FTC looks into Herbalife

It looks like William Ackman is winning in the war with Herbalife. The supplement company said the Federal Trade Commission is now investigating its practices.

Here are some of the details from the New York Times story by Alexandra Stevenson:

The nutritional supplement company Herbalife said on Wednesday that it had received a civil investigative demand from the Federal Trade Commission.

The company has been the focus of a 15-month crusade by the hedge fund billionaire William A. Ackman, who has accused the company of being a pyramid scheme and has wagered $1 billion on its collapse.

Mr. Ackman’s campaign, which began with a public presentation in December 2012 during which he disclosed his huge short position against Herbalife, has turned into an acrimonious battle between a number of hedge fund titans who have taken different positions on the viability of the company.

Mr. Ackman has lobbied members of Congress to press state and federal regulators, specifically the F.T.C., to investigate Herbalife. He has also hired consultants to help organize news conferences, protests and letter-writing campaigns in four states to drum up support for regulators to step in.

While investigators at the Securities and Exchange Commission moved quickly, opening an inquiry into Herbalife just a month after Mr. Ackman’s public presentation, the F.T.C. remained quiet until Wednesday. The commission confirmed the investigation only after Herbalife said it had received a letter.

Bloomberg’s Duane D. Stanford and David McLaughlin reported that shares fell on the news, making money for Ackman, who is short the stock:

Herbalife fell 7.4 percent to $60.57 at the close in New York. The shares have gained 43 percent since Ackman first made his accusations.

The probe marks an achievement for Ackman, who in 2012 made a $1 billion bet against Herbalife’s shares and started working to persuade regulators to shut the company down, saying it misleads distributors, misrepresents sales figures and sells a commodity product at inflated prices. Herbalife has repeatedly denied Ackman’s allegations while winning over allies including billionaire Carl Icahn and Post Holdings Inc. (POST) Chairman William Stiritz.

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The New York Times reported this week that Ackman had donated $10,000 to the advocacy group and hired a former aide to Markey as part of his anti-Herbalife campaign.

The civil investigative demand disclosed today isn’t an indication of wrongdoing and is essentially a subpoena requesting information, Michael Swartz, an analyst at SunTrust Banks Inc. in Atlanta, said today in a note. Swartz, who recommends buying Herbalife shares, said the probe may take six to 12 months to be completed and doesn’t change his views on the company.

Gary Strauss wrote in USA Today that Ackman isn’t backing down from his claims, despite Herbalife’s rising sales:

In a Tuesday webcast, Ackman repeatedly called Herbalife’s multilevel marketing and sales practice a pyramid scheme and charged that the company was violating Chinese labor laws. Herbalife denied Ackman’s accusations in a statement Tuesday.

Ackman’s efforts to bash Herbalife have drawn criticism and protracted exchanges from activist investor Carl Icahn, who aligned himself with management and amassed a 13% stake in the company last year. Icahn has said Herbalife is undervalued.

Herbalife had 2013 sales of $4.8 billion, up from about $4.1 billion in 2012. It markets energy and fitness snacks, drinks, vitamin supplements and skin-care products through 3 million distributors in more than 90 countries.

Among other personal care marketers with similar sales and distribution channels, USANA Health Sciences lost $3.10 (4.3%) to $69.82, while NuSkin Enterprises gained $4.78 (6.5%) to $77.89.

The Wall Street Journal story by Sara Germano and Brent Kendall added this background on the saga, which has been going on for nearly two years:

Herbalife had 3.7 million distributors worldwide at the end of December. The company has repeatedly defended its operations and has won the support of a number of Mr. Ackman’s hedge fund rivals, including Carl Icahn, who have bet the company’s stock would rise. So far it has. Herbalife’s shares are up more than 40% since the days before Mr. Ackman made his presentation, though they have lost nearly a quarter of their value this year, amid increasing scrutiny of its operations.

In January, Massachusetts Senator Edward Markey sent letters to the FTC and Securities and Exchange Commission, as well as Herbalife Chief Executive Michael Johnson, calling for an investigation of the company. The FTC has previously made public batches of complaints against Herbalife through Freedom of Information Act releases.

The FTC has the authority to bring civil cases against companies engaged in unfair or deceptive trade practices. It can ask a court to halt an alleged pyramid scheme, order consumer refunds, and force a company to forfeit ill-gotten profits.

The commission brought such a case last year against a Kentucky-based marketing outfit called Fortune Hi-Tech Marketing Inc. The case is pending in court, and the parties are engaged in settlement negotiations, according to court documents. In 2012, the FTC won a court order against an alleged pyramid called BurnLounge that ordered the company, which marketed online music downloads, to pay more than $16 million in consumer refunds.

BurnLounge is no longer in business but continues to fight the case on appeal. A lawyer for the company, Larry Steinberg of law firm Buchalter Nemer, said BurnLounge wasn’t a pyramid because it only paid commissions on the sales of products to consumers, not for recruiting new members.

Ackman’s nearly two-year campaign is paying off. While he personally is winning, investors in his fund may be the biggest winners. As Herbalife’s stock drops, their returns climb. It will be interesting to see exactly what the investigation reveals and if Herbalife will survive.