Sales compensation is probably the most important compensation plan in the Company. With the realization that Sales DNA is very reward-oriented, well-structured compensation plans are part of the success criteria needed to build fast growing businesses. By corollary, poorly structured plans tend to reduce sales volume despite the level of effort a team puts into the selling process. It can been seen as a bit illogical how sales compensation and sales behavior become so tightly tied together, but the more you operate with this in mind, the more likely the sales team is to be heading in the direction the business needs it.
As we examine sales compensation from a variety of angles, we'll be keeping in mind the following five critical thoughts:
Keep it simple. But not too simple. Sales plans can become overly complex with too many performance factors to measure. The more factors you have to measure, the more likely the rep will have a chance to disagree with the overall payout at hand. Similarity, if you have too few performance factors to measure (e.g. only revenue), you may find payout starts exceeding the value provided by the rep and as the sales team grows, operational problems start to emerge. We need to find the right complexity balance between revenue and non-revenue objectives. Unfortunately this can take a few performance periods (e.g. quarters) to get a handle on.
- Keep it fair
In young businesses, sales momentum is hard to predict. The whole Company is working to build sales momentum, but not always achieving it in the early going. As such, a sales compensation plan without allowing for the reality of the business stage tends to fall out of sync quickly with what is actually achieved, especially a plan based on revenue achievement alone. You want to stay away from having to grant compensation variances too often or the integrity of the plan is called into question. You also want to make sure those who do not achieve are not unduly compensated or those who do achieve learn to resent the work environment.
- Keep it clear
Simple and clear are not always the same thing. The most common mistake is how the term Revenue is used -- does it mean gross bookings from the invoice, net bookings after partner discounts, GAAP revenue (how it is recognized from an accounting perspective), with support revenue/without support revenue, less certain cost-of-sale items, etc. Making sure the measurement mechanics are understood equally by all parties involved in compensation (Sales, HR, Finance) is very important. A good practice is to provide some payout examples in the actual compensation document, so the rep has a good idea of what to expect. There is nothing worse from a coaching perspective to have to face a sales rep who feels they were duped in terms of how compensation is measured.
- Keep it challenging
It's not a requirement to have the whole sales team achieve target compensation. In fact, it's very common not to. If you reach 75 to 80% achievement, you are operating at a high level of compensation performance (50 to 75% team achievement is common when plan targets are reached). We want to make sure goals are not too low which, for all the wrong reasons, negatively affects the growth rate of the business. You can also set challenging personal improvement objectives for a rep -- you want them to develop as sales professionals, pushing them to their full potential and beyond.
- It's about money
Never fool around with issues related to money. Similar to the adage "never borrow money from your friends as it changes the dynamic of the friendship", getting into a coaching issue with a rep who feels cheated in some way makes the working relationship almost unsalvageable. Be prepared to assess sales performance rapidly, pay out rapidly and make any adjustments in a timely fashion. The rep will spend time thinking about compensation every day, don't provide more reasons for them to be distracted than they might already be.
Revenue as a Compensation Target
It should be no surprise that the most common goal in a sales compensation plan is the achievement of sales revenue. In a Direct sales model, this is often measured by the total of all invoices sent in the measurement period (typically per fiscal/calendar quarter). In an Indirect Model, this is often measured by the total of all purchase orders received from partners.
It can be important to distinguish between purchase orders received and invoices sent as you typically want to align sales compensation with common accounting principals -- if you can't book the revenue, you usually do not pay compensation for it. If you can't yet collect the revenue, you usually do not pay compensation, although you can decide to payout something for very large orders that are committed contractually. There are a variety of ways to handle support and maintenance revenues which is often deferred over the contract period -- most companies would credit the rep up-front given payment is likely made with the license fees.
You may need to integrate certain Finance functions with any ordering process so that invoicing is timely both for compensation purposes and for GAAP accounting purposes (especially during the last few days of a sales period). There are exceptions such as in the Indirect model where partner contracts provide for delayed invoicing and extended payment terms. Generally speaking, the reps compensation should not be affected by the idiosyncrasies of accounting wherever possible..
Length of Revenue Target
InsideSpin is a fan of setting only quarterly targets in the early stages of a young company. It is rare to be able to predict accurately the first few revenue goals during a business phase when all opportunities are early stage, marketing has barely started, leads are low in volume, the product is unproven and in many cases, the target market is still in an early adopting stage. Compensation strategies should focus on building the business and not necessarily only on what revenues are achieved. In fact, most investors and Boards would be happy to see an early stage business achieve customer validation as a priority ahead of lofty revenue goals (over zealousness gets you nowhere)..
Once past the earliest stages, where sales and marketing history is emerging (and related metrics), revenue targets are often set annually (although still broken down by quarter). It is important that reps have a forward looking view of their targets so they (with Marketing) can manage the pipeline effectively. It should be common to establish the level of pipeline coverage needed (for example, 3 times target coverage) to achieve a forward looking revenue target. In this way, Sales and Marketing are encouraged to work together to maximize the chance that each territory will be successful in achieving the defined revenue goals.
Uplifting Targets/Plan Coverage
Uplifting is a commonly-used technique to provide fiscal insurance (and motivation) that the sales team will achieve the plan target. The basic idea is to increment each individual target by a defined percentage (or amount) so when all targets are combined, they exceed the actual number committed in the plan.
This compensates for the fact that some people do not achieve plan and those that over achieve, do not do so by enough to compensate for those that underachieve. The uplift covers the gap that would statistically occur allowing the Company to reach target. The result is that typically about 50-75% of the team reaches their target compensation for the period, while the Company reaches 100% of its revenue goal. Uplifting at the rep level and geographic levels are most common.
A common method of calculating over achievement is to increase (accelerate) the rate of pay for reps who push through certain revenue targets -- typically starting at 100% of target. How high you pay for over achievement requires special care to calculate so you don't end up handing over all the revenue to the rep as their compensation (revenue has to pay all the bills of the Company after all, not just sales salary).
The first level of acceleration (say between 100 and 120% target) might pay 1.5 times the compensation otherwise earned (for the revenue portion of over achievement). It might jump to 2 times compensation for anything over 120%. You can adjust the over achievement thresholds as needed. Keep in mind that it is 'good' to have a few reps reach accelerators -- the Company benefits from the over achievement in those territories, it sets great incentives for the other reps and it drives the rep to overachieve frequently (they get used to the higher take-home pay).
The following is a simple way of expressing a sliding scale accelerator program for a simple annualized plan.
0% - 100%
% Target Achieved
- if the rep achieves 78% of plan, they get 78% of their TVI
- if the rep achieves 115% of plan, they get 100% of TVI for the first 100% of achievement and 1.5 times the proportional amount for the remaining 15% over achievement (e.g. 1.5 * 15% * TVI)
As the team grows, it is not uncommon to put a floor on the accelerator -- for example, no TVI is paid out below 75% achievement. This can be problematic with some reps, but when they are selling in a more mature business situation, under 75% achievement usually points to a sales skill deficiency.
SPIFF's start at a young age -- parents offering to buy you a treat if you behave well, eventually offering a Mac Book for good marks in high school. They are fun to offer, encourage pursuit of short term objectives and are worn as badges of pride when earned. You can offer your partner reps SPIFF's as well, although you often need to confirm with your partner if they have any policies against these types of direct incentives.
If you start offering SPIFF's, you should keep them going, versus treat it as a one-quarter special opportunity. You should also change them up so prize boredom does not set in -- which is easy to do as you often have changing sales objectives as your business and product line matures.
Some simple SPIFF ideas include:
- first rep to break a certain deal size mark (e.g. $10K, $100K)
- first rep to sell an enterprise license
- first deal that includes 3-year support and maintenance package
Some general guidelines about SPIFF's include:
- short term in nature, anywhere from one week out to a full quarter, but rarely beyond
- payout should be immediate and in front of the team so all can be envious of the winner(s)
- they should require some level of stretch performance, no sense in offering a SPIFF which everyone earns unless you need a complete behavior change to occur
- progress towards a SPIFF should be visible (office white board), reps like seeing their name on competitive lists
- ideally offer a rotating trophy of sorts so the SPIFF winner keeps something until the next winner occurs (e.g. plaque, special football or other recognizable token)
A small point of caution, all incentives are considered a potential taxable benefit in most regions, so review with Finance if there is a need to declare the value of a SPIFF award so your employees (and your Company) do not wind up with an unexpected tax payment issue later on.
Setting Performance Objectives
Setting non-revenue performance objectives as a supplementary way to drive success is a bit of a philosophical debate. Given that businesses survive on revenue, one argument is that revenue should be the only meaningful objective. The belief is that each team member should naturally drive themselves to succeed so formalizing and compensating on 'softer' objectives is not valuable and sometimes counter-productive.
The other side of the debate centers on what motivates people to succeed -- feeling like there is a chance for success helps motivate people. If you agree that people feel good about themselves when defined goals are achieved, setting a few non-revenue goals (some achievable, some a stretch), is a good motivator to get the most from a sales rep (or any team member). InsideSpin agrees with this side of the debate although acknowledges the need for balance. Too many objectives defocuses the overall success plan for a rep. Too few can sometimes cause the rep to ignore them as they are not material to the overall plan.
Examples of common performance objectives for sales reps include:
- achieving a desired level of forecast accuracy
(improves predictability of business as a whole)
- maintaining adequate pipeline coverage from period to period to cover targets
(e.g. 3x target coverage in qualified pipeline, keeps momentum in right direction)
- completeness of sales automation database
(this can be a bit vague to measure, but very important to the business)
- increasing average sale price by a defined percentage
(encourages more aggressive quoting, larger product packages and sales tactics)
- reducing average time2close of deals
(focuses on improving sales skills, learning products, etc)
- percentage of business through channel partner
(keeps partners interested in being partners, expands market ecosystem)
Objectives like the ones mentioned above could represent from 10-30% of the TVI. Any more changes the nature of the compensation plan too much so that it no longer feels like a sales plan.
The overall challenge with non-revenue objectives is how they get measured. The core rule of thumb is to establish the measurement criteria in advance so there is little ambiguity. More on setting measurable non-revenue objectives is covered in the section on Human Resources.
Compensation Plan Document
There are many ways to structure the actual compensation plan document. It can be a simple one-pager which is in keeping with simplicity, or alternatively it can be a lengthy document that provides an overall framework for the sales rep to operate under. Consistency and clarity is probably the most important elements to consider, so how long a document used is not really relevant in the end.
Given the goal is to provide the rep sufficient direction so that they understand what needs to be done to succeed, the typical compensation document might have the following components:
- Header information - the formality of identifying the rep, the territory definition, role / title, the target variable income (TVI) and the achievement period under consideration.
- Corporate goals - a summary of the key corporate goals with some formatted indication of which ones apply to the sales role. These could typically be coming from a document the CEO issues, accessible to everyone in the Company. It's a reminder and reinforcement of where to focus from a big picture perspective.
- Performance objectives - a table outlining the performance objectives for the period. If the plan is annual, the table might already show the objectives for the first quarter, with templates for the remaining quarters.
- Compensation preamble - a few paragraphs that outlines how the compensation strategy is organized. This would include the breakdown between revenue and non-revenue components, how accelerators work, qualification criteria for President's Club, etc. This is essentially where the rules of the game are defined in as clear and unambiguous way as possible.
- Financial objective with payout scheme - a table that clearly defines how revenue objectives are being broken down. It would include the accelerator program as well.
- Signature block - an area where both the rep and the sales leader mutually endorse the plan.
The formality of signing the document is important to its enforceability. It also creates a bond between rep and coach -- if treated seriously, the process of success management is easier. Don't sign a document both parties do not believe in.View Sample Compensation Document (Simple)
Despite every attempt to avoid conflict, conflict occurs. The most common would be an account that crosses territory boundaries. The challenge is to decide on how compensation occurs on deal close. Even if only one rep works the deal, the opportunity comes from multiple territories thereby reducing the available opportunity in the other territory (or so the rep argues).
One solution is to define clear engagement rules - whoever closes the deal gets the compensation. A less favorable but workable solution (if it does not occur often) is to double compensate (or partially double compensate). In this case, any uplifting would help absorb the additional compensation payout so the business does not loose too much money.
If you are engaging an Indirect Sales model, conflict of the type above occurs frequently. Partners are often crossing territory boundaries so you have to manage the conflict within the sales team (e.g. the partner managers) and also between partners themselves. In this case, some form of deal registration can help (see Deal Registration, Channel Sales).
The best way to reduce the negative effect of conflict is to be open about the potential for conflict, have good policy in place prior to a conflict event and be consistent in the way conflict is managed. The more the team trusts the Company to be fair, the more you can resolve these types of issues without becoming distractions.
Common Compensation Mistakes
- Uplifting is too high
Sometimes the comfort factor from uplifting carries away the sanity of the process. You start with a revenue goal for the Board, up-lift this for the VP Sales, who in turn up-lifts the target for each region who in turn up-lifts for the reps. By the time all is said and done, the aggregate rep target is 50% or higher than the actual target the Company needs to have a successful quarter (and what the forecast could actually yield). You know have many secrets to keep -- which target is everyone heading towards?
The result usually is that few if anyone actually makes their target compensation which results in a lot of unhappiness. Some up-lifting is effective (and mandatory) but keep it within reason. Once bad (unfair) uplifting becomes a practice, confidence in corporate goals is undermined.
- Poor Infrastructure Delays Payout's
Perhaps an obvious statement but one that is easily realized. There is a surprising amount of detail required to properly track sales achievement. Everyone involved must be organized and using appropriate tools to process sales achievement in a timely fashion.
It's demotivating to have to wait 90 days to confirm you are the top sales person for the quarter or that your accelerator kicked in and you made an extra $25K but did not receive it for several months (Pavlov would not be proud).
- Accelerator targets are too generous
A rep closes a really big deal effectively doubling their target achievement for the quarter. The accelerator would pay an obscene amount of money. Other reps see this as unfair as not all territories have the chance for very large deals (e.g. New York Financial District versus Iowa). The compensation program was not designed to handle out-of-band sized deals.
This is a complicated situation, one that often requires the CEO to make a decision on what is best for the Company overall. Options include paying the rep and adjusting the plans going forward (e.g. putting a cap on payout's), not paying the full accelerator but offering the rep other bonus opportunities that are somewhat easily achieved. Depending on the mood of the individual rep, you could face legal action if the plan is not properly paid out based on how the plan is drafted (keep HR involved at all steps).
Given it is a win-win for the Company to have reps overachieve, often the decision to make the full payout is made. Compensation plans are adjusted going forward to define more robust criteria for end conditions (another reason to set only quarterly plans in the early stages of a young company so you have a chance to change and tune frequently).