Tuesday, October 15, 2013

The Burros vs. the Lippizan (Or some other waspy equine analogy for Herbalife vs. Bill Ackman)

Last night, I sent an email to Duane Stanford at Bloomberg. In addition to thanking him for writing his article about Jeff Dunn's (Herbalife Board member) prediction that Herbalife audited financials would come in clean I also asked him for clarification on a couple points. I have not yet heard back from him, but in all fairness to him, he really has not had much time to respond. In any case I do hope that Mr. Stanford is able to reach back out to Mr. Dunn and clarify Mr. Dunn's comments.

That being said, within his article he states that "A clean bill of health on the new audits may clear the way for Herbalife to resume plans to repurchase at least $50 million of stock per quarter, the company said in July."In reading this I immediately thought about the Q2 conference call Mr. Stanford indirectly references in his article when John DeSimone said something similar but not quite the same. So I went back to the transcript and reviewed.  After reviewing the transcript you will see that what Mr. DeSimone actually said was:

John DeSimone (CFO) :"Finally, I will address on share buyback program. Over the last couple of years, our guidance normally included $50 million of share repurchased per quarter. This indicated our intention to at least execute a portion of our buyback program on a routine basis even though in many quarters we significantly exceeded that amount.   Last quarter, we did not include any repurchase in our guidance for Q2 as a result of KPMG’s forced resignation.   We wanted to wait until we had new auditors on-board, which would provide us better visibility into the timing of securing re-audited statements. With (Peter Mussey) on-board and our confidence in having re-audited statements by year-end, our guidance provided yesterday included the assumption that the company will resume its buyback program."

To be clear a clean audit was not necessary for Herbalife to re-commence share buybacks; having a new auditor on board was the contingency they wanted fulfilled before they resumed their pre-authorized share buyback. That means that they will have unequivocally undertaken a minimum of $50M in buybacks this quarter with a minimum of $50M in the next quarter, regardless of having audited financials in hand.

If Mr. Stanford's conversation with Mr. Dunn is what led him to make his statement, I would ask that he share with his readership more of his discussion so that we may all be better informed. I suspect however that Mr. Stanford's article has inadvertently mixed two issues; audited financials (which you can't have without an auditor) and Herbalife's share buyback program (which by their own criteria required having an auditor on board).
I think that based upon their last conference call that Herbalife has already been in the market buying back shares. I've stated this before and think that Herbalife's buyback combined with Ackman's restructure, significantly raised the demand, and thus the price, for Herbalife equity over the month of September. 

I think that what Mr. Dunn was referring to is the company's willingness to go beyond the currently authorized share buyback program and either authorize an additional buyback program, or that they are willing to fund a larger buyback with debt. That makes Mr. Dunn's statement all the more prescient when he says:
“Our stock’s a good buy and if we have excess cash laying around and we have leverage, that’s a great way to put our money to work,” Dunn said. “It’s good for the shareholders.” (note that i added the emphasis here, not Mr. Stanford).

I think that what he is actually saying here is that they may have blown through (or plan to blow through) the expected burn of their currently authorized buyback program (which had $787 million remaining on July 30th). He knows the buyback was already authorized so a reference to "excess cash" likely indicates that they'd be willing to authorize another buyback program that uses the enormous amounts of cash the company generates on a quarterly basis. Likewise unless he was live streaming TNT to the boardroom his reference to "having leverage"  as a means to put their money to work pretty much telegraphs that the Board has seriously discussed issuing bonds, or taking on additional debt in some manner to buyback even more shares, beyond the previously approved $787 million they had remaining in the program. It may be a subtle point that I am drawing too fine a line on, but I think everyone should review the transcript for themselves. Once you review that transcript you will also notice for yourself that just prior to discussing the share buyback the company disclosed they were raising full year guidance by between $.15-$.23/share to a range of $4.83-$4.95, with adjusted Q3 EPS expectations at between $1.09 and $1.13/share.

You know one really quick way to boost EPS to the guided numbers? You buyback shares; and you don't just buyback $50 million worth of shares. Even after you adjust for the increase in revenue guidance Herbalife provided, you still have to buyback roughly 3-5 million shares, just to meet expectations. We all know that Herbalife likes beating earnings guidance more than Dan Loeb loves beating Ackman at (insert waspy expensive sport/game of your choice here, like dressage or something).

Based on the Q2 call, Mr. Dunn's comments, and Herbalife's addiction to earnings beats, I would not be surprised if Herbalife hitches up the wagon, hauls a significant portion of shares off the float and comes in above $4.95/share while Bill Ackman attempts to pirouette-serpentine-piafe his way out of some really expensive, and really tight breeches.

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