I’m pissed off.
See, I live by a shopping center that has a Safeway, Trader Joe’s, and Wal-Mart. The last two times I’ve gone shopping there, I’ve been approached by Indian men who were seemingly very nice and struck up a conversation with me. (Some background: For a long time, there weren’t many Indians in the U.S.–especially certain kinds like Sikhs–so if you saw another one, you’d greet each other, invite them over to have chai, etc. This tradition persists today, although less so, especially in Silicon Valley where we’re very common. But still.) As a result, I’m always especially happy to introduce myself to any Indian person I see. Here’s how the conversations went:
Seemingly nice man: “Excuse me. Hi! Did you go to Stanford? You look very familiar.”
Me: (Wondering if I have a Stanford walk or something.) “Hi–yeah, I did. Did you also?”
Seemingly nice man: (Ignores my question.) “Ah, great, great! (Smile.) What did you study there?”
Me: “Technology and psychology…what about you?”
Seemingly nice man: “So where are you from?”
(…We have a nice conversation in which he seems genuinely interested to meet me and hear about what I’m up to…and then…)
Seemingly nice man: “Are you interested in a new business venture?”
Ohh man. Because this happened FIVE times in two weekends, plus once at a shopping mall in San Jose, I can tell you exactly what was behind their approach. I know because I gave these guys my phone number (until I wised up), and when they called, I got frustrated and asked them what was going on. Here’s what I figured out.
Step 1: Go to a public place with a lot of people
Step 2: Approach people who look like suckers (me?) or people you have some affiliation with (in this case, five separate Indian guys approached me). Play up the cultural angle.
Step 3: Deceptively try to ingratiate yourself with them. Three of the five guessed Stanford because I look young and I wear glasses. The fourth asked if I went to Berkeley. Wrong side of the Bay, buddy.
Step 4: Get my business card and follow up with an “exciting business opportunity.” Sound disappointed when I decline. Follow up by asking, “So do I understand it right that you’re not interested in making money for almost no effort?” When faced with my flat response of “that’s right,” ask me meekly if I have any friends who would be interested in this business “opportunity.”
I hate when people try to scam me–but at least I have some experience in spotting scams. I hate it even more when defenseless people get scammed. And I just feel sad when people are wasting their time and relationships by engaging in network marketing.
Network marketing (aka multi-level marketing, or MLM), Ponzi schemes, or pyramid schemes–yes, there are differences, but I’m disgusted by them all.
My angry encounters with these guys come at a prescient time. Yesterday, The New York Times wrote a damning article on multi-level marketing companies and the new rules proposed by the Federal Trade Commission. “If companies have to tell recruits that the average income is only $1,400 instead of the $50,000 advertised on their site, or that the average salesman only lasts two months, a lot fewer people are going to sign up,” said one analyst.
These programs are a scam on your time and your relationships. Yes, there are exceptions and a few people make lots of money. But dig into the data and you’ll discover that most people–and I mean that statistically–most people make less than $100/month. Most people don’t last very long, either. “But Ramit,” you might say, naively, “how can it hurt? If I can make $50/month, what’s wrong with that? PS I think I can actually make $50,000/month!!!” There are four things wrong with that: First, you won’t make that much. Second, you’re not creating any lasting value or building a skill set for you. Third, have you seen how friends treat you if you try to turn your friendship into a sales relationship? And forth, engaging in these stupid “opportunities” distracts you from real entrepreneurship and your goals.
Let me explain.
An overview of network marketing, Ponzi schemes, and pyramid schemes
Network marketing (i.e., MLM) is the most legitimate cousin in a family of questionable characters. They’re like the Beagle Boys from Duck Tales: an unfortunate family of degenerates. Anyway, multi-level marketing programs let you earn money based off the products you sell, and sometimes a percentage of the products sold by people you refer. That’s a key distinction: In MLM programs, you earn money from the actual sale of products, not just from endless recruiting of other people.
Unfortunately, the rosiness ends there. As our own Federal Trade Commission (FTC) notes:
Some multilevel marketing plans are legitimate. However, others are illegal pyramid schemes. In pyramids, commissions are based on the number of distributors recruited. Most of the product sales are made to these distributors – not to consumers in general. The underlying goods and services, which vary from vitamins to car leases, serve only to make the schemes look legitimate.
Furthermore, they write, “Avoid any plan that includes commissions for recruiting additional distributors. It may be an illegal pyramid.”
I knew a guy back in college who made me wish I were actually in an ivory tower so I could jump off into a pit of alligators, thereby evoking eerie similarities to Indiana Jones and the Temple of Doom. He was bragging about a new “venture” he had started. I was curious, so I asked him about it, and he had a very nice sales pitch–until I asked him a couple questions that he apparently didn’t have scripted answers to. What was he selling? “Oh, tons of assorted products like energy drinks and really good cleaning supplies.” (Which he had of course bought first, thus incurring inventory costs, and now had to sell. A few months of your closet being full of EnergyAde makes pennies on the dollars sound attractive.) And how much was he making? I wasn’t going to ask, but he kept bragging about how “profitable the opportunity is,” so I just asked. His openness vanished rather quickly, especially when someone else chimed in and said, “It must be more than $100/week, right?” That was a typical amount students could earn by working part-time on campus. “Well,” he replied, “it’s all about pounding the pavement and getting to that tipping point.” He’d been doing this for a year.
Another example of an MLM company is Amway. Now, as part of a $6.4 billion organization, something undeniably powerful is happening here. And who am I to criticize? I don’t run a $6 billion company. But the data behind Amway is illuminating if you’re thinking about MLM programs:
Typically, IBOs (Independent Business Owners, i.e., members) spend money on tapes, books, and seminars which are promoted to IBOs as the preferred way to learn the “business skills of the IBOs” and to maintain their desire to build their business…However, investigations like one done by Dateline NBC in April 2003….suggested that most of the money being earned by these successful individuals was coming from the hidden “tools” business rather than through selling the company products. Critics also claim that the materials are specifically geared towards encouraging IBOs to continue working for a non-economic return, rather than improving their actual business skills.
Amway was ordered to accompany any such statements with the actual averages per distributor, pointing out that more than half of the distributors do not make any money, with the average distributor making less than $100 per month.
It gets worse. While multi-level marketing programs can theoretically be legitimate–even though few people profit, and many take a long time to realize they’re not–pyramid schemes are simply fraudulent. In a pyramid scheme, you usually make money recruiting others and hoping that people down the line will pay it upwards. The products you’re selling (if there are any) are overpriced and likely only purchased by members in the pyramid scheme. As a point of reference, the first sentence of the Wikipedia entry on pyramid schemes describes them as having a “non-sustainable business model.” That’s because, mathematically, pyramid schemes soon become impossible to sustain; exponential growth means that, soon, there aren’t enough people in the world to participate. Sort of like the amount of girls that can resist my charm.
In other words, pyramid schemes will typically promise a great return based on a small investment. The hucksters have developed a number of variations to obfuscate the real process (older readers may remember the “captain and passengers” model), but the result is always the same: bad.
The final and most fraudulent example is the Ponzi scheme, which involves promises of unusually large investment returns by aggressively recruiting more and more new members to pay earlier members. In fact, the earliest investors often get incredible returns for a short while, thus spurring them to invest more and tell their friends. The scheme’s demise comes shortly thereafter, usually with the mastermind(s) taking all the money.
Ponzi schemes are different than pyramid schemes: the Ponzi scammer is the puppet master, whereas recruiting is distributed in a pyramid scheme. Ponzi schemes can also persist by getting more investment from existing members, while pyramid schemes can grow (and thus collapse) faster. There are lots of details about Ponzi schemes, but the main takeaways are they’re very fraudulent and very bad.
Why I have a dim opinion of people who participate in these programs–plus a case study
First, they’re deceptive. They used a simple heuristic–”Hey, we’re both Indian!”–to get attention. While that may work in the short-term, how would a real businessman feel once he realizes he was deceived? And what kind of people would shrug it off and stay with the organization? This is a great example of Cialdini’s “click, whirr” strategy to take advantage of these rules. Although I thought they were sincerely interested in me, they actually wanted to sell me on something. Bad, bad, bad.
Second, they’re not particularly innovative. They accosted me at grocery stores, for god’s sake.
Third, they’re often persistent to the point of being irritating. Here’s a little case study on something called Pre-Paid Legal. Last year, I gave a talk at MIT. About six months later, one of the students emailed me with an “interesting opportunity” for something called Pre-Paid Legal Services. This is basically a service where you pay $25/month in exchange for legal services; it’s like insurance for legal services. They have a fancy magazine (which she helpfully mailed to me) and very, very pushy people who try to recruit you. There are only a few catches to the service: Pre-Paid Legal has been found guilty of fraud, leading to this amusing quote by money manager Frederic E. Russell: “I think Pre-Paid was lucky,” he said. “But a finding of fraud is not exactly the greatest news as far as goodwill and reputation are concerned.” The article ends by noting the following tidbit: “Pre-Paid has set aside $3 million to cover any major damages that may result from the lawsuits. The company—which markets its product as essential—carries no legal insurance itself.” As you can imagine, by this point I was enjoying myself so much that I was eating popcorn while reading these articles.
Would legal insurance have even mattered? As one of their board members actually said, “All you have to know is the word: Yes. Does our product cover everything? Yes. So if somebody asks does it cover this or does it cover that, we’re going to say, ‘Yes.’”
That same article, from BusinessWeek, points out what’s not covered by Pre-Paid Legal:
A review of sample Pre-Paid contracts shows many limitations. Cases involving bankruptcy, alcohol, drugs, pre-existing conditions, wage garnishment, divorce, annulment, child custody, class actions, hit and runs, driving without a license, civil or criminal charges associated with a business, and commercial vehicles over two axles aren’t covered. Nor are any “claim, defense, or legal position which, in the opinion of the Provider Attorney, will not prevail in court.” Pre-Paid provides for 60 hours of trial time per year, but pretrial work — the bulk of most cases — is limited to 2.5 hours per year in a basic policy.
And yesterday’s New York Times article notes that an astonishing 45% of Pre-Paid Legal’s public shares are currently shorted, meaning sophisticated investors think this company is going to tank. It also suggests the consequences of the newly proposed FTC rules: “…Pre-Paid Legal would have to tell prospects that fewer than a quarter of its sales representatives sold more than one insurance plan in 2005.” How would the sales reps take it? Well, the reporter writes, “Pre-Paid Legal suffers from high turnover. In 2005, the company replaced at least 50% of its active salesforce…Industrywide, multilevel marketing companies typically replace all of their sales representatives every year.”
With most of this knowledge, that MIT student kept badgering me. Finally, exasperated, I had to tell her rather pointedly that we could go back and forth forever, but I wasn’t interested at all. (These MLM types bring out the most unsavory reactions.) A year later, a friend told me that he got another contact from her—this time endorsing another product.
Fourth, these programs disproportionately target the wrong people. “Make money in your spare time!” they say. Do you think people with a busy career have lots of free time to try “opportunities” they hear about while shopping for tonight’s rump roast? Of course not. Professor Ken Wong, who runs the MBA program at Queen’s University, points out the obvious:
“The more educated they were, probably the less likely they would be to buy into the whole concept in the first instance. So you’re really targeting a specific kind of individual who life has treated in a very certain way, and you’re now saying you don’t have to have that way anymore.”
So we have programs that disproportionately target people who don’t know any better and remain “working” in these programs without being properly compensated—all because of big promises to come and clever marketing. You can see why I’m pissed. In fact, try to dig up research on “network marketing.” It’s hard to find anything substantive among the THOUSANDS OF PAGES OF AFFILIATE OFFERS THAT SCREAM OUT SCAM TO ME. Interestingly, many people have compared these programs (and especially their training programs) to cults. Not just hand-wavy cults, but the strict definition of cults, including isolation, increasing levels of commitment, etc. I agree, there are lots of similarities; for more on this, read Eliot Aronson’s excellent book, Age of Propaganda: The Everyday Use and Abuse of Persuasion.
Fifth, and perhaps most unfortunate of all, these programs are giving their members neither equitable compensation nor the core skills for future growth. If you’ve read this blog before, you know that I hate get-rich-quick schemes (see On Greed and Speed for details). If these so-called opportunities didn’t provide much cash, but gave participants the skills and contacts to run successful businesses, I would say great! Unfortunately, they don’t. Yes, that’s a broad generalization, but I’ve seen far more regret and bitterness over a long period of time than excitement—of course, with the exception of my grocery-store friends. They’d all been doing it for less than 6 months.
Why would you do these programs?
Is it to make more money? Then let me be very clear: You could make more by taking $100/week, putting it in an index fund inside a Roth IRA, and letting it sit there. You can even set this up to happen automatically. In fact, you could arguably make more by investing just $100/month.
Or maybe it’s to maintain your lifestyle and do something entrepreneurial. Great! I admire that more than anyone. But why would you pick an industry riddled by fraudulent opportunists and unsophisticated people whom you can’t learn much from? That smacks of a stupid frat-boy business idea.
Is it to make a difference in the world? Probably not, but just in case, there are many better ways to do it that don’t involve you calling up your friends and family and polluting your relationships by introducing a sales element into them. “Mom, I love what you and Dad have done with the window treatments here! Also, did you know you’re currently vulnerable to numerous legal liabilities? Fortunately you can protect yourself using an exciting service called Pre-Paid Legal Services®!”
Is it because you’re new to the area and looking for something entrepreneurial to ease your way into the community? I have to admit that the title of this post is a little sensationalistic. Also, most of the people who approached me were recently from India. Maybe they didn’t know any better. But you know what? That only reinforces my point of the kind of predatory organization this is. Plus, there’s almost no better way to actively push people away from you in a community than by trying to actively sell them something fraudulent.
Finally, is it because “it couldn’t hurt?” After all, how could it hurt to try it out? The truth, of course, is that it can hurt. You’ll probably alienate your friends, family, and acquaintances, just like that MIT student did to me. Moreover, following that logic of “it couldn’t hurt,” you might as well open a lemonade stand and sell drinks for $0.05 each. “How could it hurt? I made $0.75 today!” The point is that we need to optimize our choices, and $0.75/day (or $100/month) isn’t worth it compared to what you could make. If you read three articles on this site (e.g., about stocks, mutual funds, and retirement accounts), you’d easily make more. Or another site! Or a book! I don’t care. Just recognize the flimsiness of the “it couldn’t hurt rationale.”
I’m bound to get a ton of heat for this post because there are lots of bloggers who write about network marketing. They genuinely believe in what they do. Unfortunately, try doing a blog search for “network marketing”. The results are deplorable, which leads me to my final points.
Ramit’s 5 Maxims of Network Marketing
1. If you have to badger someone into even thinking about maybe considering allowing you to perhaps talk to them for 60 seconds, you may have signed up for a bad “opportunity.” Also, if your marketing plan involves you accosting customers in the cereal aisle, consider that I may be right.
2. If you spend more time recruiting people to do your job than you do selling products—and you’re supposedly in a “sales organization,” you may be in a scam.
3. If the organization you’re working for has repeatedly been sued for fraud–and often convicted–that may set off some warning signs. Also, if you’re participating in a business model that almost universarlly evokes disgust or, at the minimum, discomfort, that may be another sign. If a lot of people don’t like something, there’s usually a reason.
4. If you’re spending your days doing something that’s frustrating and only marginally useful–and your customers, if you have any, feel abused rather than thankful–step outside the bubble for a minute to acknowledge that you’re not creating any new value. I don’t know one entrepreneur who made it big doing something like this. Now, I fully understand the psychological difficulty in doing this. Maybe one good way to start is by asking people you’ve pitched what they honestly think about your recent activity.
5. Finally, it’s easy to be wishy-washy about MLM (“The real problem with MLM is not MLM itself, but some of the people it attracts”), but I’m going to go out on a limb here. If you do your research and discover an industry filled with fraud and broken promises—one in which you can reasonably expect to not only be swindled, but to then swindle others—you may want to reconsider your choice.
Thanks for reading. And please, tell your friends.
About me: My name is Ramit Sethi and I’m a recent Stanford grad. This site is about personal finance (long-term saving, banking, budgeting, and investing) and personal entrepreneurship for college students, recent grads, and everyone else.
A very special thanks to Ryan McCulloch for the beautiful drawings. He’s an illustrator and clay animator, and you’ll see more of his work on iwillteachyoutoberich in future articles.