Bill Ackman (Trades, Portfolio)’s Pershing Square sustained another strike Friday when a long-time short, nutrition direct seller Herbalife (HLF, Financial), settled with the FTC for $200 million if it made certain changes to its business model, finally laying to rest his allegation that it is a pyramid scheme.
Ackman initially made a $1 billion short call against the company in 2012, sending its price spiraling down by more than half. His continued campaign against the stock and the FTC investigation enduring since 2014 have left the stock in limbo.
Ackman held to his ideas about the company until as recently as yesterday. In a CNBC interview, he predicted that regardless of the outcome of the investigation, the stock would not rise above $60 and that at 14 times earnings it would obliterate its investors. Upon news of the settlement, the stock jolted up 11% by early Friday afternoon. Over the past five years, its price has risen 11.6% to $64.42 per share.
A GuruFocus analysis using various valuation methods shows that Herbalife stock remains undervalued, suggesting that it has upward potential. It also appears in better condition than a company in which Ackman has a massive long position, Valeant Pharmaceuticals (VRX, Financial).
Battle with the short-seller had no apparent negative impact on the $6 billion market cap company’s growth over the past five years. On average annually during that period, it grew revenue at a rate of 20.9, EBITDA at a rate of 15, operating income at a rate of 14.8% and free cash flow at a rate of 16.9%. In the first quarter Herbalife had $1.1 billion in revenue, increased 1% from the same quarter a year prior.
Herbalife also has a pristine balance sheet as of the first quarter. It has low debt of $993 million and $774 million in cash. In addition, it can more than comfortably pay its $25 million net interest expense with $168 million in operating income. Changes to its business model under terms of the settlement, however, may affect this situation somewhat going forward.
By contrast, Valeant is saddled with $31.3 billion in debt and has $1.3 billion in cash as of the end of the first quarter. Its interest payments on the debt are $427 million, which its $66 million in operating income cannot cover. Facing a short-seller itself as well as other obstacles, Valeant shares have plunged 78% year to date. Ackman’s initial $3.3 billion investment in the company has shrunk to $567.9 million in value.
Additionally, with a predictability rank of five stars, Herbalife has predictable earnings, implying accurate valuations.
As of July 2016, Herbalife is slightly undervalued based on its Peter Lynch chart. Despite volatile prices, the company has generally traded below its earnings line during the past 10 years. This suggests that the company has potential to increase its value in the short term.
The company’s projected free cash flow of $79.76 suggests that Herbalife has potential to increase its value in the short term, since the FCF is higher than its current stock price. With an intrinsic value of $174.23 based on its free cash flow, the nutrition company is undervalued and likely to create value in the next few years. Additionally, the DCF Calculator computes a fair value of $118.43 based on the discounted cash flow earnings model, giving Herbalife a margin of safety of 43%. This valuation is likely accurate due to the company’s high predictability rank.
Based on its valuation, Herbalife is currently one of the stocks featured in the Undervalued Predictable Screener.
James Li also contributed to this report.
See Herbalife’s financials here. Also, see Bill Ackman (Trades, Portfolio)’s portfolio here.
Start a free 7-day trial of Premium Membership to GuruFocus.
