It was the night before Christmas... falsifying Bill Ackman's Herbalife thesis

It was few days before Christmas and Sahm Adrangi (from Kerrisdale Capital) pinged me (on Google Voice) asking if I had an opinion on Herbalife.

I responded: "why bother? Crowded short."

I knew a little about Herbalife. It was a multi-level-marketing scheme (MLM) selling mostly weight loss products. This was a scheme where instead of buying weight loss products from a grocer or a specialist shop I purchased them from a friend. And the friend could make money two ways - either by selling product to me or recruiting me to sell product to other people.

I have long held a distaste for MLMs seeing how Amway used to behave in Western Sydney. Amway sold overpriced crap to distributors who were a collection of no-hopers and recovering drug dealers. (Contra: I also knew a very successful Avon lady... and she convinced me that MLMs sometimes sold useful products well.)

That said, Sahm just told me to listen to the Bill Ackman presentation. Sahm is crazy-smart so if he tells me to listen to something I listen.

Anyway, I unfurled myself on the couch at work for three hours of (Bill's) self indulgence.

Bill Ackman's thesis about Herbalife is that it is a pyramid scheme, hence

(a) illegal,
(b) unsustainable, or
(c) both illegal and unsustainable.

He has several key slides to support this thesis...

First he makes out that people don't really know what Herbalife is. He uses comparable companies being Church & Dwight, Energizer and Clorox.

I confess to knowing few Herbalife products - so this was modestly convincing.

He then - using that piece of rhetoric asserts that Formula 1 is the only $2 billion brand that "nobody has ever heard of".

So far, so good. He does not assert the sales are not real though (because they are). Indeed he acknowledges the company is real and that the gross margins are superior.

Through a process of elimination he shows that the gross margins are not a result of superior product (its a commodity), superior technology (they do not have any), superior R&D (they don't do any) or any of half a dozen other reasons you might have superior margins.

After that he asserts (and then tries to prove) that the gross margin and indeed the whole business comes about because it is a pyramid scheme.

He uses an old Federal Trade Commission (FTC) definition of a pyramid scheme - and it is the definition which we will go with because this determines whether Herbalife is illegal (in the US anyway) and the FTC definition overlaps with what would commonly collapse as a pyramid anyway.

Here is the slide defining a pyramid scheme.

This legal definition is the core to the whole Herbalife story - so I will write it out:

If an organization sells goods or services to the public and the participants in the organization obtain monetary benefits from (1) recruiting new members and (2) selling the organization's goods and services to consumers, the organization is deemed a pyramid scheme if the participants obtain their monetary benefits primarily from recruitment rather than the sale of goods and services to consumers. [Emphasis as per Bill Ackman...]

In summary: real sales to consumers is kosher. Sales to distributors (and not to end consumers) are not kosher. A little of the latter is OK (the distributors do need to have some stock). A lot of the latter is not.

The critical question is how much are sales to consumers.

And here the question arises: what is a sale to a consumer versus a sale to a distributor. After all if a distributor buys the product for their own use they are considered a consumer. If the distributor buys it to sell it (and they are stuck with it) then they are a failed distributor. End consumption is what matters here.

Slide 119 asks this question fairly directly:

To quote:

How much product purchased by Herbalife distributors is actually resold to Retail Customers?

The next slide repeats the now infamous David Einhorn question on a conference call (the one that caused the stock to drop 20 percent). It is a question that Herbalife answered very badly...

Again I will quote because it is critical:

Question #1 from David Einhorn: "First how much of the sales that you'd make in terms of final sales are sold outside the network and how much are consumed within the distributor base?"
Answer: We don't track this number and do not believe it is relevant to the business or investors.

The full text of the Einhorn question and answer session is at the end of this post...

Bill Ackman does not state it - but the question was asked on 2 May 2012.

Anyway this is a terrible answer and left Herbalife open to the Ackman attack because a surprisingly large proportion of the sales are not to externals but to people who are signed up as distributors. Self consumption by distributors is a critical issue and the company said they did not track it.

Three weeks later Herbalife was in damage repair mode - trying to distance themselves from this answer. Ackman puts up several slides dealing with this - a typical one is repeated below...

Again - for completeness I will put up the Ackman highlighted sections...

"...the attempt of Herbalife 101 was to break the distributors into single and multilevel. Why? Because A, it is truly single, and B, nobody questions single-level, knowing that most people who are in single-level aren't in it to make a lot of money. They are in it for part time or it self-consumption. If you go back to the old Avon model, before they were multilevel, right, self consumption, not even an issue. It is not covered on the FTC's website. It is expected."
And later...
I think it has been misrepresented as the product needs to be consumed outside the network, which it does not. A, the FTC said it does not. But B, wehn you think of the 82% of people at single-level, which is, again, that is all they are, it is not even a consideration as a challenge to the model.

Essentially the company eventually answered David Einhorn by asserting that the single level distributors are basically self-consumers - and hence part of the consumption set rather than part of the distributor set.

And this is the critical question. If the single level distributors are distributors without end sales then this is a pyramid. If the single level distributors are really consumers then this is not a pyramid, is legal and probably sustainable.

The company clearly has some explaining to do. What they are asserting is that millions of people sign a 48 thousand word distribution agreement, pay a $55 fee to become a distributor and buy product then just consume it themselves anyway. Bill Ackman clearly thinks this is BS.

The company asserts they do this because if they sign up as a distributor they get a 25 percent discount. It makes their personal consumption cheaper.

Bill Ackman then asks the following (possibly rhetorical) question:

Again to quote:

Why would anyone pay $55 to get a 25% discount when Herbalife products are widely available online for discounts of more than 35%?

Ackman answers this question with the following slide:

Bluntly - and this is the critical step in his argument that "We Believe the Majority of Herbalife's So-Called "Discount Buyers" are, in Fact, Failed Distributors" [punctuation in Ackman original].

About this time Sahm Adrangi pinged me again. It was one of those classic Sahm Adrangi observations - super-smart but I don't think how smart he realized it was.

He said that Ackman's assertion is really funny. He was imagining billions of dollars worth of Formula 1 diet supplements sitting on people's shelves or in their garages unsold. They sell almost two billion dollars worth of Formula 1 per year - on my count roughly 120 thousand metric tonnes per year. Most of that is sold to "distributors" who may or may not be "discount buyers". If they are - as Bill Ackman asserts - "failed distributors" then maybe 50 thousand tonnes of this stuff are building up on shelves and in garages every year.

If that 50 thousand tonne per annum build up is real then Bill Ackman is right.

And if that 50 thousand tonne per annum build up is not real then Bill Ackman is wrong. He is falsified. The whole Bill Ackman thesis falls apart.

We at Bronte are really into our epistemology. We seek things that can falsify our thesis - and if our thesis does not conform to reality then it does not matter who we are (Bill Ackman or Richard Feynman) and it does not matter how smart we are, we are wrong. Indeed here is Richard Feynman explaining process...




Indeed this video (and you really should watch it - visitors by email should go to the blog) lays it out.

You make a guess. You calculate the implications of the guess. If those implications do not square with observation then the guess is wrong.

Ackman made a guess - the guess is that the "so called discount buyers are in fact failed distributors".

The guess implies that there is a 50 thousand tonne per annum build up of Formula 1 on shelves and in garages of failed distributors.

If that calculation does not conform to reality then Bill Ackman is wrong (and it does not matter who he is, how smart he is or how beautiful the thesis)...

Our attempts to observe the 50 thousand tonnes per annum build up...

At Bronte our version of investing nirvana is when we can find theses on which you can make or lose a lot of money. And then peculiarly we can design simple falsifiable tests. Sahm Adrangi (bless his brilliant soul) provided us our test...

Go find (or fail to find) that 50 thousand tonnes per annum build up...

To start I asked some Herbalife distributors (found via the internet) what their stockpile was.

The answers were so small that they could not possibly account for the necessary build up.

But I guess those are the successful distributors as they can be found via the internet.

So I tried to think like a failed distributor.

If I was a failed distributor I might have $2000 worth of this getting old on my shelf. I might (reasonably) want to recover some money. So I would sell it.

Where? Craigs List or Ebay.

If I found lots of desperate distributors - failed ones - selling it on Ebay then Bill Ackman is probably right. If there are no such people then Bill Ackman is wrong. Simple test. And I can do it for any city or country in the world from my desk at home. For example I could use a proxy server and log into Ebay in France and test there. Which is what I did.

Anyway here is an example - Craigs List, Chicago, complete Herbalife listing...

It is a grand total of six people, five of whom present as small time failed customer/distributors and one of whom is trolling for business as a continuing distributor. The small-time distributors have some opened product (as in I started this diet and it was not for me).

I have done this test for many cities - and I simply have not found the level of distress. However if you go to a city with a large Hispanic population you find a lot of adverts. Los Angeles has many but almost all of them are continuing distributors wanting to sell products. This is a typical advert:

This person has been advertising on Craigs List for some time.

There are also adverts pitching that if you "sign up with me" you can have a permanent 25 percent off your Herbalife products...

In other words they are pitching precisely the offer that Bill Ackman (rhetorically) thinks is implausible.

So far I have found nothing like the level of distress that would be implied if Bill Ackman's thesis is correct.

So I looked at Ebay. Linked is a typical seller... the seller has sold well over 2000 Herbalife items, all with a minimum price (typically a 35 percent discount to retail) and over a multi-year period. They often detail their use-by dates - and those use-by dates change over time (suggesting that the product was purchased at dates that also changed over time).

When you try to communicate with one of these sellers you work out the truth. They are higher-level distributors. They buy the stuff effectively at a 50 percent discount (or 42 percent discount) and sell it at a 35 percent discount and thus make a profit. They are not failed distributors. Instead they are discounters gaming the system by trying to capture the bulk of the profits of the chain.

I looked and looked. Honestly I did. And I could find no evidence of large sales at distress - the sort of sales that would happen if there were 50 thousand tonnes per year build up of unsold inventory in the hands of "failed distributors".

And so we have it. Bill Ackman had a thesis. I calculated the implications of that thesis (distress selling on Ebay and Craigs List). This observation did not accord with reality.

Therefore Bill Ackman is wrong. And it does not matter how beautiful Bill Ackman is, how smart he is, how rich he is, or whatever. He is still wrong. And there isn't any room for argument about it.







John

PS. Bill Ackman being wrong does not make the stock a great buy. Indeed Bill Ackman being wrong does not tell me the truth. I can't find the truth with any certainty. I can only falsify ... I have a series of theses about the truth but they are subject of other posts...

There could be one of hundreds of other things wrong with the company (and hopefully those are testable things).

But we can be certain of one thing: Herbalife is not a pyramid scheme in the sense promoted by Bill Ackman. We can take the 300 page Bill Ackman presentation and throw it out. Falsified...

And any journalist (Michelle Celarier) who continues to take Bill Ackman seriously on this issue has disconnected from reality.


J



Appendix - the full text of the Einhorn question and answer session

David Einhorn

I've got a couple of questions for you. First is how much of the sales that you make in terms of final sales are sold outside the network and how much are consumed within the distributor base?

Desmond Walsh

So, David, we have a 70% customer rule, which effectively says that 70% of all products is sold to consumers or actually consumed by distributors for their own personal use. So, obviously, what we've seen with Nutrition Clubs is that we now have visibility for the first time to our customers. You know that we reported on this call for the first time, the number of commercial clubs around the world, which is in excess of 30,000. So that has given us visibility to the tremendous amount of products that are being sold directly to the consumers and we see that as a growing trend in our business.

David Einhorn

So what is the percentage that is actually sold to consumers that are not distributors?

Desmond Walsh

So we don't have an exact percentage, David, because we don't have visibility to that level of detail.

David Einhorn

Do you have an approximation?

Desmond Walsh

So well, again going back to our 70% rule, we believe that it's at 70% or potentially in excess of that.

David Einhorn

Okay. What is the incentive for a supervisor to sign somebody up to become a distributor as opposed to -- if they're just going to consume it for themselves, as opposed to just selling them the product for the markup? How does the supervisor come out better?

Desmond Walsh

Sure. So I think there's 2 reasons for that. So we know from our business today that many of our future supervisors and business builders come in as customers and then they become distributors. So the benefit from a supervisor is the ability for a greater retention of that customer/distributor because they are now earning a 25% discount. The second issue is that it preserves lineage. So obviously, if I sign you up, David, as a distributor, my hope and expectation is that based on the tremendous product result that you're going to achieve, that you will have friends and families go to you and say, gosh, David you look great, what are you on? You're going to respond and say I'm Herbalife and that will encourage you to say, wow, maybe this is a business opportunity I could be interested in. So the benefit for me as your supervisor is one, the discount that would get and therefore, my greater likelihood of retaining you as a permanent customer. And secondly, the hope that at some stage, you will decide to do the business and therefore, that you are already in my lineage and is part of my group.

David Einhorn

But just trying to understand this clearly. If I sell to a customer -- I bought it, I'm a supervisor, I buy at a 50% discount, I sell to a customer and make 50 points if he pays the full price. If he signs up as a distributor and buys it himself, he gets a 25% discount and I get 7 points as a royalty, is that how it works?

Desmond Walsh

No. You will get the other 25%.

David Einhorn

I'll get the 25% plus the 7.

Desmond Walsh

So unless you're earning royalties, you would simply earn the difference. So you're in a 50% discount, you're selling at a 25% discount. And so the difference between the 2 is your profit on that sale.

David Einhorn

Right. So if he signs up as a distributor and buys it for himself from Herbalife, I still get the 25%?

Desmond Walsh

That is correct.

David Einhorn

Okay, good. One last question. When you had your previous 10-K, you disclosed 3 groups of distributors at the low end. You called 29% self consumers, 57% smaller retailers and 14% potential Sales Leaders. And then that disclosure did not repeat in the subsequent 10-K. So I've got 2 questions. First of all, how do you track that and how do you characterize and know which ones are which? And second, why did you stop disclosing that in the last 10-K? Is that something that you've stopped tracking or just stopped disclosing?

John G. DeSimone

This is John. The criteria for grouping distributors into different classes was based off of their volume purchases. And we make assumptions that people below are a certain volume weren't doing the business, they were buying self consumption. And I don't remember the exact amounts but I can get it to you after the call. It's how we delineated between the 3 classes. One of the reasons we took it out of the 10-K is a change in CFO for which to me, I didn't view it as valuable information to the business or to the investors. However, we can easily provide the exact same breakout going forward if you like. I could email it to you and to our investors. Again, I don't remember the exact delineation between the 3 classes but I can certainly get it to you. Our objective is to be completely transparent.

Notes on visiting an Herbalife nutrition club in Queens

I visited a Herbalife nutrition club in Queens. There is plenty wrong with this company – but this is not a post about the things that are wrong with the company (most of those I will leave for other people to think about). This is simply a post about what I observed and the implications for Bill Ackman's Herbalife thesis.

(a). There are a lot of Herbalife nutrition clubs in Queens. This is an Hispanic area and within the US Herbalife is mainly an Hispanic phenomenon. If you use Google satellite navigation on your phone you will find lots Herbalife clubs (dozens are listed around Corona Queens) though some of the ones you try to locate will not be there any more (suggesting they have either moved or closed).

(b). I was told the best time to visit a nutrition club was between 7 AM and 9 AM so I dutifully arrived at about 7.15. The club was empty. I was told to go with a Spanish speaker because the clubs were pretty close to mono-lingual Spanish. The club was not signposted from the street and coloured paper made opaque the windows so a passer by would not know what was in there.

(c). I was served “all three” meaning an aloe drink, a diet suppressing tea and the protein shake.

(d). This was the first time I had drunk a protein shake. I can tell you they suck - so does the tea for that matter. This stuff tastes unbelievably bad. It is flat-out-gross. I sent an email (with the trusty smart-phone) to a friend in Asia explaining where I was and told him how gross it was. He puzzled: he asked if I was a virgin. He explained that when he was a competitive lightweight rower (he rowed for an Ivy League university) he used to live on protein shakes as he had to keep his weight within the limits. And he exercised extensively on them. Exercise and protein shakes is a well-worn and proven weight loss combination. But they do taste gross. [I have been informed that Herbalife taste slightly better than some protein shakes at the cost of adding some sugars – also I have been informed the texture is much improved by blending in a banana or even a mango....]

(e). There were no visitors prior to 8 AM. By 8 AM I was going to sell my entire Herbalife long and give up on the position. My Spanish translator talked to the guy running the place and he told us roughly how many visitors he got a day and told us the time they came in – and that it really started by about 8 AM.

(f). The translator was correct. The visitors started around 8 and in the next 75 minutes over twenty came in. They came in roughly to his schedule suggesting that they were regulars. They spoke in Spanish and he spoke to them as friends. Most of them were either no longer obese or in the transition from being morbidly obese to (merely) rectangular shaped.

(j). The key product: the proprietor/distributor greeted the visitors as friends and offered moral support as they drank the tea and the shake.

(k). There was a series of before and after photos on the wall. They were impressive – many of the customers – and the husband and wife team that ran the club – had gone from balloon shaped to roughly rectangular. [I gather before and after photos are impressive at other weight-loss groups such as Weight Watchers - however in this case there were a lot of impressive photos for a very small club.]

(l). The husband and wife who ran the shop had been Herbalife customers for about five and a half years and had been running the club for about eighteen months. They were true believers in the product – extolling its virtues and also repeating mostly in Spanish but also in Spanglish the benefits of the Herbalife system. [In their case they also also extolled the virtue of replacing the fat-and-cheeze laden meals that were non Herbalife with something more nutritious and the virtue of some exercise even if it was just walking further.]

(k). The benefits of the Herbalife program in the wife's case were real. The wife had gone from a three insulin shot per day diabetic to a half insulin shot per day diabetic. [Statistically this should add over 15 years to her life expectancy.] Her prior body was balloon shaped.

(l). On the wall was a list of the seventy odd people who regularly attend this Herbalife club. There was a list of gold stars against the names with weight-loss and Herbalife consumption targets on them. Clearly the gold stars were part of the reward system. This looked a little like primary school.

(m). We asked if he had any “downline”. He explained to us that every one of his core customers was also a distributor – and they were a distributor to get the 25 percent discount on stuff they took home.

Observations

This club was not a club selling diet drinks (but it clearly did that). It was a club selling the social support group necessary to drink diet drinks. These diet drinks work (especially when combined with a modicum of exercise). What happens though is that normal people do not have the will-power to maintain a diet drink and exercise regime. My friend in Singapore did – but then he rowed competitively and people into rowing are austere driven people (think all those 4 AM starts).

But I am a fairly disciplined person and - without social support I could not drink these shakes.

In the richer-parts of our society we have a solution to diet-and-exercise will-power problem. We hire a personal trainer (usually someone cheerful, younger and good looking) and they cajole us into weight-loss. This is a “for-hire” personal support group.

But Herbalife is another valid mechanism of getting personal support – and it clearly worked on the customers I saw. Personally I find it very difficult not to endorse a product that reduced to one sixth a person's insulin injection requirement. If Bill Ackman thinks America would be better off without Herbalife he could politely explain that at the woman's funeral.

I will - in the interest of fairness - include the main negative observation: the man who ran this shop covered his rent (we worked that out) but he was cheerful man working hard (80 plus hours a week) and making an amount that was less than minimum wage. I gather than many (possibly a majority) of Herbalife clubs do not cover rent (consistent with the observation that there are lot of Herbalife clubs in Google maps that no longer seem to exist). Minimum wage appears to be the upside.

This showed both the benefit and problems with multi-level marketing. The benefit is that it allows a company (in this case Herbalife) to get deep into a community and that is a necessary part of the product – the product they are selling is community support for weight loss and they can't do that without getting into the community. The problem is that the company actively recruits distributors to the point that it is impossible for the distributors to be good businesses. Indeed as the rewards to many people in the chain are on recruitment (and you can't make it up the chain without a substantial “down-line”) it is likely that recruitment will continue until the distributors make nothing (or less than nothing when convinced to sign up by hard-sell rather than rational argument).

There were so many Herbalife clubs around Queens that I suspect on average the Herbalife shops make something near nothing or less than nothing. The profile of a Ferrari driving Herbalife distributor that Mr Ackman presented was – at least compared to what I saw – ludicrous.

I wrote once about income distribution in the US by working out how cheap my laundry was in Brooklyn and working out that it was being done in a sweat-shop with illegal Chinese workers paid under minimum wage. [I got a lot of flack for that post from my libertarian readers.] The Herbalife distributor I met (who may also have been an illegal) had a better life than those illegal sweat-shop workers. He did not earn much more money – but his job was community based and he interacted as a friend with a great many customers. That I think was personally satisfying and he clearly was happy with his lot. And the product saved his wife's life which trumps most things.

Herbalife as exploitative in a Marxist sense

Herbalife is clearly an exploitative system in the Marxist sense. The head-honcho is paid well over $70 million derived from a vast network of people earning minimum wage or less. Dan Loeb (who now controls 8 percent of Herbalife) is someone who often attacks excessive salaries for senior executives. This could become quite amusing.

Some comments on Bill Ackman's thesis

It was striking how totally Bill Ackman's thesis fell apart from observing for just a few hours in a nutrition club.

The best way of analysing Herbalife that I can find is as alcoholics anonymous for fat (and very often Hispanic) people. I joke: “my name is Jose and I am fat”.

Herbalife works in the same way as alcoholics anonymous – by supplying (and in this case selling) a support group to help you kick the “fat addiction”.

Like Alcoholics Anonymous it has millions of members and looks – at least externally – a bit like a cult.

Herbalife like Alcoholics Anonymous has millions of members because it works. It does not work because one nutrition powder is better than another (indeed some nutritionists argue soy based powders are inferior). Herbalife works because of the support group.

AA is probably the single most effective way devised by humanity to cure alcoholics. It is far more effective than any drug developed by pharmaceutical companies and if a drug were devised as effective as and as free of side effects as AA then it would be worth tens of billions of dollars. Even then AA probably fails a majority of times. Herbalife is among the more successful ways of curing morbid obesity (but even then it probably fails a majority of times). [I shudder to think what a weight-loss drug as effective as the Herbalife support system would be worth though - considerably more than Herbalife's market cap.]

The biggest difference that I can see between AA and Herbalife is that Herbalife is (emphatically) a for-profit institution (and possibly quite an exploitative for profit institution) whereas AA is just a club.

Lets run through Ackman's presentation by section

Ackman on Herbalife as a commodity

From Page 21 to 26 of the presentation Bill Ackman “demonstrates” that Herbalife's products are not unique – and from that he argues that they do not maintain their price position by being a “proprietary product”. He compares the product to GNC and other brands and notes the price per serve or the price per calorie is higher.

This is a complete misunderstanding of Herbalife's product. GNC and other brands are sold as commodities. Herbalife is sold with a community support mechanism.

In Central Park anyone can go and have a run. It is free. It costs you $20 an hour if you exercise with a personal trainer. Comparing the price of Herbalife (sold through a network) to the GNC (sold without a network) is like comparing the cost of a run through the park without and with a personal trainer.

Bill Ackman has just missed the point.

Ackman on Herbalife's lack of advertising

From pages 27 to 31 Bill Ackman notes the lack of advertising expense on Herbalife (which he argues is very little) and says that they cannot maintain their price premium that way.

This is of course garbage. Herbalife has the best advertising possible – word of mouth. People will pay huge sums to Facebook for the hope of getting someone to “like” a product online and hence endorse it to their friends. Herbalife has far more powerful advertising support than that – it is deep in the community.

Alcoholics Anonymous has 2 million members and I have never seen an advertisement for the product. However like you I have heard of AA. Brand recognition for community based products is (naturally) very high. I suspect almost every reader of my blog has heard of Alcoholics Anonymous without ever seeing an advertisement.

That said Herbalife does sponsor one of the biggest football teams in the world (Barcelona). It also sponors LA Galaxy but nobody cares about them!

Bill Ackman on Herbalife's research and development

From page 35 to 50 Bill Ackman tells us all about Herbalife's (very thin) research and development program.

He is of course right that relative to its claims Herbalife has a very thin research and development program. So what: Alcoholics Anonymous – relevant to its claims – has a very thin research and development program. And yet it is known to work for a lot of people and the results are well known.

There is plenty of research that says social cues are important in whether you take drugs or not, whether you drink. And social cues are important as to whether you stay fat or not.

You don't need a lot of research to tell you that.

As Bob Dylan says: you don't need a weatherman to tell which way the wind blows.

The main Bill Ackman mistake

Page 164 of the Bill Ackman presentation lays out the key criteria for determining whether Herbalife is illegal. Here is the slide:

I will quote this as it is the core criteria for determining whether Bill Ackman is right:

The critical question for the FTC is whether the revenues that primarily support the commissions paid to all participants are generated from purchases of goods and services that are not simply incidental to the purchase of the right to participate in a money-making venture.

Bill Ackman spends most of his presentation arguing that Herbalife's product is the business opportunity. He argues for instance that most the product is sold to "distributors". This was clearly true in the Herbalife club I visited. Almost every customer was also a distributor. They however were clearly customers - they came in - they paid their money - they drank their shake. They look like customers because they were customers.

Bill Ackman calls these distributors victims of a false "business opportunity". Facts on the ground: they are customers.

That fact is very inconvenient for Bill Ackman because if they are customers then Herbalife is legal and Ackman's thesis falls apart totally.

Bill Ackman's logic as to why these distributors could not be customers is disarmingly simple - and amazingly erroneous. Bill Ackman argued that it was illogical for someone to sign up as Herbalife distributor for the 25 percent discount because even with a 25 percent discount the product was more expensive than commodity product available from GNC and other suppliers. [My Spanish translator came back to me with an errata on this point: he says that some of his downstream were considering the business opportunity - but the majority were distributors without any plans at all on the business opportunity.]

That is true. But it misses the point.

Remember those gold stars and the support group. If you buy weight loss shakes from GNC you do not get the gold stars. Buy the product from GNC and you are not part of this Latino self-help group. By not understanding Herbalife as a social support group for weight loss and by analysing the product as a commodity Bill Ackman has failed to observe what globally would add up to millions of customers. Real customers. The customers that make Herbalife legal.

What this story is really about

Herbalife is a company which combines a lot of good (think the life-saved diabetic above) with some pretty ugly features.

But this is not really a story about Herbalife - Herbalife will survive globally. Like all multi-level marketing schemes it will have its ups and downs. There will be all sorts of problems (such as tax compliance throughout the scheme, cash handling, perhaps even using Herbalife accounts to launder money).

What this has (deservedly) become is the story about how Bill Ackman can be so wrong. He spent (by his own admission) a year and a half analysing this company and his thesis can be falsified by visiting a few clubs in his home city. Bill Ackman's thesis is the most easily falsified bear-thesis I have seen from a major hedge fund ever.

You have to wonder how this happened. So I am going to tell you: 

Bill Ackman a Harvard educated (magna cum laude) billionaire New York hedge fund manager bet over a billion dollars on a short position (imperilling his fund and his reputation) without checking the facts.

And he did not check the facts because he was so rigid with a misplaced silver spoon that he could not stoop to sit on a subway for thirty minutes and talk with poor people for ninety minutes.



John

Bill Ackman's new best friend: Vladimir Putin

People with better knowledge of the details of Russia's sanctions seem to think that most Herbalife product will still get through - so Herbalife is not going to miss because of Russian sanctions. Further comment on the moral point of this post in the post-script.



The news of the day is that Vladimir Putin has banned the import of Western food into Russia.

Whilst nobody has said it yet this is almost certainly negative for Herbalife. Herbalife has a business in Russia and to the best of my knowledge has no manufacturing in Russia. Its not huge - Europe, Middle East and Africa is less than a sixth of Herbalife globally - and Russia is likely a very small part of that.

However I would be surprised if the EMEA segment did not shrink next quarter.

There are of course in Russia a bunch of distributors who have built businesses in Russia distributing protein shakes, running clubs and fitness businesses and the like. Their businesses will now fail - and it will not be the fault of Herbalife.

The miss will be of great benefit to Bill Ackman who is short this non-pyramid scheme and - at least on this trade - needs all the help he can get.

Bill Ackman will get some cheer from his new best friend Vladimir.

Sometimes the cards land right for a fund manager.

---

There are big problems closing a successful and honest direct selling organization. Many people have built legitimate businesses selling the product. Vladimir has no moral scruples but Herbalife (despite their reputation) do.

Herbalife has distributors in Venezuela who have built successful businesses there. There are now very strict currency controls in place - Herbalife sells product into Venezuela but can't get the money out. The currency they do have devalues fast. If they buy any property with the money its likely to get nationalized.

As a shareholder I wish that Herbalife would simply stop sending their product to Venezuela. Anything they send there is frankly lost.

However Herbalife feels integrated with their distributors - and responsible for them. To abandon a country is (morally) hard for a direct selling organization and Herbalife has a hard time doing it.

Vladimir Putin not so much.

---

What Bill Ackman wants the FTC to do in America is destroy the business of tens of thousands of people.

I will let you judge the morality of that.




John


Post script. When I started on Herbalife I believed every word Bill Ackman said - and I told the world so. But I was happy to own Herbalife for the bounce.

I have since become convinced that Bill Ackman is wrong on every substantive point. This is not a pyramid scheme - instead there are millions (maybe tens of millions) of genuine consumers - and tens of thousands (maybe hundreds of thousands) of people who have built legitimate businesses.

I believe the short case is aiming to destroy these businesses to meet the fantasy of a narcissistic hedge fund manager and the shorts in this case are deeply immoral.

Over time I have noticed the company being moral to a fault - most notably in Venezuela where they support the existing distributor base at substantial financial cost. 

It is about time the Herbalife longs spelled out what is happening here. People whose evidence is incomplete to the point of fabrication have grabbed the moral high-ground whilst they take an immoral argument. 

It will be okay in the end - the longs will make a fortune and the shorts will have their finances redistributed. However I am getting a little frustrated at people suggesting that I have the moral low ground.


J  

Ackman's Herbalife thesis: someone from the government will help poor people and billionaire hedge fund managers...

I was just on CNBC talking about Herbalife. Nervous as they come and was propped the wrong way by the sound guy (and hence never looked at Herb Greenberg who interviewed me).

But here is the quick summary.

I agreed with Bill Ackman that Herbalife is mostly about ripping off distributors and people at the end of the chain. The product is more than twice as expensive as competitor shakes. I called Herbalife "scumbags".

But they are highly cash flow positive scumbags and they will use the cash flow to buy back shares. Over the past five years the share count has gone from 140 million to 108 million and will fall further.

They are scumbags then - but they are scumbags working for stock market investors.

That I pointed out was similar to tobacco companies. Tobacco companies kill 5 million people globally per year - 400 thousand of them in the USA. Is anyone stupid enough to think the government would close them? That has been a bad short thesis for decades!

Bill Ackman is shorting a profitable company - and his argument is that they run an illegal pyramid scheme. By implication his argument that the government is going to somehow close them down.

That is a really truly awful short thesis - the short thesis that Government is going to come and help poor people and a billionaire hedge fund manager! Normally neither group is high on the agenda!

---

I said that I had reported many frauds to the SEC. Sometimes the SEC acted. Mostly it did not. When it acted it was often after the stock had gone to zero.

If my thesis was the government was going to help me then I got it wrong!

Bill Ackman has that one wrong!

---

I did not state other important parts of the argument.

(a). Being wrong on crowded shorts is very dangerous indeed. Herbalife is a crowded short - the short is however mostly one person - Bill Ackman - who has a massive position.

(b). The nutrition clubs have some merit. I once shared house with a lesbian Avon lady. She sold a couple of hundred thousand dollars worth of make-up a year. Her shtick was simple. She visited women stuck in outer-suburbia - the land of the 3 hours of daily commute. Their husbands were away from them for 11 hours a day and they were very stuck. She would play with them - putting makeup on them like 14 year old girls put makeup on each other. She would tell them they were beautiful and be supportive. This was multi-level marketing as decentralized support mechanism and it worked.

The nutrition clubs are like that. Fat men turn up and share a shake with other fat men and support each other to lose weight. It is sort of a Hispanic obese person's version of alcoholics anonymous. Mostly Hispanic anyway - as it started in the Hispanic community. Guys turn up and they say something like "My name is Jose and I am fat". It works.

The Manhattan version of support for weight loss is a highly priced gymnasium with a personal trainer to push you to remove the pounds. But it is blindingly arrogant to believe that that is the only valid sort of support group for weight loss.

---

I also did not say what I think Herbalife's strategy should be. They are going to offer a defence. I think it should be bland - simply a statement of profits and maybe the merit of the system.

Anything to allow Herbalife to buy back more stock. Herbalife has a lot of capacity to buy back stock as it is very cash flow positive. The more stock they buy back the better for remaining shareholders.

I might wind up a remaining shareholder. So I hope they buy a huge quantity of stock back - and the easiest way to do that is to do that when the stock is cheap - that is right now.

---

As per usual on this blog I could be wrong. The government might just decide to help a billionaire hedge fund manager out and save Bill Ackman from his oversized position.

That however is something I am willing to bet against.




John

Mr Ackman, I forgive you. Mike fooled almost everybody...

Bill Ackman gave a presentation on Valeant (NYSE:VRX) and its relationship with Philidor on 30 October 2015. Most people remember the presentation because it went for four hours.

I just remember this slide:

It says that Pershing Square's perspective is - and I quote:

• Volume is primary growth driver for ~90% of Valeant’s business

It also states that there will be "no more “price increase” deals and that price increase deals were only four out of approximately 150 historical acquisitions.

Mike Pearson (the CEO of Valeant - now on medical leave at an undisclosed location) has repeatedly supported roughly this view. After all look at the first quarter conference call from last year (transcript here). Mike Pearson is asked specifically about price versus volume. To quote:

Gary Nachman - Goldman Sachs - Analyst 

...And then if you could quantify a little bit how much was price versus volume that contributed to growth in 1Q? And what do you factor in your full-year guidance price versus volume?

The response:

J. Michael Pearson - Valeant Pharmaceuticals International Inc - Chairman & CEO 

In terms of price volume, actually volume was greater than price in terms of our growth. Outside the United States it's all volume. In fact, we had negative price outside the US with FX. And in the US it's shifting more to volume than price, and we expect that to continue with our launch brands. 

A lot of our prices for most of our products are negotiated with managed care. And there's only a limited amount of price that we can take. And then if you look at our consumer business, very little. Walmart doesn't like price increases. If you look at our contact lens business, we're not discounting contact lenses. We are keeping the prices the same. I think there is some noise in the market that there's discounting going on. We're not discounting, but that's all volume growth. And similarly in the cataract surgery market, again, we're just holding our prices. So it's primarily volume, and we expect that to continue.

You see everything that Bill Ackman said was consistent with what Mike Pearson was saying.

Alas it is not true!

Today we got an insight into Valeant's price and volume strategy and it categorically demonstrates that Pershing Square's perspective (as quoted above) is false. The source is a summary of Valeant's documents given in response to Congressional subpoenas.

One tartly pertinent quote:

On May 21, 2015, then-Chief Financial Officer Howard Schiller sent an email to Mr. Pearson with the subject “price volume.” He wrote: “Last night, one of the investors asked about price vs volume for Q1. Excluding marathon, price represented about 60% of our growth. If you include marathon, price represents about 80%.”

You see Mike Pearson apparently knew that growth was driven by price. If you include Marathon (the Nitropress and Isuprel acquisition) price represented 80 percent of volume. And that was an email from Howard Schiller (current acting CEO) to Mike Pearson (now CEO).

Mike Pearson lied in the conference call. This seems beyond dispute. Just compare the quotes.

Moreover the Congressional documents show that multiple acquisitions have been driven by a pricing strategy. Bill Ackman said that "price increase deals" were a minor part of Valeant's strategy. He has been proven wrong.

I do not think Mr Ackman was deliberately wrong. Mike Pearson misled the world in the first quarter conference call (and in other conference calls). Mr Ackman was wrong because Mike Pearson misled him.

And that is understandable. Mike Pearson convinced many people.

So Bill, you told the world untruths, but they were not deliberate. Mike fooled you.

Love as always,



John


Post script: 

Some may ask why I picked on Pershing Square as the victim of Mike Pearson's apparent deceptions. After all Ruane, Cuniff & Goldfarb, T. Rowe Price, ValueAct Capital Management, Viking Global, Paulson & Co. and an ambush of Tiger Cubs are major Valeant holders.

I picked on Pershing Square because of this - a slide in an old Pershing Square presentation:

Pershing Square signed a confidentiality agreement (9 February 2014) and this allowed them to conduct "substantial due diligence" on Valeant. This included:

• extensive management interviews
• a review of parent and regional business plans
• a review of historical and projected organic growth by business unit and region.

We now know that many acquisitions were price driven and growth was driven by pricing but Mr Ackman told us otherwise...

Either

(a) Mr Ackman knew that price not volume was the driver but told us otherwise

or

(b) Mr Ackman thought he was telling the truth when he said that volume, not price was the driver. But he thought that because the company systematically misled him. The deception came not only from Mr Pearson but was repeated throughout "extensive management interviews".

I believe Mr Ackman thought he was telling the truth. (I could be persuaded otherwise but at this time Mr Pearson's credibility is more questionable.)

And if Mr Ackman thought he was telling the truth and he was systematically misled it is pretty obvious what he must do. He must sell his stock. He owns lots of Valeant stock.

If he keeps his stock now he is stating loudly and clearly that it is acceptable for him to invest 30 percent of his clients' money in a company which systematically misled him not just at CEO level but during "extensive management interviews".

Pershing Square surely cares more about the investment process than that.



J

An incomparable business opportunity allowing men and women to build a home based business of their own...

Herbalife is regularly criticized for selling the "business opportunity" rather than nutrition products. Indeed Bill Ackman (Herbalife's loudest critic) has used the following statements as evidence that what Herbalife sells is a "business opportunity" [which is a pyramid scheme] rather than products for end consumption. Herbalife is - in these statements:

"An incomparable business opportunity allowing men and women to build a home based business of their own", 

"An approach that has a lot to teach anyone who is reaching for the American dream", 

"Truly loved by its customers because it has found a need and filled it exceptionally",

"When you read profiles of the consultants [sales people] you may wonder what you are doing in your nine-to-five cubicles whilst [the consultants] are on their way to fame and fortune".

These statements of course are ample evidence that Herbalife is not really selling product but selling a fraudulent "business opportunity" and is in fact a pyramid.

Except that I am playing a game of misdirection here. These statements are not about Herbalife and they have not been criticized by Bill Ackman.

They are the statements about another multi-layer-marketing scheme - "The Pampered Chef" and they are made by none other than Warren Buffett. Warren Buffett (through Berkshire Hathaway) owns The Pampered Chef and its 60 thousand plus "consultants".

In a future post I plan to talk about why The Pampered Chef is a business worthy of being owned by Berkshire - why it meets Warren Buffett's (very high) business quality hurdle - and how Herbalife has some, but not all of the properties of The Pampered Chef.

But for the moment I want to note a few things.

(a). Herbalife and The Pampered Chef were both founded in 1980. Bill Ackman criticized Herbalife for being a recent company founded in 1980 - see this screen shot from Bill Ackman's presentation.

(b). Herbalife is much bigger than The Pampered Chef and more deeply embedded over the world, and

(c). Herbalife is growing at a high rate both relative to its past and relative to The Pampered Chef. Indeed if you look at Google Trends data Pampered Chef is in a slight decline but Herbalife has more interest than at any time in its history. In the following chart (courtesy Google) Blue is Herbalife searches, Red is "Pampered Chef".

(d). Herbalife is taking off in some large important markets. This for example is the UK:

This is the (potentially vast) market of India:

And even in markets that were once declining is re-emerging strong. (This is Australia...)

Pyramid schemes are expected to collapse under their own weight - and so if Bill Ackman is right it shouldn't matter what I say. But if Google Trends data is right then Herbalife is likely to beat estimates maybe offset a little bit by the strong US Dollar.





John

Bill Ackman enters the city of Stalingrad

A few days ago I wrote a post describing shorting multi-level marketing schemes as akin to the Battle of Stalingrad.

Little did I know that Bill Ackman was shorting well over a billion dollars in Herbalife stock. [If you need the figure you can back work it out from comments in this BBC interview.]

Ackman has publicly said his target for the stock is zero - and the size of his position (huge both with respect to the company and his fund) and the ferocity of his attack means that his only honourable out is the total collapse of Herbalife.

Moreover Ackman is a very wealthy man controlling funds considerably larger than Herbalife's resources. He has said he can't be bought off. The only way Herbalife is going to get rid of him is by totally defeating him.

This is the hedge-fund equivalent of Stalingrad. Someone is going to lose big. And the victor will be so bloodied that the word victory will sound hollow...

For a short-seller who is as risk-averse as me watching this is pure hedge-fund porn.







John

PS. I am utterly convinced by everything in Bill Ackman's presentation except the final conclusion - that Herbalife's stock will collapse. I took a long position on Christmas Eve. I suspect that Herbalife is so profitable and so powerful they will see Mr Ackman's attack off - and the easiest way to do that is to buy back stock (and make the stock go up). Mr Ackman has given them the incentive to return their huge (but tainted) profits to shareholders (and I plan to be a recipient shareholder).

PPS. Ten years ago Ackman's old fund (Gotham Partners) wrote a defence of a multilevel marketing scheme called Pre-Paid Legal Services. They were long (which turned out OK in the end). The PDF document was called: "A Recommendation for Pre-Paid Legal Services, Inc". If anyone has a copy of the original PDF I would appreciate it. These days the report is only remembered because Gotham wrote the bullish report and sold stock into the subsequent rise. Elliot Spitzer investigated (an investigation that went nowhere).

J

The Herbalife compensation puzzle

Before I went away I left people a puzzle - to force people to understand the Herbalife compensation scheme.

The puzzle was - and to quote:

Imagine you were the very first Herbalife distributor and you recruited three people and they - eventually and through their downline - recruited the millions of people who now consume and/or distribute Herbalife. 

And also presume you did nothing else for the rest of your career. You just sat there and collected the "recruitment rewards" or the "royalty checks". 

Roughly how big would your income be now? And from how many levels would you be collecting your income?

The reason that I posted this puzzle was that short-sellers (broadly defined but starting with Bill Ackman's original Herbalife presentation) have publicly said many false things about Herbalife - and one area of these falsehoods has been the remuneration scheme.

Specifically Ackman thinks that the scheme is designed to push large purchases of unsellable weight loss powder and enrich Herbalife and top distributors while defauding mostly poor Latinos.

And the guesses I have received for the answer conform to this suggestion. The typical guess was about $3-5 million per year. Christine Richard - one of the key outsource researchers for Bill Ackman was in the middle of that range (at $300,000 per month). I got one estimate of upward of $50 million per year.

These estimates are based on a false assumption - an assumption promulgated by Bill Ackman. The assumption is that Herbalife's compensation scheme is a conspiracy to enrich top distributors at the expense of middle and low level distributors.

This is to misunderstand the motivations of Mark Hughes who founded Herbalife.

Mark Hughes is a character about whom people have strong opinion. I have seen everything from a flat-out man-crush to utter revulsion. But whatever you say about him you have to confess he was a clever businessman.

He invented a monstrously complicated compensation system for Herbalife distributors - and it was invented to benefit his company and not the early distributors. He did not wake up one morning and say I will make these early distributors rich for life for just sitting around.

Mark Hughes wanted Herbalife to sell a lot of product. He did not want to pay distributors to sit around and do nothing. Indeed the scheme is designed so that if you do not stay active selling your income eventually tails towards zero.

Here is how the scheme actually works (and this is a simplification but these are the core ideas).

If you are a base level distributor you buy the product at a discount of up to 42 percent. You sell it at retail. You make a margin. 

At some point you become a sales leader. A sales leader is entitled to buy it at up to 50 percent discount. You can NEVER buy the product at a higher discount than 50 percent. 

But the sales leader is entitled to a royalty. The royalty is paid three levels deep. A recruits B recruits C recruits D recruits E then A is entitled to 5% of BCD but not E's sales. B is entititled to 5% of CDE sales. That way 15 percent more is paid out. 

This you are always entitled to - three levels deep.

After that there is a "production bonus". These are up to 7% of sales based on your level. However if someone in your down-line earns 2% production bonus then you are only entitled to 5%. And when your down-line is long and successful enough the entire 7% will be earned below you. You will be blocked and receive no income.

After that and if you are senior enough you may receive the Mark Hughes Bonus - typically 1% of all sales paid infinitely deep in the sales structure. HOWEVER if someone in the Chairman's Club is below you (and this happens) then you get blocked on that too. So you will receive no Mark Hughes bonus. 

The person I describe could never be in the Chairman's Club (to do that you need 5 people below you to make a certain level) but someone who was very early and has done almost no recruiting will almost entirely be blocked on the Chairman's Club as well.

So lets calculated the answer...

They do no sales - so they get no retail discount.

They have people three levels below them - so they receive 5% of their production - but their immediate network is either senior and doing few sales or sclerotic). This is the only income they get - and it is 5% of three levels. 

They are unequivocally blocked on the "production bonus" so they get nothing there and
They are not Chairman's Club or above because they recruited only three people - and if the recruited more they would be blocked for most of it anyway just because the very early guys have all been blocked out unless they kept growing their network. 

So all they get is 5% of three levels down - which is likely to trivial - probably less than $5000 a year.

Note the 50% plus the 15% plus the 7% plus the 1% is the famous 73% payout ratio. It all gets paid - just not to the foundation recruiter. In fact it gets paid to people they recruited, people who worked hard to build networks and make more sales.

The scheme is deliberately designed to reward active people who are growing their network not old codgers at the top. It is complex I will concede - but the complexity is designed to do almost precisely the opposite of what Bill Ackman claims it is designed to do.

How did the Ackman crowd - including Christine Richard get this so wrong?

According to the Wall Street Journal Bill Ackman's researchers are currently getting investigated for (possibly) lying to investigators about Herbalife.

And they have told untruths about the Herbalife compensation scheme.

But the scheme is complicated - and they looked at the scheme and saw what they wanted to see (ie evidence of a pyramid scheme benefiting the very top) and not what is actually there (a scheme designed to incent sales).

This was self deception - but it was self-deception aided by some Herbalife distributors who say you can build "residual income" by recruiting a large network. When distributors talk about sustained residual income they are not telling the truth.

Still there are resources on the web that help you understand it. There is one distributor who is trying to sell MLMs that are not Herbalife - arguing that there is a "flaw" in the Herbalife system that denies you residual income. They want to sell you an MLM that really is a pyramid. To quote...

Now it’s down to infinity until the next level ranking Distributor at your level reaches your level. So if I’m a President’s Team member or a Millionaire Team member and I have somebody underneath me that hits Millionaire Team member, then I’m blocked off of that production bonus.

Now how the production bonus works with the Herbalife Compensation Plan is let’s say I’m a GET Team member and I have 20,000 organizational volume points, I get a 2 percent production bonus.  I’m going to get 2 percent all the way down to infinity until somebody reaches the GET Team status underneath me. Once they reach the GET Team status underneath me and if I’m GET Team myself, not advancing to Millionaire Team status yet, let’s use that as an example, then I would be cut off or the breakaway of my production bonus would take place.

So the only time that you earn production bonus is when people are not at the same level as you. So if I’m a President’s Team member and I am earning a 6 percent production bonus, and I have somebody underneath me and my team that is a Millionaire Team status, the Millionaire Team status member would get the 4 percent production bonus and I would get 2 percent because there’s a total of 6 percent paid out, and that 2 percent production bonus I would earn until that person reaches the same rank. In the example, if I was President’s Team, once they reach President’s Team, I would be cut off from that production bonus.

One of my main things that we teach here at XXX is that you should never be penalized for developing leadership. You never should be in the fear that your income is going to drop based on someone advancing to a higher rank.

This is one of the key reasons of course why Herbalife is not a pyramid scheme. Any new member can reach the higher level - though very few do. It is really hard to develop an organisation that sells hundreds of thousands of dollars worth of Herbalife per month. Though every month in the US a few more people get inducted into the President's Team. And every month upper level distributors have their income reduced somewhat.

This is not the pyramid scheme Bill Ackman told us about.




John

Just how weak are Bill Ackman's examples?

Bill Ackman's ad nauseum attack on Herbalife has become a parody of itself. It has been widely acknowledge that Bill Ackman has had problems finding victims. He got the Nevada Attorney General interested but she told consumer activists that she was not going ahead without victims.

Ackman's websites however are truly strained. Here is a section from his profile of distributor Michael Burton. I am quoting verbatim:


The Burtons’ businesses do considerable damage to consumers.  Consumer complaints regarding Global Home Business Systems, for example, are particularly revealing:

• One complaint, from an individual who purchased the GHBS “starter pack” in order to “become part of the Herbalife Company,” cites the extreme difficulty of connecting with a GHBS employee who was supposed to assist in setting up that individual’s Herbalife business.  The complaint notes that it had been one month of “phone tag” and cancellations without any contact from the GHBS employee, despite the fact that “[GHBS] claim[s] that the whole program is up and running within 2 weeks.”  See http://www.ripoffreport.com/r/Global-Home-Business-Systems-HerbalifeElaine-Depinto/internet/Global-Home-Business-Systems-Herbalife-Elaine-Depinto-company-rip-off-complete-waste-of-453259.
• Another complaint  from a GHBS customer notes that “they told me that to weed out the peoiple [sic] that really wanted to work they were charging $9.95 shipping for the video.  [A]nd when you get the DVD I viewed the DVD and there was noting [sic] there to help me start a buisness [sic] [in] Los Angles California.”  See http://www.ripoffreport.com/r/global-home-business-systems/los-angles-california-/global-home-business-systems-they-told-me-that-to-weed-out-the-peoiple-that-really-wanted-462221.

End quote:

Please read these links. In the first one the person has been ripped off for $9.95 - and not $9.95 he paid to Herbalife. The $9.95 was paid to Burton.

In the second link it was $50 - but there is considerably less documentation.

This constitutes, and I am quoting Ackman's site again: "considerable damage to consumers".

Seriously - this is the strength of material on which he has bet his reputation and the existence of Pershing Square. I have a staff member who I recruited from America and whom Verizon Wireless charged $15 for data consumed after he had left the country. On this basis I encourage a billion dollar bet against Verizon...

By contrast, every distributor in Ackman's documentary lost serious amounts of money - but the money lost was not lost to Herbalife. It was lost to distributors Herbalife has now sacked. It seems -- that at least with respect to the material in the documentary Ackman is fighting yesteryear's battles.





John

Pershing Square modifies their performance numbers with an eight day week

Pershing Square (the hedge fund associated with Bill Ackman) has a European listed closed-end fund called Pershing Square Holdings.

Pershing Square Holdings has a website on which it discloses weekly and monthly net asset value and performance.  This performance matches the returns of Bill Ackman's hedge fund.

They also disclose funds under management at Pershing Square (that is all assets under the strategy).

This is the website:

https://www.pershingsquareholdings.com/company-reports/weekly-navs/

Pershing Square Holdings reports both weekly numbers and monthly numbers.

According to prior press releases the numbers were released in the following pattern.

(a) Weekly numbers were reported as per the close of business Tuesday and made public the following Thursday (except when there are holidays).

(b). Monthly numbers are reported for the close of the month two days after the close of the month.

On Friday 2 October I took a screenshot the results. Here is that screenshot.

The observant will notice that the reporting dates are 

1 September,

8 September

15 September

22 September and 

30 September.

The last reporting date should - if the pattern were continued - be 29 September. Instead they reported data for 30 September. 

That last week has eight days.

The results as reported on the 30th of September were bad. Pershing Square scored minus 12.5 percent for the month.

However they were worse as per 29 September than 30 September. Valeant rose 12-13 percent that day. Valeant is Pershing Square's biggest holding. The vast bulk of the book moved in Pershing Square’s favour during the last day of the month.

The rough calculation is that Pershing Square's performance was almost $800 million worse on September 29 than September 30 - which a cynic might say provides an incentive not to report September 29 results. Of course I would say that Pershing Square is being (extremely) modest about their fantastic day on the 30th of September. 

A portfolio calculation is Appendix A.  [Our estimate is a $777 million swing between the 29th and the 30th of September. The only position that is not disclosed is the size of the Herbalife short. We have a fairly accurate estimate of the size of this position but it does not matter much for this calculation.]

Pershing Square was - it seems - would normally have report a minus 16.6 percent number as a month to date number, but possibly in innocent error did not make this (rather shocking) disclosure. 

There are plenty of stories in the press about Pershing Squares bad month (see here, here, here). I know that Pershing Square is a remarkably open institution. Mr Ackman is the king of the three hour press conference. It is unthinkable that he would not tell the world just how good their day was on the 30th of September.

So I will. 

Pershing Square - my estimate - was down 16.6 percent month to date as per the 29th of September but had a miraculous day on the 30th of September and finished down a mere 12.5 percent. 

The press reported about Pershing Square's terrible month but could have equally reported about their fantastic day. Without reporting the fantastic day I suspect the press is treating the Baby Buffett unfairly.

The new footnote

There was a footnote that explains the reporting data on Pershing Square Holding's website. Here it is in text and photo...

Weekly net asset value (“NAV”) is calculated as of the close of business on each Tuesday and posted on the following Thursday. In the event that Tuesday is not a business day, the Company will calculate the close-of-business NAV as of the business day immediately preceding that Tuesday. In the event that Wednesday or Thursday is not a business day, any such weekly NAV will be posted the next business day following that Thursday. End-of-month NAV is calculated as of the close of business on the last day of the month and will be posted within two business days thereafter. In the event that month-end falls on a Wednesday, the Company will report the month-end NAV on Thursday, and not report the weeklyTuesday NAV. In the event that Wednesday or Thursday is not a business day, any such month-end NAV will be posted the next business day following that Thursday...

In summary it says in the footnote says if the month ends on a Wednesday we will not bother reporting the Tuesday numbers. 

And the photo:

If you are really observant you will note the typo in the footnote. It says weeklyTuesday without a space in the text. This was deeply suggestive that the footnote is recent because Pershing Square's presentation material is usually highly polished and without typos. 

This footnote, with its sloppy and atypical typo was almost certainly written by a junior. [As you will see the footnote has been modified within days of its appearance.]

I wanted to confirm the footnote was recent. Did they just do it to hide the fantastic day they had on the 30th of September (or a cynic might say their bad month until 29 September) or did they have it all the time?

The way to tell is to check old months.

The last time that a month ended on a Wednesday is December 2014. 

If the rule applied then we should see a data point for December 31 and no data point for December 30.

Confirming recency Pershing Square Holdings had both a December 30 and a December 31 data point. They were still on the website. Here is a picture. 

This it appears this month is the first time Pershing Square have applied the month-end-on Wednesday rule. 

A cynic might say that this is a ham-fisted attempt to hide an extremely bad month-to-date data point. However I just think someone wanted to hide the spectacularly good performance on 30 September.

But don't worry - we will report Pershing Square missing data point for you.

On our estimate Pershing Square month to date on 29 September 2019 was down 16.6%. For the month to date. And then in brilliance they had a great day and finished the month much better.

They had to muck around with the calendar not to report to you the wonderful day they had on the 30th of September. [A cynic might suggest they mucked around with the calendar to hide bad results - but Mr Ackman would not do that.]

More changing footnotes

I sent this material to the Financial Times. I copied it to Bill Ackman. I think it was also handed around fairly widely. Within a few hours of market open Pershing Square had released a press release about their new market disclosure rules.  You can find a PDF version of that press release here. 

The new rule was as follows:

Pershing Square Holdings, Ltd. has made two changes to its NAV reporting policies. Weekly and monthly NAV reporting will now be provided on a one-business-day lag rather than a two-business-day lag. For weeks that include a month-end NAV report, PSH will provide only month-end performance. As a result of the changes, investors will now receive more timely NAV reporting, but only one NAV report each week.

Now the company will not report weekly results for weeks in during which the month ends.

The short-lived "if the month ends on a Wednesday" rule has gone and has been replaced by another footnote - the picture of which is here... The NAV page has also been reformatted.

The month end on a Wednesday rule was absurd. If there was no reason to give the data point for a Tuesday when the month ended on a Wednesday you could argue there was no reason for a Tuesday data point when the month ended on the Monday.

That suggests yet again they changed it on the spot so that they did not have to report the fantastic data on the 30th of September. [A cynic might suggest that they did it so they did not have to report an atrocious month-to-date data point on the 29th - however Bill Ackman would never risk being so needlessly deceptive.]

Whatever: the [Pershing Square] will not report a weekly number if the month ends on a Wednesday rule is now gone. They will no longer report weekly data in any week that a month ends.

This rule also has problems which indicate it was thought up on the fly. What for instance happens when the month end occurs on a Friday? Do they not provide any results that week (preferring instead to wait to the following Tuesday)?

Pershing Square changed its rules on the fly inventing and thinly disclosing an 8 day week to hide their wonderful performance on the 30th of September. The new rules are a confused and made up to support their modesty.

So we will report again. As of 29 September 2015, a date that Pershing would normally have reported, the funds were down 16.6 month to date. And they had a great day on the 30th.

Eight days a week

For the moment though Pershing Square thinks it is okay to - without prior notice - report on an eight day week. Sure they did it so they could modestly hide the fantastic performance on 30 September. But the motivation is not the issue here.

Having an eight day week opens Bill Ackman up for allegations of deception - allegations that Bill should neutralise immediately by reporting the interim data point as originally planned.

I would expect nothing less.




John

And just because eight day weeks are fun I should finish with a song for Bill Ackman.

As per the Beatles: "I ain't got nothing but love babe, eight days a week".

John

Appendix

Here are the holdings and prices as we estimate them at Pershing Square. The holdings other than Mondalez and Herbalife are from the last quarterly form.

The Mondalez holding is from recent filings.

The Herbalife estimate (which does not matter much for this calculation) is from our own estimate. It does not matter for this calculation as the Herbalife price was almost entirely unchanged on 30 September.

It is clear that Pershing Square had truly miraculous performance on 30 September. A cynic would say the month-to-date that they did not disclose (the month to 29 September) was terrible. I prefer to think of 30 September as wonderful.

J

Company	Ticker	Holding	Price 29 September	Price 30 September	Gain on 30 sep
Valeant Pharmaceuticals	VRX	19473933	$158.08	$178.38	$395,320,839.90
Air Products	APD	20549076	$125.82	$127.58	$36,166,373.76
Canadian Pacific	CP	13940890	$138.14	$143.57	$75,699,032.70
Zoetis	ZTS	41823145	$39.65	$41.18	$63,989,411.85
Restaurant Brands	QSR	38003984	$34.71	$35.92	$45,984,820.64
Platform Specialty Products	PAH	42737394	$12.06	$12.65	$25,215,062.46
Howard Hughes Corp	HHC	3568017	$112.52	$114.74	$7,920,997.74
Mondelez	MDLZ	120265238	$40.81	$41.87	$127,481,152.28
Herbalife	HLF	-21000000	$54.48	$54.50	-$420,000.00
				Total	$777,357,691.33

Hat tip to The Skeptic - and there was discussion with him via email. The core 8 day observation was his. The footnotes and their changes over time was my observation.