Herbalife’s About to Get Squeezed -- and I’m Buying

Herbalife's shorts should beware the next buyback.

Aug 6, 2014 at 3:16PM

The noise surrounding Herbalife (NYSE:HLF) is intense, but it's all noise, no signal. Herbalife is a legal business that's trading at a ridiculous valuation -- less than eight times this year's earnings -- implying no growth. But we have a ton of value-creating actions -- and management is making many of them -- that could drive the stock higher in the near term. So, my Special Situations portfolio is setting up an aggressive synthetic long on Herbalife that will return massively if Herbalife trades where it should.

Short propaganda
On my first buy recommendation for Herbalife options in May, I was attacked vehemently and incoherently by short investors. I expect more of that now, as shorts attempt to muddy the waters -- doing anything but addressing Herbalife's real fundamentals -- and obscure the immense value in the stock. That virulence and vitriol scare away many investors, keeping the stock price down.

In my first article, I expounded on why Herbalife is not a pyramid scheme, and why it offers a huge opportunity for gain. In fact, I think the stock is worth at least $120 today, given its growth profile and attractive capital allocation policies. Management has done a fabulous job buying back stock when it's cheap, and that will be reflected in the future as this coiled spring shoots skyward.

And now we have a new catalyst in the offing: Management is considering another leveraged recapitalization. The proximate effect of a debt-for-buyback scheme would be to drive shares rapidly higher as the massive short interest -- now at 55% of the float -- has to be covered.

I estimate that Herbalife could borrow $1 billion, and easily afford the 6% interest or thereabouts for a buyback. As management happily noted on the conference call, the company has a modest debt/EBITDA ratio of 1.2, so it could easily afford the increased interest. And note, too, that I thought the real reason for the recent dividend cut was so that the company could have the free cash flow to float more debt. So, I expect another leveraged recap in the near future.

When that happens, the game is nearly over for the shorts. A $1 billion buyback, once completed, would raise short interest to more than 90% of the float. The slightest good news would make the stock soar. For more on Herbalife, follow me on Twitter: @TMFRoyal. And check out my dedicated discussion board.

Will Bill Ackman get burned? Some, but not much. He's already largely exited his common stock position, and his downside is whatever he paid for his options. After his exaggerated presentation in late July -- his supposed "deathblow" to the "Enron-like fraud" at Herbalife -- and then his ridiculous mea culpa a few days later, Ackman no longer has credibility on this stock. I won't be surprised to hear the Ackman salvo is over, and he's cleared out his position and moved on.

Another great sign: Insiders at the highest levels of Herbalife are buying the stock. The CFO, COO, and President each dropped from $555,000 to $600,000 on stock – at prices between $55 and $56 per share – in the wake of the company's earnings release. This is a huge vote of confidence.

Foolish bottom line
My Special Situations portfolio is setting up an aggressive synthetic long to take advantage of this massive mispricing. I'm selling one January 2016 $60 put, and using those funds to buy two January 2016 $80 calls, and six January 2016 $100 calls. For more on Herbalife, follow me on Twitter: @TMFRoyal. And check out my dedicated discussion board.

Jim Royal has no position in any stocks mentioned. The Motley Fool has the following options: long January 2016 $57 calls on Herbalife. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

Click here to learn about this incredible technology before Buffett stops being scared and starts buying!

David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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