Supplement Firm Agrees to $200M Settlement

     LOS ANGELES (CN) — Herbalife agreed to pay $200 million and make sweeping changes to its U.S. business practices to end a Federal Trade Commission investigation into claims the nutritional supplement maker is a phony, get-rich-quick pyramid scheme.
     The FTC stopped short of shutting Herbalife down, as some critics had hoped, and it avoided specifically calling the company a pyramid scheme — “Our focus isn’t on the label,” FTC Chairwoman Edith Ramirez reportedly said at a news conference last week.
     But in the news conference and a press release, the agency excoriated Herbalife for cheating consumers with a multi-level marketing business model that rewarded recruiting new salespeople far more than it rewarded retail sales of its products.
     “The overwhelming majority of distributors [salespeople] who attempt to retail the product make little or no net income, or even lose money, from retailing the product,” the FTC alleged in a federal lawsuit it filed Friday in Los Angeles along with the settlement.
     A majority of new Herbalife participants stopped buying products — and nearly half quit the company — within their first year, the complaint says. About 40 percent of all company products are purchased by new participants.
     Ramirez said Herbalife had been “deceiving hundreds of thousands of hopeful people” into believing they could get rich.
     “The company promised people a dream: a chance to change their lives, quit their jobs and gain financial freedom,” she said. Instead, it gave them “an illusion,” Ramirez said.
     The company earned $4.48 billion in revenue last year and had about $774.2 million in cash. In addition to the $200 million payment to the FTC, it also must pay another $3 million in a separate settlement with the Illinois attorney general.
     The settlement only applies to Herbalife’s U.S. operations, which total only 20 percent of all its sales, according to the company.
     Under the FTC settlement, Herbalife cannot misrepresent how much potential income distributers will earn. Specifically, it can’t promise them that they could quit their jobs or achieve a lavish lifestyle.
     The company also agreed to change its compensation system so that “success depends on whether participants sell Herbalife products, not on whether they buy products” themselves, the FTC said in its press release. Now, two-thirds of the incentive rewards the company pays salespeople “must be based on retail sales of Herbalife products that are tracked and verified.”
     The FTC will install — and Herbalife must pay for — an “independent compliance auditor” who over the next seven years will make sure the company is toeing the line.
     One of Herbalife’s attorneys in the FTC negotiations, Nitin Reddy of Sidley Austin’s Los Angeles office, referred questions to the company.
     In a press release, the company listed other requirements of the deal, including “enhancing training provided to distributors; requiring a business plan and a one-year waiting period before opening a nutrition club; extending the amount of time a distributor may return an initial membership pack; paying for all shipping costs associated with any returned products; [and] prohibiting auto-shipment of products.”
     It called many of the FTC’s allegations wrong but said it agreed to the settlement because litigation would be expensive and “the company simply wanted to move forward.”
     “The settlements are an acknowledgment that our business model is sound and underscore our confidence in our ability to move forward successfully, otherwise we would not have agreed to the terms,” CEO Michael O. Johnson said in the statement.
     The fact that the FTC let Herbalife continue as a multi-level marketer also pleased the industry. In its press release, the company said its new procedures “will now provide direction for the entire direct selling and multi-level marketing industry.”
     In fact, the president of the Direct Selling Association, Joseph N. Mariano, said he hopes the Herbalife settlement “will serve to answer questions and misunderstandings about the direct selling business model, which have arisen during the course of matter.”
     The Herbalife investigation largely traces to an all-out effort by billionaire hedge fund manager William A. Ackman, who spent hundreds of millions of dollars trying to prove it is an illegal pyramid scheme, according to news accounts. Ackman took a large short position in the company.
     He was opposed by another billionaire, Carl C. Icahn, who bought about 18 percent of the company’s outstanding shares. Following the FTC settlement, Herbalife agreed to let Icahn purchase up to 34.99 percent of its shares, a move that could let him and other investors take the company private, according to the New York Times.

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