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MLM/PYRAMID/CHAIN SELLING
MLM is a flawed business model that requires transparency –
such as the FTC's proposed Business Opportunity Rule – to protect consumers
By Jon M. Taylor, MBA, Ph.D.

After years of deliberations, the FTC has proposed a Business Opportunity Rule that mandates disclosure
similar to what is required for franchisers, except that the proposed rule is not nearly as strict or
demanding. As stated in the announcement:

“The proposed Business Opportunity Rule would prohibit business opportunity sellers from failing to
furnish prospective purchasers with material information needed to combat fraud and would prohibit
other acts or practices that are unfair or deceptive . . .” (‘‘FTC Act’’).

Based on analyses of over 350 MLMs (a.k.a., multi-level marketing companies, network marketing, or
pyramid/chain selling schemes), nothing better exemplifies “unfair or deceptive” practices than MLM. So
MLM companies and the Direct Selling Association (DSA), which lobbies for MLMs, are taking
extraordinary steps to get MLMs exempted from the Rule.

MLM (multi-level or “network” marketing) – a flawed business "I was extremely impressed with your article [on product-based
pyramid schemes (MLM)] and felt compelled to write to you. . .
model.
Like yourself, I have completed a PhD in Psychology
(Organisational), and also have a business background in
MLM follows essentially the same chaining format as chain letters or no-product pyramid schemes,
management consulting. . . . I wanted to commend you on
except that investments are laundered through purchases of products – usually “potions and lotions”
your article - out of all the internet sites and reading I did
purported to heal or prevent a wide array of diseases. In MLM/pyramid/chain selling schemes, persons
on the subject, your article was by far the most informative
are recruited into an endless chain of participants in a supposed “business opportunity” and lured into
and well researched, and it really helped me understand the
buying expensive products (usually monthly) in order to qualify to “play the game.”
dangers of MLMs. Thank you!!"
There is seldom a significant base of customers outside the network of participants. Recent research, – Amantha Imber, Melbourne, Australia
including tax studies, shows that when all recruits are counted and minimal expenses are subtracted,
approximately 99% of participants lose money – far worse odds than for no-product pyramid schemes
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and even than for most games of chance at gambling casinos. As infinite recruitment programs in finite
markets, MLMs are inherently flawed, uneconomic, and fraudulent. To succeed, promoters must use a
complex web of deceptions to sell their programs.

Most participants buy a few products, lose a little money, and

drop out.
Those who invest the most (often thousands of dollars), lose the most – except for the “winners” –
TOPPs (top of the pyramid promoters) who profit hugely at the expense of the thousands beneath them
(“downline”) in the pyramid of participants (as well as the MLM’s founders and managers). To earn the
promised rewards, participants must not only recruit aggressively, they must (1) be deceived, (2)
maintain a high level of self-deception, (3) deceive a large downline of participants, and (4) remain in
denial about the harm they are doing.

With extremely high dropout rates, MLMs are in a state of continuous collapse, requiring a revolving
door of new recruits to replace dropouts. Markets quickly become saturated and new markets must be
found to keep the chain of recruitment going. Quickly spreading like a virus to vulnerable markets
overseas, millions of victims are defrauded annually out of tens of billions of dollars.

The compensation plan is the key to detecting the fraud.

The villain in these schemes is not so much the leaders, but compensation plans that feature an endless
chain of recruitment and the ongoing purchase of products to qualify for commissions and advancement.
Participants find it easier to sell to new recruits than to sell overpriced products to non-participants. In
over 350 MLM programs I’ve studied, most of the commissions paid by the company are rewarded to
TOPPs (top-of-the-pyramid promoters) from commissions on purchases by a large downline of
participants – leaving little incentive to sell to non-participants. Rarely does a new recruit recoup
enough in commissions to offset ongoing product purchases and expenses. In fact, the odds of
rolling a pair of dice three times and getting snake eyes all three times is greater than the odds of
profiting from MLM - after the first persons in the recruitment chain.

Clearly defined characteristics of product-based pyramid

schemes (a.k.a. “MLM” or “chain selling”).

Based on extensive research, MLM programs can be identified as “recruiting MLMs,” or “product-
based pyramid schemes” (chain selling) by five causative and defining characteristics in their
compensation plan. These characteristics both cause the harm (high loss rates) and clearly differentiate
between MLM/pyramid/chain selling and legitimate direct selling programs. These characteristics, or “5
Red Flags” are:

1. Recruiting of participants is unlimited in an endless chain of empowered and motivated recruiters

recruiting recruiters – ad infinitum.

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2. Advancement in a hierarchy of multiple levels of participants (“distributors,” “associates,” etc.) is

achieved by recruitment, rather than by appointment.

3. Ongoing purchases (products, sales “tools,” etc.) by participants are encouraged in order for them to be
eligible for commissions and to advance in the hierarchy of participants (the "pay to play" feature).

4. The company pays commissions and/or bonuses to more than four levels of participating “distributors”
– more than are needed to manage a sales force.

5. For each sale, company payout for the upline of participants equals or exceeds that for the person
selling the product, creating an inadequate incentive to sell at retail and an excessive incentive to recruit
new participants into the scheme.

In 100% of the MLMs where data is available, MLMs with all five of these characteristics (which is
virtually all MLMs) result in losses suffered by approximately 99% of participants. Several well-
researched reports supporting these conclusions, including the full “5 Red Flags” report, statistical odds
of MLM “success,” consumer guides, and 30 typical deceptions used in MLM recruitment, can be found
at www.mlm-thetruth.com.

Where is law enforcement in all this?

In 1979, in an anti-regulatory political environment, Amway’s legal team defeated FTC attorneys
bringing charges against Amway when the administrative law judge ruled that Amway was not a pyramid
scheme – assuming “retail rules” were met to assure that sales were made to actual customers, not just to
participants. These rules have rarely been enforced. The result has been the proliferation of MLMs to the
point that thousands of MLMs have come and gone since 1979, and several hundred remain.

Had FTC prosecutors had the data in 1979 that is available today, the ruling might have been different.
Recent research shows that MLMs, or product-based pyramid schemes, are the most harmful of all
classes of pyramid schemes by any valid measure – loss rates, number of victims, aggregate losses, etc.
Had Amway been ruled an illegal pyramid scheme, millions of victims throughout the world could have
been spared aggregate losses of hundreds of billions of dollars since 1979.

MLM promoters are in denial about losses suffered by victims, who tend to remain silent – or in cultish
denial. Only a tiny percentage of victims file complaints with the FTC or with state regulators, blaming
themselves for their “failure” and fearing self-incrimination – since in MLM/pyramid/chain selling, every
major victim must recruit a large downline of participants to recoup his/her initial and ongoing
investments. Victims also fear consequences from or to those they recruited or who recruited them –
often close friends or relatives.

With few complaints, law enforcement seldom acts against MLMs. And officials lack the resources and
prosecutorial will to contest MLM’s powerful legal teams.

The DSA and its MLM firms challenge the FTC in attempting to
fulfill its mission to protect consumers.
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MLM/pyramid/chain selling companies have come to dominate the Direct Selling Association (DSA),
which is now working to weaken laws against pyramid/chain selling schemes. Consumer protection in
several states has thereby been severely compromised. And because of the abysmal record of losses by its
member MLM companies, the DSA is lobbying aggressively to prevent any disclosure that might lay
bare the horrendous dropout and loss rates of participants.

The DSA’s current target is the proposed Business Opportunity Rule, fearing that if these truths were
disclosed, prospective recruits may hesitate to join. And since MLM sales are primarily to recruits, their
programs could collapse.

The DSA and its member firms are engaging in extraordinary influence peddling and deceptive tactics to
protect MLMs from disclosure as may be required in the FTC’s proposed Business Opportunity Rule.
Examples:

1. Hiring former high-level FTC officials, such as Timothy Muris (former FTC Chairman) and J. Howard
Beales III (for Primerica) and Jodie Bernstein (for Quixtar) to write comments against the Business
Opportunity Rule, or to seek an exemption for MLMs – which they refer to as “direct selling.”

2.Referring to MLM as “direct selling.” The DSA defines direct selling as “the sale of a consumer
product or service, person-to-person, away from a fixed retail location.” But the DSA blatantly fails to
explain what legitimate direct selling is not – recruitment of an endless chain of participants as primary
customers. It would be far more accurate to refer to DSA member firms as “chain sellers” or “pyramid
sellers,” rather than as “direct sellers.”

3. Receiving a 30-day extension for comments regarding the proposed Bus. Opp. Rule. Providing online
form letters to millions of pyramid participants, they generated over 17,000 letters objecting to the Rule.
Had the full 90-day extension sought by the DSA been approved, the FTC could have been deluged with
over 100,000 comments objecting to the rule – primarily from those being defrauded by their MLMs, but
hoping to recover their losses by recruiting others – which would be made more difficult with meaningful
disclosure. (We doubt many of those complaining that the Rule would threaten their livelihood could
furnish proof of profits on their tax returns.)

4. Requesting regional “workshops” to discuss the Rule. They know that if the FTC were to do that,
DSA’s mega-pyramids of participants could generate huge attendance that would overwhelm any input
from consumer advocates.

5. Getting groups of Congressmen to submit letters feigning support of the FTC’s consumer protection
efforts, while protesting the “burdensome” and “overly broad” application of the proposed Rule to
individual direct sellers. DSA officials know that the FTC was not suggesting that each participant
maintain success and dropout rates for those he/she recruits. This could be easily accomplished by
computer on a company-wide basis, as was required of Nu Skin Enterprises to comply with the FTC
Order for the company to cease its misrepresentations.

It can be assumed that these Congressmen have received or been promised political influence (jobs or
implied votes) or contributions to back these statements, as happens in the states. In Utah, for example,
the Attorney General testified for a bill exempting MLMs from being defined as pyramid schemes. He
had received $50,000 from a DSA-MLM that had been charged with conducting a pyramid scheme in at
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least one court of law. In total, he has received about a quarter million dollars in campaign contributions
from MLMs.

For more details on DSA deceptions and what would constitute a meaningful Business Opportunity Rule,
see Consumer Awareness Institute comments (under #178) and rebuttals posted on the FTC web site at –
http://www.ftc.gov/os/publiccomments.shtm

Also, it should be noted that a smaller MLM industry group, the MLMIA (Multi-level Marketing
International Association), is vigorously opposing the Rule. It’s attorney, Jonathan Emord, declared:
“We’ll use every means necessary to defeat the regulation.” Calling the FTC “an enemy of capitalism in
America,” he has even suggested proposing a bill in Congress to “eliminate FTC rulemaking” altogether.
(Network Marketing Business Journal, 2006)

Even with a good Rule, debunking of deceptions in MLM

reports will be essential.
When MLM companies have been ordered to disclose certain information, their reporting has been full
of deceptions. A good example is the 1994 FTC Order for Nu Skin Enterprises to cease its
misrepresentations regarding earnings of its distributors. Careful analysis of the 1998 report of earnings
of Nu Skin distributors revealed 20 deceptions on a single page! I filed with FTC officials a report
detailing these deceptions. Nu Skin’s 2004 report was not much improved. (See “Report of Violations” of
the FTC Order for Nu Skin to cease its misrepresentations of distributor earnings.)

It is obvious to us as consumer advocates that DSA/MLM officials are under pressure to obfuscate the
truth. However, the Business Opportunity Rule would be a good move towards consumer protection, by
requiring essential disclosure that would provide data for analysis by qualified experts – that could then
be posted in understandable terms on the Internet for consumers.

Conclusion – the FTC must defeat the DSA’s efforts to exempt

MLM from the Business Opportunity Rule.
The DSA, their MLM member firms – and Congresspersons they influence – object to applying the
proposed Business Opportunity Rule to what they call “direct selling” programs, but which are in fact
MLM/pyramid/chain selling schemes. If the DSA and MLM sponsors and promoters had nothing to hide,
they would not object to meaningful disclosure to potential recruits. The FTC will better fulfill its mission
to protect consumers and fair trade by enacting a good Business Opportunity Rule –with special
emphasis on warning against MLM/pyramid/chain selling programs.

– Jon M. Taylor, MBA, PhD, Consumer Awareness Institute, Pyramid Scheme Alert 2-29-08

RETURN TO HOME PAGE for a starting index to reports explaining the truth about all aspects of
MLM – based on 14 years of independent research and consumer advocaty. To be further informed on

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the topic, check out links to other recommended sites.

© 2009-2010 Jon M. Taylor

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