Align Sales Compensation with Your Goals
A compensation plan that works.
- By Ken Thoreson
- March 01, 2006
When it comes to how businesses pay their salespeople, there's
no one-size-fits-all approach. That's especially true for Microsoft's
diverse partner companies. Each has its own business model, margins
and mix of products and services. Some pay commission based on sales,
while others only pay on margin; still others blend both with incentives
and special bonus plans.
No matter which approach you use, success depends on awareness.
Your sales management team must understand your company's overall
goals and structure compensation to align with them. In short, sales
compensation should be not just a tactical focus for your organization,
but a strategic one as well.
Sizing It Up
Compensation plans shouldn't be developed in a vacuum. You
and your sales leaders need a solid grasp of your overall industry
and your organization's place in it. You'll need to factor in variables
such as new product launches and major promotions, as well as consider
your personnel structure.
You should also address these questions: Is your company a start-up
or an established business? Are your sales goals orders- or bookings-based?
How long are your delivery cycles? What are your objectives: to
secure new clients, increase average order size, reduce selling
expenses? Do you want to open new vertical markets, focus on the
profitable aspects of your business or increase certain activities,
such as cold calling? Each answer will help them design a compensation
plan tailored to your company's specific needs.
Finally, take a hard look at your sales organization. Take the
time to set goals and analyze gaps. For instance, do you need to
attract new representatives to make C-level sales calls? Do you
want to retain employees to build a long-term, client-based sales
team, or is rapid turnover acceptable because it provides new blood?
Such considerations also play into compensation planning.
Understanding Cost of Sales
Of course, you can reduce selling costs and enhance profits
by capping sales compensation, but in the long run you get what
you pay for. If you hire good salespeople and compensate them poorly,
expect high turnover, which comes with costs of its own. A sales
plan that compensates strong performance will allow you to attract
the best salespeople -- and retain them as well.
can reduce selling costs and enhance profits by capping
sales compensation, but in the long run you get what
you pay for.
Calculating the cost of sales (CoS) is an important part of planning
a compensation package. For a quick CoS ratio, simply take an individual's
salary plus commissions earned at 100 percent of quota and potential
bonus opportunities, then divide by that person's revenues to obtain
the percentage. For example, if a salesperson earns $150,000 in
total compensation and sells $1.5 million of products and services,
his CoS is 10 percent. A more sophisticated approach adds in marketing
expenses, corporate overhead, direct expenses paid to the salesperson
and expenses related to sales support costs.
Once you have determined an acceptable CoS range, you can fine-tune
the commission plan. If you sell Microsoft offerings, services and
other more product-focused solutions, it's critical to find a blended
CoS, which takes into consideration the margins of service and lower
margins of product sales. That can allow you to achieve the desired
CoS within your compensation framework.
Examining the Options
Compensation plans vary widely, but all should include "accelerators,"
that is, increased commission rates for employees who achieve target
sales levels. Following are a few common examples of different plan
- Profit-Based: Commission rates change
as margin levels increase. These plans are generally based on
invoice, product or monthly averages of margin generation.
- Revenue/Quota: Compensation is based
on sheer volume achieved over the previous sales period or on
a percentage of a quota achievement.
- Balanced: Compensation is based on margin,
revenue and a third component, such as quota attainment.
- Team: Bonuses go to all team members
when quarter-to-date (QTD) sales goals are achieved.
Let's examine which types of plans work best in which scenarios.
If your company has high revenue-growth objectives in a boom market
with little competition, use a plan with aggressive accelerators.
Another option involves offering higher base salaries and lower
commissions. An advantage to this approach: You may not need reps
with top-notch sales skills because, in this case, they're primarily
The situation changes in a slower-growing market with many competitors.
Here, you might adopt a "protect-and-grow" revenue objective to
play defense against rivals, while using a margin-based plan to
upgrade accounts. The idea is to gear compensation to account for
growth while providing bonuses for new accounts.
If your company's goal is to grow revenue and focus on new account
conversion programs, choose a plan focused on the percentage of
sales growth quarter over quarter or annually over named accounts.
Certainly, using a quota-based compensation plan can achieve this
objective, too. This scenario requires strong sales compensation
with quarterly bonus emphasis on revenue gains from new business.
Here are a few final considerations to keep in mind as you customize
your compensation plan:
- In new organizations focused on expanding within
existing markets, the compensation plan will differ dramatically
from that of an established company in the same industry. A mature,
market-dominant company that receives a large percentage of its
revenues from a small, loyal customer base can offer lower commissions
and, perhaps, lower overall salaries. But a newcomer to an existing
market probably needs to offer higher compensation to attract
top-performing salespeople who can build a strong customer base.
- New organizations in new markets need compensation
plans reflecting the volatile environment, usually with higher-than-
average base pay.
- Companies in transition or undergoing a turnaround
typically experience a higher CoS ratio; they may be best served
by flexible plans incorporating morale- and team-building components.
- Organizations positioned for high growth should
develop plans covering brief, six-month periods. This will let
management test theories and change direction while allowing the
sales team to adjust accordingly.
No question about it: Creating an effective sales compensation
plan is hard work, but the effort typically pays off in both improved
sales performance and achievement of your corporate goals.