It’s been a rough ride lately for shareholders of downtown Los Angeles-based Herbalife Nutrition Ltd. Shares have tumbled nearly 50% in value over the last six months, with a huge 32% plunge on Feb. 15 after a disappointing earnings report sending the stock to a 14-year low.
This triggered some gloating from the company’s longtime nemesis, New York-based hedge fund manager Bill Ackman, who claimed in a posting on X (formerly Twitter) that his “psychological short” on Herbalife stock had been justified. Twelve years ago, Ackman launched an actual short-selling bet of $1 billion on Herbalife stock, claiming the company was little more than a dressed-up pyramid scheme. But after a bitter battle and a runup in Herbalife shares, Ackman withdrew his short bet in 2018.
Herbalife’s recent stock travails also prompted newly returned Chief Executive Michael Johnson to announce on Feb. 16 that he had purchased nearly $500,000 worth of shares. In a previous stint as chief executive, Johnson had rallied support around the company and its stock, action that eventually succeeded in fending off Ackman’s short-selling bet.
Growth, sales underperforming investor expectations
Herbalife uses an extensive network of distributors to sell its nutrition products – protein shakes, snacks and other diet and nutrition supplements – to consumers in more than 90 countries around the globe. In theory, the larger the number of distributors, the greater the increase in sales – provided the distributors on average continue to sell the same or greater amount of product.
At the root of the recent decline in Herbalife’s share price is a combination of sluggish sales growth and higher costs. For all of last year, worldwide sales fell to $5.06 billion from $5.20 billion in 2022. A confluence of factors was behind the sales drop, including an extended downturn in the Chinese market as the result of Covid lockdowns and weaker than expected performance from its distributor network. Meanwhile, expenses increased due to inflation, unfavorable currency rates and the ongoing implementation of a “transformation program” that began in 2021.
The transformation program is aimed at modernizing business practices, ranging from improving training for distributors, incorporating more social media into distributor interactions with both other distributors and end consumers to consolidating back-office operations.
All this prompted Johnson in the company’s earnings conference call with investors to call 2023 “a very challenging year.”
More immediately for investors, the company’s fourth-quarter earnings of $0.28 per share came in significantly below analyst expectations of $0.39 per share, according to a post from website Motley Fool. Net income for the quarter was also down sharply: $10.2 million compared to $54.4 million for the same quarter in 2022.
Investors punished Herbalife in the trading session following the earnings release, sending shares down nearly 32% to $8.03, a 14-year low.
Ackman’s short-selling position
For Ackman, this was an after-the-fact justification for his strategy initiated 12 years ago to short the company’s stock, betting $1 billion of his Pershing Square Capital Management fund on that.
Short-selling a stock involves the borrowing of shares from a third party, then betting the price of the stock will go down; the borrower then buys back the shares at a lower price, thus making a profit. It’s a strategy employed by investors who have a strong belief that a stock will lose value over time.
Ackman went further than just making this bet. He also called Herbalife and its distributor network a pyramid scheme, in which distributors make money by receiving commissions from recruiting more distributors.
Herbalife refuted this claim. However, in 2016 the company paid $200 million to settle charges from the Federal Trade Commission that it had deceptively promised its distributors they would earn much more than they actually did. As part of the settlement, Herbalife agreed to restructure its business so that distributors primarily make money through the sales of products and not on their commissions from recruiting new distributors.
Ackman’s short-selling bid unraveled in large part because another investor, billionaire Carl Icahn, took the opposite side of the bid – that Herbalife shares would go up. Ackman and Icahn had previously feuded on investment strategy and this battle deepened that rift. Icahn eventually built up his stake in Herbalife to 26%. That helped drive Herbalife shares up, and in 2018 Ackman withdrew his stake in the company after losing hundreds of millions of dollars. Icahn withdrew his stake in the company in 2021.
Had Ackman held onto the shares through last month, though, he would have been in a position to make a substantial profit, as the share price fell well below the 2012 level, which is why he made the post on X. Ackman made no indication in his post that he intended to take another short-selling position in Herbalife.
Johnson’s purchase of roughly 61,000 Herbalife shares worth nearly $500,000 brings his total share count to roughly 1.15 million. In announcing the purchase, the newly returned chief executive cited his confidence in the company.
The aim, of course, was to convince investors to return to the fold. So far, that has not happened to any significant extent. After reaching that 14-year low of $8.03 on Feb. 15, the share price has risen slightly to close at $8.76 on Feb. 27. But that’s still down 55% from the same date last year.
When asked to comment on the company’s stock performance, a company spokesperson stressed Herbalife plans to focus on market opportunities.
“We have put in place a strong plan to maximize market opportunities and drive continued growth. We are confident Herbalife is on a path to achieving its next phase of growth,” the spokesperson said.
Implementing the so-called transformation initiative
In his remarks to analysts on the earnings call, Johnson reviewed several other steps the company had taken in recent months to boost profitability and investor confidence, starting with the transformation initiative. He said that initiative resulted in $115 million in savings last year, exceeding the initial target of $70 million. He credited the company’s efforts to consolidate back-office operations with helping the initiative perform better than expected.
“On the product front, we introduced 17 innovative products that supported our distributors’ businesses, and we launched our first-ever vegan line,” Johnson told analysts. The vegan nutrition product line was so successful initially that the company temporarily ran out of stock, he added.
Johnson also touted the company’s efforts to better engage its millions of distributors around the globe, including more events and training.
Looking ahead to this year, Johnson said the company plans to continue these efforts, with the help of a recent hire: Stephan Gratziani as chief strategy officer and, as of last month, president. Gratziani told analysts he and his team have spent a lot of time on the ground in the last few months with Herbalife’s distributor teams in China, Mexico and the United States, seeking to improve distributors’ focus on key trends in their respective markets.
He also said the company plans to shift the focus of its “nutrition clubs” – small groups created by distributors to educate current and potential end customers on the value of exercise and proper nutrition. The original goal was to get customers to include Herbalife nutrition products as part of a holistic approach to health and fitness.
But in recent years, especially in the United States, many clubs drifted toward a retail focus, with customers making one-time purchases of nutrition products and only a sliver becoming Herbalife consumer members. Gratziani said he wants to return these clubs to their original focus, creating more long-term members who end up buying the nutrition products on a repeat basis.
As analyst Linda Bolton Weiser of D.A. Davidson summed up, this “can increase customer conversion from 1% to more than 10%.”
Flat 2024; growth after that?
But both Johnson and Gratziani said it will take some time for the full impact of these initiatives to show up on Herbalife’s income statements.
“We are investing and positioning ourselves for growth through 2024,” Johnson said. But, he added, “Based on our line of sight today, we are forecasting this year to be relatively flat.”
Analysts greeted this news with very cautious optimism.
“Our Take: Disappointing Fiscal Year 2024 Outlook, but Positive Strategic Initiatives,” John Baumgartner, analyst with Mizuho Securities, wrote to lead off his latest report on Herbalife, which maintained his neutral rating on the stock.
Baumgartner said that while Herbalife’s transformation initiative has put upward pressure on spending in the short run, “We are bullish on new President Stephan Gratziani’s recovery plans.”
