Robert FitzPatrick offers an urgent explanation of 'MLM' lies to the FTC.

MLM Industry 'Income Averages' And 'Retail' Sales Claims Are Part Of Deception FTC Must Halt

Summary

FTC Chair, Edith Ramirez, called out Direct Selling Association, DSA, for deceptive income claims by its members. To identify pyramid schemes, she defined "retail" as profitable distributor sales to non-distributors.

Ironically, she began her admonishment and warning to the DSA to stop income deception by citing DSA statistics on "income averages" and retail sales as factual baselines.

DSA bases MLM legitimacy on MLM "retail" sales, said to be $36 billion, and on providing a viable income opportunity to 20 million consumers, said to be $2,400 "median" average.

Simple math, basic marketing, and common sense reveal that the retail sales volume and "median average income" are statistical fabrications. Retail sales are minimal. Median average income is zero.

Upcoming FTC guidelines for all MLMs must be based on market reality, investigation, and hard data. FTC credibility and law enforcement are compromised by accepting any DSA data as factual.

OPEN LETTER

Ms. Edith Ramirez, Chair
US FEDERAL TRADE COMMISSION

Dear Ms. Ramirez:

As an author, researcher and a voice for thousands of consumers who have asked for proper law enforcement on "multi-level marketing", aka, MLM. I applaud your recent statement to the Direct Selling Association, DSA. I offer personal thanks for your directness in addressing fundamental aspects of pyramid scheme identification, MLM income recruiting incentives and court rulings that guide FTC policy.

In this letter I address the elements of your presentation related to deception about "income" and "retail sales." As you stated, false income claims are the primary lure in recruiting frauds. Their value for recruiting and their consequent harm only increase as the ranks of underpaid, part time, unemployed, gig-employed, and debt-burdened Americans grow.

I address deception not by individual MLM companies, such as you have uncovered at Herbalife (NYSE:HLF), Burnlounge, Fortune High Tech Marketing, Vemma, and other MLMs, but the underlying deceptions spread by the Direct Selling Association itself that crucially support the deception of individual companies. These DSA-based deceptions have greater impact on consumer vulnerability and are of greater importance to the FTC's law enforcement than the exaggerations and phony testimonials and images of wealth do, though such trickery does play an important role in the entrapment.

The DSA-based deceptions lay down the foundation and erect the rationalizations that bring millions of consumers into MLM recruiting scams in the first place, seeking "extra" income from "direct selling", often despite their misgivings about the high income bombast. It is only following these baseline, preparatory deceptions that consumers are lured further into the trap with promises of "wealth beyond your imagination."

The high-income deceptions are layered atop two specific and foundational deceptions promoted by the DSA (1) that MLMs provide an "average" income of hundreds of dollars a month to millions of participants and (2) this income is based on retail sales, aka "direct selling."

To undergird these two deceptions the DSA has originated two false statistics. These statistics have been so aggressively promoted by the DSA they are routinely repeated without fact-checking in the media, e.g., New York Times, "The median income from direct selling is $2,400 annually, according to the association, but those who recruit and manage others can earn significantly more."

In your address, you quoted these DSA-originated statistics as factual, though possibly with heavy irony:

"Direct selling, a $36 billion industry, plays a robust role in the marketplace and has the capacity to provide consumers with valuable goods and services and an opportunity to try an entrepreneurial experience… The low incomes received by most MLM participants is something that the DSA itself acknowledged more than a decade ago. In 2006, when commenting on the FTC's Business Opportunity Rule, the DSA cited a 2002 National Salesforce Survey showing that the majority of direct sellers made less than $10,000 per year from direct selling, with a median annual gross income of about $2,400 or only $200 per month."

Ms. Ramirez, these DSA statistics are not facts. They are actually a key part of the larger picture of deception that you were condemning in your speech. Even before analysis, these industry "income" statistics would be highly suspect coming from a group you were admonishing for making false income claims!The statistics are unfounded and mathematically impossible. If they are accepted as facts, due to their foundational value to other deceptions, law enforcement will be subverted and consumers will continue to be swindled at today's epic levels.

DSA publishes the annual "retail sales" figure, currently claimed to be $36 billion. DSA is also the source of the widely touted "median" (half make more and half less) average income figure of $2,400 (actually $2,420), which you also cited. It also publishes the annual total of USA people it claims participate under sales contracts in all MLMs, currently stated as 20 million individuals. The $36 billion retail sales, the 20 million participants and the $2,400 income average have served as the statistical foundation of MLM legitimacy, as you ironically referenced at the start of your address before demanding a halt to income deception and misleading definitions of "retail."

The same statistics are included in every press release published by the DSA:

"The Direct Selling Association (DSA) is the national trade association for companies that offer entrepreneurial opportunities to independent sellers to market and sell products and services, typically outside of a fixed retail establishment. More than 20 million Americans are involved in direct selling in every state, congressional district and community in the United States. In 2015, direct selling generated more than $36 billion in retail sales."

You will note the DSA omits the "median income" figure while claiming a "retail sales" number and total population of participants. In fact, the $2,400 number is no longer to be found anywhere on the DSA website and all previous citations have been scrubbed. This occurred after I and others subjected the figure to simple math tests and publicly revealed that it is a fabrication. The actual median average income is ZERO, at least half make zero or less and half make zero or more. A truer median average that factors costs and reflects net profit or loss would show the half-way figure to be a significant negative number, below zero.

Average Income and Income "Opportunity"

DSA's statistic of $2,400 "median" average "gross" income misleads regulators, investors, mainstream and financial media and the public. You cited it, as others do, as if it were a factual baseline to offset and correct the ridiculous anecdotal six-figure income claims that are typical in MLM recruiting. In fact, the DSA's "median income" figure is a more insidious and misleading claim than the absurd testimonies of great wealth. Those wild claims and promises have at least some basis in reality. The median income figure has none. Even if disclosure data from representative MLMs that, with added calculations, reveal a Zero median income were not known, the DSA claim of $2,400 median income is revealed as false on a simple math basis alone:

• If there are 20 million sellers earning a "median" of $2,400 as the DSA claims, then 10 million (half) would earn at least $2,400 or more, all the way up to the famous million-plus incomes. Total income for this upper half alone, therefore, would have to be $24 billion or more, far more. ($2,400+ x 10 million participants)
• To this minimally calculated $24 billion for the upper half the must be added the unknown volume of the other half (10 million) in which all earned "up to" $2,400.
• Even without this calculation, on its face the "income" figure does not coincide with the figures on sales volume and number of participants. How could half "earn" $2,400 or more if the mean average "retail sales" of all MLM participants is just $1,800 ($36 billion/20 million participants)?

As the math reveals, the $2,400 figure is impossible. The "earnings" would exceed the "sales"!

As data from multiple MLM disclosures, including Herbalife's, show, the actual median income average is ZERO. Half or far more earn nothing at all and most of the few that do gain anything are not profitable. What the FTC discovered in the Herbalife investigation about the lack of consumer profitability and absence of retail sales applies across the industry and is readily calculated or deduced from other MLM income disclosures.

The $2,400 figure is not just wrong or exaggerated as a number. It is a fundamental and destructive core deception on which others are based. It is a fabrication to establish the validity of the MLM and its hallmark claim to offer millions of people a viable "income opportunity" even if just a modest one, from "direct selling."

In talks with consumers and the media, I constantly encounter the force of this false "median average income" promoted by the DSA. Far from revealing any realistic limits to income opportunity in MLM, the bogus $2,400 figure lends credibility to the associated lies about high income potential for all. The claim of $2,400 a year "median income" across the industry - when the reality is that the median is zero - falsely assures people that the "average" person in MLM does make an income, though possibly just a modest one. Consumers are led to believe the average person makes at least $200 a month, according to the data, and as you repeated. Indeed half make that much or more, all the way up to the high incomes, the data purportedly show. This lends support to the absurd testimonials of six figure incomes as possible for all. Even if the high income claims prove exaggerated, for millions of people the prospect of making an additional $2,400 income sounds quite appealing, if only it were true.

Illustrating the reassuring role this false baseline statistic plays in recruiting is a typical feature article about "direct selling" in Woman's Day, October 30, 2014, entitled "How to Make Money in Direct Sales" in which the DSA is cited as the primary source. It advises readers:

" At first, aim for minimal but steady earning-probably just a few thousand dollars working part-time your first year. (Almost 89% of direct sellers were part-timers in 2011, and the median gross income is $2,420-not bad for extra cash, but not a gold mine.) Sellers can earn substantially more (and the sky's the limit!), but it often takes several years to build up clients and sales to bring in a full-time income."

Thus, your recommendation that the $2,400 figure be referenced as a truthful baseline for consumers to rely upon is factually unfounded and only continues the pattern of deception in which consumers are told that at least "not bad for extra cash" income is earned "on average."

Retail Sales

Does the MLM "industry" produce $36 billion in "retail" sales, as it now claims? If it did, just as if it delivered $2,400 as a "median" average income to 20 million sellers, legitimacy would seemingly be established. In fact, the retail sales figure is as bogus as the median income average is. Evidence indicates actual retail sales of MLM products may be a tiny fraction of that figure. All the rest - whatever the true revenue total is - is gained at wholesale pricing, as part of a contractual purchase-quota system incentivized by promises of future rewards tied to recruiting. The great majority of "sales" should not be defined as "sales" of any kind. More accurately, they are advance-fees or squandered "business opportunity" costs.

Presumably, the DSA's $36 billion "retail" sales figure includes Herbalife's false reporting of its retail sales volume. FTC investigators discovered that little of Herbalife's "sales" were made on a profitable retail basis to the general public and driven by market demand. Inclusion of this false data by this single, large DSA member has a substantial effect on the DSA total. Herbalife reported to the SEC in its 2015 annual report that it had $869 million in "net sales" in the United States in 2015. Net sales are the dollars Herbalife receives from the distributors. However, Herbalife also reported to the SEC its "retail" sales that include the "distributor allowance" of retail profit, at a number 66% higher than the "net sales" figure. This makes the USA "retail" total: $1.3 billion, about 4% of the DSA's USA total of MLM "retail" sales. In reality, as FTC investigators found, Herbalife's retail sales are a small fraction of what it reported to the SEC and the profitability on that small segment, if any, is unverified. This discrepancy from one of the DSA's oldest and largest members should be yet one more indicator that the DSA "industry" data on "retail" sales is a fabrication.

Aside from the absence of market-based evidence of "retail" sales, simple math also contradicts this DSA "retail" data as it does the "median" income average:

• The per capita "sales" of the USA sales force would be only $1800 a year, if all participants sold everything they purchased ($36 billion sales/20 million salespeople) and far less if they "self-consume."
• The per capita "gross profit" (assuming a 30% margin) on these alleged retail sales would be only $540 a year, or about $10 a week. ($36 billion x .30 margin ÷ 20 million salespeople). From this $10 a week average gross profit must be subtracted costs of shipping, marketing, and all other business costs - indicating net loss.
• The gross profit figure of $540 per year, before deducting costs, assumes no sales are ever discounted, no products are ever given away and none is ever consumed personally! Reality is that few participants retail at all; products are frequently given away, or sold online at cost or less and, according to the MLMs, the participants self-consume vast quantities of the goods before most quit within a year!

Beyond the contradictions of math are several common sense observations that debunk the "retail" sales figure from the DSA:

• The DSA's determination or measure of total "retail" sales is suspect on its face, since MLM companies don't collect or report how much product their distributors resell or at what price. If Herbalife's fake claim of "retail" sales is any indicator, the DSA figure may be founded on nothing more than falsely reported, unverified information.
• In addition to the FTC's investigative findings of minimal retail sales at Herbalife and other MLMs, there is no evidence that any part of the "sales" force of any MLM company carries out any significant retail sales volume or gains a net profit from it, though it is acknowledged by the MLM companies themselves that large segments of their participants do not retail.
• Beyond data, significant retail selling profits are effectively prevented in MLM by inherent factors such as low retail margin, bans on advertising and online marketing by distributors, greater incentives offered for recruiting over retailing, the open-ended offer of wholesale pricing to all potential retail customers and the unceasing inundation of all areas with more and more competitive salespeople.

Reality vs. Nu Skin et al.

In case the evidence of non-retailing and the absence of what could be called a viable income opportunity might be viewed as limited to Herbalife, I urge the FTC to examine the disclosures and investor presentations of other DSA member companies and the recruiting-based incentives within their compensation plans. The pattern of consumer losses, non-retailing, quota-driven purchasing incentives, and the false reclassification of wholesale, reward-induced purchasing (pay to play/advance-fee) as "retail" is consistent across the MLM "industry."

As an example, consider the statements to investors and the data "disclosed" to consumers - after additional calculation - by another DSA member, Nu Skin (NYSE:NUS). In a 2012 Q-1 investor presentation, for example, Nu Skin claimed to its investors that 50% of all its distributors do not retail at all but buy products, under their sales contract, purely for personal use. Another 44%, who also signed sales contracts, also purchased for the discount or "for resale," Nu Skin managers claimed, without providing data or evidence on how much was allegedly retailed by this 44% group or at what profit margins, if any. Nu Skin claimed that only 6% are actually the "sales force" and another 10% from the other groups seek to become salespeople through recruiting efforts each year.

Unlike Herbalife, which falsely claimed most of its sales were market-based retail sales, without providing evidence or data, Nu Skin openly proclaims that its primary and overwhelming customer base is the sales force members who buy under restrictive contracts at fixed "wholesale" pricing with purchase quota incentives for future reward. It claims these are "retail."

As for "average income", Nu Skin's latest income disclosure informs prospective recruits that "annualized" earnings (a mathematical ploy in which the mean average paid per rank in a month is multiplied by 12, inflating the actual annual payout and covering up the extreme monthly turnover of participants) of "active" salespeople is $2,266.16, and $12,165.23 for those who "earned a commission." Calculations must be performed on the disclosed percent of the total that is classified as "active" and the disclosed percent of "actives" that "earned a commission". Only then are figures of either $2,266 or $12,165 "average income" revealed as outrageously misleading.

• Nu Skin disclosed that its USA sales force in 2015 had 154,020 under contract.
• 93% earned no commission at all; only 7% gained some income, though not necessarily profit.
• Of that 7% that earned anything at all, the "average income" chart reveals that over half of them earned less than $106 a month on average.
• The median average income is ZERO, and even for the top 7% the median is only about $100 gross income monthly, indicating net loss.
• 57% of all commissions for a sales force numbering 154,020 in total were transferred to the "Blue Diamonds" - just 112 individuals.

Nu Skin's reality bears no relationship at all - except the opposite - to the $2,400 "median average" published by the DSA or to Nu Skin's own number of more than $12,000 per year (slyly qualified as "annualized" and referring only to "actives" who "earned a commission", and then presented as a meanaverage that is sharply skewed upward by the extreme concentration of rewards to the top 112 recruiters).

Conclusion:

The $36 billion "retail" sales figure and the $2,400 "median income average", the two most widely promoted numbers by the DSA to claim MLM's identity as a "direct selling" industry and a unique provider of a viable "income opportunity" to millions (20 million) of Americans, are unfounded fabrications. The reality is minimal, almost incidental, retail sales and a 90-99+% loss rate, year after year, among consumers participating in the pay plans.

Admonishing the DSA members, therefore, to refrain from making false claims of high income in favor of giving consumers these false DSA statistics would continue the current pattern of deception that you addressed.

I urge the FTC:

• Accept no baseline data from the DSA, just as you did not accept Herbalife's "survey" information or the official denials by its management.
• Adopt no preconceived notion, including those promoted by the DSA, about how "MLM" gains revenue or disburses rewards or why consumers sign sales contracts or why its products are purchased or what role it actually plays in the commercial market.
• Base any forthcoming conclusions or guidelines for the MLM "industry" only on hard evidence, market-based realities, and the findings of your own investigation. Relying upon "average" income or "retail" volume claims or claims about MLM's "direct selling" identity from the DSA can only discredit the agency and interfere with enforcement and consumer protection.

Thank you for your consideration. Please call on me for any volunteer assistance that I may be able to offer the FTC.

Robert FitzPatrick (Copyright 2016)