1. Does the sales person meaningfully influence online sales results through the fulfillment of the primary accountabilities and responsibilities of their role?
2. Can the individual sales person’s impact on online sales results be tracked and reported with adequate accuracy and timeliness?

The first criterion addresses the issue of alignment to role (and presumably to business strategy, if the role has been well defined).  Does providing sales credit for online sales increase motivation by recognizing and rewarding the results of sales effort, or does it cloud line of sight by introducing a metric that is not meaningfully controllable by the sales person? In some cases the answer is clear, in others clear as mud.

The second criterion addresses the issue of feasibility.  Assuming online sales are a desirable metric for the role, are there systems and processes in place to enable effective and efficient reporting and plan administration? Let’s consider a couple of examples.

Example #1: Luxury Goods

Indirect sales representatives for a manufacturer of luxury goods are tasked with maximizing product sales from an assigned geographic region, as well as managing the brand presence and the brand “experience” in the region.  They call on wholesalers and retailers with the goal of introducing new products and increasing sales of existing products by educating clients on the value and positioning of the brand.  They often do “hands-on”
merchandising and product placement, and even provide business strategy advice to smaller clients, either directly or in joint calls with a wholesaler.  They also look for new retail and wholesale clients to expand their portfolio.

The sales incentive plan for this luxury goods indirect sales role may be designed to include credit for online sales from customers in the assigned geographic region.  The sales representative is intended to have a strong influence on brand presence and sales experience in their assigned region, and the majority of online sales for
this brand can be traced back to end customers who have been exposed to the brand’s “experience” in the brick-and-mortar world. In other words, this sales role meets criterion #1.

Evaluating criterion #2 is relatively simple because these indirect sales representatives are dealing with regional clients with little or no overlap across regions. Sales from all channels may be tracked and reported by account.  The sales incentive plan does not provide sales credit for online sales through the company’s own online store.  There is also no credit for sales from national accounts that may have physical locations in the region.

Example #2: Technology Support/Accessories (for example, audio cables or cellular phone chargers.)

Indirect sales representatives for a manufacturer of Technology Support/Accessories are tasked with maximizing product sales from an assigned geographic region.   They call on wholesalers to introduce new products and promotions, and provide advice on product assortment.  They also call on local outlets of large retailers
for merchandising and product placement, and may have some end-customer contact at the retail site.  Promotions, merchandising guidelines and marketing materials are developed by corporate marketing; the focus of this role is on the execution. In general, there is significant price sensitivity and limited brand recognition.

The sales incentive plan for this role ideally would not provide credit for online sales.  The primary reasons for this recommendation are the price sensitivity and limited brand recognition.  While the sales representative’s role in merchandising and product placement may meaningfully impact sales in a physical environment,
this advantage is lost in the world of online sales. An online shopper might have become aware of the product in a brick-and-mortar environment, but price sensitivity and lack of brand recognition mean price comparisons and feature comparisons are likely to drive the online sale. Criterion #1 is not met and criterion #2 becomes irrelevant.

Many companies face more complex or ambiguous decision making situations.  Perhaps the sales representative has the ability to affect online sales for some clients or
some products, but not others.  Should the company try to provide selective credit?  Efforts to ensure sales credit “fairness” are often penny-wise and pound-foolish.  Unless evidence indicates the motivational impact of such sales credit outweighs the administrative burden, it might be best to leave online sales outside of the incentive plan.

Some companies already find themselves managing an incentive plan that does not meet the criteria outlined above, and face the challenge of transitioning to a new incentive plan. What challenges does your company face in managing sales credit for online sales? We welcome your stories and your questions.

Presumably the high revenue new equipment sales are generating a reasonable margin, though perhaps at a lower percent. If the relative value of these two offerings is accurately reflected in the margin value generated (dollars/euros…), then Margin Value may be the single measure that combines them both and balances effort and rewards appropriately.

However, there are many reasons businesses give for not using Margin Value as a sales compensation measure, including a reluctance to share margin information broadly and an inability to accurately measure margin at a sales person or order/contract level. In this case it may make sense to split the plan into two separate components with target incentive value assigned for New Equipment and Used Equipment separately, along with goals or quotas for each category. In addition it may be important to link the two measures so that a sales person cannot “win” by doing well on one and not the other. For example, there could be a requirement that in order to earn accelerated over-goal compensation rates on one of the measures, at least 90% of the annual goal has to be achieved on the other measure.

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Typical Hunter and Farmer plans

A typical Hunter plan is a first dollar commission on the sales (top line) value of new business won. Sales credit and payment may be given once the business is fully secured (e.g., contract signed), or under way (e.g., shipped, or implementation started). A typical Farmer plan is goal-based with the goal size reflecting the assigned “book” of accounts. The measure may be the sales value of renewals, recognized revenue in-year, or even the margin value of the recognized revenue in-year. And the plan is most likely a goal-based incentive with a threshold and meaningful acceleration over goal.

So how do I pay someone to do both?

There are several possible approaches here:

1. Split the plan into New and Existing incentive components

Pay a first dollar commission on New and a goal-based incentive on Existing. Think about how much time the sales person should spend in each type of sale, and split their incentive at target accordingly. For example, if 40% of their time should be focused on New, then 40% of their incentive target should also be focused on New, with the remaining 60% on Existing accounts.

1. Single component plan that requires both retention/growth and New

Assign a goal for Total Sales that will only be achieved if an acceptable level of business is attained AND an acceptable level of New is also achieved. A threshold level of performance may be established below which no incentive is earned in order to focus the variable compensation dollars on the range over which performance should move; this makes each added increment of sales in the performance range more valuable to the sales person. Provide meaningful acceleration for over-goal performance since this only going to happen if things go well for both new and existing accounts, a valuable outcome for the business.

1. Pay on Net New

In a fast-growing business in which the question is not, “Will we grow?” but “How much will we grow?” this can be very effective. Assign a book of existing account and new business opportunities, then pay a commission on the growth (generally over the prior year). Clearly the commission rate on the growth will need to be much higher than a commission on total sales would be. WARNING: If there is any chance at all that “growth” could be negative, this is not a good choice.

Three effective ways to approach this:

1. Make revenue the primary measure using a goal-based incentive (see this post for a clear explanation of how a bonus or goal-based incentive work), and add a profitability multiplier. For example, offer the opportunity to earn as much as an additional 20% (1.2 multiplier) at year-end if a stretch profitability goal is achieved, lose as much as 20% of total earnings (0.8 multiplier) if they are below an unacceptable level of profitability, or have no effect on their own earnings in-between (1.0 multiplier). This would be most appropriate if revenue is the most important focus for sales, with profitability in the also-important category. It would also be appropriate if profitability is difficult to measure at the individual level, but very accurate by business unit or in aggregate.
2. Measure sales people only on gross margin or gross profit dollars, and drop revenue as a sales compensation plan measure. This would be appropriate if margin can be accurately tracked and reported by individual sales person. Here again, a goal-based incentive is probably the best choice.
3. Use a matrix with revenue goal attainment on one axis and profitability goal attainment on the other. In the middle of the matrix (at goal on both), pay 100% of the target incentive. As both revenue and profitability increase, pay over-target earnings. Pay very little for below-goal performance on both. And pay in-between if they’re over on one measure and under-goal on the other. It’s a little tricky to design the matrix, but once you’ve got it, it’s very easy to understand and administer.

Here’s the chain:

1. Business strategy
2. Operating objectives for the coming year
3. Expected contribution of the sales organization to achieving those objectives –> sales goals
4. Sales roles with objectives aligned to achieve overall sales success –> key accountabilities by role
5. Sales compensation plan measures and goals/quotas

By Beth Carroll and Brenda Maldonado, The Cygnal Group

Click on the image to download a printable .pdf version of the article

Many sales leaders and CFOs believe paying company sales representatives as if they were agents (100 percent variable pay) strengthens alignment between a company’s objectives and sales representatives’ focus and results; however, the absence of a base salary often has an adverse effect with significant unintended consequences: Lack of Control, Complacency, and Limited Flexibility.

Consequence #1: Lack of Control
Sales representatives who are on 100 percent variable pay plans (often called 100 percent commission plans) see themselves as masters of their own destiny. In their minds, they are taking all of the risk and therefore should be able to decide how they work, when they work, where they work, which offerings they emphasize and which types of prospects or customers receive most of their attention. The problem with this philosophy is that the sales representatives’ preferences may be at odds with the interests of the business. The ensuing conflict of interest undermines a company’s ability to present a consistent message to the market, execute an important strategy, or even ensure sales methods and processes comply with ethical standards and local laws. Industries in which sales representatives have the worst reputations for misleading customers (used-car dealerships, mortgage brokers, and time-share sales come quickly to mind) are industries in which 100 percent variable pay plans are common and sales representatives are willing to do “whatever it takes” for the next sale.

One might counter that insurance is also an area where sales representatives (agents, in this case) are on 100 percent variable compensation, and yet their image is not as negative. There is a key difference: insurance agents work to build a long-term portfolio of satisfied customers. For the sales reps mentioned above, repeat business is not their goal. This does not mean, however, that the prevalence of 100 percent variable pay arrangements in industries that focus on managing repeat business exist without consequences. These sales roles often suffer from Consequence #2: Complacency.

Consequence #2: Complacency (The Phantom Base Salary Effect)
Sales representatives who are on 100 percent variable pay plans but have considerable recurring business develop what is known as an annuity, or “phantom base salary”. This model is extremely attractive to sales representatives because they know if they work hard for a few years, the resulting annuity stream will allow them to collect a comfortable paycheck with comparatively little additional effort. When a sales representative can predict on January 1, with some measure of accuracy, what his/her pay will be for that year, a phantom base salary has been created. The annuity stream undermines the sales representative’s drive to continually acquire new business. Admittedly, there are some sales representatives who will always be driven to acquire new business in order to build up an ever larger annuity, however, many will reach a plateau where their annuity stream supplies enough income, and the extra work is not worth it. Managers in these organizations often find themselves frustrated with sales representatives who are comfortable at a level of sales and earnings below what is needed for the health of the business. At this point, management typically considers ways to change the compensation arrangement, only to realize they are caught in Consequence #3: Limited Flexibility.

Consequence #3: Limited Flexibility
As a solution to complacency, or for other reasons, management may decide it needs to reassign territories or accounts, split territories, or focus some representatives on a targeted customer type. In the case of 100 percent variable commission-based plans, these actions are viewed by sales representatives unfavorably as if management were suggesting they swap families. Customers are viewed as the “property” of the sales representative who landed them, and often will join a competitor and take their customers with them in response to changes.

Another challenge occurs when a sales representative leaves the company and his/her accounts must be reassigned. This situation creates a quandary for management: sales reps who are assigned these accounts need to be compensated for the additional work (they have no fixed compensation after all, and it cannot be expected that they will do it out of the goodness of their heart), but most will agree that compensation for assigned accounts should be lower than compensation for acquired accounts. In these situations, management may develop complex workarounds, such as “house account” rates or territory/account-buyout deals. These side deals can become cumbersome to manage and may open the door for claims of inequity.

What’s the solution?
A 50/50(1) pay mix (50 percent of the target total compensation comes from salary and 50 percent comes from incentive) is considered by many sales compensation design experts to be the tipping point in terms of balance between control and motivation. At 50 percent of target total compensation, the salary gives the business a reasonable claim to control behavior and manage account and territory assignments. The 50 percent of target total compensation that is at risk (variable pay) is generally sufficient to motivate continued growth. Once the pay mix tips beyond 50/50 and more comes from incentive (at target performance) than from salary, focus and control for the company will not be much different from a 100 percent variable pay plan. With at least 50 percent of the target total compensation coming from salary, management can design the mechanics of the variable pay portion so as to truly reward performance.

When shifting from a 0/100 pay mix to a 50/50 pay mix, the incentive portion can become truly variable in ways that were not possible when it was the sole source of income. At a 50/50 pay mix, a threshold may be introduced below which no incentive pay is earned. Economically (and psychologically) once this downside is introduced into the plans, the leverage on the upside can be increased so representatives who exceed expectations make even more. The world of a flat commission rate can morph into escalating rates, goal-based rates, or goal-based linear incentives – all of which provide far greater motivation to meet and exceed expectations.

Even though 50/50 is an important tipping point, it is not the case that all sales representatives should have a 50/50 pay mix. Pay mix should be a function of the selling role and should reflect the degree of influence a sales representative has in making the sale. The more directly responsible the rep is for closing a sale, the more variable the pay mix should be at target. Typically, hunter roles in start-up businesses or new product launches will have the most variable pay mixes.

Those who would likely have less pay at risk as a percent of total compensation include account manager responsible for expansion selling with existing customers, or sales representatives who sell on teams with technical engineers, pricing specialists and other support resources. All of these tend to have less pay at risk because the sale is driven by a numerous factors, in addition to the skill, initiative and creativity of the individual seller. These roles tend to skew more toward a 70/30 pay mix or even an 80/20 pay mix in some circumstances.

Companies often miss the opportunity to direct sales representative behavior through annual performance reviews and salary increases. Without a salary, any conversations you may have around more subjective measures of performance such as teamwork, completion of administrative tasks, or other necessities will have no teeth. Having at least 50 percent of the target total compensation in the salary gives management an additional lever to provide direction and differentiate performance along dimensions other than just the numbers.

The best sales compensation plans have balance – balance between financial and strategic performance measures, balance between short-term and longer-term results, balance between individual and team performance, and balance between fixed and variable compensation. The right balance for each of these dimensions depends on the business strategy, the company culture, and the type of selling role. For these reasons, a sales compensation plan that has no fixed pay component is rarely the right answer; it lacks a necessary ingredient that allows management to guide behavior, create greater motivation by making the variable pay truly variable, and manage account assignments based on what is best for the company and the customers.

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(1) When stating pay mix, the first number given is the salary portion, the second is the incentive portion, and both must add to 100 percent.

• More emphasis on new products with current accounts, or
• A push to increase the number of new accounts, or
• Increasing emphasis on selling higher margin products.

Often this communication begins a sales force survey, selected sales rep interviews, or a meeting of Sales Council members about the current plan design.  In addition, it also occurs when sales management begins discussing changes in the go-to-market strategy after the business planning process is completed, typically late in the third quarter.

The formal plan communication process generally follows these ten steps:

1. Develop a PowerPoint presentation of the new plan comparing it to the current plan (what’s new, what’s not changing, and what is being eliminated plus the change in the plan component weightings) for the rollout  to all sales reps in the annual sales meeting;
2. Develop the plan document detailing the plan components, gives calculation examples, and provides the terms and conditions;
3. Develop an Excel earnings estimator to help sales reps model the impact of the new plan on their incentive earnings;
4. Develop specifications to revise the sales compensation software or Excel spreadsheets used to calculate payouts;
5. Review and approve the presentation and plan document (Sales, HR, IT, and Legal) and make the any needed revisions;
6. Develop the presentation script for sales management to use in delivering the PowerPoint presentation;
7. Coach the first line sales managers to discuss the plan changes via a management team meeting, conference call, or WebEx;
8. Ensure that sales managers conduct  sales rep one-on-ones where plans are distributed and signed copies are made, and frequently asked questions (FAQs) are gathered from the sales reps;
9. Develop and distribute sales management’s written responses to the  FAQs to all sales reps by their managers; and
10. Develop a follow up email questionnaire or on-line survey to be administered to the sales reps after the first three to six months of play payouts (dependent whether the payouts are monthly or quarterly) to assess if minor policy and payout revisions are needed.

While changing the sales compensation plan is a prime example of an organizational change management effort, the process is infrequently viewed as this type of effort.  Effective communication of the new plan is the foundation to grow a company’s revenue and profit; an ineffective effort generally gets the sales force off to a slow start due to confusion, resistance to the behavioral change needed, or a perceived negative impact on earnings.  Anticipating these issues with thorough communication and the involvement of both the key stakeholders and the sales reps is the hallmark to a successful plan implementation.

Common pitfalls in product launch sales incentives

• Putting the new product sales into the main quota/goal. New product launches may have schedules, but we know that they often slip, or turn into a phased launch. In addition, it’s very difficult to predict how fast demand will pick up, especially by sales territory or customer. For these reasons, adding the expected sales from the new product into the sales goals is almost certain to result in unintended side-effects for any compensation plan that depends on a goal (and that’s most of the plans we’ve seen).
• Offering an incentive that is not right-sized. If the incentive is only available to the first few who sell the new product, it may be out of reach for most. If it is too small in value, it may inadvertently send the message that these sales aren’t very important. And if it’s too large, you may distract sales people from their important responsibility of keeping the non-new part of the business thriving and growing as well.
• Making new product success essential for maintaining historical compensation levels, then failing to deliver the product (on time or at all). This is in the disaster category and should only be risked (via high-stakes incentives) if the success of the new product is a bet-the-business imperative.

Keys to successful product launch incentives

Goal: Operating Income = -$200,000

To build the payout table, we’ll need threshold and excellence performance levels, a target payout, and a leverage factor.

Threshold = -$400,000

The Threshold is the level of performance below which no payout is earned. Usually the goal is aligned with the annual operating plan. No payout at all below goal means goal setting precision must be very high. A modest payout as goal is approached is often a better design.

Excellence = $0 (breakeven)

In this case where a loss is expected, it may be the case that breakeven would be a fabulous result for the coming year. If so, a handsome reward could be delivered at that point.

Target Incentive = $10,000

Someone reading this is thinking that it’s hard to pay an incentive to reward someone to deliver a loss. And clearly this is not a sustainable business model for the long run. But in come-back situations, or years of investment, it may be a great idea to have those who influence the outcome with compensation at risk, along with upside, for delivering against the annual operating plan.

Remember that we’re talking about sales compensation here, so the assumption is that the incentive pay is true at-risk pay, not over-and-above pay. The person with this incentive opportunity has put some portion of their market value at risk with the expectation that they do influence the outcome materially, and that when they do a great job they could earn back all that they have put at risk, and then some.

So what does the payout table look like? Here’s a sample:

Most of the time, the amount of the commission at goal (or “quota”) is higher if the quota is higher – so if one sales person has a $1M quota and another has a $1.5M quota, then one has a target commission that is 150% that of the other. Whereas in a “bonus” world, the target incentive is fixed for the role (e.g., $40k per year) and is paid for hitting quota, which may vary from one person to the next.

Some people hear the word “bonus” and mistakenly conclude that the payout outcome will be binary (all or nothing). While that’s possible, it’s rarely advisable. A typical sales compensation bonus plan will include payout rates to pay additional compensation for every increment of additional performance. The most straightforward approach here is to pay 1% of the target payout for every 1% of the quota achieved. So if the target payout is $40,000 and the quota is $1,000,000 then for every $10,000 in sales (1% of $1M), $400 is paid (1% of $40,000). It is also usually advisable to pay at a higher rate once the quota is achieved. So in our example, the payout for every additional 1% of quota over 100% (every $10,000 over $1M) might be 2% of the target incentive ($800).

Of course there are myriad nuances and variations, including the possibility of “personal commission rates” which communicate a “bonus” as if it were a “commission,” etc.

In deciding whether your compensation plan should be quota-based or commission-based, the key question is one of your business’ philosophical starting place about variable pay for sales people.

1. Do you start with a fixed amount you know you can afford to pay to get your offering sold (e.g., 5% of revenue), and design the plan to manage to that value?
2. Do you start with the idea that the sales job has a market value, and that those who meet the goals assigned based on the sales organization and roles you have put together should earn that market value?

If your starting place is #1, a commission is likely a better fit for your business. If your starting place is #2, a bonus type incentive could be a better approach. Commissions are more typical and appropriate in earlier stage businesses, new business roles, product launches, and certain industries; and bonuses are more typical and appropriate in more mature businesses, complex selling organizations, and account management roles.

Of course, both the cost of the sales compensation compared to the sales team’s productivity and the compensation delivered to the sales people as it relates to their job prospects outside the company must both work in order to have a successful business model.