Bill Ackman’s Herbalife and Valeant Deals Still Look Bad

(Bloomberg) — Scott Wapner is an on-air personality for CNBC who, in addition to hosting a midday show, makes it a point to be in constant touch with the big shareholder activists who bestride Wall Street. To judge from the evidence in his newly published book, “When the Wolves Bite,”  Wapner has their phone numbers at his fingertips, and can get a near instantaneous reaction from them when something newsworthy takes place. Most important for a CNBC journalist, he can get them to appear on his show from time to time.

All of which is to say that it’s not in Wapner’s best interest to say anything unflattering about the hedge-fund big shots he covers. He needs them a lot more than they need him. Yet I don’t think I’ve ever read as devastating a portrait of a professional investor as Wapner’s portrayal of Bill Ackman in “When the Wolves Bite.” It’s completely unwitting — which makes it all the more powerful.

Wapner has two stories to tell. The primary one is the saga of Herbalife Nutrition Ltd., the California-based “multilevel marketing” company that Ackman set out to destroy in late 2012. Yes, destroy. He thought it was not a legal MLM company but an illegal pyramid scheme, meaning that people made money not by selling a company’s product but by enlisting others to join in. This was not a crazy thing to allege: In 2011, a judge in Brussels had ruled that Herbalife was a pyramid scheme. Ackman’s expectation was that the Federal Trade Commission would rule similarly and put the company out of business.

The second story is the tale of Valeant Pharmaceuticals International Inc., whose stock Ackman was loading up on at the same time he was shorting Herbalife. Ackman thought that Valeant’s chief executive, Michael Pearson, was the prototype of a modern CEO: maniacally focused at all times on “shareholder value.” In 2014, Ackman went so far as to take a multi-billion-dollar stake in Allergan PLC, in order to help Pearson take the company over.  He was as convinced that Valeant’s stock would go to the stratosphere as he was that Herbalife’s stock would eventually go to zero.

As even casual readers of the business page know, neither bet worked out. Between the two stocks, Ackman’s hedge fund, Pershing Square Capital Management, lost over $4 billion. A $20 billion fund at its peak, Pershing Square now holds slightly over $8 billion. If he doesn’t turn things around soon, one has to wonder how many of his investors will be willing to hang around.

Wapner’s book is certainly not going to help Ackman’s cause. Wapner portrays Ackman as an investor who appears to have no particular methodology for picking stocks, and whose ego has become so large that it overwhelms his judgment. In the case of Herbalife, for instance, he found himself fighting with the much shrewder Carl Icahn — and he simply couldn’t stand the thought of losing his Herbalife bet to Icahn. (And Icahn knew exactly how to goad Ackman: “I really sort of had it with that guy Ackman,” Icahn told CNBC. “He’s like the crybaby in the schoolyard.”)

But Ackman made an even more basic mistake: He was so wedded to the stock to blind him to the possibility that he could be wrong. During the time he was shorting Herbalife, Ackman unveiled a fair bit of evidence that Herbalife had, at the least, pyramid-scheme tendencies. He had lots of examples, for instance, of people joining because they had been led to believe they would get rich, only to wind up thousands of dollars out of pocket. Indeed, when the Federal Trade Commission finally weighed in — something Ackman had been pleading with it to do — it negotiated a $200 million settlement with the company, while insisting that Herbalife change many of its business practices.

The problem for Ackman was that Herbalife’s business practices were never going to doom it, not by themselves. No, only the federal government could do that — by labeling Herbalife a pyramid scheme. And that was never going to happen. The last major multilevel marketing company the government went after was Amway almost 40 years ago. That settlement essentially legalized many of the practices that had once been viewed as constituting a pyramid scheme.

How could Ackman not have known something as basic as that? To make matters worse, Ackman began to see himself as a crusader, trying to right a great wrong. In his exhortations to the FTC and others, he talked not about the stock but about the harm he thought Herbalife was doing to its customers, and how his true goal was stop it. But what investor wants a crusader for a hedge-fund manager? Crusaders do things smart investors would never do — like hanging on to something for far too long, even when all seems lost. By trying to help Herbalife’s customers, Ackman was harming the people who had entrusted him with their money.

As for Valeant, Ackman should have seen that coming, too. Under Pearson’s leadership, the company had two strategies for growth. The first was to constantly buy up other pharmaceutical companies, and strip them of research and development and anything else that didn’t bring in revenue. The second was to jack up the price of the drugs it acquired in those takeovers. Other companies were raising prices, too, but few with the brazenness of Valeant.

Wasn’t it obvious that sooner or later, this was going to become a political issue? And that this business model would eventually hit the wall? Seduced by Pearson’s “genius,” Ackman was blindsided when the blowback arrived. To make matters worse, once Pearson left the company, Ackman proclaimed that he would help guide the company back to health and profitability. The idea that this financier knew how to fix a broken pharmaceutical company was laughable.

Since Wapner finished his book, Ackman has proclaimed that he’s getting back to basics, focusing on no-frills activist investing instead of high-profile crusades. He has taken steps to limit further losses on Herbalife. He’s laid off staff.

“The next investment you will hear from us isn’t going to be some successful company trading near its highs,” Ackman said at a hedge-fund conference last year. “It’s going to be a huge opportunity for efficiency, better deployment of capital, a change in strategy, some management changes needed, but the business quality is going to be extremely high.”

One of the stocks he now owns is United Technologies Corp. Scott Wapner, of course, broke the story.

1. The full title is “When the Wolves Bite: Two Billionaires, One Company, and an Epic Wall Street Battle.”
2. The ruling was later overturned by a higher court.
3. In December, Ackman and Valeant settled a lawsuit alleging that the way the two teamed up amounted to insider trading Ackman agreed to pay million, and Valeant million.

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