MLM stands for multi-level marketing. This means that a portion of profits that you make are given to the person who got you into the program. A portion of that profit goes to the person who got that person into the group. Money trickles up, and the more people you have brought on board, the more you stand to make. Whether it represents a legitimate investment depends on its emphasis and your strategy within the company.

How They Work

An MLM is, in part, direct marketing through representatives rather than through retail stores. However, as an incentive for sales, commissions are shared through levels of recruits. The way MLM’s are structured, the people under you are sharing and those under them are sharing, and on and on it goes. So the further down the line goes the more people you have under you. In most companies, you make the most money for the people enrolled right under you, and then it gets less and less as you go further down your lines. Recruiting is important. However, the potential for new recruits is often limited, especially in saturated markets.

Pyramid Schemes Are Illegal

“[T]he organization is deemed a pyramid scheme if the participants obtain their monetary benefits primarily from recruitment rather than the sale of goods and services to consumers.”
– Dr. Peter J. Vander Nat, Senior Economist at the FTC

Pyramid schemes are illegal because the only gain is through buy-ins from new recruits. Someone is always left holding the bag. A pyramid based on an additional tier of 5 new recruits for each existing member would only allow for 14 tiers. At that point, the pyramid population would exceed the entire world.

At whatever size, the structure of a pyramid outlined by the FTC always leaves 89% of participants in the bottom two tiers. More than half the profits go to the company. The second tier never breaks even, and the bottom tier receives nothing.

An MLM based on income from “downline” recruits is essentially a pyramid scheme.

Due Diligence

The primary difference in investor success is a product that sells well. In this case, an MLM provides for an entrepreneurial retail business built on sales and marketing effort rather than recruiting. There are instances where the incentive for rapid gain has been exploited and emphasis placed on commissions rather than sales.

The FTC advises a high level of research before engaging. Find out whether pay-outs to participants are higher than the buy-in amounts. It’s worth looking at drop-out rates, too. FTC reports indicate that most cases result in a net loss for investors with a drop-out rate of more than 99%.

An MLM can be a legitimate investment, but its profitability depends on sales rather than recruitment. If you find a product that sells and do your research on employee satisfaction and company longevity, there are important exceptions to this.


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