Friday, July 26, 2013

Good and bad MLMs: Pampered Chef, Herbalife and Nuskin

Aalaya Walker (Florida - Aged 18) was shot (but only slightly injured) when she pre-heated her friend's oven. She was wanting to make waffles.

Her friend, who obviously did not cook much, kept the ammunition in the oven because it was safe there.

There are lots of people in America who don't cook or can't cook and have never learned how. Real estate agents tell stories of people with beautiful appliances who keep all the manuals in the oven because they too never cook.

Many of these people eat a lot of fast-food, are overweight or modestly unhealthy and they miss the family or social aspects of sitting down with a nicely cooked dinner and a couple of bottles of wine and for that matter - perhaps getting plastered.

Enter The Pampered Chef.

Here is The Pampered Chef shtick at its best. The Pampered Chef "consultant" finds a man or woman (usually a woman) who does not cook much if at all - and would never hold a dinner party. She gives them a shopping list...


Two loaves of good bread
A couple of onions
4 small carrots
Some rosemary
Some olive oil
Some chicken thigh or breast fillets
Some cayenne pepper
A bulb of garlic
Any other herbs you like (parsley, sage, rosemary or thyme, whatever you like)
Couple of tins of lentils, Puy lentils if you can find them
Couple of ripe tomatoes
Bag of frozen spinach or fresh spinach
Some bacon
Some asparagus
Some yogurt 
8 friends
4 bottles of wine

It is of course the 8 friends and four bottles of wine that makes this really work. This lot makes one of those wonderful French provincial dishes (peasant food) that all my hedge fund manager friends have presented to them as Haute Cuisine.

The whole thing can be cooked in twenty minutes (see Jamie Oliver's 15 minute version below).




But the "consultant" takes thirty five minutes to cook, giving friendly cooking tips along the way - and sloshing down a little wine. Also they explain the cookbook has lots of other wonderful and easy recipes.

Then they sit down and eat it. To someone who holidays in the South of France and eats in French Bistros this is just a darn nice meal. But to someone whose diet consists of fast food its a revelation - exotic beyond belief. Just so tasty.

And as the wine gets consumed, cook, books, fry-pans and other things are sold.

If all is going well desert gets cooked, mostly at the table. Some eggs are separated and whipped up with sugar. The meringue is dumped in the oven (after the ammo is taken out). Some cream is whipped, strawberries crushed to make a coulis, and Eton Mess is served in nice glasses. All that cooking equipment is sold too.

The consultant becomes friends with two or three of the other guests and organizes another two dinner parties...

This is a real business, it really adds value and it is fun. Hell I would even go but I suspect I have enough frying pans... it is far less exploitative (and far less unreasonable) than a Tupperware Party.

==============

It is hard to argue that the above scenario is exploitative even if the frying pans are sold at three times fair value. Indeed Doris Christopher who founded the Pampered Chef originally just purchased the kit at The Merchandise Mart in Chicago and marked it up three times.

Walmart cannot sell frying pans this way because they can't get into peoples homes and explain how they are used. In this case what is being sold is "community" - and it can't really be sold any way other than MLM. MLM is a pathway into the community that is not available to a conventional corporate.

The dumbest part of Bill Ackman's presentation (and for a smart man he can be so stupid) is where he complains that Herbalife products are unreasonably priced - and describes the product as a commodity.

Doris Christopher purchased commodity frying pans at Merchandise Mart. What she sold was something else entirely.

==============

This is all fairly instructive on what makes an MLM a societally value accretive business. Its a good business if it works out how to create value out of community. In that case the MLM really is doing something that conventional retail can't do - and if they capture profits - even considerable profits - doing so - that is just normal business.

And I am going to make a strange argument - MLMs - at least to the extent that they create value out of community - should trade at a premium to traditional retail rather than a discount. Conventional retail is vulnerable to the internet - MLMs doing this sort of business are far less vulnerable... 

==============

But MLMs are not all good - and the critics do have something to say. MLMs do leave a trail of disappointed distributors - and they are not hard to find.

The Pampered Chef "consultant" who runs the above party may or may not be disappointed if the parties only make her a few thousand dollars "supplemental" income a year. After all she probably likes to cook, likes parties, likes meeting new friends and has a good time doing it. The fact that she does not get rich - or even earn minimum wage per hour for this - is not really material. It may be lightly profitable but good fun. My guess is that the profit share belongs disproportionately to Berkshire Hathaway - and that is the way Uncle Warren likes it. But it is also the way the world is.

There is a problem however if the consultant has to buy tens of thousands of dollars worth of frying pans to sign up as "consultant". She may never recover her investment. I have not talked to many "consultants". There may be a few out of pocket - but I doubt it is tens of thousands of dollars.

Still even Warren Buffett has been in the game of misleading consultants. The forward to The Pampered Chef Cookbook is written by WEB. To quote:
When you read the profiles of The Pampered Chef's Kitchen Consultants in Chapter 8, you may wonder what you are doing in your nine-to-five cubicle while these folks are happily cooking their way to fame and fortune.
Warren: despite your (well deserved) reputation for integrity this is BS and you know it's BS. You are vanishingly unlikely to find "fame and fortune" as a Pampered Chef Kitchen Consultant.

==============

But misleading consultants is only one of the things wrong with MLM business models. The main other thing wrong is decentralized law avoidance.

Let me give you an example. Nuskin - another listed MLM - sells a variety of vitamin pills through a multi-level structure. Their main product is some exotically packaged pills called "lifepak nano" (punctuation as on the pack). Here, photographed on my desk in Sydney, are some pills...



They are just vitamin pills - there is little that is "special" about them - well except that as the pack says - they have "enhanced molecular delivery" whatever that is...

Here is a list of ingredients...



On the Nuskin website they make some strong claims...


BENEFITS
  • Nourishes and protects cells, tissues, and organs in the body with the specific purpose to guard against the ravages of aging each day of your lifespan*
  • Superior bioavailability with CR-6 LipoNutrients™ enhances uptake from the gut into the bloodstream and body for maximum anti-aging benefits*
  • Advanced anti-aging formula helps protect the body with key nutrients such as NanoCoQ10™ and nano carotenoids*
  • Helps maintain normal inflammatory responses in the body*
  • Feeds and helps protect the brain with DHA and EPA (two CR-6 LipoNutrient™ softgels contain the same amount of EPA and DHA as two MarineOmega softgels)*
  • Offers superior DNA protection against damaging free radical attacks by providing the body with important antioxidants and phytonutrients such as alpha-lipoic acid and catechins*
  • Protects cell health with an antioxidant defense network*
  • Helps protect cardiovascular health with a comprehensive blend of omega-3 fatty acids and other nutrients
  • Provides comprehensive bone nutrition support*
  • Promotes healthy immune function*
  • Supports normal blood sugar metabolism*
  • Corrects nutritional deficiencies*

 You will note that every one of these claims is marked with an asterisk. The asterix is as follows:
*These statements have not been evaluated by the Food and Drug Administration. this product is not intended to diagnose, treat, cure, or prevent any disease. 
The company is careful on its website not to produce any literature that violates Food and Drug Administration law. You can't sell pills in America in breach of FDA rules without risking unpleasant legal complications.

But this is an MLM - and you can bet the distributors are not so careful. These little pills are sold as miracle cures - and Nuskin distributors are the snake oil salesmen of old - blithely violating FDA law and desperately difficult to prosecute because the sales force are not employees of the company.

Decentralised law avoidance is a feature of many MLMs. To my knowledge it is not a feature of The Pampered Chef. The Herbalife sales people I have visited have stuck extremely closely to the company provided (and legally vetted) sales scripts. In the cases I saw that sort of decentralised FDA avoidance was not an issue.

But the Herbalife clubs did not always have cash registers and they did not always have the little A+ or similar to indicate that they had complied with health laws (even though they sold food). In other words there was some low-level decentralised law avoidance.

A ranking of MLMs

I am happy to concede that The Pampered Chef is the gold-standard for MLMs. It makes its money because it packages community - indeed community rather than frying pans is the product.

At the other end Nuskin makes a good proportion of its money because it decentralises FDA non-compliance. [And I am not getting anywhere near the China business of Nuskin which other people have commented on widely...]

Where is Herbalife in this? I haven't seen much decentralised legal non-compliance with Herbalife. Maybe a little around the edges - but it is not the reason the business works. The reason the business works is that diets require community to sell. In that sense Herbalife is far closer to the gold-standard Pampered Chef than say to Nuskin.

In my neighbourhood you can buy your diet protein shakes from the discount shop, the (far more expensive) GNC shop or from the hot fitness or yoga instructor. And the hot fitness or yoga instructor is a better product. (S)he will ring you up and ask how your diet is going... That adds incentive to diet and thus adds value. Its a long way into The Pampered Chef gold-standard territory...

I have more than a few problems with Herbalife - not the least is the (huge) amount paid to the CEO. But Herbalife is fast growing and deeply embedded in communities selling products that need communities to sell.

Relative to The Pampered Chef it is easy enough to find disappointed Herbalife distributors - especially in the Hispanic Community. However there are few around here - and the Herbalife business is growing again in Sydney (despite Bill Ackman's claims of pop-and-drop collapses).

Speaking as a shareholder here - Herbalife has been plenty happy to pay dividends and buy back stock. Over the years it has repurchased (literally) billions of dollars in stock - and the share count has reduced considerably. The shareholder-friendliness is - CEO pay notwithstanding - at the better end of America. And Herbalife is growing.

I am not a lover of the MLM business model and I was (very) surprised when Berkshire purchased The Pampered Chef. However why Bill Ackman chose Herbalife to fight to the death - that escapes me.




John

26 comments:

Wilfried said...

And Bronte Capital is the gold standard of business blogs - interesting topics, facts that are well-researched, opinion that is conclusively argued, everything presented in a very entertaining way! Thanks a lot from this German reader!

Marko said...

John:
I would be interested if you came across Oriflame (ORI SS), a Swedish MLM for cosmetics (essentially European Avon) and where you would position it between "Gold standard" and crooks.

Best,
Marko

But What do I Know? said...

Great piece, JH. I would just have one small disagreement with you when you say Warren Buffet has a well-deserved reputation for integrity--he's a scam artist and a hypocrite.

Anonymous said...

Only 4 more days to go till Herbalife's Conf Call.

So Herbalife is emulating Pampered Chef "community value-added experience" and distancing itself from NuSkin.

So in your opinion, overall MLMs are better than conventional retail at delivering this value-added community experience?

John Pluck said...

I have never read such a contradictory and confused blog post. Pampered Chef is praised for selling saucepans at three times their value whilst Nu Skin is criticised for correctly displaying statutory notices that its products (as are most nutritional products) not FDA approved. As for the science behind LifePak just do a little research! No Nu Skin Distributor I have met has ever made magical claims for this product - it is just a very high quality nutritional supplement with a guarantee. The reference to China is completely discredited - again if only you did a little more research. Nu Skin is highly respected in China and has just been awarded a new series of licenses by the Chinese government. Of the three companies you mention all are respected and Nu Skin is the most ethical. Start throwing mud where it will serve more purpose!

Anonymous said...

It would be interesting for you to look into Herbal Life and Nu Skin as far as % of people who actually make money!! Both are very low, and misleading to people that are honestly looking for supplemental or replacement income. Now Nu Skin distributors are racking credit cards and taking out loans on thier homes in order to "stock up" on a limited time offer coming out. VERY expensive, and I for one fear for those who get tangled up in it. Other NS distributors have lost thousands, even tens of thousands getting wrapped up in the pressure to buy all the LTO's or else not succeed... Shameful and scarry!!

Anonymous said...

John,

Very good piece, rare is there a balanced discussion of such a polarizing topic.

I know you have discussed visalus a bit in the past. The company has obviously struggled but it is in a lot of ways very similar to herbalife (arguably less of a burden on distributors taking capital risk).

Do you have any view?

Howard Schultz said...

There is no way you can sell a commodity item for an exorbitant price just by providing that commodity in a novel environment.

Anonymous said...

John: off topic but I find use of social media, specifically FB, as the new channel to market MLMs fascinating. I have three "friends" that are hawking weight loss MLMs, two that appear to have enjoyed a surprising amount of success. THe marketing of success, wealth, travel etc of the distributors while pushing of miracle weight loss products is equal parts entertaining and contemptible. --dm

Anonymous said...

This whole HLF series is missing the point.

Any franchise model can fit a similar description to the Pampered Chef / Herbalife comparisons you try to make. McDonalds sells real estate space, IP rights, meat, potatoes, and cups to its thousands of franshisees at a profit. In turn, those franchisees operate their restaurants, and sell hamburgers and fries to millions of customers daily, also at a profit. In the end, there is a happy customer eating his burger, who bought it for a reasonable value. Everyone along the chain here is happy.

With HLF, and other bad MLMs, VERY FEW of the franchisees are making money. In fact, the majority are not making money. This HLF trade has obviously worked out great for your fund, but the thesis should be: Ackman is getting squeezed by ICahn. It is shocking to me how someone who focuses so much of their time on the short side, and specifically fraud and bad characters, can be so blind on this company.

John Hempton said...

Anonymous at 8.06 AM...

I am well aware that most McDonalds franchisees make money and most HLF distributors do not have good businesses and many wind up slightly out of pocket.

A few who start and fail at the business of running shops [nutrition clubs] wind up massively out of pocket simply because they run a club and get no customers...

This is a design feature of MLMs - no control over the number of distributors eventually erodes almost any opportunity.

It does not erode the fitness instructor because fitness instructor has almost no incremental cost and has some incremental sales.

---

I am not recommending you become an HLF distributor. Nor Avon. Nor Pampered Chef.

But if you chose to become one work out what edge - if any - you have in selling to a broad community. If no edge do not do it.

If some edge the product will be picked by the edge - I think.

Oh, and it is pretty hard to explain why anyone has an edge selling overpriced washing powder.

---

J

brandsinger said...

Hey - This post is a little long… but has a useful lesson in it. My takeaway? I can store my ammo in the oven!

James M. said...
This comment has been removed by the author.
John Hempton said...

James M., Howard Schultz was clearly joking.

His moniker is the same name as the CEO of Starbucks.

Do you think Starbucks makes money selling commodities at inflated prices in novel environments...


J

K Chang said...

I agree with almost all of your points but I do want to pointing out one problem with your hypothesis, that Herbalife 'S value is in is its diet clubs. if my memory is correc, diet clubs we're not started until less than 10 years ago, unofficially by an affiliate in Mexico. Even now the clubs are not allowed to use the official logo.

So does the company actually provide any additional value that you claim is the primary worth of the brand? Do they even provide training to form such diet clubs?

If not, then what is the real value of Herbalife? And do they really deserve the credit that you are giving them?

Anonymous said...

My name is Hil Davis, I was an equity research analyst at Citadel Investment Group in Chicago, IL, USA. I left to start a MLM company b/c there is a significant oppty to professionalize such a powerful distribution model, just like franchising in the 1980's.
MLM has earned and deserves a bad rap, but if done right, can be very powerful. (1) Cut out the costs for the reps to buy in and stay in, (2) compress the supply chain like AMZN and WMT and drive a compelling customer value prop b/c you eliminate the retail mark-up, (3) focus on quality over quantity and look at your reps like franchisees and not self consuming distributors. Our avg stylist generates $20,000 USD a year in revs and pays $49 to enter and $50 a year for email, training, support, etc.
John - if you would like to discuss further let me know.
Hil

Anonymous said...

You could build a derivative case around Amway Australia.

"Many people in Australia don't clean or can't clean or never learned proper hygiene. Some even use vegemite as a hair gel. Many of these people miss the family or social aspects of having relationships..."

John Hempton said...

Anonymous of 12.20pm obviously does not want a job at Bronte Capital!

Jon L. said...

"Howard Schultz said...
There is no way you can sell a commodity item for an exorbitant price just by providing that commodity in a novel environment."

Really? How about visiting any trendy bar in the world and buying a cocktail. Commodity item - alcohol. Exorbitant price - at least a 200% and up to 1000% markup!

Dan Davies said...

For what it's worth, those Herbalife t-shirts are showing up all over the place in fashionable North London. I suspect that they've broken into the "large component" (in the sense of Duncan Watts's book on network theory) of the British personal training industry and begun to spread like wildfire, or possibly bindweed since we don't really have wildfires over here.

Jon L said...

Ackman should have known that shorting Herbalife was a losing proposition:

Rearrange the letters in HERBALIFE and you come up with BIL HE FEAR

That's all I got. Do I get the job?

Mark Dreison said...

I'm stuck on the fact that a girl got shot because her friend kept ammunition in the oven.
Great explanation using the pampered chef party.

Anonymous said...

Can you make waffles in the oven? Don't you need an electric waffle maker?

Jody said...

If you have no idea what "nano" means, then you have little right to comment. Have you checked the NuSkin stock lately? Did you mention that the most expensive products come with money-back guarantees...or that they can do that because when used as directed, these products actually WORK? OR that seven of the Pharmanex supplements are listed in the Physician's Desk Reference...or that our Chief Scientific Officer comes from a well-respected pharmaceutical career where many companies, including Wyeth Labs, wanted to buy Pharmanex but NuSkin was successful in its bid? This company has been around for close to 30 years, and also owns LifeGen Technologies, which helped map the human genome in 2003. They there- fore have 30 years of the top anti-aging and weight-loss research based on gene therapy - something no one else does. It's been reviewed on The Discovery Channel as well as many peer-reviewed publications. A minimum of 75 PhDs are on staff with NuSkin and Pharmanex. There are many ways this company stands above other MLMs - your ignorance just doesn't show that. It's got a 5A-1 rating by D&B and has been listed in the Top 5% of Forbes' Most Trusted Companies for years, and has also won several Stevie Awards for innovation and its philanthropic branch, a Force for Good. There's a reason its stock has gone from 32 to 100 in a year. People - be careful taking this man's uneducated opinion!

Adam said...

By enhanced molecular structure Nu Skin means something, that is so important, that it makes a great difference between couple-a'-pennies poison and the highest utilizable bioproduct. It is NOT the same for me. So, my friends, either you understand and experience what they say or you simply deny some viable information from yourself. WHEN you understand, that Nu Skin and Pharmanex's reliablity and high quality(you can measure by high-tech molecular examinations) makes it the cheapest of all. SO the question is: do you want to make an expensive urine, or you want that stuff BUILT IN. Now it is not up to your own fantasy, wether that happens. It IS MEASURABLE BY ANY MEANS(you select method)!!!!! You need it? I do!

aclow said...

Your description of a Pampered Chef party is so unlike the actual event.....they are not "dinner parties" they are in home sales demonstrations. The food is merely a vehicle to showcase, and hopefully sell, the products.

A new consultant doesn't have to spend thousands on "frying pans" that she hopes she can sell! The consultant starter kit costs either $99 or $159 depending on the amount of products the new consultant wants for her kit. Consultants do not stock items for resale. When products are ordered from a show, they are sent from the distribution center in Illinois.

As far as being overpriced, I suggest you take a Pampered Chef catalog to Williams and Sonoma or some other quality kitchen store and compare the prices and the quality. I think you will be pleasantly surprised. If you are going to compare Pampered Chef products with Walmart products, you will of course see that the Pampered Chef products cost more.....you need to compare quality products to quality products.

As far as some consultants not earning more than a few thousand dollars a year but not caring because they like to cook and they like to have parties, that is really demeaning.. There are many consultants in The Pampered Chef that earn thousands per month (myself included) who are with this company because it offers them the opportunity to have their own business. There are many consultants who don't even like to cook (imagine that!) but they know that The Pampered Chef offers quality products, great customer service and a well known an respected brand.

Please get your facts straight before you write any more articles about a wonderful company that has given thousands of woman and men (yes, men!) the opportunity to have a successful business.


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The content contained in this blog represents the opinions of Mr. Hempton. Mr. Hempton may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Hempton's recommendations. The commentary in this blog in no way constitutes a solicitation of business or investment advice. In fact, it should not be relied upon in making investment decisions, ever. It is intended solely for the entertainment of the reader, and the author.  In particular this blog is not directed for investment purposes at US Persons.