The ruling, first reported by The Wall Street Journal, ends a two-year investigation by the FTC that started after billionaire investor Bill Ackman revealed a large short stake in the company and claimed it was a pyramid scheme.
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Herbalife will not face a court trial, but the FTC’s settlement requires it to restructure its business and monitor what portion of its products are actually sold to consumers, as opposed to those that are moved around among layers of distributors.
Shares are surging in premarket trading.
When asked by reporters if the Herbalife business model was similar to a pyramid scheme, Ramirez said the FTC was not focused on “labels”.
Distributors will now also be compensated on actual retail sales to consumers – and the distributors must provide verified receipts to prove the sales are legitimate.
It’s a big blow for Ackman, who had campaigned aggressively to persuade regulators to investigate the company after betting $1 billion against the stock in 2012. While she acknowledged the FTC complaint did not charge Herbalife with operating a pyramid scheme, she said the investigation documented serious problems with the company’s business practices. Now that the Company has reached a settlement with the FTC, it is time to consider a range of strategic opportunities, including potential roll-ups involving competitors, as well as other strategic transactions.
Under the settlement, Herbalife Ltd. will have to rework its compensation system so that retail sales are rewarded, and scrap incentives that reward distributors for recruiting.
Spokespeople for Herbalife and the FTC were not immediately available for comment Friday morning.
But the hedge fund isn’t losing hope on its bet, saying that Herbalife’s settlement includes a business restructuring that “will cause the pyramid to collapse as top distributors and others take their downlines elsewhere or otherwise quit the business”.
“In direct response to the interview where Brian Ross brought to light instances of members making unauthorized product claims, the company began a significant re-training initiative”, Herbalife spokeswoman Barb Henderson said in an email then.
Herbalife, which also settled a probe by the IL attorney general for $3 million, spun the resolutions as a vote of confidence that the company was on solid ground. Owners of Herbalife’s Nutrition Club brand invested an average of $8,500 to launch their operation, but 57% broke even or lost money, according to an internal survey found by the FTC.
“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”, FTC Chairwoman Edith Ramirez said in a statement. It mandates a structure in which success depends on whether participants sell Herbalife products as opposed to buying them.
Several years ago, Ackman began accusing the nutritional supplement company of running a pyramid scheme.
The FTC prosecuted the drink seller as an “alleged pyramid scheme”, citing the claims it made: that its sellers, which it called affiliates, “can earn substantial income by enrolling others” in the scheme.
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Herbalife said in a statement that numerous FTC’s allegations are “factually incorrect” but chose to accept the settlement to avoid lengthy and costly litigation. With a position like that, Pershing would stand to make a tremendous amount of money on the back of an Herbalife failure.
