By Josh Turner, Gateway CFO Solutions
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Compensating salespeople is a struggle for most businesses.
Are you paying them too much?
Are you paying them too little?
Is their compensation incentivizing them to work toward the company’s objectives?
Whether you have one or fifty salespeople, you have surely felt the pain at one point or another.
The best sales compensation plans align pay with the goals of the organization (usually higher sales and profits), and there are a number of ways to skin this cat.
Below is an introduction to a handful of the most common sales compensation plans, along with the pro’s and con’s of each. As you read them, consider which would be the best fit for your business and keep in mind that there is never a one-size-fits-all solution.
Sales Compensation Based on Gross Revenue
Commissions based on gross revenue are probably the most common way of paying salespersons. While they are also generally the easiest to implemenet and track, they’re also the least effective in helping reach your broader business objectives.
1. Salespeople don’t care about profits if they’re paid on top-line revenue/sales.
2. They’re willing to sell a job at almost any price.
3. They usually become very price driven, relying on low price instead of selling value and premium benefits.
Depending on your industry, company size, and other factors, a good salesperson might demand somewhere between 3-5% of revenue.
Sales Compensation Based on Gross Profits
Gross profit is the money that’s left after subtracting direct costs from revenue. This is often considered the profit that a salesperson has some control over. If they know their costs and have some say in the selling price, then they can have a great impact on gross profit.
Compensating salespeople based on gross profit is often the best way for an owner to protect from paying out commissions on unprofitable work. This is exactly the reason why salespeople often don’t like commissions based on gross profit. They will argue that it’s really out of their control, they’re just responsible for selling, and that costs are for somebody else to worry about. If that is really the case, you should consider realigning their responsibilities so your salespeople are more engaged with the business.
Paying salespeople based on profitability is the best way to keep your entire team working together, all aligned toward the company’s goals. Again, how you structure the plan is highly dependent on your specific circumstances. If you are currently paying based on revenue, and you are considering switching to profits, expect that you will need to offer an upside that will allow for your salespeople to make even more money. Otherwise they’ll view it as a paycut.
Sales Compensation Based on Growth in Gross Profits
An innovative approach to compensating on profits, is to add incentives for GROWTH IN PROFITS. You establish a baseline of sorts at which they receive X compensation. Then, you give them a growth target for additional profits.
This challenges them to not only increase profitability on existing accounts, but to sign new work at higher profits. The more profits they can squeeze out of every sale, the greater their compensation will be.
Sales Compensation Based on Net Profits
Tying compensation to net profits can be somewhat complex for salespeople. For one, many business owners don’t want salespeople knowing what the overall profits of the company are. Second, it’s often complicated to accurately tie overhead/expenses/SG&A to specific sales or projects. Yet, when done properly, it can be an extremely effective compensation model.
Keep in mind that the goal of a good sales compensation plan is to align the salesperson’s interests with the goals of the business. I don’t know too many businesses that don’t have a goal of maximizing the bottom line.
Let’s take a closer look at the two common hurdles and how you can get past them.
“I don’t want my salespeople to know the company’s overall net income.”
Luckily, you don’t have to. Working with your numbers people, you should be able to come up with a multiplier for your different business lines, geographies, customers, etc. When taken in total, these multipliers would net out to your bottom line. But your salespeople won’t have all of this information. All they will have is the basic “expense multiplier” that will be used to determine the net profits on their individual sales.
“It’s too complicated to come up with an accurate expense multiplier.”
Certainly there are hurdles and assumptions that have to be made. It’s not an exact science, and never can be simply because revenues are not 100% predictable. But even a 70% accurate model will deliver you the business results you need, distributing enough of the right expenses to the right sales.
Whatever you do, don’t overcomplicate it. Stick with a basic model that is easily maintained and updated.
Using Sliding Scales to Further Improve Sales Compensation
No matter which of the above compensation models you go with, you can use sliding scales to further incentivize the performance of your salespeople. If top line revenue growth is a major priority, consider making it a component of your plan along with gross profitability. A common model is to increase commissions at certain sales levels. For example, you might offer an additional half percent commission over $500,000 in sales and another half percent for all sales over $1 million.
This kind of compensation plan, combining the best of the above models along with higher percentages at higher volume levels, is often the most effective way to get the best of all worlds.
Regardless of the path you take, be sure to run the numbers carefully and consider the implications of each option. You want to be absolutely certain that the compensation plan you put in place will stand the test of time and help improve both revenues and profits.