Align incentives with strategy in a compensation plan
Recently, a small business owner asked to meet with me early one morning. Like many in today’s economy, his business had struggled over the past couple of years but his problems were compounded by being locked into a rich compensation structure for his salespeople. So while he was feeling the pain, his sales team was not.
His story is not uncommon. More than half of U.S. employers who participated in a recent WorldatWork survey on sales compensation programs and practices indicated that they will be revising sales comp plans in 2011. Their reasons:
- Improve alignment between sales incentives and business strategy
- Place more emphasis on sales profitability
- Focus more emphasis on business development – winning new business and selling new products
These findings reinforce the importance of understanding the impact incentives have on a company’s bottom line and future growth. They also point to the practice of identifying company goals before redesigning a sales comp plan. This ensures that sales people know where to focus their time and understand what’s in it for them if they achieve the goals that will ultimately help the company.
Farming, hunting or a little of both?
Sales compensation typically includes both fixed and incentive pay. Incentive comp puts some earnings at risk but also provides the opportunity for greater rewards. Although commissions are the most common form of incentive for sales people, others include bonuses, stock options, time off with pay, trips, gift certificates and entertainment tickets.
The level of at risk compensation or payout formula is based on where your company falls on the “protection” versus “expansion” scale says Michael Maciekowich, national director of Astron Solutions, a New York City consulting firm that specializes in compensation. Does the company need to aggressively introduce new product/services or expand into new markets? Or, is the business more interested in protecting market share and retaining current clients?
Maciekowich likens companies focused on client retention to farmers who have invested a great deal of time and money into cultivating the land (and therefore are very protective of it). This scenario lends itself more to a conservative approach to compensation, such as a higher percentage of base pay with an incentive for selling add-ons to existing clients.
On the other hand, many companies need “hunters,” or aggressive sales people who can expand territories and continually close new business. In this case, compensation should be equally aggressive, with a lower percentage of base pay and a much higher potential for rewards – motivating salespeople to be hungry for new sales.
One approach does not necessarily preclude the other. A company can be aggressively pushing one product or territory, while focused on retaining sales for another. There’s nothing wrong with creating two separate compensation plans to address the different needs - just make sure within a group there are not different programs for different people.
The devil's in the details
The key to effective sales compensation planning is taking the time to explore your options. Consider it an important part of the larger budgeting process and get started four to six months before the beginning of the fiscal year.
There are many commission options. The traditional fixed percent/dollar approach provides the salesperson the same percentage of commission for each sale. An accelerating commission is one that increases throughout the year as the salesperson achieves certain thresholds in sales. Typically this type of commission drives year-end sales. For instance, there might be four commission tiers, with the last dollars sold at the end of the year earning the highest commission.
Key items to consider when deciding what type of commission to offer:
- The role of the sales person. Is the role primarily customer service with an up selling component or is it a hunter who must aggressively seek out new business? The hunter’s role is critical in influencing a prospect’s decision and their compensation should be a rich pay mix that recognizes and drives their behavior. The sale to an existing account may be easier and therefore does not deserve the same rewards.
- Cost of Sale. Does the sales process require the sales person to work independently or is it a collaborative effort where the sales rep opens the door but needs the assistance of technical staff to close the deal. The more people involved, the more expensive the cost of sale. This may warrant a lower compensation structure.
- Discounting. Are sales that protect a company’s margin compensated at the same level as sales that are sold with deep discounts?
- New products versus legacy sales. If the business’ future is based on a new service or product, incentives must reinforce behavior to increase these sales.
- Sales Cycle. Longer sales cycles that are evident with complicated technology may take years. In these cases, base compensation, allowing for a steady income takes precedent over the commission.
Dancing around the pitfalls
While every compensation design has its plus and minuses, Maciekowich said avoiding some of the most common mistakes goes a long way towards building an effective sales compensation program. Here are some common missteps:
- Catering to the salespeople. Many executives find themselves designing generous compensation packages because they’re afraid to lose good salespeople. The example at the start of this article illustrates what can happen when a company falls into this trap. A sales compensation plan must be fair, but it shouldn’t pamper the salesperson at the expense of the company.
- Not calculating ROI and profitability of sales per salesperson. The troubled economy has led companies to focus on margin over volume, which is definitely a more rational approach. After all, new business doesn’t do much good if a company’s cost of sales is too high, or if salespeople are discounting excessively in order to boost their short-term numbers. It’s crucial to consider the cost of sales and to incent and reward based on long-term profitability.
- Paying commissions too soon. When sales people bring in new business knowing they will receive their full commissions shortly after the sale, they may be tempted to over promise and misrepresent services. While they’re enjoying a reward, you may be busy trying to placate a new client upset because they were promised something that they’re not receiving.
Motivation comes in lots of different flavors
Jenk Lagho, vice president of sales for ADP in upstate New York, says that motivation “is about more than just the money.”
Lagho, formerly based in New York City, explains that in larger cities, money may represent 90 percent of a person’s motivation – they have no choice because of the high cost of living. However, what happens in NYC is different in upstate New York. Sales executives need to know the marketplace and what motivates the individuals on the sales force.
For example, ADP recently recognized its A-level performers in the upstate market by inviting them to dinner with senior executives and time at a spa. The company also hosts sales trips and a President’s Club for the most successful representatives. Lagho notes that the trip is a motivator for many because it is seen as a certificate of achievement, not simply because it’s an expense paid vacation. Some reps may not care about the actual vacation but they do care about being in the elite group that achieves the vacation. The trips represent a stamp of approval from the company’s leadership, and this drives B-players to work harder.
“You want to see a return on your bonuses and sales incentives,” Lagho says. “If it’s not changing behavior, it’s not worth it.”
“The most important thing,” explains Lagho, “is to find out what motivates each of your salespeople, whether it is money, trips, recognition or simply feeling included. Reward the top performers.”
“When you have a smaller team, it’s much easier to focus on the individual,” Lagho says.
Conclusion
Successful sales compensation plans have a direct impact on the bottom line for businesses. It’s crucial to make sure that the plan is developed with the company’s ultimate goals in mind, and that it properly motivates each individual on the sales force.
