FEDERAL COURT OF AUSTRALIA

Australian Communications Network Pty Ltd v Australian Competition and Consumer Commission [2005] FCAFC 221

TRADE PRACTICES – scheme promoter sold retail telephone services via multi-level marketing scheme – scheme made up of independent representatives (IRs) appointed by the scheme promoter – IRs are required to make a “participation payment” to the scheme promoter of $499 – IRs are encouraged to recruit additional IRs – IRs receive increasing commission from sales made by additional IRs recruited under them – whether the participation payments were substantially induced by the prospect of an entitlement to payments “in relation to” the introduction of additional IRs

WORDS AND PHRASES –“in relation to”

Trade Practices Act 1974 (Cth) ss 65AAC, 65AAD, 65AAE

Australian Competition and Consumer Commission v Australian Communications Network Pty Ltd [2005] FCA 276 reversed

Australian Competition and Consumer Commission v Australian Communications Network Pty Ltd [2005] FCA 988 reversed

Australian Competition and Consumer Commission v Worldplay Services Pty Ltd (2004) 210 ALR 562 disapproved

O’Grady v Northern Queensland Company Ltd (1990) 169 CLR 356 cited

PMT Partners Pty Ltd (in liq) v Australian National Parks and Wildlife Services (1995) 184 CLR 301 cited

Harris v Commissioner of Taxation (2002) 125 FCR 46 cited

CIC Insurance Ltd v Bankstown Football Club Ltd (1997) 187 CLR 384 applied

J & G Knowles and Associates Pty Ltd v Commissioner of Taxation (2000) 96 FCR 402 applied

Smith v Commissioner of Taxation (Cth) (1987) 164 CLR 513 cited

AUSTRALIAN COMMUNICATIONS NETWORK PTY LTD AND MARTIN PAECH v AUSTRALIAN COMPETITION AND CONSUMER COMMISSION

SAD 171 of 2005

HEEREY, MERKEL & SIOPIS JJ

25 OCTOBER 2005

MELBOURNE

ON APPEAL FROM A JUDGE OF THE FEDERAL COURT OF AUSTRALIA

THE COURT ORDERS THAT:

1. The appeal be allowed. 
2. The declarations and orders made on 20 July 2005 be set aside and in lieu thereof it is ordered that the application be dismissed with costs. 
3. The respondent pay the appellants’ costs of the appeal.

Note:    Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

ON APPEAL FROM A JUDGE OF THE FEDERAL COURT OF AUSTRALIA

REASONS FOR JUDGMENT

THE COURT:

1                     The first appellant, Australian Communications Network Pty Ltd (ACN), is a provider of retail telephone services.  It sells the services by a system of multi-level marketing.  ACN engages independent representatives (IRs) who sign up customers for ACN’s services.  IRs are not employees of ACN.  Nor do they acquire ACN’s phone services themselves for onsupply.  ACN bills its customers direct and pays IRs a commission on billings.  IRs are not responsible for a customer’s bad debts to ACN.  To become appointed as an IR a person makes a payment, called a participation fee, of $499 plus GST (total $548.90) to ACN.  There is an annual renewal fee of $163.90.

2                     The multi-level aspect is an essential element of ACN’s system.  IRs introduce other  IRs.  Those downstream IRs in turn introduce other downstream IRs and so on.  The downstream IRs form part of an upstream IR’s “organisation” for the purpose of calculating commissions on ACN’s billings to customers introduced by the IRs.  All downstream IRs pay their participation and annual renewal fees to ACN, not to the IR who recruited them.  Commission arrangements are complex, and will be explained in a little more detail below, but in essence, IRs receive commissions not only for the billings to customers they have signed up but also for ACN’s billings to customers signed up by their downstream IRs.  However, no commission or other reward is earned simply by recruiting a downstream IR; there has to be a billing by ACN to a customer for telephone services.

3                     The late Selway J found that ACN had participated in a “pyramid selling scheme” in contravention of s 65AAC(1) of the Trade Practices Act 1974 (Cth) (the Act) and that, together with others who are not parties to this appeal, the second appellant Martin Paech aided, abetted and was knowingly concerned in that contravention: Australian Competition and Consumer Commission v Australian Communications Network Pty Ltd [2005] FCA 276.  Following his Honour’s untimely death, Mansfield J heard argument as to the appropriate relief and made declarations and orders based on the findings of Selway J: Australian Competition and Consumer Commission v Australian Communications Network Pty Ltd [2005] FCA 988.

Prohibition of “pyramid selling schemes”

4                     Section 65AAD(1) defines the term “pyramid selling scheme” as a scheme with both of the following characteristics:

“(a)     to take part in the scheme, some or all new participants must make a payment (a ‘participation payment’) to another participant or participants in the scheme;

(b)       the participation payments are entirely or substantially induced by the prospect held out to new participants that they will be entitled to a payment (a ‘recruitment payment’) in relation to the introduction to the scheme of further new participants.”

5                     Section 65AAD(3) provides that a scheme may be a pyramid selling scheme even if it has any or all of certain characteristics, including if:

“(e)     the scheme involves the marketing of goods or services (or both).”

6                     Section 65AAE(1) provides for certain matters which a court may have regard to in “working out” whether participation payments are entirely or substantially induced by the prospect of entitlement to recruitment payments.  These are:

“(a)     the extent to which the participation payments bear a reasonable relationship to the value of the goods or services that participants are entitled to be supplied under the scheme (as assessed, if appropriate, by reference to the price of comparable goods or services available elsewhere);

(b)       the emphasis given in the promotion of the scheme to the entitlement of participants to the supply of goods and services by comparison with the emphasis given to their entitlement to recruitment payments.”

However subs (2) provides that subs (1) does not limit the matters to which the court may have regard.

Issues on the appeal

7                     It is not in dispute that ACN’s marketing arrangements constituted a “scheme” or that ACN and IRs were “participants” in the scheme or that the participation fees (although not the renewal fees) were “participation payments”.  The primary issue is whether Selway J was correct in holding that some forms of compensation payable by ACN to IRs were “recruitment payments”.  This question turned on whether an IR’s entitlement to such payments could be said to be “in relation to the introduction to the scheme of further new participants”.  There were other subsidiary issues involving s 65AAE which will be mentioned later.  However, it has proved to be unnecessary to deal with them.

ACN’s marketing scheme

8                     ACN is a wholly owned subsidiary of an American company which has, through other subsidiaries, provided retail telephone services in the United States, Canada and European countries.  ACN commenced operations in Australia in August 2004.

9                     The participation fee was fixed having regard to the similar fees set in overseas markets and ACN’s understanding of the commercial acceptability of such a payment in the Australian market.  The participation fee was expected to meet most of the cost to ACN of preparing and producing marketing brochures, the cost of customer service and so on.

10                  Selway J found at [6] that there were four forms of compensation payable to IRs:

“(i)      a commission based on revenue received by ACN from customers introduced by the IR (‘personal commissions’). These are between 2-8% of the customer turnover (50% less for local fixed calls)…;

(ii)       a bonus promotional payment, payable to IRs who have signed up a minimum number of customers within a specified period.  If the IR can sign up 10 customers within the first month the IR receives a bonus payment of $200. If the IR can sign up 20 customers within the first month the IR receives a bonus payment of $500.  Although the bonus promotional payments were intended to be limited to the period of the initial launch of the product, they have subsequently been extended.  Those bonus payments have remained in operation at all relevant times. It is at least possible, indeed likely, that that [sic] bonus payments will be varied or discontinued at some future time;

(iii)      a bonus paid to reward the IR for assisting down-stream IRs to introduce customers who acquire ACN’s services (the ‘customer acquisition bonus’ or ‘CAB’).  The CAB is only paid if a down-stream IR introduces customers who acquire ACN’s telecommunications services;

(iv)      a commission calculated as a percentage of amounts paid to ACN by all customers introduced by down-stream IRs, with the amount payable depending upon the level of the down-stream IR (‘residual override commissions’).  Again, this form of compensation is only paid where ACN has received revenue from customers introduced by IRs.”

11                  The ACCC did not contend at trial or on the appeal that (i) or (ii) were “recruitment payments”.  Its case, accepted by his Honour, was that (iii) (CABs) and (iv) (residual override commissions) were recruitment payments that fell within s 65AAD(1)(b) of the Act.

12                  There was a fifth form of compensation called a “CAB Promotion Payment”, alleged in par 21 of the ACCC’s statement of claim and substantially admitted in par 32 of ACN’s defence.  This involved a bonus for an IR who had qualified as an “Executive Team Trainer” (see below) who had sponsored a specified number of downstream IRs who qualified as “Team Trainers” within 30 days of becoming IRs.  These payments were only payable between October 2004 and the end of December 2004.  Although these payments were also alleged by the ACCC to be “recruitment payments”, his Honour’s judgment contained no reference to them.  On the appeal, counsel for the ACCC asked us to note these for the sake of completeness.  Counsel did not suggest that these payments would be determinative of the appeal.

13                  The rate of commission that was payable by ACN on CABs and residual override commissions depended upon the earned “level” of the IR.  All IRs commenced at one starting level, that of Team Trainer (TT).  The next level was a “qualified TT”, who was an IR who has signed up at least six active fixed-line personal customers, or at least eight personal customers, at least four of whom have agreed to acquire fixed-line telecommunications services.  The qualified TT received a higher rate of commission and was entitled to receive CABs.  The next level was an Executive Team Trainer (ET) who was an IR who had signed up at least twenty (or at least ten for some IRs who entered the scheme before 1 November 2004) active personal customers and who had directly sponsored at least three qualified TTs in different organisations or legs.  The next level was a Team Co-ordinator (TC) who was an IR who had signed up at least six active personal customers and who had directly sponsored at least three qualified TTs in different organisations or legs and who had at least three separately sponsored organisations or legs, in each of which there were at least 200 customers.  Next was the Regional Vice President (RVP) being an IR who had signed up at least six active personal customers and whose organisation(s) had at least 3000 customers whose monthly billings were at least $100 000, and who had at least one TC in each of five separate organisations or legs.  Finally, there was the Senior Vice President (SVP) being an IR who had signed up at least six active personal customers, and who had an organisation(s) of at least 12 000 customers whose monthly billings were at least $500 000; and who had at least one TC or RVP in each of eight separate organisations or legs, with a minimum of three RVPs in three separate legs.  These classifications were, to an extent, independent of the IRs’ relative levels within an organisation.  It was possible, for example, for an IR and a downstream IR both to be on the same level.

14                  There were three different types of CAB.  Personal CABs were payable when newly sponsored IRs became qualified (see below).  Open line CABs were payable when downstream IRs who were at a lower level sponsored new IRs who became qualified. Generational CABs were payable when downline IRs at the same or a higher level sponsored new IRs who became qualified.

15                  “Personal” CABs were paid to IRs who were qualified TTs or higher (that is, IRs who had at least six personal customers) and who had directly sponsored an IR who, in turn, had become qualified (that is, acquired at least six active, fixed-line personal customers within 30 days or eight customers with a minimum of four fixed-line customers). The amount of the payment depended upon the IR’s level:

16                  Open line and generational CABs were payable in relation to newly qualified IRs introduced by downline IRs.  The amount of the CAB was:

17                  The CABs that an IR could earn were capped at a total value of $335.

18                  Residual override commissions were calculated on the total monthly billings of customers signed up by an IR’s organisation.  The amount of the commission was dependent upon the total billing and the number of levels in the organisation.  In particular, subject to certain conditions, there were substantial increases for levels 6 and 7; for example for mobile, national and international commissions the rate for the 1^st to 5^th levels was 0.25 per cent, while the commission in relation to the billings of customers of a 6^th level IR was 1 per cent and of a 7^th level IR 5 per cent.

19                  The forms of compensation paid by ACN required in every case the sale by an IR or a downstream IR of telephone services to customers.  The amount of compensation was calculated by reference to actual billed revenue, or the signing up of new customers obliged to make payments in respect of line rental and calls made.  No payment was made to IRs solely for the recruitment of downline IRs, which did not involve an obligation by the recruited IR to acquire ACN’s telephone services or to sign up a minimum number of customers.

20                  On the other hand, the amount of CABs and the amount of the residual override commission depended upon the number and level of downstream IRs.

21                  There was no evidence that ACN could not operate viably in the telecommunications market.  There was no suggestion that its marketing strategies were a sham or that its financial projections, which were based on those strategies, could not be realised.

22                  ACN expected that there would be a significant turnover in customers.  Apparently, this is inherent in the telecommunications industry, particularly for a new entrant.  ACN also expected that a considerable number of IRs would drop out.  When this occurred the customers allocated to the relevant IR would not be reallocated. 

23                  ACN expected that, on average, there would be about one IR to 13 customers.

“in relation to the introduction to the scheme of further new participants”

24                  Selway J held at [17]-[19] that the CAB payments and the residual override commissions were “recruitment payments”.  That concept, in his Honour’s view, includes benefits received in consequence of the introduction of new participants, whether or not the benefits are paid for the introduction as such or are paid as a result of the subsequent activities of the new participants introduced.  So according to his Honour, in the present case, it did not matter that IRs only received benefits when their introduced IRs signed up customers who were billed by ACN for telephone services and that the bare introduction of a new IR generated no benefit.

25                  In so holding his Honour followed the decision of Finn J in Australian Competition and Consumer Commission v Worldplay Services Pty Ltd (2004) 210 ALR 562 at 586 [111]-[116].  Finn J said:

“111    The prospect held out must be that new participants will be entitled ‘to a payment (a “recruitment payment”) in relation to the introduction to the scheme of further new participants’: s 65AAD(1)(b).

112      The short point raised here is whether the envisaged payment to be received by a new participant must be that [which] relates solely to the introduction of new members as such, or whether it can encompass as well payments received subsequent to that introduction in consequence of the later (the down line) activities of the members introduced.

113      Before turning to this, I should note that s 65AAB defines a ‘payment’ to mean (inter alia):

(a)                the provision of a financial or non-financial benefit to

            or for the benefit of the person; or…

114      In O’Grady v Northern Queensland Company Ltd (1990) 169 CLR 356 at 376; 92 ALR 213 at 228 McHugh J made the observation (since repeated by the Full Court of this Court in Harris v Cmr of Taxation (2002) 125 FCR 46 at [68]):

                        ‘The prepositional phrase “in relation to” is indefinite. But, subject to any contrary indication derived from its context or drafting history, it requires no more than a relationship, whether direct or indirect, between two subject matters.’

115      The present context does not suggest any contrary indication. The Explanatory Memorandum to the 2002 amendment bill contains a schedule (Sch 1) which provides, inter alia, examples of possible pyramid schemes. Here I would merely note that example 4 characterises as a recruitment payment the payment to a member of a scheme of a commission on purchases made by members whom that person recruited.

116      I can see no reason for not applying the ‘in relation to’ formula to benefits received in consequence of the introduction of new members whether or not the benefits are paid for the introduction as such or are paid as a result of the subsequent activities of the members introduced.”

26                  In O’Grady v Northern Queensland Company Ltd (1990) 169 CLR 356,McHugh J was in the minority in the result.  In the same case Dawson J said at 367:

“The crucial question is whether the proceedings constituted by the respondent’s counterclaim were proceedings in relation to mining or to any mining tenement.  The words ‘in relation to’, read out of context, are wide enough to cover every conceivable connexion.  But those words should not be read out of context, which in this case is provided by the Mining Act 1968 (Q.).  What is required is a relevant relationship, having regard to the scope of the Act.  Where jurisdiction is dependent upon a relation with some matter or thing, something more than a coincidental or mere connexion — something in the nature of a relevant relationship — is necessary: see Reg. v Ross-Jones; Ex parte Green (1984) 156 CLR 185 at pp. 196-197, 210.”

Dawson J’s approach emphasises the need for attention to the legislative context and purpose; we would respectfully adopt it in the present case.  This is an example of the primacy of context, stressed by Brennan CJ, Dawson. Toohey, and Gummow JJ in CIC Insurance Ltd v Bankstown Football Club Ltd (1997) 187 CLR 384 at 408:

“…the modern approach to statutory interpretation (a) insists that the context be considered in the first instance, not merely at some later stage when ambiguity might be thought to arise, and (b) uses ‘context’ in the widest sense to include such things as the existing state of the law and the mischief which, by legitimate means such as those just mentioned [ie reports of law reform bodies]one may discern the statute was intended to remedy.”

27                  His Honour’s approach is also consistent with that of Brennan CJ and Gaudron and McHugh JJ in PMT Partners Pty Ltd (in liq) v Australian National Parks and Wildlife Services (1995) 184 CLR 301 at 313 where their Honours said that the closeness of the relationship required by the expression “in relation to” in any instrument “must be ascertained by reference to the nature and purpose of the provision in question and the context in which it appears.”

28                  Harris v Commissioner of Taxation (2002) 125 FCR 46, the Full Court decision referred to by Finn J (and cited by Selway J), was concerned with the phrase “in relation to”.  Their Honours in that case applied the reasoning in an earlier Full Court decision, J & G Knowles and Associates Pty Ltd v Commissioner of Taxation (2000) 96 FCR 402 at 408 (a case concerning the phrase “in respect of”, but the approach in principle is the same).  In Knowles the Full Court said at 408 (citations omitted):

“The words ‘in respect of’ have no fixed meaning.  They are capable of having a very wide meaning denoting a relationship or connection between two things or subject matters.  However, the words must, as with any other statutory expression, be given a meaning that depends on the context in which the words are found…

The A[dministrative] A[ppeals] T[ribunal] was correct in stating that the phrase requires a ‘nexus, some discernible and rational link, between the benefit and the employment’.  That, however, does not take the matter far enough.  For what is required is a sufficient link for the purposes of the particular legislation…It cannot be said that any causal relationship between the benefit and the employment is a sufficient link so as to result in a taxable transaction.”

Their Honours discussed Smith v Commissioner of Taxation (Cth) (1987) 164 CLR 513 and noted the different formulations that members of the High Court had adopted in ascertaining whether a benefit was “in respect of” or “in relation to” employment.  The Full Court continued (at 410, emphasis in original):

“Whatever question is to be asked, it must be remembered that what must be established is whether there is a sufficient or material, rather than a, causal connection or relationship between the benefit and the employment.  There is, in any event, a danger in placing too much emphasis on causation.  As Lord Hoffman pointed out in Environment Agency v Empress Car Co Ltd [1999] 2 AC 22 at 29, an answer to the question of whether A has caused B will differ according to the purpose for which the question is asked.”

29                  It follows from the foregoing that, in determining the requisite connection or relationship between the payment or benefit described as the ‘recruitment payment’ and the introduction to the scheme of further new participants, the question is whether there is a relevant, sufficient or material connection or relationship, rather than merely a causal connection or relationship.  Accordingly, we do not agree with the views expressed by Finn J in Worldplay at 586 [114]-[116], and applied in the present case by Selway J, that under s 65AAD(1)(b):

(a)                “a relationship, whether direct or indirect, between the two subject matters” is sufficient; and

(b)               accordingly, the question is whether the benefits in question “are received in consequence of the introduction of new members whether or not the benefits are paid for the introduction as such or are paid as a result of the subsequent activities of the members introduced”.

30                  The text of s 65AAD(1) indicates that a critical element in a “pyramid selling scheme” is the link between a “participation payment”, the introduction of further new participants and the prospect of consideration or reward therefor.  The very terms “recruitment” and “introduction” suggest an event or transaction discrete in point of time whereby a participant arranges for a new participant to join a scheme.  The sufficient or material relationship (see Knowles, supra) the provision is directed to is that between the prospective entitlement and the introduction, in the sense discussed. 

31                  In the ‘Readers Guide’ to the amending legislation set out in the Explanatory Memorandum for that legislation a pyramid selling scheme is described as:

“a scheme by which, in return for a payment by new participants (a participation payment), the prospect is held out to them of obtaining a payment (a recruitment payment) for the recruitment of further participants in the scheme.  But the participation payments must be ‘entirely or substantially induced’ by the prospect of recruitment payments.”

32                  The Explanatory Memorandum also provides four examples, the fourth of which was referred to by Finn J in Worldplay.  In the first three examples the “recruitment payment” is a reward for introducing new participants.  The fourth example is not as clear but does not take the matter much further than the first three examples because in that example, although the ‘recruitment payment’ was a commission on sales to recruited members it was a condition of the recruitment that a recruited member purchase a minimum value of products from the scheme promoter every three months.  Thus, although the recruitment payment was a commission on sales it can also be characterised as a payment for recruitment, which necessarily involved a minimum purchase obligation on the part of the recruited member.

33                  It is clear from the text of s 65AAD(1)(b) that a payment for the introduction to the scheme of further new participants will be a payment in relation to the introduction of the new participants.  Also, it is clear from the Explanatory Memorandum that it was intended that a payment that is, in substance, a payment for the introduction of new participants is an aspect of the vice or mischief aimed at by the legislative scheme.  But the question of whether payments made, for example, under a multi-level marketing scheme as a result of post-introduction activities of the members introduced by participants were also intended to be recruitment payments requires consideration of whether such payments were also considered to be part of that vice or mischief.

34                  Since its inception in 1974, the Act has contained a prohibition on pyramid selling schemes.  This was contained originally in s 61 which described a pyramid selling scheme as involving, inter alia, ‘the prospect of receiving payments or other benefits in respect of the introduction … of other persons who became participants’ in the scheme.  Section 61 was replaced in 2002 by Div 1AAA.  The latter provision was said in the Explanatory Memorandum to be a re-writing of s 61 ‘in plain English’ in order to overcome the difficulty in understanding s 61.  The aim of the rewrite was stated to be “to clarify the intent of the provision and make it easier to understand, while not making substantial changes to the coverage of the existing provision”.  However, neither the Explanatory Memoranda nor any Second Reading speeches, either in 1974 or 2002, contain any suggestion that the mischief or vice in pyramid selling schemes extends to rewards received from the subsequent activities of the introduced participants.

35                  Reference to other material concerning pyramid selling schemes does not support the ACCC’s contention that Div 1AAA necessarily applies to multi-level selling schemes of the kind promoted by ACN.  For example, two articles appeared in volume 2 of the Australian Business Law Review in 1974 (around the time the Act was first enacted).  In ‘Non-Egyptian Pyramids – US Style’(1974) 2 Australian Business Law Review 84, American academics Robert D Myers, Donald K Wedding and Harvey A Maertin present an overall view of the reaction to pyramid investment at local, state and federal level in the United States.  The authors say (at 84-85, emphasis in original):

“The key money-making ingredient in the pyramid organization is the selling of distributorships with the right to recruit other distributors.  In other words, recruitment is the income generating event.  We repeat, recruitment is the income generating event.  The selling of product is secondary, and often non-existent.

…

In any case, regardless of product quality or availability, the pyramid emphasis has been on the recruitment of distributors who are promised riches through the recruiting of other distributors.  This endless recruiting is in reality an endless chain which becomes doomed by mathematical impossibility.”

36                  A variety of legislative provisions have been used in relation to pyramid schemes in the United States.  One example that applied when the Act was first enacted in 1974 was a successful prosecution of promoters of a pyramid promotion enterprise for marketing of a “security” without registration under the Securities Act 1933 (US): Securities and Exchange Commission v Koskot Interplanetary Inc 497 F 2d 473 (1974).  The Court of Appeals for the Fifth Circuit noted the successful argument of the Commission (at 475-476):

“The SEC does not contend that the distribution of cosmetics is amenable to regulation under the federal securities laws.  Rather, it maintains that the marketing of cosmetics and the recruitment aspects of Koscot’s enterprise are separable and that only the latter are within the definition of a security.  That the district court acknowledged the fragmentation discerned by the SEC is witnessed by the following observation:

“Many if not all of the persons, seeking to become Koscot distributors are attracted by the lure of money to be earned by high-pressure recruiting of other persons into the Koscot program, rather than the sale of the cosmetics themselves.”’

37                  The second article, ‘Pyramid selling legislation – effective?’ (1974) 2 Australian Business Law Review 167 by Michael Head, discusses the inadequacy of existing Australian State legislation.  The author cites as a “concise judicial summary of the pyramid selling concept” the statement in Kugler v Koskot Interplanetary Inc 293 A 2d 682 (1972) (Superior Court of New Jersey) at 690:

“It is an arrangement whereby one is induced to buy upon the representation that he can not only regain his purchase price, but also earn profit by selling the same program to the public.  It thus involves the purchase of the right to sell the same right to sell.

A pyramid type practice is similar to a chain letter operation.  Such a program is inherently deceptive for the seemingly endless chain must come to a halt inasmuch as growth cannot be perpetual and the market becomes saturated by the number of participants....Thus many participants are mathematically barred from ever recouping their original investments, let alone making profits.

Broadly speaking pyramid schemes include an arrangement or scheme relating to the sale of goods or provision of services under which the participants pay for their rights under the scheme and receive a reward for recruiting new participants”

38                  An Australian text published soon after the enactment of the Act (Bruce G Donald and JD Heydon, Trade Practices Law: Restrictive Trade Practices, Deceptive Conduct and Consumer Protection (1978)) also supports the view that multi-level marketing schemes are not necessarily prohibited by the Act.  In commenting on s 61 of the Act (as then in force), the authors stated (vol 2, at 653-654):

“The law does not object to multi-level selling where the main purpose is the sale of products to consumers, and where there is no deception of those recruited into the various levels of the scheme.

…

The real vice of pyramid schemes is not in injury to the ultimate consumer resulting from irritation at being importuned at the front door or from dissatisfaction with the quality of what is bought…The vice in pyramid selling schemes comes from the deception of those sellers in the scheme and the tendency of the scheme not have as its main purpose the sale of goods or services.”

For a more recent iteration of those same views see: JD Heydon, Trade Practices Law: Restrictive Trade Practices, Deceptive Conduct and Consumer Protection at [14.40] and [14.50].

39                  When Div 1AAA of Pt V was introduced in 2002, contemporary understandings of the vice of pyramid selling were substantially the same.  Professor Allan Fels, then Chairman of the ACCC, said in its publication ACCC Update, issue 11, June 2002:

“There can be confusion between an acceptable multilevel distribution marketing scheme and a pyramid scheme.  Both will exhibit a pyramid structure, but a multilevel marketing scheme will reward participants for the sale of genuine products by them or the people they have brought into the scheme.  Rewards are based on product sales not for enlisting others.  Goods sold must be genuine products; the type consumers buy from time to time.

Pyramid selling may involve the pretence of selling goods but often they are over-priced, of poor quality, difficult to sell and of little value.  But promotion and sales are of little importance; the target is recruiting people and collecting their fees.”

40                  A similar view was later expressed on the ACCC website, under the heading “Differences between pyramid selling and multi-level marketing”:

“Pyramid selling schemes rarely include the legitimate and regular retailing of products.  Instead, they provide rewards for introducing new participants.  Saturation point is very quickly reached and later recruits have little chance of recovering their money.  Legitimate marketing schemes only provide rewards based on genuine product sales.

Pyramid sales promoters may attempt to disguise their schemes by selling goods and services that are overpriced, of poor quality, difficult to sell or of little value.

…

There are two questions that may help consumers identify legitimate multi-level marketing schemes:

·        Are the rewards for participants in the scheme purely based on product sales (by either themselves or others they introduce to the scheme)?

·        Are the products genuine products of real value, and of a type that normally will be used and purchased time and time again by a consumer, and not at a grossly inflated price?

If you answer yes to both questions, it is likely that the scheme is a legitimate multi-level marketing scheme.”

41                  Similarly, the authors of a 1999 article on the New Zealand experience (Wayne Hudson and Katherine Hubert, “An Incredible Business Opportunity” (August 1999) New Zealand Law Journal 270), distinguished between multi-level marketing and pyramid selling schemes at 270:

“While many multi-level marketing schemes have a pyramid structure, a participant only earns money by selling the scheme’s goods or services.  These earnings are derived from:

·        goods or services that the participant sells; and

·        goods or services sold by each new participant recruited into the scheme by a participant.

A participant in a multi-level marketing scheme does not receive any income for recruiting other people into the scheme.

…

While participants in a pyramid selling scheme also usually sell goods or services for reward, they earn most or all of their money by recruiting new participants.  Because product sales are not central to the generation of income, pyramid selling schemes tend to be based around a single product or a limited range of “gimmicky” products.”

42                  Finally, Bills Digest No. 66 2002-03 was, published by the Department of the Parliamentary Library for distribution to Senators and Members of the Australian Parliament in order to assist them in the ‘debate’ about Div 1AAA.  The Digest, which cited cases and contemporary writings about pyramid selling schemes, viewed the schemes as essentially involving “payments when new participants are recruited into the scheme”.

43                  The above references are consistent with the view that is apparent in s 61AAD(1)(b) and in the Explanatory Memorandum and the examples given in it, that the vice inherent in pyramid selling schemes is the reward that, as a matter substance, is given directly or indirectly, for the introduction of new participants, rather than a reward based on sales or other such activities by a participant or others introduced by participants.  In the present case, the ACCC was not able to refer the Court to any material or cases that suggest that the latter activities, which the ACCC itself described as a legitimate multi-level marketing scheme, were an aspect of the vice or mischief aimed at by the legislative prohibition of pyramid selling schemes.  Indeed, the ACCC was not able to point to any economic or social vice or mischief involved in a multi-level marketing scheme that would warrant such a scheme falling within the prohibition of pyramid selling schemes proscribed by Div 1AAA.

44                  True it is, the marketing of goods and services may be involved in a pyramid selling scheme, as subs (3)(e) makes clear.  But the converse does not follow; the fact that there is multi-level marketing of goods and services does not necessarily mean there isa “pyramid selling scheme”.

45                  The relevant provisions have to be applied case by case to infinitely variable fact situations.  The statutory purpose would not be served either by a construction in which:

(a)               it is sufficient that there is an element of introduction, even though that is not enough in itself to earn any reward, and no matter what else has to be done subsequently to earn a reward, and no matter how genuine or competitive the goods or services being sold; or, on the other hand;

(b)        the recruitment payment must be solely for introduction, no matter how worthless the prospect of selling goods or services under the scheme.

The first construction would criminalise commercial activity which the material to which we have referred, including the ACCC’s own public statements, does not recognise to be illegitimate.  The second would open the door to artificial evasion, and could not be reconciled with s 65AAD(3)(e).

46                  The real vice inherent in pyramid selling schemes appears to be that the rewards held out are substantially for recruiting others, who in turn get their rewards substantially for recruiting still more members, and so on.  If there is no underlying genuine economic activity the scheme must ultimately collapse and many people will have been induced to pay money for nothing.  We see the purpose of the legislation as directed at proscribing schemes where the real or substantial rewards held out are to be derived substantially from the recruitment of new participants,  as distinct from rewards for genuine sales of goods or services.

47                  In the present case, there is not present the requisite relationship between the payments in question (CABs and residual override commissions) and the introduction of further new IRs.  The receipt of any payments by IRs is dependent on the activities of IRs themselves, and/or of the IRs downstream of them signing up customers for ACN and those customers acquiring ACN’s telephone services.  If an IR does no more than recruit other IRs there is no entitlement to any payment.  The quantum of remuneration essentially turns on the volume of customers’ business with ACN regardless of whether those customers have been signed up by an IR or a downstream IR.  There is no suggestion that the services provided by ACN to its customers are of poor quality or are not commercially competitive. Further, what is payable by the new IR on recruitment is the participation fee, which is not large.  The recruiter does not get any benefit from the recruit’s participation fees; they go to ACN.  The benefits an IR recruiter gets come not from new recruits but from customers and ACN.

48                  We accept that there is a causal connection between the rewards held out to participants and their introduction of IRs in that the reward is based on sales of ACN’s services to the customers of the downstream IRs who form part of the upstream IR’s organisation.  However, for the reasons set out above, we do not regard that connection as a relevant, material or sufficient connection for the purposes of s 65AAD(1)(b).  It follows that the appeal must succeed.

Other issues

49                  There was also argument as to whether the payments were “entirely or substantially induced” by the prospect of the recruitment payments.  This in turn depended in part on an examination of the criteria in s 65AAE(1)(a) and (b), that is to say

·        whether the participation payments ($499 plus GST) bore a “reasonable relationship” to the goods and services that IRs were entitled to be supplied under the scheme, which included the question —

·        whether various services supplied by ACN to or for the benefit of IRs were “goods and services” within the meaning of par (a) and

·        what was the “emphasis given in the promotion of the scheme” to entitlement to what were found to be “recruitment payments” as opposed to the supply of goods and services for the purposes of par (b).

50                  Counsel for the ACCC very properly accepted that a finding for ACN on the “in relation to issue” would determine the appeal in ACN’s favour.  That being so, it is not appropriate to embark on these issues.

Orders

51                  The appeal will be allowed.  The declarations and orders made on 20 July 2005 are set aside and in lieu thereof it is ordered that the application be dismissed with costs.  The ACCC must pay the costs of the appeal.

Associate:

Dated:              25 October 2005