Former San Diegan Herb Greenberg, a senior stocks correspondent for the business news channel CNBC, last year spent ten months investigating multilevel marketing, the controversial strategy by which salespeople are not only paid for the products they peddle but also for goods sold by other people that they recruited into the web.
Multilevel marketing is often called “pyramid marketing” because if the salespeople make more money recruiting other salespeople than they do selling products, then the government may consider the enterprise a pyramid.
Greenberg did several TV reports on the topic, and that proved timely. In December, Bill Ackman, who runs a big hedge fund, bet $1 billion that the stock of Herbalife, a multilevel marketer selling mainly weight-loss products, would go down. In Wall Street parlance, that’s going short. In a highly detailed study, Ackman said Herbalife is a pyramid scheme. But then another hedge fund speculator, Dan Loeb (joined by corporate raider Carl Icahn), tried to thwart Ackman by buying Herbalife stock. That’s going long. On January 25, Icahn and Ackman had a profanity-laced TV shouting match that riveted traders’ attention.
Now, the Herbalife story is essentially a poker game among Wall Street longs (Loeb, Icahn, et al.) and shorts (Ackman). But more is at stake: the Wall Street Journal says that the Securities and Exchange Commission is looking into the Herbalife imbroglio. The Federal Trade Commission is essentially obligated to study Ackman’s evidence. Is Herbalife a pyramid? A Brussels court ruled in 2011 that Herbalife is an illegal pyramid.
If that’s true in the United States, does the government have the guts to close down a company that has 3.2 million salespeople in 87 countries? The company’s sales are largely in foreign countries: South and Central America, 16 percent; Mexico, 12.7 percent; and North America, only 20.2 percent. Herbalife told Greenberg that the Latin market accounts for 63.7 percent of business.
Founder Michael Ellis went to prison following the Metabolife debacle.
In several CNBC shows, Greenberg interviewed economically pinched people who had listened to the Herbalife get-rich-quick pitch, plunked down money, then lost a bundle. Greenberg interviewed an expert in multilevel marketing who says that most participants lose money and the annual turnover rate exceeds 90 percent. Greenberg summed up, “Multi-level marketing, which has been dogged by the same legal questions and controversies for 65 years, needs to be cleaned up.”
Indeed, Greenberg believes that congressional staffers, looking for the next financial scandal, “are likely to see multi-level marketing as red meat in predatory business practices.”
If there is such a probe, San Diego should be a target. That’s because San Diego isn’t just a haven for telemarketing, hard money lending, penny stock, and Ponzi schemes. It’s also a multilevel marketing trap: through the years, San Diegans by the thousands have plunged into multilevel marketing scams — many homegrown — and been wiped out.
The most infamous local one was Metabolife, which peddled an ephedra-based diet supplement. Metabolife was not, however, a pyramid scheme, because people actually bought the stuff — tragically. Some experienced serious side effects, such as strokes, and some died. A founder, Michael Ellis, went to prison for lying to the Food and Drug Administration about those adverse effects. The company went bankrupt in 2005.
Barry Minkow criticized, then took hush money from, multi-level marketers.
Herb Greenberg spent 10 months investigating multi-level marketing.
Ackman is not the first short-seller to attack Herbalife. Back in 2008, a San Diego self-professed man of God (now in a high security prison) attacked Herbalife with the intention of driving its stock down. He is Barry Minkow. His charge was similar to Ackman’s: the company is a pyramid because it makes its money recruiting salespeople; product sales are not so important. Minkow compared Herbalife to Usana, another multilevel marketing organization. Both had something in common: entanglements with offshore tax havens. (Herbalife’s filings with the Securities and Exchange Commission list its main office in the tax and secrecy haven of the Cayman Islands, although it primarily operates out of Los Angeles.)
Minkow’s Fraud Discovery Institute made money on its short position. The business press picked up the story, as did the Reader. Minkow’s research was almost always thorough. That’s why government agencies would take information from him and invite him to speak before employees.
Minkow could spot a scam because he had pulled an amazing one — San Fernando Valley–based ZZZZ Best, whose sales, it turned out, were 90 percent fraudulent. He was sentenced to 25 years in prison but found religion and was sprung in 7 years. He became senior pastor of the Community Bible Church in Mira Mesa, splitting his time between saving souls and chasing crooks.
But he got in trouble when he took on the big builder Lennar. He denounced the company as “a financial crime in progress.” The stock plunged. Once again, Minkow cleaned up on his short position. Lennar sued. A judge found Minkow had repeatedly lied under oath and concealed evidence and witnesses. Criminal authorities investigated. Eventually, Minkow admitted that he had used nonpublic information to drive down Lennar stock. He pleaded guilty to conspiracy to commit securities fraud. Admitting he was unworthy to be a pastor, he resigned from the Community Bible Church and was sentenced to prison. He is now in the Federal Medical Center in Lexington, Kentucky, and is due to be released January 28, 2016. The facility is known for treatment of addicts; Minkow admitted to Fortune magazine that he became addicted to OxyContin.
Digging through documents, Greenberg found that, after Minkow leveled his charges, “Herbalife paid Minkow $300,000 to shut up.” Good sources also believe that Minkow got paid off by Usana and Nu Skin, another multilevel marketer.
Did Community Bible Church get a piece of those alleged payoffs? The church isn’t talking. Minkow admitted to Fortune that he commingled the church’s funds with his own. However, he claims he was the church’s biggest donor, so members came out ahead. Some parishioners lost bundles helping to finance an autobiographical film he was making, and a former church member took Minkow to court. A judge has ordered him to pay Lennar $584 million. Amen. ■