When the Wolves Bite

by Scott Wapner

  “Dad, if you don’t know it by now,” he said, breaking into a laugh along with most others.

  With the crowd now thinning out, some in the audience yawning, and Herbalife shares soaring, Ackman attempted to land one last blow. He referenced the Nazis and other totalitarian regimes while marveling at how Herbalife had stayed in business—how it had “gotten away” with its “big lie.”18

  He then turned the attack onto Herbalife CEO Michael Johnson himself, looking straight into the camera with one last message for his target.

  “Michael Johnson is a predator, OK,” said Ackman, his voice cracking as tears welled in his eyes. “This is a criminal enterprise, OK. I hope you’re listening, Michael. It’s time to shut the company down.”19

  However dramatic its ending, there was no hiding the fact that Ackman’s promised “death blow” had fizzled.

  Maybe tired from the long night or in denial at what the stock was doing, Ackman tried to put a positive face on the event, even if he was trying to convince himself more than anyone.

  “What a day. What a day,” Ackman said, now back in the Mercedes, which was driving off for the office. “It was a good day. It was a very good day.”20

  For once, Herbalife agreed.

  The company issued a statement that read, “Once again, Bill Ackman has over-promised and under-delivered on his $1 billion bet against our company. After spending $50 million, two years and tens of thousands of man-hours, Bill Ackman further demonstrated today that the facts are on our side.”21

  Behind the scenes, Johnson and the other executives, emboldened by the reaction in the stock, joked that they wished Ackman could give another speech the following week.

  Herbalife had reason to stick out its chest. One after the other, media headlines as far as London revealed the day’s reality.

  “Ackman Fails to Land Herbalife ‘Death Blow,’” said USA Today.

  “Herbalife Dodges Bill Ackman’s Promised ‘Death Blow,’” said the BBC.

  Television commentators came to the same conclusion, as Ackman tried to figure out what to do next.

  All he actually had to do was wait.

  On July 28, a week after the death blow that wasn’t, Herbalife released its latest earnings report after the close of trading. Though earnings per share rose double-digits from a year earlier, they had missed Wall Street estimates. Herbalife shares, which had closed up 2 percent to hit $67.48 before the numbers came out, got hammered, falling 11.6 percent to $59.64 in the aftermarket.

  Even with the steep slide, Herbalife CEO Johnson remained as rosy as he could.

  “Herbalife has once again delivered strong results in sales and profitability while demonstrating our continued ability to enhance our earnings per share,” he said. “Our performance is a testament to the enthusiasm our millions of consumers and members have for our products.”22

  But the numbers continued to slide in the next quarter.

  On November 3, Herbalife again reported quarterly numbers and again missed expectations—only this time the market’s reaction was more severe. Shares fell more than 20 percent, or more than $11, to end the day at $44.44.

  This time Johnson wasn’t in spin mode.

  “This performance is clearly out of character for us,” he said on the conference call the next morning. “There is a confluence of factors, some external and some internal, that had an impact on our results.”23

  Johnson blamed the disappointment on the company’s operations in Venezuela and a stronger US dollar, which had made its products more expensive overseas, and on so-called structural changes Herbalife was making to its business model.24 Johnson had almost glossed over the changes during the November 4 call with analysts, but the market didn’t, and with good reason.

  Herbalife said it would start limiting the amount of product new members could buy on their first orders, a move that appeared to address one of Ackman’s original criticisms—that new members were required to buy thousands of dollars’ worth of Herbalife products to qualify for the title of “sales leader,” at which point they could take advantage of big discounts.

  “The rationale is that encouraging slower growth to sales leader increases the likelihood that the new sales leader will be successful and retained,” said Herbalife’s president, Des Walsh.25

  It also meant the potential of lower sales, but if Johnson was worried about the new policy being a hit to future earnings, he certainly didn’t show it.

  “It’s pretty simple here, folks. We’ve got a great business. We’re in a great marketplace, and our distributors are confident, and we’re moving forward.”26

  Wall Street wasn’t convinced.

  The next day, November 5, Herbalife continued its decline, closing at $39.78. In just two days, Herbalife shares had fallen nearly 30 percent.

  Then, on November 25, Ackman let his investors know exactly what he thought of the rapid rollover in the stock.

  “Recent developments at Herbalife reinforce our short thesis that Herbalife is an illegal pyramid that will collapse or otherwise be shut down by regulators,” Ackman wrote.27 “We believe that management’s new 2015 guidance fundamentally changes the bull case prospects, both by reducing the projected earnings power of the company and the price-earnings multiple that investors will assign to a business in decline. Given the negative developments in the quarter, we believe that it will be increasingly difficult for institutional managers to hold (or initiate) positions in Herbalife.”28

  Ackman had reason to be bellicose.

  Though many hedge funds posted only modest returns through October, Ackman’s numbers had been so impressive they were near the top of the entire industry. Year to date, Pershing Square was up 35 percent, net of fees, thanks to Herbalife’s sudden and sharp drop and sizeable gains in other key positions in Ackman’s portfolio. The performance helped Ackman crack LCH Investments’ list of the top twenty hedge-fund managers for the first time ever, joining an esteemed group that included legends George Soros, David Tepper, and Paul Singer. Since 2004, when Pershing Square was founded, Ackman had made $11.6 billion for his investors, solidifying his place as one of the best and most trusted money managers on Wall Street.29

  And it showed.

  By the end of 2014, Ackman’s total assets under management ballooned to nearly $20 billion, and as he entered the new year, he made it clear that he was on the hunt for his next big target. On Monday, March 9, 2015, the world found out what it was.

  That afternoon, Reuters reported that Pershing Square had taken a more than $3 billion stake in the Canadian pharmaceutical company Valeant, becoming the company’s fifth-largest shareholder.30

  Valeant rose 2.5 percent to more than $200 per share on news of its newest investor. The position immediately became one of Pershing’s biggest—yet another reminder that Bill Ackman never did anything small.

  13

  THE YEAR THAT WASN’T

  Momentum on Wall Street is a powerful thing, but even the best investors know it can be fleeting—that the wave can break at any moment.

  Bill Ackman knew that better than most.

  After living through the Gotham death spiral more than a decade earlier, the JC Penney debacle, and the first eighteen turbulent months of his Herbalife crusade, Ackman finally appeared to catch a wave in early 2015. His fund, Pershing Square, had killed it the year before, scoring amazing returns that vaulted him to the very top of the hedge-fund industry.

  “Bill Ackman Wins 2014,” said Forbes of Ackman’s incredible returns.1 “Bill Ackman, Pershing Square Deliver Legendary Performance,” said USA Today.2

  “I told him at the beginning of 2015,” remembered longtime friend and fellow money manager Whitney Tilson. “I said, ‘Bill, you were worth a billion dollars, now you’re worth two billion, your words move markets. Congratulations, you deserve it.’ But I also said it’s so important right now that you not be like Icarus and fly too close to the sun. That kind of thing can go to your head and lead to some terrib
le mistakes, and he assured me and said he appreciated me telling him that.”

  But before he even got a chance to soar too high, Ackman found his wings getting clipped. On March 12, the Wall Street Journal broke the news that several people tied to Ackman were being investigated by the US Attorney’s Office and FBI over the possible manipulation of Herbalife’s stock price.3 The paper said the probe was looking into whether some of the many consultants and lobbyists hired by Pershing Square had made false and misleading statements about Herbalife and its business model. Ackman wasn’t personally named in the probe and said during an interview with me the next morning that he didn’t know anything more than what he’d read.

  “We’ve hired a political consultant, a firm called Global Strategy Group. They in turn hire subcontractors around the country, and they assisted us in advocating on our behalf of our very firmly held view that Herbalife is a pyramid scheme,” Ackman said. “And my understanding is that a handful of the people that they’ve hired or that work for them have been interviewed by the FBI.”4

  Ackman may have easily explained away the story, but its mere existence was evidence of how successful Herbalife had become in fighting back against his accusations.

  In January, the company signed George Sard, whose PR firm, Sard Verbinnen, was known for repping businesses and people in crisis. Sard had worked for Martha Stewart during her insider trading scandal, and for the son of Bernard Madoff. He was a seasoned attack dog for his clients.5 In Herbalife, he found a company willing to battle but unseasoned in its execution.

  “It was like a club softball team playing against major league operations,” said Sard. “We basically brought a discipline. This was a company that, even though it was out of its depth, was not afraid to be aggressive. Some companies may not have been willing to do it, but they had no problem being fighters.”

  Sard’s plan was to take the fight to Ackman, something he had experience doing. It was Sard who had represented MBIA during its protracted war with the investor back in Ackman’s Gotham days.

  “We told Herbalife there was no way Bill was going to let go. He was well under water [on the investment] at the time, and we said you just have to expect that he’s going to keep coming. It became clear that this is the kind of guy you have to play hardball with. There’s no subtlety. You have to hit him with a two-by-four.”

  The point was clear. Ackman was too invested—emotionally and financially—to turn back now.

  During the interview responding to the Journal’s bombshell story, Ackman revealed he’d already spent around $50 million on the Herbalife campaign—the vast majority, he claimed, going to legal fees and investigative costs.6

  The dollar amount was staggering. But it was little compared to Ackman’s next move.

  On March 27, 2015, the investor and a group of friends closed on one of New York City’s most expensive apartment purchases ever—a $91 million penthouse atop One57, a new ninety-story luxury high-rise overlooking Central Park.7

  The 13,554-square-foot duplex had six bedrooms, towering floor-to-ceiling windows, and monthly common charges of $24,000.8 But even more stunning than the space was Ackman’s plan for it.

  He didn’t intend to live in the property, but rather wanted to flip it to another buyer.

  “The Mona Lisa of apartments,” Ackman told the New York Times after confirming the deal. “I thought it would be fun so myself and a couple of very good friends bought into this idea that someday, someone will really want it and they’ll let me know.”9

  Ackman had similarly grand plans for the high-flying new stock in his portfolio.

  Earlier that month, Ackman had taken his $3.3 billion stake in Valeant, a Canadian firm known for its explosive growth.10 The company had become a favorite of hedge funds for its aggressive cost-cutting and against-the-grain business model. Instead of investing heavily in the development of new treatments, Valeant spent next to nothing on R&D, relying instead on billion-dollar deals and piles of debt to grow. So many large investors had piled into the stock that some began calling Valeant a “hedge-fund hotel.”

  The architect of Valeant’s ambitious strategy was its swashbuckling CEO, J. Michael Pearson, a crusty former McKinsey & Company consultant who loved making deals. Pearson had made more than a hundred deals during his tenure, including an $8.7 billion acquisition of Bausch and Lomb in May 2013.11

  Investors couldn’t buy shares fast enough.

  From the time Pearson became CEO in 2008 until midway through 2015, Valeant shares had risen a stunning 1,000 percent, with Ackman fully believing the run was just getting started.12 Perhaps it was because Ackman knew Valeant better than almost anyone, save for Pearson himself.

  A year earlier, in April 2014, Ackman had partnered with Valeant in its $45.6 billion hostile bid for Allergan, the company behind Botox and other skin-care drugs. The deal had come with a twist.

  In an unusual move, Ackman had secretly gone long on Allergan stock ahead of the overture, knowing the company was about to be approached by Valeant. Not surprisingly, the information led to quite a score. When the news of Valeant’s advance became public, Allergan shares surged, reaping Ackman an immediate $1.2 billion on paper.13

  Ackman pushed for the deal. He’d studied Valeant inside and out, laying out his grand plan for the merger with the usual Ackman flair—a 110-page presentation called “The Outsider” that portrayed Valeant as the perfect partner.14 But while the case may have been convincing in its PowerPoint form, Allergan wasn’t as optimistic. It rejected Valeant’s offer, saying it undervalued the company, and did so again two months later when Pearson and Ackman came back with an improved bid.

  Then the fireworks really started.

  In early August, Allergan sued Ackman and Valeant in California civil court, accusing both of an “improper and illicit insider-trading scheme,” an obvious reference to Ackman’s taking a large position and knowing a bid was coming. But Allergan was hardly the only party scrutinizing Ackman’s controversial tactics. “In Allergan Bid, a Question of Insider Trading,” ran a New York Times headline.15

  Faced with mounting criticism over the maneuver, Ackman went on TV to say he was not guilty of anything.

  “The way the rules work is you’re actually permitted to trade on inside information… as long as you didn’t receive the information from someone who breached… fiduciary duty or duty of confidentiality, et cetera,” Ackman said on CNBC’s Squawk Box. “Valeant basically came to us and said, ‘Look, if you can help us buy Allergan we can work with you.’ We said, ‘Great,’ and we formed a partnership. The partnership has various terms. It gives us the right and permission from the company to go buy a stake in Allergan.”16

  Technically, Ackman was right. While the move might have smelled fishy, it wasn’t illegal. Ackman had vetted the whole thing with a multitude of lawyers and even Robert Khuzami, the former head of enforcement at the SEC, who blessed the transaction.17

  It all seemed moot when Allergan agreed to a deal with Actavis for $66 billion, thus nixing the transaction he was supposedly cashing in on. Ackman walked away with one hell of a consolation prize—$2.28 billion—which he promptly rolled into a new investment in Valeant, hoping for a similar outcome.

  Others questioned whether more profits were in the offing. One such skeptic was the world’s most famous, if not successful, short seller, James Chanos. Chanos was the guy who had helped uncover the massive Enron fraud and whose firm, Kynikos, took its name from the Greek word for cynic. Chanos had been betting against the stock since 2014, convinced that Valeant paid too much for its deals, was bloated with debt, and would eventually blow up altogether when the music stopped. Chanos called Valeant a “roll-up,” meaning a company that buys another large business, then cuts costs dramatically to increase efficiency and keep growth and revenues climbing.

  “Roll-ups present a unique set of problems,” Chanos said during a CNBC interview on the topic. “Roll-ups are usually accounting-driven, and we certainly think
that’s the case in Valeant. We think Valeant is playing aggressive accounting games when they buy companies and write down the assets.”18

  Ackman knew Chanos was shorting Valeant when he bought the stock, and had even asked him for his research. When Ackman read it, he all but dismissed it, along with Chanos himself, during a CNBC appearance in June 2014.19

  “He sent me a twenty-six-page analysis of the company. I went through every word in that document. I had access to inside information on Valeant. Unfortunately, Jim just does not have Valeant right,” said Ackman.

  Valeant’s Pearson had heard from other haters through the years, but made it clear he wasn’t about to alter his agenda. More proof of that came in January 2015, when Valeant bought Salix Pharmaceuticals for $14.5 billion in cash and debt. Shares quickly popped 15 percent on the news—a sign that, at least at face value, many on Wall Street liked the deal.20

  After the transaction was announced, Pearson addressed the company’s critics in an interview with CNBC’s mergers and acquisitions expert David Faber, who asked Pearson point-blank whether the market was forcing him to keep the deal flow going, irrespective of whether it made good business sense.

  “That’s my job,” Pearson scoffed. “It’s our board’s job to do whatever we can to create value for shareholders.”21

  Ackman was so smitten with Pearson’s game plan that he even compared Valeant to Warren Buffett’s hallowed Berkshire Hathaway and its own platform strategy of scooping up businesses and seamlessly adding them into the fold.

  “You’d think after twenty-five years people would realize,” Ackman said at the Ira Sohn Conference in May, alluding to Valeant’s attractive value. “And Valeant is a very early-stage Berkshire.”22

  The comparison might have been hyperbolic, but the size of Ackman’s stake backed up his conviction. Ackman had invested 20 percent of Pershing Square’s capital in Valeant when the stock was near $161 a share, admitting he was “late to the party” since the share price had already surged dramatically in the previous year.23