I drank the shakes, and they turned me blue. Photographer: Jin Lee/Bloomberg
I drank the shakes, and they turned me blue. Photographer: Jin Lee/Bloomberg

A pretty amazing thing happened this morning and also this afternoon and possibly it's still going on and I've just fallen asleep and dreamed that it ended and that I'm typing this. Pershing Square Capital Management manager Bill Ackman gave a three-and-a-half-hour presentation about how bad diet-shake multilevel marketing company Herbalife is. Ackman has done this before, a whole bunch of times, but this one was distinguished by:

  • "a two-dimensional representation of a five-sided pyramid,"
  • a story about an Herbalife distributor killed by a "double-crossing hit man,"
  • some stuff about Nazis,
  • a question from Bill Ackman's dad, and
  • Bill Ackman's television hype tour yesterday in which he said that this speech "will be the most important presentation I’ve made in my career" and "I’m raising expectations, but we won’t disappoint."

Did he?

That's the last three days of the stock -- flattish on Friday, plummeting yesterday during the hype tour, right back up and then some today during and after the presentation. In the Q&A period, someone pointed out that the stock was up 13 percent at the time (it closed up more than 25 percent), and Ackman said "I'm not surprised." And, to be fair, he never said whom he planned not to disappoint. The market is disappointed, but, I mean, his dad was there too. Maybe he was the intended audience?

There are at least three things I don't understand, leaving aside the double-crossing hit man. First: What was the market thinking? I rarely give stock tips on this here blog, both because it doesn't seem like a good idea in general, and because I am the world's worst stock picker. But I could have told you that Herbalife would be way up today, and I did tell you that this morning, and then Herbalife was way up. This was a pretty easy call. If you were dumping Herbalife yesterday, why were you doing that? Just because Bill Ackman said he wouldn't disappoint you? Aren't you disappointed?

Second: What was Bill Ackman thinking? Not about the presentation, which could have used ALL THE EDITING IN THE WORLD but which I actually found fairly persuasive. But why raise expectations so much, crush the stock yesterday, and then show up with anything short of proof that Herbalife shakes are made of ground-up orphans? Ackman's game, at this point, has to be to convince regulators that he's right and cannot be ignored. Putting on a huge public performance of being ignored by the market can't help with that game. If you're a regulator and you somehow forgot to sit through today's four-hour presentation, what does that stock chart tell you about whether it's worth watching the replay?

Most importantly, though: What should you think about Herbalife? I have no independent factual basis for evaluating Ackman's claims, though I've watched Herbalife president Des Walsh speak, and that is enough for me to be mostly Team Ackman here. Hedge fund manager and Herbalife bull John Hempton has written and spoken persuasively about how Herbalife's basic business is helping people lose weight, and how it's good at that. But to me, the business opportunity that Herbalife sells, with its many levels of distributors and its tiny chance of making any money, sure looks, you know, awfully pyramid-shaped.

Here is my rough meta-theory for evaluating Herbalife. If you look at the back-and-forth between Ackman and Herbalife, there's a pattern. Ackman points out something about Herbalife that looks bad, and Herbalife denies it immediately, and then Herbalife says it's just a misunderstanding, and then Herbalife fixes it.1

So when Ackman started on his Herbalife quest, a year and a half ago, one of his big complaints was that Herbalife was not selling much product outside of its network, in violation of pyramid-scheme rules. A related complaint was that Herbalife was inventory loading, forcing members of its network to buy a bunch of product upfront and then making it hard to return, so that in effect it was just pushing piles of unsold product out to failed distributors who couldn't return it. Herbalife denied everything, but then changed its disclosure to refer to "members" instead of "distributors," arguing that most of the people previously referred to as "distributors" were in fact just discounted retail customers.2 And it changed its return policies to make returns easy and free. And its revenue kept going up.

Next, Ackman targeted individual high-level distributors who ran lead generation businesses:

Typically, these companies sell new distributors sales leads -- for about $100 a pop -- that come from people who have signed up via the Internet to learn more about Herbalife’s business opportunities.

Despite questionable practices, these companies have propelled almost a third of Herbalife’s top US distributors into the millionaire ranks. Six of the top 20 distributors -- who belong to the Chairman’s Club or the Founder’s Circle -- either ran these recruitment companies or had close ties to them.

The theory here was basically that these high-level Herbalife distributors were using Herbalife's product and infrastructure to run their own pyramid schemes, and that this was critical for Herbalife because it drove sales of Herbalife product to the distributors' victims. But then Herbalife banned lead-selling and got rid of some of the more egregious scammers. And its revenue kept going up.

Now Ackman is arguing that, in essence, Herbalife's "nutrition clubs" are being used as the infrastructure for other distributors to run another pyramid scheme. The claim is that these distributors -- running things called the Club 100, or Success University, or whatever -- recruit new members to run nutrition clubs, and then require them to get "training" by making (and paying for) 100 diet shakes in other existing nutrition clubs, and to bring in new recruits, before they can open their own. This seems like excessive training in blending powder and water, so Ackman concludes that it's a sham, a way to funnel profits back to the member's up-line. From CNBC:

"This is a mini-Herbalife pyramid," Ackman said of Club 100 and its own structure of recruiting new members, especially family and friends. "They are not selling weight loss in these clubs, they are selling a business opportunity," he said.

He likened the nutrition clubs full of "trainees" to Enron's fake trading floors, designed to create an impression (among new recruits) that there's a real business instead of just a scam.

Herbalife denied this pretty strongly -- "completely false and fabricated" -- and again John Hempton's Herbalife nutrition club experience is very different from Ackman's investigators'. But I suppose it's always possible that, following past practice, Herbalife will find some problems at the clubs and make some changes in response. Ackman is dismissive that this could work, saying:

“By becoming legal, they die,” he said of the nutrition clubs. “Why? Because we don’t think there’s fundamental demand for the product.”

But this was his theory about inventory loading too, and about lead generation. He finds a problem and says that it can't be fixed without crippling the business. Herbalife denies that it's a problem and also promises to fix it. Herbalife's revenue keeps going up.

I don't know what you can conclude from this. If you're an Herbalife believer, I guess the conclusion is that it's a good company with a good business and a few unimportant non-employee bad apples that it regulates as best it can. If you're an Ackman believer, perhaps you conclude that it's sort of a rotating3 pyramid scheme: As soon as Ackman shames Herbalife into shutting down one scammy business opportunity, another one springs up, with the company's tacit acquiescence if not active support. Even if you do think that, though, I'm not sure it's much of a reason to be bearish. The universe of potential scams is infinite. Exposing them one at a time seems unlikely to put any nails in coffins.

So what's going on? One possible use for today's over-hyped presentation might be to cause nervousness among Herbalife's board members (five of them appointed by Carl Icahn), and its auditors and bankers and public relations people and everyone else called out by name by Ackman. The overpromising yesterday might have just been necessary to get those people to tune in, and berating them today might cause them some anxiety. If you're accused of running a rotating scam, then you may not feel comfortable just making some cosmetic fixes to resolve whatever the current scam is.

Though I also like DealBook's theory:

Mr. Ackman, who is still losing money on his bet, made no secret that at this point he would welcome a court battle. A lawsuit might be advantageous to Mr. Ackman and his Pershing Square Capital Management hedge fund because it would give his firm access to records at Herbalife that he might not otherwise be able to unearth.

In response to a question about whether he was almost goading the company and Mr. Johnson to sue him, Mr. Ackman simply said, “Bring it on.”

Regulatory agencies have some powerful incentives to ignore Ackman's Herbalife agitating: If nothing else, it would be embarrassing to let Herbalife operate for 30 years and then decide to shut it down now at the insistence of a billionaire short seller. Courts, however, don't get to ignore lawsuits. If Ackman and Herbalife end up in court, the court will just have to declare a winner. And allow lots of discovery.

And if the goal is just to goad Herbalife into suing him, then Ackman's strategy makes perfect sense: Throw around extravagant claims about how the speech will bring down Herbalife, to make its officers nervous. Use the speech to make personal attacks on those officers, to make them angry. And ... y'know, be a little disappointing, to build up some confidence that, if they sue him, they'll win. Maybe he's got them exactly where he wants them?

1 Cf. the Nightline investigation that found Herbalife distributors claiming that Herbalife cures brain tumors. Des Walsh's response was that they're not supposed to do that. Also there is John Hempton on Herbalife curing diabetes.

2 Just today Herbalife released a report estimating that 39 percent of its product is purchased by non-members -- so 61 percent is purchased by members. But 41 percent is purchased by members who do not intend to be distributors -- who, a year and a half ago, would have been called "distributors."

3 Five-sided?

To contact the writer of this article: Matt Levine at mlevine51@bloomberg.net.

To contact the editor responsible for this article: Zara Kessler at zkessler@bloomberg.net.