Herbalife shrugs off Ackman's latest pyramid scheme allegations

By Hank Schultz

- Last updated on GMT

Herbalife shrugs off Ackman's latest pyramid scheme allegations

Related tags Herbalife Pyramid scheme Multi-level marketing

William Ackman, the activist investor who has been attacking Herbalife’s business model for several years, has claimed that Herbalife’s mode of doing business does not differ materially from that of Vemma Nutrition, the network marketing company that has been shut down by the Securities and Exchange Commission pending an appeal.

Ackman, through his investment firm Pershing Square Capital Management, has taken a short position in Herbalife stock valued at up to $1 billion and after doing so embarked on an unprecedented public information campaign to discredit Herbalife, the world’s largest network marketing company focused solely on dietary supplements and functional foods. Ackamn has made a number of allegations against the company including that it preys upon less sophisticated demographic segments of the population and induces them to sign up for leases on retail space and make other investments that have little hope of paying off.

But perhaps the most serious charge Ackman has leveled is that the company’s network marketing model is little more than an illegal pyramid scheme with some window dressing. FTC has acknowledged that it has begun an investigation of Herbalife, but that news came more than a year ago and no developments have been made public since so it is unknown whether the agency is moving forward with the probe or if the investigation is moribund. Herbalife has survived several other legal and regulatory challenges to its business model in various markets.

Vemma's allegedly illegal scheme

The agency has moved against other network marketers, however. Vemma Nutrition, for example was temporarily shut down in August for operating an alleged illegal pyramid scheme, a charge that the company is appealing. One of the key elements in differentiating a legal network marketing operation from a pyramid or Ponzi scheme is in whether the products the company sells through the network are actually used by or consumed by end users, or if the products are merely a come on to get new participants to sign up for the scheme, with money siphoned off from exorbitant sign-up fees and sent up the chain to line the pockets of the early adopters. Unrealistic promises of instant wealth are one of the ways to pique the interest of FTC investigators. In Vemma’s case the lynchpin of the complaint, and the lesson for other network marketing companies, is the focus Vemma allegedly put on new member recruitment without an emphasis on acquiring actual consumers, the end users of the company’s drinks. The company promised monthly incomes as high as $50,000, while requiring new distributors to spend $400 to $500 on a so-called “Affiliate Pack” of products and business tools, and to buy an additional $150 worth of products each month to remain eligible for bonuses. 

“Rather than focusing on selling products, Vemma uses false promises of high income potential to convince consumers to pay money to join their organization,”​ said Jessica Rich, director of the FTC’s Bureau of Consumer Protection. “We are also alleging that Vemma is an illegal pyramid scheme.”

Pershing Square alleges that Herbalife has made similarly disingenuous representations of how much participants can earn. According to Pershing Square, the bottom the bottom 93% of Vemma Affiliates earned less than $6,169/year and most of them lost money.  In Herbalife, the bottom 94% of sales leaders earned less than $2,245/year, the investment company alleges.

The investment firm claims that Herbalife “promises its recruits vast sums of money”, ​but that does not seem to square with information currently available on the website. Herbalife has a statement of average earnings on its website that states, “For the 13% of Herbalife Members who are Sales Leaders with a downline, the average compensation received from the Company in 2014 was $5,456.”

Herbalife declined to comment on Pershing Square’s latest allegations. In the past the company have vigorously defended its business model. Herbalife is the third biggest network marketing firm of any type, according to Direct Selling News​, with 2014 revenue of $5 billion.

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