The 5 Fatal Flaws of Multi Level Network Marketing (MLM)
I will get straight to the point.
In studying network marketing, i.e. multi-level marketing (MLM) for two years, specifically by studying a scam that claims to be MLM, but also a lot of peripheral research, I have came to the conclusion that MLM business model is fundamentally flawed, and thus, can be a VERY DANGEROUS business to participate in, if you don't go in with all the facts.
Basically, if a MLM is selling a dream of "passive income", not selling products, that MLM is essentially encouraging the itself to turn into a pyramid scheme because of the five flaws in the system itself.
The five flaws are:
- Creating your own competitors
- Conflict of Passive vs. Active Income
- Questionable profitability of product
- Similarity to Pyramid Schemes
- Cult-like indoctrination of members and prospective members
Add to that problems like
- Pseudo-MLM scams
- Late Government Intervention
And you have a VERY dangerous business to be in.
Let us study the five flaws one at a time, and the two additional factors. We will later discuss what are the warning signs to look for, and whether any legislation or reform can be done about it.
Actual quote from a travel MLM compensation package, note the part about getting bonus if you "sponsor" more "associates":
Weekly Dual Leadership Bonuses
• Paid down to 3 Generations when Teammates Cycle
• Sponsor 4 Associates earn $75.00 for each Compass Cycles
• Sponsor 6 Associates earn $150.00 for each Horizon Cycles
• You can be paid $225 over and over again as Teammates Cycles
What about Real Estate? Don't they train agents who then become competitors?
There are non-competition clauses written into most training contracts. Furthermore, all real estate agents must work through a licensed broker, and real estate agents work better in groups where more needs and wants can be matched. Real estate agents work off large ticket items where commission split still results in significant pay. Real Estate agents are licensed and tested, and numbers are limited, unlike MLMs where there is no qualification (other than joining).
Flaw 1: Creating Your Own Competitors
In a multi-level marketing plan, you need to sell things, but you also need to recruit other people who also sell the EXACT SAME THINGS and get a split of what they sell as commission. Essentially, you are creating your own competitors. Is that a sane business practice? (What the "things" are will be discussed in Flaw 3)
Think about it: if you recruit someone from within your own social circle, you pretty much just creating an equal competitor, and that will decrease your own sales. Will what you gain from recruiting that person (i.e. the cut from his sales) be enough to offset the loss of your own sales, and thus, income?
Some of the MLMers are taught to recruit your best customers. That is even MORE insane. You just turned one of your best assets, a repeat customer, into a COMPETITOR!
Not only are you expected to create competitors, you are supposed to create lots and lots of them. Most so-called "matrix" plans asks you to create as many competitors as you can, all vying to sell the same product, and you are actually REWARDED for such behavior by "filling the matrix" or "cycle out of the board" and so on!
What sort of sane business rewards its sales people by encouraging them to create competitors, AND train them, all selling the same product? This only benefits the company, not you, but they lure you in with the promise of "creating passive income".
Remember, the company doesn't spend a penny on training and marketing. YOU, as a member, will be doing all the training and marketing, and PAYING FOR IT YOURSELF. (Also see flaw 3: questionable profitability)
Usually the business and upline explains this problem away by rationalizing it as "generating passive income" by training their downlines. However, that is the next flaw in the MLM system.
NOTE: Scenario presented is extremely simplified and thus only serves as theoretical illustration of general concepts involved. Most compensation plans are much much more complicated than this, using various terms like business volume, points, ladders, boards, matrices, and so on, with different commission at different levels. Furthermore, marketing costs, because they are borne by individual members, can only be estimated.
Flaw 2: Conflict between Active vs. Passive Income
One of the "draw" of MLM is the promise of passive income, in that if you recruit enough good people under you, they will make themselves, the company, AND you lots of money, without you doing anything else. However, this is inherently contradictory with the message that MLM is about marketing a particular product, because you basically must recruit a LOT of people in order to make that sort of passive income. So what are you supposed to concentrate on, recruiting, or sales?
Or stating it another way, if MLM is REALLY about selling products, why does its very business model rewards recruiting more people, with the promise of "let someone ELSE sell the products"? If everybody wants to "let someone else sell the products" (i.e. generate passive income), who will actually sell the products?
Are there any scenarios we can look at to see if passive income is viable? This question is very difficult to answer without using a lot of assumptions, as there are a lot of factors, such as profit margin if selling alone (which is heavily dependent on marketing costs), company sales requirements, market size and expansion when new people are introduced, and so on. However, we will construct a theoretical scenario: let us compare one guy, selling the stuff alone, vs. the same guy, living off only commission.
Let's say this guy is selling $10000 worth of stuff every month, and profit margin, after accounting for all marketing expenses, is 10%. So profit is $1000 per month.
If he recruits another sales people, who basically took over all his leads, so he just sits back and relaxes, how much can he make? This depends on what sort of commission he can get from the sales. However, let us assume... 5%, which is a decent number. We will assume a flat 1 level organization, as a multi-level commission structure is just too hard to calculate with the space available here.
So he simply makes $500 without doing anything. However, that's HALF of his income from before. So he needs to sell stuff to maintain his $1000 per month income.
But he won't be able to sell $10000 worth of stuff as before, since he no longer have the leads, as he just created his own competitor. Let us assume they each found 10% new customers somehow. So the total sales is now $12000. However, it's now split between two guys, so each makes $6000 sales, so each pockets $600, and the upline pockets additional $300 as commission (5%), so he has $900.
What if he recruits TWO people, sits back and do nothing? Sales is $12000 (assuming each new guy manage to expand the business by 10%) so this guy makes $600 doing nothing. Each of the downline makes 600 in direct profit.
The numbers don't improve much if you increase the number of downlines, assuming that every sales person increase market by 10% so recruiting 10 people doubles the market somehow. At that point, with $20000 in overall sales, he can sit back, do nothing, and still pocket $1000 a month. Unfortunately, each sales person now has only 2000 (20000 divided by 10) in sales, and they each make $200 (10% profit).
So the choice is pretty clear: he can work his *** off every month, and sell $10000 worth of stuff to make $1000, or he can recruit ten other people to sell the stuff, do nothing else, and still pocket $1000 every month.
After all, isn't that the dream? To be making money even when lounging on a beach somewhere? It is no surprise most MLMs sell you this particular dream: do no work, make money.
It teaches the guy on the top to recruit a lot of people, and let THEM do the sales, and get rich off THEIR efforts. That is the optimum result, and is what everybody strives for. Everybody will want to be on the top end, where they don't have to work, and people at the bottom "support" them. Nobody wants to be on the bottom. However, there must be a bottom somewhere... The end result is nobody want to do active income, everybody wants passive income, and to achieve that means to recruit. Nobody wants to sell anything.
That's a pyramid scheme by its very definition.
We are actually assuming that the product actually can be sold to generate profit. Sometimes, even that may not be true, which brings us to flaw 3...
Example 1: A certain coffee MLM wants to sell you individual packs to be resold at TWICE the cost of Starbucks VIA individual packs coffee. (Wholesale price is still above price of Starbucks VIA coffee) The coffee is of questionable quality (one comment claims they taste worse than supermarket stuff). They may have the profit margin at MSRP, but they are not marketable against known brands and are redundant, and there is no profit if there are no sales. This basically forces all members to recruit new members and have them sign up for monthly autoship (i.e. force members to buy bad coffee), thus artificially generating sales, by promising them great income... if they also recruit people to buy more bad coffee.
Example 2: A certain travel MLM wants to sell you trips to be resold to the public, and promise to split with you 50% of any commission they get. They keep mentioning that this industry is an 8 trillion dollar industry. Unfortunately, the airline and travel industry overall is in a slump due to high fuel prices and bad economy, so average profit is less than 3% (airlines are reporting profits of less than 1%) If you quarter that (industry gives half profit to the MLM, and MLM gives you half of that), you get virtually nothing. If you sold $1000 vacation to someone, lets say company gets 2%, so you get 1%... That's $10. How many trips do you think you can sell in this economy? The product may be viable, but it is redundant (there are a bazillion travel websites out there) and generates virtually no profit. This essentially forces all participants to turn to recruiting new members as the primary way to earn income through this MLM.
Flaw 3: Questionable Profitability
For a business to be successful, MLM or not, its products must be marketable with sufficient profit after marketing costs to enrich the company AND its sales people. Unfortunately, for many (most?) MLM businesses, they fail this test miserably. Most MLM products are redundant (already available in traditional channels), overpriced (when compared to known national brands), have zero reputation behind it (being brand new), have insufficient profit margin to cover the company, the individual members, AND pay commission, or various combination of factors listed.
Whether a product is profitable to the seller or only can only be determined after ALL expenses have been accounted for. Network marketing presents itself as "low cost", but that's only because they did not tell you about the marketing and recruiting costs at all. You will be paying that out of your pocket. Most people barely break even and eke out a small profit after accounting for all expenses such as printing flyers, buying training material, pounding the pavement and calling prospects, and so on. The profit they generated mostly went into the expenses. Net profit is actually quite low, if any, despite what appears to be high profit margin.
Furthermore, the so-called "low startup cost" or "low investment", as touted by various MLM proponents as a "benefit" is actually quite deceptive, because
- You are spending "social capital", not real money, for your initial sales by exploiting your friends and family circle of influence. Once you spent your social capital, you must spend real money to acquire more customers.
- You are not told how much the marketing costs would be once you have exhausted your social capital. It was left entirely up to you. People are very bad in estimating marketing costs when it is not directly related to sales. Once you account for those, the "raw profit margin" you see on the individual products quickly melts away.
Thus, the initial "low startup cost" is an illusion, not reality. It is no different than giving away the razor and charge you for the blades, or in modern days, sell the printer at cost and make all the profit on the ink refills. The overall cost is disguised.
There are products with a lot of profit margin, such as nutritional / nutraceutical products, cosmetics, and so on, that can claim various differentiating factors (so redundancy is reduced, or at least perceived to be) and therefore the premium price is less of a factor.
You should always estimate the marketing costs (NOT counting the use of social capital, i.e. selling to close friends, family, and neighbors) BEFORE you join to determine if it is a viable business. If you based your cost/benefit analysis just on the few initial sales where you used social capital, you would have gotten a VERY DISTORTED picture of the business and its viability.
If the products don't generate profit, then where is the money coming from, other than membership fees? Which brings us to flaw 4: similarity to a pyramid scheme.
Flaw 4: Similarity to Pyramid Scheme
Fundamentally, multi-level marketing is VERY similar to pyramid scheme. In fact, when Amway first started, it was charged by the FTC as a pyramid scheme. Its lawyers eventually argued the FTC down to a compromise, which lead to the establishment of so-called "Amway rules". And this similarity has haunted the industry for the decades ever since.
One of the first things you learn about MLM is their loud exclamation that "we are not pyramid schemes! Those are illegal and we are legal!" MLM industry and their spokespeople, such as Direct Selling Association (DSA) generally do this through two tactics: a) emphasize the difference between a MLM and a pyramid scheme, and b) claiming other unrelated things are pyramid schemes.
Tactic B, claiming "normal corporate structure, US Social Security, insurance, and other legitimate business activities are pyramid schemes", is a red herring as it is not related to the MLM at all. We will ignore this argument. (In fact, you can see a MLM proponent use this very tactic below in the comments.)
Tactic A, thus, is what we will study, on whether is there actually a fundamental difference between pyramid scheme and multi-level marketing? Or is the so-called difference merely token and cosmetic?
Amway, the granddaddy of all MLM, offered this explanation as cited by HSW to be the difference between it and pyramid schemes:
- A1: Amway doesn't pay distributors for simply recruiting new salespeople.
- A2: The only way to make money through Amway is either by selling products directly to consumers or by managing a team of salespeople. Managers get a percentage of each of their recruits' sales.
- A3: Amway doesn't require its salespeople to buy starter kits or impose a minimum monthly order value to stay a member
A MLM lawyer highlighted the relevant points in the 1979 ruling between Amway and FTC as follows:
B1: Amway required its representatives to engage in retail selling, under the "ten retail customer policy" which appeared in the agreement that representatives signed upon enrollment. This rule required that representatives make 10 sales to retail customers as a qualification for eligibility to receive commissions and bonuses on sales/purchases made by other representatives in their personal sales organization.
B2: Amway required its representatives to sell a minimum of 70% of previously purchased product before placing a new order. (Amway’s rules recognize "personal use" for purposes of the 70% rule.)
B3: Amway had an official "buy-back" policy for unsold, unopened inventory. This policy had some reasonable restrictions, including a specified maximum length of time since the item was originally purchased by the representative and that the item was still current in the company’s product offerings to consumers. The policy also included a minimal "restocking" fee. (Buy-back policies are significant especially for their protection of representatives who choose to terminate their affiliation with a company, and do not want to be "stuck" with unsold inventory.)
These became the "Amway Safeguard Rules", otherwise known as "Amway Rules", that has been used to govern the industry. However, this also lead to a lot of false interpretations and attempt to abuse these rules, through various hybrid schemes and workarounds.
- Disguise pay per recruit by creating "matrix", only pay when matrix is "filled" or "cycled" (Abusing A1 and A2)
- Disguise pay per recruit by mixing it with product sales: earn money by both selling products AND recruiting (Abusing A1 and A2, but Amway's B1 somewhat addresses this issue)
- Perpetuate a misunderstanding: "if there is a product, then it is legitimate and legal". (Misinterpretation of FTC criteria, see sidebar)
- No startup kit and/or no startup fee, but with caveat that to build a business you need to join at a higher level often with promise of better commission and such. (Abuse of A3)
- Making the scheme impossible to understand with various levels, different commission structures, multiple ways to get paid, different exceptions, and so on and so forth. (everything)
- Disguise the amount of "sales" by generating "internal consumption", i.e. product are bought by members, but never sold to the public, but instead, is consumed by the member, thus artificially generating sales. (Abuse of B2's "personal consumption" exception)
- Enforce "autoship", i.e. automatically shipping products to members every month, whether needed or not, to prop up sales numbers. New members are required to sign up for autoship, thus equating recruiting to sales. (Abuse of B1, by artificially generating sales)
These are just some examples of abusing the difference between MLM and pyramid scheme by attempting to "game the rules" by deception, redefinition, or outright misinterpretation. While MLMs are trying to distance themselves from pyramid schemes by claiming differences, MLMs are also blurring the line between it and pyramid scheme with autoship, internal consumption, and such abuses of the very safeguard they themselves have came up with.
Even MLM lawyers, such as Kevin Thompson, have acknowledged that in the past 20+ years, the legal gray area has vastly expanded and this had lead to a credibility problem for the entire MLM industry.
Yet the MLM members will defend the MLM industry, particular their "pet" MLM of the moment, with a ferver that approaches that of a cult member, even though they may have just fled from one MLM to another. Often MLM members defend scams that only have a veneer of legitimacy the same way.
Which brings us to the final flaw: cult-like indoctrination.
Flaw 5: Cult-like Indoctrination
MLM, or network marketing proponents, often tout the business as having great "support and training organization for personal growth." However, very often, these supposedly organizations are actually indoctrination centers using cult-style brain-washing techniques.
Before you deny this flaw, I will point out that so-called "team building exercises" use some of the very same techniques. However, the difference is in its ultimate purpose, and the degree the tactics are used... how far do they go.
Dr. Robert J. Lifton wrote a book in 1961 called "Thought Reform And The Psychology Of Totalism" which is a book that studied how the term "brainwashing" came about, and how it was used to "convert" people to a different cause. In Dr. Lifton's own words:
"[milieu control] tends to be maintained and expressed in several ways:group process, isolation from other people, psychological pressure, geographical distance or unavailability of transportation, and sometimes physical pressure."
Did you see the following happen at a MLM convention or meeting?
Group Process -- "We are a team!" the upline roared, " And together we will succeed! Nothing will stop us!"
Isolation from other people -- "avoid the naysayers", the coach droned. "Only your fellow participants and your upline, and I, understand you!"
Psychological pressure -- "You are not going to let the group down, are you?" the leader looked into your eyes, put both hands on your shoulders, and leaned in slightly. "You are not going to let us down, right?"
Geographical Distance -- It is no accident why MLM conventions and such are often held at isolated and distant locations such as resorts, cruise ships, and so on: so you cannot escape from the "motivational speeches". Some meetings are known to be held late at night and add sleep deprivation to its arsenal of control techniques.
MLM group meetings often resemble cult meetings. No disagreement with the leader is tolerated. All hail the leader and the company. All who believe the company are the anointed ones who will be on their way to "financial freedom and prosperity". All non-believers are damned to be "wage slaves" and "losers" for the rest of their miserable lives and must be converted or enlightened, and "opponents" attacked for their "heresy".
Steven Hassan, a cult expert, uses his BITE model to explain cult mind control. BITE stands for Behavior, Information, Thought, and Emotional, as they are the four types of control a cult exercises on its members.
- Behavior control -- your behavior is regulated by the group, not you personally. You are given permission by the group to associate with certain people and not others.
- Information Control -- your access to information is controlled by the group. You are discouraged from researching things on your own, and only allowed use approved info.
- Thought Control -- your thoughts must be group-approved. Non-group thoughts such as dissent are forbidden and suppressed through use of buzzwords
- Emotional Control -- your emotions must be group approved. Anything problems you have must be your own, not the group or leader. Fear and Phobia increase your dependence on the group.
Did you observe some of these controls at your MLM meetings, if you attended one?
One of the most often encountered "information control" by MLM members is "avoid negativity". Apparently, MLMers must avoid "negativity" and "dream stealers" to be successful. This is complete psychobabble, because if you avoid both rational and irrational fear, you end up being reckless. (Learn more about why avoiding negativity is a serious problem.)
Amway, being the granddaddy of all MLMs, has separate "Amway Motivation Organizations" (AMOs) , which are ran by various "leaders" who publishes various motivational tapes, training materials, and whatnot for the member consumption as "self-improvement". It was charged by many that these AMOs actually are Amway indoctrination centers with a veneer of plausible deniability. In fact, Dateline NBC did a special on Amway in 2004, calling it a cult and get-rich-quick scheme outright. Other MLMs, being based on the MLM model Amway pioneered, are not that different. Steven Hassan, an expert on cults, wrote on the Huffingtonpost that Amway and other MLMs, even if they are legal, are basically commercial cults.
The cult behavior can go to extremes. In 2008, some followers of DMG Grupo Holdings of Colombia have undertaken hunger strikes, and chanted "Believe in God and David Murcia", leader of DMG group, after his arrest and breakup of DMG Grupo as a pyramid scheme. ()
Pseudo-MLM Scams Troll the Muddy Waters for victims
The problem with the gray area of MLM, and the slowness of authorities to react (see next section), esp. when there are multiple jurisdictions, means a scam that pretends to be an MLM can often survive for a few years, suck in over a million members and hundreds of millions of dollars, even if it is an obviously illegal pyramid scheme, even by today's laws and regulations.
One such obvious pyramid scheme advertised "you don't have to sell any products" in its own FAQ for TWO YEARS, yet it proud proclaimed to be using 'network marketing' as its business model. It was heavily pushed by various MLM "coaches" and reviewers for over a year in US and Europe even though it had been kicked out of China in 2009. People in the US finally gave up when state of Georgia issued a cease and desist against this scam in 2010, essentially kicking it out of the US. it then moved on the various Asian and African countries, such as Indonesia, Philippines, South Africa, and so on. It is in the process of being evicted from those countries as well, yet many members still defending it. Is this due to cult indoctrination? The "leaders" in this scam also claimed "agenda by consumer groups". ()
Such problems are not limited to US and Western countries alone. A scam, claiming to be a public opinion survey company, signed up millions of members in India, promising each good income if they recruit more people, and quite a bit of the money received was transferred to Singapore, where the company was allegedly headquartered. When a TV station did an investigative report on it, all hell broke loose. Various government agencies got involved, and found they can't really do anything about a company that is not even based in India. They tried freezing the money, but the company's lawyers convinced a lower court judge and got the freeze lifted, allowing 600 crore Rupiahs (roughly 130 million USD) to be transferred to Singapore during the 2 week when the injunction was in place. The freeze was finally reinstated when a 3-judge panel countermanded the lower court judge.
What is really amazing is the the amount of zeal the scam victims are spending to defend the company, including protests in the streets, petitioning the government to leave the company alone, so they can get paid, and so on. They accuse everybody, from the government to the media to critics of a conspiracy to bring down this company and ruin their livelihood. The scam is SpeakAsia, whose COO was already arrested, and its CEO is a fugitive outside of India.
Such obvious pyramid schemes live on because there are legitimate MLMs to lend it a modicum of credibility. They point to legitimate MLMs, claim "we are like that, we are legal", when they are certainly NOT legal, even upon cursory examination. People believe them because they don't know any better. Plenty of people defend these pseudo-MLM scams as they failed to distinguish the difference between it and legitimate MLM.
The Government Will Not Save You From Yourself
The US Federal Trade Commission, which has broad regulating powers over all forms of commerce within the United States, used to be the primary prosecuting body against multi-state pyramid schemes. However, since being fought to a standstill by Amway in 1979, the body seem to have lost much of its appetite going after shady MLMs.
In fact, after 2000, many of FTC's leaders used to be MLM lobbyists and attorneys. MLM industry also hired many FTC ex-staffers for their own lobbying efforts, resulting in many 'exemptions' given to MLM industry when new laws are passed. Is there something fishy going on? I don't know. Does something start to smell? Definitely.
Individual states seem to have taken up the mantle in prosecuting various suspect MLMs that have stepped over the line and essentially became pyramid schemes and/or Ponzi schemes. YTBI (Your Travel Biz), i.e. Zamzuu, was kicked out of California by then attorney general Brown (now Governor Brown). Illinois also sued YTB and only settled in May 2011, essentially forcing the company almost out of business. However, prosecution of such schemes takes years (then attorney general Brown started to suit in 2008, and completed the plea deal in 2010). In Canada, a similar scam called Business in Motion was shut down by RCMP after investigation by noted pyramid scheme expert Dr. Robert Fitzpatrick. However, this took several years as well. CBC TV did an expose on BIM in 2009, but charges were not filed by RCMP until 2011.
What's worse, the new breed of international pseudo-MLM scams are often based on a completely different continent (often Asia or Eastern Europe), and legally in some island off in the Caribbean or the Mediterranean Sea (Cyprus, British Virgin Islands, etc.) making international prosecution almost impossible. They usually have no license to operate in your location, but that doesn't stop them from promising big money if you pay them.
TVI Express, a notable pseudo-MLM scam, was kicked out of China and most of Europe in 2009 with several arrested in China. However, no US authorities acted until State of Georgia hit its North American member group "TVI North America" with a cease and desist in 2010. It doesn't stop TVI Express from recruiting more people in Africa, Southeast Asia, and former Soviet block countries. Now TVI Express face prosecution in South Africa, Namibia, Indonesia, even in India.
The government will not save you from yourself if you do no "due diligence" and join a scam that pretends to be a legitimate business. By the time the government decides to intervene, you're probably in too deep.
Fatal Flaws Unless Corrected
We have listed five flaws in the fundamental MLM business model itself, and they are endemic to the system. The additional factors such as relative lack of government oversight, and rise of international pseudo-MLM scams, makes the entire industry indeed extremely dangerous for any one to contemplate joining without thorough study of the situation.
Critics of MLM, Dr. Robert Fitzpatrick, and Dr. Jon Taylor, who studied available information on the largest MLMs, found that 99% of participants in an MLM actually LOST money. That's right, 99%. Why? The five flaws we had mentioned before are why, and they form a system that reinforces each other.
- The profitability of the product was often misrepresented in recruitment drives, because the marketing costs were never mentioned. You are only told "you pay this, you can sell it for that". The "before expenses" profit margin looks impressive, but without any numbers on the expenses most people completely forgot about it altogether.
- The initial few sales are easy because you are using your SOCIAL capital, not actual money and time, to pay for marketing costs. However, your social circle is limited and thus soon you ran out of social capital and must spend real money and time to acquire more clients.
- Once the member realizes the products are not actually profitable when expenses are counted, beyond the few initial sales, the cult like indoctrination makes members blame themselves for not generating a profit, rather than contemplating the possibility that the system itself may be flawed
- Often, the members are then pushed into buying more motivational lessons and marketing techniques and training, adding to their expenses instead of helping their bottom line
- Sales figures are propped up through autoship, self-consumption, and so on so sales commission are enriching the uplines while downlines remain unprofitable
- The downlines then seek to make themselves uplines by recruiting more downlines, with the rationalization of 'generating passive income' to get away from the unprofitable "self-consumption" and retailing... or quit altogether.
- When enough people quit, the MLM goes under as it no longer have enough sales to sustain itself.
Basically, many Network Marketing, or MLM are selling the dream of "passive income", instead of actually selling the products like it is supposed to, and that is the root of all fatal flaws. The passive income should be incidental and the reward of great salesmanship, not the ultimate "endgame".
Can the Flaws Be Fixed?
Here are a few ideas, though the chances of any of these getting implemented is minimal:
Require "managers" (uplines) to sell things before they can qualify for commission
The idea of creating your own competitor by justifying it as generating passive income is a fundamental feature of MLM, It can be partially addressed by requiring the "managers" (upline) to fill a sales quota before qualifying for bonuses generated by downlines to ensure the emphasis is on SALES, not recruiting, or perhaps by maintaining a sales quota system for the downlines, that they need to sell a certain amount for their uplines to earn anything. However, such systems are quite complicated, and only adds to the confusing compensation rules of an MLM.
Amway has this "10 retail customer sales" rule, which partially address the problem.
Restrict the number of new recruits through space / time / upline constraints
Restrict the number of new members a particular upline can sign up for only a few (absolute numbers total), or only a few per month, unless the recruit is at least X miles away. While this will restrict growth of the company, this should minimize the "creating your own competitor" problem. Combined with the need to make SOME sales to qualify for commission should decrease the need to do ONLY recruiting.
The geographical exception is to allow for competitors that are NOT in the same social circle.
Another possibility is to restrict the number of members in a particular zipcode to prevent "local saturation".
Minimizing self-consumption, autoship, and other fake sales
Minimizing or banning autoship and self-consumption (other than a "reasonable amount" to be determined) may be needed to prevent padding the sales numbers through these fake sales. This would also cut down on the people who try to "game" the system by recruiting for the bonuses instead of sales.
More Disclosure and Warning on these opportunities
Requiring certain legal warnings (similar to warning labels on cigarettes) at meetings and on company literature, both official and unofficial ones may be enough to loosen the "information control" and break the cult-like behaviors.
Mandatory Cooling Off Period
Another idea is to have a mandatory 72-hour cooling off period to join such programs, with warning to seek out government and anti-scam information and such. This is to prevent the recruitment drives sign up people through euphoria of group-speak.
Fundamentally, if a MLM is selling the dream of passive income, it is already in danger, because the only way to generate this passive income is to recruit, and that makes it vulnerable to turn into a pyramid scheme. The five flaws of the system only reinforce this fundamental attitude problem allowing it to slip closer and closer to the abyss.
What's worse, it is almost impossible to recover once the slippage started to occur, because the system involves thinking in a circle due to the cult-ish behavior of the members. You are told to ignore reality and concentrate on the group's version of events instead. Furthermore, the cultish behavior of many MLMers is disturbing to friends and family.
Add to that the documented stats that most participants (99%) in MLM lose money, and you have a business system that is dangerous to participants.
if you want to consider MLM as a side job or even a full-time job, you may want to reconsider. I would not wish you luck, as you don't need luck. I wish you wisdom instead, to learn and properly evaluate the situation and determine whether it will benefit you... or not.