Tuesday, March 24, 2009

What are some best practices for compensating sales-related positions such as Account Managers, Bus Dev Managers, and Tech Sales Support Specialists?

You are asking a question that has challenged many companies and over the 12 years I've been in the field I've seen this pendulum swing all the way to one side and back again. As I often tell clients, "the great thing about incentives is they work, the bad thing about incentives is they work" and often they work so well for one set of positions that the company decides if it is good for the sales force it must be good for the whole company, and before you know it administrative assistants are being paid based on number of emails answered. Banking went through this trend several years ago (you may remember being "sold to" by your teller when you were just trying to make a deposit). There was a time when banks considered just about every employee a sales person and had them all on some type of sales incentive plan.

The roles you ask about (account manager, business development manager, technical sales support specialists, and sales engineers) are more in the gray area in terms of eligibility for "sales-type" incentive plans. I would need to know more about the exact job descriptions before I could give an opinion about whether or not the role should be on a sales incentive plan or a corporate-wide plan based on overall company performance as Account Manager (which is a very common selling role title with best-practices all its own in terms of incentive design) may not mean to your company what it means in other companies.

That being said, here is some general guidance that may be of help. If performance in the role is OBJECTIVELY MEASUREABLE on an individual basis and the result of that performance has SIGNIFICANT BUSINESS IMPACT then you should seriously consider investing the time and expense in developing a customized incentive program. If you can't objectively measure individual (or small team) performance and/or the performance impact has limited business impact, then you are better off leaving them on the corporate-wide plan. Developing sales-type incentive plans (often referred to as customized plans for non-selling roles), takes significant time and effort and can be complicated to track and administer. You have to be sure that the resulting change in behavior that you may get from the plan is worth the added administrative expense.

If your Account Managers are individually responsible to manage and grow a defined set of accounts, with objectives such as upselling, retention, penetration, and growth of those accounts then this role should be on a sales incentive plan (but the plan would look very different than plan for a sale reps plan who is out selling widgets every day, and might not use a commission structure at all, but instead use a goal-based bonus approach).
Business Development Managers could be low level lead generators, or could be out closing really large new business deals on their own. My hunch is that it is likely this role would be on a sales incentive plan, but the exact nature would depend on the accountabilities and expectations of the role.

Technical Sales Support Specialists (if this role is similar to what I've seen elsewhere) are often paid using a less variable pay mix (80/20 or 85/15) and are paid based on the results of the sales reps they support. This is also the case for Sales Engineers, although these roles often support the entire sales organization w/o being directly aligned to a team of reps, so their individual contribution becomes even less clear. For these two roles, the line starts to blur between corporate plan and sales plan, and often you end up with a hybrid. Part of their plan is like the corporate plan, but there may be a portion that is tied to the overall performance of the sales team as a whole or the sales region or team they support. There can also be a small individual performance modifier, but this often based on subjective manager evaluation.

Wednesday, March 11, 2009

How should I go about switching from an annual payout to a quarterly payout?

While it is generally better to pay as close to the selling event as possible, it is not always the case that more frequent payouts are better. All one needs to do is consider the most extreme circumstance (daily incentive payments ?!) to see how you can have too much of a good thing. When companies are considering switching to a more frequent pay cycle, there are several factors to consider:

1) Is the pay mix changing at all? Often more frequent payments can be a way to alleviate some of the sting of a change to a more variable pay mix (if you have had to make reductions in base salary, increasing the frequency of incentive payments can help your reps meet their regular financial obligations).

2) If the pay mix is not changing, what impact will smaller more frequent payments have on your reps' perception of the incentive program? Will the amount paid still be meaningful or will it get sucked into their regular expense budget and not be as noticeable as a larger lump payment would be?

3) Can your company handle the increased administrative burden of more frequent payments, and what are the limits? Most companies would not find it cost-effective to make daily incentive payments, although I have known some to make weekly payments (against my advice).

4) How will more frequent payments change the reps' behavior - are there any unintended consequences and can these be alleviated through selection of the appropriate design option?

On point 4, there are typically two choices for performance period when switching to payments that are anything other than annual in frequency: discrete and year-to-date (YTD). In all our examples below we will assume the change is from annual payments to quarterly payments, as per the initial question. However, the same logic could work for monthly payments that are on an annual, semi-annual, or quarterly performance period.

We'll start with discrete periods first. In this method each incentive payment corresponds with the end of a performance period, and the next payment starts fresh with the next period. There is no carry-over of performance from one period to the next. This type of plan is common in highly transactional, high frequency selling environments where sales are made regularly and there is little ability for the rep to game the timing of sales crediting. If the rep can control when sales are credited, you will likely see peaks and valleys in performance from one period to the next, where reps are pulling or pushing sales to maximize earnings. If your plan has thresholds (that require a minimum performance before payment is earned) and escalators (where payment increases for increased performance) and you are using discrete periods, you are very likely to experience some of this "porpoising" as reps figure out how to get the most bang for each sale. The end result of this behavior is an overall annual performance that may be below target, while the rep has been able to earn above target pay by using the escalators to his/her advantage in high volume periods. If there is little possibility of this behavior, using discrete periods is the most straightforward mathematically and often the most motivating in the short term for the reps.

The most common solution for this problem is to use a YTD mechanic instead. This requires that performance be tracked against a longer performance period and that each payment is calculated against an annual YTD target incentive amount as well. While the mathematics on this can be a bit daunting at first, once reps and managers understand that pay is not "lost" in a bad period, but may be earned back, they quickly see the advantages. In a typical YTD approach, an annual quota is divided into four even amounts as is the annual target incentive. We'll use $1,000,000 as the annual quota and $10,000 as the annual incentive. A quarterly YTD approach would work as follows:

Q1 Quota: $250,000
Q1 Target Incentive: $2,500

Q2 Quota: $500,000 (Q1 + Q2)
Q2 Target Incentive: $5,000 (Q1 + Q2)

Q3 Quota: $750,000 (Q1, Q2 + Q3)
Q3 Target Incentive: $7,500 (Q1, Q2 + Q3)

Q4 Quota: $1,000,000 (full year)
Q4 Target Incentive: $10,000 (full year incentive)

While there are many ways to arrive at the amount earned as a percentage of target, the common mathematical element critical to the success of a YTD plan is to calculate the percentage of the YTD target incentive earned and then subtract any prior payments already made. This creates the "true-up" which ensures that sales which may fall later in the year still "count" toward the reps overall annual payment. Those who are mathematically astute will quickly see there is a potential for ending the year in arrears using this method. Therefore we recommend capping Q1-Q3 payments at 100% of target, and saving any payments for performance above 100% until the full-year results are in. That way a strong start to the year and weak finish will be less likely to create the need for a rep to "pay back" money already paid.

There are some variations on this approach, which combine different aspects of a discrete plan and a YTD plan. Here are two:

1) Use discrete quarterly periods for payments up to 100% with a year-end bonus that rewards for any full-year performance above 100%. This avoids the need to do the true-up calculation which causes some organizations communication difficulty. It does not, however, eliminate the potential for reps to play with the timing of sales to increasing their earnings, but it reduces it by keeping all the "upside" until the end of the year. As with the traditional YTD approach this also acts as a retention tool for anyone running above 100%. Should they leave prior to year-end they will be walking away from any upside the plan may provide.

2) Software companies sometimes use YTD quotas while paying using a discrete quarterly target incentive. This encourages more balanced performance throughout the year, but puts a pretty high premium on the accuracy of quarterly quotas. If business is steady and/or seasonality is highly predicable, this may be an effective way to get even performance throughout the year (as there is no true-up opportunity, it really does matter more WHEN the sale happens, not just that it happened sometime during the year). There is another advantage to this method in that it puts more emphasis on sales that happen earlier in the year. If a rep can "fill the bucket" as quickly as possible in the year, he/she will have the best chance of being in the "sweet spot" of the plan design (where the escalators are the steepest) for each quarterly payment period. As there is no true-up, there is also no chance of ending the year in arrears. There is, however, the possibility that a rep who starts out slow but ends strong will make less money than a rep who had a very strong start but ended weak. Consider which outcome is better for your business when selecting between the traditional YTD approach and this variation.

Words of caution:
It is common for incentive plans to include hurdles and modifiers. These can become especially challenging when dealing with the traditional YTD plan (using a true up calculation). You must be very cautious to do any modifier calculation AFTER the YTD calculation has been completed and you have the final quarterly payout calculated. Whether the modifier increases or decreases the quarterly payout, you must include the ORIGINAL quarterly amount (prior to modifier) when calculating your next quarter's YTD payout. If your plan has complex calculations including modifiers, hurdles, and any other type of linkage between elements (especially if they are using different performance periods), you should make the choice to use a YTD calculation very cautiously. If it is important to your business to go this direction, you may need to change some of the other elements of your plan design to ease the calculation complexity and ensure your reps have a clear understanding of how they will get paid.

What percentage levels for sales manager commission overrides are appropriate?

The consultant answer is "it depends" but unfortunately that really is true this time! For starters, I'd ask how much time the manager is spending managing vs. doing. You want to allocate his/her incentives accordingly. If 75% of his/her time is spending being a player, then 75% of pay should come from his/her individual performance (on the sales rep plan) and the other 25% should come from duties relating to managing the team (coaching).

Overrides can be problematic as a way to pay a sales manager, although they are very common because they are easy and economically straightforward (just take the % you can pay in total for a sale and split it up between reps and managers - your CFO will love the economic simplicity and direct alignment to profits). The problems arise because the manager ends up with a little "empire" of people that, if they are good, the manager will not want to have transfer to any other division even if that is best for the employee and the company. Also, managers can get "fat and happy" on an override plan without too much accountability. It is better to set a goal for the team's performance and hold the manager to attainment of that goal rather than give them a % of the total team's sales. Also, your managers likely have higher base salaries (less variable pay mix) than the reps, so you may not need to pay them as much (or as soon) from an incentive standpoint. It's not uncommon to pay managers quarterly when their reps are paid incentives monthly. However, this varies from industry to industry and some industries are "locked in" to paying managers monthly on a plan that looks and feels much like a sales rep plan but is based on overrides.

The other thing to consider is a "Coaching Effectiveness" bonus whereby the manager is paid for the % of reps on his/her team who achieve target performance in their key financial metric. This encourages the manager to work with all members of the team to manage everyone to a higher standard (or get rid of the ones quickly who can't get there). A plan based purely on an override formula can make a manager a lot of money based on the performance of one superstar on his/her team without pushing the manager to work with everyone on the team. I almost always recommend the inclusion of a 20% element for Coaching Effectiveness for my clients and universally they report that this is a great measure and fills in a missing link in the sales manager's incentive plan.

If you do want to calculate a comission rate for an override plan (in spite of my warnings above) then you do that much the same way you do for the sale rep plan. You need to approach it from 2 directions. First, how much can the company afford to pay as a % of revenue or profit and how should that be allocated among reps and managers and second, how much do you need to deliver in pay at target performance to attract and retain top sales managers. Often we start with the second question, which gives you the numerator ("our managers need to make $50K in incentive pay at target performance"), then ask productivity questions to determine the denominator ("and we expect a good manager to generate $10M"), and the result is a starting point for a commission rate (in this case 0.5% or 1/2 a percent). Then you check this against the answer to the first question and see if it lines up with what is feasible to pay and still generate the requisite profit for the company. If it doesn't, then you may need to adjust the assumptions you used to generate the numerator and the denominator. However, this is often the point in a design discussion where some compromise is needed (or a change in the staffing model - maybe for $50K the manager needs to manage 15 reps each generating $1M rather than just 10 - which which case his rate would now be 0.33%; or maybe the reps need to generate $2M each instead of $1M). Just be sure you model out the results, factoring in the reps' commission payments as well as the managers' to make sure your plan is affordable and will help you continue to attract and retain top talent.

Tuesday, March 03, 2009

Are sales organizations utilizing more attainment thresholds in their sales compensation plan designs as the result of the current recession?

Among our clients I would say that companies are about as likely to lower thresholds as to raise them.

The logic for raising thresholds in this economy would be to protect profit. The logic for lowering them is that we are not nearly as confident in our quota setting accuracy in this economy - so while we "knew" that 70% of quota was unacceptable performance last year, this year we're not so sure where the unacceptable attainment will fall. (And, by the way, that is the point at which the threshold is often set - the level of performance below which the sales person is clearly not performing acceptably, and likely to be on formal notice.)