12 steps to designing a successful sales compensation plan

19th Apr 2017

At the root of every company is a sales team: a group of tenacious souls squeezed in middle seats without upgrades, walking the hallways of major corporations, making outbound calls to semi-qualified prospects, pacing customer reception areas waiting for a chance to have that critical conversation about the customer’s needs, and generally wearing out the soles of their Cole Haans.

Each year, on average, they experience eight to ten times more rejection than acceptance from their prospective customers. Yet they persevere – most with continued optimism – in pursuit of the close, the add-on sale, the contract renewal. Most of them are driven by a quest for three things: personal accomplishment, recognition, and compensation.

The sales compensation plan is one of the most significant drivers of performance in the sales organisation and represents one of the single largest expenses a company will incur, commonly tens or hundreds of millions of dollars. It’s a thin but vital long distance line that keeps the daily connection between corporate growth and the rep on the street. It guides and motivates the actions of the sales organisation more than any other single factor.

But if the plan’s message isn’t clear or to their liking, sales reps will interpret it in their own financial interest. As a corporate leader, you’ll get what you measure and what you pay for – and it may not always be what you expect.

Perhaps because of its power, sales compensation programs have long been a point of conflict within companies. Everyone has an opinion and everyone is an expert, yet few agree on the best approach to drive performance toward the company’s objectives. Sales, sales operations, human resources, and finance regularly engage in battles over questions like:

  • Does the plan represent our business objectives?
  • Are our highest paid sales people actually our top performers?
  • Is the plan too expensive?
  • Can we better motivate our organisation to pursue the sales strategy?
  • How can we promote more of a performance-oriented sales culture?
  • Can we make the plan simpler to understand?
  • Are sales quotas penalising our best performers?

Too often, these battles lead to sales compensation programs that are compromises between parties, ultimately leading to underperformance in the business. But there is a right way to design an effective sales incentive plan, one that will motivate your team to drive the strategy and grow revenue.

The first step is to understand the sales strategy: How should the priorities of the business be represented in the sales compensation plan? As sales executives determine priorities for their business related to sales compensation, they need to set their C-level goals. These will define the major priorities for the organisation that will be converted to the sales compensation plan. Also before starting on compensation, make sure you have the correct sales roles to accomplish your strategy. Once you have a foundation of C-level strategy goals and well-defined sales roles, the following 12 steps will guide your compensation design.

  1. Determine target pay. Consider the relevant labor market. The market targeted for talent may be different than the market in which the business competes for customers. Within the relevant labour market, a company may choose not to pay at the same level or in the same way as its labor market competitors. Target pay for each role will result in a target total compensation (TTC), which will be the starting value of the incentive plan.
  2. Set pay mix. Pay mix defines the proportion of salary and incentive at target performance, meaning performance to goal or quota. The total of the salary and incentive at target should equal the TTC for the job. Pay mix will vary by job type and is driven by about ten factors that include sales process characteristics, types of sale, and types of customers. For example, a role that is focused on new customer acquisition will likely have more incentive pay as a percentage of target total compensation (perhaps 50% base salary and 50% target incentive) than a role focused on current customer management for major accounts (perhaps 70% base salary and 30% target incentive).
  3. Establish upside potential. Upside potential is the incentive pay available to top performers, typically the 90th percentile, and is often determined as a multiple of target incentive. Upside is a critical component to help the organisation attract and retain the best talent in its market. Define high performance for the organisation. Are the top earners really the top performers? Do you significantly differentiate incentive pay for top performers from average performers?
  4. Establish performance thresholds. Threshold refers to the entry point of achievement where the plan begins to pay incentive. Threshold usually represents the minimum acceptable level of performance, below which a rep would not typically stay employed with the organisation. A company may have a hard threshold, in the case of an account manager with a significant base of retained business. Or it may not have any threshold, in the case of a new business developer for whom every sale is incremental growth.
  5. Develop measures and priorities. Performance measures define the focus areas that are most important for each role. Each measure should represent the most significant pieces of the sales strategy that the role can control. A challenge for many organisations is determining which few of many possible measures should be included in the sales compensation plan, which should be part of the performance management program, and which should simply be core expectations of that job.
  6. Set levels and timing. For each measure, the organisation must define the level at which that measure will be tracked for the plan. For example, the organisation may define a revenue measure for a sales rep at an individual level or a region level. Each measure will also be measured and paid on a certain timeframe, for example monthly or quarterly. The decisions around measurement levels and timing can have a direct impact on rep behavior. Measure too high and the rep may have little control. Measure too frequently and the cycle may be out of synch with a long sales process.
  7. Design mechanics. Mechanics create the connection between performance and pay. It’s the area most sales executives will jump to first rather than working through the previous steps. If your team is starting here, then they’ve missed half the process. While mechanics can seem complex with various rates, hurdles, gates, accelerators, and point systems, they can be divided into three types. A rate-based mechanic (also known as a commission) usually pays a certain percentage of revenue or gross profit, or a certain dollar amount per unit of sale. A quota-based mechanic typically pays a target incentive for reaching a specific quota or goal and may scale its payout above and below that performance level. A link creates a relationship and interdependency between two measures or mechanics.
  8. Align the team. A full sales compensation program will include a range of sales, sales support, and management roles. To work together as a team, plan designs must interface as a complete system. This alignment point checks for how sellers will work together as teammates and peers in the sales process that may include business developers, account managers, field representatives, product and market specialists, sales support, and channel partners.
  9. Set objectives and quotas. Quotas are the linchpin between the sales compensation plan and performance. Objectives and quotas should be market based, representing the relative opportunity in each account assignment or territory, and be created with a process that’s well-understood by reps, optimally incorporating their input.
  10. Institute the governance process. A good governance process is like the constitution of the sales compensation plan that advances it from a set of plans to an effective and impactful program that helps the company grow. Without a clear approach to governance, the organisation will probably create the governing laws throughout the year as it goes, sometimes in a reactive mode. 
  11. Operate the program. The first step is communications and roll-out. Actually, communications should start back during the plan evaluation process, with employee and stakeholder input, and continue through the design process with testing and socialisation. If the communications process starts with the program introduction, the leadership team may be in a catch-up position.
  12. Evaluate the program. Program evaluation should be an ongoing and regular process throughout the year, drawing upon the dashboard and tools to monitor relationships between pay and performance, attainment of goals, differentiation of high and low performers.

One of the keys to great sales compensation design is having a playbook for your team that everyone references to make sure you’ve considered each step. With your team’s playbook defined, you can then layer in your strategic alignments, business performance and results, best practices from similar businesses, and the creativity you’ll need to develop an impactful solution for your business.

Mark Donnolo is managing partner at SalesGlobe

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