• FTC didn’t call Herbalife a pyramid scheme, won’t say it isn’t
  • U.S. backed many of Ackman’s claims, orders broad restructure

In the billionaire-activist battle over Herbalife Ltd., Carl Icahn may have claimed a victory Friday, but details of the U.S. Federal Trade Commission’s settlement suggest Bill Ackman could still have a last laugh.

While FTC Chairwoman Edith Ramirez didn’t call Herbalife a pyramid scheme, she also didn’t say it wasn’t one.

Bill Ackman
Bill Ackman
Photographer: Andrew Harrer/Bloomberg

“Our focus isn’t on the label,” she said at a news conference, after the agency announced Herbalife agreed to pay $200 million and make sweeping changes to its business to settle claims that the nutrition company deceived consumers with get-rich-quick promises. The regulator backed up many of Ackman’s claims, and described the company’s business in harshly critical terms.

That contradicted part of an earlier statement by Icahn, in which he declared victory: “The FTC settlement announced today, coming after a two-year investigation, also concluded that Herbalife is not a pyramid scheme -- a conclusion that obviously vindicates our research and conviction,” Icahn said.

“While Bill Ackman and I are on friendly terms, we have agreed to disagree (vehemently) on this subject. Simply stated the shorts have been completely wrong on Herbalife.”

‘Fundamental Changes’

Not so fast, said Ackman, who has waged a 3 1/2-year short campaign, seeking to profit from Herbalife’s demise.

“While it appears that Herbalife negotiated away the words ‘pyramid scheme’ from the settlement agreement, the FTC’s findings are clear,” Pershing Square Capital Management, Ackman’s investment firm, said in a statement.

“We expect that once Herbalife’s business restructuring is fully implemented, these fundamental structural changes will cause the pyramid to collapse.”

The FTC said Herbalife must change its marketing, recruiting and the way it measures sales. Those revisions could threaten the company’s business model.

Still, Herbalife’s 9.9 percent rally on Friday put Ackman further away from making money on his short bet. The investor said in March 2015 that a stock price in the mid-$30s range would put him close to breaking even. It closed at $65.25 on Friday.

Pershing Square is down 19.1 percent this year through July 12. Icahn’s publicly traded holding company, Icahn Enterprises LP, has declined 11 percent.

Retail Sales

The FTC said the company deceived recruits with promises of earning thousands of dollars a month by selling its products.

Herbalife, which operates under a system known as multilevel marketing, has to overhaul its compensation system so that it rewards retail sales, not recruitment by distributors. Under the settlement, at least two-thirds of rewards paid to distributors must be based on actual sales, and at least 80 percent of the company’s U.S. sales must be based on “real sales to real users,” Ramirez said.

An independent auditor will monitor compliance for seven years.

“They will have to demonstrate retail sales,” said Tim Ramey, an analyst for Pivotal Research Group. Ramey is one of the few analysts still covering Herbalife and has defended the company throughout Ackman’s onslaught.

“I don’t think Herbalife would have agreed to a deal they couldn’t do,” Ramey said. “But the proof is in the pudding.”

Misleading Recruits

The FTC overhaul shifts financial rewards to receipt-verified sales from bulk purchases by recruits. A distributor with recruits will only get paid if those recruits sell the inventory they buy.

Currently, a distributor earns income on recruits making purchases, regardless of whether they ever sell to a consumer. That could push top distributors, who are the lifeblood of the company, to leave for another multilevel marketing firm.

The company must better police distributors and stop them from misleading potential recruits about how much money can be made, the FTC said. Without these exaggerated claims, fewer people may join.

Icahn -- already Herbalife’s biggest shareholder, with 18 percent and five board representatives -- announced that the company’s board raised his ownership limit to 35 percent from 25 percent. That could allow him to take a more active role in steering the company’s strategy.

“It is time to consider a range of strategic opportunities, including potential roll-ups involving competitors, as well as other strategic transactions,” Icahn said.

Given the massive overhaul Herbalife is now under government orders to execute, and the requisite supervision as it does so, it remains to be seen whether Icahn increases his stake -- and what’s left of the business to strategize over.

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