The FTC’s Definition of a Pyramid Scheme
Debra A. Valentine, former general counsel for the FTC, defined pyramid schemes this way:
They promise consumers or investors large profits based primarily on recruiting others to join their program, not based on profits from any real investment or real sale of goods to the public. Some schemes may purport to sell a product, but they often simply use the product to hide their pyramid structure.17
She went on to say that in addition to a lack of retail sales, “inventory loading” is another sign of a pyramid scheme. That happens when a company’s incentive program forces recruits “to buy more products than they could ever sell, often at inflated prices,” Valentine said. If that occurred throughout a company’s distribution system, the people at the top of the pyramid would reap “substantial profits, even though little or no product moves to market,” she explained. “The people at the bottom make excessive payments for inventory that simply accumulates in their basements.” And although pyramid schemes claim that their products are “selling like hotcakes,” the sales that take place happen between people inside the pyramid or to new recruits, not to consumers in the general public, she said.18
In a 1998 presentation to the International Monetary Fund’s seminar on legal issues facing central banks, she gave an example of how a pyramid scheme operated in a so-called three-by-four matrix:
Level 1 $150 × 3 = $450
Level 2 $30 × 9 = $270
Level 3 $30 ...