Ep. 6 - Why Law is Failing with Doug Brooks
Links for Robert and Melissa:
Robert’s book: Ponzinomics
Robert’s Website: Pyramid Scheme Alert
Melissa’s Podcast: The Teacher As...Podcast
Transcript:
Melissa Milner 0:15
Welcome to Ponzinomics 101. I'm Melissa Milner. I'm a 30 year veteran teacher and host of The Teacher As... podcast.
Robert FitzPatrick 0:22
And I'm Robert Fitzpatrick, author of the book Ponzinomics, the Untold Story of Multi-Level Marketing.
Melissa Milner 0:30
We are co hosting Ponzinomics 101, a monthly educational podcast for anyone who would like to learn more about multi-level marketing, and why it should be avoided.
Robert FitzPatrick 0:40
We hope this podcast will be a resource for teachers and parents and provide valuable information that is not currently being taught in our public schools, colleges and universities.
Melissa Milner 0:55
If you are a teacher who has created lessons about MLMs, and you're willing to share your work with other teachers, please go to our website, ponzinomics101.com, to contact us. If we get enough lessons from teachers, we may start a Teacher Resources tab on our site to share the great work we're all doing.
Robert FitzPatrick 1:13
The best defense is awareness. Be informed, think, question everything, and keep your mind engaged.
Melissa Milner 1:23
In this episode, we're doing something a little different. Instead of Robert teaching a short lesson to be used in the classroom, this chat is meant for parents, teachers, and anyone else concerned about MLMs preying on our youth. This is not about individual MLM companies, but the MLM industry itself. And I'm very honored to be with Doug Brooks and Robert Fitzpatrick.
Doug Brooks 1:46
Thanks for having me, Melissa.
Robert FitzPatrick 1:48
Yes, I want to give a brief introduction to Doug, because I've had the privilege of knowing Doug for I think over 20 years, maybe a little longer, actually Doug.
Doug Brooks 1:59
Yeah, I think so.
Robert FitzPatrick 2:01
We won't count too too carefully here. But during that, so this is a long range and a longtime relationship that we have had. And is particularly focused on pyramid schemes, multi-level marketing. Along the way, I've dealt with many attorneys and law firms that have also stepped into this area. Doug is unique in this field, he has the most clearly the most in depth understanding of multi-level marketing, which is a multifaceted, it is not just a legal matter, obviously it is a sociological, is an ethical issue. Of course, it involves health and products and many other things. And he's had knowledge of every aspect of it. Additionally, he has been an advocate attorney for this. So this is not just somebody that has taken on cases and so on. This has been obviously part of his mission as an attorney, to represent people who are being victimized and to also take a stand for the truth. Doug was one of the first people to point out to me, that law ought to be grounded in reality, that just saying something's legal or illegal is not an abstract notion. Law should be grounded in reality. Multi-level marketing, as we know, is it plays upon delusions and illusions and deception. And so it is an area where the law ought to be a force for protection. And Doug certainly has been a stand for that. He's based in Boston. And he's been working in this area over 20 years, 25 years, perhaps, and has been in some of the major cases against some of the largest MLMs. He's also represented individual people who have been attacked by MLMs, with these cases to silence them, too. So he's been on both sides, prosecuting on behalf of consumers and protecting individual consumers who have been attacked by these companies. I think that should get us started, Melissa, as to Doug's credentials here.
Melissa Milner 4:24
Yes. And with that perspective, we can jump in with not the easiest question, but certainly one that that Doug and Robert are going to be fantastic in trying to answer is why is the law not working against MLM?
Doug Brooks 4:39
Well, I'll start and Bob, I'm sure as I know, he has a lot of thoughts on this. My My feeling is it really goes it's it's back to the 70s when the Federal Trade Commission was first beginning the its investigation and prosecution of some of the earliest MLMs companies like Koscut Interplanetary and Holiday Magic, and later on Amway, early on in in its investigation of multi level marketing companies, the Federal Trade Commission decided that it was going to permit MLMs to function provided that there were sufficient retail sales, meaning sales to bonafide the consumers. And that what that decision didn't have to be made, they could have simply said, Hey, these, these businesses, so called businesses are so deceptive and, and the losses are so great. And the people that succeed, it's such a tiny percentage, we're just not going to permit this type of, of offering to be to be made. It's just it's they're basically pyramid schemes. And they're not a particularly effective method of distribute distribution. And we're just not going to not going to permit them. They didn't do that what they said is, as long as at the bottom of the chain, there are real sales being made to real consumers, we're going to permit them, that decision has morphed over the years and into this, the situation that we have today is, in order for the FTC to to go after an MLM company, they have to do a very intense and difficult and time consuming investigation to determine to what extent products are actually being sold to bonafide the consumers. It's a very tedious, difficult process. And when you've got a an industry where there are, say, between 800 and 1000, MLMs, operating at any given moment, the FTC simply can't look at all of these companies and make that determination. They typically when they do investigate a company, they are successful in in shutting it down. But that, you know, that type of case by case enforcement is not effective in protecting consumers from this industry. That issue of does, you know, should consumer sales be sufficient to protect these companies from serious enforcement? That's sort of the original sin of the of the multilevel marketing enforcement arena.
Melissa Milner 8:05
Yeah, but it's interesting, because sometimes it's the distributors themselves, who are the consumers and that there needs to be some way of I don't know, making that clear that it has to be people outside of the business that are buying these things.
Doug Brooks 8:21
Absolutely. And one of the one of the early cases, the case against Koscot Interplanetary, the FTC made what appears to be a fairly clear statement saying number one, the commissions have to be based on consummated retail sales. And number two, retail sales means a sale to someone who is not trying to participate in the opportunity.
Melissa Milner 8:52
Okay.
Doug Brooks 8:53
So if if Koscot were, had been followed to that, along those lines, we wouldn't have such a problem that we do today. But unfortunately, about four years after Koscot, the FTC decided the Amway case, this is in 1979. And even though the Amway decision paid lip service to Koscot, the the the implication of the decision was very different. The in the Amway system commissions were paid before the products were sold to consumers or really without reference to the products being sold to consumers. Commissions were paid as soon as as soon as a distributor bought an inventory of products. The commission was paid to the upline. And what Amway Amway is defense was well, we have rules that we enforce and that are effective in ensuring that those products ultimately get retailed. And they had the so they had the 70% rule which says that 70% of the distributors products have to be sold before they are allowed to make another order. And then they had the 10 Customer Rule, which said that a distributor has to sell to 10 different customers each month. And they had the Buyback Rule, which said that a distributor had to buy back products, but that that a lower level distributor wanted to sell back because they couldn't sell them. So the Amway, Amway's defense was those rules, were essentially were a good, valid substitute for the requirements in Koscot that products actually be sold to bonafide consumers before any commissions were paid. That decision really opened the floodgates for the MLM industry. Now, MLM companies had a roadmap, and essentially, they would adopt some version of those Amway rules and that became the talisman for legality. And it is only fairly recently that the FTC has has said, No, the Amway rules are not a safe harbor, it's not sufficient for you to simply have these rules on your books, you actually have to prove that you have bonafide retail sales in order to not be considered a pyramid scheme.
Robert FitzPatrick 11:58
All of that history that that went through there and the distinctions I can add to that, but the first point is that the law isn't working, that we should reinforce that. It really is not working. And, and I say that because even in those rare cases, as Doug pointed out, the Federal Trade Commission has to do these things one at a time, it's very time consuming, some of these cases can go on for five years, and so on. And there are hundreds and hundreds of them operating essentially, identically. But the FTC is working at these one at a time. I mean, it would be like trying to get rid of termites in your house, but by going after each termite one by one. So I mean, it's just an impossible task. But even those companies where they do successfully prosecute them and shut them down, some of them had already been operating for a decade or more, and had enrolled hundreds of thousands of people turn them in and out only eventually to be prosecuted. So I mean, this is a classic case of the law, just not working, even where the law is enforced. It's only it only exhibits the reality it displays the reality that the law was ineffective here. So this is for me, as an advocate, and as somebody that gets called upon by the media frequently to comment about this, I ended up saying to consumers, the wise thing, the smart thing, the safe thing for for a consumer to do, is to not expect that the law is protecting you here.
Melissa Milner 13:47
Yes.
Robert FitzPatrick 13:47
That that's the main thing, just because the company is operating in open in the open, actively recruiting boldly and so on, doesn't mean that it is legitimate or legal. If it were ever actually prosecuted, the odds of it being prosecuted are very low. And even if it were, the damage can be done, you know, on a vast scale long before the government actually, you know, does its job here. So, it to put it into a context, this is a case where the consumer is really on their own. And hence there is a movement of consumers to get the the law enforcement authorities to look at this more as a phenomenon as an industry as a as a type of company. And to get away from this one at a time approach, which is proven beyond any doubt. It doesn't work.
Doug Brooks 14:50
Yeah, I totally agree. Bob, and I think this this discussion sort of leads naturally into to a related issue, which is, what would be the alternative to this case by case enforcement. And the alternative, at least from the Federal Trade Commission's point of view would be to have a regulation that applies to all MLM companies. And both explicitly and clearly defines what a pyramid scheme is, and when, when an MLM would be, or should be considered to be a pyramid scheme. But also would protect against a lot of the problems that are associated with MLM like deceptive earnings claims, and deceptive products, claims and things like that. And so I want to note that the FTC has had the opportunity to have such a rule that would apply to MLMs. But they have so far failed to do it. The first opportunity was when they they passed a franchise rule, which was in 1979. And this is a rule that requires franchisors to provide a very detailed comprehensive set of disclosures to prospective purchasers of franchises, before they pay any money, before they sign a contract. And this is a rule that has functioned very well and has really turned the franchise industry from sort of the wild west into a very relatively smoothly running industry, there certainly are problems with franchising, but the the out and out fraudulent operators have been, you know, essentially weeded out of the of the industry, it's fairly rare to see a, a totally fraudulent franchise opportunity being being shut down these days. But one of the flaws with the franchise rule is that it only applies to opportunities that cost at least $500 within the first six months. So the MLM, folks, you know, it's very easy for them to evade the application of the franchise rule, they simply charge, you know, the the initial fee is always less than $500. And that's enough to, for them to avoid being covered by the franchise rule.
Robert FitzPatrick 17:55
And then all the other costs can be called optional or not required.
Doug Brooks 17:58
Right.
Robert FitzPatrick 17:59
So you can spend 10,000, as we saw in the LuLaRoe case, people were spending upwards of five and even $10,000 to get started, but they didn't have to.
Doug Brooks 18:09
They weren't required pay.
Melissa Milner 18:11
Exactly. Before you move on. I think I understand. But let's talk about these regulations for a second. Does that... it still means that the FTC has to go after these individual companies?
Doug Brooks 18:25
Yes.
Melissa Milner 18:26
If they break the regulations.
Doug Brooks 18:28
Right, that would still be enforcement? Yeah. Although the way the federal the franchise rule functions is that there is general widespread compliance, because companies know that if they fail to comply with the rule, they're, they're going to be in serious trouble very, very quickly.
Melissa Milner 18:50
So the regulation just makes it more like you better do this kind of a message.
Doug Brooks 18:56
Yeah, it's much it's from from an enforcement point of view, it's much more easy to to bring an enforcement action for violation of a regulation than it is under the the general enforcement authority that the FTC has, because of the FTC has, it's a very broadly worded statute that covers unfair and deceptive acts or practices or unfair methods of competition. And it's sort of left to the FTC to on a case by case basis to figure out what what those terms unfair and deceptive actually mean. But one of the ways the FTC can do that is by enacting regulations. And those regulations can specify in in very great detail, this what types of conduct would be considered unlawful, and that that makes their the whole process much easier and more streamlined than if they're simply proceeding under the unfair, deceptive aspect of the of the statute.
Robert FitzPatrick 20:04
Melissa, I wanted to also add to this, because Doug alluded to a historical event there 1979 particular case, and then an earlier case, which goes back into the few years before that Koscot. So we're telling a story here about the legality or illegality of MLM, citing these historical events in the legal world. But prior to that, prior to that Amway decision, which was in 1979. We, we've lost recently, a state regulator, who had been involved in prosecuting these same schemes. In that period before they became, let's say, legalized through that Amway case, effectively legalized, which was a Bruce Craig and Bruce Craig, always made it so simple for me to understand that the the essence of the illegality of the schemes and before this, all these legal distinctions were made, as Doug pointed out, 10 customers and having to prove that there's no that there's, you know, retail sales, was just this one naked fact that the business offered its main income proposition was based on an endless chain, an endless recruiting chain, that's that was the proposition, you recruit five, they recruit 25, you're getting a cut on everybody forever. That was...that is the proposition. And and, as Bruce just point out, this was understood throughout the regulatory world as an inherent fraud, inherently deceptive, unsustainable, and therefore, inherently unfair, and therefore illegal. This wasn't really a question of even controversy, and that he could, in prosecuting these such schemes in his state could go to a judge and just say, endless chain, that was pretty much enough to get an injunction.
Melissa Milner 22:16
Wow.
Robert FitzPatrick 22:17
So I mean, we have to see that the law in effect, kind of coalesced around protecting something that previously had been well understood to be an inherent front. Anybody in business understands this, that has been in business, that if your business depends, and we are watching this now, with this collapse of cryptocurrency, that's just now occurring. The largest trading company for crypto is got just declaring bankruptcy. And the value of the biggest crypto currency Bitcoin has has lost about 70% of its value this year. What's behind crypto? What's the value? What's the establishment of the value is? Well, what will the next guy pay? You know, I paid 10. Is there somebody out there, it'll pay 12? If there is then it's worth 12? And that's kind of what multilevel marketing was based from the beginning, I buy a distributorship. Is it worth anything? Well, not unless I can get four or five others also to buy. If they buy, then my distributorship suddenly has value. If I don't, it's not worth anything, because there's really no retail opportunity. And the the income opportunity from the recruiting would so dwarf any possibility of money, I could make retailing, that the retailing becomes a kind of a sideline. But I think that history is something we should always keep in mind that there was a time when the just the naked facts of these things were relatively obvious to regulators. And it was only until these court decisions came in, that this thing gained some legal footing. Do you think that's accurate, Doug, what I'm saying there?
Doug Brooks 24:07
I do. And I'm glad you brought up Bruce, who I admired and very deeply and I just use just a wonderful guide and mentor through through much of this stuff. And I want to say he was an assistant Assistant Attorney General for the state of Wisconsin. And one of the things he did while he was there is he drafted the the Wisconsin regulation on what constitutes a pyramid scheme. And as far as I know, the Wisconsin regulation he drafted is the only law or regulation that is not dependent on retail sales. It's just based on on what you know, Bob, what you're saying about the endless chain. Every other statute and regulation that I've seen, has this sort of protection for the industry based on retail.
Robert FitzPatrick 25:03
Safe Harbor? Yeah.
Doug Brooks 25:04
Yeah, on retail sales. And let me just say long as we're talking about the legal things, I just there's the other regulation that should have covered MLM, but doesn't is the FTC's business opportunity rule that became final in 2012. And the business opportunity rule was designed to cover business opportunities that weren't covered by the franchise rule. In other words, things that cost less than $500. And when it was initially proposed by the FTC, it was going to cover MLMs. But the industry, the MLM industry, amounted a multipronged multimillion dollar lobbying campaign that was very effective and one, then an exemption from the business opportunity rule. So that multilevel marketing is the one type of business opportunity in the United States that is not covered by a pre sale disclosure requirement. And I think I you know, one of the things I think you wanted to talk about, Melissa, was the, the the lobbying power of this industry. And I think that that is the the the most compelling example, I can think of where the industry was able, without any any logical or rational justification, they were able to get themselves exempted from a rule that that really was, if not primarily intended to go after MLM was simply was certainly intended to cover MLM opportunities and to require pre sale disclosures before people started participating in and in the MLM company.
Robert FitzPatrick 27:07
So there again, a rule would have simplified prosecutions, you know, because it would have been covered so the MLMs would have had to conform and so on. And that rule, when you read the proposal, when the when the FTC put out its initial proposal for the rule, it was very obvious they were aiming at multi level they these were the types of business opportunities not covered by the franchise rule. And at the end, after this lobbying ad Doug described, they exempted the very type of company that the rule had been originally designed to cover. So the it was beyond a reversal. I mean, it was almost a contradiction of of themselves. That in the end of what they had had to do, they also attempted to say that all the criticisms of multilevel marketing were somehow anecdotal, which is to say, the evidence of loss has something that is something else that has sort of remained and did remain for many years, an unrevealed, unknown, if you were to attend one, another colleague of ours, John Taylor, who had been involved in one very large MLM himself for a year or two, and then realized what was happening, and then made a study of this, which really consumed him for the rest of his life. And what he discovered in the his study was, virtually, nobody ever made any money, statistically. And John spent a long time because he had good depth in statistics, and really studied these so called income disclosures. And even though they were obscured, they still revealed the basic reality that less than one in a 100 on a year's basis, could be called profitable. But over time factoring each earning, it was really closer to one in 1000. So we're talking about 1/10 of 1%. And he would go to these enormous rallies. And people were on stage talking about what a tremendous income opportunity this is. And he would just say that if only he could grab the microphone and say something like, look at the numbers, look at the...first, you know, because it was real, he knew it. But incredibly, obviously nobody in the audience really knew it. But the FTC attempted to act like it really was not a known fact that I mean, they could have easily gathered the data on the loss rates here, but they just chose not to. So this illusion remained in force across the country, that even though salaries were going down, and job security had disappeared, and so on, and things were going up in price, there was still one area where income opportunity was still tremendous, unlimited, extraordinary, beyond your wildest dreams. And that was multilevel marketing. If you're lucky enough to get into it. That became the popular delusion and the FTC actually just sort of let that delusion just stand, even though the data was there for them to debunk it.
Doug Brooks 31:02
Two other things on the regulatory front that that people may be interested in. One is that earlier this year, the Federal Trade Commission requested comments on a proposed earnings claim rule that would prohibit deceptive earnings claims in a variety of businesses, including MLM, but also including gig economy. Things like Uber and Lyft. Coaching things, work at home operations. And the idea, I think, from their point of view is is you know, it's very difficult to prove something is a pyramid scheme, but it's fairly simple to prove that someone is making deceptive earnings claims.
Melissa Milner 31:56
Right?
Doug Brooks 31:57
Because if you make an earnings claim, you should have a reasonable basis for making that claim. It should be... you should have numbers to back it up. And so one from an from an enforcer's perspective... it is if they had a rule that would prohibit these types of claims, that would make it possible to maybe rein in some of the worst abuses of this, this industry. The other thing I would point out is that just yesterday, that was November 10, the FTC issued a an announcement that they were, and they periodically look at their rules that they've already promulgated. And they've asked for comment as to whether the rules should be kept in place, modified, extended. And this is happening with the business opportunity rule that I mentioned before. The business opportunity rule has been in existence for about 10 years, so it is up for this type of analysis. And I intend to argue that that MLM exemption should be undone. I hope, I hope others will, as well. I don't know what the FTC is inclined to do, or thinking about doing there. But this, this process of rulemaking is continuing. And I do think it's fairly likely we'll see something in the in the form of a rule prohibiting earnings claims, whether they'll also be an expansion of the business opportunity rule, I think, is an open question. But that that would bring us up to date.
Melissa Milner 34:01
Do you think the anti MLM people helped kind of get some of this rolling or?
Doug Brooks 34:06
Absolutely, I think the when the earnings claim announcement was made, and there was a period for public comment, there were over 1600 public comments and the vast majority of those were by anti MLM people who were, you know, talking about their experiences, talking about the problems they had, talking about the earnings claims that led them to join these companies. And I think the FTC is listening, and there have been a few public comments by FTC officials since then, which have indicated that they are they are paying a lot of attention. And they were impressed by that public comment campaign that a number of people in the anti MLM movement put together and there was a real organized effort. Totally unfunded and you know, no, no budget. But, but it's just this was really a true grassroots effort to get a government agency to take a serious look at a serious problem. So democracy in action.
Robert FitzPatrick 35:19
Something else to, Doug, that goes along with this. Between the time when the FTC exempted MLM from the business opportunity rule to today, or recently, when they introduced the income earnings rule comments, a lot of information has been generated in that is in the public sphere now, that has is directly the result of these anti MLM podcasters, researchers, bloggers and and some documentaries that have now come out. Two, in particular that have been out in films that have been seen by millions of people. There's now been a show on Showtime a series called On Becoming a God in Central Florida. The absurdity of MLM, the loss, the embarrassment of losses, has been integrated into comedy shows a lot today. MLM's reality is now more established in the public sphere. And in the past, the FTC maintained this pretense somehow that well, we don't know, you know, you can't say that. And that's just anecdotal. And so on, but today, you see, in almost every news story, the figure 99% of the people involved, don't make a profit. And that that is a remarkable breakthrough. Because the MLMs functioned for so long with this veil of pretense that it really was a genuine income opportunity. And anybody that said different was just biased. That could be their only motive, because the facts were not known. So they implied that if the facts were known you would see that it really is a great opportunity. It's just some of these people don't don't want to recognize it, for some reason. They're just... don't like success or something. So I think that this has been a factor that that, you know, again, civil society did... brought these facts out, the FTC has never conducted a study of the MLM industry, they've produced no data, there's no government agency monitoring this or gathering data, producing data. The only large organization that does do it is the MLM industry itself, the Direct Selling Association. So this, this real data on the loss rates came really from people on their own independently and then having the courage to go say it out loud.
Melissa Milner 37:52
Exactly. That was quite a delve into sort of a little bit of the history of the laws and trying to have regulations. I know, some of the very popular anti MLM people online, did a whole letter writing campaign that, you know, the regulation to on income claims. I think we're going to stop there. And our next episode, will be how to parents teach their kids to stay out of this. And so that will that will be the next episode. So thank you, Doug. And of course, Robert. Please remember to check us out on Twitter, Facebook and Instagram @ponzinomics101 and check out our website www.ponzinomics101.com We hope you spread the word about this podcast because the best defense is awareness. Thanks for listening.