Monday, October 20, 2014

USANA May Have Made Half a Billion Dollars In Sales From Conducting Illegal Multi-Level Marketing In Mainland China

USANA May Have Received at Least $440 million From Illegal Sales in Mainland China Since 2007

It may be that by secretly recruiting hundreds of thousands of Chinese Nationals as USANA distributors, which violates China's direct selling laws and possibly the Foreign Corrupt Practices Act (FCPA), USANA may have received $440 million from illegal sales in mainland China since 2007. USANA is a Multi-Level Marketing (MLM) company that makes most of its revenue from the product purchased by their sales reps also known as distributors. Mainland China has banned MLM, but that has not stopped USANA from recruiting China's citizens. USANA has hidden this information from investors, auditors, and regulators.

USANA is allowed to conduct MLM business in Hong Kong, which has a population of about 7 million. USANA has also purchased a company called Babycare, which has a direct selling license in mainland China through Single-Level Marketing, which means there are no downlines or commissions paid to any upline members. Since 2009 USANA's revenue for Hong Kong began increasing at a very rapid pace, which outpaced any of their other markets. The number of distributors they reported each quarter was such that 1 in every 100 Hong Kong citizens would have to be a USANA distributor, which was absurd since the ratio of USANA distributors in the United States is about 1 in every 3600 people. USANA's sales in Hong Kong peeked to $48.5 million in the fourth quarter of 2012. Since then, there has been a sharp decline in Hong Kong Sales at the same time a sharp increase in Babycare sales. As of last quarter (Q2-2012) USANA made only $15.4 million from Hong Kong. This is a substantial decline in sales, yet USANA has simply brushed it off as an expected decline as members join Babycare in mainland China rather than USANA in Hong Kong.

What's the big secret you may ask? In order to circumvent foreign laws, USANA recruited Chinese Nationals into USANA and had them register using a fake address in Hong Kong ("Room 1906 Kwong Yat House" for example). This way all of the Chinese citizens appear to be residing in Hong Kong when in fact they lived in areas such as Beijing. They did not join to spend $1000 USD (¥ 6100 CNY) on vitamins because they simply wanted the product (otherwise they would have been Preferred Customers), but joined as distributors so they can participate in MLM, which China considers is a pyramid scheme. Many if not most of them joined with a "3-business center" plan, which means they were sold the idea that they can maximize their profits if they start with the ability to create a bigger downline. Again, all of this is outlawed in mainland China, but that didn't stop USANA from swindling about $440 million from China. But remember, according to USANA these Chinese distributors reside in Hong Kong using the same phoney address!

The evidence that Chinese Nationals signed up as USANA distributors in Hong Kong can be found within the genealogy reports from those distributors who are their upline. The following link was a genealogy report from an upper level USANA distributor who had thousands of Chinese Nationals in their downline. USANA has since blocked the link, but here it is for historical record.
I have retained a copy of this document however:

The Appearance That Babycare Has Been Growing at a Rapid Rate During The Last Several Quarters May Be Nothing More Than The Manipulation of Number.

USANA has claimed Babycare is growing in mainland China. However, it may be nothing more than the transfer of sales from Hong Kong to Mainland China. Sales that were once attributed to USANA's Hong Kong market is now simply being reported in Babycare. USANA's auditor KPMG LLP should investigate the sales that were once reported as Hong Kong and now seem to be reported as Babycare. So the whole notion that USANA is “growing” its Babycare subsidiary may not be true.

On USANA's last quarter's conference call, Dave Wentz was asked where he projects Hong Kong's sales should stabilize (in light of the rapid decline in sales). Dave Wentz responded with the following (my emphasis in bold highlight):
"Well, Hong Kong's a fairly small market, population wise. And so we believe it will be -- I mean, if you were to compare it to other markets at the same population size, we expect it to be more successful than a number of them. But there will be a level that hits it right, that matches the market size and the number of leaders that we have there. But a lot of focus has moved from Hong Kong to China, as we all know, and that's where a much bigger opportunity is." - Seeking Alpha Transcript
It would seem to me that Dave is trying to justify Hong Kong's declining sales and distributor numbers. He should have simply told investors the truth that Hong Kong's numbers have been grossly overstated for the last several years because the sales were actually from mainland China instead of Hong Kong. Now what if we interpolate the sales from 2007 to the last quarter and consider anything above that line to be from mainland China? I choose 2007 because of evidence that shows Chinese Nationals being recruited into USANA since 2007 using a phoney address as seen in the genealogy report I referenced above.

USANA has been telling investors and stock analysts that Babycare has picked up business in China. However, this might not actually be true. I believe USANA is simply transferring the reported sales from one territory to another to make it appear as if business is growing in China. As you can see, Q1-2013 is the start at which Babycare sales started to sky rocket. This may actually simply be the transfer of reported sales from one market to another. Notice that Hong Kong decreases by almost the same amount Babycare China increases.
Many years ago USANA began recruiting Chinese Nationals from mainland China into their multilevel marketing compensation plan in Hong Kong. China's direct selling law forbids multilevel marketing from being conducted. So what USANA did is have those from China's mainland sign up using a phoney residential address in Hong Kong.

It's one thing if a few rogue USANA associates were breaking the law by signing up people from mainland China. It's another thing for USANA to knowingly circumvent China's laws and have them all share the same phoney address in Hong Kong when they sign up. This may be a violation of the Foreign Corrupt Practices Act. The extent of this violation isn't about a couple dollars from a few bad associates. In fact, it may be closer to $440 Million over the last 6 years that actually is the direct result of Chinese Nationals in mainland China who were illegally participating and conducting a multilevel marketing scheme within their country.

USANA has in the past stated that an undisclosed amount of people from mainland China are purchasing product from Hong Kong for their own personal use and not building a USANA business. Then over the last year, USANA has stated that they have a new policy that restricts people from purchasing USANA product from outside their own market. So those from mainland China are not suppose to purchase USANA product from Hong Kong anymore. USANA has also stated that they are shifting their focus from Hong Kong to Babycare in China. They also admitted that some of those who were signed up in Hong Kong will now be signed up in Babycare in China.

Why Did So Many of USANA's Hong Kong Full-Time Leaders Vanish?

USANA distributors who are able to obtain at least 10,000 sales volume FROM their downline (5000 points on their left leg and 5000 on their right leg) each week for 4 consecutive weeks are given titles such as Gold Director, Ruby Director, Emerald Director, Diamond Director, and Star-Diamond Director. USANA labels this class of distributors as “FULL-TIME DISTRIBUTORS”. Anyone beneath this ranking USANA classifies as only “PART-TIME DISTRIBUTORS”.

Reading USANA's recruiting material one may believe there are a lot of distributors with these high rankings. Those that reach this level can be making $50,000 in commission to over $1 million in commission per year. USANA has had over 2,000,000 distributors since they began in 1992. Over the last several years I have collected data of USANA distributor leadership rankings. As of June 2014 there are only about 3141 USANA distributors in the world that are a rank of Gold Director or higher (full-time), which is an unknown fact that is not disclosed to investors or even new distributors before or after they sign up. Interestingly, over the last two year 531 FULL-TIME USANA distributors have dropped out or have been terminated. Remember, these are distributors who are highly ranked, collecting thousands if not millions in commissions from USANA (approximately $38 million each year according to 2006 US Associate Earnings Documents).
The bigger eye opener is that out of the 531 Full-Time distributors that have left, 378 of them are from Hong Kong alone! 12 Diamond, 7 Emerald, 59 Ruby, and 300 Gold Directors have been removed from Hong Kong and possibly transferred to Babycare. If these members were making the kind of commissions their USANA rank suggests, and they were kicked out of USANA and turned into Babycare Distributors, what incentive would keep them as Babycare distributors if they are all of the sudden going to be collecting no commission at all? Remember, Babycare distributors cannot make a commission from other participants purchases because they cannot have a downline. Yet, Babycare sales and associates have been skyrocketing along with the fact the percent of distributor incentives to net sales did not dramatically change from the loss of all these high ranking USANA distributors that USANA would no longer supposedly be paying commissions to.

Where Are The Regulators?
So what's going on here? I believe USANA auditors need to investigate this issue and get to the bottom of it. I believe the Federal Trade Commission (FTC) needs to also open an investigation into the “PAYMENT FOR REFERRAL” plan USANA has implemented world wide which pays a referral commission to anyone who recruits Chinese Nationals into Babycare and receives commissions from their purchases, even though Babycare distributors are forbidden to participate in MLM. I also believe the SEC needs to open an investigation into USANA's possible violation of the Foreign Corrupt Practices Act by circumventing China's laws by having thousands their citizens sign up using a phoney address to participate in USANA's Multilevel Marketing scheme which may be responsible for over $440 million dollars in funds from the citizens in mainland China.

Wednesday, October 1, 2014

A Lawsuit Filed in July by USANA Claims Sales Were Dramatically and Negatively Impacted - USANA Versus Belynda Lee

Update 11/13/2017: This lawsuit was dismissed on January 20, 2015 by the judge after Belynda Lee filed for a motion to dismiss. Case closed...

In a lawsuit filed on July 25, 2014 USANA seeks at least $3 million in damages from a former employee that USANA believes "has dramatically and negatively impacted USANA’s sales". Because of the amount and the significance of the quoted statement I believe USANA had an obligation to disclose the court case and negative sales impact to their shareholders. I cannot find any public mention of this issue by USANA to its shareholders.  

USANA Health Sciences V. Lee was filed in the Utah District Court. I will briefly discuss the court issue and pull quotes from the court document with my emphasis added in bold as well as the occasional link on certain key words.

Belynda Lee was hired by USANA in 2005 as Asian Market Development Manager. In March 2011 she was promoted to Vice President over its Canadian and North American Asian Market. On January 23, 2014 she submitted a letter of resignation to USANA, which ended on February 6, 2014. USANA and Belynda agreed to a separation agreement. This agreement consisted of a non-solicitation agreement as well as a non-compete agreement.

20. In exchange for Ms. Lee's non-solicitation, non-competition, and other promises, USANA agreed to pay Ms. Lee $53,045.01 within seven days of her resignation date.

USANA also extended the life of her Stock-Settled Stock Appreciation Rights.

21. In addition, USANA agreed to extend the life of 5000 of Ms. Lee’s Stock-Settled Stock Appreciation Rights (“SSAR’s”), awarded on July 21, 2008, until October 21, 2014. On February 6, 2014, Ms. Lee exercised these rights, sold the underlying shares, and received proceeds of $209,700.

22. USANA further agreed to extend the life of the equivalent of 6000 of Ms. Lee’s SSAR’s, awarded on July 21, 2011, until May 6, 2014. On February 10, 2014, Ms. Lee exercised these rights, sold the underlying shares, and received proceeds of $227,040.

23. Finally, USANA agreed that an additional 6,000 SSAR’s would continue to vest on Ms. Lee’s behalf, would become available to exercise on July 27, 2014, and would not expire until October 27, 2014.

24. The extension of Ms. Lee’s SSAR’s was made “[c]onditional upon [Ms. Lee] complying with the non-solicitation and non-competition restrictions” of the Separation Agreement.

So now the interesting part begins. According to the court documents, USANA agreed to a "limited waiver" which would allow Belynda to accept a position a Nerium Internation without violating her non-compete restriction. However, she violated that agreement.

27. In particular, Ms. Lee, together with her son and Aaron Dinh, directly or indirectly recruited members of USANA to leave USANA and join Nerium, for which Ms. Lee had been named Regional Vice President of Sales and General Manager of Canada.

28. Ms. Lee’s recruiting strategy was to contact USANA distributors, customers, and potential distributors and customers, together with or through her son and Aaron Dinh, to explain to them the purported problems with USANA, and to convince them that Nerium would be a better fit.

29. As a result of Ms. Lee’s efforts, several key USANA distributors and customers left USANA and joined Nerium, including Brenton Haag, Cathy Ngo, Aaron Dinh, May Anilhongse, Maurizio Flores, Coach Mike, and Christy Grisom.

30. Two of the distributors (Dinh and Ngo) were two-star Diamond Directors for USANA, which is a very significant distributor position within USANA. Their departure has dramatically and negatively impacted USANA’s sales, as they were highly recognized distributors with large, successful sales organizations. In addition, their departure has created negative publicity for USANA.

USANA admits in the court document that the departure of these high level associates negatively impacts their sales in a "dramatic" way. The wording of this implies a material significance that may have been required to mention in their second quarter 2014 SEC financial statement. The publishing date of that Q2 SEC filing was August 5, 2014 which should have been plenty of time to add a line item that mentioned this court case and the dramatic impact it had on their sales.

USANA goes on to make makes several "claims" and asks for an amount in damages. I will skip over those details and simply quote from the last couple pages.
WHEREFORE, USANA prays for judgment in his favor as follows:

1. On its first claim for relief, for a monetary judgment against Ms. Lee in an amount to be determined at trial, but not less than $1,000,000;

2. On its second claim for relief, for a monetary judgment against Ms. Lee in an amount to be determined at trial, but not less than $1,000,000;

3. On its third claim for relief, for a monetary judgment against Ms. Lee in an amount to be determined at trial, but not less than $1,000,000;

4. On its first, second, and third claims for relief, in the alternative, for a temporary restraining order, preliminary injunction, or permanent injunction, prohibiting Ms. Lee from continuing to act in a manner contrary to law;

5. On its fourth claim for relief, a declaratory judgment declaring that: (i) the Separation Agreement is an enforceable contract; (ii) USANA performed its obligations under the Separation Agreement; (iii) Ms. Lee materially breached the Separation Agreement by actively recruiting USANA distributors and customers to leave USANA; and that (iv) as a result of Ms. Lee’s breach, USANA is no longer obligated to provide the stock options (SSAR’s) it promised to provide, and that it can recoup the value of the SSAR’s Ms. Lee has already exercised;

6. For pre- and post-judgment interest on all sums due at the rate provided by law;

7. For an award of reasonable attorney’s fees and costs; and

8. For such other and further relief as the Court may deem equitable, appropriate and just under the circumstances.

DATED this 25th day of July, 2014.

USANA is seeking at least $3 million in damages. I believe this $3,000,000 could be considered materially significant when compared it to USANA's net revenues for Q2-2014 of $29 million before taxes.