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Looking for dual sales commission compensation plan ideas

We are a small medical device company with an 8-person US direct sales team. We are concluding negotiations for a distribution agreement with one of the world's largest international medical products companies that gives them US exclusivity except for our top 40 customers and a couple of other carve-outs. While exclusivity is dependent on selling annual contractual minimum quantities, we don't have a clue of how quickly revenue will ramp. Our direct reps will be servicing their existing accounts as well as supporting the selling efforts of our new partner. I'm searching for dual commission compensation ideas for our direct sales that yield higher margin and partnership sales that have lower margins. I'd like to hear from those of you that have been challenged to develop a dual commission structure in similar uncertain circumstances.

Answers

Topic Expert
Keith Perry
Title: Consulting CFO and Business Operations A..
Company: Growth Accelerator
(Consulting CFO and Business Operations Advisor, Growth Accelerator) |

Anon,

I've run into this a few times, especially when (as you note) we bring in a third-party that impacts our revenue.

What I've tried to avoid is basing commissions on our margin. While from a finance standpoint it makes sense to try to correlate commissions to margins, I find this usually goes poorly. My conversations with VPs of Sales practically had laugh-tracks when we shared war stories about how this is fraught.

The other "never ever do this" is to correlate commissions to effort. If selling to customer type A takes 10% of selling to customer B, should you pay lower commission to type-As? My answer is, "no, unless...", which leads us to what I do do.

Let's start with a hypothetical. I make $.10 on distributor sales and $.20 on direct sales. My VP Sales estimates that we can sell $3 distributor for every $1 direct in terms of sales-force effort. I fully understand that my margin on direct *seems* better, but an EVA analysis will likely show that the distributor route is by far more profitable.

Factors I consider:
1) If sales in a particular area are more difficult / risky, and I decide that for tactical or strategic reasons I want to incent the team to sell into those areas, then I might have a differential plan.
2) If I want to dis-incent sales from targeting certain areas (like supporting your partner), I might penalize those activities with a differential plan (almost never happens).
3) I want to estimate (I know this is really hard) what the sales patter will be with a flat plan, and if I want to incent that to change in some manner.

Tools I use:
1) The first one is to segregate the team. Say one person works with the disti and the others go direct. The disti account manager would have a target that would be 3x what the other managers got. Why 3x instead of 2x? Because I (with the VP.S.) estimate that that manager will likely sell 3x, based on our hypothetical, compared to the others, so I want their on-target comp to reflect those expectations. Basically, the disti-mgr would get 1% commission when the directs would get 3%, but that isn't based on margin, it is based on expected sales volume and target compensation.
2) If (1) isn't possible (say the disti needs regional support and it is tough for your reps to travel efficiently), then I would segregate the targets. Every rep would get two comp plans. Say their on target variable is $100K, and further that I want them spending 75% of their time selling direct. I would thus based their direct % on how much they *should* sell based on 75% effort, divide the $75K target by that figure, and that's their comp on the direct, and do a similar calc for disti sales.

I am not at all fond of (2); it can have high-variability (eg, one rep may decide to put all of their efforts into disti, etc), which can mess up my strategic intent. Basically, if Jane decides that her time is better spent going disti, despite the smaller % I'm offering (which would be made more acute over time by the effect of accelerators), then she might neglect direct customers as she's calculating internally that I am dis-incenting her from pursuing those based on her calculations of effort. For example, let's say she gets 6 months into the year and she's hit her disti target, but is only half-way to her direct target. She's already figured out that disti is low hanging fruit for her, so she begins shifting her effort in that direction. As she approaches her target, she sees those wonderful accelerators on the disti side and realizes quickly that selling direct would be completely foolish. I'm not saying which direction it would go....I'm saying that it would go in one direction or the other, which could well undermine a strategy of balancing disti with direct sales.

As an aside, the benefit of this is that if I'm being ignorant and hoping for direct sales which take too much effort, it will self-correct. I've missed my strategic target but the company ends up better off despite me. So, (2) isn't all bad....

The cures I have seen for the failings of (2) can be worse than the problem. The absolute worst is capping or decelerating comp past a target. Let's take Jane above; cap her from succeeding where she has found fertile soil, and she might just decide to push potential sales into the next year (which would have all sorts of profoundly negative impacts).

What does seem to work is first, having the VP.S actively manage the problem. Sales people may chase dollars, but they also follow direction. If they think they're going to get penalized next year for not hitting both targets, they may spread their effort even though it isn't in their immediate financial interest. This has been very effective for me when it is difficult to segregate accounts/products/etc. I've gotten direct feedback from my sales people that there is a disconnect between effort/comp and guidance, but that they're following guidance because if they hit the ball out of the park but don't follow guidance, they might get canned and kill their own golden goose. Seriously, they do get it.

Second, make it clear that you might change targets mid-stream, or shorten the comp-period into quarters so that you can adjust more rapidly, which can be better but may be unworkable due to mis-match between sales cycles and comp periods. Make it clear means explicitly tell them you're doing this. If you're planning on keeping an annual plan and changing targets mid stream, start by erring on the high-side (make the targets relatively unreachable) so that you can *improve* the plan later, instead of making it harder for them to get paid. This is of course bad in that it may seem like you're under-paying through too-high-targets, so you need to off-set it with draws, either recoverable or not, so they sales folks don't decide to leave for greener pastures. Second part-b is to lower the variable and raise the fixed (similar to an unrecoverable draw) for a brief period while you learn what the market looks like. The downside here is that you might pay for no sales, and the salesperson might get paid less for being a rockstar....so its a lose-lose. So here again you want to make clear that it is temporary and will change.

To summarize, try to go with plan (1). Failing that, go with (2) but be clear that it is an *in-process* learning experience and that you will make the sales-folks whole, and be very cautious about sales-cycle mismatches.

KP

Topic Expert
Keith Perry
Title: Consulting CFO and Business Operations A..
Company: Growth Accelerator
(Consulting CFO and Business Operations Advisor, Growth Accelerator) |

Addendum: Also forgot to mention splits. If you already have a "splits" plan, then it is easy to add the disti as one of the virtual sales reps. For example, you could have splits for Geo, PO, Lead gen and Disti. If Jane lands a deal in Kevin's geo based on Lana's lead, and the disti is involved, they all get the split (but you don't actually pay the disti). If the disti isn't involved, then Jane (the PO generator) is the effective disti and gets that split as well.

Kamal Giroti
Title: CEO
Company: Exell Staffing LLC
(CEO, Exell Staffing LLC) |

Commissions based on gross margin is a better option. Increasing your variable exp is always better.

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