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Introducing the pyramid scheme -

Pyramid schemes have existed in various different guises for at least a century. They are fraudulent and destructive, and are therefore illegal in many countries.

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Introducing the pyramid scheme -

At a very basic level, a pyramid scheme is a business model that recruits members and promises them compensation for recruiting more members.

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How it works -

Normally the founder of a pyramid scheme recruits an initial group of members to invest in and promote the scheme. They are then encouraged to recruit more members.

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How it works -

Members are incentivized to recruit additional members by the promise of a share of the money that the new member invests, while the founder also takes a cut.

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How it works -

With each new level of recruits, the pattern repeats; that is to say, the money invested by the new recruits is funneled to the members who recruited them.

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Pyramid vs. Ponzi schemes -

Pyramid schemes are different from Ponzi schemes, although the two are often cofounded. In a Ponzi scheme, the founder recruits new members.

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Pyramid vs. Ponzi schemes -

The founder then secretly uses the money from the new members to pay the existing members, who think that their compensation is coming from an actual investment.

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The problem -

The larger a pyramid scheme grows, the more difficult it becomes for new recruits to make money from their buy-in. This is because the pyramid grows exponentially.

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Exponential growth -

Imagine a pyramid scheme in which the founder recruits an initial group of six individuals. Each of those individuals then has to recruit another six people to turn a profit.

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Exponential growth -

The twelfth group of recruits will consist of 2,176,782,336 individuals, who between them have to recruit 13,060,694,016. That’s more than the entire world population.

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Lost investments -

In that scenario, the majority of the latest recruits will lose all of the money they initially invested. People higher up the pyramid are likely to lose out as well.

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Vemma -

An example of a high-profile pyramid scheme was Vemma, a nutrition company incorporated back in 2004 that sold dietary supplements.

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The "opportunity" -

The scheme drew people in by offering a life-changing opportunity to earn full-time income for part-time work. It already sounds too good to be true...

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Open for all -

The opportunity was open to everyone, regardless of background and experience. To get started, a new member simply had to purchase a US$500 kit and recruit two more members.

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A slam dunk -

Vemma was a hit and it grew quickly. At its peak, the company was bringing in 30,000 new members each month, and by 2013 Vemma was turning over US$200 million annually.

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The problem -

There was just one problem: the majority of new recruits were earning less than their initial investment. Vemma was shut down by the FTC in 2015 for operating a pyramid scheme.

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Tricky to spot -

While it may be easy with hindsight to identify a pyramid scheme, they are often difficult for the average, untrained eye to spot. This is part of the reason they’re so dangerous.

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Types of pyramid scheme -

Pyramid schemes may be presented to their victims in any number of ways, including as gifting groups, investment clubs, or multi-level marketing businesses.

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Pyramid scheme vs. MLM business -

Legitimate multi-level marketing (MLM) businesses do exist, and sometimes it is difficult to tell the difference between one of those and a pyramid scheme.

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The difference -

In theory, the difference between the two lies in the compensation model. The members of a multi-level marketing company earn commission for selling a product or service.

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In theory -

The members of a pyramid scheme, by contrast, primarily earn commission for the recruitment of new members. That is the difference, in theory at least.

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In reality -

In reality, however, many multi-level marketing businesses make it all but impossible for their members to turn a profit from sales alone.

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In reality -

It is the similarity between the two models that allows people who run pyramid schemes to disguise their venture as a legitimate multi-level marketing company.

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What to look for -

Pyramid schemes can be very tricky to spot and can be equally destructive to the lives of their victims. Luckily, there are a few things to look out for.

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Time pressure -

An offer with a very short deadline should immediately set the alarm bells ringing. Be wary of any instruction to “act now or miss a once in a lifetime opportunity.”

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Life-changing amounts of money -

Promises of earning a life-changing amount of money are also suspicious, particularly if it seems you will have to do very little in order to earn the cash.

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Buy-in amount -

Last but not least, watch out for any multi-level marketing company that requires its members to pay for the opportunity to sell its product or service.

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Buy-in amount -

If a multi-level marketing business is legitimate, this will never happen, so you can take a payment requirement as a sure sign that something is off.

Sources: (TED-Ed)

See also: The biggest missed business opportunities in history

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