Sales Compensation. It’s an issue many of us are concerned about. And as they struggle with the many elements they must consider when designing a strong sales compensation plan, one component seems to be more difficult than others to determine.
Should you pay on revenue or profit…or both?
This question can be hard to answer because…like so many things…it depends. It depends are your goals, the priority of those goals, your system abilities-just to name a few. As you determine your approach to this compensation variable, consider the following pros and cons of each:
Pros: The biggest pro to paying commissions on revenue is that it is the easiest variable to calculate. It is also the variable most other financial reporting is based on (sales reports, budgets, etc.), so most goal setting for the rest of your organization is aligned with the goals you set for your sales team. Successful sales compensation plans are those that can be quickly calculated by a sales person at any time and can be easily managed for payouts. Revenue variables meet both of these requirements quite well.
Cons: When paying only on revenue, a sales person may be more apt to go after unprofitable business-just to book the revenue to their quota. They are less concerned about discounting or high maintenance deals, just as long as the revenue they book can contribute to their revenue goal in a meaningful way. This is less of a problem, however, when sales people do not have a lot of control over pricing.
Pros: The obvious pro to paying commissions on profit margin is that you focus your sales people on PROFITABLE business…not just any business. This is especially appropriate for companies whose number one goal is profitability and who have a strong revenue base already (through referrals or other low-sales-touch method).
Cons: To pay on profit means you need to be able to easily calculate profit margins-both before and after the sale. For consumer goods, this can be fairly easy. But for most, this isn’t as easy as we wish it were. Unless you can calculate your margins on a deal-by-deal basis, building a profit variable into your comp plan is not reasonable.
Also, if part of your profit equation is determined by the productivity of those who manage the service or fulfillment of product, paying on profit margins can cause sales people to “butt in” where they don’t belong. Finally, most companies require a certain level of revenue to pay for overhead.
Paying on profit alone may counteract the need to get revenue in the door, even at smaller profit margins. To address this, enact a minimum threshold at your break even point, where commissions are not calculated and paid until threshold is met.
Both sales compensation models have their strengths, so choosing the right one for you depends highly on your goals. Take the time required to determine which is the most important factor to your company-revenue or profit-and build your plan around that factor.
By John Hester