ADventures in Law

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The staff of the Federal Trade Commission (FTC) recently issued a <a href="https://www.ftc.gov/reports/multi-level-marketing-income-disclosure-statements" target="_blank" rel="noreferrer noopener">report</a> that contains the staff’s findings from its review of disclosure statements from 70 multi-level marketers (MLMs). The report is just the latest in a series of attacks that the FTC has launched against the MLM industry and provides further insight into how the FTC is likely to scrutinize earnings claims.  According to the report, the staff reviewed 70 publicly available MLM income disclosure statements from a wide array of MLMs to determine whether these statements adequately convey earnings information to potential participants. The staff acknowledges that its conclusions are based solely on its facial review of the disclosure statements, without any context such as how and when these statements are made available to recruits, what other information is provided to recruits, and how often these statements are updated. And while the examples shown in the report reflect at least a good faith effort by many MLMs to disclose the range of income earned by their participants and the percentage of participants who fall into the various ranges, the FTC has essentially concluded that the disclosures are inadequate.

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This report follows the Advanced Notice of Proposed Rulemaking (ANPR) published by the FTC in March 2022 regarding Deceptive or Unfair Earning Claims, in which the FTC sought comments on whether it should initiate a rulemaking to regulate earnings claims. While the ANPR did not strictly focus on MLMs, the vast majority of comments submitted in response to the ANPR focused on MLMs. This report seems designed to bolster the FTC’s skepticism expressed in the ANPR as to whether any disclaimer can be sufficient to correct a misleading impression from an atypical earnings claim and, if it can, how that disclaimer will be sufficient. The FTC noted that it had not seen “probative evidence” that a disclaimer that could “effectively cure” these atypical earnings claims.

With that context in mind, let’s dive into the report. The report provides background on what MLMs are and how they operate. The report defines an MLM as “a company that distributes products or services through a network of participants.” Those participants are treated as independent contractors, rather than employees who receive a salary or wage, whose income depends on the individual’s own revenue and expenses. As the report explains, MLMs do not recruit new participants directly but instead rely on existing participants to recruit additional participants, creating “multiple levels of participants organized in ‘downlines.’” The report cites a statistic from the Direct Selling Association that in 2022, 14.6 million people were participants in MLMs in the U.S.

Here are the key concerns identified in the report about the income statements the staff reviewed.

Income Data Excludes Participants Who Make Little or No Income. The report alleges that many of the disclosure statements exclude groups of participants who receive little or no income or who are “inactive” and that such statements do not clearly disclose this limitation. The staff believes the failure to include these participants unfairly inflates the income numbers.

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Income Data Does Not Clearly Reflect Expenses Incurred by Participants. The FTC has long maintained that income statements must take account of the expenses incurred by participants. Thus, it should come as no surprise that the report is critical of the fact that none of the 70 income disclosure statements provide income figures that include “all” expenses, although some do include membership expenses. While the staff acknowledges that 50 of the statements do disclose that the figures shown do not include expenses, those disclosures were deemed insufficient because they are not “as prominent” as the dollar figures disclosed, reflecting the FTC’s increasingly rigorous standards for disclosure. &nbsp;

Income Data Emphasizes High Dollar Amounts Received by a Small Fraction of Participants. The report focuses heavily on how income data is portrayed: “Most of the income disclosure statements reviewed break out information in a way that emphasizes the high amounts obtained by only a small fraction of participants.” One prominent critique the report levies is that many of the tables used to show the data for different “ranks” or levels of participants overemphasize participants making high dollar amounts. In one example shown, although the higher and lower ranks are presented with equal prominence, the staff was concerned with the presentation of the ranks because five of the 10 rankings displayed (the higher rankings) account for only one &nbsp;half of a percent of all participants.

Income Disclosures Leave Out or Downplay the Fact That Most Participants Make No Money. The report emphasizes many times that many participants earn no or very little money, particularly when expenses are accounted for, and criticizes MLMs for failing to disclose this information. The report asserts, based on the data reviewed, that the vast majority of participants earned less than $84 a month, or $1,000 per year, on average. The report notes that some of the statements reviewed fail to disclose this at all, or do so in an inconspicuous way.

Income Data Is Generally Presented in Confusing or Ambiguous Ways. The report criticizes several aspects of the way in which the income data is calculated and presented, which the FTC believes results in confusing or ambiguous information:

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While the report is potentially a precursor to the issuance of a Notice of Proposed Rulemaking (NPRM), for the moment it provides important insight into how the FTC is likely to view income disclosure statements in its enforcement actions. Here are some of important takeaways:

Titles Matter: At the outset, the FTC takes issue with the fact that many of the income disclosure statements contain unqualified titles such as “Income” or “Compensation.” Be aware that in the FTC’s mind, if the calculations do not include all participants and/or expenses, even the use of such an unqualified titles may be problematic. At a minimum, these limitations should be clearly and conspicuously disclosed.

Inclusion of Expenses and All Participants Is Important to the FTC: The FTC appears deeply troubled by the fact that expenses are not included in the calculations and that not all participants are included. As noted above, these limitations should at a minimum be very prominently disclosed, although it is entirely possible that even disclosure of these limitations may not be sufficient for the FTC.

Average Calculations May Be at Risk: The FTC has stated before and reiterated again that calculations based on averages may be misleading, especially where the higher earners represent only a small percentage of total participants. If averages are being used, more robust disclosures regarding the calculations may be necessary.

It’s Always About the Net Impression: A lot of what is covered in this report comes under the broad umbrella of net impression. While the FTC notes some discrepancies in the calculations, its real concern stems largely from the net impression this information may be conveying. At the end of the day, the FTC is fixated on the data showing that only a small percentage of participants make a significant amount of money and that many participants make no money at all. That is the message the FTC wants to see communicated, and it appears to be doubling down on its view that disclaimers cannot cure atypical results.

As a reminder, this report is not binding FTC law and its issuance does not mean that marketers must change their current practices. And, &nbsp;while its release may indicate that the FTC will be moving forward with an NPRM on Unfair and Deceptive Earnings Claims, as was the case with the FTC’s proposed ban on non-competes, an overreaching rule will likely be subject to challenge. It is also important to remember that the Report is based only on 70 randomly selected income statements and does not necessarily reflect the practices of the industry as a whole. We will continue to keep an eye on this space and provide an update if and when an NPRM is published.

FTC Releases Staff Report on Multi-Level Marketing Income Disclosures