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How does an MLM company pay its sales force for the behavior it desires? How much should payout be? How much can the company afford to pay out? For $1,000 of product sales, should the payout be $60? $100? $200?

Pricing
The pricing methodology of an MLM company’s product line has a lot to do with its payout. In today’s network marketing companies, two prices are discussed:

• Wholesale Price. The highest price distributors pay for product.
• Retail Price. The price retail customers pay for product.
  
  

Retail is typically 25% higher than the wholesale price. In order to avoid confusion, companies will choose either the retail or wholesale price as their “base” price, upon which all their literature and price lists are based. Party Plan companies generally employ a retail-based pricing method. Distributors sell to customers at retail and take the difference between retail and wholesale as profit. MLM companies typically use a wholesale-based pricing method. There are a lot of pricing-related issues that have to be considered and decisions made, then all the characteristics of the commission plan flow from these decisions.

Payout Standard
The commission payout standard in the industry today is 40-45%. That’s percentage payout of the wholesale dollar—the money that actually comes in from the distributor. This represents an eight time mark-up from wholesale to retail. In other words, the retail price of the product is eight times its cost.Variance from the standard brings predictable consequences, which should be carefully considered. If a company promotes a plan paying only around 20% commission, it may have a hard time recruiting and keeping distributors. It may also find great difficulty competing in the marketplace against other direct selling companies. If you’re going to pay more than 45% in commission, you have to know where that money is going to come from. Some companies go up to 50%, but when you start going much more than that, it’s very hard to sustain long-term profitability. The higher percentages are possible with high product margins. Theoretical payout—the percentage the plan would pay if all commissions were paid out in every case—should not be more than 8% above actual, to avoid disappointing distributors expecting more.

Payout Distribution
How do you distribute the standard 45% commission? If you give everybody 5%, then you can pay about 9 people. If you pay everybody 10%, you can pay 4 ½ people, and, if you pay 20%, then you can pay about 2 ¼ people. Companies have to put some deep thought and study into making fundamental decisions about how they’re going to divide this money. What do most companies do?

5% Plus Theory
5% Aspect
The purpose of the 5% Plus Theory is to provide a standard for companies to allocate commission money. Application of this theory enables distributors to solidly count on the beliefs:

• If I build a downline, I will have some control over my destiny.
• If I build my downline properly, I will get paid on the majority of all of my downline sales.
  
  

There are two parts of the 5% Plus Theory: 1) companies can’t pay the standard 5% commission to all distributors. Sometimes when a distributor makes a sale, he/she might have a 50-60-person upline. So, if there were 50 people in that upline and the company paid everyone 5%--5 x $50 equals 250% payout! Obviously, the company has to decide who to give the 5% to. 2) Then, companies have to decide who to give the plus percentages to--additional,MLM companies build commission plans by dividing up their downline and deciding how much to pay each division. Most commissions today are built on the theory of the 5% plus curve. This theory says each upline distributor that receives commissions will receive at least 5% in order for the commission plan to be viable. You need to pay those upline distributors critical to the growth and stability of your company at a higher percentage. The commission plans that have survived have done so implementing this theory.

Figure 1. 5% (Plus) Theory of Commission: Curve.

Figure 2. 5% (Plus) Theory of Commission.

However, the problem with saying you’re going to pay only 5% is that if the downline sales for a distributor are $10,000 and you give that individual 5%, his/her earnings are only going to be $500. Is this the appropriate amount for a distributor to earn on $10,000 of sales? If somebody else is making those sales, then that may be an appropriate amount. If he/she is going out making those sales alone, that individual will soon be working at Wal-Mart because the earnings per hour is just too low.

Plus Aspect

The challenge is to create a segment of your downline that you can make a higher percentage on. These are the people you really want to incentivize. The plus aspect of the 5% Theory is, you pay the upline distributor, who is responsible for those sales. You don’t give everybody 5%. You give some people 5%, then you give others an additional percent. Most companies want to pay the 40-45% in commissions, and the rest in incentives like car programs and trips, plus global bonus pools.

Figure 3: “Plus” Aspect of Theory.

It comes down to the argument of where do these plus dollars go? How do you determine where they go? How do you divide up the downline to determine where the plus dollars go? Different commission plans propose different approaches to these questions. Your company must choose the plan that best fits its needs and matches its overall philosophy.

Note: For a discussion of today’s three major commission theories, including the 5% Theory, refer to: The Three Proven Commission Plans: Parts 1-5, by Mark Rawlins.

The bottom line is that MLM corporate executives must build a plan that effectively rewards their distributors. A successful network marketing company must have a strong and flexible commission plan that pays and generates activity at every level of the company.

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