A close look at MLM

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<TABLE cellSpacing=0 cellPadding=0 width=452 border=0><TBODY><TR><TD vAlign=top width=452 colSpan=2>Published April 4, 2009

</TD></TR><TR><TD vAlign=top width=452 colSpan=2>A close look at MLM
Do the salespeople make any money? When does it become a pyramid scheme? By Genevieve Cua

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AT THIS time of economic hardship when some are losing their jobs, you're likely to see a proliferation of friendly multi-level marketers, hawking products from skincare, vitamins and even IT services. MLM, after all, is typically positioned as a means to be your own boss and generate an income stream you can even pass to your children.

<TABLE class=picBoxL cellSpacing=2 width=100 align=left><TBODY><TR><TD></TD></TR><TR class=caption><TD></TD></TR></TBODY></TABLE>But when does MLM activity transform into the dreaded and unsavoury pyramid scheme? Does a typical MLM salesperson actually make money after expenses?
US-based consumer advocate Robert FitzPatrick, president of Pyramid Scheme Alert, last year published a study 'The Myth of Income Opportunity in Multi-level Marketing', in which he delved into the data of 10 prominent brands, some of which are marketed in Singapore. They include Amway, Herbalife, Usana, Nu Skin and Reliv. The study is available at www.pyramidschemealert.org for a fee.
His findings were uniformly bleak. The study found that 99 per cent of all sales representatives among the companies analysed earned on average less than US$14 a week in commission income. This represented a 'significant financial loss' for almost all of them. Furthermore, the loss rate was understated as it was calculated before business expenses, inventory purchases and taxes. In addition, on average, no net income was earned by MLM distributors from door to door 'retail' sales.
Based on Mr FtizPatrick's research, which he says has not been specifically repudiated or challenged by the companies, all of them experience a churn rate of at least 60 per cent. 'The income opportunities presented by all the companies are essentially non-existent and are falsely promoted,' according to him. And in total, the recruitment programmes of the companies studied resulted in billions of dollars of consumer losses - transferred to less than one per cent of the participants at the top of the sales chains as 'commissions'.
The huge consumer losses are due to the business models of the schemes, which include 'endless chain' or pyramid recruiting. Mr FitzPatrick's research is controversial - he is labelled an 'anti-MLM zealot' by some. Still, there appears to be no specific rebuttal of his analysis by the companies he studied - perhaps because this would have entailed further disclosure of numbers. Companies, for instance, do not disclose attrition rates or the number of their distributors, including inactive ones.
Some companies also maintain that distributors join the scheme mainly to consume the products and enjoy a discount. MLM products are typically costly, as there is a substantial mark-up to pay layers of commissions. Amway Singapore country manager Lee Boon Wang says the firm has about 30,000 distributors on its database, of whom 15-20 per cent are 'active business builders'. The balance join to get the products at 20-25 per cent discount.
Nu Skin in Singapore says it had more than 70,000 distributors at some point but today has 10,000-15,000 active ones. Based on 2008 numbers on health products group Usana's website, the average compensation of an 'active associate' (including Asia) is just short of US$900 a year or roughly US$75 a month. The upshot of all this is that if you are propositioned by an MLM rep, be sure to scrutinise the costs and volume requirements. And be wary of any pitch that says you can get rich quick or give up your day job. Singapore has regulations against multi-level marketing and pyramid schemes, and violations may subject participants to a fine of up to $200,000 and/or up to five years' jail.
An accompanying 'exclusion order' spells out eight conditions MLM firms must comply with to be considered permissible. Among them is a provision that forbids a compulsory payment or purchase to join the scheme. Also, salespeople must not be remunerated for recruitment. And there must be a 60-day refund guarantee on products. Critics say there are ways to get around the law. For instance, almost all MLM companies tout products and do not ostensibly pay their sales people for recruitment. Yet the only way to advance in the structure is to recruit more distributors or 'downlines'. You earn a commission from sales of your downlines.
In any case, the math behind any pyramid-like scheme is irrefutable. A scheme that allows endless recruitment will eventually exhaust itself. Those who get in last lose inordinately - and the greatest rewards go to those at the top.
A lawyer here who specialises in MLM says: 'From a legal standpoint, I review compensation plans and tell companies whether they are on the right side of the law. Many schemes are binary, or have two legs or more. To qualify for advancement to the next level, you must have maybe two or even five legs. Strictly speaking, this does fall foul of the requirements. 'The 2001 regulations say you cannot give a benefit from recruitment. The question is whether all such schemes are wrong, as 90 per cent of schemes are binary (compensation) plans.
'Lawmakers have their hearts in the right place, in the emphasis on the sale of a commodity or product and not giving a benefit for recruitment. But there is a grey area. To advance in the scheme, you need a sufficiently big group under you. Companies don't want the structure to be purely vertical, which is not sustainable. So you need 'X' number of legs and to be fairly active yourself.'



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In the wake of the prosecution of MLM company Sunshine Empire, which was investigated for running an alleged Ponzi-like scheme, officials of the Direct Selling Association and the Consumers Association of Singapore (Case) have proposed amendments to the legislation.
Case chief Seah Seng Choon said that year to date, Case has received 128 instances of feedback and enquiries on MLMs, compared with 68 last year and 36 in 2007. Most instances relate to companies' failure to honour the terms of agreements or verbal promises. 'There is a thin line between MLM on one hand and pyramid selling on the other,' said Mr Seah. 'Sometimes it is not clear whether the business being conducted is an investment, or an activity that comes under the definition of MLM or pyramid selling. 'We want the authorities to address the issue of businesses masquerading as MLM companies when in effect they are engaged in selling investment products.'
A business may have a product just to comply with the Act, but in essence rewards salespeople for recruitment 'indirectly', he points out. 'Under the disguise of MLM, 'employees' of these pyramid selling businesses are forced to purchase the products in bulk and sell them, and take responsibility for failure to sell the products. If this is the case, the business is in breach of the requirements (for a permissible MLM). Affected participants should report such business behaviour to the police for investigation.'
Jon Taylor, a US-based expert witness and consultant on product-based pyramid schemes, contends that laws in Singapore against MLMs are weak. The business model originated in the US, where laws arguably do not provide enough consumer protection. Most MLMs require a fairly modest sign-up fee, which makes them legally permissible. 'The hard-sell to buy products immediately follows,' according to Mr Taylor. 'Compensation is not directly for recruitment but indirectly through commissions paid on sales to participants, who buy products to participate in commissions. So this is a way to launder pyramid recruitment fees.' His research can be accessed at www.mlm-thetruth.com.

According to Mr FitzPatrick, the 'fraud' lies in companies enticing people to buy products and to pay fees, rather than telling them outright to build an endless chain of recruits. Singapore's law also eliminated the need for retail sales. 'If money is laundered through a product sale it is legal. This allows 'direct-selling pyramids' to operate,' says Mr FitzPatrick. 'The products' price includes the pyramid money - usually 40-60 per cent of the price. This is the money transfer part. Retail selling becomes irrelevant to the business. Any law that successfully regulates direct selling and prevents pyramids would either ban the endless chain pay plan, as China did, or would strictly regulate retail sales.' China issues direct selling licences but bans multi-level compensation schemes. [email protected]