                            February    21,   1969



Commissioner Francis A. Mlskell
Consumer Credit Commissionek
P. 0. Drawer “WW”~                      Opinion No. H-343
                                                       - -
Capitol Station
Austin. Texas 7871.1                    Re:   Whether ~“chain” or “wramid”
                                              selling    plans, lnvol;ing      the
                                              sale of distributorships         pri-
                                              marlly    and the sale o? merchan-
                                              dlee secondarily,       constitute
                                              lotteries     or violate   the
                                              D,eceptive Trade Practice        pro-
                                              vision of the Texas Consumer
                                              Credit Code or the Texas
                                              Anti-trust     Adt

Dear Mr. Miskell:
       You have requested our opinion concerning certain chain or pyramid
selling   plans wherein the sale of distributorships       is primary and the
sale of’ merchandise is secondary, and have inquired as to whether
such plans constitute    lotteries,    or are in violation   of the Decep-
tive Trade Practice    provision    of the Texas Consumer Credit Code,
or the Texas Anti-trust     Act.
      The four selling    plans in question,   which are summarized from
the various instruments,      documents, charts and memoranda furnished
by your office,   all,operate    in much the same way, three being almost
identical,   and the fourth different    in operation.
      The three similar pyramid plans are utilized     to distribute    a
product through four levels from the company to the public.          One
company sells an automobile accessory called a “vapor-inJector”
which ostensibly   increases gas6line mileage, reduces exhaust emis-
sions, and results    in the use of lower octane rated,    less expensive
gasoline.   The second company sell8 an automobile     accessory called
a “gyromatic safety control” device     which ostensibly    prevent6 out-
of-control  skidding.    The th&M company sells a line of cosmetics.




                                  -   1691-
Honorable Francis      A. Miskell,     Page 2 (M-343)

       The company utIlIz1ng    the fourth pyramid plan, unlike the
others, does not sell a product through its distributors        but
utilizes   a three level pyramid organization    to distribute   cards
which entitle    the card-bearer   to shop at the company ‘8 discount
stores.
        Member6 of each of these pyramid plan organizations                are re-
 cruited by the company at periodic           and regular company sales meet-
 ings held once a week or more. At these meetings little                   time Is
 spent by the company explaining          the product, but a great deal of
 time is spent explaining        the pyramid distribution         concept and plan,
 and its benefits      to the members. In the three similar plans, the
 product distribution       plans, the companies represent that a.person
 can .ioin the organization        and become a distributor         by purchasing
  the required number of units ot their product anal men reaiim
  a tremendous income after a short period of time by rlmp4                   recruit-
  ing other distributors       who will buy the product from the dlstribu-
  tor who recruited      them. The number of products required to b.e pu#-
  chased to join the organization          1s determined according to which of
  the four levels is ChOBen; the higher the level,               the greater the            :
‘number of units required to be purChaBed. Price differentials
  are made between the levels of the pyramid, with the higher levels
  enjoying a lower buying price.           This differential       is called an
  “override”.      In addition to the “override” received on each unit
  of the product sold to a lower level distributor,                each distribu-
  tor receiv~es a “training       fee” from each new distributor          he re-
  cruits.     The “training    fee” is ostensibly      compensation, for the           .,~.,~,.,   ,,
  recruiter’s    time in explaining      the distribution      plan of the company
  and teaching the new distributor          to market the product.          The com-
  pany repreaents to prospective         distributors    that by simply recrult-
  ing several others Into the pyramid at each succeeding sales meet-
  ing a distributor      can move steadily      up the pyramid and expect to
  realize    an income close to $100,000 within a year.               One of these
  pyramid plans computes its figures by using an average of five
  people recruited~into       the organization     by each other person in the
  organization     each month. The companies do not explain the market
  potential    of their productn, and they do not screen the prospec-
  tive distributors      to dstermLne their relling        ability     or financial
  respohslbility     .
      The company utilizing the fourth pyramid plan holds salea
meetings on a weekly basis and recruits    member8 In the name way
as ~&MSTother three plans.  To join this card distribution   pyramid
organization  a person must pay an enrollllent fee which Is priced
according to the level chosen, a higher price for a higher level.



                                         - 1692 -
Honorable   Francis      A. bflskell,    Page 3 (M-343)

Then he must pay a monthly service charge to remain a member. The
members distribute   company ca~rds with their distributor     number
thereon to several hundred people, and then receive a percentage
of the p,rofit on the merchandise purchased,at       a company store by
one of their card-bearers.     The distributors     in the pyramid in
line above the dilstributor   whoae card is used also receive a per-
centage of the profit.     Wo product is bought and sold by these pyra-
mid plan members. They merely distribute        cards and bring proepec-
tive members to the sales meetings.


       In Texas the term “lottery”  is said to have no technical       sig-
nification   in the law; and since the prohibitory    statute    (Art.
654, Vernon’s Penal Code) fails to provide any definition,         its
meaning must be determined from    popular usuage in the common law;
with due consideration   to the public policy   undsrlging    tha authority.
37 Tex. Jur. 2nd 493, Lotteries,    Sec. 1.
     It is well settled          in Texas that a lottery       ie composed of   three
elements : (1) a prize          or prizes;
             (2)   the award or dietribution          of the prize
                   or prizes by chance; and
             (3)   the payment either         directly  or indirectly
                   by the particdpante         of a consideration
                   for    the right     or privilege   of participating.
City  of Wink v. Griffith     Amusement Comr,          , 100 S.W.Pd 695 (Tex.
      1936 * m        V. State, 127 S W 2d              (Tex. Grim. 1939); Brice
vyP&ate ’is2                       242’S:W .2           3 (1Bl)j  State v. -
Socony tiibi.1 011 Company, 386 S.W.26‘ 16              ex.   Civ . An,
err, ref.,   n.r.e.).
       In the facts presented in the product dietrdbution        plans It
appears that the money to be received by each dietributor           as an
“override” commleeion for the eale of the product and the money re-
ceived as a “t.ralnlng fee” for helping to recruit people into the
organizatioiwould      conetltute   the price which is the first     element
of a lottery.      The third element, payment of coneideration       by the
participants    for the right to participate,      aleo clearly  appears a8
a part of theee pyramid celling        plan arrangements.    The conelUera-
tion for the opportunity       to receive the price 16 the purchase price



                                          - 1693 -
Honorable   Francis   A. Mlskell,   Page 4 (M-343)

paid for the products purchased, either fr,om the company or from
someone higher than the purchaser within the organization,  add
the “training  fee” paid.
      In the card distribution  plan the first   element 0r a lottery,
the prize,   is the percentage of the purchase price received       by the
card distributor   whenever one of his card-bearers     makes a purchase
at a company store.    The third element consideration,     .is the aem-
her’s enrollment fee and the monthly iservice charge whfch must be
paid to remain a member.
       The second element of a lottery,     the distributlm     of the
prize by chance, requires a cloeer      annlynis in the Ii&it     of the de-
ci~lons as to whether or not the dominatW          element of the entire
scheme is that of chance or that of 8kl
fjh C.J.S. 846 Lot-            Set 2b(2)dk&%%%e”r,’
the plan or g;ms dependr’e&elg         cm’8kl.11, ikfs     not a lotier,,
although      rizea are offered ?or the bert rolutlon.
State,   11 ts Tex. Grim. 381, 38 S.Y.2d
sates         over skill or
lottery   is estamed.
0. Leach, 67 W.D.28 618,                    (Wash. Sup. 1965) .

       In the opinion to which you referred         ln your first   letter,
Attorney General Oplnlaa lo. C-619           $966), it was held that a
chain referral    selling    plan contain 1ng the elements of a prize
constituted   a lottery    in Texas, where ,the,participants      who paid
for the merchandise and turned in a list of names to the company
had no control    over whether the eople they named on that llst.were          ..~ ..,
contacted by the company, ti         80Pd th8 merchandise which would re-
suit in a rebate to tharr. TRIrs much of the LabC-arylaw from
other states as well a8 Ten8 ~8 reviewed to determine whether
chance predominated we?            11 and &t&m ent in the plan, and we
mat         it did becauro !e -8       inherent from the lack of control
which the participants       lnd war   whether the persons they named and
referred were sold the merchandise.           In the card distribution
py,ramid plan in questian hors, chance         appears to be the dominaat
element over okill              nt   6mnuity         as it was in Attorney
General Opinle.          @a-         participant    in this plan receives
no prize at all unlerr OM of hi8 card-bearers             happens .to shop
at one of the.cixnpaly rtorer,       and make8 a purchase.      He has no
control over where hi8 card-bearer8          mi&t   rhop.   Granted he might
screen   carrfullg    th8
if he gives them to ~tt~~f~~~~~~e~~~~~~‘~h~~~
will shop at am oi thase 8tore#,   he is not aaeured that they will
#hop there.  He doea ccntrol  tb psople he brings to the organizational



                                     - 1694 -
Honorable    Francis   A. Mlskell,     Page 5 (M- 343

sales meetings and encourages to join the pyramid plan, but he has
no control   over the shoppers to whom they in turn give their cards
and whether those people shop at a company store or not.    Therefore,
It appears to us that the element of chance predominates over any
skill or ud ment in the card distributionplan.      Chance is inherent
inthe   plan
           w t rough the lack of control  of the carwere.       This
plan thus constitutes   a lottery in Texas within the meaning of the
common law and Article   654, Vernon’s Penal Code.
       The product distribution           pyramid plans present a closer ques-
tion on the element of chance, which we think would have to be sub-
mitted to the fact findxa                   court of law.       On the face of all
three plans there appears to be simply a business arrangement involv-
ing independent contractors             contractually     bound to other indepen-
dent contractors.           The distributors      at the various levels purchase
the oroducts for resale and resell               them to whom thev nlease.          Resale
to the public,        of course,    involves a certain amount of selling              &ll,
~;~~;;tto;*enuiEy.                These three plans would certainly           not be
                      e sa e of merchandise were primary.              However. the sale
of merchandise        appears to be only secondari to the sale,of               &.stribu-
torships,     with the result that a distributor’s               success hinges more
on his ability,to         recruit    lower level distrfbutors         tnan on his abi-
lity to sell the product.             We are unable to ascertain         from the mater-
ial which we have received             describing    these three plans whether, in
fact,   any of the distributors           at any level ever attempt to sell the
product to the public.            Someone must SeUthe          product if anyone in
the organization         is to realize      a return on his investment.           We also
cannot ascertain         whether,   in fact, any of the upper level distribu-
tors help train the lower level distributors                  or help them in their
sales efforts       if the lower level distributors             do attempt to sell
the product to the public.              Some skill or judgment certainly           is
required to convince friends,             relatives,     and acquaintances      to come
to the sales meetings at which the organization                   leaders explain
the pyramid plan and the benefits               of it.    Further, we cannot as-
certain from the material which is available                  describing    these plans
whether the members of the pyramid organizations                   help at the sales
meetings in selling           the pyramid concept and in convincing prospec-
tive distributors         to join the organization.           If the members do sell
the product, train new distributors,                and/or help sell the pyramid
concept,    then they are exerting           suni degree of skill
ingenulte in making the organisation                workabl~e aeo
chance
-         would   be   a   less  dominant    factor.
       These three plans differ           from the plan, concluded as a matter
of law to be a lottery,           in Attorney General Opinion No. c-619 in
that here the members of the plans can sell the product and/or can
help convince others to join the organization                  and/or can help train
or supervise the recruited            distributors,      whereas in the referral
selling    plan considered        in Attorney General Opinion No. c-619 the
participants      in the plan had no control whatsoever once they turned
in the list of names to the, salesman.                 We conclude,    therefore,     that
there is a fact question In these three product distribution                       pyramid
                                         - 1695 -
Honorable   Francis   A. Miakell,   Page 6 (M-343)

plans as to whether there la enough skill,
exerted by the distributors   and members of
nate over the.chance element, which is certainly    present to some
extent.  This s        has no authority to determine fact questions,
which is the province of the trier of facts in a court of law.



       We have examined pyramid selling   plane generally~and  not
specifically    the four described above, in light of the Deceptive
Trade Practices    provision  of the Texas Consumer Credit Code,
Article    5069 - 10.01, et seq., Vernon ‘8 Civil Statutes.
       If a pyramid selling    plan has as its primary purpose the eell-
ing of a product only to members and prospective          members 3f the
organization   rather than to the public at large, then a Fepreeenta-
tion, or the creation     of an illueion,    that the primary purpose is
to sell the product to the public will constitute          a false repreeen-
tatlon of the, purpose of the plan      and a ,“deceptive   practice”    under
our construction     of the Texas Consumer Credit Code.        If the primary
purpose is to sell the product to the public,         then public sales
figures or potential     ealee figures    must not be falsely     repreeented;~
and an inaccurate     or exaqerated    claim of ea)ee,    expressed    or I”-
plied,   will constitute    a deceptive    practice   under the Texas
Consumer Credit Code.

      Typically   a pyramid plan sales pitch stresses          to the prom-
tlve members the numerical progression            possible  for ‘building an
organizatl~on.’ Such a sales pitch might envision each member of a
pyramid organization      recruiting    five others into the organization      ”
each month, and those five recruiting           five others each, etc. from
month-to-month.      It is apparent on its iace that such ,a numerical
progression    cannot continue long without saturating           the market.
Thus, one of two occurrences         is certain.     Either the,market will
soon be saturated,     or more likely,      the progression    will not con-
tinue to operate in the way that it is represented,              because some
menibere will not recruit      other members.       In either instance,    a
“deceptive   practice”    is committed because the pyramid does not and
Eannot continue to #row and progress          as reprerented.      To avoid a
  deceptive practice      in etrerring     the numerical progression      of a
pyramid plan, the sales prerentation          should not create the illusion
that such a progression       will work for everyone or continue beyond
a short time.
                            TRMS ARTI-TRUSTACT
      You have elao requeated our opinion concerning pyramid selling
plane as they might violate  the Texas Anti-trust  Act.   Again we have
considered pyramid plans generally  in light of this ,lau.

                                     -   1696   -
    Honorable    Franics    A. Miskell,     Page 7 (M-343)


           Pyramid organizations        generally     regard each member not as an
    agent but as an independent           contractor,      bound by the terms of a
    written    contract.      The typical     pyramid organization’s         contract     terns
    require    that these independent         contractors,      their   members, buy pro-
    ducts exclusively        from the immediate superior          who recruited       them
    and sell     exclusively     to the immediate subordinates            whom they re-
    cruited    into the pyramid..       Additionally,       the contract     terms typi-
    cally   fix the price       of the product according         to levels     in the
    pyramid.      Such contract     ~terms violate      the Texas Anti-trust         Act.
    There is no doubt now that the Texas Anti-trust                   Act forbids     such
    “exclusive     dealing”     and “price    fixing”    agreements     ,in Texas.     Title
    2, Texas Business        and Commerce Code, S,ec. 15.01,           et seq.;    Ford
    Motor Co. v. State,         142 Tex. 5, 175 S.W.2d 230 (1943).                 -

            We are unable to say unequivocally      whether          the four pyramid
    plans described     earlier   in this opinion   violate          the Texas Con-
    sumer Credit Code or the Texas Anti-trust          Act.          The memoranda de-
    tailing    their operations     is not complete  enough          to so determine.
    Thus, a fact question       is raised  which would have           to be decided   by
    a court of law.

           It is our opinion,    however,    that If the pyramid plane in
    question    opexate by use of the false      representatins         discussed     in
    the past few paragraphs,       or their   promoters   engage in conduct which~
    creates   confusion    or misunderstand:ing   about their      selling     plans,
    they violate     the Texas Consumer Credit Code.’ Additionally,               if they
    rely upon “price     fixing”   or “exclusive    dealing”    contract     arrangements
    written   or oral,   they violate    the Texas Anti-trust       Act.

                                             SUMMARY

                The card distribution       pyramid plan constitutes      a latter
          in Texas within the meaning of the common law and Article                65 i: ,
          Vernon’s   Penal Code, because      it contains    the elements     of a
          prize   and consideration     r’or the opportunity     to win a prize,
          and the award thereof       is determined    by chance which is in-
          herent from the participants’         lack of control     over the pyra-
          mid plan’s   success,     and chance predominates      over skill,     judg-
          ment or ingenuity.        In the three product     distribution     pyra-
          mid plans considered,       a fact question     is raised as to whether
          chance dominates      over skill,   judgment or ingenuity.         This ,ie
          a question    for the t,rier of facts      in a court of law and on.e
          which this office      may not decide.

                 If the pyramids plan promoters       make false   representations
           or engage in conduct which creates         confusion  ‘or mieunderstand-
           ing about their      selling   ‘plans, they commit a “deceptive      prac-
           tice”   in violation      of the Texas Consumer Credit’ Code, Article



                                              - 1697 -




t
.   .




    Honorable     Francis   A. Miskell,   Page 8 (M-343).


             569 - 10.01, et seq.    Pyramid plans which rely upon “price
             fixing” or ‘kxclusive dealing” agreements are in violation   of
             the Texas Anti-trust  Act, Section 15.01, et seq., Texas Buei-
             ness and Commerce Code.
                                                    s very   truly,




                                               u
    Prepared by Richard W. Chote
    Assistant Attorney General
    APPROVED:
    OPINIONCOMMITTEE
    Kerns Taylor, Chairman
    George  Kelton, Vice-Chairman
    Tom Bullington
    A. J.’ Gallerano
    Robert Owen
    Malcolm Smith
    W. V. Geppert
    Staff Legal Assistant




                                           -1698-
