SalesCompInsights

Getting the Most Out Of Your Newly-designed Program

As a manager or administrator of the sales compensation program, what should you care about?  What measures characterize a well-functioning sales incentive plan?  You’re in an excellent position to assess how well the plan is working.

Getting Started

Can you imagine a car without instrumentation?  Your only indicator of success would be a safe, timely arrival at your intended destination.  The scenario is analogous to a sales compensation plan where payments issued are the only measure of success.  Like cars, complex incentive programs need regular monitoring and maintenance, less something unexpected goes wrong and costs dearly to fix.

Most managers of incentive compensation accept that ongoing measurement of the plan’s performance is good business practice.   The problem lies in execution.  What should be measured?  How do we get the data?  What do we do with the information?

Start by focusing on a few fundamental measures.   Your car, for example, is a sophisticated piece of engineering.  There are plenty of things that can go wrong.  Yet most drivers focus on the speedometer, fuel gauge, service-engine light and thermostat.  For each of these devices there are standards that indicategood operation and potential problems.  Without these standards, the underlying information is of little value.

For your sales compensation program, we suggest four key measures and corresponding standards you monitor to ensure your plan operates properly:

1. Pay Distribution
2. Performance Distribution
3. Return on Compensation Investment
4. Sales Time Allocation

Pay Distribution

Most companies track what they pay their salespeople and  standards for responsible pay.  Often missing is measurement of an effective pay distribution for specific classes of salespeople.

The measure starts with acceptable ranges of pay around a midpoint or median amount.  Ideally your standard comes from a published compensation survey that covers the specific jobs in your sales organization.   Compensation managers often fret over the “right” survey, while sales managers usually discount any survey referenced for their team.  The most important thing is to find a survey(s) that your stakeholders agree represent your industry, and then use the information. You want the midpoint (50^th), 25^th and 75^th percentile pay amounts for eachjob.  These amounts include base salary, incentive target, incentive actual, target total cash (a.k.a., on-target earnings) and actual total cash.

Pay Distribution Sample

Each quarter you want to measure the degree your pay distribution represents a normal distribution around your standard range.  A compressed curve, where your 25^th and 75^th percentile actual incentive pay is well inside of your standard range, suggests lack of meaningful pay differentiation across your job group.  A bi-modal curve, where distributions concentrate around the 35^th and 65^th percentiles, may reflect underlying causes such as poor goal setting or territory alignment and result in a very expensive outcome, especially when the plan uses accelerated pay rates for above-goal performers.

Performance Distribution

Similar to pay, we suggest analysis of acceptable ranges of performance.  Managers fret here, too, over the right standards of performance distribution, which can be measured on a both absolute and relative basis.  Don’t sweat the details.  With anything close to a normal distribution across a large population of like jobs, your plan would appear to be working well relative to a performance standard.  Obviously a normal distribution that is set left or right of your standard calls into question goal reasonableness, as does bi-modal or skewed (biased to the right or left of median) distributions.

Performance Distribution Sample

If your plan has multiple performance components, your options are to measure each component separately, or calculate weighted average performance using an attainment rate from each component.  Either way, the more components in your plan, the less clear and consistent the company’s determination of “good” salesperson performance.   It’s a reminder to keep the plan simple.

Return on Compensation Investment (ROCI)

On our sales compensation dashboard, ROCI is like the check engine light on your car.  It lights up when something is amiss, and you or a trained expert must then dig a little to find out why.  I once paid $130 for a mechanic to diagnose what turned out to be a loose gas cap.  The ROIC measure is often not a practical means for measuring the health of your sales comp plan, but we argue it’s necessary in some form.

At the heart of this measure is an answer to the question of, “what performance (return) should we expect for the amount of compensation (investment) we spend?”  Industry standards range from useful to irrelevant, depending on your business and the operational diversity of your peer group. If the standard isn’t already well known to you, it’s probably difficult to obtain.  That said,  published surveys with ranges of acceptable ratios for pay-to-production by job type are available for some industries.  If the published survey doesn’t cover your industry or jobs, you can initiate a custom survey using a third-party to maintain participant-data confidentiality.

The majority of companies we encounter use an internal standard of ROIC based on external or market-driven standards of target pay amounts and the company’s revenue or gross-margin goals.  Logic being, if the company pays competitively and hits its financial objectives, then it is “safe” — for now (i.e., the check engine light isn’t illuminated).

What if the plan uses multiple performance components?  Or it includes supplementary components, like those for short-term promotional campaigns (a.k.a. “spiffs”)?  Another complexity arises when performance uses measures other than financial units, making comparisons of pay-to-performance rations across multiple measures meaningless.  In either case, managers can track what they pay for each component, and assess whether the spend is worth the result.  The more components, the more likely one or two components will be ineffective– i.e., not producing compensation.  Administratively, the company spends money supporting a plan component that isn’t producing fruit.  And from the salesperson’s perspective, the opportunity isn’t worth their time. 

Sales Time Allocation

“Whoa,” you say.  “I manage the sales comp plan, not the salespeople.”  Fair enough.  But the reason you love sales comp is because of its implications for the company’s profitable growth. 

Devilish Details

Of course, you can’t rely exclusively on these four measures to ensure the health of your sales compensation program.  Once you have nailed the basics, you should explore upgrades to your dashboard to include other dimensions, such as administrative expense per payee, or number disputes per incentive dollar. 

The time should be now to start measuring your sales compensation plan effectiveness.  Come third quarter, questions will surface around what’s working and what’s not.  Armed with output from your four plan-effectiveness measures, you’ll have definitive answers.

Would You Like a Battery with that Jump?

Living in the San Francisco Bay Area and relatively close to a market, we seldom stock many groceries in our tiny, overpriced (or is it half-overpriced now?) home.  The grocery store is our pantry, and daily visits are routine.  So too is my older daughter’s claim of weakness from extreme hunger.   So in grabbing stuff for dinner with starving daughter in tow, I’m quick and efficient, except when something goes amiss.  

Such was the case recently when my car, having worked fine only minutes before, would not start.  This thing’s got enough electronic gear to power an Apollo mission.  It clicks and hums when sitting in the garage.  Now it was dead.  No time for a 1,300-point diagnostic, we’ve got to get home.  The car stays, food and kids go.  I packed up my two-year-old daughter and a bunch of heavy bags; the other, starving daughter, could only manage to carry a small bag of French bread.

AAA Northern California has, over the years, built up significant brand equity in my book.  The annual dues more than cover what would be the cost of jumping, towing, unlocking and refilling our cars.  AAA’s Roadside Assistance is cheap insurance for absent-minded owners of unreliable cars.

So I wasn’t surprised when the AAA roadside assistance driver (RAD) arrived at my car precisely when I did, according to plan.  About 60 seconds later my car is idling as if nothing happened and I’m signing a form reminding me something had.  The RAD suggested I let the car idle for awhile before shutting it off and then if it’s slow to start, consider buying a new battery.  Then came the pitch for AAA’s battery replacement service: for $135 another RAD will come to my home and replace the battery with a dealer-spec, three-year-warranty model.  Interesting, I thought.

Indeed a few days later my car was slow to crank.  Being proactive and resourceful I called the dealer from where I bought my car to compare its battery replacement charge to AAA’s quote; the dealer wanted $60 more.  And I would have to go to them – something I do too frequently.  I’ll save the $60 and go without a free cappuccino.

Get on with the punch line, you say?   Here it is:  I spend a good chunk of my career thinking through what enables a successful up-sell and service experience to co-exist.   A former boss of mine avoided making the distinction.  “Sales is service,” he would preach.  In the case of my recent AAA encounter, he’s right.  But in retail, the tag line often falls on deft ears.  Employees in designated customer-service roles often balk at sales goals.  “I didn’t sign up for this,” they’ll say.  From a management perspective, you’re kind of stuck.  Push the goals too hard and you lose valuable service employees.  Not hard enough and the sales goals go unmet.  In our experience, getting the inbound-sales/service role right is a tall order.

So what makes AAA and other firms successful here?  The first hurdle is cultural.  If your employees believe that to serve the customer means informing them of products and services they can genuine use and value, then this knowledge transfer is just an extension of their service routine.  The product/service must fit with the service encounter for the customer to recognize its value.  “I’m glad you told me, ‘cause I just might need a battery.”  Quite a different thought process from the belief a rep is taking advantage of your needy state to sell you something you don’t want or need, or suggesting a quid pro quo.  “Hmm…. if I don’t sign up for the credit protection service, will she not waive my late charge next time?”  Feels sort of slimy.

The second hurdle, if it’s not yet completely obvious why I selected this week’s topic, is compensation and performance-management “alignment.”  I can’t say with certainly how this AAA RAD gets paid, but know enough on this particular issue to believe his cash comp is base salary with a very modest variable piece tied to customer service scores (I received a survey about three days following my service call) and battery sales volume.

What needs to be aligned, exactly?  If we have the sales/service connection set – i.e., there’s an obvious connection between the service request and the proposed sales opportunity – our performance measures and variable comp must fit the context of the job role.  Take the “Fries-with-that-Coke” example.  A natural connection, simple, unthreatening message (what Coke drinker wouldn’t want a delicious pouch of golden fries?) and for a national chain lots of data and surveillance opportunity to appropriately measure service quality and sales volume.  Dial up the incentive opportunity for hitting the fry goal.  Have it part of their target pay.  There’s little that can go wrong.

Our battery example has some similarities but the role context is far different.  It’s not a transitional job.  I would expect some toughness and pride on the part of the employee.  To say these guys are set in their ways is probably not too offensive.  And you want them to sell batteries?  Better dangle some incentive out there.  But how much?  What’s the goal?  What can go wrong if these things aren’t aligned?

Take into account the customer’s perspective.  I try not to generalize or stereotype based on appearances, but a tattooed, heavy-equipment operator with an aggressive sales goal and vulnerable customer in a dimly-lit parking lot sets an intimidating scene.  “Would you like a broken neck with that refusal to buy a battery, sir?”  Good thing I left the kids at home.    Me and my car, never seen or heard from again.

Yet the thought never crossed my mind.  This guy knew what he was doing, and I’m $60 richer because of it.  Call it random in a world of information overload and crummy service experiences.  Something tells me a lot of work went into getting this right.

Facebook, WikiLeaks and the Power of Peer Pressure

During Thanksgiving dinner my extended family (NOT pictured left) seemed intent on discussing Facebook.  How it’s necessary, how it’s evil.  Why in heck does Uncle Lou have a page?  Dude — stop texting at the table!  And so on.  The following week I’m inundated with news on the latest WikiLeak — scandal, crises, gossip — over state department wires.   Then yesterday I’m in a debate with a company’s sales and HR leadership over company policy on employees sharing their earnings info with co-workers.

So we’re in a controversial age over privacy and promotion of personal data.  I hadn’t thought this subject yet hit the shores of sales compensation land.  But  having now thrown it around our brain trust here at SCI (pictured above left), I’m confident saying the trends that have seeped into so many areas of our daily lives, driven mostly by technology and the Internet, has applicability to policy and preferences over the privacy of pay data.

Let’s be clear.  We’re talking about sales compensation specifically.  Please don’t go posting all your employees’ base salary levels on the company’s website as a way of demonstrating your hipness.

There are varying degrees of appropriateness and purpose here based on the structure of your comp plan.  To be safe, take base salary out of the equation.  So then do we socialize actual incentive earnings?

Many companies frown upon the idea.  Some go as far as suggesting that if a sales rep utters a word over his or her earnings to anyone other than spouse, then they’re fired.  This was basically the declaration of one executive in the meeting yesterday.  He had reason to be upset.  Despite the company’s efforts to keep its sales compensation data confidential, someone on the inside — a salesperson presumably — was disclosing details on Vault.com.  Management could try to fire the person or people responsible but had no way of identifying the perpetrators.

Consider companies where using personal pay references during team coaching and recognition events is encouraged, and celebrated.  My first experience with this was during a job interview for a sales position where the hiring manager said, “Our top salespeople made $xxx,xxx, $yyy,yyy and $zzz,zzz last year.  Here are their names.  You can call them.”  I felt a rush then, and always have since in meetings and ceremonies where personal pay is put forth for consideration.

If your salespeople are driven by both internal and external competition, and you have statistics to be proud of, then post it.  Get it out there.  Not only the ranked performance levels, but the corresponding pay also.  Attach names.  Get personal.   Your average performer will react differently to the pay figure versus the performance of Rep #1.   And for #23 out of 200?  Shame on him.  Perhaps the DMV is hiring.

This sounds harsh, but it’s characteristic of the increasingly-transparent world in which we live.   I took quite a beating over stuffing and cranberries due to the low number of “friends” reported on my Facebook page.   And that’s probably okay if this metric is important to me.  Point is, variable pay opportunity should be important to your salespeople, as should peer pressure be effective for motivating action.

Granted, details on your company’s incentive pay opportunity may not be ready for public consumption.  Maybe comparing competitors’ pay to your company’s own reveals a weakness, or your salespeople can’t figure out how the top five reps in the ranks made what they did.  Better then that you don’t publish this stuff.  Ignorance is bliss.

We caution such policies of secrecy, if only because everywhere we turn, it seems the genie is out of the bottle.

How to Pay for SaaS Sales in a Legacy Software/Hardware Environment

In many respects, there’s nothing particularly complex about paying salespeople for software as a service (SaaS) — determine when and by what means to credit the sale, then run this credit through the incentive scheme, whether that be a commission (sales credit x payment rate) or quota-based payment (% of quota attainment = % of target incentive).

The real fun begins when you’re trying to motivate a sales force accustomed to earning good money for selling perpetual software licenses, hardware and services.

Take a software/hardware company with its core business in perpetual software licenses.  In 2010 the company added a SaaS solution to its offering and chartered its field sales force to sell it, while continuing to offer the core business.  It’s now September and the directors of Comp and Finance are trying to figure out how to change the comp plan so that reps sell more SaaS.  I join the conversation on a hot Thursday afternoon in a windowless, poorly-ventilated conference room at the company’s headquarters.

The discussion focuses on what should be the commission rate on the monthly recurring revenue (MRR) for a SaaS deal.  At 7% it’s currently two points higher than the base rate for a perpetual license contract.  Trouble is reps get paid on average about $10k based on half of the contract value* on a core (perpetual license) deal, and only about $500 each month on an average SaaS deal. 

*Second half of the core deal credit comes when the product is installed.

I ask, “Why would a rep focus on a deal that pays less after a year than one that pays more today?

The finance director fires back, “Because the customer wants the SaaS solution, and the rep gets an annuity stream so long as that solution remains in service.”

I bit my tongue and took the high road by elevating the discussion up a few notches, for we were in the weeds talking about rates and such, when the conversation needed to clear a few items related to the sales strategy.  That is:

1. What’s the relative priority between core business and SaaS business?

2. What is the expected net present value (NPV) of a target SaaS solution sale?

3. What is the length of a SaaS sales cycle?

4. What role should the rep have in post-sales activity – i.e., motivating the customer’s adoption and use of the SaaS solution?

Fast forward to another design meeting.  This followed a few executive committee meetings in which we got some answers to the questions above.  Armed with these answers we could now sketch out the blueprint to a new comp plan.  The real meaty issue came down to SaaS deal valuation and timing of the sales credit.

We established two design principles that helped work through these issues:

• Establish parity in the credit value between core and SaaS products: A knee-jerk reaction is to equalize the commission rate, but this doesn’t recognize parity in NPV between core and SaaS deals.  It’s complicated to reach parity when the businesses are so different – contract value for core, MRR for SaaS.  For the sales team to give SaaS the focus it required there had to be parity between the two or better yet, greater NPV incentive opportunity for SaaS.
• Establish parity in the credit timing between core and SaaS deals: The primary role of the sales rep was to focus on growing new business. That’s why the company offered 50% of the sales credit on core business at the time of booking.  Per the first principle, we established that TCV would serve as the basis for SaaS sales credit.  Providing 50% of the sales credit on TCV at contract signing struck the right balance between alignment with revenue recognition (MRR) and job role focus (close the deal and move on to the next).

Remember the timing of credit for core business was half at booking, half at installation.  SaaS installation was a few weeks versus that of the average on-premise (core) system, which was eight months.  To keep the SaaS and core credit cycles aligned we selected eight months into the first year of a SaaS contract for the second half credit trigger.  Should the annualized MRR at eight months be way off from the TCV, the plan would adjust the second-half credit amount. We had to consider any significant differences in sales cycle between the two offerings, but in this case there was none within similar customer segments.

Many companies struggle with the approach of decoupling incentive credit from the revenue recognition approach.  Thus, most SaaS companies pay on MRR.  We think that’s fine in a pure-play environment.  Here though, the company’s sales force was accustomed to earning on a deal-by-deal basis.  To expect, as the finance director did, that reps would essentially buy into an annuity – sacrifice credit today for an ongoing cash stream later – wasn’t realistic given the legacy pay approach.  Even as a stand-alone system the annuity approach becomes difficult to manage over time.  Tenured sales people build up large books of business and lose their motivation to continue growing new business; young salespeople can’t earn enough to stick around.  Territory splits and trailing of the credit, where it decreases each year to eventually reach zero, can mitigate the fat-and-happy syndrome but becomes a nightmare to manage in a large sales organization.

There are still some details to iron out in this case pertaining to goals and payment schedules.  But having aligned the incentive credit approach to elements of the sales strategy, most of the heaving lifting is behind us.

12-09 Viewpoint

Those of us responsible for designing and managing incentive plans have taken a beating of late. Read the news: “The global economic meltdown was caused by greed and lucrative incentive plans.” Thomas Frank, the normally rational columnist from The Wall St. Journal, has gone as far as writing recently that “Pay for performance systems … are a recipe for disaster.”

This decade is full of headlines calling out the massive pay for mediocre performance. Up until recently, though, the news was exclusive to executive pay. Now thanks to Merrill Lynch and AIG, the angry mob has moved beyond the executive suite and out to the field sales offices. And I’m afraid the rage is not solely about absolute pay, but the risk-and-reward relationship associated with incentive compensation. Never has the upcoming sales compensation planning season seemed so miserable.

Most troubling to me are some the proposed solutions coming from boards of directors and senior executives with a sudden interest in how to pay sales people. These proposals include less pay at risk, performance goal increases (making variable earnings nearly impossible), and an increased use of team and corporate-level metrics (which in turn water down individual rep influence on variable pay).

I’ll confess that a side of me views this wave as somewhat alluring, if not calming. Imagine a world free of 30-column spreadsheets, goal-allocation and split credit debates, and 11^th-hour plan-design change requests. What if everyone just received a base salary?

This is crazy talk, of course. Incentives aren’t dead. We are surrounded in our daily lives by pay-for-performance schemes: “move your prescriptions to your local grocery store pharmacy and receive $100 off your next grocery bill;” “complete four round trips during July and receive an extra 10,000 miles;” “clean your room and receive the next Disney DVD release.”

So how did a premise so basic as pay-for-performance become questioned by otherwise rational minds? How did we get here?

First, the absolute pay amounts for some salespeople got out of hand. This issue is stale for executive compensation, since the amounts are quite public and have been increasing steadily for some time. It’s a new issue for production folks, and newsworthy when shareholders or customers of the companies represented by those sales people take it on the chin.

Second, too many employees became participants in the sales incentive program. Many of these employees were in jobs with very little influence on sales outcomes, but because their sales counterparts were earning lots of money, managers of these support positions lobbied for those jobs’ inclusion. The cost of sales went up, and then productivity went down when the incentive plan stopped paying.

Third, the relatively complex nature of revenue and net income realization, along with the extremely complicated incentive schemes found in many organizations, meant that incentive compensation managers were flying blind on the program’s ROI. Not a huge issue when the company is making money, but when it isn’t …

Not surprisingly we now have the pendulum swinging to the other extreme for many companies’ incentive policies, with the purpose being to reduce pay risk and incentive opportunity.

Now this is a recipe for disaster. Companies that reduce their incentive pay opportunity for their talented, capable sales people will lose their competitive edge. High-performing sales people will not settle for target pay, or anything remotely close to it. High performers follow the money. Sure, few people are changing jobs now, but this is temporary. Once growth returns, those firms with motivated, high-performing sales people will be best situated for recovery.

Rather than try to limit pay, companies should focus on promoting and maintaining competitive pay levels and clear metrics of performance. Let’s cover a few basic principles:

• Pay matters, and will always matter to those who know they can beat the averages; ensure your high-performing sales people are competitively paid. Use published surveys, industry panels and recruiting information to manage the competitiveness of your incentive programs. If you don’t manage your pay levels relative to competitive benchmarks, you are invariably over- or under-paying, or getting it right through dumb luck. All three scenarios carry significant consequences and are not sustainable.
• Upside is contagious; mid-level performers are driven by their higher-paid peers, so long as the pay opportunity is not too dissimilar between the two classes. Motivate the middle third by promoting the achievements of the upper third. The value associated with this shift can be significant:
  • Suppose you have 100 sales people in the middle third of your performance tier with an average monthly quota of $40,000.
  • By investing $10,000 in a campaign to promote high-performing sales people, you expect the middle-third group on average to increase sales by just 2% ($800 per rep on average).
  • That’s an incremental $80,000 ($70,000 net) in revenue, for one month.
• Some sales compensation plans place too much focus on short-term outcomes — like monthly sales goal achievement. This may not be appropriate in businesses where short-term sales growth can sacrifice longer-term profitability. Examine the inclusion of longer-term, profit-based measures. But tread lightly. Sales cultures rooted in short-term behaviors don’t transition easily to longer-term goals, and the calculation methodology can seem like a black box (see Aligning Sales Pay with Profitability, salesmanagement.org).
• Simple pay mechanics make communication and modeling of the plan much easier, and ultimately boost its ROI. Reduce the number of variables used in the plan, even if it means deemphasizing certain behaviors and goals thought to be pay worthy. This will allow you to place greater emphasis, and incentive dollars, on the measures that really matter.

These are strange, yet fascinating times. Take a deep breath, stay cool and help the policymakers in your organization remember that if they don’t take care of the company’s top performers, a competitor will.

 About the Author

Scott Barton is a Managing Principal with Pullman Consulting and a senior consultant to sales, finance and HR leadership on increasing sales productivity and cost savings through effective incentive plans and efficient incentive program management. Contact him at scott.barton@pullmanconsulting.com

Contents © 2009. Reprinted with permission from WorldatWork. Content is licensed for use by purchaser only. No part of this article may be reproduced, excerpted or redistributed in any form without express written permission from WorldatWork.

Welcome to our blog. 

SalesCompInsights was created by Scott Barton and Mike Meisenheimer.  In our 30+ combined years of working on sales compensation design and management, we’ve collected a lot of  intellectual capital and developed a few opinions on the subject.  So it’s time to share.  This includes reliable information on sales compensation principles, as well as current trends and research. 

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