Could a business be structured around Multi-level Marketing, yet still be ethical? [closed]

Question

Why is there a lot of controversy and claims that Multi-level Marketing (MLM) is unethical? I see it just as a business model. While the customers and clients, distributors or resellers of your business can be seen as a traditional business model from the outside, you could always use an MLM/binary model internally to manage the business process and your stakeholders. Just like users of a productive piece of software don't need to know the internal proprietary working algorithms to use the software.

EDIT: I know the commonly cited downside to MLM, as users have mentioned, concerns the sale of actual products vs. bogus products. While I agree with that assessment, I am wondering whether businesses could still adopt the MLM model, yet retain proper business ethics.

Answer 1

Why are there claims that MLMs are unethical?

Because they work much like a pyramid scheme. Members don't make money by selling product, but by recruiting others into the scheme who then recruit others who then recruit others etc until, hypothetically, someone is going to sell the product. Hypothetically. Practically, members buy a lot of product up front and are stuck with it.

If the person who makes you a "great business offer" has a garage full of expired packet soup or health supplements, consider whether the offer is really so good.

MLMs do not reveal that they are, in fact, pyramid schemes. Their business is fraud.* Fraud with a lot of fluff and "surefire methods", but still fraud.

The Federal Trade Commission (FTC) says that not all MLMs are pyramid schemes, but some are. Personally, I believe they are very cautious in this assessment. The State of Wisconsin Bureau of Consumer Protection cautions:

It’s best not to get involved in plans where the money you make is based primarily on the number of distributors you recruit and your sales to them, rather than on your sales to people outside the plan who intend to use the products.

There's also a Last Week Tonight episode on the topic.

Are there, or could there be, MLMs that are ethically sound?

Let's use the quote above as yardstick. If a member's income depends mainly on the number of new members s/he recruits instead of on the sales to non-members, then the MLM is a very bad deal for the member (as opposed to the person on top who concocted the thing). If a member's income depends mostly on outside sales, then we're not talking about an MLM. (But this is where the hairsplitting starts, as I said in my comment above.)

Not every bad deal is unethical, however. It becomes unethical as soon as it's not absolutely transparent, since then it's fraud (in a loose, "ethical" sense). But only fools sign up to an obvious bad deal, so I doubt that a fully ethical MLM would survive.**

_{* But what do I know, I'm not a lawyer.}

_{** In fact, MLMs try hard to obscure how bad the deal actually is. That's why they publish entire books with outrageous claims, perform the most bizarre sales shows, or even call their model an anti-pyramid scheme, dimaryp (not kidding). By the same token, a lottery is an ethical bad deal, because it's transparent (and since only fools can thus believe that gambling is great business, people gamble for fun, not for gain).}

Answer 2

Multi-Level Marketing is viewed as unethical for (generally) two reasons:

1. Many MLM's require you to 'buy in' at a certain amount, often paying some of that buy-in to the person who recruited you. For the worst examples, this turns into a pyramid scheme where the main value proposition isn't an underlying product, it is purely an opportunity to scam as many people as possible into giving you their money, with the expectation that they can do the same to others.

2. Even the 'most ethical' MLM's survive more or less on one basic principle: They expect a host of untrained [and therefore cheap] salespeople to be able to leverage their relationships / emotional connections to sell to friends & family. Even if the product is not worth the price being sold, some sales will still happen because these businesses emphasizes selling to people who already trust you. By leveraging that trust, an MLM can overcome flaws in a product.

Now, some companies use the 'local level sales' tactic to great success, and I wouldn't say they are all necessarily unethical. Some of the early entrants into this type of business are not the worst businesses around. For example, I have heard that part of Avon's initial success was that it was leveraging a 'stay at home mom' population that was underemployed, and for various reasons not looking for a full time job.

Keep in mind that there are some products that really do need a 1:1 explanation to be sold; sales is a legitimate profession that does provide real value by aligning those with needs with solutions to those needs. However, sales is also a very difficult profession, and a 'real' sales job should include training, support, and a base salary in addition to commissions. Of course many 'traditional' sales jobs already have bad reputations ("used car salesman" etc.), but with MLM, all those bad perceptions get multiplied by the fact that the sales people no longer even having any training, and the product is already suspect.

As pointed out by Bailey S below, this lack of training & decentralization of the sales team creates an additional ethical quandary: Who ensures that the sales tactics used by an individual in an MLM are ethical? Now in a standard corporate structure, claims made by an employee may be legally considered to be claims made by the entity. ie: if a salesperson for an auto dealer claims a car has 50k miles on it but it actually has 75k, then there may be a clear way to pursue the dealership legally for false advertising. But MLM 'dealers' are not employees, so pursuing the larger company for false claims may be tougher. This is a problem inherent in a decentralized sales environment.

How 'ethical' a particular MLM is therefore depends on: (a) its initial fee structure (where else do you need to pay your employer for a job?), and (b)how poorly it treats its salespeople in selling a product that may be bad/overpriced enough that they need to lie to their friends to sell it.

Answer 3

Is an MLM fundamentally unethical?

The way to make money in an MLM is to recruit other people to join the organization, who recruit others, etc. You then get a percentage of their sales. People at the bottom level make little or nothing. People at the higher levels are rewarded, not primarily for selling useful products, but for recruiting people.

I suppose this isn't fundamentally, inherently unethical. Large companies often have people whose full-time job is to recruit new employees. The whole business of employment agencies is to recruit people. There's nothing fundamentally wrong with someone having a job of recruiting new employees.

But I find the MLM system ethically shaky because it relies on this pyramid of recruiting. You aren't paid for each new person you recruit. You're paid for recruiting the person who recruited the person who recruited the person.

I suppose that a defender of MLMs could say that at an employment agency there is likely someone who is the boss. And the boss is paid for hiring the people who do the actual recruiting.

But still ... we expect a manager to actually ... manage. I respect someone who hires a bunch of people to run a company, and then does at least as much work as any of his employees. He may not actually be on the factory floor making widgets, but he's planning production schedules, ordering raw materials, creating marketing campaigns, doing accounting, whatever. If he just hires a bunch of people, and then flies off to his villa in Hawaii and lives off the efforts of the people doing the real work, we tend to see him as a parasite. (If he worked for decades to save his money and now he's investing in this business in his retirement, different story. Probably many scenarios, etc.) People at higher levels in MLMs normally do not provide any sort of management or do anything to help the people at lower levels. They just collect their cut of the sales.

I've been approached by -- a certain well known MLM, I won't say the name to avoid any libel accusations -- a few times in my life. And they regularly had this little sales pitch about how they were investigated by the justice department, but eventually the case was dismissed because it wasn't JUST a pyramid scheme, they did actually sell real products. Which seems an odd thing to brag about: We were accused of being a scam, but we showed that we are only partly a scam but are also partly legitimate, so you should want to join up! It was especially odd that they routinely brought this up themselves. I mean, if someone said, "Isn't your company a pyramid scheme?", I could see saying, "No, we were cleared of those charges." But why would you bring it up yourself? It would be like applying for a job and the first thing you say in the interview is, "I was charged with embezzling from my last employer but I won the case on a technicality."

Answer 4

Everyone has already addressed the problems with MLM, but I thought I would address the edit you just made:

I know that the commonly cited downsides to MLM as users have mentioned is concerning the sale of actual products vs bogus products. While I agree with that assessment, I am wondering, how businesses could still adopt the MLM model, yet retain proper business ethics?

Now while this isn't directly answering your question, because there is no such thing as business ethics, a legitimate business should still avoid adopting a MLM model, this list isn't exhaustive, but here are a few examples.

1. You put yourself at risk of a boycott. Cutco, the knife company, makes fairly decent knives and they aren't strictly a scam like companies like Herbalife. However, they practice MLM through a company called Vector Marketing which preys on high school and college students by using deceptive tactics to recruit people into buying "demo kits". As a result of this, and seeing classmates fall for it and losing hundreds of dollars, I will never buy a Cutco knife.
2. More sales persons != better marketing. MLM relies mainly on many sellers selling to their friends and family. This isn't really a reliable way to sell quality products. Part of this is because MLM requires paying commissions to several levels of people, meaning it works best with high-margin products. And often times creating a high margin quality product is extremely hard. There are much more effective marketing channels that are cheaper than MLM. You can even avoid typical marketing channels like a company like Instant Pot.
3. You risk annoying people. Most sellers through MLM programs are inexperienced salespersons looking to get rich quick. They often end up targeting their friends and family members, who understandably find that annoying. While someone may not end up boycotting you for ethical reasons, they may be turned off from your target for good.

This is only a few problems with MLM. There are still ethical concerns.

Answer 5

To me the ethical concerns of MLM are centered around not accurately describing the business. This may be born out of the perpetrator's limited understanding.

The key thing to understand about MLM is that you are building a marketing organization, not selling products. If you just sell the products, then you can be more profitable working for minimum wage. If your desire is to build an organization of people that sell then you can do very well. Representing it any other way is unethical IMHO.

Of course, it greatly helps to have a compelling product to sell.

Some people purchase MLM memberships because they like the product and wish to receive discounts. However, as long as they understand they will never get rich off a membership then that is perfectly ethical.

The next is how cash flow works in a business. It is not like a job where one goes to work today, and will be compensated 14 to 21 days later. There may be no compensation or worse yet a loss. Often times MLM memberships are sold to those that have no margin. No savings, under employed, tight budgets, etc...

Those people would be far better off looking for a different or a second job to increase their income and build some margin in their lives. They are very unlikely to be successful in MLM as they cannot stand the ebbs and flows of cash flow and who would take business advice from broke people? Yet these people are often sold membership unethically and it doesn't really build the seller's business anyway. There might be a short uptick in numbers, but in the end it will likely be a waste of time.

Those that choose to participate in MLM, as with any other business, would be far better off acting ethically.

Answer 6

Mal: Wheel never stops turning, Badger.

Badger: That only matters to the people on the rim. [such as Mal]. - Firefly TV series

The lie is that MLM's promises rely on an infinite downline. And there's just no such thing. That's why they call it a pyramid scheme. Those work if there's an infinite pyramid. No product will support an infinite number of salesmen: The pyramid has a bottom.

This inherent defect reveals itself very quickly. So they spike/prime sales by forcing members to buy a bunch of product "for inventory" -- but really, it's just to give the immediate upline a blip of success to keep them engaged (much like MMO reward mechanics). This is a total loss for everyone near the bottom of the pyramid. Therein lies the scam.

An MLM which didn't rely on lies and scams would need to sharply limit sales positions, at which point it would not be recognizable as an MLM.

Answer 7

To answer this question, it’s important to nail down what’s an intrinsic property of a MLM, and what is largely associated with MLM. Given a company that sells a physical product, people involved can be divided into five categories (this list isn’t exhaustive, but serves the purpose of this answer):

Management: the people who organize the whole endeavor

Manufacturing: the people who actually make the product

Recruiting: the people who find people to hire into the business

Sales: the people who find customers, convince them to buy, and arrange for them to receive the product

Customers: the people who buy the product

In an ideal situation, all of these people are benefitting from the arrangement. Everyone is contributing something of value, and everyone is receiving something of value. There’s a valid business reason for every role in the business. Each category provides value to the other categories, rather than existing for its own sake.

However, in an MLM, these roles get fuzzy. One of the most definitional properties of an MLM is the nature of the recruiter category. In a normal company, recruiters exist mostly to serve the other categories: hiring salespeople, manufacturers, and management. A company does need to get recruiters somehow, so of course recruiters will occasionally hire more recruiters, but it is not the focus of their job. In an MLM, however, recruiting other recruiters is the primary focus of recruiters. This causes recruitment to be a self-perpetuating activity, with recruiters making money from other recruiters “downstream”, rather than providing external value.

And why is this? Well, in most companies, there’s an HR department whose job it is to find new employees, and they may be paid based on how well they get new employees, but their wages aren’t directly tied to their hires’ performance. They don’t get paid on their “downstream”. The “downstream” concept is particular to MLM, pyramid schemes, and the like. And this is where the “multiple level” comes in. With a normal company, recruiters provide clear business value that is only a few steps removed from external revenue. If someone recruits a salesperson, and the salesperson sells product, it’s clear what value the recruiter is providing. If someone recruits a recruiter who recruits a recruiter who recruits a recruiter, it quickly becomes fuzzy just what value that person is adding. The more levels, the easier it is to obscuring the question of whether anyone is providing value.

Another property that MLM tend to have is the mixing of customers and salespeople; salespeople buy their products in advance, making them customers as well. This isn’t as definitional as the previous point; a system that doesn’t require anyone to pay anything up front but has multiple levels could technically still be called a “MLM”, but in practice this is how MLM generally work. And this is where a lot of the problems with MLM come from. While ideally a company’s revenue will ultimately come from providing to customers, with a MLM there is a revenue stream from people who are paying money not for realized value, but for hoped-for future value, which makes it easier for a company to survive without providing any actual social value.

Thus the MLM becomes a closed system, with people buying the product so they can sell it to new recruits, who then have to recruit new people to sell it to. A property that is not technically a part of the definition of MLM, but which tends to emerge from the business model, is that it’s more profitable to sell a large “starter kit” to a new recruit than to sell individual items one at a time to actual customers, and so once that is an option, it’s where most of the focus goes.

So how are MLM unethical? They tend to gravitate towards sales being generated from new members giving money to old members, rather than creating value for an end user, their multiple levels obscure this lack of outside value, and their incentive system treats this money being passed around within the system as “revenue”, and rewards people for increasing it. Once initial buy-ins are considered “revenue”, and people are rewarded for increasing revenue, there becomes a huge incentive to recruit new people without regard for their interests, and to build a system that facilitates taking advantage of recruits as much as possible, and the multiple levels help those most adept at this rise to the top while allowing for a diffusion of responsibility.

Could an ethical business use MLM? Possibly, but the advantages of an MLM are most applicable to an unethical business. An ethical business wants to strongly tie employee remuneration to end user value, rather than obscure the relationship with multiple levels. A legitimate company that is making its money from actual customers will want to get directly to getting salespeople to sell to those customers, rather than recruiting recruiters to recruit recruiters to eventually get around to actually selling to customers.

Answer 8

Apart from any issues of pyramid schemes, MLMs have a problem of providing people with unrealistic expectations of how much money they can make. As a rule of thumb, only the first person to start selling in an area will make the massive profits advertised, because they can quickly saturate the market. Anyone they recruit will be stuck trying to find those few potential buyers who the first seller hasn't already reached.

Answer 9

To give a concrete example of how an MLM approach in a business could be ethical, I cite the company, Forever, Inc. Their primary business is selling image storage space, art kits, conversion services, and scrapbooking software. Most of their sales are made by Ambassadors who earn money entirely on commission for sales, and put a percentage of their sales into the people who recruited them. Unlike most MLMs, the buy-in is small ($49), there's no need to stock inventory (it's all digital), they get discounts on all products, and it's a shallow leveling scheme (at most five levels, and that only if you choose to join a team) with a small percentage passed up.

Because the buy-in is small and there's no need to stock inventory, someone who never sells any product will not be out much money. Added to that, the discount essentially changes the situation to one where, if you planned to buy the product anyhow, the discount practically pays for the buy-in. And, because only a fraction of the profits go up to the next level, most of your commission remains your own. Further preventing the usual pyramid scheme where the people at the top earn all of their money from commissions below them, there's a minimum sales requirement at each level.

I recognize that this does not fully address your question of why MLM might be seen as unethical, but it does address your title question of if it is possible to operate as an MLM and still be ethical.

Just as a general disclaimer, I am a former employee of the company, but I feel this is a fair statement of the facts.

Answer 10

Value

In order for a multi-level marketing system to be ethical, each level would have to provide sufficient value to those below it. However, if that were so, then they would always have to be at a particular level. Because a shallow system would no longer be providing value. Or if a shallow system could, then a deeper system is unnecessary. The unethical part is that they don't explain this.

Franchising

The franchise system is an example of multi-level marketing where there are exactly two levels. Those levels are local and global. The local level is responsible for dealing with customers and immediate production or customization. The global level is responsible for brand management, including advertising and product development.

Franchising works because there are actual reasons why it is difficult for a purely local business to compete with national businesses (e.g. cost of advertising). And because local businesses have less management overhead than national businesses. Franchising compromises between the two. The national part does things that benefit from economies of scale. The local part handles things that benefit from a shallow management structure.

A truly ethical "multi-level marketing" system will devolve into something like a franchise system. Because the most profitable portion of the system is at the top. So anyone with the option will join at the top rather than at the bottommost level. But if that's allowed, there's no multi-level about it unless you think of two as multiple levels (technically true, but not how most MLM systems work).

How MLM works

MLM works by giving people a chance to dream. The wonderful people that your group will recruit will find other people who will recruit more. The actual sales part is only a slice of that. Because anyone who wants the discount that you get can just sign up.

MLM gives an outsized reward for recruiting a new merchant. Not just a one time reward but a permanent share in all that merchant's sales in perpetuity. And not just on all that merchant's sales, but on all sales of those recruited by that merchant. And on those recruited transitively by that merchant. Even though the top-level merchant does little or no work in terms of ongoing operations, the share continues to grow.

Real referral programs pay a one time fee or a percentage of the first-year sales. They don't pretend that the one time event of the recruitment somehow creates a permanent obligation to the sales person.

Contrast this with the franchisee relationship with a customer. If the customer doesn't like the local Subway restaurant, the customer can simply go to a different one. There's no obligation on the customer's part to continue to support the original franchisee. But in MLM, the customers are all recruited to join the MLM. And once recruited, they can't switch to a different recruiter. All products that they buy with their discount also benefit the one who recruited them.

Ethical MLM would not be MLM

What would an ethical MLM look like? A franchise system, possibly with commissions for recruiting new franchisees. Most of the customers would not be in the MLM. They could choose to buy from the MLM or from someone else on each individual purchase. But most people would stop calling that system a MLM system. Instead, they'd call it a franchise system.

Or possibly an associates system. Customers would also recruit new customers and receive a bonus (or possibly a discount) for finding such new customers. Again, most wouldn't call this MLM. They'd call it an associates system.

That's the fundamental problem with ethical MLM. If you do it right, it stops being MLM and starts being something else. Because the multilevel portion provides no actual value to the customers beyond finding them in the first place. And there are cheaper, more flexible ways to do that.