The Federal Trade Commission (FTC) opened a Civil Investigative Demand inquiry into Herbalife practices on Wednesday, causing its shares to plunge 12 percent. This follows a charge by hedge fund manager Bill Ackman on Tuesday that accuses the company of breaking direct-selling laws in China, the company’s fastest growing market.
In Tuesday’s accusation, Ackman said the company makes illegal payments to people based on the number of new distributor recruits they bring in, which violates direct-selling laws in China. Ackman stated that the company’s representation of their business in China is “materially false and misleading.”
Trading of Herbalife stock halted briefly after the Civil Investigative Demand from the FTC, pending a company announcement.
The corporation is a nutrition company that sells weight-management products such as vitamins and meal replacement shakes that are sold in more than 90 countries.
Bill Ackman’s $12 billion hedge fund, Pershing Square, makes money if Herbalife’s stock falls. He disclosed his short bet in December 2012. Ackman has accused the company of being a pyramid scheme that preys on distributors who pay to sign up to participate and then realize the product is too expensive to sell, making it necessary for them to recruit more distributors.
A pyramid scheme is defined as a practice where participants obtain earnings from recruitment rather than sales to customers. Most of the marketing in a pyramid scheme is to recruit new distributors, rather than sell the product.
Ackman’s hedge fund has a $1.16 billion short bet on the firm. He has waged a lengthy fight against them with lobbyists, grass-roots groups, and presentations to the Securities and Exchange Commission (SEC), saying the company is ripping people off.
Herbalife sells products through distributors who sell to other people either for personal use or also to distribute. This is known as multilevel marketing. Ackman says the company is all about recruiting distributors, not selling to people who actually want to use the product, which makes it a pyramid scheme. Herbalife says 90 percent of the people who buy the product use it themselves.
U.S. Senator Edward Markey (D-MA) sent a letter to the FTC a few weeks ago asking for an investigation into the firm’s business practices after a request from Ackman. He said his work as a consumer advocate led him to urge federal regulators to open a fraud investigation, and that he was unaware that his letters would help Ackman. Ackman had met with Markey’s staff in October to urge them to take action to investigate.
Markey wrote letters in January to Herbalife, the FTC, and the SEC citing Massachusetts constituents who they had said lost their life savings as a result of the company.
Markey has not received any direct campaign contributions from Ackman, and Ackman says he routinely donates to both Republican and Democratic political committees.
Larry Rasky is a Democratic fund-raiser and former member of Markey’s staff who has been hired by Pershing Square to lobby on the issue. Rasky said on Monday that they have been working with community groups to identify victims of the firm’ practices and has been completely transparent about Pershing’s potential for financial gain with everyone they have talked to.
Herbalife says will cooperate fully with FTC’s Civil Investigative Demand, confident that they are complying with all applicable regulations.
By Beth A. Balen