Herbalife dodges pyramid scheme label with $200 million settlement

The dietary supplement company Herbalife agreed to sweeping changes to its business practices in a settlement with the Federal Trade Commission.

Brendan McDermid/Reuters
Specialist trader Gregg Maloney works at the post where Herbalife is traded on the floor of the New York Stock Exchange (NYSE) in New York.

After two years of probes to determine whether or not the multilevel marketing company is actually a pyramid scheme, dietary supplement company Herbalife announced plans to settle with the US Federal Trade Commission (FTC) in a $200 million lawsuit.

The company has been unofficially labeled a pyramid scheme by high-profile investors such as Bill Ackman, who has bet against the company for years. Although Herbalife is avoiding the official pyramid-scheme label by agreeing to the $200 million settlement, the years-long case illustrates how the commission tries to protect consumers by monitoring the world's largest companies.

While Herbalife may be escaping without the damaging label, the FTC says the company will still have to clean up its act.

The FTC has been investigating Herbalife since 2014. The multilevel marketing (MLM) company works by convincing interested customers to first buy Herbalife products, and then join as a salesperson, hawking those same products to other consumers. The FTC investigation found that half of club owners earn no profit and some reported losing money.

Under the current business model, salespeople must rent retail space and attend company conferences, dramatically decreasing their profits (and therefore their take home pay), the FTC found. In 2014, more than half of the company’s distributors received less than $300 for their efforts, despite company promises that working for Herbalife could provide career-level income, according to the FTC.

Now, the FTC says that instead of rewarding Herbalife supplement distributors for how many people they convince to join the company, it must base its compensation on sales.

"Herbalife is going to have to start operating legitimately,” said FTC chairwoman Edith Ramirez in a statement, “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."

The FTC also says that Herbalife must no longer allow its distributors to pay rent for the retail spaces the company uses out of their own pockets before spending a year working as a distributor and undergoing training.

Some of the country’s biggest names in investing and even politics are associated with Herbalife – the former chief of staff to Vice President Joe Biden has been involved in the company. Multilevel marketing is a $34-billion-per-year industry, and some critics say they are aggregating enough political power that it may soon be difficult for the FTC to go after pyramid schemes at all, according to Slate. 

In that case, consumers will have to protect themselves from the allure of pyramid schemes and multilevel marketing companies. The US Securities and Exchange Commission has several guidelines for helping people determine which investments are safe.

A genuine multilevel marketing business (not a pyramid scheme) will have a real product to sell to customers who do not already belong to the program, according to the SEC. “Get rich quick” and “easy money” promises are also good ways to spot a pyramid scheme. Individuals who want to get involved in a legitimate multilevel marketing company should look for demonstrated revenue on retail sales.

Companies that require investors to pay an initial sum to “buy in” in order to participate in the program, or that have a complex commission structure are also suspicious, regulators say.

Finally, if a multilevel marketing program has a heavy emphasis on recruiting new distributors, and those new recruits must also pay a fee to get involved, the company is most likely a pyramid scheme, and the SEC advises potential investors to stay away.

Despite ongoing investigation into the company over the last several years, Herbalife is the third-largest multilevel marketing company in the world, behind Avon and Amway, with $3.5 billion in annual sales, according to Network Marketing Central, a direct sales industry publication.

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