Supplement MLM prevails over FTC in pyramid scheme allegationsSupplement MLM prevails over FTC in pyramid scheme allegations
A dietary supplement MLM has won a case in Texas in which the U.S. Federal Trade Commission had tried to cast it as an illegal pyramid scheme rather than a legitimate network marketing operation.
October 2, 2023
Neora, a multi-level marketing firm, has won an important court victory over the Federal Trade Commission, which had alleged the firm was operating an illegal pyramid scheme.
Neora, which is based in Dallas, bills itself as a “holistic beauty” company that sells a variety of dietary supplements and skincare products.
On Thursday, Sept. 28, a federal judge in the Northern District of Texas overseeing the case (Fed. Trade Comm'n v. Neora LLC) ruled FTC’s claims were invalid.
FTC first sued Neora, which at one time did business as Nerium International, in 2019, alleging the company was an illegal pyramid scheme. The lawsuit claimed distributors and so-called “brand partners” were compensated primarily for bringing new people into the scheme and that very few of them made any money.
Line between MLMs and pyramid schemes
The border between an illegal pyramid scheme and a legitimate network marketing operation is drawn along those lines—that is, to what extent independent distributors are compensated for actual sales of products to consumers and to what degree their income depends on recruiting new “downline” distributors.
A judicial test was established for making this decision, referred to as the Koscot test, after the 1975 case in which it was first promulgated.
Another consideration revolves around how many products distributors must purchase each month to maintain eligibility for certain commission levels. It is sometimes alleged distributors in some organizations end up with large inventories of products in this way that often can’t be resold before their shelf life expires.
Decision called big win for industry
The ruling was hailed as a significant victory for the MLM model, which has been challenged by FTC in several complaints. Some of those have gone to trial, adding to case law in this area, while others, like the Herbalife and Advocare cases, were settled out of court.
“Big, BIG win for the direct selling industry, as Judge Barbara Lynn (N.D. Texas) grants judgment for Neora LLC (formerly Nerium) on all of the FTC’s claims, including that the company was operating an illegal pyramid scheme and made deceptive income and product claims (both directly and through its distributors),” according to a blog post by lawyers for the firm Kelley Drye & Warren LLP (Kelley Drye).
“When we proactively filed suit against the FTC on Nov. 1, 2019, challenging the over-reach of the FTC, we knew we would have a battle on our hands, but we were supremely confident that the facts and data would show the truth,” Neora CEO Jeff Olson said in a statement. “Living out our mission statement of making people better sometimes means taking the road less traveled, making the hard choice to defend what is right at all costs. This isn’t just a win for our industry, it’s a win for American entrepreneurship.”
Joseph N. Mariano, president and CEO of the Direct Selling Association (DSA), expressed hope that the “decision in the Neora case will help provide clarity about the direct selling business model to regulators, consumers and the public.”
“The court cited the company’s robust inventory repurchase agreement and strong compliance efforts that all DSA members abide by,” he said in a statement. “The decision reinforces the importance of these principles as core tenets of consumer protection and Neora’s adherence to them as part of their membership in the association.”
FTC did not respond to a request for comment in time for publication.
Expert witness fails to sway judge
Testimony by a government witness, Dr. Stacie Bosley, Ph.D., an economics professor at Hamline University in St. Paul, Minn., was a factor in the case. According to the Kelly Drye lawyers, Dr. Bosley testified she did not believe sales of products to brand partners (BPs) really constituted sales to end users. Dr. Bosley has testified in other court cases involving MLMs.
Senior District Judge Barbara M.G. Lynn appeared unswayed by Dr. Bosley’s testimony.
“The FTC provided no evidence from actual BPs or participants and made no effort to show that Dr. Bosley’s rigid theoretical opinions regarding BP-purchasing motivations based on the compensation plan are borne out in reality,” she wrote in her opinion.
Industry seeks to regulate itself
Other questions raised by regulators about the industry in general include whether an MLM has made misleading statements about income potential.
Some of the lessons from case law and from the settlement between Herbalife and FTC have been codified in the best practices guidelines put out by the Direct Selling Self-Regulatory Council (DSSRC), a division of BBB National Programs that was set up in 2020 in partnership with the DSA. According to the DSA, the guidance includes information from federal regulatory guidance documents as well as lessons taken from relevant case law.
Guidelines for income claims
The DSSRC guidance mandates among other things that:
Companies have a rational basis for believing claims at the time they are made.
Companies have firm documentation for any earnings claim made.
Claims should take into account the investment distributors must make in purchasing products in order to qualify for certain compensation levels.
Companies must consider the overall impression made about earnings potential both by the company itself and its distributors on their own social media posts.
As instructional examples, the guidance shows several types of improper earnings claims made by a hypothetical MLM dubbed WeSell. The missteps included claims of annual income in the $4,500 range when the actual average distributor earned only $239.
Another example showed a picture of a luxury yacht with the quote “WeSell made this possible!”
Still other examples noted disclaimers were buried below the portion of the message usually seen on mobile devices and that claims of earning $800 for hosting an event didn’t deduct the costs of products sold and the food and beverage outlay for the “party.”
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