Ever wondered how US MLM companies do business in China?
Boy have I got a story for you…
It’s an open-secret that MLM companies in China operate as pyramid schemes. The government turns a blind eye, what regulatory framework exists is paid off and if anything were to happen it’s rare that information makes it out of the country.
This makes the DOJ and SEC’s recent criminal and civil cases against Herbalife rather eye-opening.
So to speak, the veil covering Herbalife’s Chinese business operations has been pulled back for all to see.
As per an August 28th press-release issued by the DOJ;
Herbalife Nutrition Ltd. (Herbalife), a U.S.-based publicly traded global nutrition company, has agreed to pay total penalties of more than $122 million to resolve the government’s investigation into violations of the Foreign Corrupt Practices Act (FCPA).
The resolution arises out of Herbalife’s scheme to falsify books and records and provide corrupt payments and benefits to Chinese government officials for the purpose of obtaining, retaining, and increasing Herbalife’s business in China.
Being a pyramid scheme, Herbalife was unable to survive in China organically.
This saw the company engage in an
extensive and systematic corrupt payments to Chinese government officials over a 10-year period.
The primary purpose of Herbalife’s bribes was to obtain and maintain its Chinese direct selling licenses.
In late 2006 through early 2007, during the time period that Herbalife China’s application for its first direct selling license was pending, Herbalife China provided corrupt payments and benefits to Chinese government officials, including government officials responsible for awarding that direct selling license, and falsely recorded and booked those corrupt expenses.
Around the same time period, an officer and high-level executive of Herbalife suggested to a high-level executive of Herbalife China that Herbalife China personnel falsify expense reimbursement documents in connection with entertainment of Chinese government officials.
Thereafter, Herbalife continued to provide improper payments and benefits to Chinese government officials.
A cease and desist order issued against Herbalife by the SEC details a conversation between Herbalife executives, pertaining to bribery in 2007 to obtain Herbalife’s initial direct selling license.
For example, in a January 10, 2007 telephone call, Managing Director (serving then as the Director of Sales for Herbalife China) asked EA Director whether Herbalife China had “taken care of” an official at Chinese Government Agency 1 (“Official 1”).
Managing Director then asked, “We have given the money to [Official 1], haven’t we?” to which EA Director replied, “Of course we have.” Managing Director then stated, “The money works well on him.”
Herbalife was awarded its Chinese direct selling license in March 2007. Shortly thereafter, Herbalife executives organized gifts for government officials involved.
During a March 22, 2007 telephone call, Herbalife China’s Managing Director at the time (“Former MD”) congratulated EA Director on acquiring the license.
EA Director told Former MD, “I will take care of those people. I will still have to invite them out for dinner next time I come anyway.”
Former MD responded, “Right, good idea. We will talk later about how you are going to take care of them.”
Later that day, during a call, EA Director spoke with a senior manager of External Affairs (“Senior Manager”).
EA Director told Senior Manager to “grab a pen and write down the gift list.” After listing the names of 17 individuals, including Chinese Government Agency 1 officials who were involved in application process for Herbalife China’s pending direct selling license application, EA Director told Senior Manager to “go and get 260,000 yuan (approximately $33,700) and then divide the money among them, with a total of approximately 60,000 yuan (approximately $7,800) distributed to 16 Chinese Government Agency 1 officials”.
Naturally Herbalife executives in the US were well aware of what was happening.
The following day, on March 23, 2007, Former MD spoke with a (now former) senior Herbalife executive in the U.S. (“Senior Executive”). During that call, Former MD complained about Herbalife’s internal policy of limiting dinners with any Chinese government official to six dinners per year.
Former MD said that he was concerned about this limitation “because the people that does [sic] your license are those people, okay. You have far more than just six dinners.”
Former MD told Senior Executive that this policy will put the onus on U.S. executives to approve any dinners in excess of six times per year, “I can always write back to you folks and ask for approvals but then it’s like putting the onus back on you folks to answer future questions.”
Former MD stated that he “disagree[d] that having dinners with officials, that you will influence them but it’s just part of the way of doing business.”
Senior Executive told Former MD that “I am sure there are a lot of government officials, you can put different names down…but I didn’t tell you that.”
At least one Chinese government official was brought on as a Herbalife consultant, to “pay for his son’s house purchasing fund”. Herbalife eagerly obliged.
On March 31, 2012, EA Manager told Official 3 that EA Manager treated Chinese government officials to expensive meals with alcohol.
EA Manager said that one evening was “so expensive, my hands were shaky.”
In just the first six months of 2016 alone, Herbalife’s secret internal records revealed
115 restaurant meals with Chinese government officials and media, including state-owned media officials.
The average cost per meal was $1,472.
During that same period, according to the EA Audit Report, EA Director submitted expenses claiming to have provided gifts to 828 government officials and media, including state-owned media officials, totaling $146,485.
Between 2012 and 2016, Herbalife reimbursed External Affairs employees for over $7.2 million in questionable External Affairs meal and gift expenditures in connection with Chinese officials and media, including state-owned media officials.
Herbalife obtained approximately $58.7 million in benefit based on the conduct described above.
To hide their bribing of Chinese government officials and media from the US (where Herbalife is a publicly traded company and headquartered), Herbalife
maintained false accounting records to mischaracterize these improper payments as permissible business expenses.
With respect to regulators in China trying to put a stop to Herbalife’s illegal business practices, Herbalife
improperly influenc(ed) certain Chinese governmental investigations into Herbalife China’s compliance with Chinese laws and improperly influenc(ed) certain Chinese state-owned and state-controlled media for the purpose of removing negative media reports about Herbalife China.
For example, on August 8, 2012, Managing Director and EA Director discussed an investigation in Nanjing.
EA Director told Managing Director that a Chinese government official had helped stop an investigation involving Herbalife China, and that EA Director was going to obtain the interview records and police report for the investigation.
Managing Director told EA Director to thank the government official, and she responded that she had already done so when he came to Beijing.
Managing Director told EA Director to give the government official the money that the company otherwise would have paid as a penalty, “Let’s give the fine to him.” EA Director responded that they should not discuss this over the phone.
In January 2013, a state-owned media outlet (“Media Outlet 1”) published a negative article about Herbalife China. In an April 22, 2013 telephone call, EA Director told Managing Director that she had met with an official of Media Outlet 1 (“Media Official 1”) and asked him to remove the negative article.
EA Director told Managing Director: “He already took what he should take, ate what he should eat, drank what he should drink, and used what he should use. It’s up to him.”
Managing Director responded: “It is time for him to get to work, right?”
EA Director told Managing Director that she told Media Official 1 that “if you destroyed us, where could you get money?” to which Media Official 1 laughed and agreed to remove the negative articles.
Managing Director praised EA Director: “You have done a great job!”
In 2013, another state-owned media outlet (“Media Outlet 2”) published several negative articles about Herbalife China.
In an August 28, 2013 telephone call, EA Manager told Managing Director that he had met with a senior editor of Media Outlet 2 (“Media Outlet 2 Editor”), who “had agreed that they would stop after publishing two articles and we would start to negotiate collaboration.”
EA Manager told Managing Director that when Media Outlet 2 Editor escorted him out, EA Manager “put our ‘goodwill’ on the desk. He pretended he did not see it. This should not be a problem.”
All of this was done in violation of the Foreign Corrupt Practices Act, which the DOJ’s case against Herbalife is built around.
The SEC’s case against Herbalife pertains to the same criminal conduct, cited as violations of the Securities and Exchange Act.
Herbalife are not contesting any of the allegations brought before them by the DOJ and SEC.
Rather than send Herbalife executives to prison for their crimes however, the DOJ has opted for a deferred prosecution agreement.
Said agreement will see Herbalife pay a $55 million fine. None of its current or former executives will be held personally accountable.
The SEC’s civil action has been settled with a $67 million dollar fine. Again, none of Herbalife’s executives have been held liable.
As at the time of publication Herbalife maintains its Chinese direct selling licenses. Seeing as the DOJ’s and SEC’s cases paint their government officials as bribable pushovers (which they absolutely are), I don’t see Chinese authorities taking any action.
In other words, although the DOJ’s and SEC’s alleged conduct spans 2006 to 2016, this conduct is probably still going on.
Maybe we’ll get to read about the conduct happening now in another ten years, along with another ineffective deferred prosecution agreement.
Earlier this year Herbalife reported $4.9 billion in annual revenue. This was in spite of “sharp declines in China”.
Volumes during the full year increased in India by 24%, and notched double digit gains in Indonesia, Malaysia and South Korea as well.
Wanna take a stab at what Herbalife’s retail market is in those countries?
Taking a step back, you’d be pretty naive to think Herbalife and Nu Skin are lone wolves. The Chinese MLM market is a cash-cow and its victims have no voice.
It is the perfect environment for MLM companies that have failed or are failing elsewhere, to showcase purchased success.