Defenders of multi-level marketing (MLM) are often heard saying that it’s a legitimate business method! Even government regulators say MLM is legitimate. And it is true that state and federal governments in the United States generally allow multi-level marketing companies to operate with little oversight. This is despite the fact that structurally and operationally, MLMs are nothing more than pyramid schemes.
Oh sure, the MLMs are careful to use lots of window dressing that makes it appear they don’t violate anti-pyramiding laws. There are even lawyers who whore themselves out to tell owners of MLMs how to “stay legal.” And of course, the massive lobbying on behalf of “direct sellers” and multi-level marketing companies ensures that current laws against pyramid schemes will not be enforced, and that no new laws impeding MLMs will be enacted.
Yesterday the Chicago Tribune ran a piece on multi-level marketing, specifically referring to Herbalife and Fortune Hi Tech Marketing. Typical positive MLM talking points were cited:
- Low start-up cost
- Ability to be your own boss
- Commissions made off recruits
- Possibility of six-figure compensation
The article cites the Direct Selling Association’s claims that annual sales from MLM in the United States total $30 billion per year. However, this figure is completely fabricated. It is derived from the wholesale sales of multi-level marketing companies to their distributors, which is then increased to suggested retail pricing…. assuming every single product purchased by distributors during the year is sold to a customer, and sold at full suggested retail pricing.
The problems with this figure are many: Very little actual retailing of MLM products occurs. Much of the product that gets in distributor hands is never sold to a customer, because the distributor is purchasing to meet minimum requirements of the pyramid. When products are sold, there are often significant discounts involved.
Unlike many of the “news stories” done on multi-level marketing, this piece actually gave a decent amount of airtime to the critics of MLM. We’re often painted as “anti-MLM zealots” or other negative terms, when the reality is that many of us are simply extremely educated about the reality of multi-level marketing (often called direct sales, network marketing, or some other term that is meant to distract consumers from the business of recruiting and the bad rap the industry has generated for itself).
A key paragraph of the article:
The harshest critics maintain there is no difference [between a legitimate multilevel marketing company and an illegal pyramid scheme], that there’s no such thing as a legitimate MLM and that the industry’s secrets stay safe because of a cultlike mentality and a blind eye of regulators.
One of the most knowledgable experts on multi-level marketing, Jon Taylor said in his interview that all MLM companies have the same flaw: They depend on endless chains of recruiting new members. “There is no more unfair and deceptive practice than multilevel marketing.”
I was quoted:
Multilevel marketing companies are pyramid schemes that the government allows to operate. The only difference is that Herbalife, or any multilevel marketing company, has a tangible product that they use to make their pyramid appear legitimate.
And here’s where it gets really fun. The Federal Trade Commission says the products differentiate MLM and pyramid schemes. They say in legitimate MLMs, the bulk of the money made by distributors comes from product sales. And in pyramid schemes, the pyramid toppers are compensated with “participation fees” paid by people at the bottom of the pyramid.
More precisely, a document at the FTC’s website says:
There are two tell-tale signs that a product is simply being used to disguise a pyramid scheme: inventory loading and a lack of retail sales. Inventory loading occurs when a company’s incentive program forces recruits to buy more products than they could ever sell, often at inflated prices. If this occurs throughout the company’s distribution system, the people at the top of the pyramid reap substantial profits, even though little or no product moves to market. The people at the bottom make excessive payments for inventory that simply accumulates in their basements. A lack of retail sales is also a red flag that a pyramid exists. Many pyramid schemes will claim that their product is selling like hot cakes. However, on closer examination, the sales occur only between people inside the pyramid structure or to new recruits joining the structure, not to consumers out in the general public.
The reality is that most MLMs in the United States have very, very little retail sales to third party customers. The bulk of the products are sold to distributors who are unable to re-sell them, and who purchase them primarly to move up or keep their position in the pyramid. MLMs have minimum purchase requirements, typically on a monthly or quarterly basis, which distributors must meet in order to be commission-eligible.
That, my friends is inventory loading. In some companies, such as Mary Kay, the inventory loading is heavy on the front end. In other companies, the inventory loading goes on continuously, little by little. You’d be amazed at how much unsold inventory a distributor can accumulate via monthly purchases that appear relatively small.
The Chicago Tribune article quoted an FTC official relative to the shut-down of Fortune Hi Tech Marketing:
These defendants were promising people that if they worked hard they could make lots of money. But it was a rigged game, and the vast majority of people lost money.
Welcome to multi-level marketing, people. MLM is a rigged game in which the vast majority of people lose money. It’s not just FHTM. It is nearly every MLM, yet the FTC refuses to act on a large scale.
But of course, the Direct Selling Association must push the idea that multi-level marketing is a great way to make an income. The DSA says “median earnings” are $2,400 per year, and about 16 million people in the U.S. participated in MLM last year. There are huge problems with this number:
- It’s completely fabricated. It again assumes that nearly all products are retailed at full suggested retail pricing.
- It is a gross income figure. It does not account for business expenses which, for 99% of participants, exceed the income.
- It is a typical technique used in MLMs to deceive potential participants. It distorts the reality, in which the vast majority of participants earn little to nothing.
It is also easily proven to be bogus by Robert FitzPatrick, who analyzes it as follows:
- 8 million salespeople times $2,400 income (at an absolute minimum) is $19.2 billion in INCOME. (8 million X $2,400 = $19.2 billion)
- If they received an average of 25% commission on company sales (which would be generous), then the minimum average SALES for the upper half to have earned $2,400, must be at least $9,600 each ($2,400/25% = $9,600)
- Using just a minimum of $9,600 each for the average annual SALES of the upper half, then total SALES credited to the upper 8 million has to be about $77 billion! ($19.2 billion/25% = $76.8 billion). You reported that the DSA reports TOTAL SALES are just $30 billion. There is a $47 billion discrepancy without even factoring the sales of the bottom 8 million and having also grossly reduced the total sales of the upper half by only counting income per distributor at $2,400, the mid-point. Using your DSA-sourced $2,400 median income figure, a fuller inclusion would perhaps put total sales above $100 billion or more, just in the USA.
- How many salespeople could have sales of about $10,000 in order to gain the income of just $2,400? This is determined by dividing $10,000 into the $30 billion = 3 million
- So, if 3 million salespeople had just $10,000 in sales in order to gain just $2,400, that would account for ALL industry sales of $30 billion (3 million salespeople times $10,000 average sales is $30 billion) The other 13 million would, therefore, earn nothing. Zero. The MEDIAN income could, therefore, not possibly be $2,400. In fact, it would be ZERO.
- The MEAN average SALES is only $1,875 ($30 billion/16 million). That figure alone shows that is impossible for a median income to be $2,400.
The article also described one Chicago resident as “typical” for multi-level marketing. It said that after three months in Herbalife, he was making enough money to quit his job as a parking valet. Such a story – – if true – – is far from typical. Even if he was only replacing a job which earned him $20,000, he would have to NET $20,000 after all expenses in order to replace that income.
A look at the Herbalife income disclosures suggests that this seller would be anything but typical. To net $20,000 after business expenses, he would probably have to gross $35,000 or more. Based on 2012 compensation figures, that would put him in the top 2,321 of distributors for 2012, out of a total of about 494,000 distributors. That means he’d be in the top less than one-half of one percent of all distributors (0.005%). Put another way, he’d be earning more than 99.53% of all Herbalife distributors. This is any but “typical.”
And so the game of deception continues. Even a reporter who appears to have taken care to present both sides of the multi-level marketing story was duped into claiming that participants in MLMs make $2,400 per year on average, and that the former parking valet’s income is typical. This is why I continue to try to educate consumers on the scam called multi-level marketing (or network marketing, or dual marketing, or direct sales, or referral marketing, or the less-flattering “pyramid selling”).
So is MLM a legitimate business method? The answer is still no, since 99% or more of the participants lose money. It is nothing more than a money transfer scheme, hidden by a legitimate-sounding product that is not widely retailed to third-party customers.