Nutrition company Herbalife owes the federal government $200 million. On Friday, the Federal Trade Commission hit the company with a multi-million dollar fine and ordered a reform of its business model after allegations of “unfair and deceptive practices.”
“The company promised people a dream – a chance to change their lives, quit their jobs and gain financial freedom, but the FTC has charged that this wasn’t true,” said FTC Chairwoman Edith Ramirez.
According to the FTC, Herbalife deceived thousands of people by promising they could earn a substantial income by signing up as “distributors” of the company’s products. Looking at Herbalife’s business model, the agency determined the pay plan encouraged salespeople to buy products themselves and recruit others to do the actual selling.
“Herbalife is going to have to start operating legitimately, making only truthful claims about how much money its members are likely to make, and it will have to compensate consumers for the losses they have suffered as a result of what we charge are unfair and deceptive practices,” Ramirez said.
As part of the settlement, Herbalife must adjust how it pays distributors for recruiting others into the company, and a new class of distributors that only buy products for personal use will be created. The company will also be under the close watch of a monitor for the next seven years to ensure operational changes are made.
While tantamount to a pyramid scheme, the FTC refused to label Herbalife as one. In the eyes of company officials, this proves their business practices are solid. CEO Michael Johnson is confident the company will continue to be successful, despite the fine and required modifications imposed by the federal government.
“We agreed to the terms and to pay $200 million because we simply wanted to move forward with our mission,” said a company spokesperson.
The investigation into Herbalife’s practices began after billionaire hedge fund manager Bill Ackman accused the company of misleading customers and operating an illegal pyramid scheme. At the end of 2012, Ackman’s Pershing Square fund placed a huge bet that Herbalife’s share price would plummet amid the allegations.
Ackman’s claims, which continued nonstop over the past 3.5 years, sparked an intense battle against another billionaire investor, Carl Icahn. Predicting Herbalife would weather the regulatory storm, Icahn started buying up shares of the company and publicly criticized Ackman, even calling the hedge fund manager a “crybaby.”
After the FTC settlement was announced, little was heard from the Ackman camp. However, they released a brief statement suggesting the supplement-maker was still doomed to failure.
“While it appears that Herbalife negotiated away the words ‘pyramid scheme’ from the settlement agreement, the FTC’s findings are clear,” the statement read. “We expect that once Herbalife’s business restructuring is fully implemented, these fundamental structural changes will cause the pyramid to collapse.”
On the other hand, Icahn issued his own statement praising the FTC’s decision, while taking a jab at Ackman.
“Unlike many of those that ‘shorted’ Herbalife, we did not rely on one or two research papers prepared by nonexperts. While Bill Ackman and I are on friendly terms, we have agreed to disagree (vehemently) on this subject.”
Meanwhile, Herbalife has agreed to allow Icahn to purchase up to 35 percent of the company. The billionaire already maintains 18 percent. By increasing his ownership, Icahn could position the company to go private, a move that potentially hides any negative economic impact of Herbalife’s business model reorganization.
When news of Herbalife’s FTC settlement hit Wall Street, shares of the nutritional company were trading at $65.25, a 10 percent jump and more than 50 percent higher than when Ackman originally attacked the company. This is bad news for investors in Ackman’s Pershing fund, which has been on the decline since the beginning of this year.
[Photo by Damian Dovarganes/AP Images]