What is Multi-Level Marketing?

Written on October 20, 2021
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Multi-level marketing — also known as “MLM” — is a type of direct sales that some companies use to encourage independent representatives to sell products or services to an end consumer. The multi-level aspect comes from each individual representative’s ability to recruit and onboard additional representatives who will pay a percentage of their sales to the person who recruited them. The income that representatives make in MLM comes from a commission earned through sales. The rest of the sales fee is paid directly to the company.

You’re right, pyramid schemes are a form of multi-level marketing. While it is controversial, multi-level marketing is not illegal. Companies like Amway use multi-level marketing to better reach end customers on their own turf, without having to invest as heavily in more impersonal marketing channels like email or social media.

Here, we’ll explore what multi-level marketing is, debunk some myths, and explain what it takes to run a legal, successful MLM business.

How Does MLM Work?

To fully understand how MLM works, you need to understand some terminology. Multi-level marketing is often referred to as “network marketing” because, in effect, you’re leveraging a human network to make sales.

Most MLM programs operate along a plan, which outlines the company’s marketing and compensation levels. Sponsors are representatives who recruit other people into the business, known as recruits, and may gain clout according to how many recruits they bring into the organization. Recruits are trained by their sponsor or other “upline” representatives who are at a higher tier in the organization. Recruits can become sponsors themselves by building their own “downline” by recruiting their own friends or family into the organization.

Representatives earn money according to a compensation plan, which outlines all the ways reps earn money. In order to be legal, compensation plans must focus on the sales of products and services, not the recruitment of new members. For instance, if someone recruits 10 people into their downline, they cannot be compensated $100 per member; they can only earn money based on how much product each person sells. So, yes, MLM tends to reward people who recruit more individuals but, in a legal scheme, that’s because more individuals in your downline simply means more opportunities to sell products.

In addition to commissions on sales made by you and your team, many companies also offer bonuses or increase commission splits based on sales volume.

Is MLM Legal?

Modern media is so filled with satire about pyramid schemes that MLM has become synonymous with predatory, illegal organizations. But a pyramid scheme isn’t illegal because of its network and organization shape — most companies are organized in a pyramid, from the CEO down.

To be legal, MLM needs to meet three requirements:

  1. It must offer a quality product or service. (Quality, of course, is subjective, and may not be determined until an unhappy customer brings an MLM organization to court.)
  2. Income must be earned off of sales of products or services, not individual recruitment.
  3. Participants and the company itself must be focused on sales, not just recruitment.

As such, illegal multi-level marketing initiatives are most often illegal because they offer a low-quality product – or none at all – or because they pay sponsors for each individual they recruit.

One of the easiest ways to determine the legitimacy of an MLM company is to notice to whom they sell their products. If the company sells its products primarily to consumers, using its sponsors as marketers and salespeople rather than inventory warehouses, it’s probably legitimate. If they sell products to sponsors who must recruit new members to buy the products from them, it’s likely an illegal pyramid scheme.

Like most businesses, MLM has gotten more sophisticated and it has been harder for the Federal Trade Commission (FTC) to determine the legality or legitimacy of well-established MLM operations. The Direct Selling Association (DSA), a lobbying group for the MLM industry, has more than 100 members who specialize in multi-level marketing; and it’s estimated that more than 1,000 organizations in the United States use some form of multi-level marketing. In 2017, the World Federation of Direct Selling Associates reported that it had at least 116 million independent representatives worldwide, with only a fraction of them earning meaningful incomes. To some individuals, this may prove that MLM more often than not reflects an illegal pyramid scheme structure, but the FTC has not cracked down on the industry as a whole.

Myths About MLM

We’ve already busted one myth: multi-level marketing companies are not always illegal pyramid schemes. There is some legal gray area but, by and large, if you follow the three primary legal requirements, you can operate a multi-level marketing business.

Another common myth is that MLM businesses have an enormously high failure rate. While the majority of individuals who participate in MLM will not earn a significant income, this hardly constitutes a failure. Individuals who invest $50 in an MLM operation are far more likely to step away than someone who invested $50,000 to start a restaurant. Likewise, many people sign up because they want to turn a profit fast, without really understanding the product or marketing plan. The business shouldn’t be deemed a failure because an individual didn’t think through what they were signing up for.

Businesses fail all the time. Businesses succeed all the time. You’re no more likely to fail running an MLM business simply because it’s an MLM business. To be successful, it takes some business savvy, just as is required to succeed in any other industry.

On the other hand, you shouldn’t jump into an MLM because you’ll “miss out.” Some sponsors may use this urgency tactic to gain recruits – but it’s sketchy, nonsensical, and a plain myth. You probably don’t know many people involved in an MLM, which means the market is always wide open for more recruits. Plus, people turn 18 every day, making them eligible to join an MLM company. There isn’t an infinite market, but there certainly isn’t any urgency to jump into an MLM without doing the research and making sure you understand what you stand to gain or lose by participating.

How to Succeed in MLM

Succeeding in MLM, whether you’re starting the company from scratch or you want to participate in an existing organization, takes a few things:

  1. Find a company that is a member of the DSA or join the DSA when you organize. They require members to uphold a code of ethics and serve to legitimize organizations.
  2. Sell a product or service that you actually care about, preferably a consumable product that people will have to buy more than once.
  3. Do your research. You’d research before buying a house; investing in an MLM is no different. You should understand how money is made, study how a company markets its products, and do the math.
  4. Do the work. Modern media has made MLM seem like a get-rich-quick scheme but that couldn’t be further from the truth. You are running your own little business so you have to define your target market, engage with your market, and make sales on your own. Nobody else is going to do it for you.

Like any business, succeeding in MLM requires hard work, due diligence, and passion. You won’t get rich overnight, but you can make real money when you work hard with the right organization.

The Bottom Line: What is Multi-Level Marketing?

Multi-level marketing has gotten a bad reputation through satire and lawsuits against major companies like Herbalife. But don’t let the rep hold you back; not only is MLM legal, it’s more common than you might think. Running an MLM company is a viable business plan and representatives who are willing to do the work stand to make real money working for an MLM. Like any business, however, you should do your research and be sure you know what you’re signing up for before getting involved.