MLMLegal.com Releases Comprehensive Analysis on Landmark Case on Pyramid Guidance and the Role of “Personal Use” in Pyramid Analysis
PORTLAND, OR–(Marketwired – June 26, 2014) -
Click for the full article analysis and actual BurnLounge case at BurnLounge Appeal Decision: Guidance on Pyramid v. Legitimate MLM and the Role of Personal Use in Pyramid Analysis
Excerpt of the BurnLounge Analysis Article:
On June 2, 2014, in the case of FTC v. BurnLounge, the U.S. Court of Appeals for the Ninth Circuit issued a seminal decision, affirming a lower court finding that the BurnLounge MLM (multilevel marketing) program was an illegal pyramid scheme, in violation of section 5(a) of the Federal Trade Commission (FTC) Act, a decision that will dramatically impact the landscape of direct selling to provide guidance on two fundamental legal issues:
(1) What activity constitutes a “pyramid scheme?”
(2) What is the role of “personal use” (by distributors) in pyramid case analysis?
Stakeholders: “We Won!!” Proxy Wars…
Victory has 100 fathers and defeat is an orphan. – John Kennedy (1961)
As with any inconclusive war, the stakeholders offered immediate statements of victory or vindication.
That is, other than BurnLounge. BurnLounge lost, and a permanent injunction was affirmed.
However, BurnLounge was a proxy war on the tests for “pyramid” and the role of “personal use” in pyramid analysis, among the interested parties, short sellers of publicly traded direct selling companies, publicly traded direct selling companies, industry spokespersons such as the DSA, the FTC, MLM critics, etc.
Each, in turn, issued press releases or statements claiming victory and validation of their respective positions.
The BurnLounge decision offered guidance for all stakeholders and a clear message for “going forward.”
To Short Sellers:
Rethink your criticism of direct selling companies. Distributors’ personal use is a legitimate end destination for product sales. Criticism of personal use is not a valid criticism. So long as distributor purchases are not merely incidental to the business opportunity, such purchases in reasonable amounts for personal use, coupled with rewards for one’s own purchases, as well as use by non-distributors and other distributors is as legitimate as a sale to a non-distributor customer, and is not a basis for a pyramid.
To the FTC:
Congratulations, you won this case on the facts presented. However, since the Omnitrition case (1996), you have been arguing the wrong legal standard on personal use for more than 15 years, albeit a slight diversion in a 2004 FTC Advisory Opinion that recognized legitimacy of personal use. The court pointed out: “The FTC counters that ‘internal sales to other Moguls cannot be sales to ultimate users consistent with Koscot.’” The court proceeded to roundly reject this contention noting that this argument is not “supported by the case law.” And so the message to the FTC is that personal use criticism will not be accepted in the future and the FTC should look back to its 2004 Advisory Opinion position.
To the Industry:
Accept your victory on recognition of personal use as a legitimate destination for product and representative of “sales to ultimate users.” However, “get your act together,” and adopt “best practices” methods and rules that promote product use over mere recruiting. The presence of personal use is not “a free ticket out of trouble.” It will be viewed as part of a legitimate MLM, but it is only one factor for the case by case fact based analysis of the “economic reality” of an entire program in which the acid test will be that the predominant and primary motivation of distributor purchases is for personal use or resale and not merely to qualify for rewards in the program by personal purchases and recruitment of others to do the same.
Major Impact of the BurnLounge Case
The BurnLounge decision will become a guiding legal precedent in the direct selling field and will become known for several significant legal signals, including the following:
(1) The operative facts of the BurnLounge program made it a pyramid scheme, primarily because of forced purchase of product to qualify for MLM recruiting rewards followed by recruitment of others to do the same.
(2) The court ended a multi-decade legal debate on “personal use,” in which it recognized that “personal use” of product/service by distributors as a legitimate end destination for product/service in which distributors are accepted as “ultimate users” under a long line of cases that differentiates pyramid v. legitimate direct selling based on an analysis of whether or not program rewards are “unrelated to sales to ultimate users.”
(3) The court established a going forward pyramid test that is fact-driven, and which balances whether distributor payments and commissions are driven by recruitment, on the one hand, or sales to ultimate users on the other hand, i.e., are distributor product/service purchases incidental to the business opportunity?
With respect to going forward, the following factors tend to be key in determining whether a program is driven by product sales to ultimate users vs. a program that is driven by recruitment in which distributors pay money or make purchases for the primary purpose of qualifying for rewards in the MLM opportunity.
Bottom Line Question:
When distributors pay money or “buy”: What do they pay and why do they pay it?
1. No inventory loading
2. Industry standard one year buy back policy
3. Substantial evidence of and mandate for retailing
4. Focus on product sales to customers and to distributors for use as ultimate users vs. recruiting
5. No mandated purchases beyond initial “at cost” sales kit.
(4) The court’s decision provides common ground that would allow the FTC and the direct selling industry to reconcile on an acceptable standard to both interests based on principles enunciated by the FTC in a 2004 Advisory Memorandum to the Direct Selling Association. The door is now open to “codifying” such a standard. A new standard would call out the legitimacy of personal use, but would also demand that MLM programs emphasize product sales to “ultimate users,” either retail customers or distributors for actual personal use as opposed recruitment, i.e., distributor purchasing that is primarily for qualification in the program with follow up recruitment for others to do the same.
The pivotal issue of “personal use” will be thoroughly covered in the next Starting and Running the Successful MLM Company Conference taking place October 2014.
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About Attorney Jeffrey Babener: Conference Host and Chairman, Editor of www.mlmlegal.com, as well as a leading direct selling attorney in the United States – With over 30 years of experience as a direct selling attorney, Jeffrey Babener has advised leading companies in the MLM/Direct Selling industry, ranging from Avon to Nikken, to Herbalife, to Melaleuca, to USANA, and to Excel Communications, plus many more. He’s been published in national magazines such as Money, Inc., Atlantic Monthly, Entrepreneur magazine, Direct Selling News, Direct Sales Journal, Success magazine, Money Maker’s Monthly. He’s authored several books, including his most popular Network Marketing: What you should know. Mr. Babener has chaired more than 65 national conferences on direct selling. He has served on the Lawyers Council and Government Relations Committees of the Direct Selling Association, and as general counsel to the Multilevel Marketing International Association. He is a graduate of the University of Southern California, where he was an editor of the USC Law Review, subsequently serving as a law clerk in the U.S. District Court for the Central District of California. He is an active member of the state bar of Oregon and California.