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February 24, 2004
Scott Allen and the Problem with MLM
By QBlog in
Scott Allen writes for the Entrepreneurs section of About.com. According to his bio page, he's a "several-time successful entrepreneur, IT executive, and consultant with twenty years of experience." Recently, Allen wrote a column titled "The Real Problem with Network Marketing and Multi-Level Marketing (MLM)" with the subtitle, "HINT: It's not the business model."
In the column, Allen takes a very pragmatic view of MLM and examines some of the problems and even offers a solution of sorts. According to Allen, the "real problem" with MLM is not the business but some of the people it attracts. It's really a good column written by a guy who seems to know his stuff but he makes a couple of points that I believe deserve scrutiny.
Tiered Compensation Structure
Allen asks "what is the problem with MLM?" His answer begins by comparing the "pyramid structure" of MLM to traditional commissioned sales:
Maybe it's the pyramid structure? But you can't really take issue with the tiered compensation structure — almost every large sales organization in the world has that. Salespeople get commission, and sales managers get overrides or bonuses on top of that, and sales directors on top of that, and VPs on top of that.This is a common misconception. Yes, there are MANY similarities between MLM and commissioned sales but there is one critical difference — Expansion. Let me explain.
Expansion, Contraction and Equilibrium
Mom and Pop own a business. They, like thousands of other Moms and Pops, make a comfortable living at their business and have several trustworthy and loyal employees. As the economic environment changes Mom and Pop make adjustments to their business (maybe raising prices, diversifying inventory or services, etc.) but as a whole, the business remains unchanged and profitable for decades.
Mom and Pop have reached a type of Equilibrium with their business, where they're neither growing nor shrinking. We've seen this scenario played out thousands, if not millions of times throughout American history. Mom and Pop earn money. The employees earn money. The managers earn money. The customers are happy. Grab a slice of Apple Pie.
Now, contrast the Mom and Pop business with MLM. In MLM, a state of Equilibrium is like a cancer to the business. The only way for MLM to "work" is through constant Expansion. Why? Because those at the bottom, those new "salespeople," MUST recruit others (Expand) before they will start earning money. In a Mom and Pop business, a new employee earns the same (or nearly the same) as the guy who's been there a week, month or year and does so even if the business isn't Expanding. In MLM, those at the bottom won't ever money without Expansion.
MLM Sometimes Attracts the Wrong People
Allen continues by explaining that sometimes those least qualified or prepared to own businesses are attracted to MLM because of the low cost of entry and the enormous earnings potential.
While I agree with Allen on this point, I do so only partially. He seems to indicate that the "bad apples" (my phrase not his) are the only ones perpetrating bad MLM practices and techniques. I believe that even some of the "good apples" are giving MLM a bad reputation simply because in MLM, recruiting is emphasized and sales are de-emphasized. This seems to encourage many with good business sense and good intentions to practice some of Allen's "bad MLM techniques" like:
My Solution?Over-selling the opportunity
Inappropriately discussing business in social situations
Being either inaccurate or deceptive when talking about their business
I wish I had a solution. Unfortunately, I don't. For those keeping score at home, I have yet to conclude my "The Trouble With Quixtar" series because I'm still trying to fully understand why I believe in my heart that MLM is a fundamentally flawed way of doing business. I feel a bit like a newly religious man who knows that there's a God but hasn't yet found a way to articulate why he knows it to be true.
Addendum
I find it fascinating that Allen never mentions the name Quixtar but instead refers to Amway. I liken it to a journalist continuing to refer to Altria as Philip Morris five years after the companies were restructured with new names. I dunno, I'm just weird I guess.
Comments
You know, you're absolutely right. It is the system.
Come to think of it, Communism would be perfect if tweaked just a little.
Really?
How do you think it should be tweaked?
Scott Allen's comments are rather broadsweeping.
His bio is interesting:
Certified Project Manager
Certified Process Engineer
Microsoft Certified Professional
IBM Certified DB2 Database Administrator
and Competent Toastmaster.
His degree is a B.Sc in communications, earned at U of Texas. Is this radio communications?
I'm curious but is he certified in Texas? I am a licensed professional engineer in Texas and I never had to take the test ('92). I worked for a Texas-based company and that was the only requirement for receiving the Texas RPE (other than being a degreed engineer).
I'm also wondering as to which Microsoft certifications he earned. At least the IBM certification is specific. Perhaps the reference to toastmaster is also valid.
I'm confused by his article and his analysis. If he holds a B.Sc then he is certainly familiar with a BINOMIAL EXPANSION which is covered in early algebra classes and is reinforced in calculus. The binomial expansion can be used to define a pyramid. This was surely an oversight on Scott's part.
I wish that he had investigated Amway/Quixtar and other MLMs in greater detail. As an entrepreneur, he should look at fees, percentages, etc. that are needed for uplines within the few MLMs mentioned in his article. "The devil is in the details", as the old saying goes.
The conclusion was interesting:
"Network marketers who are serious about building a business should be reading and learning about business fundamentals, the latest sales and marketing techniques, strategies for networking and business development, etc., not just swapping tips at your team's weekly or monthly meeting. Act like a small business owner, and people will treat you like one."
OK, that's a realistic assessment.
Scott needs to do a bit more research on the subject. Otherwise, it's a fair "feel good" article.
Perhaps the magazine's editors are limiting his article to a few hundred words?
It was a joke, Law. I was poking at your silly logic. I thought you'd catch that. My bad.
In the binomial expansion, though, aren't you always left with at least two variables on top?
And I was poking fun at you, ya' goofy Nazi.
;-)
Not without missing my joke. Own up to it, you capitalist pigdog!
Amazing what you find out when you do a search on your name in Feedster! ;-)
LOTS of points to respond to...
First, re: QBlog's original post:
Expansion, contraction, equilibrium:
MLM is SOMEWHAT biased towards requiring continued expansion (but it's not alone in that). HOWEVER, there are MLMs in which there is a sustainable revenue model based only on direct sales to end consumers, rather than requiring one to continue to build a downline. Certainly, there are significant financial incentives to building a downline, but I know people who are making part-time money that they're happy with off of just direct sales, no downline. A living? No. As much as they want? Maybe not. Better than minimum wage for the time spent? Yes.
The thing is, this is NOT unique to MLM. From the point of view of the individual business owner, EVERY new business has to grow until it hits a point of equilibrium. But if you're in a commodity business, like, say, cutting hair, the market is already saturated. There's nobody out there who's not getting their haircut simply because they can't find someone they can pay to do it.
But a new business still CAN enter the market, even in a "saturated" market, simply because attrition and turnover make a large enough pool of prospects available. There really ARE people still out there who haven't heard of Quixtar (even if they've heard of Amway). And every year, when millions of consumers graduate from school and get their first credit card, their first job, their first place of their own that they have to pay for, there are going to be millions more potential Quixtar customers.
A lot of people looking at MLM and talking about saturation act as if the market is completely static, forgetting that there's a churn of 4 million new people every year in the United States alone, and that number is growing.
So, "those at the bottom won't ever make money without expansion" may be true individually, but the same could be said of every single new business that someone could start, AND the same challenges exist in MLM that exist in any highly competitive, commodity market. The point is -- the problem may be slightly elevated in MLM, but the problem (and the solutions) to it are not unique to MLM.
RE: bad practices by "good apples"...
Desperation drives people to do strange things. Many of those people with otherwise good business experience have turned to MLM out of desperation, and that causes them to violate principles they would never violate otherwise. I'd be hard-pressed to even give an opinion on the percentages, but I'd certainly readily admit that the percentage of MLMers engaging in those bad MLM techniques is fairly high -- high enough to have given MLM as a whole a bad name.
RE: Quixtar vs. Amway...
At least in my generation and circle of friends, Amway is still a familiar brand and Quixtar isn't it. Interestingly, I personally don't know anyone in person, and have only a couple of remote acquaintances online, involved in Quixtar.
RE: Some of the other comments...
B.Sc. in Communications from UT:
Actually, my degree IS in Radio-TV film, with my focus in radio & audio production (they're lumped together). And no, I didn't pursue a career in it (or licensing). I very quickly learned (after I got my degree) that record producers usually start out as recording engineers, which at that time was paying $8-$10 an hour, and not much steady work. Computer programming, on the other hand, was paying $15-$20 an hour with more work than I could handle. Do the math. ;-)
RE: Microsoft Certification...
"Microsoft Certified Professional" was the only designation there was back when I took it (1987? '88?), but I didn't keep it up. I was one of the first to go through it, way back before there even was such a thing as MCSE, etc. I think I had to take three tests -- computing basics, Windows, and networking with Windows.
RE: binomial expansion...
I understand binomial expansion very well, thank you. I'm even the one who corrected the recent Wikipedia articles on Metcalfe's Law and Reed's Law to put the actual correct calculations rather than simply saying they grow geometrically and exponentially, respectively.
I've done my research -- hundreds and hundreds of articles on this topic (see my Network Marketing subject page on my site -- I've read pretty much everything at all the sites listed there). And after reading all that, I form an opinion, and that opinion is that many, many companies require high growth early on (how many dot-com companies have needed to show triple-digit growth?), and then eventually hit an equilibrium point. Just because the MLM companies and reps are (over-)pushing downline-building doesn't mean that an MLM company can't hit a stable equilibrium.
Remember, equilibrium does NOT mean static, because of the turnover factor described above. Every company is optimistic about being able to grow market share at a faster rate than the market itself is growing, and if they do that successfully, they will be successful. And why shouldn't they be optimistic? Look at Starbuck's. Were there really just not enough places for people to get a cup of coffee? I could run down the list of any number of successful brands that have sustained high growth for a period of time, even in a commodity market that was already being served by other companies.
The binomial expansion is what makes the MLM model attractive to companies that want to spur high growth for the launch of their product into the marketplace. That does NOT mean that the business model is not sustainable once the growth slows.
RE: article length/depth...
That article was by no means meant to be a comprehensive view of the totality of my opinion on MLM. I've got a couple of other articles on my site about it, plus links to numerous other resources that I've found to be good sources. This is a short article, that was written primarily to address the issue of the social behavior of MLMers -- you have to take the article in the context of all that.
For example, another article I did about six questions you should ask before signing up for an MLM opportunity, posed this question:
"How were you recruited? Were you recruited primarily as a customer, with just a mention of "income opportunity", or was the primary pitch about the business opportunity? The ethical way to build a downline is to sign people up as customers first, and then if they like the product, they'll be drawn to become a rep. A hard-sell on signing up as a rep right at the outset should send up a red flag for you."
Great comments from all -- and thanks for reading and having an intelligent conversation about it. That means I did my job. ;-)
To DWIGHTY:
A binomial expansion does entail two "terms" but they are not necessarily variables (that is one of four possibilities). It is commonly used with a variable and a coefficient: i.e, in the development of calculus ("x" and "delta-x"). If the "delta-x" is zero then the implementation is trivial. When dimensions (powers) are incorporated then it becomes a geometric progression (the pyramid).
To SCOTT:
Thanks for explaining your position in greater detail, it's much appreciated. What is your "take" on Quixtar?
"MLM is SOMEWHAT biased towards requiring continued expansion (but it's not alone in that)."
Where it is alone is that there is in the lack of confluence between who makes the decisions about expansion and who has the information about the prudency of expansion. I'll explain below.
"HOWEVER, there are MLMs in which there is a sustainable revenue model based only on direct sales to end consumers, rather than requiring one to continue to build a downline."
I agree. But wouldn't you agree that this is the exception rather than the rule in that industry? Recruiting downline to achieve "passive" or "residual" income is the centerpiece of MLM hype. It takes ethical leadership and careful management to keep the focus on actual direct retail sales. I didn't say the problem isn't solvable. It's just unique to MLM.
"The thing is, this is NOT unique to MLM. From the point of view of the individual business owner, EVERY new business has to grow until it hits a point of equilibrium."
But the business collects data and the business owners try to accurately guage when it reaches its market potential. Do they make mistakes? Sure. The point is, the people who make the decision about bringing on more sales reps or opening more stores have the information to make an informed decision. In MLM, they do not. Indeed, since the model tends to be hyped on recruiting, even when objective evidence comes in that there is little available market left, the recruiting just seem to continue since that was the point in the first place for most MLM participants.
The opposite actually happens in MLM. As retail sales plummet, the ONLY way to try to recoup investment is to RECRUIT MORE, which in turn creates a worse saturation problem, even lower sales per distributor. The company doesn't stop the recruiting in most cases because the only way continue to increase sales at that point is to recruit more distributors. Oila - you have a buyers club pyramid scheme.
"But if you're in a commodity business, like, say, cutting hair, the market is already saturated."
But does a haircutting business indiscriminately add more stylists or open new stores if they have no reason to believe there are enough customers to create a net profit? I think you make my point with this example. Equilibrium occurs because somebody is monitoring expansion and saturation and tries to tailor expansion accordingly. In MLM, the recruiters don't have the information to make this decision properly. Quick - name an MLM that publicly announced that recruitng should be slowed or stopped because sales per distributor were dropping through the floor.
Historically, MLM has a feature that takes it out of the ordinary process of finding market equilibrium. As it nears the saturation point in its customer base, it tends to transform itself into a buyers' club pyramid scheme. Case in point: Amway.
By the way, "saturation" doesn't mean there are NO people left to recruit or customers to sell to. You (and P.T. Barnum) are correct that more come along every day. "Market saturation" occurs when enough of the potential market for an MLM's products has been reached that the average cost of reaching additional customers is greater than the average return to the marketing venture from sales to these additional customers. So you can still have recruiting and sales going on in a saturated MLM. Very few people will be able to profit, however.
"But a new business still CAN enter the market, even in a "saturated" market, simply because attrition and turnover make a large enough pool of prospects available."
A new MLM always does well because the earliest particpants almost always show great profit through expansion. You are right. The early entrants get to pick up the refugees from the other, more saturated MLMs, plus they might be the first MLM for some of the new "network marketing virgins" arriving on the MLM market. And when the pool starts to dry up and sales per distributor for those poor souls on the bottom start to plummet, who puts the brakes on further recruiting?
That problem IS unique to MLM.
To Doug:
My take on Quixtar? I personally wouldn't touch it. Why? First and foremost because they sell commodity products and services and I hate selling commodity products and services. Period. Has nothing to do with MLM--I just find commodity markets boring and much too hard work for crappy margins.
You add to that the legal trouble they've had and just a general below-average reputation, and whether that reputation is deserved or not, I wouldn't be a rep for them.
To LawDawg:
I've seen and worked for several startups that were way off-base on the timing and size of their expansion decisions--disastrously so. In fact, in most cases, the people at the top were making those decisions without getting sufficient information from the people on the front lines who knew we weren't ready. In these cases, it was the people on the front lines who knew that expansion wasn't appropriate, and oblivious management that pushed it.
Those at the top are NOT necessarily best-positioned to see whether or not it makes sense to expand or not. In fact, I would say that it is those on the front lines that are probably in the best position to know this. HOWEVER, most of them don't, because they don't have the business expertise to look at it correctly.
I think you make a great point with this statement: "It takes ethical leadership and careful management to keep the focus on actual direct retail sales." I'm 110% in agreement with you on that.
With that in mind, I think the information flow should be that management provide guidance to the reps, team leaders, directors, etc., on when and how to grow their downline responsibly. Management sets the framework and direction, but the decisions are made on the front lines, rather than in a traditional command-and-control model.
RE: sales per distributor dropping through the floor...
Interesting point, although one could pretty well argue that MLMs are a meritocracy. Those reps that can establish a loyal customer base, identify a niche, and market to it effectively, will do well, regardless of the amount of competition from others selling the same thing.
Again, I come back to the commodity market issue, and to the matter of many MLM reps not having the necessary and appropriate business skills. If they did, they wouldn't have signed up as a rep for a disreputable company selling a commodity product in a saturated market.
But I place the responsibility for that squarely on the shoulders of the rep. You say the companies should limit the growth when earnings per rep drop. Why? Is that what would create shareholder value? Do they have an obligation to the existing reps to provide them trade protection, essentially? Or is it a meritocracy?
Again, it's a free-market model -- no protection, and that will likely mean stiff competition--direct competition from people selling the same thing you are.
So, it comes back to the issue of the business expertise of the rep. You not only have to distinguish yourself from other products, but from other reps selling your same product.
It comes back to the issue that I think the fundamental problem with MLM is not the business model itself, but the lack of business expertise of the people getting involved in it. If they had the necessary business expertise, a whole lot less people would be getting involved, the markets wouldn't be so saturated, the earnings-per-rep would stay reasonably high, etc.
A lot of people sign up as reps as an impulse buy, not as a well-thought-out business decision, and I maintain that this is the core issue. Like I said, fixing this would probably main a whole lot more people realizing that MLM isn't the right decision for them.
"It comes back to the issue that I think the fundamental problem with MLM is not the business model itself, but the lack of business expertise of the people getting involved in it. If they had the necessary business expertise, a whole lot less people would be getting involved, the markets wouldn't be so saturated, the earnings-per-rep would stay reasonably high, etc."
Who recruits them all? More importantly, why? What is being said that makes MLM so attractive to people with little business understanding or ability?
Rebellion to tyrants is obedience to God.
-- preteen models biz -- http://preteen-models.biz --
HINT: It IS the business model.
All of the problems Scott Allen goes on to discuss are pretty much unique to MLM. Furthermore, all of these problems exist only because there is no incentive to control how many people are recruited or who they are in MLM. That is unique to the business model.
Posted by: lawDawg | February 25, 2004 11:39 AM