Herbalife's Lieberman Report: Smoke And Mirrors

| About: Herbalife Ltd. (HLF)

Herbalife CEO Michael Johnson made a guest appearance on CNBC following the news that Bill Ackman had accused Herbalife of running a pyramid scheme. I'm sure that Johnson and his lawyers wish they could erase the interview from the internet archives. Johnson, like he has numerous times in the past, made several serious misstatements about Herbalife's business. The most important revolves around Lieberman Research Worldwide, a market research firm, which was only hired by Herbalife early in 2012.

By this point we know that Herbalife has no system to track retail sales, nor do they have any idea what amount of retail sales actually exist. So, in an effort to help silence the critics, Herbalife hired Lieberman to help figure out who exactly is buying the product. Note that Herbalife has been in business for 30+ years. As we noted in our first report, as a mandate to a court order in 1986 in California, they are required to have a system which accurately records retail sales. They don't. So, instead of putting some sort of documentation system in place, they figured that hiring a market research consultant would be the best alternative.

First let's get back to that CNBC interview for a moment. This exchange between Johnson and CNBC anchor Kate Kelly will give us a backdrop:

JOHNSON: We have millions of customers. Millions upon millions of customers. Lieberman research was hired by us to go out and verify and validate that. We've been validating that for the past two quarters. We will continue to do that. That's never been a problem. None with FTC none with anyone. Our customers are sometimes called a distributor that's the only confusion that we have. And they are distributors because they get a discount on our products.

KELLY: Can you give us a percentage figure though Mr. Johnson as to what percentage of your sales are outside that distribution network?


KELLY: So the vast majority?

JOHNSON: Absolutely

Johnson or anyone at Herbalife for that matter have never been able to answer that previous question with any sort of precision but Johnson somehow, someway finally had the answer. 90%. And he said it with such authority. "Absolutely."

We wondered where this magical 90% number came from. Did he make it up? Was Herbalife somehow now recording the actual end purchasers of product?

But we then remembered the Q3 quarterly conference call in which Johnson discussed Lieberman research and some of their work:

JOHNSON: As we discussed last quarter, we've engaged Lieberman Research to conduct consumer research over the next 3 years. This quarter's results were very similar to those of the second quarter. Approximately 5% of U.S. households reported having purchased Herbalife product in the past 3 months, which translates into more than 5.5 million households. Those consumers who purchased Herbalife product, more than 90% were outside our distribution network. According to Lieberman Research, the consumers' intent to repurchase was very strong, with 2/3 of those having purchased Herbalife product in the past 3 months, indicating that they would definitely repurchase Herbalife products.

We should note that the total US population is roughly 314 million with roughly 115 million households. On average there are about 3 individuals per household. We wondered why Herbalife used the term "households"; instead of individuals. The answer was clear. If Herbalife had properly identified those who purchased a single product during the 3 months preceding the survey as individuals, it would expose the fact that 98.2% of the total population of the US did not even purchase a single product from Herbalife in the 3 months preceding the survey.

Note that Herbalife states that '5% of US Households reported having purchased Herbalife Product…' which we should point out is singular 'product' and not 'products'. This equates to 5.5 million households according to Herbalife. And the singular 'product' usage is important, because no information is given to us about the remaining 10% purchases of distributors. The distributor purchases are obviously much larger in nature, and therefore their volume likely dwarfs the 90% non-distributor purchases.

Herbalife has admitted that it supplied the questions to Lieberman, (which is a standard practice) to use in connection with the "households" that "purchased product" (singular not plural) in the preceding three months.

How did Lieberman find the individuals (or households) that purchased a product from Herbalife in the 3 months preceding the survey?

Some of Lieberman's options:

1. Calling the entire population of the US, which is 314 million, (at least those with listed phone numbers)?

2. Using telephone directories that list a phone number for each US address (household); then, call each of the 115 million phone numbers.

3. Send a survey, via US mail or likely email to the 314 million people that comprise the US population; or to each of the 115 million households.

We did a search for some of Lieberman's past work to get an idea of how their sampling works.

In a 2009 survey completed for Charles Schwab entitled 'Young Adults & Money Survey', Lieberman concluded that 52% of young adults between the ages of 23 and 28 consider "making better choices about managing money" the single most important issue for individual Americans to act on today.

In the footnotes of the article Lieberman notes that they polled 1,252 young adults between the ages of 23 and 28 'using Real-Time Sampling (RTS), a marketing research technique in which respondents were recruited in real-time from a network of hundreds of prescreened websites.'

While we couldn't find an exact total for the number of people age 23-28 in the US, our estimate is at roughly 30 million (give or take a few million). Regardless of the exact number, Lieberman concluded- based on a sampling of .004% of this segment that the majority of these young adults believed they should be making better choices about managing money.

We don't have the exact number of people surveyed in the Herbalife/Lieberman report (since it was never revealed to the public), yet we can make an educated guess that the methods used in the two surveys are the same.

Except for one major difference; In the case of Herbalife, they are attempting to specify with conviction a precise percentage of product sold to an end consumer, as opposed to the Schwab survey, which is only attempting to get a group's pulse on a financial topic. While there might be some evidence that sampling a tiny fraction of a subset of the population and extrapolating that number can produce decisive results for a very subjective question, I find it hard to believe that utilizing the same process can produce valuable results for a company trying to determine how much product it sells to retail customers.

We don't know for certain (since it was never revealed to the public) but Herbalife may have provided Lieberman with the name and contact information of the individuals Herbalife wanted included in the survey.

Is it possible that Herbalife sent Lieberman the contact information of individuals who are not also distributors?

Here's our tongue in cheek version of how it might have gone down:

Johnson: "Hey investors and regulators are really breathing down our necks about this whole retail sales thing. Can you send out some surveys and figure out who our customers are?"

Lieberman Worldwide: "Sure! What sort of questions do you want to ask?"

Johnson: "Well seems the only thing that people care about are sales outside of our distribution network. So let's ask people if they have ever purchased a product and if they are a distributor. I'd like to figure out the percentage of non-distributors that have purchased product from us."

Lieberman Worldwide: "Ok, well we could email some folks, but that might take a while."

Johnson: "Yeah well I need results immediately. If not they might shut this whole thing down. How about I send you the emails from our database and you can just send them the survey?"

Lieberman Worldwide: "Sounds great!"

We expect that the Herbalife Presentation on January 10th will rely heavily on the Lieberman report, especially since Michael Johnson is now using the '90%' number as the Holy Grail.

What we also know is that Herbalife will never reveal the exact methods or the number of people surveyed by Lieberman.

Smoke and Mirrors. Conceal and Conquer. Herbalife's game plan for the past 30 years. Don't be fooled on January 10th. Take the Lieberman report for what it is worth; a survey. It might be reliable to find out if distributors like the new 'dulche de leche' shake but it is not something that should be relied upon to prove that Herbalife is actually selling products to end consumers.

Disclosure: I am short HLF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.