The three-hour takedown… Bill Ackman shorts what he calls a 'pyramid scheme'…
In today's Digest Premium… editor Sean Goldsmith shares his notes from Bill Ackman's marathon presentation accusing one nutraceutical firm of running a scam…
To subscribe to Digest Premium and access this today's analysis, click here.
Massive new oil wealth... The energy story nobody is telling... Bakken gas flaring... Big demand for new pipelines... Bill Ackman's latest short sale... The 'Einhorn Effect'...
Over the past couple years, we've covered the huge increase in U.S. oil and gas production due to the development of the country's vast shale resources.
One of those shales is the Bakken region of western North Dakota and eastern Montana. The region is producing nearly 700,000 barrels of oil per day and still growing. Some folks think it'll hit 1 million barrels a day before long. Five or six years ago, North Dakota accounted for about 1% of U.S. oil production. Today, it's 12%.
For every $1 of oil and gas the wells there produce, $0.91 of it is generated by crude oil, and about $0.03 is from natural gas. Where does the other $0.06 (twice as much as natural gas) come from? Natural gas liquids (NGLs).
NGLs are things like propane (used in backyard "gas" grills) and butane (lighter fluid). Natural gas prices are depressed, but the NGLs in the Bakken can add another $6-$12 to the value of a barrel of oil.
Special processing plants are needed to separate NGLs from natural gas. Then, special pipelines ship the raw NGL mixture to another type of processing plant called a "fractionator." The fractionator separates the raw NGL mixture into individual NGLs, like ethane (the biggest component of the NGL stream), propane, and butane.
But Bakken producers have a big problem. They don't have enough pipelines or processing plants... so they wind up lighting the natural gas on fire, a process called "flaring." As recently as 2009, the national average for gas flaring was about 1% of production. In North Dakota, it's about 34%.
Nobody likes flaring. It's noisy, smelly, and wasteful. When you flare the gas, you flare the NGLs trapped in it, too. It's like lighting money on fire. But if they can't transport out the resource, Bakken energy producers have no choice but to flare. Otherwise, they have to shut down production entirely.
Shutting down oil production to stop flaring would be economically devastating to North Dakota. According to the North Dakota Industrial Commission, a typical Bakken well today will operate for about 45 years and earn $20 million in net profit, pay $4 million in taxes, $7 million in royalties, $2 million in wages, and another $2 million in operating expenses.
Thing is, something will have to be done. The clock is ticking on flaring. North Dakota regulations allow producers to flare gas for one year before they're legally obligated to shut down production, pay royalties on it, or connect to a natural gas gathering pipeline system. (Gathering systems connect to processing facilities... where they separate high-value NGLs.)
Capital for pipelines and processing plants is pouring into the region. The companies building processing capacity right now can make a fortune, too. Some processing plants under construction today are signing contracts with customers for nearly 60% above what they're paying at plants in operation today... should one be lucky enough to find available capacity today. That's how tight the market is. The companies building these new natural gas and NGL processing plants will be paying out much higher levels of income in the next couple years.
And it's not just in the Bakken, either. With NGL-rich shales being exploited from one side of the U.S. to the other, pipelines and processing facilities are desperately needed all over the country.
In the January issue of The 12% Letter, due out after market close today, I (Dan Ferris) will show readers how to earn a healthy yield (that's growing by double-digit percentages every year) from a company that's building pipelines and processing plants in many of these shales.
This safe, well-managed business has been around for several decades. It's really rare that you find a company this conservative that's having such a big growth spurt. So I'm recommending 12% Letter readers take advantage of it immediately.
Today's new 12% Letter recommendation is one of just a handful of high-yielding companies that passes our proprietary seven-point 12% Letter selection model for finding the safest and richest income opportunities.
Few stocks pass the model. It's designed to weed out companies that don't consistently create shareholder value. Passing the model means you're looking at a consistently profitable, growing business that raises dividends regularly and uses the bulk of its cash flow to reward shareholders with cash distributions. This company has raised its dividend 25 of the last 29 quarters.
If you're not reading The 12% Letter, I highly recommend you give it a try. We work very hard to recommend only the highest-quality businesses. This year, we put out 12 issues of The 12% Letter... and recommended just five new stocks. We do our best to keep readers out of low-quality businesses. So we're very, very picky.
If you sign up for The 12% Letter – which is very inexpensive – and decide within four months it's not for you, call us up and we'll give you a full refund. We want you to be happy with our service. That's the only way we'll do business. And even if you do get a refund, you can keep our special report detailing the high-yield income stocks that pass our proprietary seven-point selection model, free of charge.
Click here to sign up for The 12% Letter today. (Don't worry, you won't have to sit through a long promotional video.)
I (Sean Goldsmith) was invited to see hedge-fund billionaire Bill Ackman, founder of Pershing Square Capital Management, present the case for an undisclosed position... I received the invitation yesterday for today's meeting.
Whenever a guy like Ackman discloses a position in a company (long or short), the stock moves sharply. Tons of investors parrot big hedge-fund managers.
Late yesterday, Ackman filed a press release disclosing he was shorting Herbalife, the nutritional supplement company. So much for this morning's big surprise...
In the filing, Ackman stated, "We are short because we believe it is a pyramid scheme." Herbalife has millions of independent distributors. And it can make more money by recruiting more distributors to work under them.
Ackman said he's been researching the stock for around 15 months. The stock dropped 12% on the news (and 22% over two days).
But Ackman, it seems, doesn't have the same effect on stock prices as fellow hedge-fund manager David Einhorn. Einhorn, founder of Greenlight Capital, called the collapse of Lehman Brothers. He's also made several other high-profile short sales like Green Mountain Coffee Roasters.
In May, Einhorn asked a few questions on an Herbalife conference call... He wanted to know how Herbalife quantifies distributors, consumers, and other clients. He also wanted to know why the company stopped disclosing the percentage breakdown among its distributors.
Einhorn didn't even disclose a short position in the stock... But Herbalife dropped 20%.
After attending Ackman's presentation… I had more notes for Digest Premium subscribers. To make sure you don't miss it, click here...
New 52-week highs (as of 12/19/12): Brookfield Asset Management (BAM).
In today's mailbag… several subscribers describe how they're using our strategies to grow their wealth. We love to hear success stories. Share yours at feedback@stansberryresearch.com.
"With my 10 year old sons college prepaid and a 529 in place, building thanks to grandmom, I did what I wish my dad would have done for me.
"I set up a trading account with about 8k. Every year he files a tax return and pays taxes, not much usually less than $100. With so much confusion investing, I decided to invest in the 12% Letter recommended stocks and pretty much forget about it.
"Now when we drive down the road or in a store we see Coke or Sysco trucks moving product, I tell him isn't it better to own part of that truck and that business instead of a bunch of Legos? I tell him, that truck is out making money for you right now. I think he is starting to get it. I'm looking forward to the day he turns 30 or 40 years old and needs to buy a home. Now that will be a surprise." – Paid-up subscriber James Carballo
"Thought I'd share my experience with naked puts on Caterpillar. I sold several contracts of the Nov 82.5 put, which was 60 cents in the money on the day of reckoning. To avoid being put the shares, I bought these puts back (at a discount of course), then sold the Jan 82.5 for $4.50 each. The stock took off (finally). Within a month, the option price sank to $0.44, so I again closed out the position, collecting another $4 profit on each share. All in all, I made a profit twice by selling, then buying, the same puts. In less than two months, I made 5% on the share price even though I never bought the stock. Who would have believed?" – Paid-up subscriber Peter Astor
"The success of one subscriber was noted in yesterday's Digest concerning Bank of America. I too liked Porter's working hypothesis. I looked at the trading volatility in the stock and placed a low ball order at $8.02. It took a while but the stock did hit my bid price. Unlike the higher market price prevailing at the time Porter recommended a purchase and was subsequently stopped out, I managed to avoid this and am holding my few shares with a tight stop on my records to protect my very nice gain. It's nice to see researched working hypothesis work out. Thanks.
"On another note concerning Canadian oil, one issue for Canadian conventional producers that I don't recall seeing reported is the shortage in pipeline capacity due to the new northern tier production. As a result, Canadian conventional producers are being squeezed out of pipeline capacity and are taking a significant pricing hit. Unfortunately I was slow to recognize this and have taken some rather large losses as a result." – Paid-up subscriber Rick Parton
Goldsmith comment: We actually discussed that Canadian oil sands issue in yesterday's Digest Premium. If you're a Premium subscriber, you can access it here. If you aren't, you can find out how to receive Digest Premium here.
Regards,
Dan Ferris and Sean Goldsmith
Medford, Oregon and New York, New York
December 20, 2012
The three-hour takedown… Bill Ackman shorts what he calls a 'pyramid scheme'…
In today's Digest Premium… editor Sean Goldsmith shares his notes from Bill Ackman's marathon presentation accusing one nutraceutical firm of running a scam…
To continue reading, scroll down or click here.
The takedown went on for more than three hours...
And when Bill Ackman, the billionaire hedge-fund manager, left the podium of the AXA Equitable Center in New York – after laying out more than a year's worth of research on one stock – he made one thing clear: As far as he's concerned, nutraceutical retailer Herbalife is a sham... a pyramid scheme predicated on an absurd business model.
We hasten to note... Fraud of the kind Ackman alleges is a serious charge. Herbalife executives and Ackman will have plenty of time to stake out their positions in the media (that's already begun) and defend themselves in court, if it gets that far... We've done no research into Herbalife and are relaying Ackman's work because it's a major story right now...
CEO Michael Johnson anticipated Ackman's accusation and went on the offensive prior to Ackman's presentation. Johnson accused Ackman of manipulating the market to profit from Herbalife put options, which expire tomorrow. "The allegation that Herbalife is a pyramid scheme is bogus. Make no mistake: Today's announcement isn't about Herbalife's business model," he said. "It's about Bill Ackman's business model."
Ackman countered the claim in the first minute of his presentation. He stated he has not bought or sold any options to profit from the fall of nutritional supplement company Herbalife. He is only short the stock.
He went on to lay out his case. Here are the highlights…
Herbalife is one of the fastest-growing companies in history. After 30 years in business, the company is nearing $4 billion in annual sales. It has 2.7 million independent salespeople (or "distributors," as the company calls them) in more than 80 countries.
Prior to its Ackman-caused plunge (the stock is down 22% in two days), Herbalife was a $5 billion company.
Ackman asked the crowd who had ever purchased or heard of an actual Herbalife product. (He told the Herbalife representatives in the audience they were excluded.) One person, out of several hundred, raised his hand.
Herbalife's largest brand is its "Formula One" weight-loss shake (in powder form). It sells $1.8 billion a year. Ackman dubbed it "the only $2 billion brand nobody's ever heard of." To put it in perspective, Gerber and Palmolive each sell around $2 billion a year.
How does Herbalife sell more powder than its better-known competitors like Ensure and Slim-Fast, Ackman asked? These products are essentially commodities. Not to mention, Formula One is twice as expensive as the competing products.
Maybe the company spends more money on advertising... Nope. It spends "essentially nothing" on advertising. It did place the Herbalife logo on the game jersey of the Los Angeles Galaxy professional soccer team. (International soccer star David Beckham plays for that team.) But even the company said in a statement its advertising was "de minimis" – too small to be concerned with.
Maybe the company spends a ton on research and development (R&D), ensuring it produces superior products... Nope. It spent less than $2 million a year on R&D – an amount that's "not material," according to its executives.
And Herbalife only has one patent (compared with 21 patents for its competitor, GNC).
Despite its miniscule R&D budget, Herbalife often heralds its affiliation with the UCLA hospital and the extensive R&D that takes place there. In reality, Herbalife has donated $1.5 million to UCLA since 2002.
It seems Herbalife's biggest advertising expense is paying Nobel Prize winner Dr. Louis Ignarro to promote the product. It has paid the doctor more than $15 million to date to promote the business.
The company's advertising plan is simple... "Confidence of our distributors is paramount. It is absolutely the number one thing."
Notice that the company doesn't mention the consumer. (Remember this point, Ackman says it's important.)
So how does Herbalife sell so much of an expensive commodity? It bundles its products with business opportunity... By recruiting other "distributors," you can earn commissions. And distributors can more easily recruit if their prospects are familiar with the brand.
We'll get into more details of the Herbalife "pyramid scheme" in tomorrow's Digest Premium. But we'll leave you with this... While the company promises a better life and lots of cash (Ackman showed a video Herbalife produced of one of its top distributors... He lives in a mansion and drives a Ferrari), 93% of its distributors make nothing.
To be clear, there are Herbalife distributors who make money... The seven members of its "Founders Circle" (out of 3 million salespeople) make around $15 million to $20 million a year.
The three-hour takedown… Bill Ackman shorts what he calls a 'pyramid scheme'…