The MLM business model has always had its detractors simply because the math usually doesn’t hold up under scrutiny. Having to constantly recruit new salespeople below you in the food chain creates a situation where you run out of people in the global population who can sell your products. It’s a fine line between a pyramid scheme and a self-sustaining operation.
Yet there are MLM businesses that have successfully grown for decades, with Tupperware Brands Corporation (NYSE:TUP), Avon Products, Inc. (NYSE:AVP) , and Amway being among the best-known examples. As I’ve noted in the past, however, Tupperware at least distinguishes itself from other MLMs in that its end users are generally not also recruited to sell its plastic bins. It says 90% of the people who buy Tupperware products don’t sell them, compared with only 10% of its users who are distributors, too. In comparison, some 30% of Herbalife distributors are self-consumers. Tupperware has 2.8 million direct sales reps, while Avon has more than twice as many at 6 million. Herbalife Ltd. (NYSE:HLF) has 3.2 million.
Herbalife views its reps who also consume its products as end users, too. It says it’s the consumption of the product that is key rather than who is consuming it. Sold product is sold product regardless of who is buying it, and you’d be hard put to argue that Herbalife Ltd. (NYSE:HLF) products don’t have diehard adherents who believe in the supplements’ efficacy.
A smaller piece of the pie
The investment thesis then comes down to whether you believe an MLM business model is essentially a pyramid scheme or not. The FTC has guidelines for determining when an MLM business crosses the line, and while Herbalife is being investigated for a variety of reasons, most would probably agree it hasn’t gone over that threshold.
I tend to side with those who view the MLM marketer as just that and not a criminal enterprise, so I’d say it does fall into the “underdog” camp as opposed to just being a dog, but that doesn’t mean I think it would be a good investment, too. The continuous questions that swirl about it, the investigations that sap its capital, and even the occasional losses — a Belgian court last year declared Herbalife Ltd. (NYSE:HLF) to be a pyramid scheme — means that the stock will continue to fare badly.
Each time a hedge fund weighs in on the company the stock gyrates wildly, a situation better suited for day traders. I’d wait till the dust settles before wading in, even if it means not catching the stock at its absolute lows.
The article Herbalife: Dog, or Just an Underdog? originally appeared on Fool.com and is written by Rich Duprey.
Fool contributor Rich Duprey has no position in any stocks mentioned. The Motley Fool owns shares of Tupperware Brands (NYSE:TUP) and has options on Herbalife.
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