Rick Butler, Vince DaCosta, Kenny Smith, and Donya Rose facilitated a session at the August 2023 WorldatWork Sales Comp Conference in Chicago on the above topic. We prepared some slides with an overview of what consumption-based selling is and why it matters, and also included some of the plan design features we’ve seen work well over the years. Scroll down for a link to the slides prepared by the panelists for the discussion.
The discussion was lively with many ideas and puzzles shared. Scroll down for a summary of the discussion, below the overview.
Also note there’s a downloadable Excel file with an example of a great way to design a plan for businesses that are all consumption. Links for downloads are at the bottom of the Overview section, above the Session Discussion Summary.
What is “consumption based selling” and why does it matter?
Also called “usage-based,” “metered,” or “pay-as-you-go,” consumption-based selling allows the buyer to purchase access to a resource at a contracted rate, and to pay for only what they use. Examples in our everyday lives include municipal utilities like water and electricity, pay-per-view media content, some mobile data plans, ride sharing based on distance/time, EV charging, and of course cloud and utility computing.
Many businesses are moving to consumption based (CB) selling, and for a variety of reason, including:
- The popularity of cloud and SaaS – businesses have experience with CB pricing in one area and then request it in another
- Flexibility & scalability – they payo only for the resources/services used, which can be very attractive when demand varies significantly from one period to another
- Cost efficiency – costs align with usage, which matters especially in cash-constrained businesses
- Customer-centric – allows businesses to cater to different customer needs more flexibly
- Customer incentive for efficiency – customers minimize waste and optimize usage
- Data-driven insights – usage data enable the provider to focus on customer behavior, preferences, and trends to improve the offering.
Why is this a hard compensation challenge?
Let’s start with a key sales compensation principle about when to finish paying salespeople for a sale, which is when:
- The salesperson has done most of what is needed for this opportunity, and should focus on new opportunities, AND
- We know the value of what has been sold.
The consumption-based reality is that the sales effort may end with the contract signature or continue indefinitely (depending on the coverage model), so #1 above may or may not be satisfied following contract execution. But we know that #2 is not satisfied at contract execution in a consumption-basd sale since the value of what has been sold is only known month by month and so can’t be fully credited/paid at contract signature.
Presentation used at the Sales Comp ’23 session: download here
Excel-based example plan for 100% consumption-based business: download here
Session Discussion Summary
There were about 120 people in the session, and we encouraged them to share what they have tried, and what has and hasn’t worked well. We recorded the session, and have put together their ideas to add to the slides shared in this post:
Favorite Quote from the Discussion
“The puzzle with consumption-based is that everyone wants to do it, but no one wants to comp on it.”
Four basic approaches identified:
- Separate quotas for commit and consumed. So they get paid twice for whatever is both committed and consumed. But those two measures are really paying for different sales responsibilities (get the contract signed, and get the usage going).
- Pay for commit up front (like normal bookings), then true up for consumed. And this true-up can continue for the first 12 months or indefinitely, or whatever time frame makes sense for the business and the way the sales job is supposed to work.
- Estimate the value of the contract based on well understood customer/contract characteristics and pay up-front on that basis. Then the salesperson is working to close contracts with customers who meet the most valuable profile and contract terms that are the most valuable. This only works in a data-rich environment with substantial history to reliably form the basis of the estimated value of the contract.
- Pay for consumption growth above an established baseline (e.g., reset the baseline anytime it is exceeded 3 months in a row).
Change is hard
Many of the comments were about how hard it has been, even not yet possible in some cases, to make the change. One person told us that they had their first hurdle in getting the C Suite, and CFO in particular, to change the plans. The CFO was used to paying commissions and measuring sales based on the total booking value of what was sold, and couldn’t really adjust to thinking in terms of revenue or revenue growth at a salesperson level. In addition, there were just too many changes in the systems and processes managed by Sales Ops to be able to report, track, and set goals properly. Further the salespeople didn’t like the change once it was rolled out, and kept selling subscriptions rather than offering consumption-based pricing. So far, the business is offering consumption-based pricing, but not selling it through the AE team (and so the AE team is not getting credit for these sales).
Panelists with more experience in CB selling suggested that good modeling and clear explanations can help to make this all come together.
- For sales objections, make sure the salespeople can clearly see that their earnings potential has not changed via great examples in the new plan rollout.
- Similarly, make sure the C-Suite can see that comp costs won’t be materially higher than history.
What is changing is not just the pricing model – it’s the sales job
Consumption-based pricing changes the sales role in important ways. It means that the salesperson loses control of the value of the thing they’ve sold, as it’s now also controlled by other roles like Customer Success. Eventually this is likely to lead to the AE/contracting job being a lower total comp job with somewhat less risk and upside. At the same time there will be more roles across the organization on sales-type plans as their accountability for sales results increases. The sense from participants was that this will happen over the next decade, not immediately. This may help to explain why salespeople today really resist the move to consumption-based pricing, but without clearly articulating the implied reduction in the centrality of their role to creating the revenue stream for the business.
There can be real financial implications for individuals & the business
Avoiding the hit to expenses/earnings
For businesses that have been amortizing sales comp costs over multiple years (paying on bookings, expensing later as associated revenue is recognized), moving to paying on revenue (consumption) could be a real hit to expenses and earnings. One participant noted that they had devised a way to estimate the longer term (“bookings”) value of the consumption-based contracts and pay on that in order to be able to continue to amortize the cost of the variable pay to the sales team. This avoided a potentially serious negative effect on expenses in the transition.
Maintain cash flow for sellers
For salespeople who have been paid up-front for committed bookings, a move to paying on consumption will mean they get paid over time for what they “sell” today. While this should not result in a meaningful change in total payout, there will be a period when they are not getting the up-front bookings payout and are waiting for the consumption-based payout. Some accommodation may be needed to maintain cash flow in the transition (modest up-front payment at contracting, one-time payment contingent on a successful start to selling in the new model, etc.).
What not to do: Pay on estimated contract value (when the estimate is suspect)
Several participants noted that they had bad experiences resulting from paying on estimated contract value. For example, one business in a SaaS environment was paying for multi-year contracts that included termination for convenience clauses. Another noted crediting sellers based on an estimated usage that was in the contract, but without any firm commitment. In such cases, there is generally a calculation of the realized contract value at a later date, and some will increase or decrease sales credit and associated compensation on that basis. Others have concluded that the charge-back would not be appropriate when the amount of a decrease only became clear a few years after the initial compensation was paid.
One solution/idea: Pay for less than all of the expected/estimated contract value (e.g., 50%), then true up at a later date when the rate of consumption is clearer based on actual usage.
Additional resources, with key excerpts
SAP Insights article, "Compensating Sales for Consumption-Based Pricing"
Five key questions for leaders as they move into Consumption Based Pricing
- What type of consumption do you want to encourage?
- How quickly do you want to transition?
- How will sales roles and responsibilities shift?
- How will you compensate reps for consumption?
- How much risk are you willing to take on in your compensaiton program?
Blog post from Snowflake, "Sales Compensation in a Consumption Pricing World"
For consumption compensation to work, focus in five areas
- Primary plan measures
- Plan mechanics and rate tables
- Revenue forecasting to facilitate quota setting
- Instrumentation and data visibility
- Educaiton and reporting.
Alexander Group Insights, "Consumption-based Pricing Models"
Align the sales compensation plan to the seller’s role and tie the incentive as close as possible to the multiple persuasion event(s). Pay for closing a contract or signing up a new customer with no contract – use contract value (e.g., ACV, TCV), estimated contract value, or contract/activation signing bonus. Pay for consumption revenue if the seller is responsible for and can influence usage. Lastly, avoid “annuity” payments (i.e., ongoing recurring revenue that does not require any seller persuasion), particularly if the seller does not influence the ongoing consumption.
Ensure the sales compensation plan aligns to the company’s consumption pricing goals. Re-evaluate paying dollar for dollar for consumption vs. subscription/term licenses as it will generally favor subscription/term over consumption.
Donya Rose, CSCP, is Managing Principal of The Cygnal Group. She is a recognized expert in sales compensation plan design, regularly speaking at conferences and writing published articles. She serves clients from F500 to growth-stage businesses, and advises WorldatWork on sales compensation hot topics and best practices.