By Jon M. Taylor, MBA, Ph.D.

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Decades ago, psychologists experimenting with both animals and people learned that you get the behavior you reward. For example, if you place a dog in a room with two bowls, the first containing a one-pound beef stead, and the second an ounce of dry dog food, invariably the dog will choose to eat from the first bowl.You get the behavior you reward.

Similarly, since an MLM (multi-level marketing) compensation plan specifies how participants are rewarded, it reveals whether the primary income emphasis is on recruiting or on retailing – and therefore, whether or not a given MLM is a disguised pyramid scheme.

MLM spokesmen maneuver to divert authorities from examining how participants are rewarded. They speak of the validity of a company’s products, the integrity of its leaders, and the company’s solid financial condition.  It seems that the one thing MLM leaders do not want regulators to understand – the compensation plan – is the one thing investigators must grasp in order to answer the question of where the emphasis is – on company payout resulting primarily from recruiting (usually from commissions for product sales to downline recruits), or primarily from retailing to consumers outside of the MLM’s network of participants. To dramatize the importance of concentrating on the compensation plan, rather than people or products, read and enjoy “The Parable of the Missing Children.”

When we undertake to evaluate MLMs, the challenge is further complicated by a wide array of complex MLM payout formulas, or compensation plans. The problem of identifying emphasis on recruiting vs. retailing in a compensation plan, as well as consumer harm, can be greatly simplified by understanding the four characteristics discussed on the “do-it-yourself” evaluation guide on this website – commonalities which are generic to all MLMs, or product-based pyramid schemes. (There is also a fifth characteristic that appears in almost all MLMs which amplifies the fourth characteristic.)

For explanations of various types of MLM compensation plans, go to Chapter 7 of my eBook Multi-level Marketing Unmasked.

This makes it difficult to compare plans from different MLMs. These widely varying plans also illustrate the need for an understanding of the commonalities and distinguishing features that separate MLM from all other forms of business activity.

Companies with all four of the characteristics of a product-based pyramid scheme can be classified as recruitment-driven MLMs, as differentiated from hypothetical retail-focused MLMs, which would primarily reward those who sell products. In reality, MLMs (with the possible exception of some party plans) are essentially closed systems, which sell products at retail primarily to program participants and cooperating family members – seldom to the general public. And frankly, analysis of over 600 MLMs convinces me that retail-focused MLMs don’t exist. Even if such a program were attempted, it could not compete with the aggressive recruitment of recruitment-driven MLMs.

Minimum required purchases (to qualify for commissions or advancement) could be considered disguised or laundered investments in a product-based pyramid scheme. TOPPs (top-of-the-pyramid promoters), founders, and company executives are rewarded in commissions for the sale of products to a revolving door of unwitting downline recruits.

How these defining characteristics were derived.

Early in my research, after extensive analysis of various business models, I was able to identify a list of characteristics that are common to all MLMs, including the 500 MLMs I have since analyzed. These were compared to characteristics of no-product pyramid schemes, as well as to legitimate businesses to which MLM is often compared, such as direct sales, franchises, distributorships, etc.

From this comparative analysis, a trained eye can see that when one focuses on the causes of the problems with MLMs, which are compensation plans with perverse reward features (enriching a few at the top at the expense of a huge downline who lose money), certain characteristics, or “red flags,” become apparent. Four key characteristics are both causative (causing high loss rates) and defining(clearly distinguishing pyramid schemes from legitimate businesses). I’ll refer to these causative and defining characteristics as “CDCs.”

The set of four characteristics were found to be exclusive to recruitment-driven MLMs (which included all of my sample of 600 MLM programs). Based on careful analysis of available data,MLM programs with all of these characteristics have a shocking loss rate – approximately 99.7%[i] of ALL participants lose money (after subtracting ALL expenses)!

In the light of these odds, typical promises made by MLM promoters of lucrative incomes are misleading, except for a few at the top of the pyramid who got in early.

Again, it is important to recognize that –

  • These four characteristics are causal because they identify the cause of the harm or consumer losses.
  • They are defining because they clearly separate MLMs, or product-based pyramid schemes, from all other forms of commercial activity.
  • And they are legally significant because they answer the question that law enforcement has had a difficult time answering; i.e., how the primary emphasis on income from recruitment (as opposed to selling direct to consumers) can be determined from the compensation plan – rather than from complaints, which are simply unreliable in this arena, since victims of endless chains rarely file complaints with law enforcement.

It is the synergistic effects of these four CDCs working together in an MLM that cause the extraordinary loss rates characteristic of these schemes. Interestingly, most of the laws that might implicate MLMs as pyramid schemes are based on one or more behavioral effects of the scheme (such as whether or not sales are made to non-participants) or behavior of  participants, and not the essential causes of the problems; i.e., the underlying structure, or compensation plan. As explained already, rewards drive behavior.

No wonder law enforcement has been so confused and inconsistent in this arena. Even so, using this analysis, law enforcement agencies can work within existing laws. Attempting to change the laws is risky, since the MLM lobby (Direct Selling Association) could then influence legislators to pass deceptive “anti-pyramid” laws that are actually favorable to MLM, as they have already done in several states.

Twenty years of research and feedback confirm this analysis, including a one-year experiential test, direct observations of numerous MLM opportunity meetings; communications with thousands of participants (and ex-participants and family members), executives from a variety of MLMs, and with consumers as MLM prospects; consultations with top MLM experts and attorneys; the collection and processing of available data (including official company reports); analysis of over 600 MLMs with all types of compensation plans; and surveys of consumers and tax professionals.

 To evaluate any MLM program, obtain its compensation plan (usually on the company’s web site) and then run it through our “5-step Do-it-Yourself Evaluation program. Doing so, you can predict with considerable accuracy your odds of profiting.

 

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