5 Red Flags for Identifying Exploitative Pyramid Schemes or Recruiting MLM

The 5 RED FLAGS for Identifying Exploitive Product-based Pyramid Schemes, or Recruiting MLM’s* 

 NOTE: Below is a very brief summary of the full 43-page report titled "The 5 Red Flags: Five Causal and Defining Characteristics of Product-based Pyramid Schemes, or Recruiting MLM's*" If you can afford the time to read the full report, it will be worth it, as it summarizes thousands of pages of research, analysis and feedback. 
 (MLM is short for "multi-level marketing," a.k.a. "network marketing," "consumer direct marketing," etc.)

*Recruiting MLM’s require extensive recruiting before realizing actual profits. Retailing is not significant, as the compensation plan does not provide sufficient rewards to make actual sales to legitimate customers worthwhile. Also, prices are not competitive, since they must support payments to a  huge downline of "middlemen distributors" – who are the primary customers. So the sellers are the buyers, and the buyers are the sellers – to themselves and their families. 

The compensation plans of recruiting MLM’s typically display five causative and defining characteristics (red flags), which taken together, cause approximately 99% of participants to lose money:

1. Recruiting of participants is unlimited in an endless chain of empowered and motivated recruiters recruiting recruiters – ad infinitum.
Ask: "Is unlimited recruiting allowed, and are those who are recruited empowered and spurred on by incentives (such as overrides from downline purchases, advancement, etc.) to recruit additional recruiters, who are likewise empowered and motivated to recruit still more recruiters, etc. – so that the effect is an endless chain of recruiters recruiting recruiters?" This leads to a perception that a given market is saturated ("de facto saturation"), and the program must move on to another location or introduce new products or divisions to continue. The opportunity for each new person to make money becomes less and less as this endless chain or pyramid of participants continues to expand.

       2. Advancement in a hierarchy of multiple levels of "distributors" is achieved by recruitment, rather than by appointment.  
Ask: "Does a 'participating distributor' advance his/her position (and potential income) in a hierarchy of multiple levels of 'distributors' under him/her, who in turn advance by recruiting "distributors" under them, etc.?" the result is self-appointment through recruitment to ascending payout levels in the distributor hierarchy. If the only way a person can profit significantly in the scheme is through recruiting to advance to higher payout levels (or to buy another’s downline), this strongly suggests a pyramid scheme.

3."Pay to play" requirements are satisfied by ongoing "incentivized purchases**."
Ask: "Are 'distributors'  encouraged to make significant purchases when recruited? That is, are they encouraged to make sizable investments in 'incentivized purchases'** in order to take advantage of the 'business opportunity,' and later to continue qualifying for advancement in – or overrides from – the MLM company?" Watch out for minimum quantity purchases of products or services over time – where you must "pay to play" the game – to qualify for commissions or advancement. Be wary when you are asked to sign up for continuing product purchases on auto-ship through an automatic bank draft, rather than making occasional purchases as needed. Such "pay to play" or "incentivized"** purchase requirements may be disguised investments in a product-based pyramid scheme, or a clever system of laundering pyramid investments in the form of product purchases. Few make sufficient commissions to cover the cost of these expenses.

4. The company pays commissions and/or bonuses to more than five levels of "distributors."  
Ask: "Does the company pay overrides (commissions and bonuses) to distributors in a hierarchy of more levels than are functionally justified; i.e., more than five levels?" Even in major corporations, the entire world marketplace can be covered in five levels of sales management – branch, district, regional, national, and international sales managers. Paying commissions and bonuses on more than five levels in an MLM program primarily enriches those at the top at the expense of those at the bottom. You would be wise to avoid any program that pays overrides on more than five levels. Breakaway compensation systems are particularly exploitive, as payments are on a hierarchy of "breakaway" organizations of whole groups of participants, not just individuals – creating an extraordinarily high loss rate, except for those at the top of a "mega-pyramid of pyramids."

  5. Company payout per sale for the person actually selling the product is less than the total of all upline participants , creating inadequate incentive to retail and excessive incentive to recruit – and an extreme concentration of income at the top. 
Ask: "Would a 'distributor' purchasing products 'for resale' receive less in total payout (in commissions, bonuses, etc.) from the MLM company as the total of all upline participants who had little or nothing to do with the sale?" If so, the company’s payments to the person retailing the product would be pitifully small, while those at the top in his upline can compound the small commission per sale by the sales of hundreds or even thousands of downline distributors. This is great for that upline person, but lousy for those attempting retail sales. Avoid any MLM company that pays less than half of all distributor payout to the person actually selling products to customers outside the network of distributors.

You should not accept income projections of retail sales at full retail prices, especially for products that are overpriced and not competitive in the marketplace. Also be wary when an MLM promoter asks you to choose between two options or "tracks" – one for those who want to "retail" the products and another track for those who are serious about "building the business." If the incentives are heavily weighted towards recruiting, this is a moot question.

While no one of these red flags by itself constitutes an exploitive pyramid scheme, taken together they create enormous leverage, enriching those at the top of the pyramid at the expense of a huge downline of unwitting victims of the scheme. Where valid data has become available, recent research has led to the remarkable finding that when all five of these red flags are found in an MLM, the percentage of participants who lose money is approximately 99.9% – far worse than the 87.5–93.3% loss rate for classic, no-product pyramid schemes and for many games of chance in Las Vegas.  You will likely do better selling pencils on a street corner.

In summary:

A “recruiting MLM” is a multi-level (or network) marketing system that depends upon recruitment of new distributors to replace a continuously collapsing base of new participants in a pyramid of recruits. As such, it constitutes an endless chain of participants in a phony business opportunity, who purchase (or subscribe to) products (usually highly touted potions and lotions) to "play the game". It is a pseudo-business with no significant customer base and is dependent on a large network of distributors, approximately 99% of whom lose money from investing in products and services (including “success tools”) offered by the sponsoring MLM company. The extremely high loss rate and aggregate losses make recruiting MLM’s, or product-based pyramid schemes, the worst of all types of pyramid schemes.

Thus, recruiting MLM’s are inherently flawed systems that promise ongoing residual income, but deliver very little except financial loss at the least, and loss of treasured relationships and values of honesty and integrity at the worst. They maintain themselves by continuous recruitment of new recruits, as investing participants give up or run out of funds and leave the system. Victims almost never file complaints with law enforcement because (1) they have been conditioned to blame themselves for their “failure,” (2) they fear consequences from or to friends of family they have recruited – or who recruited them, (3) they fear self-incrimination for have (unwittingly) victimized others by recruiting them into the chain (in order to recoup their initial and ongoing investments), and (4) simply not understanding what happened to them. And since the squeaky wheel gets the grease in law enforcement, officials rarely take action.

So – to be successful in a recruiting MLM, one must first be deceived, then maintain a high level of self-deception, and finally go about deceiving others. They must also remain in denial about the multitude of victims left behind. Some would label this " theft by deception," except that few of those doing the deceiving are aware that they are deceiving and defrauding those they are recruiting.  They may even put on a display of being "successful," by buying expensive cars and homes and inviting others to be like them.

Now, you can do an important public service by initiating an endless chain of truth-telling. Here's how: Share this report with five people and encourage each of them to share it with five more people, and each of them with 5 more, . . . ad infinitum. To accomplish this, you can use the "Bulletin from Someone Who Cares and the Answer Card  (Actions You Can Take, #10 and #11).

** "Incentivized purchases" are purchases of goods and services from the MLM company that are tied to qualification to participate in commissions or to advance through ascending levels in the distributor hierarchy. If they constitute a required cost of participating in the "business opportunity," then whether they are used, sold, given away, or stored is irrelevant – they should be considered a cost of doing business.

–By Dr. Jon M. Taylor, President, Consumer Awareness Institute 
and Director, Pyramid Scheme Alert

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For more information about MLM, including research, consumer guides, law enforcement, non-MLM income opportunities, humor, company evaluations, actions you can take, etc. –
Return to home page 

Law enforcement agencies and consumer awareness organizations can e-mail to: jonmtaylor@juno.com  By doing a Google search, you can find numerous other sites to counteract the hype of MLM promoters, and I have provided a limited annotated list of some of the better ones, such as www.pyramidschemealert.org. 

 © 2004, 2007, 2008  Jon M. Taylor

CAI

Consumer Awareness Institute

Non-profit Corporation

NOTE: This web site can save you much time, money, and grief, as it has done for many others. And since law enforcement has essentially looked the other way on this type of consumer abuse, it is left to informed consumers to inform and warn their friends and relatives about the potential losses they could suffer from participation in a “recruiting MLM.” So please print and distribute at least 5 copies of the answer cards to those you care about – and ask each of them to share answer cards with 5 people, and each of them with 5 more, etc., etc.  . . .  In this way, you can influence many people for good – through an endless chain of truth-telling.  Click here to see these handy answer cards (4 to choose from) that you can print and distribute now –  as well as carry with you for those awkward moments when you are recruited by a well-meaning friend or relative. For more information, click on the appropriate links above.