While investors watched this morning's Herbalife investor conference to see how stocks would respond, the dean of The College of New Jersey's business school paid closer attention to how the company would refute charges of being a pyramid scheme.
Bill Keep has been researching and participating in prosecutions of pyramid scheme businesses since the 1990s, when he was faculty at the University of Kentucky. Keep and Peter Vander Nat, an economist at the Federal Trade Commission, are the authors of the only academic paper published about mathematically identifying pyramid schemes.
The paper was referenced in hedge fund manager Bill Ackman's three-hour presentation on his accusations that Herbalife, which sells fitness and weight loss products, is a pyramid scheme. Ackman's accusations and subsequent short sell sent Herbalife stocks plummeting in December.
While Keep has not taken a position on the Herbalife issue, he is excited that the work done by Vander Nat and himself is being recognized.
"My first thought was, 'Finally we're going to get some attention paid to how multi-level marketing firms may operate.' I want to be careful, because my first thought was not 'Oh great, they finally caught Herbalife, because it's a pyramid scheme.' That was not my first reaction," Keep said. He added that he didn't know if Herbalife is a pyramid scheme but said, "I know what data I would need to prove it, one way or another."
Keep said there are several clear-cut ways to determine whether a company is a pyramid scheme, based on previous rulings in court. The first is how heavily the company relies on recruitment for compensation and upfront investment of new distributors. Another is claims being made about the product being sold are untrue. Finally, if the company has few outside customers, it is likely a pyramid scheme.
Keep said that he's refrained from advising investors on multi-level marketing firms in case he's called to testify as an expert witness when pyramid charges are brought. He's already testified in cases in Florida and Kentucky.
He also said pyramid schemes have been able to capitalize on opportunities in the past 30 years because the average household income has been flat or declining, "and that creates an unmet need." He said pyramids often advertise their most successful members to recruits, telling new distributors they too can have additional income, travel opportunities and other perks.
Keep said that, while not all multi-level marketing firms are pyramid schemes, the industry has been under regulated.
"There have been enough pyramid schemes posing as legitimate multi-level marketing firms that we should be concerned that they may continue to exist," he said.