Pershing Square 1Q17 Letter – CMG, HLF Short, FNMA/FMCC, MDLZ, HHC, APD, QSR, PAH, NOMD

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Pershing Square 1Q17 Letter, May 11, 2017


  • 1Q17 -2.3% gross returns vs. S&P 500 6.1% returns
  • Since inception: 22.8% gross returns (7.1% net) vs. 84% S&P 500
  • Restaurant Brands 3.2%, Chipotle 2.0%, Platform Specialty Products 1.2%, Nomad 0.6%; Fannie Mae -2.2%, Mondelez -2.2%, Herbalife -1.9%, Air Products -1.3%, Freddie Mac -1.2%, Valeant -1.0%

Fannie Mae / Freddie Mac

  • Underlying earnings in their core mortgage guarantee businesses declined modestly in the first quarter, reflecting lower refinancing volumes driven by a large increase in interest rates in the 4Q16
  • Believe long-term earnings power will continue to grow due to 3 factors:
    • An increase in guarantee fees as the fees on new mortgages exceed the average fees on the existing portfolio
    • Growth of the total guarantee portfolio along with mortgage originations
    • Lower credit losses as portfolio’s credit quality continues to improve
  • Housing finance reform is a top priority for both the new administration and Congress
    • Key constituents including Steven Mnuchin have a thorough understanding of the critical role that Fannie and Freddie play in the health of the nation’s housing finance system
  • In contrast to vintage 2013 proposals that sought to replace Fannie and Freddie or wind them down, several proposals released over the last month, most recently a white paper from the Independent Community Bankers of America, recognize that preserving a reformed and restructured Fannie and Freddie is the only way to ensure the continued health of the secondary mortgage market, especially for a large number of community banks that are critical sources of financing for many homeowners


  • Since Steve Ells returned to the role of sole CEO in December of last year, implemented significant organizational and operational changes aimed at elevating the guest experience
  • Renewed focus on delivering a great guest experience has re-energized and motivated the organization, leading to better customer service scores, lower restaurant manager turnover, and improvements in many other key performance metrics
  • 1Q17 reported results with same-store sales increasing 17.8% y-o-y
  • Announced in late March that it is the only national restaurant chain with no added colors, flavors or preservatives in any of its ingredients it uses to prepare its food
  • In December, four new independent directors joined board of directors including Pershing Square’s investment team partner Ali Namvar and advisory board member Matt Paull
  • Optimistic about the initiatives that CMG’s executive team has put in place to enhance the guest experience, differentiate the brand, increase sales through opportunities like mobile ordering and catering, and improve restaurant margins over the long-term

Herbalife Short

  • Despite weak performance in Q1, share price has appreciated by more than 50% YTD
    • Due in part to HLF’s misleading portrayal of its first quarter operating performance and the company’s share repurchase program
  • Reported flat y-o-y constant-currency sales growth across the business
    • Growth in some markets (Mexico, EMEA, and China) was offset by substantial declines in others (South & Central America, North America, and Asia Pacific)
    • Reported significant persistent declines in South Korea, Brazil, and UK
  • Dramatic “pop” and “drop” reflected in HLF’s individual markets are highly characteristic of pyramid schemes, which achieved accelerated growth until a market reaches saturation, after which there is a dramatic decline in volumes as participants recognize that being a distributor is a money-losing proposition
  • While bullish investors have suggested that the company’s recent results show that it can manage effectively through the requirements of the FTC settlement, North American performance in the quarter does not yet reflect the impact of FTC permanent injunction
  • China at 20% of sales is HLF’s second largest segment after North America – while China realized 17% volume growth in Q1, management noted that there was a significant pull-forward in volume ahead of a 5% price increase in April
    • 10-Q included significant notable changes to risk disclosures with respect to China
    • “Uncertainties relating to interpretation and enforcement of legislation in China governing direct selling and anti-pyramiding”
    • Would not be surprised to learn that HLF is under investigation by Chinese authorities, particularly in light of the recently announced Foreign Corrupt Practices investigation of HLF’s China operations by the Department of Justice and the SEC
  • Believe the injunctive relief imposed by the FTC is likely to weigh significantly on HLF’s financial performance in the coming quarters
    • Coupled with decelerating growth and substantial deterioration in many international markets, expect earnings to decline on an operational basis in 2017
  • Despite above issues, now trading at 17x the midpoint of management’s adjusted guidance
    • Currently trading at highest P/E ratio in its history as a result of recent stock price increase and its declining earnings


  • 1Q17 Earnings: reported organic sales growth of 0.6%, driven by pricing growth (1.1%) and a volume decline (0.5%); all regions experienced growth with exception of North America
  • Despite the modest top-line growth, operating profit margins expanded significantly to 16.8%, driven primarily by a reduction in overhead costs as percentage of sales reflecting the implementation of zero-based budgeting and the rollout of global shared services
  • Management remains committed to its 2018 operating profit margin target of 17% to 18%
  • Mondelez is one of the few large-cap packaged food companies that is demonstrating both margin expansion and top-line organic growth
  • Over the long-term, believe that MDLZ’s categories and geographic footprint give it a significant advantage, especially in emerging markets where MDLZ’s large market shares and robust routes to market should drive accelerated growth

The Howard Hughes Corporation

  • Continues to make strong progress across its three business lines – operating assets, strategic developments and master planned communities
    • Operating Assets: continued to lease up its existing operating portfolio, increased the stabilized net operating income target to $240 million, and grew NOI in Q1 2017 by 42.4% to $44.7 million as compared to the prior year
    • MPC segment: revenue was $68.7 million, an increase of $19 million as compared to the first quarter of last year
    • Strategic Development segment: sold an additional 34 condo units at Ward Village in Hawaii, increasing the % of total units closed or under contract at its four condo towers to nearly 83% with 3 towers at more than 93% sold and the fourth at 62%
  • During the quarter, refinanced its existing bonds with a new $800 million bond issuance in a positive NPV transaction, saving 150 bps in interest and extending the maturity date by 3.5 years

Air Products

  • Fiscal year Q2 results showed operating progress with underlying revenue growth of 7% and earnings per share growth of 4%; revenue growth was driven by 7% volume and flat pricing
  • Excluding energy pass-through and mix factors, underlying EBITDA margins declined 40 bps as productivity gains were offset by higher costs from maintenance outages of facilities in the US, delayed recovery of energy prices in Europe in the merchant market, and the ramp of lower-margin tonnage contracts in Asia
  • While management has been cautious on the economy, APD’s business has historically closely tracked industrial production
    • US industrial production has been negative in recent years, but has now turned positive since the election for the first time in the last 18 months
  • Believe the biggest driver of APD’s earnings growth over the coming years will be the company’s deployment of its excess capital – company has $2.5B of excess cash and an additional $2.5B of debt capacity and will generate additional excess capital of $1B/yr after paying dividends

Restaurant Brands International

  • Delivered strong earnings growth in the first quarter as company maintained a high level of net unit growth and continued to achieve cost and capital efficiencies at Tim Hortons
  • Same store sales growth decelerated from the pace of previous quarters and was roughly flat with prior levels at both Burger King and Tim Hortons
  • QSR achieved net unit growth of 5% at both concepts and continued to enter into development agreements in new markets; made additional progress improving Tim Horton’s cost structure as it increased margins in the distribution businesses by nearly 300 bps and further reduced the company’s capital requirements
  • Completed the acquisition of Popeyes Louisiana Kitchen at the end of March – believe QSR can meaningfully improve cost structure and dramatically accelerate its unit growth

Platform Specialty Products Corporation

  • Generated organic EBITDA growth of 18% due to revenue growth in both of its businesses and improved cost efficiencies
  • Organic revenue growth was 3%, due to 5% organic growth in Performance Solutions and 2% organic growth in Agricultural Solutions
    • Performance Solutions showed strength in its industrial and Asian electronics segments, as its end markets have improved and the integration of Alent has helped Platform gain market share
    • Agricultural Solutions growth was driven by strength in Latin America, but offset somewhat by weakness in Europe due to poor weather
  • In April, refinanced an additional $1.9B of debt, reducing its interest costs by 1%
    • Since last October, refinanced more than $5B of debt, lowering the associated interest rate by 1% and extending the maturity on a substantial portion of its debt by 3 years

Nomad Food

  • Showing meaningful progress in stabilizing its revenue trends under its new management team
  • Current management has redirected its resources behind core offerings or Must Win Battles – strategy shift will take time to have full effect but recent results have been encouraging
  • Continues to control and reduce costs while extracting synergies from its Findus acquisition which has allowed the company to maintain strong profitability despite negative top-line growth
  • 2017 guidance calling for like-for-like sales growth starting in Q1 2017 and for fiscal year 2017 in total
    • Underlying EBITDA is expected to increase by a mid-single-digit % as the company resumes modest organic growth while continuing to execute on controlling costs and delivering on the synergies from the Findus acquisition
  • Completed a favorable refinancing of its 1.45B (euros) of debt – reducing interest payments and extending maturity
  • Stock currently trades at approximately 10x FCF guidance
  • Remains highly cash-generative having built a significant cash balance of 330 million (euros) of cash or approximately $2/share

Share Buyback:

  • On April 19th, Pershing Square announced commencement of share buyback program of up to 5% of outstanding public shares
  • Program commenced on May 2nd and believes that repurchase is an attractive investment at current discount levels and may assist in reducing the current discount between share price and NAV

Pershing Square Capital Management is an activist hedge fund founded by Bill Ackman in 2004. 

Image Source: Bloomberg via Getty Images

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