Direct selling of beauty products may get ugly after Nu Skin scandal
Perhaps the only real surprise in the recent scandal surrounding cosmetics firm Nu Skin Enterprises is that it has taken this long for the mainland to investigate pyramid scheme accusations against the direct seller.
Prompted by a scathing People's Daily report on January 16, two Chinese regulatory bodies announced they would investigate into the company's practices, causing the Utah-based company's share price to plunge more than 44 per cent and pulling down with it fellow American direct-seller Herbalife, which fell 10 per cent.
Back in its home market, a class action lawsuit was also filed in the District Court claiming that Nu Skin failed to disclose it was engaging in "fraudulent sales practices" that did not adhere to Chinese laws.
In June last year, Beijing Youth Daily also published accusations against the company, which led short seller Citron Research to publish a report in October saying Nu Skin was "extraordinarily dependent on China for a disproportionate amount of its gross revenues, and all of its growth".
The company, which has been doing business in China for 11 years, has denied any wrongdoing. For the time being, however, it has halted promotional meetings for its sales representatives on the mainland and is conducting an internal review.
"We have initiated our own province-by-province business review and will invite relevant regulators to provide guidance," the company said in a statement.
Owing to the rapid expansion of its sales force in the past year, it promised to "also take additional steps to reinforce our training and education efforts", and come back with findings on February 6.
Nu Skin counts more than 40,000 people in its sales network, selling anti-ageing and weight-loss products in more than half of the mainland's provinces. But the central government has long been wary of direct sellers, kicking them out completely in 1998. They were allowed to re-enter in 2006 after much lobbying from US companies but are subject to tight regulations. Firms must provide, for example, a return-and-refund policy for distributors and the total salary package of its sellers should not exceed 30 per cent of sales - meaning a salesperson's income should be derived mostly from sales and not by recruiting other sellers. About 40 companies have a sales licence, including Mary Kay, Amway, and Avon.
Despite the concerns of the government, the mainland market has performed extremely well. Annual growth for most firms has averaged about 20 per cent. The mainland is the second-fastest growing market after Brazil for Mary Kay. It is a similar case for Nu Skin, which derives 28.9 per cent of its revenue from the Chinese market. More importantly, there is enormous potential for growth. Direct sales represented 1 per cent of the retailing market in China in 2012, according to a Euromonitor report.
Some observers said the allegations stemmed from recent anti-foreign sentiment that had seen state media attack companies such as Starbucks and Samsung.
Articles about direct-selling companies in state-backed media such as China Daily take on a negative tone.
"The early perception of direct selling as a pyramid scheme has been deeply rooted in consumers' mind," said the Chinese Academy of Direct Selling Management.
"It has something to do with the new leadership as well," added Biao Wang, the chief executive of Camellia Universal, a consultancy that advises foreign firms on doing business in China. "They're trying to promote domestic products and services."