Should your organization have a sales compensation strategy that focuses on tying salaries to the costs of the goods sold (such as a commission-only program), or one with significant revenue or profit-based incentives?
Or should you ensure your sales compensation strategy keeps the pay of your salespeople competitive in the marketplace—regardless of how much revenue a given salesperson brings in?
The answer isn’t always straightforward, and there are some specific circumstances to consider.
Stages of Company Maturity
"When looking at costs and doing comparisons and understanding ROIs, you have to understand that organizations are typically going through an evolution in any given time (whether it be a company itself, or whether it be divisions of companies)," Joseph DiMisa says. DiMisa is senior vice president and the head of the sales effectiveness practice for Sibson Consulting.
There are typically three stages of maturity of an organization (or division within an organization):
- The early stage—more of a start-up division or company
- Market momentum—the company is becoming entrenched and more significant in the marketplace
- Maturity—the company has a long-term growth strategy and may be a market leader or dominant in the space
Commission Sales Agreements: Drafting Strategies for Ensuring Compliance with California Regulations: Webinar next Wednesday—learn more!
"The type of goals and objectives and the things that you’re measuring (and the costs and the ROI) are different for each stage of maturity that an organization goes through," DiMisa explains. In the early stage, the company uses more of an acquisition model. Both costs and ROI are typically higher. The company is looking for almost any form of revenue ("any dollar is a good dollar"). Cost of sales may be high, but growth is key.
At the momentum stage, companies are looking for more profitable revenue growth. They’re looking for specific product sales to drive long-term growth.
At maturity, companies are more likely to use sophisticated coverage models and have varying sales roles. The cost of sales varies, depending on how entrenched the company is. There are probably recurring revenue streams to focus on retaining and growing.
Comparisons on ROI need to take the maturity stage into account and how the costs incurred will vary. Over time, the growth strategy and sales compensation strategy should change. Typically, companies will move from a cost of sales (product- and sales-driven compensation) approach to cost of labor (market-driven compensation) approach.
Sales Compensation Strategy: Cost of Sales Versus Cost of Labor
In a cost of sales approach, the company bases the dollars paid to salespeople on the volume they’re bringing in. The focus is on the cost and the revenue associated with that cost. Payouts are typically based on a percentage of volume or dollars per unit sold. Market pay survey data are usually not used.
In a cost of labor approach, the company is more focused on the individual and how much it needs to pay that individual based on what the market is paying. More market research is needed to find typical pay.
Compensation can still be tied to a quota/goal, but that is also tied to a standard industry performance benchmark.
Costs will vary in these two scenarios. Which is right?
"Compensation is part art, part science. Any tools or methodologies or concepts that you can apply to the thinking will really help you answer some of the questions. At the end of the day, there’s really not a ‘best practice closet’ that you can look to for an answer. The best practice is really making sure that your philosophy is aligned, or your business strategy is aligned to your comp plan," DiMisa says.
That said, there are some guidelines for when each approach is typically used.
Which Sales Compensation Strategy Is Right for Your Organization?
Here are some situations where cost of sales is typically used:
- In start-up businesses
- When there are lots of transactions
- When the sale transaction or sales process is relatively simple
- When the salesperson is the main point of contact and has control over the sale (and the customer buys directly from him or her)
- When pay is the primary performance measure (sell more = pay more)
- When the sales people are "lone rangers"
Here are some situations where cost of labor is typically used:
- In mature businesses and complex sales organizations
- When the sales transaction requires a consultative selling approach or relationship building
- When the transactions are complex
- When the company controls the sale after the salesperson brings in the customer (the customer is buying from the company, not the individual)
- When the sales require significant support from the company
Commission Sales Agreements: Drafting Strategies for Ensuring Compliance with California Regulations
Live webinar coming next Wednesday, Oct. 2
10:30 a.m. to Noon Pacific
When it comes to how you draft your commission agreements in California, you can’t afford to take any chances—especially since a new law, A.B. 1396, affects employers’ drafting obligations in a major way.
Commissions can be a great way to boost your sales staff’s entrepreneurial spirit because a commission-based compensation strategy rewards them for their hard work and gives them the incentive needed to help grow your business.
But questions often arise about how the language in commission-based sales agreements should be interpreted—and the litigation it takes to get those questions answered can be extremely costly for employers.
For instance, having a commission agreement that doesn’t specify or fails to adequately define when commissions are earned and what happens upon termination of employment can have disastrous consequences for employers.
Plus, even where the agreement’s language is very clear, there are also public policy issues that may limit your ability to restrict or take away commissions.
For these reasons, and a host of others, it’s crucial for you to get up to date on the latest rules so you can make sure you’re in compliance.
Participate in this interactive webinar, and you’ll learn:
- How A.B. 1396 affects California employers that use commission sales agreements
- The key legal elements for a well-drafted commission sales agreement
- When you may legally "charge back" commissions in light of recent California court decisions
- The legal distinctions between straight commission and a salary-plus-bonus compensation plan in California
- When a commission is generally “earned” in California
- Common mistakes to avoid when drafting commission agreements
- Key provisions your sales commission agreements should always address, including what happens to a commission when a sale has been cancelled or renegotiated
- When a commission is owed upon termination
- Whether you can modify an agreement’s terms during a commission year
- What a “windfall provision” looks like and when a judge may find such a contract clause violates public policy
- When it’s proper to classify sales employees as exempt from state and federal minimum wage and overtime requirements
- What to do for workweeks when sales employees don’t earn enough commissions to meet California wage requirements
- And much more!
As a bonus for attending, you’ll get a sample commission plan template!
In just 90 minutes, you’ll learn how to balance the motivating power of sales commission agreements with the rules you need to follow under California law.
Register now for this informative event, especially for California HR professionals.
Download your copy of Paying Overtime on Bonuses: A Calculation Guide today!