments- he publicly claimed that he refuses to invest in Coke because he says it’s not good for you, but has no problem investing in fast food companies like McDonalds and Wendys- who it has to be noted also sell Coke and other soft drinks. And what about Valeant- one of the main practitioners of price gouging in the pharmaceutical sector?

Ultimately however, the actions that Ackman takes next demonstrate how naive and ego-driven he is. Ackamn decides to be the catalyst. In total he ends up buying over 20 million shares in Herbalife (almost $1 billion), - a huge risk but very much in line with his MO of go big or go home- because with such a large percentage on the short side, around 20 percent, in the hands of one person, those on the other side of the trade—who are betting the stock will go up—can try to orchestrate a “short squeeze,” by buying up shares. This causes the thinly traded stock’s price to trade up, forcing the short-seller to buy back stock at far higher prices than he had hoped, which sends the price of the stock higher still.

In addition, Herbalife would no doubt be able to defend itself by using some of the $320 million or so in cash on its balance sheet to buy back and retire its stock, reducing the number of shares outstanding and potentially adding to Ackman’s whiplash.

Within Pershing Square Ackman, while the ultimate boss, has to convince his board as to why taking such a big short position is a good investment. He plays the moral card, insisting that they will be stopping a predatory business that’s preying on minorities, and anyone on wall street who decides to take the other side would be taking blood money and who would be willing to carry that burden? This is laughable- it’s never a good idea to take moral issues to wall street, because frankly they really don’t care- as long as a business is making a profit legally, wall street for the most part will take any side as long as it can make money.

Members of Ackman’s board pushed back- asking what was their objective- to make money for investors or fulfil some moral mission. Ackman's answer- they could do both. And so the stage was set.

By this stage Ackman was a well known wall street personality- he’s outspoken, he makes for a great guest on business shows, and he knows it, so so he uses it to his advantage and he starts to drop hints that he’s shorting on something big and that he’ll be making a big announcement soon. He builds up expectations and then on December 19th 2012 CNBC broke the news that Ackman had taken a massive short position—about $1 billion worth—in Herbalife. CNBC stated that Ackman considered it to be a pyramid scheme, and would be presenting details the next day. Herbalife stock then fell 10% in six seconds, triggering circuit breakers and a temporary trading halt.

Ackman had done an excellent job in hyping his short sell- on December 20th he gives his public short, the likes of which no one had seen before-a 3 and a half hour presentation, consisting of 342 slides in font of 500 people and television cameras where he calls herbalife the “best-managed pyramid scheme in the history of the world.”

He expected the stock not just to decline but to go to zero, he also expected the whole thing to be done within the year. On top of this, he claimed that if his bet paid off, he’d donate his personal profits to charity, because he considered any proceeds from a corporation so villainous to be “blood money.”

The self righteousness and absurdity of this is mind blowing- not only is he trying to put himself on a moral high ground above everyone else on wall street (which isn’t really a hard thing to do-it’s a low bar) but more importantly he’s publicly placing himself morally above his own investors by indirectly implying that should his bet pay off, he won’t personally profit from it because he considers it blood money, but his own investors will be profiting off this “blood money”-what a bizarre thing to say.

However the presentation hits its mark - it succeeds in sowing doubt about herbalife’s business model- he was able to point out a lot about Herbalife that was suspicious. Its flagship product, Formula 1, though virtually unknown to Ackman’s audience, had recorded sales of $1.8 billion the previous year, It’s “the only $2 billion brand nobody’s heard of,” Ackman acidly observed.

He was able to show that 88% of its distributors earned nothing at all.

Also, the year previously, 2011, a Belgian court had found Herbalife guilty of being a pyramid scheme

The effect was immediate, and by Christmas eve Herbalife’s stock dropped to $26.

However, not everyone was convinced. First of all, some people within the hedge fund sector noted the timing of the presentation- Ackman presented just 11 days before the end of the year, when hedge fund positions are marked to market for the year. His manager’s fees would be computed based on those numbers, so the temporary paper profits he’d make from his enormous Herbalife position would window-dress the lacklustre year he was having in 2012 (mainly as a result of his massive mishandling of his JC Penney investment). Given the holiday season, there was no way Herbalife could respond that calendar year. In that context, the bit about Ackman foregoing personal profit struck some as disingenuous.

Also, while it was a convincing presentation, there wasn’t any smoking gun- there wasn’t any new information here- also, since Michael Johnson had become CEO, Herbalife had become a much more professionally run organisation- I’m not for one minute vouching for herbalife here, but what I’m pointing to is that with the level of professionalism that Johnson had instilled, combined with the fact that Ackamn didn’t have any new, smoking gun, it was difficult to see what the catalyst would be to force the government, the FTC to open an investigation.

And even if the publicity pumped up by Ackann did prompt the FTC to start an investigation- that would only affect their US business which was responsible for just 20% of its revenues.

Added to this was the fact that Herbalife was a cash machine with a long history of fighting its corner- they were undoubtedly going to put up a fierce fight, and this became clear almost immediately. On the night before Ackaman presentation, this is December 19th when CNBC announced Ackamns $1 billion dollar short position, Michale Johnson phoned into the CNBC show and vented his anger - it makes for great viewing and we’ve added a link to it in the blog post, it’s well worth watching it.

Johnson was livid. It’s surprising that such a cool headed character did call into a live show like that - but I believe that this type of aggressive move worked out well for him in the long term - showing emotion can sometimes be good, it shows how invested you are in it, but also shows how wronged Johnson felt- this was an affront to him and he wasn’t going to take it lying down- it set the tone for what was to come- Jobhnson was going to fight.

Taking all of these factors into account- no smoking gun, Herbalife’s strong cash and geographic position revenue-wise, Johnson’s aggression, the share price falling to a low of $26, Ackman’s very public and huge short position, and then combine these factors with the fact that Ackamn had many powerful enemies in the hedge fund sector, it’s no surprise that some of them saw this as a great opportunity to make some money while also give Ackman a good kicking.

The first one to come out publicly and take the other side of the bet was Dan Loeb. Loeb had been one of the hedge funders who had invested in Ackman’s target fund and ended up losing $175 million dollars. He started buying Herbalife at just $26 straight after the Dec. 20th presentation, and ended up buying 8.24% of Herbalife, at a cost of $300 million dollars.

He declared his position on January 9th and a week later Carl Icahn announced that he had acquired a small stake in Herbalife- the announcement of 2 heavyweight investors buying into Herblalife sent shockwaves around Wall Street. Not only did it show that these 2 investors believed that herbalife would come through this, but also that its shares were way undervalued- and of course this vote of confidence served to lift the share price- as did herbalife's buyback program where they spent $160 million in January and February.

All of this increased the possibility that Ackamn would be caught in a short squeeze- A short squeeze is a feedback loop that occurs when excess demand for a stock pushes the price up, pressuring short-sellers to cover their positions, which requires them to buy stock, which further pushes the price up, and so on.

And then in late January 2013 came the event that propelled this story into the stratosphere. Ackamn was being interviewed by phone on Scott Wapner’s CNBC show. Prior to this interview, the feud between Icahn and Ackman had started to bubble with Icahn coming out and criticising Ackman for doing his public short on Herbalife. So Ackman was on the show to respond to Icahn’s criticisms.

An enterprising producer of that show had given Icahn the heads up that Ackman would be appearing and invited Icahn to phone in. And a few minutes into Ackmans interview a furious Icahn was put through, and it made for TV gold, with Icahn opening with “I’ve really sort of had it with this Ackman guy,”

“I went to a tough school in Queens,” Icahn continued, “and they used to beat up the little Jewish boys. He was like one of these little Jewish boys, crying that the world was taking advantage of him.” Icahn went on to recount a dinner he once had with Ackman after which, he said, “I couldn’t figure out if he was the most sanctimonious guy I ever met in my life or the most arrogant.”

Icahn was giving his version of the decade-old dispute that led to a nine-year litigation between Ackman and him. Ackman had prevailed, winning $9 million.

Ackman responded in kind, asserting that Icahn “is not an honest guy, and this is not a guy who keeps his word. This is a guy who takes advantage of little people.”

As traders tuned in to gawk at these titans mud wrestling, trading volume on the three major exchanges dipped nearly 23%, according to a CNBC analysis of Thomson Reuters data.

Icahn is mad as hell while Ackman is far cooler and smoother.

Referring to their initial dispute over the Schmuck Insurance, Icahn really is furious and maintains 100% that they had a verbal agreement and that Ackamn is lying.

He goes on to say that when he met Ackman for dinner one time, Ackman was so arrogant- Icahn quote’s British PM Disraeli when he says: 'Young man, I'd be happy if I could be as sure about one thing in my life as you are sure of everything."

He mentions the fact that Ackamn went to the press after his court victory against Icahn in 2009- and as previously mentioned, I believe that this is what ultimately pisses Icahn off, he believes that Ackman violated a decades old code on wall street- never rub it in the other guys face, no matter how gratifying the win

On a professional level Icahn rightly points out that Ackamn takes huge risks and that’s exactly what he’s done here with Herbalife, and as a result, Ackman is now very exposed to a short squeeze.

He goes onto to point out that Ackman made his big Herbalife short announcement at the year end so it would make his EOY results better and he could collect better fees- so Icahn points out that all of Ackman’s talk about charity is complete bullshit- Icahn is so mad and worked up in this interview.

Ackamn’s comeback is cool and collected- he says of Icahn- he either has a very bad memory or has trouble with the truth

In relation to the initial dispute with the Schumck Insurance that started this whole feud, it really is hard to know who is telling the truth, and while it’s much easier to want to believe Icahn and distrust Ackman, if I’m being objective, to me it sounds like they both 100% believe their versions of it. But what is clear is that Ichan is mad as hell.

This was TV gold and while in the movie Betting on Zero Christine Richard says that it kinda sidelined the Herbalife issue because now it was all about this big row, I believe that it had the opposite effect, the very public row between 2 Wall Street titans/personalities propelled herbalife into this huge news story - would the book have been written, would the movie have been made, without this huge and very public spat?? This episode of Great Business Stories definitely wouldn’t have been made

2 weeks after that interview Icahn's stake was revealed- just under 13%, valued at more that $200 million- he started buying Herbalife on the very same day that Ackman made his big presentation when they saw the share price dropping like a stone

And over the Christmas holidays Ichan had his people do their homework, contacting former FTC lawyers, going through Herbalife’s financial statements

As they gathered more data on the company, and as the shares continued to fall, they continued to buy, eventually reaching 18.4% and gaining control over 5 of the company’s 13 board seats. With the $37 billion dollar Icahn Enterprise betting against him, Ackman found himself in his own worst case scenario- a short squeeze. At this point, Ackman could have remembered the ejector seat in his board room and chosen to bail out right then, with a little egg on his face but a relatively low level of financial loss. But he was on a crusade, and nothing was going to stop him in his mission to take down his new personal Moby Dick.

However, the pressure did force Ackman to redeploy about 40% of his bet from short sales of stock into purchases of put options

The news only continued to get worse for Ackan when George Soros' fund started buying Herbalife in June 2013. Soros Fund Management was known for deliberate research and had waited months before acting.

Also in 2013, a Belgian court overturned the previous ruling that had declared herbalife as being a pyramid scheme. Another significant court case for Herbalife was when a class action brought on behalf of 1.5 million herbalife distributors was settled for just $17.5 million- most analysts had expected damages to be in the region of $700 million to a billion. The reason why it was so low was because even though 93% of class members were personally notified about the claim, only 0.5% filed claims- a really small number even by class action standards

And this was 1 of 2 problems with Ackman’s case- as we can see from the low numbers who filed claims in the class action, Ackman wasn’t able to produce enough victims.

And secondly, as mentioned a few times already, he didn’t have any smoking gun, any new evidence.

In relation to not being able to get enough victims to come forward, Ackman quite correctly asserted that the majority of victims were from the Latino community where herbalife had a huge customer base and as a result, many of them may not have been legal and so were understandably reluctant to come forward. But this doesn’t still explain why there were so few victims. In 2009 the percentage of latino distributors was 64% and in 2015 it was 36% so at the height of the battle, 64% weren’t Latino, and also it’s worth pointing out that it’s pretty presumptuous of Ackman to infer that most of these Latino’s were illegal. Also Ackamn spent $50 million building his case against Herbalife- you have to ask if this was money well spent- if as he says it was difficult to get victims from the latino community, then why didn’t he get victims from elsewhere? If, as he says, there were so many distributors who were being fleeced by Herbalife, why couldn't he find them?

And why could he not have somehow found out that magic figure- the % of actual consumer sales?

But I’m not backing Herbalife here- this is simply a criticism of Ackman’s strategy. Also, the fact that Ackman couldn’t find a smoking gun is neither here nor there because as far I’m concerned there was plenty of information and smoking guns already there-I find the whole MLM business model very shady and a smoking gun in itself- I don’t think it’s a viable or trustworthy model. Now I’ll admit that I’d need to do a bit more research into it, but from what I know of it, I think it stinks.

The start of 2014 things didn’t get any better for Ackman- by this stage Herbalife shares were at $82 (note Danile Loeb had sold out by this stage- having bought at around $26, he sold at around $44-$48 making a nice bit of money in the process).

The NY Times published a detailed and very damaging article where they highlighted underhand tactics in Ackman’s lobbying campaign- including 26 instances where the exact same letter purportedly written by different people were sent to legislators encouraging them to investigate Herbalife.

Meanwhile, Ackman, eager as ever to hog the limelight and publicise his moral crusade, continued with more live presentations where he over-promised and under delivered- one of these is shown in the documentary where he and Christine Richard give a lengthy presentation, again with hundreds of slides exposing Herbalife’s nutrition clubs- but even the people in the audience seem to be pretty exasperated with the presentation- they’re more or less asking - where’s beef. Indeed while Ackman was giving that presentation, herbalife’s share price increased by 13% and closed the day up a staggering 25%. This was getting bad- Herbalife were making jokes at Ackmans expense tweeting that they wished Ackman could give presentations on Herbalife every day.

Ackman was down and almost out, indeed he talks about how he was just about to pull the trigger and cover his short position when news filtered through in March 2014 that the FTC was opening an investigation into Herbalife. Ackmans lobbying had finally paid off.

Herbalife’s shares fell 17% and got worse a few weeks later when it was announced that the FBI and the DoJ opened criminal probes into the company, bringing Ackamn to near break-even. Compounding Herbalife's difficulties were a drop is revenue over the next 2 quarters, their first drop in years

By year end the shares had dropped below $40 and with other good investments, Ackman's fund was up 35% and by the end of 2014 his fund had ballooned to $20 billion

Pershing and Ackman were lauded very publicly for a great 2014

But what makes this story so great is that it’s a true roller coaster, it’s full of twists and turns and Ackman and Pershing were in for a very nasty turn.

In 2014 Ackamn started investing in Valeant a Canadian pharma company that was growing at a rapid speed mainly through a mixture of aggressive acquisitions, cutting back and research and development and then hiking up the prices of many life saving drugs- given Ackman’s supposedly high morals it was a strange bet, even more so when you consider the fact that he bought in when the shares were at $161, already pretty high - Ackman himself admitted that they were late to the party. Note, Ackamn was going in as an activist shareholder, not as a short seller.

And as always, Ackman went big, investing almost 20% of Pershing’s capital into Valeant. It looked good initially and by the middle of 2015 Valeant's share price hit a high of $263 but as news continued to gather pace about Valeants price gouging (examples: heart drug Isuprel increased from $4,489 to $36,000 in 2 years, diabetes drug Glumetza 90 pills went from $900 to more than $10,000), combined with other reports that included a total lack of transparency in how Valeant ran it's business, led to the share price dropping dramatically in August 2015.

Herblaife bounced back in 2015 posting increases in revenue and it’s share price went up to $60- by this stage, for Ackman to break even given the investment he’d made into the stock, in lobbying, reports, etc (around $50 million) as well as the $100 million per year he was paying annually to maintain his position, , the stock would need to dip to the low 30s.

And while 2015 turned out to be a pretty bad year for Ackamn and pershing square, it was about to get way worse in 2016.

Valeant shares continued to drop yet Ackman continued to hold their stock- in one of the articles on Ackman the reporter mentioned that in the corner of the conference room stands a striking memento: a rocket-powered ejection seat that once accommodated the pilot of a Canberra nuclear strike bomber of the 1950s. It evokes a crucial skill for a hedge fund manager: knowing when to bail.

Ackman should have bailed on Valent long before it got this bad- this one bet ended up costing Ackman $3 billion. Whether or not he should have bailed on Herbalife is open to debate- remember, the FTC’s investigation was ongoing- if they found Herbalife to be a pyramid scheme, then Herbalife could go out of business.

In February 2016 news came out that the FTC were near completion of their 22 month investigation and they had sent Herbalife a formal complaint. This opened the door for settlement talks that were completed in July 2016.

initial reports headlined a $200 million fine and the fact that the FTC did not call Herbalife pyramid scheme

Herbalife shares surged pat $70- a 2 year high

Herbalife claimed victory but the settlement was far from a clear victory- the FTC did everything but call Herbalife a pyramid scheme- it also required that herbalife make fundamental changes to restructure its business practices so that participants are rewarded for what they sell, not how many people they recruit

The FTC report goes almost to a line in saying that Herbalife is a pyramid scheme without actually calling them that

The FTC said their compensation program doesn’t incentivise retail sales, but rather focuses on “the recruiting of additional participants who will fuel the enterprise by making wholesale purchases of the product”.

In the press conference the FTC chairwoman Edith Ramirez said: “the small number of distributors who did make money were paid by herbalife not for selling the company’s products, but for buying the products themselves and then successfully recruiting large networks of others to do the same. That’s why in addition to charging deception, the complaint alleges that herbalife's compensation structure is unfair because it rewards it’s distributors for recruiting other to join and purchase products to advance in the marketing program rather than in response to actual retail demand for the product”- is that not the definition of a pyramid scheme?????

And when it was pointed out to Ramirez that this sounds like the FTC is doing everything but the most important thing, i.e, calling out herbalife for being a pyramid scheme, , she sad that her focus isn’t on the label, and she admits that while the word pyramid didn’t appear in the report “they were not determined not to be pyramid scheme.” This is really baffling- if they were not determined not to be a pyramid scheme, then by logic, that makes them a pyramid scheme- so why not call them out on that? I suspect that the ties between the FTC and the MLM sector, with former senior FTC executives working within the industry, combined with the lobbying impact/influence of the MLM sector in Washington, played no small role here.

Michael Johnson spun this as and I quote: “an acknowledgement that our business model is sound”. 4 months later he stepped down as CEO

Ackman believed that these and other new restrictions would bring Herbalife down and while pissed that the FTC didn’t go as far as stating that herbalife was a pyramid scheme, he still felt vindicated, while Icahn and others who backed Herbalife felt that they too were vindicated

Overall however the verdict was seen as a victory for Icahn and Herbalife and a defeat for Ackman- Herbalife shares surged past $70- a 2 year high. After the FTC settlement there were moves for Ackamn to buy Icahn out but they fell through and Icahn actually went on to buy another 2 million shares

As already mentioned, in 2017 Ackman sold out of valeant losing just over $3 billion, going down as one of the worst losses in hedge fund history, and his assets under management went from $20 billion to $11 billion.

In November 2017, Herbalife's stock skyrocketed 51% for the year, forcing Ackman to change his approach. He closed out his short position and converted it to a put position. And just 3 months later in early 2018 Ackamna dumped all of the stock and lost about $1 billion.

Icahn eventually sold his herbalife stock in 2021 earning about $1.3 billion from his investment.

However, in the last few years it’s Ackman who has had the last laugh- his Pershing Square fund has bounced back remarkably since the lows of 2018 with successful investments in Chipotle and Alphabet paying off handsomely-other than a small drop in 2021, since 2019 the funds has performed very strong- in 2023 the funds was up a very impressive 26.7% and in 2023 it had about $18 billion under management

Icahn, on the other hand, has had a very bad few years. His net worth is now down to $5.3 billion, well below the $20 billion mark at the height of his powers., Indeed in the last year alone over $10 billion has been wiped off his worth as shares in Icahn Enterprises fell dramatically after a short seller produced a report that highlighted some irregularities with the way in which Icahn companies were structured as well issues related to loans that Icahn hadn’t disclosed.

News for herbalife is even worse- in 2024 herbalife’s market cap dropped to $830 million down from a high of $7.4 billion in 2019 and a long way off the $5 billion market cap it enjoyed during the years when Ackamn and Icahn were duking it out.

This triggered some gloating from Ackman, who claimed in a posting on X that his “psychological short” on Herbalife stock had been justified.

Despite the return of Michael Johnson as it’s CEO, increased costs and a drop in earning has had a big impact on the share price

Conclusion

Ackman is an ego-driven vigilante disguising himself as a moral crusader, and while he can often come across as charming and even reasonable, a little bit of digging exposes a huge level of hypocrisy and dissembling- in short he’s not my type of guy

Jordan is harder to categorise, but I don’t trust him, I trust Walsh even less and I think the whole MLM business model is shady as hell- if you have a great product or service, put it out there, let the market decide.

Icahn, while probably the most ruthless of the 3, is also the smartest and most likeable

Resources

https://www.youtube.com/watch?v=V3nwpJ79kIw

https://www.youtube.com/watch?v=s6MwGeOm8iI

https://fortune.com/2024/02/15/bill-ackman-herbalife-32-percent-stock-fall-psychological-short/

https://www.marketwatch.com/story/herbalifes-stock-plunges-30-and-bill-ackman-revives-his-pyramid-scheme-attack-289fb31e

https://www.youtube.com/watch?v=K49_KWnx8g8

https://www.youtube.com/watch?v=s6MwGeOm8iI

https://www.cnbc.com/video/2013/01/09/selling-the-american-dream-investigations-inc-.html

https://fortune.com/2015/09/09/the-siege-of-herbalife/

https://fortune.com/2016/04/27/ackman-valeant-drug-prices-hearing/

https://www.nytimes.com/2015/11/10/business/dealbook/ackmans-enigmatic-investment-philosophy.html