Is Multi-Level Marketing Worth the Risks?

Referral marketing

We all know someone (and maybe you’re that someone) that is a member of a multi-level marketing (MLM) business. Sometimes referred to as “network marketing”, “referral marketing”, or “direct sales” these companies have names most of us are familiar with: Avon, Jamberry, Scentsy, DoTerra, Shakeology and frankly too many more to name here.

A reader Amanda was approached by a friend who is a member of an MLM to join her team as a way to bring in additional income for her family. She asked us what kind of risk and reward was involved if she did join her friend’s MLM team.

We reached out to Dr. Stacie Bosley, Assistant Professor of Economics at Hamline University in Minnesota to help answer Amanda’s question. Dr. Bosley has studied MLMs during her academic career and has testified in court about their practices. She’s also a mother of three and like most of us has many good friends that are involved in multi-level marketing.

In this post we’re not going to discuss the specific company our reader was asked to join, or evaluate the validity of the more popular ones. We’ll discuss the industry as a whole and how readers can evaluate these companies for themselves.

A reader, like a lot of people, has seen the phrases “multi-level marketing” and “pyramid scheme” used interchangeably. Can you explain the difference between them?
Many of my colleagues feel that multi-level marketing and pyramid schemes are the same thing, that they’re equally fraudulent and illegal; I’m not one of those people, but I do take a skeptical view of multi-level marketing given the high amount of fraud in the industry.

They’re similar in the sense that the more people you enroll in the company, sometimes called “building your team,” the more money you make. The goal is to have a large team beneath you so you can take a larger percentage of the sales.

They differ in that in a pyramid scheme, there often isn’t an actual product to sell or if there is, the retail sales of the product are not a majority of the company’s income or the member’s business-related activities. Here is what’s at the center of the legal question: what amount of actual retail sales is based actual consumer demand as opposed to sales made to people within the organization. Many of the companies currently being prosecuted do have a product they’re selling. Pyramid schemes have gotten much smarter about hiding in plain sight.

Many pyramid schemes masquerade themselves as MLMs, which makes for treacherous ground. Pyramid schemes are illegal, they are a form of fraud, and if you get caught up in one, you may also face legal action, so it’s important for people to carefully evaluate a company before joining.

How can someone tell if a company is actually multi-level marketing or if it’s a pyramid scheme?
I tell people to look at several factors, because these companies can be difficult, but there are warning signs that a company may not be what it seems to be.

If you’re thinking of joining one of these companies look for the emphasis placed on sales versus recruitment, which they sometimes call “team building.” If it looks like you’re going to spend a significant amount of your time on recruiting others, that’s a big warning sign. An over-emphasis on recruitment tells you that the company is not focused on retail sales of an actual product, and more on bringing new people into the scheme.

I would be concerned if the company has introductory fees, requires you to buy a starter kit and/or marketing materials, or meet certain sales targets before you start earning. There is a certain amount of product that can be reasonable for a member to buy in order to promote their business or demonstrate to potential customers, but the concern is when those products are counted within the company as retail sales and not as overhead.

I would run the other way if the company avoids discussing hard sales numbers and percentages and instead focuses on the lifestyle the enterprise can bring. Do their recruitment materials focus on vacations, cars, large homes and the kind of life they want you to think you can have if you join.  This can also be tricky as sometimes the recruiting materials will focus on things that appeal to your sense of identity like “owning your own small business” or “financial independence,” which seem like they’re business related. But if they’re not focusing on markets, revenue streams, dollars and units you need to sell, that’s a big red flag.

What are some of the questions someone should ask before joining an MLM business?
I would first start by evaluating your reasons for joining. If you feel pressured by a friend to join their team, that’s probably a sign that your friend is facing significant pressure to recruit, and that’s a warning sign. If you need to earn money quickly, then an MLM likely isn’t for you, as more often than not people lose money when they join. Additionally I would treat an MLM venture like any other business proposition. You need to do your research, know your market, who your competition is and what their sales are like.

If after all that you’ve decided to join, I would ask the company and the person whose team your joining the following questions. If the person or the company can’t or won’t answer I would take that as a warning sign that things aren’t on the up and up.

  • How much of the company’s sales are made to buyers who are outside the company?
  • Can I see income information for past distributors? (evaluate this carefully – you are likely to see that the vast majority lose money, especially after factoring in expenses).
  • What are the typical monthly expenses?
  • How much time do distributors usually spend on selling versus recruiting new team members?
  • Are there any other sellers in my same city/town/neighborhood?
  • Will I be able to earn from sales, even if I don’t maintain a certain purchase level each month?
  • Have there been any legal issues with this company in the past (or present)?
  • What happens if I change my mind? Can I return product and under what conditions?

If someone has looked for the warning signs and has decided they feel the company is legitimate, what are the risks and benefits for those entering into an MLM?
As I mentioned before, many of my colleagues don’t think any of these companies are legitimate, while I’m not in that camp, I think it’s important that people know that perspective exists. These companies operate on a spectrum, there are good ones and then there are truly fraudulent ones. It’s also really difficult for people to truly know if the company they’re joining is legitimate because they don’t make the information people need to evaluate them public, or they miscount their retail sales which can be misleading. Not all companies do this, but many do.

People need to know that joining one of these companies is more often than not a losing proposition for a number of reasons. The products that distributors (what you’re called when you sell a product in a multi-level marketing structure) sell are competing with larger companies in both the online and brick and mortar marketplace. There’s also a barrier in the sense that the customer can’t do business with you on their schedule, they have to wait until the distributor is available to place an order, or until there’s a “party,” and then they have to wait for the product to arrive. So there are some major barriers there.

Additionally distributors often recruit people in their own social networks, so now you have two of you trying to sell the same thing to the same group of people, cannibalizing your market.

In addition to the financial risk, you need to evaluate the social risks you’re taking. If you are aggressive with your selling you may lose friends, or lose the kind of relationship that you have with them. You need to be really respectful of your friends, family and community and the relationships that you have with them. Your friends and family should not be your primary source of revenue, if they are that market will dry up very quickly.

That’s not to say that it’s impossible to make money in these organizations. Some people can and have, but they’re not typical. Again, the vast majority of people lose money when joining. If you decide to join you need to go into it with your eyes wide open to the risks, both economic and social.

A few years ago I was approached by a colleague to join a MLM business and part of the pitch was that the only way to lose money was to not follow the “formula for success” laid out by the company. Are people who lose money simply not following the company’s instructions properly?
That’s a really common claim made by MLMs and I hate it because it places the guilt on the distributor not the company, which isn’t fair or accurate. Think about it in term of franchises; not just anyone can open a McDonald’s or a Dunkin Donuts wherever they want. The corporate office does a significant amount of market research ahead of time to ensure that a franchise will be successful before it opens. In the case of an MLM it’s the reverse: the distributor takes on the risk associated with selling in a particular market, not the corporation.

People who join an MLM and realize that they’re losing money or they’re making very little profit shouldn’t blame themselves. The compensation structure in most MLMs stack the odds against the individual distributor, and the markets they’re selling in are often saturated.

I’ve seen a number of MLM websites claim that all businesses, especially those that involve sales commissions like cars and furniture, could be called pyramid schemes. They base this on the fact that there’s usually a manager who oversees several other employees and the manager makes more than their staff. Is there any validity to this claim?
No. Almost all businesses with more than a few employees have a hierarchy and having a hierarchy is not the same as multi-level marketing or a pyramid scheme.

In traditional sales environments the person closest to the sale makes the most commission off that sale. So if the commission on the sale of a car is 25%, the person who sold the car likely makes 20% of the commission, the manager may make 3% with the owner taking 2%. In a multi-level marketing company or a pyramid scheme that formula is flipped: the closer you are to the sale the less commission you make.

Inverting that structure removes the emphasis from selling the product and puts it towards recruiting more people into the company. So you don’t make more money by selling more product, you make more money by recruiting more people in order to move you higher up the ladder and closer to those bigger commissions.

So if someone has already joined one of these companies and realizes that it’s not working out for them, what options do they have available to get out?
Some of the better MLMs have return policies for distributors, allowing them to sell back any of their unused product or marketing materials. Others don’t and in that case you may have to simply cut your losses.

What we don’t want people to do is think, “I’ve already invested so much money, I need to stick with it.” That’s a really good way to lose more money. Many of these companies use lines like, “the only way to lose is to quit,” and that just guilts people into sinking more money into a losing proposition. Sometimes they try to get you to stay by telling you that if you went to a convention you would learn how to sell properly or if you bought a certain marketing package you would increase your sales, but people find themselves out the money and don’t see an improvement in sales.

So long as you don’t believe the company is fraudulent you can always stay in, but be extremely conservative about investing any more money and run it really tightly.

I think for many parents joining an MLM can appeal on a few levels. They can bring in additional income without childcare costs, and it’s also a way to socialize and be a part of a team that’s not related to child rearing. Are there other ways for them to accomplish this without the risk of financial and social losses associated with MLMs?
If the risk is too high, you may need to examine your motivations. If it’s solely financial, then maybe looking into part time work outside the home would be the safer option. Childcare is expensive but there may be ways to mitigate the cost by sharing a sitter with a friend or asking family to pitch-in, but I know this isn’t an option for many.

I have three kids myself, so I totally understand the financial pressures families are under. While I don’t have good answers to this question, I do know that if the risk of financial loss involved with MLMs is too great for your family it’s best to play it safe.

When my kids were very little it was incredibly isolating for me. I loved that time with them but getting out of the house was so hard and sometimes I felt guilty for taking time for myself. If the appeal of joining an MLM is social there may be other ways to connect with friends without taking the financial risk. A little while ago I went to an MLM party thrown by a friend who just had a baby. I gave her a big hug and told her I hadn’t seen her in so long and I wondered why it took an MLM party to get us together. We could have met for coffee and talked, we didn’t need a financial transaction to get us together.

You’ve brought up the social risks of MLMs a few times, and this is something that speaks to me. Like you I have good friends that I want to support, but it’s that commodification of our friendship that makes me uncomfortable. I often feel pressured to purchase a product I don’t need or want at the time when I just want to connect with them as a friend.
I think a lot of people feel that way. It can actually be really hurtful when we think that our relationship with our friends and family depends on our willingness or ability to buy something they’re selling.

A few weeks ago I read an article in Christianity Today that addressed the issue of parishioners selling MLM products in the church. They talked about the conflict this is posing where parishioners are exerting pressure on others within the church to buy their products. They basically said that it needed to be kept like any other parishioner’s job or business: in the background. If a parishioner wanted to buy an MLM product from another parishioner that was OK, but the marketing and pressure sales weren’t allowed. I think that’s a good way to treat it.

The way many MLMs tell distributors to market crosses the boundaries of friendship, family and community. They frame marketing the product as an act of sharing and it’s not. Multi-level marketing is a business; it is a profit-making endeavor and it needs to stay in those boundaries.

All of us want to be successful in the various aspects of our lives, so if a friend puts us off or refuses to buy an MLM product that we’re selling it can feel like they’re rooting against us when they’re not. Maybe they don’t need what you’re selling, maybe they tried it before and didn’t like it, maybe they’re going through a difficult financial time. There are a lot of reasons why someone wouldn’t buy a product but when you’re selling to a friend it can feel personal.

It takes an incredible amount of self-awareness and respect for your friends and family to be able to do MLM successfully. That’s why it’s a losing proposition for you both financially and socially if your market is your social network.

Editor’s Note: The United States Federal Trade Commission (FTC) and the Competition Bureau of Canada have more information about the risks and rewards associated with multi-level marketing businesses.