Segmentation, targeting, and positioning together comprise a three stage process. We first (1) determine which kinds of customers exist, then (2) select which ones we are best off trying to serve and, finally, (3) implement our segmentation by optimizing our products/services for that segment and communicating that we have made the choice to distinguish ourselves that way.
Segmentation involves finding out what kinds of consumers with different needs exist. In the auto market, for example, some consumers demand speed and performance, while others are much more concerned about roominess and safety. In general, it holds true that “You can’t be all things to all people,” and experience has demonstrated that firms that specialize in meeting the needs of one group of consumers over another tend to be more profitable.
Generically, there are three approaches to marketing. In the undifferentiated strategy, all consumers are treated as the same, with firms not making any specific efforts to satisfy particular groups. This may work when the product is a standard one where one competitor really can’t offer much that another one can’t. Usually, this is the case only for commodities. In the concentrated strategy, one firm chooses to focus on one of several segments that exist while leaving other segments to competitors. For example, Southwest Airlines focuses on price sensitive consumers who will forego meals and assigned seating for low prices. In contrast, most airlines follow the differentiated strategy: They offer high priced tickets to those who are inflexible in that they cannot tell in advance when they need to fly and find it impractical to stay over a Saturday. These travelers—usually business travelers—pay high fares but can only fill the planes up partially. The same airlines then sell some of the remaining seats to more price sensitive customers who can buy two weeks in advance and stay over.
Note that segmentation calls for some tough choices. There may be a large number of variables that can be used to differentiate consumers of a given product category; yet, in practice, it becomes impossibly cumbersome to work with more than a few at a time. Thus, we need to determine which variables will be most useful in distinguishing different groups of consumers. We might thus decide, for example, that the variables that are most relevant in separating different kinds of soft drink consumers are (1) preference for taste vs. low calories, (2) preference for Cola vs. non-cola taste, (3) price sensitivity—willingness to pay for brand names; and (4) heavy vs. light consumers. We now put these variables together to arrive at various combinations.
Several different kinds of variables can be used for segmentation.
•Demographic variables essentially refer to personal statistics such as income, gender, education, location (rural vs. urban, East vs. West), ethnicity, and family size. Campbell’s soup, for instance, has found that Western U.S. consumers on the average prefer spicier soups—thus, you get a different product in the same cans at the East and West coasts. Facing flat sales of guns in the traditional male dominated market, a manufacturer came out with the Lady Remmington, a more compact, handier gun more attractive to women. Taking this a step farther, it is also possible to segment on lifestyle and values.”
•Some consumers want to be seen as similar to others, while a different segment wants to stand apart from the crowd.
•Another basis for segmentation is behavior. Some consumers are “brand loyal”—i.e., they tend to stick with their preferred brands even when a competing one is on sale. Some consumers are “heavy” users while others are “light” users. For example, research conducted by the wine industry shows that some 80% of the product is consumed by 20% of the consumers—presumably a rather intoxicated group.
•One can also segment on benefits sought, essentially bypassing demographic explanatory variables. Some consumers, for example, like scented soap (a segment likely to be attracted to brands such as Irish Spring), while others prefer the “clean” feeling of unscented soap (the “Ivory” segment). Some consumers use toothpaste primarily to promote oral health, while another segment is more interested in breath freshening.
In the next step, we decide to target one or more segments. Our choice should generally depend on several factors. First, how well are existing segments served by other manufacturers? It will be more difficult to appeal to a segment that is already well served than to one whose needs are not currently being served well. Secondly, how large is the segment, and how can we expect it to grow? (Note that a downside to a large, rapidly growing segment is that it tends to attract competition). Thirdly, do we have strengths as a company that will help us appeal particularly to one group of consumers? Firms may already have an established reputation. While McDonald’s has a great reputation for fast, consistent quality, family friendly food, it would be difficult to convince consumers that McDonald’s now offers gourmet food. Thus, McD’s would probably be better off targeting families in search of consistent quality food in nice, clean restaurants.
Positioning involves implementing our targeting. For example, Apple Computer has chosen to position itself as a maker of user-friendly computers. Thus, Apple has done a lot through its advertising to promote itself, through its unintimidating icons, as a computer for “non-geeks.” The Visual C software programming language, in contrast, is aimed a “techies.”
Michael Treacy and Fred Wiersema suggested in their 1993 book The Discipline of Market Leaders that most successful firms fall into one of three categories:
•Operationally excellent firms, which maintain a strong competitive advantage by maintaining exceptional efficiency, thus enabling the firm to provide reliable service to the customer at a significantly lower cost than those of less well organized and well run competitors. The emphasis here is mostly on low cost, subject to reliable performance, and less value is put on customizing the offering for the specific customer. Wal-Mart is an example of this discipline. Elaborate logistical designs allow goods to be moved at the lowest cost, with extensive systems predicting when specific quantities of supplies will be needed.
•Customer intimate firms, which excel in serving the specific needs of the individual customer well. There is less emphasis on efficiency, which is sacrificed for providing more precisely what is wanted by the customer. Reliability is also stressed. Nordstrom’s and IBM are examples of this discipline.
•Technologically excellent firms, which produce the most advanced products currently available with the latest technology, constantly maintaining leadership in innovation. These firms, because they work with costly technology that need constant refinement, cannot be as efficient as the operationally excellent firms and often cannot adapt their products as well to the needs of the individual customer. Intel is an example of this discipline.
Treacy and Wiersema suggest that in addition to excelling on one of the three value dimensions, firms must meet acceptable levels on the other two. Wal-Mart, for example, does maintain some level of customer service. Nordstrom’s and Intel both must meet some standards of cost effectiveness. The emphasis, beyond meeting the minimum required level in the two other dimensions, is on the dimension of strength.
Repositioning involves an attempt to change consumer perceptions of a brand, usually because the existing position that the brand holds has become less attractive. Sears, for example, attempted to reposition itself from a place that offered great sales but unattractive prices the rest of the time to a store that consistently offered “everyday low prices.” Repositioning in practice is very difficult to accomplish. A great deal of money is often needed for advertising and other promotional efforts, and in many cases, the repositioning fails.
To effectively attempt repositioning, it is important to understand how one’s brand and those of competitors are perceived. One approach to identifying consumer product perceptions is multidimensional scaling. Here, we identify how products are perceived on two or more “dimensions,” allowing us to plot brands against each other. It may then be possible to attempt to “move” one’s brand in a more desirable direction by selectively promoting certain points. There are two main approaches to multi-dimensional scaling. In the a prior approach, market researchers identify dimensions of interest and then ask consumers about their perceptions on each dimension for each brand. This is useful when (1) the market researcher knows which dimensions are of interest and (2) the customer’s perception on each dimension is relatively clear (as opposed to being “made up” on the spot to be able to give the researcher a desired answer). In the similarity rating approach, respondents are not asked about their perceptions of brands on any specific dimensions. Instead, subjects are asked to rate the extent of similarity of different pairs of products (e.g., How similar, on a scale of 1-7, is Snicker’s to Kitkat, and how similar is Toblerone to Three Musketeers?) Using a computer algorithms, the computer then identifies positions of each brand on a map of a given number of dimensions. The computer does not reveal what each dimension means—that must be left to human interpretation based on what the variations in each dimension appears to reveal. This second method is more useful when no specific product dimensions have been identified as being of particular interest or when it is not clear what the variables of difference are for the product category.
Sunday, October 11, 2009
Consumer behavior
What is Consumer Behavior?
Consumer behavior involves the psychological processes that consumers go through in recognizing needs, finding ways to solve these needs, making purchase decisions (e.g., whether or not to purchase a product and, if so, which brand and where), interpret information, make plans, and implement these plans (e.g., by engaging in comparison shopping or actually purchasing a product).
One "official" definition of consumer behavior is "The study of individuals, groups, or organizations and the processes they use to select, secure, use, and dispose of products, services, experiences, or ideas to satisfy needs and the impacts that these processes have on the consumer and society." Although it is not necessary to memorize this definition, it brings up some useful points:
•Behavior occurs either for the individual, or in the context of a group (e.g., friend’s influence what kinds of clothes a person wears) or an organization (people on the job make decisions as to which products the firm should use)
•Consumer behavior involves the use and disposal of products as well as the study of how they are purchased. Product use is often of great interest to the marketer, because this may influence how a product is best positioned or how we can encourage increased consumption. Since many environmental problems result from product disposal (e.g., motor oil being sent into sewage systems to save the recycling fee, or garbage piling up at landfills) this is also an area of interest.
•Consumer behavior involves services and ideas as well as tangible products.
•The impact of consumer behavior on society is also of relevance. For example, aggressive marketing of high fat foods, or aggressive marketing of easy credit, may have serious repercussions for the national health and economy.
Introduction
The study of consumers helps firms and organizations improve their marketing strategies by understanding issues such as how
•The psychology of how consumers think, feel, reason, and select between different alternatives (e.g., brands, products)
•The psychology of how the consumer is influenced by his or her environment (e.g., culture, family, signs, media)
•The behavior of consumers while shopping or making other marketing decisions
•Limitations in consumer knowledge or information processing abilities influence decisions and marketing outcome
•How consumer motivation and decision strategies differ between products that differ in their level of importance or interest that they entail for the consumer
•How marketers can adapt and improve their marketing campaigns and marketing strategies to more effectively reach the consumer.
There are four main applications of consumer behavior:
•The most obvious is for marketing strategy—i.e., for making better marketing campaigns. For example, by understanding that consumers are more receptive to food advertising when they are hungry, we learn to schedule snack advertisements late in the afternoon. By understanding that new products are usually initially adopted by a few consumers and only spread later, and then only gradually, to the rest of the population, we learn that (1) companies that introduce new products must be well financed so that they can stay afloat until their products become a commercial success and (2) it is important to please initial customers, since they will in turn influence many subsequent customers’ brand choices.
•A second application is public policy. In the 1980s, Accutane, a near miracle cure for acne, was introduced. Unfortunately, Accutane resulted in severe birth defects if taken by pregnant women. Although physicians were instructed to warn their female patients of this, a number still became pregnant while taking the drug. To get consumers’ attention, the Federal Drug Administration (FDA) took the step of requiring that very graphic pictures of deformed babies be shown on the medicine containers.
•Social marketing involves getting ideas across to consumers rather than selling something. Marty Fishbein, a marketing professor, went on sabbatical to work for the Centers for Disease Control trying to reduce the incidence of transmission of diseases through illegal drug use. The best solution, obviously, would be if we could get illegal drug users to stop. This, however, was deemed to be infeasible. It was also determined that the practice of sharing needles was too ingrained in the drug culture to be stopped. As a result, using knowledge of consumer attitudes, Dr. Fishbein created a campaign that encouraged the cleaning of needles in bleach before sharing them, a goal that was believed to be more realistic.
•As a final benefit, studying consumer behavior should make us better consumers. Common sense suggests, for example, that if you buy a 64 liquid ounce bottle of laundry detergent, you should pay less per ounce than if you bought two 32 ounce bottles. In practice, however, you often pay a size premium by buying the larger quantity. In other words, in this case, knowing this fact will sensitize you to the need to check the unit cost labels to determine if you are really getting a bargain.
There are several units in the market that can be analyzed. Our main thrust in this course is the consumer. However, we will also need to analyze our own firm’s strengths and weaknesses and those of competing firms. Suppose, for example, that we make a product aimed at older consumers, a growing segment. A competing firm that targets babies, a shrinking market, is likely to consider repositioning toward our market. To assess a competing firm’s potential threat, we need to examine its assets (e.g., technology, patents, market knowledge, awareness of its brands) against pressures it faces from the market. Finally, we need to assess conditions (the marketing environment). For example, although we may have developed a product that offers great appeal for consumers, a recession may cut demand dramatically.
Consumer behavior involves the psychological processes that consumers go through in recognizing needs, finding ways to solve these needs, making purchase decisions (e.g., whether or not to purchase a product and, if so, which brand and where), interpret information, make plans, and implement these plans (e.g., by engaging in comparison shopping or actually purchasing a product).
One "official" definition of consumer behavior is "The study of individuals, groups, or organizations and the processes they use to select, secure, use, and dispose of products, services, experiences, or ideas to satisfy needs and the impacts that these processes have on the consumer and society." Although it is not necessary to memorize this definition, it brings up some useful points:
•Behavior occurs either for the individual, or in the context of a group (e.g., friend’s influence what kinds of clothes a person wears) or an organization (people on the job make decisions as to which products the firm should use)
•Consumer behavior involves the use and disposal of products as well as the study of how they are purchased. Product use is often of great interest to the marketer, because this may influence how a product is best positioned or how we can encourage increased consumption. Since many environmental problems result from product disposal (e.g., motor oil being sent into sewage systems to save the recycling fee, or garbage piling up at landfills) this is also an area of interest.
•Consumer behavior involves services and ideas as well as tangible products.
•The impact of consumer behavior on society is also of relevance. For example, aggressive marketing of high fat foods, or aggressive marketing of easy credit, may have serious repercussions for the national health and economy.
Introduction
The study of consumers helps firms and organizations improve their marketing strategies by understanding issues such as how
•The psychology of how consumers think, feel, reason, and select between different alternatives (e.g., brands, products)
•The psychology of how the consumer is influenced by his or her environment (e.g., culture, family, signs, media)
•The behavior of consumers while shopping or making other marketing decisions
•Limitations in consumer knowledge or information processing abilities influence decisions and marketing outcome
•How consumer motivation and decision strategies differ between products that differ in their level of importance or interest that they entail for the consumer
•How marketers can adapt and improve their marketing campaigns and marketing strategies to more effectively reach the consumer.
There are four main applications of consumer behavior:
•The most obvious is for marketing strategy—i.e., for making better marketing campaigns. For example, by understanding that consumers are more receptive to food advertising when they are hungry, we learn to schedule snack advertisements late in the afternoon. By understanding that new products are usually initially adopted by a few consumers and only spread later, and then only gradually, to the rest of the population, we learn that (1) companies that introduce new products must be well financed so that they can stay afloat until their products become a commercial success and (2) it is important to please initial customers, since they will in turn influence many subsequent customers’ brand choices.
•A second application is public policy. In the 1980s, Accutane, a near miracle cure for acne, was introduced. Unfortunately, Accutane resulted in severe birth defects if taken by pregnant women. Although physicians were instructed to warn their female patients of this, a number still became pregnant while taking the drug. To get consumers’ attention, the Federal Drug Administration (FDA) took the step of requiring that very graphic pictures of deformed babies be shown on the medicine containers.
•Social marketing involves getting ideas across to consumers rather than selling something. Marty Fishbein, a marketing professor, went on sabbatical to work for the Centers for Disease Control trying to reduce the incidence of transmission of diseases through illegal drug use. The best solution, obviously, would be if we could get illegal drug users to stop. This, however, was deemed to be infeasible. It was also determined that the practice of sharing needles was too ingrained in the drug culture to be stopped. As a result, using knowledge of consumer attitudes, Dr. Fishbein created a campaign that encouraged the cleaning of needles in bleach before sharing them, a goal that was believed to be more realistic.
•As a final benefit, studying consumer behavior should make us better consumers. Common sense suggests, for example, that if you buy a 64 liquid ounce bottle of laundry detergent, you should pay less per ounce than if you bought two 32 ounce bottles. In practice, however, you often pay a size premium by buying the larger quantity. In other words, in this case, knowing this fact will sensitize you to the need to check the unit cost labels to determine if you are really getting a bargain.
There are several units in the market that can be analyzed. Our main thrust in this course is the consumer. However, we will also need to analyze our own firm’s strengths and weaknesses and those of competing firms. Suppose, for example, that we make a product aimed at older consumers, a growing segment. A competing firm that targets babies, a shrinking market, is likely to consider repositioning toward our market. To assess a competing firm’s potential threat, we need to examine its assets (e.g., technology, patents, market knowledge, awareness of its brands) against pressures it faces from the market. Finally, we need to assess conditions (the marketing environment). For example, although we may have developed a product that offers great appeal for consumers, a recession may cut demand dramatically.
Pyramid Scheme
A pyramid scheme is a fraudulent investing plan that has unfortunately cost many people worldwide their hard-earned savings. The concept behind the pyramid scheme is simple and should be easy to identify; however, it is often presented to potential investors in a disguised or slightly altered form. For this reason, it is important to not only understand how pyramid schemes work, but also to be familiar with the many different shapes and sizes they can take.
The Scheme
As its name indicates, the pyramid scheme is structured like a pyramid. It starts with one person - the initial recruiter - who is on top, at the apex of the pyramid. This person recruits a second person, who is required to "invest" $100 which is paid to the initial recruiter. In order to make his or her money back, the new recruit must recruit more people under him or her, each of whom will also have to invest $100. If the recruit gets 10 more people to invest, this person will make $900 with just a $100 investment.
The 10 new people become recruiters and each one is in turn required to enlist an additional 10 people, resulting in a total of 100 more people. Each of those 100 new recruits is also obligated to pay $100 to the person who recruited him or her; recruiters get a profit of all of the money received minus the initial $100 paid to the person who recruited them. The process continues until the base of the pyramid is no longer strong enough to support the upper structure (meaning there are no more recruits).
A product-based pyramid scheme is the same concept disguised as a legitimate direct sales opportunity. Here's how it works:
•A distributor recruits 10 salespeople who each pay $500 for a starter kit of products to sell.
•The distributor gets 10 percent of each starter kit that's sold.
•The distributor also gets 10 percent of each product that any of his recruits sells, including more starter kits.
•The recruits are told that the fastest way to make money isn't by selling products, but by recruiting more people to buy starter kits.
•The people at the top of the pyramid get commissions from everyone in their downline, the many levels of recruits below them on the pyramid.
The problem with most product-based pyramid schemes is that the products themselves don't sell very well, or have very slim profit margins. So the only way to make money is to find more recruits. Eventually (and surprisingly quickly), the market becomes saturated. There are too many people trying to sell the same unattractive product and there's no one left to be recruited.
It's mathematically impossible for everyone to make money in a pyramid scheme. For example, if each recruit needs to find 10 more people to recoup the cost of his or her initial investment, the eighth level of the pyramid would have to recruit a billion people to make back their money. And the next level would need 10 billion, nearly twice the population of the Earth.
In fact, pyramid schemes don't work unless somebody loses. Those at the bottom of the pyramid are essentially defrauded by those on top. It's a mathematical fact that no matter how many people join a pyramid scheme, 88 percent of the members will be on the bottom level and will lose their money
Pyramid schemes are illegal because people don't lose their money due to normal market forces, but because the system requires them to lose so that a few at the top will win.
Studies show that in a naked pyramid scheme, 90.4 percent of people lose their money, while in product-based pyramid schemes, that number jumps to a shocking 99.88 percent
Multi-Level Marketing and Pyramid Schemes
On the surface, it's hard to tell the difference between a legitimate MLM and a pyramid scheme. That's because they're both built on the business model of "multiple levels" of distributors and recruits. Some critics of MLMs claim that all of them, even the supposedly "legitimate" ones, are pyramid schemes in disguise.
In a landmark 1979 ruling, the Federal Trade Commission found that Amway was not a pyramid scheme. That ruling has paved the way for hundreds of MLMs to follow Amway's business model. The Amway Web site highlights the differences between its unique "business opportunity" and a pyramid scheme:
•Amway doesn't pay distributors for simply recruiting new salespeople.
•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.
•Amway doesn't require its salespeople to buy starter kits or impose a minimum monthly order value to stay a member.
Amway stresses that the main difference between a legitimate MLM business model and a pyramid scheme is that a legitimate MLM is focused on selling products, not recruiting more salespeople. In a legitimate MLM, it should be possible to make money by simply selling products directly to customers. With that main criterion in mind, here are some other ways to identify product-based pyramid schemes:
•Pyramid schemes offer money for simply recruiting people. This money can come as a commission from the sale of a starter kit or as a recruiting "bonus."
•Avoid any MLM that puts much more emphasis on recruiting salespeople than selling the actual product.
•Pyramid schemes charge steep startup costs for joining, including mandatory training, a starter kit and a non-refundable membership fee.
•Beware of any MLM that allows five or more levels of distributors to collect commissions on a single sale.
•Make sure that the products being sold have real value and a competitive price. Are they reputable brands? Have the manufacturers been involved in recent lawsuits?
•Avoid MLMs that only sell lists of sales leads to other MLM salespeople. This is most likely outdated information that has made the MLM rounds several times before.
•Avoid signing up for an MLM as part of a high-pressure motivational event. Consider the information carefully and take it home to think about it.
•Be wary of anyone who tries to sell you on an MLM by flaunting their personal wealth. Realize that many of the people who claim to have made millions through MLM have actually made their money selling books and videos on how to make millions through MLMs.
•Bottom line: If it sounds too good to be true, then it probably is.
Notable Recent Cases
Internet
In 2003, the United States Federal Trade Commission (FTC) disclosed what it called an internet-based "pyramid scam". Their complaint states that customers would pay a registration fee to join a program and purchase a package of goods and services such as internet mail, and that the company offered "significant commissions" to consumers who purchased and resold the package. The FTC alleged that the company's program was instead a pyramid scheme that did not disclose that most consumers' money would be kept, and that it gave affiliates material that allowed them to scam others
Pyramid schemes may use email to persuade others that they are multi-level marketing (MLM) business plans. MLM plans—such as Amway, ACN, Mary Kay, Tupperware, and Avon Products—are sometimes criticized, but remain legal by offering genuine products; pyramid schemes do not.
Others
In early 2006 Ireland was hit by a wave of schemes with major activity in Cork and Galway. Participants were asked to contribute €20,000 each to a "Liberty" scheme which followed the classic 8-ball model. Payments were made in Munich, Germany to skirt Irish tax laws concerning gifts. Spin-off schemes called "Speedball" and "People in Profit" prompted a number of violent incidents and calls were made by politicians to tighten existing legislation. Ireland has launched a website to better educate consumers to pyramid schemes and other scams.
On November 12, 2008 riots broke out in the municipalities of Pasto, Tumaco, Popayan and Santander de Quilichao, Colombia after the collapse of several pyramid schemes. Thousands of victims had invested their money in pyramids that promised them extraordinary interest rates. The lack of regulation laws allowed those pyramids to grow excessively during several years. Finally, after the riots the Colombian government was forced to declare the country in economical emergency in order to seize and stop those schemes. Several of the pyramid's managers were arrested and are being prosecuted for the crime of "illegal massive money reception".
November 2008: The Kyiv Post reported on November 26 2008 that American citizen Robert Fletcher (Robert T. Fletcher III; aka "Rob") was arrested by the SBU (Ukraine State Police) after being accused by Ukrainian investors of running a Ponzi scheme and associated pyramid scam netting $20 Million USD (Kiev Post also reports that some estimates are as high as $150M USD).
The Federal Trade Commission has opened an investigation to Shop to Earn Shop to Earth.
Specialty Catalogs
Specialty catalogs are a promotion and distribution technique commonly employed by direct marketers. They describe, graphically and verbally, a limited range of products. Specialty catalogs are a good promotion/distribution choice for new products. They are also most effective when using a niche strategy. There are several reasons for this:
•It is less risky than a mass distribution strategy. If it is not successful, it can be altered with only moderate expense.
•It is a stealthy way of testing market acceptance of the product. It doesn't alert the competition, or at least the competition will not perceive it as a threat.
•Specialty distribution is better able to obtain high margins than mass distribution. This will allow a price skimming strategy, where it is possible to capture the consumer surplus over time.
•Specialty catalogs allow the marketer to better target prime segments, like the early adopters and innovators that will be prepared to try a new product.
•Catalog response is immediate. Product problems will become evident before too many products are shipped.
•Catalogs are less expensive than sales forces. The average cost per sale is lower than most forms of advertising where low volumes are involved.
•The printed medium is suitable for new products or any other situation where detailed information needs to be communicated.
The Scheme
As its name indicates, the pyramid scheme is structured like a pyramid. It starts with one person - the initial recruiter - who is on top, at the apex of the pyramid. This person recruits a second person, who is required to "invest" $100 which is paid to the initial recruiter. In order to make his or her money back, the new recruit must recruit more people under him or her, each of whom will also have to invest $100. If the recruit gets 10 more people to invest, this person will make $900 with just a $100 investment.
The 10 new people become recruiters and each one is in turn required to enlist an additional 10 people, resulting in a total of 100 more people. Each of those 100 new recruits is also obligated to pay $100 to the person who recruited him or her; recruiters get a profit of all of the money received minus the initial $100 paid to the person who recruited them. The process continues until the base of the pyramid is no longer strong enough to support the upper structure (meaning there are no more recruits).
A product-based pyramid scheme is the same concept disguised as a legitimate direct sales opportunity. Here's how it works:
•A distributor recruits 10 salespeople who each pay $500 for a starter kit of products to sell.
•The distributor gets 10 percent of each starter kit that's sold.
•The distributor also gets 10 percent of each product that any of his recruits sells, including more starter kits.
•The recruits are told that the fastest way to make money isn't by selling products, but by recruiting more people to buy starter kits.
•The people at the top of the pyramid get commissions from everyone in their downline, the many levels of recruits below them on the pyramid.
The problem with most product-based pyramid schemes is that the products themselves don't sell very well, or have very slim profit margins. So the only way to make money is to find more recruits. Eventually (and surprisingly quickly), the market becomes saturated. There are too many people trying to sell the same unattractive product and there's no one left to be recruited.
It's mathematically impossible for everyone to make money in a pyramid scheme. For example, if each recruit needs to find 10 more people to recoup the cost of his or her initial investment, the eighth level of the pyramid would have to recruit a billion people to make back their money. And the next level would need 10 billion, nearly twice the population of the Earth.
In fact, pyramid schemes don't work unless somebody loses. Those at the bottom of the pyramid are essentially defrauded by those on top. It's a mathematical fact that no matter how many people join a pyramid scheme, 88 percent of the members will be on the bottom level and will lose their money
Pyramid schemes are illegal because people don't lose their money due to normal market forces, but because the system requires them to lose so that a few at the top will win.
Studies show that in a naked pyramid scheme, 90.4 percent of people lose their money, while in product-based pyramid schemes, that number jumps to a shocking 99.88 percent
Multi-Level Marketing and Pyramid Schemes
On the surface, it's hard to tell the difference between a legitimate MLM and a pyramid scheme. That's because they're both built on the business model of "multiple levels" of distributors and recruits. Some critics of MLMs claim that all of them, even the supposedly "legitimate" ones, are pyramid schemes in disguise.
In a landmark 1979 ruling, the Federal Trade Commission found that Amway was not a pyramid scheme. That ruling has paved the way for hundreds of MLMs to follow Amway's business model. The Amway Web site highlights the differences between its unique "business opportunity" and a pyramid scheme:
•Amway doesn't pay distributors for simply recruiting new salespeople.
•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.
•Amway doesn't require its salespeople to buy starter kits or impose a minimum monthly order value to stay a member.
Amway stresses that the main difference between a legitimate MLM business model and a pyramid scheme is that a legitimate MLM is focused on selling products, not recruiting more salespeople. In a legitimate MLM, it should be possible to make money by simply selling products directly to customers. With that main criterion in mind, here are some other ways to identify product-based pyramid schemes:
•Pyramid schemes offer money for simply recruiting people. This money can come as a commission from the sale of a starter kit or as a recruiting "bonus."
•Avoid any MLM that puts much more emphasis on recruiting salespeople than selling the actual product.
•Pyramid schemes charge steep startup costs for joining, including mandatory training, a starter kit and a non-refundable membership fee.
•Beware of any MLM that allows five or more levels of distributors to collect commissions on a single sale.
•Make sure that the products being sold have real value and a competitive price. Are they reputable brands? Have the manufacturers been involved in recent lawsuits?
•Avoid MLMs that only sell lists of sales leads to other MLM salespeople. This is most likely outdated information that has made the MLM rounds several times before.
•Avoid signing up for an MLM as part of a high-pressure motivational event. Consider the information carefully and take it home to think about it.
•Be wary of anyone who tries to sell you on an MLM by flaunting their personal wealth. Realize that many of the people who claim to have made millions through MLM have actually made their money selling books and videos on how to make millions through MLMs.
•Bottom line: If it sounds too good to be true, then it probably is.
Notable Recent Cases
Internet
In 2003, the United States Federal Trade Commission (FTC) disclosed what it called an internet-based "pyramid scam". Their complaint states that customers would pay a registration fee to join a program and purchase a package of goods and services such as internet mail, and that the company offered "significant commissions" to consumers who purchased and resold the package. The FTC alleged that the company's program was instead a pyramid scheme that did not disclose that most consumers' money would be kept, and that it gave affiliates material that allowed them to scam others
Pyramid schemes may use email to persuade others that they are multi-level marketing (MLM) business plans. MLM plans—such as Amway, ACN, Mary Kay, Tupperware, and Avon Products—are sometimes criticized, but remain legal by offering genuine products; pyramid schemes do not.
Others
In early 2006 Ireland was hit by a wave of schemes with major activity in Cork and Galway. Participants were asked to contribute €20,000 each to a "Liberty" scheme which followed the classic 8-ball model. Payments were made in Munich, Germany to skirt Irish tax laws concerning gifts. Spin-off schemes called "Speedball" and "People in Profit" prompted a number of violent incidents and calls were made by politicians to tighten existing legislation. Ireland has launched a website to better educate consumers to pyramid schemes and other scams.
On November 12, 2008 riots broke out in the municipalities of Pasto, Tumaco, Popayan and Santander de Quilichao, Colombia after the collapse of several pyramid schemes. Thousands of victims had invested their money in pyramids that promised them extraordinary interest rates. The lack of regulation laws allowed those pyramids to grow excessively during several years. Finally, after the riots the Colombian government was forced to declare the country in economical emergency in order to seize and stop those schemes. Several of the pyramid's managers were arrested and are being prosecuted for the crime of "illegal massive money reception".
November 2008: The Kyiv Post reported on November 26 2008 that American citizen Robert Fletcher (Robert T. Fletcher III; aka "Rob") was arrested by the SBU (Ukraine State Police) after being accused by Ukrainian investors of running a Ponzi scheme and associated pyramid scam netting $20 Million USD (Kiev Post also reports that some estimates are as high as $150M USD).
The Federal Trade Commission has opened an investigation to Shop to Earn Shop to Earth.
Specialty Catalogs
Specialty catalogs are a promotion and distribution technique commonly employed by direct marketers. They describe, graphically and verbally, a limited range of products. Specialty catalogs are a good promotion/distribution choice for new products. They are also most effective when using a niche strategy. There are several reasons for this:
•It is less risky than a mass distribution strategy. If it is not successful, it can be altered with only moderate expense.
•It is a stealthy way of testing market acceptance of the product. It doesn't alert the competition, or at least the competition will not perceive it as a threat.
•Specialty distribution is better able to obtain high margins than mass distribution. This will allow a price skimming strategy, where it is possible to capture the consumer surplus over time.
•Specialty catalogs allow the marketer to better target prime segments, like the early adopters and innovators that will be prepared to try a new product.
•Catalog response is immediate. Product problems will become evident before too many products are shipped.
•Catalogs are less expensive than sales forces. The average cost per sale is lower than most forms of advertising where low volumes are involved.
•The printed medium is suitable for new products or any other situation where detailed information needs to be communicated.
Multi-Level Marketing
Multi-Level Marketing (MLM) or Network Marketing
What is Multi-Level Marketing (MLM)?
Multilevel marketing (MLM) plans are a way of selling goods or services through distributors. These plans promise that if you sign up as a distributor, you will receive commissions — for both your sales of the plan’s goods or services and those of other people you recruit to join.
Multi-level marketing (MLM) is a term that describes a marketing structure used by some companies as part of their overall marketing strategy.
The structure is designed to create a marketing and sales force by compensating promoters of company products not only for sales they personally generate, but also for the sales of other promoters they introduced to the company, creating a down line of distributors and a hierarchy of multiple levels of compensation.
The products and company are usually marketed directly to consumers and potential business partners by means of relationship referrals and word of mouth marketing
Criticism of Multi- Level Marketing (MLM)
The FTC issued a decision, Case. Amway Corp. in 1979, which indicated that multi-level marketing was not in itself illegal. However, Amway was found guilty of price fixing (by requiring “independent” distributors to sell at low prices) and making exaggerated claims income.
The Federal Trade Commission believes that multi-level marketing organizations with greater incentives for recruitment as sales of products must be treated with scepticism. In April 2006, she proposed a business opportunity for the rule requires that all sellers of business opportunities, including MLMs to provide sufficient information to enable buyers to make an informed decision about their probability of earning money. FTC regulation of trade rules generally 1-1/2 to 3 years before a final settlement is established.
The criticisms were raised against MLM programs to be cult-like in nature. Many programs feature intense MLM programs motivation, which may be difficult to distinguish from the cult propaganda. Criticism of Amway as a cult have been widely seen as unfounded, although some of the “bodies of Independent Business” within Amway have
been accused of operating as cults.
Another criticism is that MLM programs are in place to thwart most distributors, as there is a continued incentive to continue to recruit distributors even though the products have reached market saturation, which has caused the average earnings per distributor continue to decline.
How does a Multi Level Marketing works?
Multilevel marketing plans, also known as "network" or "matrix" marketing, are a way of selling goods or services through distributors. These plans typically promise that if you sign up as a distributor, you will receive commissions -- for both your sales of the plan's goods or services and those of other people you recruit to join the distributors. Multilevel marketing plans usually promise to pay commissions through two or more levels of recruits, known as the distributor's "downline."
In a typical multi-level marketing or network marketing arrangement, individuals associate with a parent company as an independent contractor or franchisee and are compensated based on their sales of products or service, as well as the sales achieved by those they bring into the business. This is like many franchise companies where royalties are paid from the sales of individual franchise operations to the franchisor as well as to an area or region manager.
In a legitimate MLM company, commissions are earned only on sales of the company's products or services. No money may be earned from recruiting alone ("sign-up fees"). One must analyze the compensation plan to determine whether participants are paid from actual sales to customers and not from money received from new recruits. If participants are paid primarily from money received from new recruits, then the company is an illegal pyramid or Ponzi scheme.
Some less legitimate companies produce revenues primarily by attracting new participants with the hope of reward and selling them products or services of dubious value at inflated prices, as opposed to selling products or services consumers would purchase at the given price without regard to the opportunity attached. One must evaluate the products or services and determine if a significant percentage of consumers would continue to purchase them if the participants do not make money from the underlying opportunity. If the products or services have dubious value or if the participants must purchase excessive quantities without reasonable intent to use or resell said items, then the company is likely a thinly veiled illegal pyramid scheme.
Multi-level marketing has a recognized image problem due to the fact that it is often difficult to distinguish legitimate MLMs from illegal scams. MLM businesses operate legitimately in the United States in all 50 states and in more than 100 other countries, and new businesses may use terms like "affiliate marketing" or "home-based business franchising". However, many pyramid schemes try to present themselves as legitimate MLM businesses.
Compensation Plans in MLM
Companies have devised various MLM compensation plans over the decades.
•Unilevel or Stairstep Breakaway plans are the oldest and most popular. They feature two types of distributors -- managers and non-managers -- and three types of pay:
1.Baseshop overrides are overrides of managers from their subordinate non-managers, collectively called a baseshop. This is the same as any other sales organisation.
2.Generational overrides are overrides of managers from the baseshop of managers who were previously their subordinate. Most plans compensate at least three generations of such managers.
3.Executive bonuses are commissions for managers who exceed a sales quota. For example, 2% of the total company sales revenue may go to a bonus pool that is shared monthly pro rata to managers who exceed $10,000 in that month.
•Matrix Plans limit the width of each level in a distributor's group, forcing strong distributors to pile ("spillover") their recruits over people who did not sponsor them.
•Binary plans limit the width of each level to two legs. Commissions are based on "cycles," where a distributor is paid a fixed amount whenever both legs achieve a certain number of sales units each. Commissions are paid incrementally when the sales volume in each leg matches.
•Elevator or Matrix schemes feature a game board or a list on which each distributor pays in one or more product units to participate. When a certain number of units have been paid in, the structure splits and the earlier participant receives consideration.
Ways to Avoid Being Sucked in by a Multi Level Marketing
•Never agree to go to an interview without getting a company name. Once you have the company name, you should research it on the internet. If you can’t find them, or anything about them, or if they require that you purchase costly inventory, then that raises some red flags. Check with your local Better Business Bureau and state Attorney General about any business that seems fishy.
•Who pays your salary? If it is straight commissions then be suspicious. Is the company putting their money where their mouth is? Check that there really is a product, that it is a reasonable price, and that it is something which would be possible to find a market for. If the commissions are mainly for recruiting others to do the same thing as you or for selling to others within the network, that is a pretty sure sign of a pyramid scheme.
•Do they claim to have some secret plan/connection/relationship/method which you are unable to verify? Pyramid schemes are illegal, but they aren’t the only type of business that is illegal. Make sure that you understand how a business works and how it makes money for the various people involved. This is just one step in making sure its legit.
•Business is not a matter of “faith”. Many pyramid schemes continually ask their members to “keep the faith.” They are continuously “pre-launch”, yet they never actually launch. If their best argument is that you should have faith, then don’t stick around, you can go to church instead.
•“Earn your bread by the sweat of your brow.” It might not sound as alluring as promises of making thousands of dollars with little or no work, but you’ll find that “real” business opportunities actually require you to work. In return they offer you some sort of reasonable compensation. If there is an exaggerated compensation advertised, or if it “only takes an hour a day” then it is highly unlikely that this is a legitimate business.
What is Multi-Level Marketing (MLM)?
Multilevel marketing (MLM) plans are a way of selling goods or services through distributors. These plans promise that if you sign up as a distributor, you will receive commissions — for both your sales of the plan’s goods or services and those of other people you recruit to join.
Multi-level marketing (MLM) is a term that describes a marketing structure used by some companies as part of their overall marketing strategy.
The structure is designed to create a marketing and sales force by compensating promoters of company products not only for sales they personally generate, but also for the sales of other promoters they introduced to the company, creating a down line of distributors and a hierarchy of multiple levels of compensation.
The products and company are usually marketed directly to consumers and potential business partners by means of relationship referrals and word of mouth marketing
Criticism of Multi- Level Marketing (MLM)
The FTC issued a decision, Case. Amway Corp. in 1979, which indicated that multi-level marketing was not in itself illegal. However, Amway was found guilty of price fixing (by requiring “independent” distributors to sell at low prices) and making exaggerated claims income.
The Federal Trade Commission believes that multi-level marketing organizations with greater incentives for recruitment as sales of products must be treated with scepticism. In April 2006, she proposed a business opportunity for the rule requires that all sellers of business opportunities, including MLMs to provide sufficient information to enable buyers to make an informed decision about their probability of earning money. FTC regulation of trade rules generally 1-1/2 to 3 years before a final settlement is established.
The criticisms were raised against MLM programs to be cult-like in nature. Many programs feature intense MLM programs motivation, which may be difficult to distinguish from the cult propaganda. Criticism of Amway as a cult have been widely seen as unfounded, although some of the “bodies of Independent Business” within Amway have
been accused of operating as cults.
Another criticism is that MLM programs are in place to thwart most distributors, as there is a continued incentive to continue to recruit distributors even though the products have reached market saturation, which has caused the average earnings per distributor continue to decline.
How does a Multi Level Marketing works?
Multilevel marketing plans, also known as "network" or "matrix" marketing, are a way of selling goods or services through distributors. These plans typically promise that if you sign up as a distributor, you will receive commissions -- for both your sales of the plan's goods or services and those of other people you recruit to join the distributors. Multilevel marketing plans usually promise to pay commissions through two or more levels of recruits, known as the distributor's "downline."
In a typical multi-level marketing or network marketing arrangement, individuals associate with a parent company as an independent contractor or franchisee and are compensated based on their sales of products or service, as well as the sales achieved by those they bring into the business. This is like many franchise companies where royalties are paid from the sales of individual franchise operations to the franchisor as well as to an area or region manager.
In a legitimate MLM company, commissions are earned only on sales of the company's products or services. No money may be earned from recruiting alone ("sign-up fees"). One must analyze the compensation plan to determine whether participants are paid from actual sales to customers and not from money received from new recruits. If participants are paid primarily from money received from new recruits, then the company is an illegal pyramid or Ponzi scheme.
Some less legitimate companies produce revenues primarily by attracting new participants with the hope of reward and selling them products or services of dubious value at inflated prices, as opposed to selling products or services consumers would purchase at the given price without regard to the opportunity attached. One must evaluate the products or services and determine if a significant percentage of consumers would continue to purchase them if the participants do not make money from the underlying opportunity. If the products or services have dubious value or if the participants must purchase excessive quantities without reasonable intent to use or resell said items, then the company is likely a thinly veiled illegal pyramid scheme.
Multi-level marketing has a recognized image problem due to the fact that it is often difficult to distinguish legitimate MLMs from illegal scams. MLM businesses operate legitimately in the United States in all 50 states and in more than 100 other countries, and new businesses may use terms like "affiliate marketing" or "home-based business franchising". However, many pyramid schemes try to present themselves as legitimate MLM businesses.
Compensation Plans in MLM
Companies have devised various MLM compensation plans over the decades.
•Unilevel or Stairstep Breakaway plans are the oldest and most popular. They feature two types of distributors -- managers and non-managers -- and three types of pay:
1.Baseshop overrides are overrides of managers from their subordinate non-managers, collectively called a baseshop. This is the same as any other sales organisation.
2.Generational overrides are overrides of managers from the baseshop of managers who were previously their subordinate. Most plans compensate at least three generations of such managers.
3.Executive bonuses are commissions for managers who exceed a sales quota. For example, 2% of the total company sales revenue may go to a bonus pool that is shared monthly pro rata to managers who exceed $10,000 in that month.
•Matrix Plans limit the width of each level in a distributor's group, forcing strong distributors to pile ("spillover") their recruits over people who did not sponsor them.
•Binary plans limit the width of each level to two legs. Commissions are based on "cycles," where a distributor is paid a fixed amount whenever both legs achieve a certain number of sales units each. Commissions are paid incrementally when the sales volume in each leg matches.
•Elevator or Matrix schemes feature a game board or a list on which each distributor pays in one or more product units to participate. When a certain number of units have been paid in, the structure splits and the earlier participant receives consideration.
Ways to Avoid Being Sucked in by a Multi Level Marketing
•Never agree to go to an interview without getting a company name. Once you have the company name, you should research it on the internet. If you can’t find them, or anything about them, or if they require that you purchase costly inventory, then that raises some red flags. Check with your local Better Business Bureau and state Attorney General about any business that seems fishy.
•Who pays your salary? If it is straight commissions then be suspicious. Is the company putting their money where their mouth is? Check that there really is a product, that it is a reasonable price, and that it is something which would be possible to find a market for. If the commissions are mainly for recruiting others to do the same thing as you or for selling to others within the network, that is a pretty sure sign of a pyramid scheme.
•Do they claim to have some secret plan/connection/relationship/method which you are unable to verify? Pyramid schemes are illegal, but they aren’t the only type of business that is illegal. Make sure that you understand how a business works and how it makes money for the various people involved. This is just one step in making sure its legit.
•Business is not a matter of “faith”. Many pyramid schemes continually ask their members to “keep the faith.” They are continuously “pre-launch”, yet they never actually launch. If their best argument is that you should have faith, then don’t stick around, you can go to church instead.
•“Earn your bread by the sweat of your brow.” It might not sound as alluring as promises of making thousands of dollars with little or no work, but you’ll find that “real” business opportunities actually require you to work. In return they offer you some sort of reasonable compensation. If there is an exaggerated compensation advertised, or if it “only takes an hour a day” then it is highly unlikely that this is a legitimate business.
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