The nature and evolution of pyramid schemes: Why some Multilevel Marketing companies are scams

Pyramid schemes are a business model where the top-level members (first members) recruit newer members, who pay upfront costs up the chain to those who enrolled them. Pyramid schemes are often confused with Ponzi schemes. Both schemes involve financial/commercial crimes; however, they diverge in the sense that pyramid schemes are based on network marketing and Ponzi schemes are based on the passing of money from new investors to pay off the older investors. The key difference here is that, in a pyramid scheme, ideally, each part of the pyramid benefits somehow, whilst forwarding the money to the top of the pyramid. A Ponzi scheme is basically commonplace theft with an element of shifting funds around in an attempt to maintain and to lure people into the scheme. Essentially, the model relies on the notion of paying people with other people’s money, disguised as a return on investment.

As time goes by and technology changes our lives, so do the nature of operations of pyramid schemes. A large number of pyramid schemes today run successfully in the form of Multi-level Marketing companies (MLMs). Market-level Marketing companies operate on a system of selling goods or services through a network of distributors. MLMs operate mainly through recruitment. Pyramid schemes disguised as MLMs are easily identifiable through two characteristics:

1. Consumers do not get the goods or services of the MLMs through the normal conventional stores, but through distributors; and
2. Those distributors are actively seeking to recruit new members.

In this MLM model, the distributors can make money in two ways; namely,

(1) through the sale of those products or services and, (2) through the recruitment of new members into the network.

The difference between legitimate MLMs and Pyramid schemes is that, if an MLM distributor makes money from the sale of products to external people, then that MLM might be legit. If, however, the sales or money that is being made by the distributors is based on the number of people you recruit and your sales to them, that MLM is probably a pyramid scheme.

Essentially, if you are making your money from people outside the company then it might be legit; but, if the opposite is true, you might be involved in a pyramid scheme.

There are a few common telltale signs that a company or entity might be a pyramid scheme:

1. There is a promise that you, as a distributor, will be making large sums of money in a short period of time
2. The company requires you to buy into the company in order to be a part of it (purchasing startup kits, etc.)
3. There is a strong emphasis on recruitment
4. The business model lacks outside/external retail sales
5. Convoluted commission structure

One of the major hurdles of “companies” that structure their compensation program to incentivize the recruitment of other distributors who will buy into the company rather than retail sales…

…is that, at some point, the pyramid will collapse due to running out people to recruit. For example, if person X lives in a country or space with 78 000 people and she/he start the pyramid and she/he recruits 5 people, and those 5 people are meant to recruit an additional 5 and so on and so on. This model is unsustainable due to the fact that on the 8th level/cycle of the pyramid the population size would have been exceeded, and this example is based on the assumption that the entire population would be interested in buying into the pyramid.

This “business model” is unsustainable and the people who join the pyramid in the later cycles are more likely to lose money than to make a profit, whilst the people who joined the pyramid in the earlier stage are the ones who make money.

In conclusion, pyramid schemes are scams, and before you join an MLM make sure that it is a legitimate business and not pyramid scheme disguised as one.