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Network marketing vs. pyramid schemes - do pyramid schemes also work in summer?

What is network marketing / multi-level marketing / structure sales?

Network marketing is a form of direct sales in which, in addition to the pure sale of products, the recruiting of new representatives for the purpose of expanding the company structure plays a central role.

"People prefer to buy what friends recommend them personally."

Therefore, companies that operate network marketing attach great importance to the fact that their representatives use their own products intensively, know them and pass their enthusiasm on to their circle of friends. On the one hand, they benefit from the effect of social selling (“My friends would never sell me anything bad, the products are definitely good.”) And from the fact that further members can be recruited for the organization through the enthusiasm of their own sales partners.

The structure, which is often compared to a pyramid, shows why network marketing thrives on the fact that new members are constantly entering the network. Each representative benefits from the turnover of the member he has recruited, which is automatically subordinate to him in the earnings hierarchy.

The aim of every member is to acquire as many new members as possible in order to build a so-called “downline”, to earn their commission, to receive the highest possible passive income and to move up one level in the hierarchy. Basically, the members of a network marketing organization can be divided into three groups:

  1. The buyers: They only become a member (initially) because they get cheaper products for their own use.
  2. The representatives: You decide to earn something by selling the products.
  3. The career-oriented: They want to make big money with network marketing and therefore acquire like crazy, in the hope that at some point they will be so high in the pyramid that the earnings will be a sure-fire success.

Since there is usually no fixed salary in network marketing, all earnings are success-based. This not least contributes to the fact that the recruiting of new members by existing ones is more or less a sure-fire success, because with the help of the commission one has the opportunity to earn more income despite constant one's own work performance.

What is a pyramid scheme?

Pyramid schemes are organizations that rely on constantly accepting new participants in order to secure the financing of the entire construct. All dividends are based on new member contributions that are distributed among existing members. There is no income generated by the organization. As soon as there are no new members, the whole system collapses.

Snowball systems get their name because the life cycle of a real snowball is roughly comparable to that of a snowball system: someone forms a snowball at the top of a mountain and gets it rolling. On the way down, the snowball picks up more and more snow and gets bigger and bigger before it bursts into a thousand pieces when it reaches the valley below.

Pyramid systems are always doomed to failure due to their structure. The lurid title question "Do pyramid schemes also work in summer?" the answer is very simple: no, but not in the other three seasons either!

What is the difference between network marketing / multilevel marketing and pyramid schemes?

Sales structures that are based on network marketing or multi-level marketing are often confronted with the accusation of being a snowball or pyramid system. That the border is thin and that there are still a few black sheep moving in the gray area is also confirmed by Prof. Dr. Florian Kraus, who carries out a study on direct sales every year on behalf of the BDD. This accusation is problematic because multi-level marketing is a very legitimate and legal sales channel for structured sales, while pyramid schemes are prohibited by law in Germany and many other countries.

Often the allegations are based on the similar structure of network marketing and pyramid schemes: both are basically pyramidal. However, a pyramidal hierarchy is in itself nothing bad and can be found in almost every company. Otherwise, the two systems differ in many ways.

"Pyramid schemes are generally prohibited, but there are still some black sheep in the industry who cavort in gray areas" - Prof. Dr. Florian Kraus

The main differentiator is that in multi-level marketing the sale of the products is the main business and everyone is free to recruit new members, while in pyramid schemes the only focus is on recruiting new members and receiving a so-called “bounty” for it. This bounty is usually the only way to earn money in pyramid schemes, because there are often no or only inferior products. A serious network marketing company is based on the sale of high quality products at market prices. The payment of the bounty is financed by another illegal activity in pyramid schemes: New members have to “buy in” the system at the beginning, so they have to pay a relatively large amount of money without receiving anything in return. This amount is then distributed to other members as a bounty. Furthermore, with multi-level marketing, all sales levels are equal with regard to the purchase price of the goods to be sold, while with pyramid schemes the higher level has to sell a product with a commission to the respective level below. At some point the product is so expensive that nobody buys it anymore. So the last one is left with the completely overpriced products.

In network marketing, however, the purchase prices of the products and thus the earning potential are the same for all levels. Although the upper ones earn from the commission of the lower ones, the lower ones still get their own commission.

Within pyramid schemes there is usually no or no serious, transparent commission plan and the lower ones finance the upper ones.

Other distinguishing features of a pyramid scheme are that members do not receive training, events, coaching, etc., as is the case with multi-level marketing, and that there are no customers and repeat customers who are not part of the company.

How do I recognize pyramid schemes?

You now know the key differences between reputable network marketing companies and dubious pyramid schemes. Finally, you will find a summary of the most important questions that you can use to identify pyramid schemes:

  • Is there a real product at all?

  • Are the products worth the money?

  • Are there buyers for the products who are not part of the sales structure?

  • Does the company offer its members training, coaching, etc.?

  • Will I be accepted into the company for free and with no registration fees?

  • Are there other ways to earn money besides recruiting new members?

  • Is the purchase price for goods the same for me as for someone above me in the hierarchy?

If you could only answer “no” to any of these questions, it is almost certainly not a legitimate undertaking. Better keep your hands off it!

This post appeared in our series on direct selling. Would you like to find out more about this topic? The following additional articles are available so far:

  1. What is Direct Selling? Definition and examples of the traditional sales channel
  2. Network marketing vs. pyramid schemes - do pyramid schemes also work in summer?
  3. Direct sales in the age of online trading - what is the secret of success?