Tuesday, September 6, 2011

What separates a legitimate MLM from an illegal pseudo-MLM scam?


How to distinguish a Legitimate MLM from a Fake: 5 simple differences you need to know, examples of cycle, matrix, club

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Fake MLM have Token Products Sold Primarily to Members

Introduction

People are always looking for additional income, and with thousands of new companies being formed, and plenty of recruiters out there looking for new blood, it is difficult to separate the wheat from the chaff. Modern pyramid schemes are done with slick presentations, professional looking websites, but the tactics are still the same: promise you a lot... but you need to pay THEM first.
Here are 5 tests that will separate legitimate MLMs and fake MLMs:
  • What is sold to consumers?
  • How does the company itself profit?
  • How does the distributors get rewarded?
  • How does the distributors get promoted?
  • What are the rules of the company for acceptable behavior?
Please keep in mind that even if the company is legitimate, it does NOT guarantee that you will profit from it. Studies have repeated shown, based on data released by MLM companies themselves, that OVER 99% of all MLM participants LOST MONEY, and we are talking about legitimate MLMs!
If you still wish to evaluate MLM as a potential source of income, you should at least make sure you don't end up with a scam, which may subject you to criminal prosecution, not to mention endless ridicule from your friends and family.

Factor 1: What is being sold to consumers?

Every business sells something, be it physical products, virtual products, or just a service. Bookstores sell books. Supermarket sells food and everything else. What does this alleged opportunity sell? And who do they sell it to?
Fake MLMs have token product(s) to appear legitimate, but either they are not sold to non-members, or you don't need to sell any at all to make money. Such products are only available to members. Discount "club" memberships and vouchers are prime examples of "token" products. Some even give away "free coupons".
As the associates / members are not selling any products or services, they are essentially recruiters recruiting more recruiters. That makes the whole setup a pyramid scheme.

Legitimate MLM Have Real Products or Services for Consumers to Buy

Amway have vitamins and household items. Avon and Mary Kay and Nu Skin have cosmetics. ACN have phones and telecommunication services. The point is: they all sell something, be it physical products or intangible services.
The associates / members are marketers and distributors of the products or services to the consumers (non-members). In other words, the associates are the sales / marketing department of the company.  Or think of it another way, if you ignore the multi-level aspect of the company, the company is still a traditional "buy low sell high" business. 
Example: Speak Asia, an alleged survey company that encourages its members to recruit other members and rewards the members for doing so, has no product or service being sold to consumers. Its only product is a very expensive online newsletter (about $20 USD a MONTH) that members receive. Nothing is sold to outside consumers.
NOTE 1: Even if the opportunity have real products or services, it may still be considered a pyramid scheme, because the products can be substituting for money being moved. Often, the upline sold their inventory to the newly recruited downline, and claim that as "sales", and the cycle repeats when new downlines are recruited.

Factor 2: How does the company make its money?

Legitimate companies sell things at a profit. The old adage "Buy low, sell high" is still true. They either make stuff, or they modify stuff, and so on, but at the end, they sell stuff at a price higher than they put in, and thus, earn the profit. Not even MLM companies can escape from this fundamental truth.
So how does your "opportunity" make its money? Not how you make money, but how THEY make money? What do THEY get out of it?

Fake MLM Profit from new Membership Dues

Fake MLM profit by recruiting people, i.e. selling memberships, and encourage the new members to recruit even more members. Little or no product need to be sold.
Fake MLM profit from the membership dues of all the incoming members. Without new members, the fake MLM cannot operate, as it has virtually no other source of income. 

Legitimate MLM Profit from Selling Service or Products

Legitimate MLM makes money by selling the products (or services) it was able to create / provide to the sales teams at a profit.The sales team then resells them to consumers at a markup, thus earning their own profit to cover the costs of marketing and perhaps, training new recruits.
In other words, the company itself still makes things for sale, either product or service. It must sell things to make money. The only thing different is how it gets the product into people's hands.
EXAMPLE 1: Nutritional / nutraceutical products, such as vitamin and other supplements, actually cost very little to make, despite all the claim of rare ingredients, high purity, proprietary refinement process, and so on. Most of the cost is in the marketing. That's how Amway can afford to let you sell the vitamins and other supplements for less, because it costs them very little to actually make them. They can sell them to you for a profit, so you can sell them for a profit as well.
EXAMPLE 2: Travel club MLM have no logical profit model. If you treat travel as the product members need to sell to others to profit, then there must be HUGE profit margin in travel in order to allow the company to provide them to you, so you can resell them to consumers. However, that is not the case. Airline industry worldwide is expecting profit in 2011 of merely 0.7%. That's right, UNDER ONE PERCENT. Hotels are not doing much better. Thus, it makes no logical sense to be reselling travel, or claim huge profits from reselling travel. Indeed, most of these "travel clubs" do NOT sell to consumers, and is actually a cycler that relies on new recruits to "profit".
NOTE 2: Find out the growth of the company, both overall sales, and number of "distributors" it has. Ideally, average sales per distributor should be growing. If it is shrinking, you have a glut of distributors.

Factor 3: What sort of people are rewarded?

Look through this opportunity's compensation plan, and compare it to the answer above: how does IT make its money? The compensation plan for its associates should encourage the associates to do more of what makes the company profitable. 

Fake MLM Rewards Top Recruiters

A fake MLM would have minimal sales, and all emphasis are on recruiting even more people for their membership dues. This is often formalized in some sort of a "matrix" scheme, where you will reap some rewards when you 'cycle out' (i.e. filled the pyramid with recruits). However, there can be additional "profit sharing" or "incentives" for the top recruiters. 
Any sort of profit sharing are for the people who bring in the most recruits. The end result is more recruits, not necessarily more sales. 

Legitimate MLM Rewards Leaders with profit sharing

Legitimate MLM, in order to have a minimal sales department with the sales teams and supervisors and trainers, have tasked their associates to find better sales people, train them, and supervise them. In return for doing all that, the company rewards the associates with a bit of the profit from the new sales people that were recruited. Thus, the existing associates are encouraged to help the new recruits to be better salespeople, in order to maximize the profit being shared.
The end goal is more products being sold, not necessarily more recruits. 
Study the compensation plan carefully. How does a distributor get paid? What is sold and what is the profit margin and the bonus?
If you see an alleged MLM that actually stated in its FAQ "you do not need to sell any products", or even worse, claims that you have to sell things, but don't even tell you what they are, but you do have to recruit people, and you are paid when you 'cycle out' of a board (i.e. fill a matrix / pyramid / panel / whatever ), then you are in a pyramid scheme.
Getting paid is NOT a proof of legitimacy. In a cycler, only a small fraction of people are paid... the people on the very top. The rest of the people can only recruit more morons to make them rise to the top.
NOTE 3: All figures of profit sharing should be available for inspection. If a company does not publish its books, be extremely suspicious. Some fake MLMs are fond of making unsubstantiated claims such as "we pay out 72% of every dollar".

Factor 4: What sort of people are promoted?

All multi-level marketing companies have different "levels" for its associates. The title varies, and often have fancy names like bronze, silver, gold, platinum, diamond, presidential, and so on. So what is the criteria for the "promotion", and what do you get for the promotion? 

Fake MLM promotes associates based on recruiting results

Fake MLM wants recruits, so all "promotion" is based on how many people were recruited. This can be disguised by stating the promotion criteria as "cycling out multiple times". As you can only cycle out by filling the board with recruits, if you cycle out many times, you clearly have recruited many more people than someone who cycled out only once. Thus, the best recruiters are given incentives to recruit even more. 

Legitimate MLM promotes associates based on sales results

Legitimate MLM gives higher levels to associates by what the associate and his/her sales "team" (downlines, up to X levels) sold. The more your downlines sold, the higher your rank, and often, the more profit you will share from the sales of the team.
Each company has a different compensation plan, but the essence is the same: the more you sell and your team sell, the higher the profit share you will receive from the sales proceeds. 
Study the compensation plan carefully on how the associates / distributors are promoted, and how they benefit from the promotion.
EXAMPLE 1: Amway promotes based on sales, and consistent sales of certain criteria (meeting sales criteria for multiple months). The promotions entitles the member to qualify for higher bonuses, up to 21%, in addition to retail profit, for up to 55% profit based on sales of his/her team. (HOWEVER, please keep in mind that this is "raw" profit. You are interested in "net" profit, after all expenses, including training, marketing, advertising, and so on, have been counted)
EXAMPLE 2: Fake MLM "Fortuna Alliance" was shut down by FTC in 1996, involving MILLIONS of dollars. They promised monthly investment of $250 a month will yield return of over $5000 a month... if you help it recruit lots and lots of people doing the same. Promotion is simply based on recruiting more people, not by selling any products or services.

Factor 5: What sort of rules does this opportunity have?

Does this opportunity have a clear definition of how you are supposed to work for the company? Does it have a formal agreement / contract in which you agree to do this and they agree to do that, so on and so forth? Does the company have a clear "code of conduct" or "rules of ethics" and such that clearly defines its responsibilities and overall goal and values, and what it expects from its "distributors"? 

Fake MLMs Don't Bother With DSA or Rules of Ethics

Fake MLMs never join any sort of Direct Selling Industry organizations such as the DSA because they are not interested in true legitimacy, and they don't want to be tied down by ethics and such. They may not even have a rules of ethics.

Legitimate MLM Belongs to DSA and have Ethical Rules

Legitimate MLM would join an industry advocacy and watchdog group such as Direct Selling Association (DSA) and/or one of its country-specific chapters and pledge to follow a common "code of ethics" as defined by DSA both to protect the industry and the people who join. 
EXAMPLE 1: Amway Rules of Conduct is published for all to see on their website. It spells out very plainly what are the responsibilities of each party, and what rules are to be obeyed. It also explains what are you to do in case of dispute, and what penalties are you to suffer should you break the rules.
A fake MLM would have NONE of these. They don't care about the rules or the law. They just want recruits to feed more money into the system.

Conclusion

While these 5 differences should allow you to distinguish a legitimate MLM from a fake MLM (i.e. pyramid scheme in disguise), they do not tell you if the MLM opportunity will be good for you. A MLM can be perfectly legitimate, yet be completely unprofitable for any of the associates except the lucky few who joined very early. Still, they are useful as one of the factors you use to evaluate the various opportunities you encounter.
However, the simplest definition of a pyramid scheme is still the one found on Amway's website:
  1. a large, required initial investment or purchase of inventory
  2. direct payment for recruiting additional persons into the scheme
  3. heavy emphasis on recruiting additional persons, with little or no emphasis on selling products to consumers.
1) The threshold seem to be $250. Many fake MLMs fixed the price at $250 USD.
2) This can be disguised as "cycling a matrix", by making the payout at only certain intervals of recruiting, like instead of getting paid $20 per person, you're paid $250 when you fill a matrix / pyramid of 15 people.
3) This can be disguised as a "club" by claiming that you are SELLING a membership (as a product or service), but in reality you are recruiting.
I hope you have learned how to spot fake MLMs and thus avoid them.
Be careful out there.

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9 comments:

Shyam Sundar said...

There is nothing like legitimate MLM. You know what is mathematical impossibility. The Supreme Court of India rightly pointed out that cheating case under Section 420 of IPC should be filed against the companies which induce people into such schemes since they know well that such schemes are unworkable. You keep on enrolling people and the chain would break soon. That is what is called mathematical impossibility. Then HOW could there be legitimate MLM.

Shyam Sundar said...

Is there something like legitimate MLM?

Kasey Chang said...

Dear Shyam,

Two points to make.

First of all, there is a difference, at least in the US, between a MLM and pyramid scheme. I understand the difference is purely "technical" and almost window dressing, nonetheless the difference exists, and this blog post, which was a repost of another article that has been unpublished elsewhere, was meant to say.

Second, I have a different article that discusses the fundamental fraudulent nature of MLM, with its five fatal flaws. I'll refer you to it:

http://kschang.hubpages.com/hub/Networking-Marketing-is-doomed-to-failure-its-all-about-the-dream-not-reality

For those who cannot be dissuaded from MLM, it is best that they at least pick a somewhat legitimate (or as Mr. Brear put it, not yet declared illegal) MLM, instead of an outright scam.

And that was all I meant.

--KC

Shyam Sundar said...

I beg to differ. There is nothing like legitimate MLM anywhere because of the mathematical impossibility and because there is nothing like infinite chain. It seems you are confused and you are confusing everyone with your skewed arguments.

Tex said...

Shyam is a dirtbag. He bans you from his blog, yet posts on yours. What a pure wussy. LOL


Shyam "The Dirtbag" Sundar also keeps talkin about Supreme Court of India this, Indian Police that, but Amway is STILL in India. LOL

There is legitimate MLM, and Amway India is a good example, as India has banned the Amway Tool Scam, which should be included in the list of issues.

Kasey Chang said...

Shyam,

Then you clearly did not read the introduction:

"Please keep in mind that even if the company is legitimate, it does NOT guarantee that you will profit from it. Studies have repeated shown, based on data released by MLM companies themselves, that OVER 99% of all MLM participants LOST MONEY, and we are talking about legitimate MLMs!
If you still wish to evaluate MLM as a potential source of income, you should at least make sure you don't end up with a scam, which may subject you to criminal prosecution, not to mention endless ridicule from your friends and family."

You are welcome to "ban" me from your blog. It is, after all, your blog, but please don't misrepresent what this article actually says. It does NOT justify Amway or any other MLM.

--KC

Kasey Chang said...

Shyam's knee-jerk reaction can be best illustrated by a theoretical exchange between an anti-smoker and another anti-smoker:

A: Cigarettes are bad for you and they also cause disease A, B, and C!

B: Cigarettes are bad yes, but you can't really say they cause B... There's not enough proof of that...

A: How dare you justify cigarette's legitimacy! You must be the enemy!

B: Now wait a minute... I did no such thing!

A: You are justifying cigarettes to the gullible people who don't know otherwise!

B: I surely did not!

A: I don't want to see your face here ever again!

Yes, I was using a lot of sarcasm here.

IBOFB said...

Kasey, the "99% lost money study" by is bogus. I recommend reading Len Clement's Anti-MLM Zealots articles for good background on FitzPatrick, Taylor et.a.

Kasey Chang said...

Actually, IBOFB, the article didn't discredit the 99% study. It discredit everything ELSE, at least in part. However, some of the logic is a little thin on both sides.

I see where Fitzpatrick and others come from. I don't agree with them all the way.