Sunday, January 19, 2014

MLM Dictionary: Amway Safeguard Rules

English: Honda- Amway(AVCL)Hồ Chí Minh
English: Honda- Amway(AVCL)Hồ Chí Minh (Photo credit: Wikipedia)
Amway Safeguard Rules represents a set of "rules" (actually concessions) implemented by Amway when it was sued by the Federal Trade Commission (FTC) in 1975. With the reform of the compensation plan where the IBOs (independent business owners, i.e. sales affiliates) are only paid for what they sell and what their downlines well, and the provisions in these rules, FTC reluctantly agreed that Amway does NOT fit the Koscot test for pyramid scheme. This was finalized in 1979, and became the basis for the entire "multi-level marketing" industry.

In the successful 1975 FTC prosecution of "Koscot Interplanetary" and earlier prosecution of "Dare to be Great", FTC specified the four specific problems they have with the pyramid scheme:

  • a) Large membership fees (Dare to be Great can cost up to $2000 or more in 1970's!)
  • b) Front-end loading (buying a huge "starter kit") and inventory loading (buying so much inventory just so your upline can get the commission)
  • c) Programs in which distributors were misled as to the amount of commission they might reasonably earn (misleading income claims), and
  • d) Programs in which commissions were not based on the sale of product to the ultimate consumers. (no true retail customer means it's a money circulation game)

SEC had also previously joined in the prosecution of "Dare to be Great" in 1973, as it considered a pyramid scheme similar to a ponzi scheme...  you put in money, and you expect to get more out of it with rather minimal effort, via the rule known as the "Howey Test".

In fact, many states as well as the US Postal Service have also joined in the prosecution of misleading direct sales, esp. those sent through the mail. Some argued that this patchwork of regulations, different from state to state, created such a hostile atmosphere for direct sales that it would have perished...

An infamous player of this era is called Cambridge Plan International, founded by Jack and Eileen Feather. Some of their most infamous products are "Mark Eden Bust Developer" (diet supplement to make women's boobs bigger), "Astro-Trimmer" (diet supplement that shrinks your tummy fat), and their namesake, the "Cambridge Diet", powdered drinks, soup, and such, only 350 calories, developed by Cambridge professor!  Cambridge eventually went bust when it tried to shift from mail order model (prosecuted multiple times for mail fraud) to direct sales, then the direct sales went bubble and burst. It started with 25 reps in 1981, to 150000 reps in 1982...  and declared Chapter 11 bankruptcy in 1983.

Direct sales basically would not have survived had Amway not survived the FTC lawsuit, and it did not survive unscaped. The ruling, 1979 FTC vs. Amway, resulting in a consent decree where the company agreed to several fundamental changes, that became known as the "Amway Safeguard Rules". (Incidentally, Amway also agreed to tone down income claims, and agree not to restrict the power of affiliates to set prices, i.e. price-fixing).

So what are the Amway safeguard rules? It's quite simple... 3 simple steps.

Amway Safeguard Rules, i.e. "Amway Rules" have 3 rules

1) "Ten Retail Sales Rule" -- if you don't make ten sales to ten separate people, you are NOT qualified to earn any downline commissions.

2) "70% rule" -- You have to sell 70% of what you previously ordered before you are allowed to re-order.

3) "Buyback policy" -- Amway will buyback any inventory you want to return within 6 months, at 90% or higher of the price you paid.

Amway have also adopted the compensation plan where there is NO bonus for recruiting additional IBOs. Only sales (by you, or your downlines) will be compensated through commissions.

These rules are designed specifically to counter the problems specified by the FTC in the Koscot case.  Rule 1, along with compensation plan, addressed problem d), while rules 2) and 3) addressed problem a) and b).

The logic is basically that with buyback availability in place, inventory loading / pre-loading cannot happen, or even if it happens, the victim will not lose much. And retail sales rule with no incentive to recruit made Amway not fit the last factor of the Koscot test.

With all of its objections satisfied, FTC reluctantly agreed that Amway does not fit the definition of pyramid scheme as per the Koscot test, and the 3 rules adopted makes it unlikely that Amway can become a pyramid scheme, at least a Koscot-type pyramid scheme where product only flowed internally, not to retail.

Critics of the decision claimed that FTC had basically legalized a specific subset of pyramid scheme as "legal", while direct sales industry lauded the decision as creating some uniform legal framework out of the chaos without stifling direct sales industry.

How can the Amway Safeguard Rules Be Side-stepped

Amway rules are actually quite easy to side-step

The "ten retail sales rule" is almost NEVER audited. Basically Amway asks the IBO to sign a paper certifying him- or her-self as having met the requirements, and that's enough. This was later enhanced in the "Webster vs. Omnitrition" case (which is an article / definition in itself)  However, it is clear that the retail rule had never been fully enforced by any mainstream MLM company. Instead, most companies simply reclassify their lowest rank of distributors as "customers" (Herbalife comes to mind).

The "70% rule" can be easily bypassed by increasing the amount of "self-consumption" (i.e. consumed by the IBO him/herself) to an amount beyond what is 'reasonable'.

The "buyback policy" can be bypassed by sending the upline and the rest of the sales team to guilt-trip / shame-attack the IBO to force him or her to recant the buyback attempt. And the upline is easily motivated to do so because her commission will be subject to "clawback" if the buyback was executed.  Furthermore, company has plausible deniability (what they do is not my business!)

Merely claiming to be following Amway Safeguard Rules does NOT automatically make a business legitimate.  That was the ruling in Webster vs. Omnitrition. Upon hearing that ruling (and their failure to obtain a declaratory judgment) Omnitrition settled out of court.

Amway Safeguard Rules vs Product-Based Pyramid Scheme

As scams evolve in sophistication, so did the pyramid scheme, and by weakening both factors within the Koscot test, as well as exploit the loop-holes within the Amway Safeguard Rules, a new breed of pyramid scheme is born: the product-based pyramid scheme.

In a product-based pyramid scheme, there is little if any real retail sales to non-participants. Most products are consumed by the affiliates themselves. Their excuse is they need to do that to qualify for the compensation plan of their specific level. And in turn, they tell their recruits / downlines to do the same, i.e. "lead by example". Ten Retail Customer Rules are ignored, and 70% rule are sidestepped with self-consumption. The buyback rule simply doesn't apply.

The net result is inventory loading, albeit, slightly shifted responsibility. Rather than upline convincing their downline to load up on inventory to enrich themselves, it's now upline convicing themselves they need to load up inventory to keep themselves qualified... and convince their downlines to do the same. Overall, a lot of inventory got moved, but little if any retail happened. Yet the company did indeed sell products and paid the reps based on the "sales", not on recruitment... Except each rep's monthly order is automatic... known as "autoship", so essentially, each rep's commission is based on recruiting additional reps on autoship.

Amway Safeguard Rule's Future

The safeguard rules do seem sound, but due to their severe lack of enforcement since the end of Clinton presidency, they have been rendered effectively useless.

However, with closing of FHTM in 2013, there is some indication that the Obama administration may again encourage the FTC to go after the violators.

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  1. Can't wait for the article on Omnitrition!

  2. By the way, I've read somewhere that part of the Amway rules is that AT LEAST 70% of all the sales made by the company have to be to an end consumer, not people inside the scheme (Distributors).

    Could you please elaborate on that? I don't really follow.

    1. That's an interpretation by Robert Fitzpatrick and Dr. Jon Taylor, an interpretation that's not exactly supported by FTC or pro-MLM folks.

      The 70% rule as per Amway Safeguard rule specifically refers to the reorder threshold, not sales by the company. here's explanation by Jeff Babener

    2. Hey pal. I got to read that, and a doubt arises: Can't the 70% rule be escalated to the whole company in general? Consider the following hypothetical case:

      All of the distributors sell products, right? All the sales from the company (100% of the sales) are made through the sales men. No online retail or shit like that.

      If we escalate the situation of each salesmen to the whole company, the 70% rule SHOULD apply to EVERY single salesmen under the company's umbrella, right?

      If that's the case, doesn't that mean that 70% of the entire sales made by that company MUST BE MADE to people OUTSIDE the sales network?

      It's an escalation, thing. When you run the statistics for that, it should make sense. I hope I get my point across.

    3. That's part of the problem with MLM in that it has a bit of talking out of both sides of their mouths problem, or left hand doesn't know what the right hand's doing, as they are arguing inconsistently.

      If they argue that there is no 70% rule, merely a majority rule (i.e. more than 50% of products must be sold to ultimate consumers), then do you count self-consumers, i.e. people who are in the plan, but also consume the stuff themselves? And where does that put the retail customers? And does the return rule apply to regular customers as well as distributors? And how much self-consumption is "reasonable", and why is nobody paying attention to Omnitrition, when merely "certifying" retail with no audit does NOT necessarily mean you are protected by Amway Safeguard rules? yet AFAIK, nobody actually audits retail?

      Amway once was quoted that 42% of its products were sold retail... but no explanation was given on how they arrived at the number, or what was definition of "retail".

      Willful blindness. They don't know, and they don't *want* to know how much retail do they really have. One more reason Herbalife had to resort to surveys to extrapolate retail.

    4. Amway's own study showed 3.4% of the products are retailed to customers.

    5. Got a citing for that? That "42%" thing was from an interview the owners did with CNBC, IIRC.

    6. 3.4% came from the TEAM lawsuit: It is also consistent with my 16 year experience as an Amway IBO. The entire culture downplayed retailing, I and many others were explicitly taught how to make a self consumption look like a retail sale. Also, probably 1/3 to 2/3 of the 3.4% was "sympathy" sales to close friends and relatives. IBOs routinely ship products to a nearby friend/relative, use the friend/relative's credit card, then go pick up the products with a check in hand to pay for them. There are other percentages claimed in that thread as well.

  3. Speaking of Amway, look at what I found...

  4. BTW What do you think of this book? Just bought it, gonna read it.

    1. I'm pretty sure this book is available for free download?

  5. Overall, good article. However, I don't think the "Amway rules" were concessions, they were already in place in 1975 when the FTC sued Amway. However, the court ruling essentially "locked-in" these requirements, as they were reasons for why Amway was found NOT to be an illegal pyramid. Also, there are serious questions regarding whether Amway only claimed to have retail sales or were verified to actually have retail sales. A former Assistant AG from Wisconsin, who settled a case against Amway while in office, believes only the claims were presented in court, not the verification of retail sales. The difference between a rule not enforced and not having a rule in the first place is zero.

    Also, the 70% rule was redefined as including self consumption. I don't have an issue with this, as the main purpose of the 70% rule is to prevent inventory loading and there is a separate retail sales rule (which is not enforced, but that's a different issue).

    The most significant problem was the FTC either wasn't aware of, or ignored the tool scam, which makes 10X or more for the higher level Amway distributors. The lack of retail sales pales in comparison to this issue.

    1. In a way, the tool scam benefited the toolmakers, making Amway an accomplice by default but perhaps not by their own intent, but they will benefit from it somewhat, so they really have little incentive to crack down on them until they are exposed, and then they can shift blame as "they didn't do it right, we disown them".

    2. The question about "self-consumption" is how different is this really from "inventory loading"? And what's the threshold? SMALL amounts of self-consumption may be fine, but if every affiliate self-qualify commission via self-consumption, and all their downlines are ALSO self-consumers, then are there really "retail sales"?

  6. Amway is definitely an accomplice, especially since DeVos said he would shut down the tool scam in his 1983 "Direct Speaking" recordings and never did, that's what makes the tool scam RICO fraud. Amway has bailed out the tool sellers before, in the record company and Pokorny lawsuits. The tool scammers were shut down by Herbalife after being exposed, and Amway's tool scammers were shut down in the UK and India after being exposed, now it's time for the rest of the countries Amway operates in as well, I'm interested in the U.S., which is where I am and where many of the tool scammers are based. It would be very difficult for Amway to disown them, after being aware of them for so long and being through so many lawsuits together. They are joined at the hip.

    I'm not very concerned about the self consumption, because:
    1. The higher it is, the higher retail sales to external customers has to be, assuming the 50% "rule" of the "primary" source of profit needs to come from external sales, or
    2. Assuming Amway's 10 customer rule, if it were enforced, would also lead to significant external sales.

    1. Fair enough. We all have to specialize in some aspects. You're the expert of toolscam (Amway or not, but they're definitely the "pioneers" of that slice of pie). I'm more of scam psychology and general analysis. :)

    2. All you have to do is read and learn about Amway's tool scam. I even have a website that has tons of information about it:

  7. Also, Clinton didn't do squat, the lack of retail sales issue has been in place since the Kennedy administration. Democrat and Republican administrations alike haven't done much about illegal pyramid MLMs, except for take some very small bites around the edges, with the possible exception of the current Herbalife investigations.