by Scott Wapner
Still, the success of the IPO couldn’t mask the obvious.
Thanks to the precipitous drop in the value of Ackman’s investments, Pershing’s assets under management had fallen from $20 billion at the start of the year to near $15 billion by year’s end, evidence of just how tough that stretch of 2015 really was.54
“Despite the substantial decline in the funds’ performance from August to the present, our net redemptions were nominal at $39 million or 0.2% of capital for the third quarter, and $13 million or 0.1% in the fourth quarter,” he said. “As a result, we have not been forced to raise cash as the portfolio declined, but have been able to be opportunistic. The recent substantial increase in our economic exposure to Valeant at recent lows in the stock is a good such example.”55
Ackman also addressed Herbalife saying that despite the sharp rise in the stock, his confidence hadn’t wavered. He had reason to be at least a little optimistic. That August, the FTC sued the energy drink distributor Vemma, accusing it of being an illegal pyramid scheme.56 At the very least, Ackman figured regulators were finally zeroing in on the industry, if not Herbalife itself.
“We believe that Herbalife will ultimately be subject to regulatory action or will collapse because of fundamental deterioration in its business, which relies on the continual recruitment of new victims. During the quarter, the potential for regulatory action increased while business fundamentals deteriorated,” he said.
Year to date, Pershing Square Holdings was down 20.8 percent, net of fees.57
Even worse, Valeant continued to struggle publicly.
On Christmas Day, the company said Pearson had gone on medical leave to be treated for severe pneumonia. Howard Schiller, the company’s former CFO, would take over in the interim while Pearson got the treatment he needed.
In another letter to his investors, this time summing up the awful year as a whole, Ackman was matter-of-fact.
“2015 is a year we will not forget,” he wrote. “The substantial majority of our portfolio companies made continued business progress despite currency headwinds and a weakening global economic environment. Yet, the Pershing Square funds suffered their greatest peak-to-trough decline and worst annual performance ever.”
Ackman admitted the “important mistakes” he had made during the year, such as “missing the opportunity to trim or sell outright certain positions,” including Valeant.
“When the stock price rose this summer to the mid-$200s per share, we did not sell as we believed it was probable the company would likely complete additional transactions that would meaningfully increase intrinsic value. In retrospect, this was a very costly mistake.”
Ackman also mentioned another, less glamorous position that caused its own considerable carnage.
“Our most glaring, albeit small, unforced error was buying additional stock in Platform Specialty Products at $25 per share to assist the company in financing an acquisition,” he said. “We paid too much as we assumed the new transaction would create substantial value, and because we assigned too much platform value to the company. Our assessment was incorrect as execution difficulties, operating issues, currency effects, and financing issues have destroyed rather than created value.”
Ackman concluded by looking ahead to what a new year might hold under the title “Humility”:
I have often stated that in order to be a great investor one needs to first have the confidence to invest without perfect information at a time when others are highly skeptical about the opportunity you are pursuing. This confidence, however, has to be carefully balanced by the humility to recognize when you are wrong. While no one here is enthusiastic about delivering our worst performance year in history in 2015, it certainly does a good job reinforcing the humility side of the equation that is necessary for long-term investment performance. In 2016, we would like to generate results that reinforce the confidence side of the equation. Humility and skepticism will help get us there.
Whether Ackman’s stocks would cooperate was the real question. At least he could commiserate with Icahn, who was having his own problems.
Global commodity prices had crashed, sending the price for a barrel of crude oil from nearly $53 at the end of 2014 to $34.95 late in 2015. The slide, and that of natural gas’s own pullback, weighed heavily on several of Icahn’s large energy-related positions, including Chesapeake Energy.
In mid-2012, Icahn had gone long on Chesapeake Energy, amassing a 7.5 percent stake to become one of the company’s biggest shareholders. Icahn had demanded seats on the board and in a letter to the directors called out CEO Aubrey McClendon—a legend in the natural gas industry—for taking too many risks.
“Rather than act as a source of stability and provide assurance to shareholders, this board has led the company through a highly publicized spate of corporate governance breakdowns while amassing an astounding funding gap,” he wrote in a letter to the company, effectively putting it on notice.
It didn’t take long for the company to capitulate.
Less than ten days after revealing the massive position, Icahn won his seats. Whether he could use that muscle to help turn the company around was another question, especially given the historic collapse in commodities. Natural gas prices tumbled, leaving Chesapeake with a cash shortfall.
By late 2015, Chesapeake had lost more than 70 percent of its value.
Icahn’s other energy plays weren’t doing much better.
On August 6, Icahn revealed an 8.8 percent stake in Cheniere Energy, worth $1.3 billion, calling shares undervalued. Shares quickly rose 6.5 percent on the news.58 The company had lost money for more than twenty consecutive years but stood to capitalize on the growing business of shale gas, which it hoped to export.
Even though Icahn got rid of the company’s founder, the turmoil from the commodities crash crushed Chenier’s stock. In a little more than six months, Cheniere shares lost 50 percent of their value from where Icahn had bought in. Investments in Freeport-McMoRan and Hertz had also fallen hard.
Even Icahn’s top horse, Apple, which had been a home-run investment, hadn’t been cooperating lately. Icahn had revealed the position back in August 2013 when he tweeted, “We currently have a large position in APPLE. We believe the company to be extremely undervalued. Spoke to Tim Cook today. More to come.”
The news had sent Wall Street into a full-fledged frenzy. Apple wasn’t just any stock; it was the market’s crown jewel and the biggest company on Earth by market cap. Back in September 2012, shares had hit an all-time intraday high of $705, but had recently fallen on hard times as investors began to worry about Apple’s margins and the pace of iPhone sales. By January 2013, shares had fallen more than 35 percent from those highs, including a 12 percent plunge in a single day.59 Headlines even began talking about Apple’s stock as a “bubble.”60 By February, shares had lost a third of their value from the top and didn’t look ready to stop anytime soon.
By the time the summer rolled around, Icahn had clearly seen enough and stepped in.
Shares quickly rallied 5 percent on the news of his position to $489.57, the highest level they’d been in six months. Trading volume spiked more than 300 percent as investors rushed to grab hold of Icahn’s coattails. Four minutes later, Icahn sent a second tweet that read, “Had a nice conversation with [CEO] Tim Cook today. Discussed my opinion that a larger buyback should be done now. We plan to speak again shortly.”
Icahn had called Cook before going public out of respect for the CEO and to give him a head’s up about what was about to hit the tape. Cook was in a meeting at the time and called Icahn back when he got out, finding the investor to be direct but cordial. Icahn said he wanted a large buyback and in short order. Cook explained that Apple had begun returning money to shareholders in 2012 after a long period of not doing so, had already expanded the program earlier in the year, and remained committed to the process, though at its own pace. The call ended with the two agreeing to stay in touch and Icahn suggesting they should get toget
her for a face-to-face meeting.
On Tuesday, October 1, 2013, Icahn called in to my show to discuss the new investment, making it clear he wanted Cook to take action.
“I feel very strongly about this,” Icahn said of his proposal that Apple buy back $150 billion in stock. “I can’t promise you the stock will go up and I can’t promise you they will do the buyback. But I can promise you that I’m not going away until they hear a lot more from me concerning this,” he said.
Icahn said the two had had dinner at the investor’s penthouse the night before, and he’d told Cook directly of his hopes for the company’s growing cash hoard. Icahn liked to meet over a meal, especially in the friendly confines of his own apartment, where he could avoid being seen doing business and at the same time disarm his counterparts. Icahn may have had a tough-as-nails reputation as a dealmaker, but as a dinner partner he was charming and at ease as he enjoyed a good chef-cooked meal and a cocktail—or two.
The dinner was the first time the two had ever met, with Cook only knowing what he had heard in the media about the billionaire and his supersized backstory. He knew from what he’d read that Icahn could be rough—how rough was the question. Cook figured he’d better find out and decided to do some recon. He called other CEOs who’d crossed with Icahn in the past, with nearly every one of them warning him not to take the meeting. While Cook listened to the warnings, he came to a far different conclusion, believing there was no harm in hearing Icahn out. Icahn had already praised the company and Cook’s stewardship during their initial phone conversation. How bad could it possibly be to meet in person?
On the evening of the dinner, Cook, Apple’s then CFO, Peter Oppenheimer, and the Goldman Sachs banker Glen Sykes made their way up to Icahn’s apartment in Midtown. After sitting for drinks in the living room, which overlooked Midtown’s vast skyline, the party moved into Icahn’s regal dining room to get down to business.
Sitting three across on one side of the large rectangular dining table, the men were joined by Icahn, along with his son, Brett, and David Schechter, the two men who ran the Icahn fund and had invested in Apple in the first place; they knew the company like the back of their hands.
The men talked through Apple’s business, with Icahn and the boys focusing mostly on the company’s balance sheet, reiterating why Apple should do a huge buyback of its stock. Cook said that he agreed with their assessment that the stock was undervalued, but that Apple already had a cadence on the buyback issue and wasn’t about to deviate, even for an investor as well-respected and seasoned as Icahn.
Though the conversation was heavy on Apple’s financials, it wasn’t all standoffish, with Icahn telling his trademark stories about his many investments of the past decades while the men at the table laughed in unison. After two and a half hours, the evening wrapped with Icahn and Cook agreeing to keep talking.
Cook came away with a polar opposite view of the man than what he’d heard from the other CEOs, and he left convinced the two wouldn’t have a major problem in the months ahead.
“I saw no harm at all in meeting with him and listening,” Cook said. “On the macro point we totally agreed that Apple was undervalued. On the sub point we thought that buying back stock was good too. The one debate we had was about the amount over what period of time.”
It was a debate Icahn wasn’t about to let go of anytime soon.
“It’s a no-brainer and it makes no sense for this company with their multiple being so low not to do a major major buyback,” he said during the interview on my show. “And there’s another reason that I mention, that I think might go forgotten, the fact that you can borrow money so cheaply today. I don’t think we are going to see this again.”
Later that month, Icahn sent a letter directly to Cook mentioning their warm dinner meeting and an even bigger stake.
“When we met, my affiliates and I owned 3,875,063 shares of Apple,” wrote Icahn. “As of this morning, we owned 4,730,739 shares of Apple, an increase of 22% in position size, reflecting our belief the market continues to dramatically undervalue the company…”
“We want to be very clear that we could not be more supportive of you, the existing management team, the culture at Apple and the innovative spirit it engenders. The criticism we have as shareholders has nothing to do with your management leadership or operational strategy. Our criticism relates to one thing only: the size and timeframe of Apple’s buyback program. It is obvious to us that it should be much bigger and immediate,” he wrote.
Icahn had spent decades sparring with large companies, often urging them to buy back their own shares or add new board members, but Apple represented something different. It was the richest company on Earth, and even though Icahn could only do so much given Apple’s size, he proved unafraid to take on the giant.
Icahn even pledged to hold onto his shares, saying in the letter, “There is nothing short-term about my intentions here.”
On October 28, 2013, Apple reported strong earnings, but margins fell to 37 percent, down from 40 percent the prior year. Shares fell 4 percent after hours when the numbers hit.
For the year, Apple shares still closed up 5.5 percent.
But on January 28, 2014, Apple suffered its worst one-day stock performance in months, with shares dropping 8 percent as a result of disappointing iPhone sales. Thankfully for Icahn, the declines were short-lived.
On April 23, the company blew away earnings estimates and announced a motherload of initiatives that sent shares surging 8 percent. Cook said Apple was increasing its buyback to $90 billion, raising its dividend by 8 percent, and initiating a 7-for-1 stock split in June to make shares more accessible to a larger group of potential investors.
Icahn quickly praised the moves.
“Agree completely with $AAPL’s increased buyback and extremely pleased with results. Believe we’ll also be happy when we see new products,” Icahn said in a tweet.61
That summer, shares topped $600 as the company—which looked on its way toward becoming the first business to top $700 billion in market cap—continued to make Icahn happy by buying back shares in huge numbers. By December, Apple had spent the most of any company in the S&P 500 on the move, according to FactSet, which tracks such data.62 Apple shares would close the year up more than 40 percent, scoring Icahn and other company shareholders a windfall.
Icahn had even grander ambitions. On May 18, 2015, with shares trading near $130 apiece because of the split, Icahn sent another letter to Cook, only this time the correspondence came with a stunning prediction of how high shares could trade.
“After reflecting upon Apple’s tremendous success, we now believe Apple shares are worth $240 today,” he wrote.
Apple shares ended the day up 1 percent at $130.19, adding more than $8 billion in market cap.
Though Icahn’s Apple trade was shaping up to be one of the greatest investments ever—he’d made $3.4 billion since first buying it—2015 was a letdown. The stock barely outpaced the S&P 500, and by October was suffering through its worst year since the financial crisis, as investors seemed skeptical the company could keep up the pace of its iPhone sales. Shares fell 10 percent in December alone, with some analysts saying even more downside was likely.63
Both Icahn and Ackman headed into 2016 wondering what was next for their most prized positions. Little did Ackman know that he would first have to prepare for things to get even worse.
14
THE FLUSH AND THE FEDS
With his Valeant position imploding and his portfolio enduring its worst year ever, Bill Ackman was growing impatient. Would the FTC ever take action on Herbalife?
On one February evening, Ackman decided to turn hope into action. At 9:22 p.m. on February 10, 2015, Ackman typed out an email directly to FTC Chairwoman Edith Ramirez, urging her to shut Herbalife down.1
He wrote:
Dear Chairwoman Ramirez,
I have refrained from contacting you as I know you have many important responsibilities. I have chosen t
o do so now as the time has come for the FTC to shut down Herbalife. Every day the FTC fails to act, is another day for Herbalife to recruit 5,000 new victims who will shortly lose their life savings, and their hopes and dreams of success, along with their relationships with family and friends. In the United States, these victims are principally members of the Latino community, often undocumented and incredibly vulnerable.
It has been more than three years since we brought these issues to the attention of the FTC. During this period nearly 6 million more victims have been recruited, and about the same number have dropped out, often because they have run out of money.
Herbalife’s business has begun to fail as it appears it is having greater difficulty attracting recruits to replace failing victims. If the FTC does nothing, and Herbalife fails first, its failure will destroy the FTC’s reputation as a protector of consumers. The SEC ignored Harry Markopoulos’ warnings about Madoff and its reputation has never recovered. I would hate for the same thing to happen to the FTC.
I am told that you and your staff have been reluctant to act here because Pershing Square is short Herbalife stock and will benefit from the company’s failure. While it is true that our investors will profit, I have committed to give away any profits I make personally to the communities that have been harmed. While we only have incurred losses to date, I have already made $50 million in grants to the Latino community: $25 million to Dream US for scholarships for undocumented immigrants, and $25 million to Robin Hood toward their recent immigrant and other programs for poor Latinos.
Yesterday, we released a 13 minute video which includes interviews of recent Herbalife victims. On our website, www.factsaboutherbalife.com, you can hear each of their stories in greater detail. I only ask that you take 13 minutes of your time to watch the first video. It will remind you that this is not about Carl Icahn, the largest beneficiary of Herbalife’s scheme as its biggest shareholder, or Pershing Square, the largest short seller of Herbalife. It is about protecting those that are being harmed by this scam. And yes, tomorrow, another 5,000 victims will be recruited to this pyramid scheme.
