E Herbalife: Yes, Alice, There Is A Santa Claus

Graft and Corruption are right around the corner

Recently, the New York Times did a major piece on increased lobbying of state Attorneys General, and the connection of New York AG Eric Schneiderman to his ex-wife, an Herbalife lobbyist were prominently featured. The alarms should be going off about the potential damage if he should even think of dropping the ball on Herbalife. The situation is not easy for a state prosecutor, given that the federal government has been so ambivalent about the business of financial fraud and illegal pyramids, and that the official 'advice' constantly keeps the door open as to MLM being legal in any form. This may be changing as evidenced by the new initiatives at FTC and SEC.

Still, the truth is that the visibility of the Herbalife situation makes it impossible to ignore, and the idea that it would get shuffled under the rug is only slightly more attractive than walking through a minefield for someone in AG Eric Schneiderman's position. The truth is and remains that the fundamental design of MLM is to reward recruiting over retailing, which will always mean that the retailers are thrown to the wolves, the retail "opportunity" exists in name only, and the mass promoters/recruiters win. Therefore, the economic reality is that every MLM program is a pyramid scheme, regardless of how easy or hard it may be under current law to shut them down. Selling a product was never the purpose, money transfer was - the product is just the means of doing it and maintain an appearance of legality. That much is not a matter of interpretation, but of sheer economics, and pyramid schemes are illegal, the legal process will always need to base itself on the underlying economic facts.

We may take note of the history of the S&L scandal, and William K. Black's book The Best Way to Rob a Bank is to Own One, is recommended reading. The fact is that the legal and regulatory skirmishes happened ahead of the issue, which was not really dealt with by regulation, but driven by the tsunami of fraud that was happening, making it unavoidable to deal with it. We've seen the same with Herbalife, lots of arguing about case law has taken place, but now the population is showing scam-fatigue, and regulators are starting to pay attention. As Tip O'Neill used to say, in the end all politics are local, and right now it's the local politicians who are giving voice to the complaints.

The main stream press continues to miss the boat

The mainstream media have been largely absent from this situation which is potentially larger than the S&L scandal, and with as much or more political intrigue. Similar to S&L, the current skirmishes only seem to be about legalities, and what case law does or does not say. Ultimately however the real iceberg is the underlying economics of MLM, which has to be dealt with now or later. Thirty-five years of FTC failures to enforce existing laws has resulted in a mushroom cloud of white collar fraud, in which increasingly people get caught up unawares, because they assume this is all normal, and they don't know the law. Ignorance of the law was never an excuse, a pyramid scheme by any other name, including MLM, is still a pyramid scheme.

Recent coverage by Al Jazeera on MLM was brilliant, ground breaking stuff, and now Rolling Stone has followed up with a piece that likewise is totally ground breaking, while the main stream media stand by lead-footed. Any coverage there has been has been totally inane. A choice quote from one of the main Vemma leaders quoted in the Rolling Stone article:

"Did you see what the president of Amway said the other day?" Everyone shakes their heads no. "He said, 'Right now is the scariest time ever to be in our business.' People in my hometown think I'm Bernie Madoff."

and in the same article, complete with a prize quote from an anonymous FTC staffer:

Herbalife is the regulator's biggest target since a case was brought against Amway nearly 40 years ago. "People wonder how Amway and Herbalife can be in business for 30 years," says one agency lifer. "There's one answer: The FTC hasn't done its f'ing job."

There are a lot of reasons why it may not be just sword rattling we're seeing from the agencies. There may be a real regime change going on. There are noises in the press of "undue influence" of Bill Ackman, for drawing attention to what he believes is a pyramid scheme of epic proportions, but that seems rooted in the belief that short-selling is the root of all evil. Perhaps these reports would like to stop this type of law enforcement altogether, in order to permit the uncontrolled looting of the population, but in the real world there are increasing signs we may finally see action. For contrast listen to this interview with Robert L. FitzPatrick.

Meanwhile, the Rolling Stone article also makes mention of Vemma's introduction of some cosmetic changes, resulting from which they now portray themselves as yet another not-MLM MLM, or as company founder, B.K. Boryeko puts it: "We want to stay off the regulator's radar, because they're the guys with guns." In the meantime the realities of Vemma seem to be that they are triggering more complaints than Herbalife, and exploding the need for change. At the time when B.K. Boryeko first made that statement, I was speaking with Rod Cook, who is a well known consultant in the MLM-world, and told him that the man just painted a huge bull's eye on his chest for the FTC to aim at. By all appearances, the FTC may be getting ready to take aim.

Avon (AVP) may be making the case for us

As Robert FitzPatrick has noted in an article on Avon, in its current form it's not that different from Herbalife, and contrary to the intentions of Andrea Jung, switching to MLM in 2005 has not stemmed their decline. Indeed, the latest earnings show further decline, which only makes sense once you understand that the MLM model cannibalizes their existing direct-sales business model, and throws the retail sellers under a bus. After all, the constant recruiting will eventually destroy the business of the Avon lady - if you don't recruit your customers, somebody else will. Notice also that in the Vemma article in Rolling Stone quoted above, the "leaders" are giving away product. They don't even bother to try and sell it, making a joke of the retail "opportunity." Recruiting is the ONLY point, so what if you have to give away the product, that's just a cost of doing business.

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Disclosure: The author has no position long or short, nor intends to open one in the near future.

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Old Time Investor 6 years ago Member's comment

Thanks Rogier, do you have any updates on this stock?

Danny Straus 7 years ago Member's comment

Great read!

John Fitch 7 years ago Member's comment

Great read Rogier. Interesting tidbit, Icahn's investment fund lost 5.3% in the third quarter. Icahn is Herbalife's biggest shareholder. Interested to see the share price if/when Icahn starts to pull out.