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What is a pyramid scheme?

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Do you remember the invitations you have received to join a multilevel marketing company? What thoughts did you have when you evaluated if the opportunity as a pyramid scheme vs a legitimate direct selling company?

Unfortunately, there is not a clear universal definition of a pyramid. Instead there are general guidelines that are accepted by the industry and industry organizations such as the Direct Selling Association.

The FTC is the governmental organization in the United States that is set up as the watchdog of many industries, including direct sales. However, the FTC does not have a clear definition.

Recently the NY Times published an article about the FTC court case against Vemma titled “The Pyramid Scheme Problem“(1). A reporter named Joe Nocera asked the FTC in a news conference to define a pyramid scheme and the FTC refused to answer. My first thought when I read this was: why would the FTC respond and sabotage their own case against the Arizona based corporation Vemma? They could have referred Nocera to many guidelines on their own website as to how to not be labeled a pyramid scheme.

Mr. Nocera references similar cases such as those the FTC brought against Herbalife, Amway, and Burnlounge. It is clear that this reporter is looking for three things: a clear definition of a pyramid scheme, a realistic picture of what the FTC means to accomplish to improve the industry and business in general, and to answer the question: should the FTC be blamed for the situations they fight against since laws and defining statutes are unclear.

The reporter for the NY Times also identifies a Mr. Bill Ackman, cited in a recent fortune.com article, “The siege of Herbalife”(2), as one who is singlehandedly trying to take down Herbalife as a pyramid scheme.2 (Parloff, 2015) It is reported in this article that “Ackman presented a ‘public short’ the likes of which no one had ever seen before. A public short is a risky, fairly rare phenomenon in which an investor not only bets on a stock to go down—known as shortselling—but publicly announces that he has done so, explaining why.”

In a world of legal chaos, the consumer must rely on organizations such as the Direct Selling Association and their definitions of pyramid schemes. The DSA published several definitions of a pyramid (3). Some of their key identifying features of pyramid schemes include:

• Promise large earnings with little effort.

• Promise that one can earn a substantial income merely for recruiting people into the operation.

• May or may not have a “product” to sell, but if they do, it generally has little or no actual value.

• Convince people to buy large amounts of inventory which they cannot easily sell to others and which is not returnable (this is called “inventory loading”).

• Charge large upfront fees to get involved, either as a direct payment or in the form of an obligatory payment for “products”.

• Pressure to sign up immediately by way of suggestion that the same opportunity will not be available later.

• Compensate primarily for recruiting activity (these payments for recruitment are called “headhunting fees”). Participants are convinced to pay to get involved with the promise of receiving “headhunting fees” when they recruit others.

With the recent FTC allegations of Vemma being a pyramid scheme, there will be many discussions online and within various companies about the true definition. In general, the best practice until an official definition is legally enforced is for companies and distributors to err on the side of caution. Focusing on product sales is smart for distributors and companies alike. New compensation plans may feature heavier sales commissions and lighter business building requirements.

1. Nytimes.com,. (2015). The Pyramid Scheme Problem . Retrieved 21 September 2015, from http://www.nytimes.com/2015/09/15/opinion/joenocerathepyramidschemeproblem.html?partner=rss&emc=rss&_r=1

2. Parloff, R. (2015). The siege of Herbalife . Fortune . Retrieved 21 September 2015, from http://fortune.com/2015/09/09/thesiegeofherbalife/

3. Dsa.org,. (2015). Retrieved 21 September 2015, from http://www.dsa.org/docs/defaultsource/directsellingfacts/legitimatecompanies.pdf?sfvrsn=2

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