Monday, July 29, 2013

What Herbalife Apologists Are Ignoring (And You Shouldn't)

Warren Buffett speaking to a group of students...
Warren Buffett, whose Berkshire Hathaway
owns Pampered Chef, a MLM. Is it comparable
to Herbalife though? (source:Wikipedia)
Hedge fund managers, being handlers of other people's money, tend to be very smart people, and usually very careful, but once decided, still do the Bush thing: "stay the course", based on their own analysis and their own criteria. And ever since Ackman started his "assault" on Herbalife at the end of 2012, the hedge fund managers have been divided on this issue, and roughly falls into three camps:
  • Ackman-camp: I agree with Ackman and Herbalife is going down... eventually
  • Icahn-camp: Ackman is wrong, Herbalife is NOT pyramid enough to be shut down!
  • Spectator-camp: I'm not getting between those two gorillas... or Godzillas.

Most articles you find on Herbalife nowadays are about stock movements, rather than about the company itself. If Herbalife stock goes up, people publish some opinions about how Ackman's losing and Icahn is winning, even though they don't really know how the company works. One such title is "Carl Icahn is Squeezing Bill Ackman to Death", leaving aside the "merits" of Ackman's case.

Everybody is guilty of confirmation bias and automatic cherry picking. People see facts that support their own side, and unconsciously ignore facts that does not. Even hedge fund managers. One of which is Bronte Capital's John Hempton, who has a nice blog. Recently, he published a blogpost that repeated his view that Herbalife is just misunderstood and some MLMs are very good.

It's a pretty long post, and mentions multiple MLMs, so I will summarize here. I understand I'm as guilty as anyone I'm accusing of potential bias, so feel free to read it and check it for yourself. But basically, his premise is that "MLMs don't sell products, they sell the value AROUND the products". His primary example is Pampered Chef MLM (owned by Berkshire Hathaway, Warren Buffet's company).  He claims that while Pampered Chef's cookware is overpriced, what they sell is not cookware, but cooking lessons and the entire lifestyle change around adopting cooking for oneself (instead of eating out).

Then he claimed that Herbalife's value, unlike Ackman's claim that Herbalife products are commodities, is actually the diet clubs and the distributors' relationship with the participants, and Ackman is "missing the point" about the whole thing.

Frankly, Mr. John Hempton himself is missing a few things, and this wasn't the first time he did so.

Mr. Hempton, soon after Ackman started his "assault" on Herbalife, decided to visit and see an Herbalife diet club for himself, and he believes that most of Herbalife's "value" are in these clubs.

The problem here is twofold:

1) Mr. Hempton looked at the present, but did not look at the past. And thus, missed the true source of the value he's attributing to the company. This is from my own comment(s) to the blogpost:
The problem with Mr. Hempton's conclusion is... Nutrition clubs was started in 2003 as sort of "demo party" by distributors in Mexico. It was NOT a corporate sanctioned sales method until it spread back to the US a few years later.
If we accept that Herbalife's main value is in the social support system that these nutrition clubs provide, then what was Herbalife doing for the 23 years PRIOR to 2003?
One more bit of info... Apparently these "nutritional clubs" are NOT allowed to use Herbalife logo on the outside, according to Bloomberg report:
Diet clubs are UNOFFICIAL but permitted sales method. It was NOT an official corporate endorsed method that all Herbalife affilites gets trained in. In fact, they are NOT even permitted to use the official logos. It didn't even exists before 2003, and it wasn't even invented by Herbalife corporate. This "additional value" around Herbalife that Mr. Hempton claimed exist was NOT created by Herbalife, and did not exist before 2003. Herbalife was founded in 1980. So what was it doing for 23 years?

Yes, Herbalife is doing great. It went public in 2004 at initial share price of $14. It's had a bit of ups and down, but is trading in the 45-50 range now. It dipped to the 20s when Ackman revealed his epic short. But have since climbed back. But that's still... missing the point.

For most of its history (more than 2/3rds), Herbalife was NOT operating diet clubs or had lifestyle lessons and such. That was a NEW phenomenon (10 years) at best. The affiliates may be giving some lifestyle lessons and such, but that is NOT a corporately trained function, unlike Pampered Chef, whose consultants *can* and *do* give cooking lessons and are trained to do so. Mary Kay and Avon sales ladies consult their clients on what's good for them because they know their products and can recommend / teach how to use them more effectively, and have training from corporate on how to do so.

Do Herbalife have training programs for its reps on how to operate diet clubs, and be lifestyle consultants? From the way it even forbids the clubs to use its logo, VERY UNLIKELY.

Hempton basically gave credit to where it was NOT due. 

2) According to Mr. Hempton that you're not buying the product, but rather the "extra stuff" that came with the product. That doesn't sound quite right.

The value from Pampered Chef, according to Mr. Hempton, is not the cookware, but the cooking lessons and inspiration that came with it (the cookware by itself is indeed overpriced).

The value from Herbalife, according to Mr. Hempton, is in its various diet clubs and its distributors / affiliates helping people achieve a proper lifestyle, not in the shakes and tea and whatnot.

Do you buy a mobile phone for the call tones available? Probably not.

Do you buy a car for free floor mats? Probably not.

Do you buy vegetables from supermarket just to get the free plastic bags? Probably not.

If you buy a product, the product's utility / effectiveness should be your PRIMARY concern. Any sort of training / lessons should only be to the extent of getting the maximum effectiveness out of the product. I can see Avon / Mary Kay consultants giving lessons on how to apply the stuff, thus justifying the higher prices.

But how the **** do you give lessons on preparing a diet shake and steeping diet tea? Do you actually need lessons for that? Do you go to a "diet club" to chat with other people and watch them drink the diet shakes while you drink yours?

Yes, I know I'm simplifying things a bit too much, but I'm trying to make a point.

Mr. Hempton went to an Herbalife diet club, and decided that's where Herbalife's value is.

Mr. Ackman looked at Herbalife's affiliate makeup, and decided it's a huge pyramid scheme.

NEITHER OF THEM ARE COMPLETELY RIGHT. Neither of them are completely wrong either.

THEY ARE BOTH GUILTY of looking at things through their own peep hole and not seeing stuff that contradicts their view.

Frankly, both are probably guilty of "Three Blind Men and an Elephant" problem.

But you know which side are people taking. The pro-MLMers are taking Hempton's side, and the cynics are taking Ackman's side.

As for myself... A critic, I'm glad to see that Herbalife has changed a lot of its ways, by firing / asking to leave some of the most abusive top recruiters (who operates lead generation companies, aggressively and deceptively recruit affiliates through "business opportunity kits", then sells the affiliates to other affiliates as downlines), but I am NOT convinced it's enough to stave off a FTC investigation, and there is a price it needs to pay for the sins it had already committed.
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  1. "Mary Kay and Avon sales ladies consult their clients on what's good for them ..."

    In my experience with Mary Kay and Avon people, they don't pitch what's good for me. Even when I tell them what I'm interested in buying, they don't pitch me those items.

    " ... because they know their products ..."

    Not really. Try asking if things are tested on animals and wait a couple weeks for them to get back to you.

    " ... and can recommend / teach how to use them more effectively ..."

    You'll get better recommendations and instructions from a beauty column. (Try Sali Hughes' videos!) For personalized advice and instruction, a professional makeup artist at a salon is best.

    " ... and have training from corporate on how to do so."

    I don't know what training Avon and Mary Kay reps get - and whether it's from corporate or from their uplines, but it's not good enough.

    Anyone who's considering becoming an Avon or Mary Kay rep should read and maybe think about slinging makeup in a more traditional setup like a department store or a salon.

    1. Mary Kay was in a lot of trouble recently as it was one of the MLMs that still encourages its reps to keep physical stock of items instead of rely on dropshipping. That makes all the reps in danger of inventory loading, and there are many reports that reps are discouraged from filing for refunds as their upline (whom the commission was paid) will be notified due to "clawback" provisions.

      Check following article for link to NPR OnPoint program on Mary Kay and the Harper's Magazine investigation.