SalesCompInsights

By Scott Barton and Matthew Zink

As we have written numerous times on these pages, quota attainment distribution is a critical diagnostic for a goal-based incentive plan.  The shape of the distribution and its position relative to target attainment impact both the plan’s motivational capabilities and its ROI.

Consider an example:

• Company A sets a goal for its sales organization to produce $100 million in revenue.  It models a normally-distributed, salesperson-attainment scenario to test the impact of pay mix (ratio of base to incentive target pay) and pay rate accelerators on total comp expense.
  • Under the “model” scenario the company pays 113% of its incentive budget at 100% attainment, due to its use of accelerated payment rates for salesperson attainment above 100%, and the model scenario placing approximately half of the sales population into accelerators;
  • Its compensation cost of sale, or CCOS, is 4.26% — i.e., Company A is spending 4.26% of each dollar of revenue on sales comp under this scenario.

•  In a wide distribution scenario, the company experiences an increase to the deviation of salesperson quota attainment – i.e., the left and right edges of the distribution curve grow outward.
  • While the company generates no more revenue in this scenario, it spends more of its incentive budget, due to more salespeople earning at accelerated payment rates;
  • The scenario also produces a less efficient CCOS, given the increased number of salespeople performing at low attainment levels, yet continuing to earn base salary.

• In a third scenario the company experiences an upward shift in average performance, such that all salespeople produce 5% more than what the company modeled under the normal scenario.
  •  Due to its accelerators, the company spends more as a percent of incentive budget than under the normal scenario;
  • The higher cost is at a lower effective rate (CCOS) than under the wide scenario, because revenue increased at a higher rate than comp expense.

• Finally, a forth scenario, and an unfortunate one, is where the average attainment is 100% of revenue target but the shape is bi-modal.  I.e., instead of one, normally-distributed curve there are two – one centered at the lower end of the performance continuum and the other at the upper end.  Think of a two-humped camel, or the tale of two cities:
  • The lower-performing camp produces relatively-high fixed cost as a percent of revenue due to base salary;
  • The higher-performing group produces relatively high variable cost as a percent of revenue due to accelerated payment rates;
  • There is no middle group to offset each, extreme group.

From a purely budgetary perspective, Company A prefers the normal distribution scenario, which provides the lowest spend rate as a percent of incentive budget and revenue.  However, the company’s sales management has a different view.  The wide scenario provides more extreme examples of performance, and pay:

• High performers pull down big pay checks and serve as a source of inspiration to average performers;
• Poor-performing reps opt out of the program (or company), saving sales leadership pain and hassle associated with administrative, “performance-management.”

Obviously, for the sales management, the right-shift scenario is preferred – beat the goal and increase the number of salespeople over quota.  But beyond some point of goal attainment the sales organization’s success carries both short- and long-term consequences.

Short-term Company A – and this is a real example – is dealing with the fact that its overall corporate growth and profitability in its last fiscal year fell below analysts’ expectations, even though a large portion of its sales organization exceeded 110% of their quota. 

How is this possible?  Goals defining company success and sales team success are not aligned.  Misalignment usually stems from: 

• Under-allocation of goal, which is the practice of assigning to the sales team a level of quota that falls short of the corporate goal;
• Excessive use of measures and goals that enable the sales team to earn what they view is sufficient pay, even when their performance on the primary goal of revenue or margin falls short.

Longer term, companies that celebrate sales team success but fail to meet Wall Street’s expectations must take radical steps to get salesperson pay and performance in line with corporate results.  Ultimately the sales team must perform more, or earn less.

The prospect of earning less doesn’t sit well – with salespeople in particular.  Therefore, sales leaders need to ensure the sales compensation program uses measures and goals that align with corporate requirements, and that the resulting performance of the sales team and the company is aligned as well.  Other components of the comp plan, including target pay mix levels and payment rate accelerators, help fine tune the pay-and-performance relationship at difference levels of average attainment. 

The cost of poor quota setting and alignment can be substantial.  In our Company A example, the firm spent about 10% more than the modeled result at 100% average attainment, enough to employ at least four salespeople.  Another scenario could have been an average attainment below 100%.  This outcome better aligns pay and performance as fewer, highly-leveraged salespeople exceed goal.  The cost here, while difficult to measure, can be high as well, as salespeople perceive they can’t meet their income expectations because the company sets its goals too high.

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.

By Elliot Scott

A soccer teammate of mine from high school (let’s call him Ronaldo) now works as a finance manager in a company that manufactures equipment for the construction industry.  With the decline in the real estate market, times have been tough for the company and its sales force.   Inside the company the pressure to change the sales incentive plan is builidng.    

Several years ago, when times were good, Ronaldo’s company changed the sales incentive plan.  They moved from a commission plan (sales people paid a % of revenue on each sale with the commission rate tied to level of discounting) to a plan based on % attainment of an annual revenue quota, measured on a quarterly year-to-date basis.  Since that time there has been a gradual crescendo from the sales force of, “The old plan was better.”  But are the salespeople complaining simply because payouts are down?  Or are they right that for their situation the old plan really is better?  Since I am a student of the game (sales comp, not soccer) Ronaldo asked me if I agreed. 

Being a consultant, my answer was simple and direct:  “Well, that depends….”

The choice of whether to use a commission or a quota-bonus mechanic is one of the cornerstone decisions in any sales comp plan design.  Fortunately, there are a number of rules of thumb to help you evaluate the options, if not come to consensus.  The ones most relevant to Ronaldo’s company are:

1.  Is their sales force a “hunting,” new business acquisition sales force, or is there more “farming,” or account management?  Commission is much more common and appropriate in hunting sales forces where the immediacy of commission is a key lever to attract and retain the appropriate type of sales person.
   • Well it turns out that yes, this is a hunting sales force, and management would like them to be even more aggressive.  Score 1 goal for commission.
2.  Is territory opportunity balanced?  If territory opportunity is even, and it is difficult to argue that any group or region has a far greater likelihood of selling much more than another, then commission works very well.  If not, the use of quotas can level the playing field by managing the inequity in territory opportunity.
   • In Ronaldo’s company, territory opportunity is not well balanced.  Quotas range from $800,000 to $2.5 million.  That’s not enormous variation, but score 1 goal for quota-bonus.
3.  Even if territories are not perfectly balanced, is there an objective and accurate way to measure territory opportunity?  If not, then it will be difficult to set quotas based on anything other than past performance, which increases the perception of the “success penalty”:  If sales people believe that doing well this year will cause their quotas to rise significantly next year, the motivational impact of the plan is diminished and the case for a quota-bonus mechanic is weakened.
   • Ronaldo’s company lacks good data on the market potential in each territory, and quotas are based primarily on the prior year’s performance.  The sales force has a high level of distrust of quotas, not only because the overall number cannot be allocated objectively and fairly to each territory, but also because the overall number has been unrealistic for a few years.  Score 1 for commission.
4. How “lumpy” are the sales?  Quota-bonus plans work best in environments with low variability of sales performance.  If a $2 million quota is expected to be attained with 1,000 sales averaging $2,000 each, a quota-bonus plan is more applicable than in an environment where a $2 million quota is expected to be attained with 2 sales of $1 million each and quota attainment might easily range from 0% to 300%.
   • In Ronaldo’s company, sales range from $5,000 to $500,000, with a few outliers up to $20 million.  If you can manage the outliers, a quota-bonus plan should be workable. However, sales are sufficiently variable during the year to require a quarterly year-to-date quota-bonus mechanic.  This is a common mechanic but adds complexity, further diminishing motivational impact.  Nevertheless, quotas are workable.  So score 1 for quota-bonus.
5.  How important is the sales person’s role in discounting?  Commissions offer a simple and effective way of focusing the sales person on discounting.  A rate table based in whole or in part on level of discount allows a sales person to immediately understand the impact to his/her pocket book from each level of discounting.  With a quota-bonus mechanic, the “line of sight” to discounting is seldom so clear, and often involves the calculation of an overall weighted average discount, that changes with each sale
   • The sales force at Ronaldo’s company has significant influence on discounting in most sales.  Score 1 for commission.
6.  Is it important to balance sales across product lines?  Is it critical for the sales people to sell a certain specified amount or mix of products in order to meet strategic objectives, or manage production or inventory?  Or is achieving maximum revenue at minimum discount the only thing that matters?  Quota-bonus plans do a better job of managing the former.  With a commission plan, the sales person will want to maximize commission on each sale, with little regard for the mix of sales over the course of the year, and will sell to his or her comfort level.
   • In Ronaldo’s company the answer to how important overall sales are relative to the sales of each component part depends on who you talk to.  No score on that one.

Based on my conversation with Ronaldo, and the final score of 3-2, I’d say the sales force has a good case for moving back to commission.  A commission plan is workable in his sales environment and will be more effective at driving the results most important to the company:  new business acquisition and lower discounting.

And while it is true that sales people, like the rest of us, prefer compensation plans that pay them more money, I doubt that is the only reason they prefer the old plan.  In my experience, most sales people prefer commission.  The motivational impact of knowing what you will make for each sale not only drives performance, it also adds interest to the job and a sense of ownership, particularly if you are money motivated and independent…as good sales people tend to be.

The company should also not overlook the following:  (a) Listening and responding to the concerns of the sales force will build credibility, loyalty, and motivation.  And (b) it has been several years since the plan has changed.  The novelty of change and the ability to use the new plan to help communicate and reinforce key sales strategies should both have a positive impact.

As a final note, while a move towards a commission based plan appears to make sense in this case, there are also reasons to retain the influence of quota attainment in the plan.  For this company, the main argument against moving to commission is territory imbalance.  So the influence of quotas should be retained but made secondary.   We’ll address techniques for this in a later post, but feel free to contact me at escott@newsigma.com  if you have a specific question I can help you answer.

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Sales Productivity Takes a Big Leap Forward

One of the most challenging decisions facing sales leadership is whether to move from a commission to a goal-based plan.  By commission, we mean the relatively simple approach of sales x payment rate = payment.  In a commission plan, payment rate gets the focus – bigger the better for a salesperson.  In a goal-based plan, it’s all about the goal or quota: goal achievement = payment.  There are derivations of these approaches: variable-rate commission schemes where the payment rate changes based on a goal-achievement threshold.  But fundamentally, the commission plan provides a target share of each sale to the rep, where the goal-based plan provides a target payment when the rep has met the required goal.

Two years ago we worked with the sales force of an incumbent local exchange carrier (ILEC).  In 2009 the sales organization adopted a quota-based plan after having used a commission plan.  The firm’s head of HR said moving to a goal based sales compensation program was relatively simple, and one of the better things they’ve done.

In 2008 the company was struggling.  Yet most salespeople earned variable pay based on recurring revenue from previously-done deals.  Many in management thought reps viewed their variable pay as an entitlement, and were not sufficiently motivated to grow new business. 

The program changes for 2009 included a minimum performance threshold for incentive eligibility, and use of both cumulative and discrete goals for monthly payments, depending on the job role.  The new program simplified the calculation methodology by using a standard approach across various performance measures, whereas the previous plan used a variety of calculation rules.  In exchange for the threshold, the plan offered higher payouts for over-goal performance.

During 2009 the company operated under bankruptcy protection in one of history’s worst recessions.  Yet the sales organization performed admirably, coming in for the year just below the goal.  In 2010, management kept the same basic plan structure but increased the goals and minimum performance threshold.   The company emerged from bankruptcy in October and finished the year at 107% of plan.

The company’s mood for 2011 is bullish.  Management has refined the sales comp plans to place more focus on strategic product sales.  A benefit to goal-based plans is management can shift strategic emphasis by changing the quotas and payment rates, without structural changes to the program.  This consistency is a welcome change for reps that grew accustomed to constant changes to the plan, and given all organizational changes. 

Goal setting and allocation is never easy.  “We did a lot of work behind the scenes,” says the head of HR.  “But this paid off in making the program appear simple and sensible to the field.” Management restructured the way in which marketing and sales worked together in goal setting by setting up a core team and calendar, with shared accountability for revenue goals across functional groups.  This helped the entire process become more transparent – a criterion for effective goal management in the sales organization. 

 “Managers often fear they’ll lose their best salespeople by making incentive pay contingent on goal achievement.  You have to take risks, and work through the fear.  If you have solid relationships – salespeople with customers and management with salespeople – fear of losing sales talent is probably overblown.” 

The company lost some salespeople during the transition, but most are back. They’re excited about the culture and being a part of what the company now stands for: a high-performing organization.  Setting goals at the sales rep level enabled the company to take a big leap forward.

Top Questions Answered

This season’s brutal weather hasn’t slowed the number of questions from incentive planners and sales leaders.  Team- and goal-based plans are common themes.  We’ve handpicked a number of related questions from our mailbag, and hope at least a few are on your list of open questions.

Q: What is the ideal mix of individual and team measurement?

A: The ideal mix is consistent with the mix or relative share of the job’s responsibilities that are individual versus team-based.  In our experience team-based measures often take the place of what should be individual measures because either the company cannot measure individual contribution or it wants to avoid internal competition.  Good use of team measures is when the job carries responsibility for a goal that cannot be executed exclusive of other team members.

Q: Can one plan do all?  If a company has both Key Account Reps and Territory Reps, how common is it to have different plans?

A: Not effectively if the company has dissimilar requirements across the jobs considered, and the market requires different cash targets.  It’s for this reason that most companies have different plans to serve a diverse set of sales jobs.

For example, the requirements for a Key Account Rep and Territory Rep could be the same.  That is, base salary and target incentive, performance measures and pay frequency could be identical.  While in our experience we find the performance measurement similar – sales volume in either absolute or relative to goal, the pay targets are not.  Key Account Reps typically have a more-defined pool from which to fish versus the Territory Reps where the variability across territories is higher.  This means the Territory Rep carries a higher risk/reward proposition (higher incentive target as a percent of target total cash, higher upside potential).

There is an age-old debate around what constitutes a different plan.  This is a communication and administrative issue.  We say, if a sales manager can explain the plan to both audiences simultaneously, your one plan for different jobs passes the test.   Or if you can use an identical set of requirements in your system for paying both jobs, with only differences on your rate tables, your one plan passes the test.

Q: Given sales reps often have “unequal” opportunity with respect to their existing customer base, number of customers, type of customers, markets, etc., how do you effectively “level” the playing field among various reps?  

A:  This scenario is one of the strongest arguments for a goal-based incentive program.   With a goal-based approach you set a target incentive commensurate with the role and skill level.  Let’s say Scott and I both have a target incentive of $25,000.  Our goals might be very different, taking into consideration the factors your reference in your question.   If we both meet our goals we earn our $25,000, regardless of what our goals are.   The transition from a commission program to a goal-based incentive approach is one of the more challenging that we observe given the financial and cultural implications, but long-term it can be one of the most productive.

Q: What is the preferred approach for allocating quotas?   Is this typically a process of mutual agreement between the sales rep and management, or is it something that management enforces unilaterally? 

A: Goal setting approaches vary by industry based on the availability of data, go-to-market model and selling roles.  That said, we find that the most effective approaches use a combination of bottom-up and top-down input.   It is common for there to be a gap between what the salesperson says she can do and what the company requires in terms of performance.  While not a negotiation, there should be a clear and equitable set of logic used to close the gap.   Perhaps the most important characteristic is that the salesperson understands their quota, how the gap was closed and how it ties to the overall success of the organization.  Regardless of which approach is used, if the sales manager can’t explain it to their team, the goals will be viewed as arbitrary and unrealistic. 

Q: For goal based incentive plans, would you expect a normal distribution of performance, or a bi-modal distribution?

A:  When the goals are set correctly we would expect to see a normal distribution of performance.  The range of performance varies somewhat by industry, business model and selling role.  The company’s approach to goal setting – promote a culture of winners, 100% is stretch — also play a role.  The rule of thumb we use is to strive for a bell-shaped curve with approximately 60% – 70% of the plan participants achieving their objective.   With this type of distribution, the field force typically views the goals challenging, but realistic – a key characteristic from our perspective.    What varies then is the spread of the curve.   Consider a consumer product goods (CPG) manufacturer and software company.  We expect a narrower range of performance outcomes for salespeople in the CPG organization..  Most software firms have greater variability in the business, and software salespeople experience a broader range of quota-achievement outcomes versus those in CPG.    A final point, we recommend accelerators and thresholds, if included, be set with a goal of 90% percent of the population earning “some” incentive dollars and 10% earning a significant payout, in line with your industry’s pay benchmarks. 

Q: With goal based incentives, do you advocate setting annual performance goals, or goals with shorter time-frames?

A: In general we observe shorter performance cycles (e.g., monthly) as more effective for promoting line of sight and urgency.  However, in businesses with complex, long sales cycles and infrequent but huge deal values, each month in isolation says little about performance success.  In such circumstances annual goals are typical.  To gain the benefit of more frequent performance periods, management will often tie quarterly milestones and cumulative performance to annual goals.  Rarely do we see performance cycles beyond one year due to fiscal reporting norms.