Have you had enough Icahn and Ackman and Herbalife yet? Probably, right? Still, I should mention two more things, mostly because I kind of got them wrong this morning.
The first thing is that I thought Icahn is long via options, rather than shares, for financing reasons. He sometimes uses this method to avoid HSR antitrust filing requirements, but here he actually did the filing and waited the thirty days to buy more shares. But in fact there are a number of thresholds that require pre-acquisition filing; Icahn seems to have waited to cross the $70-ish million threshold in physical shares, but he’s now re-filed to get permission to take physical possession of the full ~$500-ish million that he currently owns synthetically. (And more, potentially.) Icahn said on CNBC this afternoon that he’s planning to convert into physical shares as soon as he gets that approval.1 If true, that suggests relatively little focus on leverage and cheap financing, and relatively significant focus on short squeezing and fucking with stock borrow. So that’s exciting for everyone.
Second: I said this morning that one option that might be appealing for Icahn would be to take profits on his position by dumping some of the stock after this morning’s run-up.2 Nope! Not appealing! Terrible idea! Don’t do it Carl!3
The problem, as it so often is, is section 16(b) of the Exchange Act, the “short-swing profits rule”:
For the purpose of preventing the unfair use of information which may have been obtained by such beneficial owner [of more than 10 percent of any class of any equity security], director, or officer by reason of his relationship to the issuer, any profit realized by him from any purchase and sale, or any sale and purchase, of any equity security of such issuer … or a security-based swap agreement … involving any such equity security within any period of less than six months, unless such security or security- based swap agreement was acquired in good faith in connection with a debt previously contracted, shall inure to and be recoverable by the issuer, irrespective of any intention on the part of such beneficial owner, director, or officer in entering into such transaction of holding the security or security-based swap agreement purchased or of not repurchasing the security or security-based swap agreement sold for a period exceeding six months. Suit to recover such profit may be instituted at law or in equity in any court of competent jurisdiction by the issuer, or by the owner of any security of the issuer in the name and in behalf of the issuer if the issuer shall fail or refuse to bring such suit within sixty days after request ….
What that says (er, what it means, anyway) is:
- If you own more than 10% of the stock of a company,
- and you buy more stock,
- and then you sell stock within 6 months,
- some plaintiff’s lawyer can go sue you for the difference (if positive) between your sale price and your purchase price,
- and of course they will.
Icahn “crossed into” being a section 16 insider on February 12; depending on how you count he’s bought at least 2 million shares that would be subject to “disgorgement” of any profits under section 16(b).4 So any near-term profit-taking would be problematic, though if he sold all of his shares he’d be free to take the profits on at least 10,784,545 of them. He’d just get sued on the last 2-3 million or so that he bought. (Meaning the first 2-3 million that he sold; you don’t get to, like, specifically identify your trades.)
So Icahn is kind of stuck in Herbalife for six months.4A Which is … kind of not what you might have expected?
One curlicue that I particularly like is: you may remember Hallwood Realty? That was a tiny Gotham Partners (Bill Ackman) investment that Ackman sold to Icahn in 2003 subject to “schmuck insurance” in which Icahn would give Ackman half his profits on a “sale or other disposition” of the stock within three years. Hallwood did a cash-out merger in 2004, after Icahn put it in play by offering to buy it, and Icahn refused to pay Ackman his half of the profits. New York courts ultimately determined that the cash-out merger counted as a “sale or other disposition,” and made Icahn pay Ackman the money. If this sounds familiar it’s because Icahn and Ackman spent an hour discussing it on CNBC that one time. (Also there’s a Times article.)
If Icahn sells his shares (or his option positions) on the open market (or back to his counterparties, etc.), he is clearly subject to section 16(b) and has to give up his profits. If he ends up buying Herbalife, in a merger or tender offer, he’s clearly not: he’s just buying, not selling.
But what if Herbalife ends up selling itself, in a merger or tender offer, to a third party? Does Icahn owe plaintiffs’ lawyers all of his profits? Or can he argue, like he did in Hallwood, that that’s not “flipping the stock” and so he should be exempt from giving up his profits?
I don’t know! The law is pretty squicky; there’s an old Supreme Court case in which a hostile bidder made a tender offer, acquired more than 10% of the shares, and then ended up having to sell its shares to a white-knight acquirer of the target company. The court held that that was okay, since the hostile bidder had no opportunity to misuse inside information. (It was just a hostile bidder.)5 If Icahn, as he’s promised to do, has “discussions with management of the Issuer regarding the business and strategic alternatives to enhance shareholder value, such as a recapitalization or a going-private transaction,” it’s not clear whether that would apply. Something for an enterprising plaintiff’s lawyer to consider. And if he sells into a tender offer, as opposed to being cashed out in a merger, he’d clearly seem to be subject to the short-swing rules.
Strange, no? One possibility is that Icahn is just in this for the long haul, or that he intends to be a buyer in any recapitalization or going-private. Another, I suppose, is that he’d be happy to be a seller despite the short-swing profit rules. That is, perhaps he’d be fine giving up around a quarter of his profits (those on the last ~2-3 million shares) just to see the look on Bill Ackman’s face. That does kind of sound like him.
1. From CNBC’s transcript, which I’m gonna leave in all-caps because that’s how our style guide requires us to quote Carl Icahn:
WE HAVE OPTIONS AT THIS POINT THAT ARE GOING TO BE TURNED INTO STOCK IN THE NEXT 30 DAYS BECAUSE WE WENT IN AND ENDED UP GETTING PERMISSION TO…FROM THE FTC. IN OTHER WORDS, WE ONLY HAVE OPTIONS FOR ONE REASON. WE HAVE PLENTY OF CASH AROUND BECAUSE YOU CAN’T HAVE MORE THAN CERTAIN AMOUNT OF STOCK, YOU KNOW FI– MILLION DOLLARS WORTH UNTIL YOU GET CLEARANCE FROM THE FTC SO WE ARE GETTING CLEARANCE AS WE SPEAK. AND ALL THOSE OPTIONS ARE GOING TO BE TURNED INTO STOCK SO THIS OPTION HAS NOTHING TO DO—I DON’T EVEN KNOW WHAT YOU ARE SAYING, SCOTT. WHAT ARE YOU SAYING ABOUT THE OPTIONS? I DON’T EVEN UNDERSTAND WHAT YOU ARE SAYING.
2. Preferably very soon after, since it closed well below its $44+ highs.
3. Opportune time to remind everyone: NOT LEGAL OR FINANCIAL ADVICE, DO NOT TRY THIS AT HOME.
4. Here are his buys:
“Depending on how you count” because I don’t know how he did his buying on February 12; the “crossing-in” trade itself is not subject to disgorgement so some or all of the 1.16mm shares he bought (synthetically) that day are exempt. If he bought them all in one block I guess they’re all exempt, though not sure how that would work with his ownership in five separate funds.
4A. [Update: A reader points out that I should clarify, he's only stuck to the extent the stock goes up. If it drops, he can sell at a loss to limit his losses. This is sort of right-way: he's stuck in the position if it's doing well, but can get out if it's going poorly. On the other hand if he's hoping for a near-term catalyst then he can't make any near-term money off of it.]
5. The SEC has also been pretty accommodating for directors and officers who dispose of shares in mergers, though that’s in the context of Rule 16b-3, which applies only to directors and officers. For 10% owners it remains squicky.