What do you consider to be the key principles are important in considering role-based incentive plans?

Role-based incentive plans are used to motivate and reward those who have a direct effect on company financial results, in both sales and non-sales roles. Keep these key principles in mind when designing a role-based plan:

1. Pick measures that are linked directly to income generation for the company (e.g., revenue, units sold, margin) rather than activity level (e.g., number of calls).

2. Pick as few measures as possible to cover the primary accountabilities of the role. One or two would be a good number for a newly-instituted plan. Three might be OK. More than three would have to be well-justified as it dilutes both the message communicated by the incentive plan and the payout value of accomplishing any of them.

3. Design the plans with line leadership's involvement so that they introduce them with a message like, "Here are our new incentive plans. We are thrilled to share them with you because we believe they will significantly increase both your income and that of the company. Let me show you how . . ."

4. Provide great materials to communicate the plans -- since the reason you're doing it is to motivate and excite the eligible employees.

5. As soon as you have an idea of what the final design may be, start planning for accurate and timely administration of the plans and great reporting. You risk losing much of the motivational value if employees don't see a frequent and easily understood connection between their results and their earnings.

How can I reward project managers who bring projects in on time and within budget?

This high-end residential remodeler wants to reward project managers who bring projects in on time and within budget. Given that they have a great deal of control over on-time, on-budget project completion, it was a great idea to provide them with incentives to make that happen.

I suggest the following:

1. In order for incentives to really drive behavior, they need to include both an element of risk (they would earn less than their full market value if they didn't earn the incentive) and potential for upside (they have an opportunity to earn more than their full market value if they beat their goals).

2. In addition, the incentive opportunity at target (for at-goal performance) should comprise at least 15%, and probably more like 20-25% of their total compensation. Moving to this sort of pay mix isn't something to be done all at once -- gradually over time is probably best -- a value closer to 10% of base as an incentive opportunity in the first year would be a good place to start. Then in future years, base increases could be withheld to fund a more meaningful incentive opportunity.

3. Identify the measures and mechanics of the plan. If the incentive at target is $10k per year, and if a typical Production Lead is responsible for 5 projects per year, then the "plan" could be a simple as $2000 for each project completed on-time and on-budget, payable following customer sign-off. Consider adding some upside in the form of additional payments for savings vs. budget (e.g., $1000 for each $10,000 in savings) -- but be careful about what behaviors are rewarded when choosing this path -- you don't want to jeopardize quality. Also consider paying a portion of the target incentive for almost-there performance (from our example above, you could reduce the payout by $500 for every day late, for example).

The possibilities are endless, but the principles are few.

Can the role-based principles that apply to sales compensation design also apply to variable pay plans for non-sales roles?

Role-based incentive plans are used to motivate and reward those who have a direct effect on company financial results, in both sales and non-sales roles. Keep these key principles in mind when designing a role-based plan:

1. Pick measures that are linked directly to income generation for the company (e.g., revenue, units sold, margin) rather than activity level (e.g., number of calls).

2. Pick as few measures as possible to cover the primary accountabilities of the role. One or two would be a good number for a newly-instituted plan. Three might be OK. More than three would have to be well-justified as it dilutes both the message communicated by the incentive plan and the payout value of accomplishing any of them.

3. Design the plans with line leadership's involvement so that they introduce them with a message like, "Here are our new incentive plans. We are thrilled to share them with you because we believe they will significantly increase both your income and that of the company. Let me show you how . . ."

4. Provide great materials to communicate the plans -- since the reason you're doing it is to motivate and excite the eligible employees.

5. As soon as you have an idea of what the final design may be, start planning for accurate and timely administration of the plans and great reporting. You risk losing much of the motivational value if employees don't see a frequent and easily understood connection between their results and their earnings.

Do you have any tips on developing a business lead incentive program for a non-sales employee?

Companies typically use a referral fee as the vehicle to pay a non-sales employee who identifies an opportunity, refers it to a sales person, and it closes and becomes new business for the company. Lead referral incentives can be great to motivate the rest of the company to feed good leads to sales, similar to bonuses offered to employees who identify an external candidate for an open position. Here are a few guidelines to maximize the effectiveness of your program:

1. Offer a meaningful reward, but not one that will encourage non-sales people to focus so much on this earnings opportunity that they neglect their key accountabilities. For example, if the eligible employee has total compensation without the lead bonus of $50k/year, then an award of $100 - $200 for a lead that turns into business would be about right (assuming their opportunity to hand off these leads would come up only a few times per year, and the deal value is such that the referral fee is affordable).

2. Start the program for a limited time – six months or a quarter for example. This gives people a sense of urgency to find some leads, and also gives you a chance to adjust if it isn’t having the results you want. You can always declare success and extend it.

3. Only pay the award for results that hit your income statement. If you pay for leads, you may get a lot of leads. If you pay for closed deals resulting from leads, your lead quality will be better.

4. Watch for any pattern that would indicate that suddenly all leads have come from an eligible referral source. Some companies have had the experience that, when such an incentive is offered, it appears that there is an attitude that someone may as well get the referral bonus so let’s be sure to code someone to get it every time.

5. A few months into your program, check with your sales people about the quality of the leads they are getting. Be sure you are clear with your referrers about what constitutes a good quality (well-qualified) lead. It will make everyone’s efforts more productive and the whole program more satisfying.

Do you have any experience/insight into draw against bonus in the software industry?

If you referring to a bonus plan that is paid at year-end and is available broadly across the company to people in leadership and technical roles, then you should know that many technology companies do pay more frequently than once/year. Many pay quarterly. The question of whether the payment is a “draw” or a payment for year-to-date results may be one of semantics.

Some technology companies pay quarterly for results that quarter. In this case, each quarter stands alone and there is no concept of a draw.

Some pay quarterly as long as year-to-date results meet certain criteria – this version could be considered a draw in the sense that the plan design is an annual plan with a quarterly payout mechanism. Usually any accelerated over-target payout is reserved for year-end when the total year results are available and overall over-performance can be verified.

I have assumed here that you are not asking about sales compensation plans, where draws are more common. These are generally offered in roles where sales people have a smaller portion of their total target compensation in a fixed base (less than 60% or so), and a highly seasonal business. For these roles, the draw is needed to keep cash flow stable during the “off season.”

When should commission rates decrease, and why?

We generally recommend that rates decrease at a very high level of performance, well above goal. And the decrease should continue to hold the rate above the "base rate" (immediately below goal rate).

I agree that this is not always appropriate, but should be considered when:

1. The plans are goal-based and goal setting is "loose" so that some people achieve, for example, 200% of the goal. In this case, the high level of achievement could be due to a bad goal.

2. The sales people sell very large deals, which could tend to make performance "lumpy." Often times these deals are closed with help from senior leadership in the company, and often also at a lower marginal profit. While it may be harder to close a $4M deal than a $2M, it's probably not twice as hard (and it may not be worth twice as much to the company).

3. The company has a history of capped plans. Deceleration is always much preferable to caps.

The other philosophical principle here is that you want to put as much money as you can right above goal so that the reward for getting to and beyond goal is the opportunity to live on a wonderfully accelerated slope. In fact, it's great to put so much money there that the company would not choose to afford it indefinitely. So when you do decelerate, the rate is still quite attractive. This will serve to pull your OK performers up and over goal without causing unaffordable windfalls in comp.

What are the advantages and disadvantages for paying for activities vs. paying for results?

Some sales comp plans pay for activities instead of, or in addition to, paying for results. What does your comp plan pay for?

In designing a sales comp plan, we strongly recommend paying for results, financially measurable results (as opposed to activities). Sales compensation, to be really motivating, generally involves significant cash and upside -- and you want to be sure that those payouts are rewarding sales people for results that more than cover the money to be paid.

With that said, other great measures besides just sales/bookings/revenue are often used, generally they have to do with the quality of the sales dollar. Some sales dollars may be more valuable to your company than others -- like sales of more profitable products or services, or sales of strategically important new products, or sales into an important targeted industry segment.

Also, sales over goal are generally more lucrative for the sales person than those below goal. And consistent sales performance is often valued over sporadic sales performance. These are just a few of many alternatives to just paying on sales. Picking the right one is all about aligning the rewards with what is most important to the success of the business.

How do you design sales comp plans for sales roles that have to do two different things well?

When sales people have competing objectives.....imagine the following scenario:

A company has two different products for banks: core processing systems and lending products. For the two products, there is a large difference in the incentive opportunities. For example, the incentive opportunity on $1.5M processing system sale is $75,000 (5% commission). The incentive on a lending product sale may be only $5000.

Question:

How do you motivate the right focus and results, limit “elephant hunting," and keep both product lines productive?

Several possible approaches:

1. If there are skilled "elephant hunters" on staff, a role could be carved out for them that tolerates, even rewards that behavior. You would probably then also need a designated lending-only role. So... split the roles and play to strengths.

2. If you want to have one person cover both, and if it is indeed essential that they do both, then you need an "And-type Comp Plan" -- a plan where they have to do both to really make the sweet money. And that means linked components.

Linkages can be as severe as

(a) No over-goal payout until $xx in lending products are sold, or

(b) Reduced commission rates on both until both reach some threshold.

Linkages can also be as gentle as

(a) Hold back 10% of core commission until a threshold level of lending product is sold (something like 75% of goal), or

(b) Add 10% additional to core commission once lending products are at or above goal, or

(c) both (a) and (b).

Our sales managers would like the flexibility to design a comp plan that rewards for different results in different quarters, but based on numbers.

This type of component puts in place the ability to very directly manage pay, including potentially managing upside, in the hands of sales management. The availability of this sort of management discretion to directly design incentive components and determine payout amounts generally results in widespread direct management of pay levels and a decoupling of payout amounts from market value and productivity.

We generally recommend MBO-type components only for sales roles in startup mode or with very long sales cycles (over a year) for which solid performance this year will not show up on this year's income statement. When we do design an MBO based incentive opportunity, we limit the flexibility and payouts to a few specific amounts (e.g., pay 0% at Unacceptable, 50% at Below Goal, 100% at Goal, 125% at Exceeds Goal, and 150% at Excellence). While it is mathematically possible to interpolate and pay a little bit more money for a little bit more performance, this suggests a degree of rigor and accuracy in goal setting and incentive design that is not likely to occur with multiple components changing each quarter and focused on one person. The more constrained type of MBO that we generally recommend, in contrast, says, "Generally do what we expect of you in this area and receive your target payout, do significantly better and get a nice piece of upside, underperform and it will hurt your pay." This is usually the right message and mechanic for MBOs.

When is it appropriate to measure results generated by a team rather than just results generated by an individual?

Often we are asked about how to provide incentive compensation for team results. The key principle here has to do with how the sales are made. Do the team members depend on each other to be successful? If they do, for each sale, then a team incentive where they have a single team target and a single team actual result, all receiving the same payout, makes great sense.

If each team member has his or her "own" sales, and also supports the effort of the team, then an individual sales goal and a team goal may both be indicated (usually with a higher weight on the individual goal).

And if team members are only linked by the fact that they all report to the same boss, then a teamed incentive component may be no more than a "shared lottery ticket," and you would probably do well to apply those incentive dollars to something more directly linked to the skill, effort and productivity of the individuals.

Incentive plans for inside sales can be complex, depending on the situation, what should I be on the lookout for?

Before diving into a plan design for inside sales, you must first answer several questions:

What type of inside sales are they doing?

Do they qualify for the 7i exemption or are they non exempt employee?

These questions must be answered because, if they are non-exempt, any incentive earned must be included in their hourly rate. If they are exempt, it would make it much easier to implement an incentive with less administrative costs. Assuming you conclude they are either exempt, or that the administrative burden if they aren't is "worth it," then here are a few tips for designing their incentive plans:

1. Incentives are a great way to support an initiative to change behavior, but the rest of the initiative needs to be in place as well. This may include training, systems enhancements, coaching and mentoring, etc.

2. If you really want to use incentives to motivate and excite, then you need "carrots and sticks" to be part of them. Over time you will want to migrate base salaries down as a percent of target total compensation so that the target incentive must be earned in order for the employees to maintain market-competitive pay.

3. The amount of pay at risk depends a great deal on the nature of their inside sales roles. Although it can be more complex than this, one simple division is between jobs that are primarily "inbound" and those that involve more aggressive "outbound" calling. If an inside seller mostly reacts to requests from customers and is primarily doing an order management function (perhaps with some ability to cross-sell or up-sell), then a relatively smaller percent of pay at risk (in the incentive) is appropriate. For outbound inside sales people who more strongly influence a prospect's decision to buy through their own creativity and initiative, more pay at risk (and more associated upside) would be a good idea.

Can you please share some of your "best sales compensation practices" for your typical Account Manager role?

Account Managers usually have responsibility for managing the relationship and growing the business with assigned existing accounts.

There are many possible compensation arrangements for Account Managers -- but here are some tips that may help guide the design process:

1. Account Manager roles are generally rewarded for growing their assigned accounts -- ideally growing account profitability if it can be measured.

2. Compared to the "hunter" job (what I think you're calling the Sales Department), they would generally have less pay at-risk (as a percent of total comp).

3. The Account Manager would be more likely to have a bonus type mechanic than a commission. (A bonus is an incentive that delivers a pre-established payout amount for hitting a pre-established goal, and less for under-performing, more for over-performing. A commission is communicated as a percent of productivity, like 3% of sales.)

And, as always, the measures and acceleration points in the comp plan should focus the Account Managers squarely on delivering the results most needed by the company -- which varies from one company to the next.

An account may become past due after commissions are paid. What are the options?

Sometimes customers return products, or they just don't pay. As a result, some companies do a charge back on commissions paid to the sales person on the sale. The legality of this practice can vary from state to state. However, it is common practice to recover commissions paid in cases in which the company is not paid.

To be sure you're covered legally, and that everyone knows what to expect, you would do well to document your intention to charge back commissions in case of returns or non-payment in your compensation plan document. Your plan document should also cover how you intend to handle leaves of absence, terminations, and claim the right for management to change the compensation plan at their sole discretion. Once you have that document in place, have a local lawyer review it, and you'll be all set.

What are some of the "best practices" in terms of incenting sales people in an manufacturing environment?

Often in manufacturing companies, sales people influence both the volume of sales and their relative profitability, rewarding simultaneously for both puts the incentives in line with what's best for the company.

Three nice ways to approach this that are pretty straightforward are to either:

1. Make revenue the primary measure using a bonus-type mechanic, and add a profitability multiplier. For example, they could add 20% to total earnings (1.2 multiplier) at year-end if a stretch profitability goal is achieved, lose as much as 20% of total earnings (0.8 multiplier) if they are below an unacceptable level of profitability, or have no effect on their own earnings in-between (1.0 multiplier). This would be most appropriate if revenue is the most important focus for sales, with profitability in the also-important category. It would also be appropriate if profitability is difficult to measure at the individual level, but very accurate by business unit or in aggregate.

2. Measure sales people only on gross margin or gross profit dollars, and drop revenue. This would be appropriate if you can accurately measure profitability by individual sales person. Here again, a bonus-type mechanic is probably the best choice.

3. Use a matrix with revenue goal attainment on one axis and profitability goal attainment on the other. In the middle of the matrix (at goal on both), pay 100% of the target incentive. As both revenue and profitability increase, pay over-target earnings. Pay very little for below-goal performance on both. And pay in-between if they’re over on one measure and under-goal on the other. It’s a little tricky to design the matrix, but once you’ve got it, it’s very easy to understand and administer.

What is considered "best practice" with regard to payout eligibility and employment status re: incentives and contests/SPIFFs

My answer is different for contests and SPIFFs than for core incentive components. Let’s start with the core incentive component (part of the official compensation package, documented in a signed plan document or employment agreement, representing a portion of the official compensation package, with on-target payout needed to provide market-competitive total compensation). For core components, give some thought to what you’re trying to accomplish with your eligibility requirements. Some companies feel that requiring people to be currently employed at the time the payment is made improves retention and is more fair to the company. Consider the possibility, however, that you will have people who have already decided to leave staying in the role, collecting their base, cementing personal relationships with important customers or prospects, and delaying your hiring of a more committed resource while they are waiting for their incentive payout.

In addition, it is true that payment in this category must be paid regardless of employment status at the time of payment in certain states and industries. The criteria here have to do with the nature of the job (selling, not delivering services or managing sales people), relationship with the company (employee, not a contractor or outside rep), and the mechanics of the comp plan (communicated as a percent of sales, not a bonus). My counsel on the core components is generally to pay them regardless of whether the employee is currently employed at the time of the payment.

There can be some protection here by noting that payments (made following order intake, for example) are an advance against earnings, and that the commission is not earned until the cash is collected. So if the cash is not collected until after the employee has left, the commission has not technically been earned.

Regarding contests and SPIFFs, you are probably safer in not paying unless employed, legally (but check with real lawyers). And you are also probably not risking any unproductive lingering by disengaged employees if you do require people to be present to be paid – mostly because contests and SPIFFs are generally shorter in duration between announcement and payout, and the stakes aren’t as high. It is a very common (and in my view reasonable) practice to only pay for these incentives if the employee is still employed when the payment is made. A good practice in these cases is to make that intention clear in the contest/SPIFF documentation – fine print at the bottom of the flyer/email works fine.

As always, while we can provide some general guidance on this topic, we strongly encourage you to seek additional legal counsel and review of your official sales compensation plan document to ensure it is compliant with federal and state legislation, specific to your company and the location of your sales representatives.

What is an override/overwrite?

An "override" (also sometimes called an overwrite) is a commission paid on the sales someone else makes. For example, you may have a sales person with a 5% commission (earns 5% of the sales value of whatever they sell). This person may have a sale manager with 6 direct reports, and may receive as his/her compensation 1% of the sales of all the people reporting to him/her. The 1% to the manager is an override. It is a common sales compensation mechanic in small or early stage businesses.

Over time, most businesses benefit from moving their sales leaders to a goal-based plan with payout thresholds (e.g., no variable pay earned under 75% of the year-to-date goal), and acceleration for over-goal performance.

How do we design a 100% commission plan, and how does that interact with a draw?

There are many different ways a 100% variable commission plan can be structured, depending on the needs of the business and the nature of the product sold. The most simple approach for pure new business developers is to use a flat commission rate based on expected revenue and the amount you need to pay the person, and then pay that rate on all new revenue for a specified period of time (e.g., 12 months). Often, but not always, the rate continues for an additional period of time at a reduced level. If the person is expected to retain control of the customer, or has a mix of new business and account management responsibilities, then plan design is considerably more complex. If there is a defined "hand off" point when the customer goes to an account manager, then you may need to consider doing a "hand off bonus" to compensate for the perceived loss of income from the new business developer. The problem if you don't do this, is quickly your new business developers become account managers (it's easier to farm than to hunt!). First rule in sales comp design is define the roles and accountabilities. From there, plan design is relatively easy.

The other thing to consider is the economics of the draw. Is there a valid business reason for delivering pay this way vs using a modest salary? Typically there is "recurring revenue" that is generating a relatively fixed amount of compensation that is actually acting as a base salary. I've found over 10 years of designing sales comp plans that 9/10 times using a 100% variable approach with a draw actually REDUCES the effectiveness of a sales incentive plan and makes it hard to attract talent vs using a modest salary + truly variable incentive. However, in some industries, this approach is the norm.

Are our commission rates too high?

I was asked recently about a sales force that has been on a simple commission plan now for years -- 50/50 split of deal profit between the sales person and the company. However, in recent years they have been hiring less technically skilled sales people, and it no longer seems worth it to the company to share so much of the profit with them. The company is hiring more sales management, providing technical training, and technical support people to ensure the product is sold well.

Typically as a company grows, the company adds value (brand, product breadth, back office systems, marketing, etc.) and the sales person should therefore be able to sell more with the same level of skill and effort. This means that, while sales compensation should continue to increase year over year (with the labor market), sales productivity should increase even faster -- which means that over the long run, commission rates generally come down. And at some point in this process the comp plan may switch from a commission mechanic (% of sales/margin) to a bonus mechanic (earn the target payout for meeting quota, more for more, less for less).

This company has experienced both the maturing of the company, and they have added a decrease in the capabilities of the sales people to the usual combination. So the answer is that, yes, the commission rates need to come down. However, just adjusting rates down and leaving all else alone is probably not the best answer. They should probably have a look at their basic pay structure, sales roles, labor market, key strategic imperatives -- and make some structural changes in the plans all at once. Ideally they also support this with training, great coaching and mentoring, exciting new product introductions and lots of reassurance and encouragement. The goal is probably not to reduce total comp delivered per sales person, but to improve the ratio of sales comp to sales productivity. So while earnings continue to increase for sales people, sales productivity goes up even faster.

Sales Director Plan Designs - not the same as those for individual sellers

Sales Director comp plans should bear a strong relationship to the plans of the individual sales people, but should also have a few key differences:

1. Be sure the Director of Sales "wins" when his/her people win. So starting with their compensation plan and aggregating is a good approach for at least one measure.
2. Even if the individual contributors have a commission-type mechanic (payout is a percent of what is sold), consider a bonus-type mechanic for the Director job (payout is a target amount for hitting goal, less for less and more for over-goal achievement).
3. If your reporting systems support it, you might consider a measure of "contribution margin" for the Director. That would be [sales] - [cost of sales] - [directly controllable sales operating costs]. That measure rewards the Director for making the right tradeoffs in sales resources to get the maximum contribution from the overall sales force.
4. Another great idea for sales managers is a bonus based on the number of direct reports who meet or exceed their sales goals for the year. This type measure doesn't allow riding on the coattails of the over-performers, and encourages good coaching, hiring, and “pruning” of the organization over time.
5. The pay mix for the Director of Sales is generally less incentive-rich than that for the individual contributors. So if your individual sales people have 60% of their target total compensation in their base (at midpoint) and 40% in their incentive (at target), that’s a 60/40 mix. In that sort of situation, a Director of Sales might have a 70/30, or even a 75/25 mix.

Rewarding sales people for both revenue and profitability

When sales people directly influence both sales volume and profitability of what they sell, rewarding them for doing both well aligns their incentives with value creation for the company. Here are three approaches to consider:

1. Make revenue the primary measure using a bonus-type mechanic, and add a profitability multiplier. For example, they could add 20% to total earnings (1.2 multiplier) at year-end if a stretch profitability goal is achieved, lose as much as 20% of total earnings (0.8 multiplier) if they are below an unacceptable level of profitability, or have no effect on their own earnings in-between (1.0 multiplier). This would be most appropriate if revenue is the most important focus for sales, with profitability in the also-important category. It would also be appropriate if profitability is difficult to measure at the individual level, but very accurate by business unit or in aggregate.
2. Measure sales people only on gross margin or gross profit dollars, and drop revenue. This would be appropriate if you can accurately measure profitability by individual sales person. Here again, a bonus-type mechanic is probably the best choice.
3. Use a matrix with revenue goal attainment on one axis and profitability goal attainment on the other. In the middle of the matrix (at goal on both), pay 100% of the target incentive. As both revenue and profitability increase, pay over-target earnings. Pay very little for below-goal performance on both. And pay in-between if they’re over on one measure and under-goal on the other. It’s a little tricky to design the matrix, but once you’ve got it, it’s very easy to understand and administer.