Herbalife: Time To Look At The Long Side Again

Apr.17.14 | About: Herbalife Ltd. (HLF)


There are multiple hedge and mutual funds in favor of owning Herbalife, but only one calling for the company's demise.

The recent FBI investigation has caused more concern for the company and investors.

After 34 years in business, has anything really changed that would cause the company's demise?

I think that it is likely that the stock will eventually recover.

Herbalife Ownership

Pershing Square Capital hedge fund manager, Bill Ackman, made a big public announcement back in 2012, when he created a presentation about how he thinks Herbalife's (NYSE:HLF) stock will go to zero. Ackman began a large short position in the company, betting that the stock will fall and eventually be worthless. The stock did take a large plunge from the $70s to just under $30. However, the stock recovered in 2013, making a new all-time high. This year has been a different story, as the stock dropped to $50.

There have also been a number of bearish articles written recently, attacking Herbalife. I think that the bear case is overblown and that there is profit to be made on the long side.

There are multiple hedge and mutual funds taking the opposite side of Ackman's trade. The following big names all own a significant position in Herbalife: Carl Icahn, George Soros, Ken Heebner, Bill Stiritz, Stan Druckenmiller, Perry Capital, and Kyle Bass. Multiple mutual funds also own Herbalife, including Fidelity and Vanguard. Carl Icahn has been one the most conspicuous shareholders. Herbalife comprises over 4% of Icahn's portfolio, with a position of over $1.3 billion. Icahn has been vocal about how he doesn't believe in Ackman's thesis, and defended Herbalife's business model. Icahn's activist investor style allows him to influence some of the company's decisions. He could potentially have 5 seats on Herbalife's 13-member board, if two more Icahn Enterprise employees are elected.

George Soros had a stake of 5 million shares in Herbalife, but cut his position down to 3.2 million shares after profiting in 2013. Herbalife was Soros' best performing stock for 2013. Ken Heebner of CGM Focus Fund bought 980,000 shares of Herbalife in Q4 2012, as he also took the other side of Ackman's trade.

Bill Stiritz personally owns 6.4% of Herbalife, and has stated that he is interested in participating in a leveraged buyout of the company. Stiritz wants to take a more active role and discuss with Herbalife management, "potential strategies for confronting the speculative short position that exists in the company's stock and its attendant negative publicity campaign." This shows his conviction in his belief that Herbalife will continue to thrive for the long term.

Stan Druckenmiller and Kyle Bass took long positions in Herbalife in Q3 2013. Druckenmiller purchased 79,000 shares, while Bass took a larger position with 436,371 shares plus 1.3 million in call options and 500,000 in puts. Perry Capital entered a new position in Herbalife last year in the amount of over 2.6 million shares.

There are also many mutual funds that also have long positions in Herbalife. This list includes: multiple funds from Fidelity, Vanguard, and American Funds. The list also includes: JNL/Mellon, Morgan Stanley Investment Management, BlackRock Fund Advisors, and Prudential Jennison Mid Cap Growth.

Investigation of Herbalife

Recent reports have shown that Herbalife has been under investigation by the FBI. However, the FBI did not confirm or deny that there was an investigation, and Herbalife stated that it did not receive any inquiries from the FBI regarding an investigation. Critics of the company have argued that if Herbalife doesn't know about the investigation, it is worse than if the company was made aware of it.

Herbalife has acknowledged that the FTC has investigated how the company operates. This was in response to Senator Edward Markey's actions as he called on the FTC and SEC to investigate the company in response to cries from civil rights groups who accused Herbalife of unfairly targeting minorities.

The Takeaway

My take is that just because the company is under investigation does not mean that Herbalife will be found guilty of any illegal activity or wrongdoing. Depending on what is found, Herbalife might be subject to fines or have to adjust how it runs its business. Or, perhaps nothing negative will be found and it will just be business as usual. The big risk for the company is that it could be found guilty of illegal activity so severe that it would have to be shut down, which is what Ackman is driving for. However, I don't think that is likely.

Is Bill Ackman the only major hedge fund manager who believes that Herbalife is doomed? There are much more hedge funds and mutual funds that choose to own Herbalife than short it. This tells me that plenty of research has gone into formulating a long thesis for owning the stock. Furthermore, Herbalife has been in business for 34 years without any major issues. Why would there be a problem now? Did anything really change in terms of how the company operates or with what management is doing? Ultimately, the investigations by the FTC or FBI will determine the answers to those questions. However, I think that these investigations are just distractions.


I would take the long side of the position, with the thesis that no major wrongdoing by Herbalife will be found. Herbalife has sold off significantly, and presents an intriguing investment opportunity at these levels. Currently, Herbalife is undervalued as compared to the S&P 500. The company is trading at only 7.9 times next year's EPS of $7.03. This is half of the S&P 500's forward PE of 15.8.

Another attractive valuation metric is Herbalife's low PEG of 0.44. This shows that Herbalife is attractively undervalued in terms of its high expected annual earnings growth of 22% for the next five years. By comparison, the S&P 500 looks fairly valued, with a PEG of 1.4. It looks like Herbalife's stock has plenty of room to run from these low levels.

I also like Herbalife's low EV/EBITDA of 6.3. Competing nutritional company, GNC Holdings (NYSE:GNC), is valued higher, with a larger EV/EBITDA of 10.4. The S&P 500 is also valued higher, with an EV/EBITDA of 13. This shows that Herbalife is attractively valued in terms of its enterprise value while income taxes are taken out of the equation. This seals the deal for me for Herbalife as an attractively undervalued stock.

Ultimately, I think that the investigations are just noise and distractions brought on by the attention that Ackman has created. If no wrongdoing is found, the stock should see $80 again within a year of the company being cleared. This would represent a gain of over 45%. The bears have wrestled the stock down, but they haven't taken control. I think that the bullish side looks more attractive. There are plenty of hedge and mutual funds that believe the same.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.