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Sales management tips and advice on how to improve your sales team.

How to Construct the Right Sales Compensation Plan

Posted by Gretchen Gordon on Thu, Jul 17, 2014 @12:33 PM

I have recently had multiple discussions with business owners and CEOs about appropriate compensation plans for their sales teams.  Clearly there is not a “one-size fits all” plan,  but I thought I would share some thoughts that I use as guiding principles to help business leaders construct the right plan for their situation. 

There are a couple of basic foundations that might seem obvious, but don’t always translate well to a good plan.

1. Incent the behavior you want. 

This is obvious enough, but I am constantly surprised by compensation plans that are no longer relevant, because the business has changed, or the mix of business that is desired has changed, but the plan has not.

Example: A client in the security alarm industry wanted the salespeople to sell more recurring monthly revenue contracts, but the bulk of their commission was still being calculated based on the installation revenue, which is not recurring. The owner was frustrated by the fact that the salespeople constantly sold large jobs with no recurring monthly revenue even though they had been told to do so. Sales team behavior change only came about after changing how they were compensated.

Read here for a case study describing another instance of how changing the compensation plan led to a change in the salespeople's behavior.

2. Determine an appropriate ROI for your salespeople. 

Before you can effectively create a compensation plan that will incent the appropriate behavior, you have to determine the appropriate level of compensation that you can pay. Think about salespeople similarly to the way you would consider buying a new piece of equipment to increase production, just as a manufacturer would. You would have an assumed increased level of output from a new piece of equipment that would be required before the ROI would make sense to purchase the piece of equipment. Similarly, when it comes to salespeople, we need to determine the level of output (new revenue generation) required to realize an acceptable ROI. 

good investment1

I generally think in terms of a 5x ROI, which means that you should construct your plan so that the company will realize a 5x ROI after paying the salesperson for their production.  Think first in terms of how much the person has to sell to pay for themselves, then think about how much they need to sell to produce a 5x ROI. If they produce just enough to pay for themselves, then you are likely paying them too much commission for their production. It doesn’t make sense to keep a salesperson who doesn’t earn a profit for you, and just pays for themselves. Strive for a 5x ROI.

3. Take into consideration people’s money motivation. 

Most companies have a one-size-fits-all mentality when it comes to compensation plans while salespeople are motivated by different factors. It used to be understood that all salespeople were motivated solely by money. It has become painfully clear -through the assessment of hundreds of salespeople- that this just is not the case.

I wrote about motivating without compensation in this article. Based on these differing motivations, your plan needs to accommodate different types of salespeople. My suggestion is that you structure a plan with three different levels as follows:

  • Level One:  This level carries the highest base salary and the lowest possible commission percentage.
  • Level Two:  This level carries a lower base than level one and a higher commission upside opportunity.
  • Level Three:  This level carries the lowest base or no base and the highest possible commission opportunity. 

Allow salespeople to pick which plan they are on for the year. If they pick Level One and do not sell enough to provide for a 5x ROI during a pre-determined measurement period, then they automatically get bumped down to Level Two. The 5x ROI characteristics will be slightly different for this level, but if they still don’t meet that hurdle they get bumped down again. If they still don’t meet the Level Three hurdle, then they don’t get to keep their job. 

The key is in communicating very clearly what the expectations are with the selected level, and then sticking to your guns about moving them to a different level. The time interval you use to measure their effectiveness might be quarterly or longer, depending on your sales cycle. This plan allows for the individual to control their anxiety level associated with commissioned sales.

Have you had challenges designing an effective sales compensation for your sales team? Let us know about it, and if you've found a solution that works for you, please share it in the comments!

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Tags: Sales Force Effectiveness, For CEOs, By Gretchen Gordon

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