What is an MLM? How Multi-Level Marketing Works

MLM, or multi-level marketing, is when a group of people sell products and recruit others to join their selling team. This creates a setup where participants earn money from their own sales and the sales made by the people they bring in. MLM businesses often attract new members by promising financial success and the freedom of being their own boss.

It's important to know that MLM itself is not inherently illegal. However, some MLMs have faced criticism for questionable business practices.

In some cases, these companies have been revealed to be illegal pyramid schemes. These schemes are illegal and unsustainable because they make money mainly by recruiting more people, rather than selling actual products.

In this article, we'll look at how MLM works, including its structure, how people get paid, and the possible pros and cons for those involved.

What is Multi-Level Marketing?

MLM, short for multi-level marketing, is a business model used by some companies to sell products or services. Unlike traditional retail stores, MLM companies don't rely on physical outlets; instead, they use independent distributors who work independently to sell the company's offerings.

In MLM, distributors aren't regular employees but independent business owners with the chance to build their own networks. They recruit others to join their network and help them sell the company's products. This network of distributors is the core of MLM companies and contributes to their revenue.

How Multi-Level Marketing Works

Multi-level marketing (MLM) is a business model where individuals, called distributors, sell a company's products. These distributors also recruit others to join their network and earn commissions from their sales and the sales of their recruits.

In MLM, the emphasis is on bringing in new salespeople. When you join, you become a distributor and have the opportunity to recruit others, forming your "downline." As your downline makes sales, you earn a share of their earnings. However, you also share a portion of your earnings with those above you, known as your "upline."

Becoming an MLM distributor involves initial costs, such as sign-up fees and purchasing inventory or training materials. These costs can vary widely, ranging from a few hundred to several thousand dollars annually.

MLM events are lively and emotional gatherings, resembling big parties. They aim to foster a sense of community among distributors, even if they haven't made a profit yet. These events provide support and create a feeling of belonging within the MLM.

Since MLMs differ from regular stores, distributors often focus on selling and recruiting within their social networks. This includes targeting friends, family, coworkers, or members of groups they belong to, like churches or clubs.

MLM Compensation Plan

An MLM compensation plan is like a guide that shows how an MLM company pays its distributors. Distributors get paid for the products they sell and also for the products sold by the distributors they bring into the company. This plan can include bonuses, commissions, and other ways to mark earnings and profits. 

There are three main types of compensation plans—Binary, Unilevel, and Matrix. The rest are mixtures of these plans. 

Here's a quick look at each plan: 

1. Binary Plan: It's a simple and popular plan in MLM. It's like a team with two legs and encourages teamwork. It's straightforward, which is why many MLM companies choose it. They plan it out carefully to make it work well. 

2. Matrix MLM Plan: In this plan, members are set up in rows and columns. It limits how wide the structure gets, so the company can recruit lots of sellers down the line while keeping a set number of main members. It's good for both full-time and part-time sellers. 

3. Unilevel Plan: This plan has only one level for business, and all the sellers someone recruits are placed directly on that level. There's no "spillover," so a seller's efforts directly benefit them. Companies like it because it's flexible and can help sellers earn more without being too complicated. 

4. Hybrid MLM Plan: This one combines the best parts of different compensation plans. For example, a mix of Unilevel and Binary plans is pretty popular. Companies can tweak these plans to fit what they need. The idea is to get rid of the weaknesses of one plan by using the strengths of another.

MLMs vs. Pyramid Schemes

MLMs and pyramid schemes may seem alike at first, but they have important differences. Let's break it down.

MLM, which stands for Multi-Level Marketing, is a legit business model. In MLM, people (distributors) sell a company's products to customers and make money from those sales. They also earn by recruiting new distributors. The key here is real product sales, and income comes from personal sales and the sales of your recruited team.

On the other hand, a pyramid scheme is illegal. It involves recruiting distributors too, but the main goal isn't selling stuff—it's getting more people to join. In pyramid schemes, you make money by bringing in new recruits and taking a cut of their fees or investments. This sets up a pyramid structure where those at the top benefit the most, leaving those at the bottom losing out.

Pyramid schemes can take different forms, like financial or product-based ones. In a classic pyramid scheme, people pay to join, and the money flows up the pyramid. They expect to get paid by the recruits they bring in. However, because the scheme needs a constant flow of new people, it becomes unsustainable. When new recruits dry up, those at the bottom who haven't recruited anyone lose their money.

It's tricky to tell MLMs and pyramid schemes apart because MLMs often keep their financial details private. Without access to legal info, it's hard to know if a company is a real MLM or is crossing into pyramid scheme territory.

To stay safe, research any business opportunity before joining. Check if the company is transparent about how they pay, and see if the focus is on selling products or recruiting. Legit MLMs have actual products or services, while pyramid schemes rely on recruitment for money.

Pros and Cons of Multilevel Marketing 

Pros 

1. Earn Commissions from Others’ Work: In MLM, you make money when people you've referred join and when they bring in more recruits. This is called a downline. Building a strong downline means a steady income stream, not just from your initial sales but ongoing commissions. 

2. Work on Your Own Schedule: Most people in network marketing have other jobs and join MLM to boost their income. The flexibility to work at your own pace is a key benefit. Unlike a regular job with fixed hours, MLM allows you to choose when and how much you work. 

3. Training and Marketing Support: Many people lack marketing skills, and this can be a hurdle in any business, not just MLM. Reputable MLM companies provide comprehensive training, covering sales pitches, lead generation, goal setting, and self-promotion on various platforms. 

4. Partnership Opportunities with Established Businesses: One significant advantage often overlooked in MLM is the opportunity to collaborate with established businesses. Trusted companies have a history of creating quality products, strong brand presence, effective sales techniques, and excellent customer service. 

Cons 

1. Limited Benefits: Being a multi-level marketer is a bit like freelancing. You don't usually get benefits like health care or paid leave. While MLM offers freedom and flexibility, it comes at a cost. This might not be appealing to those who prefer the security and perks of regular jobs. 

2. Takes Time to Set Up: MLM might seem like an easy way to make money, but it's like building your own business without officially owning it. You'll have sales materials and support, but success depends on making your product known. Establishing yourself in the MLM industry takes time, and not everyone has that luxury. 

3. Income Disparity: People in lower tiers of MLM often earn less than those in higher tiers. Even if lower-tier distributors work hard, they may earn significantly less due to sharing commissions with upper-tier distributors. 

4. Reputation Risks: MLM companies have limited control over their salesforce, which can risk their reputation. If some distributors act irresponsibly or lose customer trust, it can harm the company's image. 

5. Pyramid Scheme Concerns: Certain MLMs are illegal pyramid schemes. They mainly focus on recruiting people without offering real products or services. These schemes may have different membership levels that trick participants into investing more money, leading to financial losses.

Real-World Examples of Multilevel Marketing

MLM companies often make money by selling products or services and building a network of distributors that spans multiple levels. While MLM can be a legitimate business model, it has faced criticism for resembling pyramid schemes and employing deceptive marketing tactics. 

Now, let's look at two popular MLM companies to learn more. 

Amway 

Amway is one of the most recognized MLM companies globally, operating in over 100 countries. The company specializes in health, beauty, and home care products. As an MLM, Amway relies on independent business owners (IBOs) who sell their products and recruit others to join the business. 

In 2021, Amway reported an impressive $8.9 billion in sales conducted by its IBOs, establishing itself as the largest MLM business in the world by revenue. 

Herbalife Nutrition 

Herbalife Nutrition is a well-known MLM company that produces and sells weight-loss and nutritional products. While Herbalife claims that the majority of its revenue comes from product sales rather than recruitment, it has faced legal challenges and accusations of misleading practices. In 2016, the company settled with the Federal Trade Commission (FTC), leading to a restructuring of its business practices. 

Notably, Herbalife gained national attention when activist investor William Ackman publicly accused the company of operating a pyramid scheme. In 2012, Ackman bet $1 billion against Herbalife's stock, essentially predicting that the company's stock price would fall due to fraudulent activities. However, in 2018, he abandoned his position as the stock price soared. Subsequently, the stock experienced fluctuations, including a decline in 2022.

Can You Make Money Participating in an MLM?

If you've ever thought about joining a multi-level marketing (MLM) company to make some extra money, it's important to know what you can realistically expect. Studies have found that making big profits in MLMs is not very likely.

Let's take Herbalife as an example. It's a well-known MLM that sells nutritional supplements. Public records from Herbalife show that most people who joined earned very little. In 2015, about 95.5% of those who recruited others into the MLM earned an average of just $627.55 for the whole year.

To put it simply, you could make the same amount by working only about 1.7 hours per week at a job paying the federal minimum wage of $7.25 per hour. This information comes from William Keep, a marketing professor at the College of New Jersey who knows a lot about MLMs. He shared his findings on the investing news website Seeking Alpha.

It's crucial to know that making a lot of money through MLMs is very uncommon. Only a tiny fraction—specifically, 0.65% of those who successfully recruited others—reported earning $100,000 or more. Unfortunately, Herbalife didn't give any comment on this, leaving it open to interpretation.

Finally, a 2018 survey by the personal finance website MagnifyMoney found that people involved in MLMs earned very little, especially when you consider the time they put in. On average, participants reported making only 67 cents per hour before taking out expenses. This survey shows that the money you make from MLMs might not be worth the time and resources you invest.

Frequently Asked Questions (FAQs) 

What is MLM, and is it legal? 

Multilevel marketing (MLM) is a type of sales setup where people are encouraged to bring in new members to a company. When they do, these salespeople earn a part of the sales made by the person who recruited them. They also make money from selling a particular product. 

MLMs are usually legal and proper businesses. In these, distributors earn money by selling products and getting commissions from the sales made by the people they bring into the business. 

Is multilevel marketing a pyramid scheme? 

Multilevel marketing is often debated and compared to pyramid schemes. While some MLM operations are legal, others have faced investigation. A key concern arises when most of the profits within an operation flow to the top, leaving little for the rest of its members. 

Moreover, if an organization primarily focuses on recruiting rather than selling products, it may indicate that it is operating as a pyramid scheme. Such schemes can involve hundreds or even thousands of members. 

What are some red flags to look out for in an illegal MLM pyramid scheme? 

Here are some tips from the Federal Trade Commission (FTC) to spot potential pyramid schemes: 

1. Watch out for people in MLM (multi-level marketing) who promise you'll make a ton of money quickly. 

2. Be careful if they focus a lot on recruiting others rather than selling actual products. 

3. If they're pushing you to join without giving you enough info about the company, be cautious. 

4. Be wary if they try to rush you into joining by saying it's a limited-time deal. 

Another thing to notice is when current sellers keep buying products they can't sell just to get rewards or bonuses.