Sales Compensation Focus
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Connecting Profitability to the Sales Incentive Plan

By Jerome A. Colletti and Mary S. Fiss, Colletti-Fiss LLC  |  May 2013

Profits are the lifeblood of a company. A profitable company delivers on its commitment to create shareholder value, enables continued investment in business innovation and growth, and contributes to an environment in which employees can enjoy their work. At many companies, managers and employees are challenged with how to improve business profitability, as the last global recession continues to negatively impact company profits in many industries, particularly those that previously enjoyed double-digit growth.

Increased attention to sales profitability typically causes top management to look to sales and the role it plays in contributing to profit results. One way companies can protect and expand profit margins is to connect sales profitability to their salesforce incentive compensation plans. Profit leakage is often traceable to discounts negotiated by sales teams who do not understand the negative financial consequences of such discounts to the business. Companies that recognize this reality are interested in how to include profit-oriented measures in their sales compensation plan.

The purpose of this article is to provide guidance to sales compensation plan designers who are chartered by management to determine how to take action on including such measures. This guidance centers on four questions that should be addressed during the design process.

1) Which sales jobs are best-suited to the use of profit measures? Any sales job that controls price and influences resource investments devoted to customers, both current and future accounts, should be considered for a profit-oriented sales incentive opportunity. Consideration should be given to:

  • Solution and/or product selection: Can sales reps migrate the buyer(s) from one solution or product to another based on providing analysis that shows a more favorable outcome to meeting identified needs and requirements?
  • Value “add-ons”: Can sales reps create the opportunity to provide additional value-added solutions or products the customer may not have considered or competitors do not offer at the same level of return?
  • Price: Do sales reps play a critical role in the company’s pricing strategy? Are sales reps (or teams of reps, such as account managers and technical specialists) given the authority to structure deals and/or to offer discounts during contract negotiations with customers?
  • Terms of sales: If customers typically expect to negotiate delivery, payment terms and post-sales service-delivery commitments, do sales reps have the authority to respond or is this accountability placed elsewhere in the organization?

2) What types of profit measures should be adopted? The type of profit measure connected to the sales incentive plan should clearly support the company’s business objectives and sales strategy in its customer markets. The three most common business goals and related performance metrics that should be considered are highlighted in the table below:

Business Goal Performance Metrics
(One or More Could Be Used in an Incentive Plan)
Increase customer profitability
  • Margin performance compared to a goal
  • Value add-ons’ revenue and margin, such as a solution sale (bundled products/services) vs. a single-product sale
Reduce discounts
  • Price realization (discount off list or average selling price [ASP])
  • Margin (dollars or percentage) on sales
  • Percentage of deals closed above walk-away price
Reduce margin leakage (i.e., decline in margins beyond price discounting)
  • Percentage of discounted deals with full-price service (i.e., all services associated with paying full price are available even though sold deals were discounted)
  • Percentage of deals sold with 100% contract-terms compliance (e.g., shipping or other delivery-related terms)

Whatever measure is selected, it must be tracked and measured on a timely basis. The authors believe the use of profit-based measures in sales incentive plans becomes more practical as companies adopt newly available software solutions that enable them to measure, track and report sales profitability by each salesperson’s portfolio of customers’ purchase transactions.

3) How much incentive weight should a profit measure be given? When designing sales incentive compensation plans, a common practice is that no measure should ever be worth less than 10% of the incentive opportunity. The reason for this rule is easily illustrated by calculating the amount of pay designated by 10% of target incentive, dividing it by the payout frequency and then subtracting taxes. The amount typically is not meaningful enough to motivate behavior.

The authors’ experience working with companies in 38 of the Fortune 500’s 72 industries shows that when a profit measure is a new metric in the sales compensation plan, typical practice is to allocate 15% of the incentive opportunity to it, and increase it to within a range of 25% to 40% as the company gains experience and confidence in its usage.

4) What changes in selling behaviors are potentially associated with sales profitability incentives? Companies that use a profitability metric in their sales incentive plans report to the authors they saw or continue to see three types of changes in selling behavior as a result of connecting sales profitability to incentives:

  • Who salespeople call on (i.e., type of customer): from any and all customers to value-oriented buyers
  • What products and/or solutions are presented: from “easiest to sell … least customer-buyer resistance” to a bias toward products and solutions that not only meet but exceed the customer’s requirements and thus are skewed to a higher return to the customer, company and salesperson
  • What message is delivered: from an emphasis on product features and benefits to solution- or value-oriented results the customer will experience.

Conclusion

To connect profitability to a sales incentive plan, sales compensation plan designers must understand which sales jobs are best-suited to the use of profit measures; the types of profit measures that should be adopted; how much incentive weight a profit measure should receive; and the changes in selling behaviors that are potentially associated with sales profitability incentives. By addressing these issues during the design process, designers can ensure the resulting plans best direct salespeople to protect and increase profit margins.

About the Authors

Jerome A. Colletti is managing partner at Colletti-Fiss LLC in Scottsdale, Ariz. He will present at the 2013 Spotlight on Sales Compensation. Colletti can be reached at jerry@collettifiss.com.

Mary S. Fiss is partner at Colletti-Fiss LLC in Scottsdale, Ariz. She will present at the 2013 Spotlight on Sales Compensation. Fiss can be reached at mary@collettifiss.com.


Read the May edition of Sales Compensation Focus.

Contents © 2013 WorldatWork. No part of this article may be reproduced, excerpted or redistributed in any form without express written permission from WorldatWork.

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