By  on January 16, 2014

There’s more trouble brewing in China for beauty.

Nu Skin Enterprises Inc.’s shares dropped more than 41 percent at one point on Thursday following a report in the Chinese newspaper People’s Daily on Wednesday that questioned the direct seller’s recruiting and selling practices. Shares closed at $84.80, down 26.4 percent, on Thursday on the New York Stock Exchange.

The company immediately fired back at the newspaper report stating the article “contains inaccuracies and exaggerations” and that reporters did not attempt to verify any information with Nu Skin.

On Thursday, Nu Skin said it was aware that Chinese regulators have initiated investigations to review issues raised in the article, and that the company will “communicate openly with regulators.” The company also said that it has launched its own “province-by-province business review.” Nu Skin stated, “Given the substantial growth in our China sales force over the last year, we are also taking additional steps to reinforce our training and education efforts. As we work through this evolving situation and remain focused on long-term growth, there will likely be a negative impact on China revenue, but it is too early to know whether our previous guidance will be affected.”

Nu Skin’s business in China has been growing at a rapid clip. Stifel reported that in 2012, Greater China accounted for 26 percent of Nu Skin’s total sales, which amounted to $2.17 billion that year, and Mainland China accounted for 12 percent of sales. For 2013, Stifel has forecasted that Greater China accounted 44 percent of sales, or an estimated $954.8 million, and Mainland China accounted for 32 percent, or roughly $694.4 million, and the financial firm had expected those numbers to grow steadily this year.

ConsumerEdge Research analyst Javier Escalante said the allegations — whether credible or not — are a reminder of the challenges of direct selling. Escalante said, “The inherent risk of the direct-selling business model is the difficulty to control the selling practices of [sales representatives],” and ensuring they adhere to both the company practices and country regulations.

China — which at one point banned direct selling — “has always been uncomfortable with the direct-selling business model,” he added.

The allegations have left many financial observers, who were once incredibly keen on Nu Skin, feeling uncertain about the company’s prospects. “It’s a total mess,” said a source familiar with the company, adding that clarity on the scope and size of the allegations are needed before the stock can rebound.

After hosting meetings with Nu Skin in Singapore and Hong Kong, including with chief financial officer Ritch Wood, Deutsche Bank analyst Bill Schmitz wrote in a research note on Thursday, “Management has assured us its model is clean and noncompliant distributors will be dealt with accordingly, in cooperation with the government.”

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