Thursday, May 14, 2015

A Confidence Maim: How the Bostick Case Just Eviscerated Ackman's Short

Today in a sweeping summary, Judge O'Connell granted final approval for the class action settlement. The class covered over 1.5 million former distributors over a period of almost six years. In addition to judgment of approximately $17.5M, O'Connell outlined her approval in a 60 page document.

Prior to approval of the agreement Judge O'Connell had to weigh whether or not the class could be certified under Rule 23. Under Rule 23(a), the party seeking certification must establish all four of the following: (1) numerosity, (2) commonality, (3) typicality, and (4) adequacy of representation.

Additionally, under Rule 23(b)(3), class certification is appropriate where (1) common questions “predominate over any questions affecting only individual members,” and (2) class resolution is “superior to other available methods for the fair and efficient adjudication of the controversy.”

Lastly, under Rule 23(e), a district court may not finally approve a class settlement unless the court determines that the “proposed settlement is fundamentally fair, adequate, and reasonable.”

Needless to say, if she approved the settlement you don't have to guess that she found the settlement fully agreed with the provisions of Rule 23 outlined above. I suggest you read the settlement order yourself (linked above and embedded at bottom), but my top line summary is as follows:

  1. Plaintiffs satisfied requirements for certification under Rule 23
    • the proposed class met the four threshold requirements for certification under Rule 23(a) and sufficient common questions predominated, which warranted class treatment as it ensure that class action settlement was the superior method of adjudication under Rule 23(b)
    • After considering papers filed, as well as arguments advanced at the final fairness hearing the the Court also found the settlement comported with Rule 23(e)
    • settlement was fair, adequate and reasonable
  2. With regard to the allegations that Herbalife violated California Penal Code section 327 (endless chain, pyramid scheme), the Court determined that the Nielsen survey estimating that approximately 73% of its members and distributors joined Herbalife primarily for self-consumption purposes "seriously undermines Plaintiffs' endless chain scheme claim, as it suggests most members did not join “for the chance to receive compensation”for recruiting new members." The Court also went on that "based on this survey evidence, a reasonable fact finder could conclude Herbalife does not operate as an illegal pyramid scheme." (emphasis added)
  3. The Court also found that the Plaintiffs' claims that Herbalife violated UCL(unfair competition law) and FAL(false advertising law) was accompanied by "significant evidentiary risks". Judge O'Connell noted that when Herablife introduced changes to its marketing materials and SAGC in February 2013, that showed most people earned no income by joining Herbalife, the number of members and distributors increased. She continued that "this evidence would support Herbalife’s argument that the alleged misrepresentations and omissions in the earlier Statements of Average Gross Compensation were not material and did not impact members or distributors’ decisions to join Herbalife." Judge O'Connell also noted that the claims that Herbalife somehow violated UCL/FAL because it charged 7% packaging and handling (which could have exceeded the actual packaging and handling cost), was an uncertain liability theory because evidence obtained in discovery* "suggested that some distributors successfully resold Herbalife products at the full suggested retail price, including all costs of shipping and handling, such that these distributors suffered no loss from the alleged misrepresentations"...and..."that Herbalife members and distributors have no real interest in whether Herbalife in fact profited from packaging and handling or freight fees, so long as the the company clearly disclosed the fact and amount of the fees." *(perhaps the evidence obtained in discovery is the white whale of 70/30 sales records Captain Ackman has been chasing)
  4. With regard to the 18 objectors represented by Douglas Brooks and the amici filed by TINA and NCL, the Court pretty much shut down all of objections by noting that:
    • their objections on packaging and handling were misguided because claimants could have recouped the allegedly misleading P&H charges through the claims process"
    • the objectors overestimate the potential liability under an endless chain scheme, because they rely on two unreliable surveys(one is industry wide across all direct sellers, and the other was limited to forty eight Herbalife supervisors, and thus likely to have invested for business purposes).
    • the objectors contention that the settlement unfairly deprives class members of compensation is "speculative and does not accord with a plain reading of the "Settlement Agreement."
    • the objectors contention that the 13 corporate reforms in the settlement were inadequate was "far from certain" and that "a fair and reasonable settlement agreement need not require Herbalife to entirely upend its business model"
    • the objectors contention that the settlement lacked an enforcement mechanism to monitor compliance was inadequate and unpersuasive because the the settlement agreement vests the Court with continuing jurisdiction to enforce it's terms and Plaintiffs' counsel will oversee the reforms.
    • the objectors attack on the substance of the proposed reforms was unwarranted, illogical and "internally inconsistent" and the Court "finds them to be fair and reasonable" as the reforms "go to the core of Plaintiffs’ endless chain scheme claim and help ensure that current members do not take advantage of other members or new recruits."
    • the objectors, although they disagree with the class counsel's ultimate evaluation of the strength of the Plaintiffs' case, "they do not appear to attack class counsel’s knowledge of the facts and legal issues presented.  This factor thus strongly favors final approval." 
    • the objectors argument that the class notification process was faulty lacked merit because the class notice fully detailed the terms and potential settlement available, as well as notifies claimants of the actual value of their claims through the claims administrator. Furthermore the Court noted that because the notification process reached 92.91% of the class in both English and Spanish, the process was sufficient and comported with due process and Rule 23.
  5. Although the NCL and TINA amici as well as the Brooks objectors averred otherwise, the Court concluded that the bifurcation of class members by Business Opportunity ($750 or more) receiving pro rata remuneration and the flat rate awards of $20 ($750 or less) did not unfairly favor claimants that purchased greater value of products because the Nielsen survey data demonstrated that a majority of those that purchased less than $750 a year were likely members to obtain product discounts or for self consumption and thus suffered no loss.
  6. The Court received no objections from "state of federal entities in connection with these proceedings." Although the lack of objection is not necessarily an endorsement by any Federal or State authorities, you'd have to imagine that if they thought the settlement was unfair that they certainly would have objected to it.
  7. The fact there were very few objectors or opt outs, demonstrated that the class response "both in numbers and rationale" favored the settlement agreement.
  8. The scope of the settlement agreement's release was not too broad.
  9. The low response rate (7,457 claims, or less than 1% of the class) did not demonstrate the notification process was a failure because "the adequacy of notice is measure by whether notice reached class members and gave them an opportunity to participate, not by actual participation 231 F.R.D. 221, 236 (S.D. W. Va. 2005)". Perhaps most importantly, not just for the case but with respect to the entire short argument against Herbalife, Judge O'Connell draws attention to the fact that the "facts and circumstances of this case reasonably suggest a low response rate.  As has been discussed throughout this Order, survey evidence suggests that most Herbalife members and distributors joined to obtain a product discount.  These members are unlikely to have unopened and unused Herbalife products they wish to return for a refund, as they are most likely to have purchased the products for personal consumption.  Further, these individuals are unlikely to have suffered any financial losses on a failed business opportunity, as their reason for joining the company was not to generate income or pursue an entrepreneurial enterprise." (emphasis added)
Another really interesting tidbit culled from the 60 page ruling was with respect to the concept of consequential damages. Much of the figures the Ackman camp have thrown around cite support costs associated with running their business. Although the largest claim in the Bostick settlement was ~$98,000, Ackman has often paraded former distributors that cited loss figures well above $100,000. Setting aside the consequential damage Ackman will likely endure as a result of his Herbalife short, Judge O'Connell scrutinizes the consequential damages figures often cited against Herbalife. Although the Bostick settlement in and of itself can be viewed as a huge win for the company, a potentially much bigger win is gleaned from Judge O'Connell's approval order where she notes:
"The Court is not aware of any binding authority discussing whether the statute permits the recovery of consequential damages.  Assuming Plaintiffs prevailed on their endless chain scheme claim, the Court would have to consider whether they are entitled to consequential damages under section 1689.2."
Effectively what O'Connell said in her order was that although Herbalife does not appear to be a pyramid scheme, that hypothetically even if Herbalife were determined to be pyramidal in substance, she doesn't believe the endless chain law has authority to award consequential damages. In light of the fact that Judge O'Connell resoundingly favored the settlement agreement with her final approval, and that her approval eliminates potential claims (for both purchases, and consequential damages) from more than 1.5 million former distributor members spanning almost six years, I can't possibly imagine how Ackman (or Tilson, or Richards etc. ad nauseam)will spin this as a win for his short position, although I'm almost certain he'll cry, I mean try. He did ignore the Belgium ruling after all. Hey, maybe we'll get lucky and Tilson will send everyone an email about it!

Wednesday, May 13, 2015

Bostick v. Ackman: 2:13-cv-02488-BRO-SH

I previously wrote how there was a very low number of claims against Herbalife in the Bostick class action case.

After objections to the settlement were filed in March by a group of 18 persons (the majority of which were organized by a local LULAC chapter in Chicago) who were represented by the three time Herbalife class-action attorney Douglas Brooks, Herbalife agreed to extend the claim filing deadline through the end of April.

Part of the rationale for granting the extension was expressed in class counsel's previous declarations in which Bostick's attorneys commented that if the pro rata award for former members was raised from 50% reimbursement to 75% reimbursement the net claims for business opportunity members would increase to between approximately $7,218,539-$7,299,619; given that the value of claims fell far below the net settlement fund, there was room for increasing the pro rata awards up to 75% instead of diverting the leftover funds to the cy pres component of the settlement agreement.

This past Monday the final hearing on the tentatively approved settlement was held in California. During the hearing Judge O'Connell granted TINA's motion for leave to file their amicus curae, and will thus take their brief into consideration while forming her final opinion, however O'Connell refused to entertain LULAC's claims regarding undocumented worker. Of particular note, documents presented in court showed that as Douglass Brook predicted, by extending the claim filing period, the total business opportunity claims increased, although not nearly as drastically as Brooks would have had you believe. The claims increased to $7,396,407 and the number of total claims increased to 7457 claims filed. Effectively, even by raising the pro rata award to 75% and extending the claim filing deadline by almost three months, the total claims filed were only increased by a total of 219 claims(+3%) which were filed for an average claim of $812. There were no additional claims above $10,000, five additional claims for $5,000-$10,000, twenty six additional claims for $1,000-5000 and 188 claims for ≤ $1,000.

It's also notable that although the settlement fund provided up to $2.5 million specifically for product returns, a grand total of $938,280.75 was claimed in product returns(even though they only needed to provide an estimate price and didn't have to actually return products). The extension provided by Herbalife increased the product return payout by a net increase of $35,968.83(~4%) even with the claim filing extension to the end of April.

The numbers don't quite add up though. Although treble-deft Douglass Brooks started representing the settlement objectors in February and despite the vociferous protestations of LULAC starting well before February, the claim extension through April still only produced a tiny increase in additional claims.

I suppose that at the very least we can now retire Brook's previous theories as to why the settlement should be denied approval. Brooks claimed that better communication (beyond the 93% already reached in the class in both English & Spanish) and stronger community outreach (via someone like his declarant Contreras) as well as adequate and proper legal representation (by someone like, oh I don't know, say Douglass Brooks maybe?) would have resulted in a drastically different outcome with respect to the settlement claims. 219 additional claims doesn't seem to be a ringing endorsement for those theories. Maybe all those trips to N.Y. and D.C. proved to be too much of a distraction for Contreras and Brooks.

If Herbalife members/distributors were as disenfranchised and defrauded by Herbalife as Ackman and others would have you believe, why would a class in which we know at least 1.4M people were properly notified, still produce less than $1M in product refund requests and 7,457 total claims after an extended filing period? The simplest answer is the one Ackman refuses to recognize.

We've watched Ackman's thesis morph over the years from pyramid scheme, to inventory loading, to currency headwind, to scraping, and member retention issues. For all the political pressure and fanfare Ackman has attempted to reign down upon Herbalife, you need look no further than the class action suit to discover 1.5 million human reasons why the case is playing out more like Bostick v. Ackman. In my opinion, even if O'Connell does not approve the settlement in its current embodiment, the evidence and documentation presented in the Bostick case by the third party claims administrator KCC has almost single handedly destroyed Ackman's entire short thesis on Herbalife.

Friday, May 1, 2015

MNNPI, Material Non-Non-Public Information

Christine Richards published a somewhat bizarre series of claims in Seeking alpha this morning under the title "Herbalife's Top Distributors Hold Warehouses Full Of Product In Mexico - Why?"

Christine Richards claimed that sell side analysts Tim Ramey (Pivotal Research) and Meredith Adler (Barclay's) have been recipients of selectively disseminated material non-public information. She claims, among other things that 
  • "The existence of field sales and the company’s plans to crack down on them have been inadequately and selectively disclosed to investors."
She then attempts to bolster some of her other claims about inventory loading with the aid of the captioned image below, which shows Humberto Jaimes addressing a group of people with a large cluster of boxes behind him. MY GOD! This isn't just a garage full of Herbalife, it's virtually the cave of the Forty Thieves. Behold the Herbalife treasures! The audience appears to be in imminent danger of hundreds of boxes of inventory collapsing on top of them. 

"Herbalife Chairman's Club member Humberto Jaimes lectures at his training center in Tecamac, Mexico, which is filled with enormous volumes of Herbalife products"-caption and image from Seeking Alpha.
Unsurprisingly its another sleight of hand from someone that's been described as "Ackman's personal biographer".  Yes, there are boxes, but Tecamac is not filled with an enormous volume of Herbalife products. Richards likely wants you to believe that because that would make the optics of her channel stuffing arguments seem more valid and real, but if you dig just a little bit deeper, you find her characterization is entirely inaccurate. What Humberto is standing in front of is actually box after box of Oster blenders(probably for making Herbalife shakes) and water heaters(probably for aloe tea). I have no idea whether or not he is selling these or giving these away, but either way it would seem to indicate pretty significant demand for Herbalife products in the Tecamac region. In other pictures taken in the same training center in mid-November of 2014, you can actually the blenders much more easily, as well as the very conspicuous lack of 'enormous volumes' of Herbalife products. You can look out among the crowd to see for yourself it's more a vast warehouse which is full of people. Either they are all sitting on boxes of inventory or Richards is wrong again.

You can also easily pull Google satellite images for yourself to dispel any concerns that maybe this is just the front of some vast warehouse network hidden behind all those people. If you're lazy, you can just look at the ones I've included below to see that this training center seems to be no more than a training center full of people and not some vast underground network of illicitly stuffed inventory. In the street view its also easy to see the training center is a large building with ample parking, but doesn't seem to have warehousing capabilities.

And just for kicks, I threw in a video showing the kinds of nefarious goings on that typically occur in El CAT.

Esta increible tecamac
Posted by Centro De Apoyo Tecamac on Thursday, September 11, 2014

But what about Ms. Adler and Mr. Ramey you say? Well, turns out they did in fact have a heads up, as did about 600,000 other people in late October of 2014, when Herbalife announced its Sales and Marketing Plan enhancements, which the company also selectively discussed in it's November 3rd, 2014 earnings release and SEC filings.

It's somewhat comical to think that Ackman and his troupe have literally spent millions and millions in their short campaign against Herbalife, but have worse intelligence than any ordinary Herbalife member gets with their $60.00 IBP purchase. 

"May the best analyst win."