The Force Is with You

“The sales force is a force,” says Andris Zoltners, managing director and co-founder of ZS Associates and marketing professor at Northwestern’s J.L. Kellogg Graduate School of Management. “They are entrusted with your most important corporate asset: the customer. That empowerment means the sales force has the ability to significantly enhance – or hurt – your company’s position.” Because compensation motivates every sales force, it is also the key to overall profitability of any company. Zoltners says a well-designed incentive plan can align sales force behavior with acompany’s overall profit strategies. To that end, a plan can influence how and where the sales force expends its energy. Does your company want to encourage new business growth, sustain and solidify existing customer relationships, promote the sale of new products or spread sales effort consistently throughout the year instead of just at reward periods? While your incentive plan can help move you toward these goals, it can also work against your company, resulting in confusion, low morale, high turnover and a sales force working against the company’s overall strategic goals.

The Times they are a changin’

In 1997, when Anthony DiCio, business planning manager for The New York Times, evaluated the advertising sales department’s incentive compensation plan, he found that the program was not fair for everyone. “It didn’t adequately or fairly reward effort against results,” says DiCio.

The department was composed of 215 program participants, out of a total sales force of more than 300, divided into sales teams ranging in size from two to more than fifteen people. The teams served such categories as fashion, automotive or health care, with members receiving equal incentive payouts based on the group’s performance relative to goal. Where was it unfair? Primarily in team size and in the difficulty of accurately predicting sales goals in some categories, according to DiCio. “It was easier for smaller teams to get a larger percentage increase,” he says.

In general, smaller teams served growing markets where sales goals were harder to predict. “Regardless of how hard you worked, if you were on a mature team or one whose revenue was easy to predict, your payout potential was not as great,” says Songjun Luo of ZS Associates, a global marketing and sales consulting firm that helped revamp The Times’ compensation program.

Market volatility wreaked havoc on the equity of the plan.

“Serendipitous events are situations external to selling effort that can drive the performance of a category,” says DiCio. “For example, when a new product is launched or when competitive market conditions emerge, an account manager could take orders for significant ad space without a direct link to sales calls. On the flip side, if The Times publishes an article that an advertiser finds offensive, the account can be pulled.”

So DiCio decided to level the playing field. “Our primary objective in designing the new compensation plan was to ensure it was fair and motivational to the participants,” he says. “We designed it so that, given the same amount of effort, everyone would have equal opportunity to make the same amount of money.”

The Times formed a project team of senior management and retained ZS Associates. The result is a novel sales incentive program that minimizes the effect of market volatility on the various teams’ earning potential. ZS Associates New York Times project manager Luo applied research developed by the 1997 Nobel Prize winners in economics to factor in the element of risk due to market volatility.

The pioneering formula is based on standard deviations and was designed for the valuation of stock options. Luo recognized that the same principles could apply to incentive compensation planning.

“To our knowledge, this is the first time volatility has ever been addressed in an incentive compensation plan,” says Luo. The new plan customized a payout curve for each team, which DiCio likens to giving each of the participants a different-size glove depending on the difficulty of predicting their team’s target. “In an industry where it’s very difficult to predict a sales target, we essentially give them a bigger glove. The ball doesn’t have to hit dead center for the salesperson to catch it.” The new plan starts paying out further from goal. “Before, everyone started earning money at 95 percent of goal. Now we’re spreading out the payout so that some teams may begin earning at 80 percent of goal,” says DiCio.

The earlier the payout begins the more volatile the team’s market environment. Though the ability to earn money begins earlier for some teams, the payout is at a lesser rate until the team makes goal.

“We’ve spread the same amount of money across a wider target to compensate for unpredictability. The greatest payout for each team still comes from achieving or exceeding goal,” says DiCio.

Has the plan met its primary objective?

“The sales force has embraced it,” says DiCio. “They perceive it to be more fair and more motivational.” The gap between the maximum and minimum payouts has decreased by 60 percent, and average account manager pay has increased almost 20 percent. Management is pleased because advertising revenues grew more than 13 percent in 1997.

No baloney

A year ago, Sony Precision Technology America Inc. rolled out a new incentive compensation program to its field of eight industrial sales representatives. “We had a bad morale problem due to arbitrary annual goal setting,” says Bill Holbird, division sales manager for Sony. “If the individual responsible for setting quotas didn’t like you, he could double your goal.”

Sony’s original program started paying out at 90 percent of goal. The new program pays from the first dollar, and the sales force has a hand in setting their target. “They know what’s going on in the field and can provide us with a much more accurate sales forecast. This plan is working much better, and I’d like to see it stay in place a while,” says Holbird.

While an incentive plan can influence the behavior of a sales force, it is only one of many factors necessary for overall sales success. “A lot of companies try using incentives to fix problems that aren’t related to compensation,” says Zoltners. “For example, the biggest correlation to high sales is territory potential, not salesperson performance. An incentive program can’t overcome a territory without potential. Woe to the salesperson with a bad territory alignment.” Zoltners suggests that if your high and low payout levels are extreme, the problem is likely territorial alignment.

Before you overhaul your incentive compensation plan, consider your overall sales management strategy. Is it effective? Is your sales force properly sized? Are you providing the field sales force with all the tools necessary to do the job? Carefully examine your hiring and training practices.

“You can’t one-off incentives,” says Zoltners. “They have to be part of the whole package contributing to sales success.”

In with the good

High turnover could signal a compensation problem. But it might also suggest that your company is not hiring or training very well.

Zoltners says it’s important to understand the root causes of turnover. “The average annual sales force turnover in the U.S. is 18 percent, and it might be easy to assume that a turnover rate of 20 to 30 percent is bad. But if you’re keeping the good people, that turnover is okay.”

Retaining top performers is especially important in a talent-competitive field such as the business application software industry. Retention is a primary objective of software provider SAP America’s compensation plan. “SAP knowledge and skill sets are a hot commodity in the marketplace,” says Jessica Freed-Haitz, manager of compensation and HRIS. “We want to make sure we have competitive pay practices in place to keep the talent that we’ve nurtured,” she says of the hundreds of highly trained U.S. salespeople at SAP. “The salesperson has to be able to understand and convey to the customer the product features, the accompanying services and the customer benefits. They learn how to present the product as a solution, not just a technical piece of software.”

At Toshiba America Medical Systems Inc., Tommy Stewart, director of national sales operations, is reworking the compensation plan to accomplish several objectives, including a balanced mix of product sales. The 135-person sales force sells such highly technical diagnostic imaging products as MRI, CT, ultrasound, X-ray, and nuclear medicine systems. “A new person coming on board will gravitate toward product areas where they’re most comfortable,” says Stewart. “Certain products will never be sold until they get fully trained and comfortable with them.”

The imaging industry continuously introduces new technology, which is another challenge to Toshiba’s achieving a product mix objective. “One of the hottest products in the market right now is our open MRI system. But we believe we have great products across the line. We want to make sure our compensation plan leverages more spread out behavior while keeping people motivated on the hot products,” Stewart says.

Toshiba is taking the next six months to analyze their comp plan and develop components that will help allocate sales results more evenly throughout the year. Stewart says the new plan will set goals to align with the company’s objectives of growing domestic market share and becoming the leader in imaging technology.

When to evaluate

Experts agree that a company should evaluate its compensation plan on a regular basis as numerous internal or external factors make changes necessary. “Reorganization is a big reason companies review their comp plans,” says Zoltners. He cites such other external needs as mergers, market changes and starting new sales forces. Such internally driven needs as controlling costs, changing strategy or focus and sales force inertia can also drive a restructuring plan.

State Industrial Products, which sells industrial cleaning and maintenance supplies, is undergoing the first change to its incentive program since the business began 86 years ago. “We’ve set certain growth goals, and the new compensation plan will be a key element in achieving them,” says Keith Sholos, executive vice president. The Cleveland-based company’s sales force of close to 1,000 U.S., Canadian and European reps operates on 100 percent commission. “A commission-driven sales force tends to be more product-driven versus customer-driven. To grow as aggressively as we would like, we need to focus more on the needs of our customer,” he says.

State Industrial is developing a plan Sholos hopes will be a “win-win-win” for the customers, sales reps and the company. “If we can roll out a plan that increases our customer and sales force retention, the sales goals will take care of themselves.”

The call for change may also come from the sales force, as it did at The New York Times. In a survey of the plan’s participants, some responses pointed out that the program was unfair. Careful monitoring is important and ongoing, says The Times’ DiCio. “Business dynamics are constantly changing and the compensation plan should adapt to those conditions,” he says.

Zoltners’ co-founder of ZS Associates, Prabha Sinha, agrees. “No plan will last until 2001. You have to make change and flexibility a part of any plan.”

Structural strength

According to Zoltners, the average incentive compensation program is a 60 percent/40 percent split between base salary and incentive pay. Seventeen percent of U.S. companies use a straight salary plan for their field sales force, while ten percent use a commission-only plan. An enormous variety exists between these three models.

The structure of your plan carries a message to your sales force. It may simply say “sell,” by paying from the first dollar, or “make your goal” if payouts are concentrated at the target threshold. A plan directing the sales force toward growth will reward new business. Examine your plan for its underlying message and make sure it’s compatible with your overall objectives.

How your sales force is structured affects incentive planning. Is your sales force assigned by industry, geographic region or both? SAP America fields a sales team aligned by industry and another that’s geographically aligned. The two often overlap. “There are not many solid lines within the SAP organization,” says Freed-Haitz. “You may have a regional salesperson working with an industry salesperson to bring all the information necessary in the sales cycle to the prospect.”

That can present a challenge in incentive planning. “You want to motivate everyone toward a common goal as an organization,” says Freed-Haitz, “but each person also has an individual quota they’re responsible for. How they achieve that quota can be dependent upon how they team up with other sales personnel.”

Team selling is another sales force structure element that affects incentive planning. The New York Times rewards for team performance. “The team environment works for us because it improves our product and service,” says DiCio. “Everyone brings a strength to the table and our customer benefits from that combination.” Opponents of team incentives argue that low performers get a free ride, but experts say that the right sales culture will encourage freeloaders to perform or move on.

Experts also suggest that team and individual incentive awards can co-exist. Though salespeople at The New York Times have opportunities to be rewarded individually through recognition programs like the Publisher’s or Leadership Awards, the newspaper does not have an individual component to its team compensation plan. “We’re considering adding that,” says DiCio. A fair percentage of his staff is interested in it. “That speaks to the high performers who want to be recognized individually.”

The motivational plan

According to Prabha Sinha, a good incentive plan creates an incentive for the salesperson to jump out of bed when the alarm rings while a mediocre one makes the salesperson hit “snooze.” Motivation is a function of the “at-risk component” of a sales incentive plan, or the amount a salesperson will fail to earn if he does nothing. A 60/40 base salary-to-incentive pay plan has a 40 percent at-risk component. In general, the higher the at-risk component, the greater effect the plan has on behavior. “An at-risk component of 30 percent or more motivates behavior, whereas less than 10 percent hardly gets noticed,” he says.

Determining when you pay out is also a function of the at-risk component. Plans with higher at-risk components pay out more often. The most popular incentive payout option is monthly.

No-limit salespeople

Is there a limit to the earnings your salespeople can make? Toshiba America Medical Systems, Sony Precision Technology and SAP America operate incentive programs without caps. “Most of the time, caps are not necessary,” says ZS Associates’ Sinha. “In fact, they’re used more often than they should be. Maybe that means there are too many Puritans in headquarters, afraid someone out there is having a good time.”

But caps can protect an incentive program from paying out for windfall gains. Sinha suggests using caps when you can’t predict sales or when external events can dramatically drive sales.It’s possible to introduce a limit for protection and still compensate for performance above the cap. “While the program technically doesn’t have to pay out beyond the cap, the intent is to fairly reward effort, so we’ve created the Senior VP Award,” says DiCio. “If a team exceeds their earning potential, a committee will review their performance, and if they’ve excelled because of effort versus external market conditions, an additional payout can be made.”Sinha offers some general planning guidelines: “If your plan is being designed by a committee, you’ve got to have a strong leader. When you take a lot of good ideas and put them together, that creates a bad incentive plan.” A strong leader will keep the plan from becoming ineffective and too confusing, he says.

At SAP America, the incentive plan gets a lot of visibility and attention, says Jessica Freed-Haitz. “Our three key decision makers – the CEO, CFO/COO and the president – get very involved in comp plan development right down to the mechanics of goal setting and how the plan is going to work. One of the biggest challenges is to keep it simple.”

Simplicity is essential, says Sinha. “If it takes a lot of time for the sales reps to understand the plan, you need a new plan. Or new sales reps,” he says. “A new incentive plan is designed to change behavior. If your sales force doesn’t understand the plan, how can they change their behavior?” Sinha suggests designing a plan to fit on a small card to be carried in the salesperson’s wallet.

More and more companies look for help in compensation planning. A consultant will join the team revamping the program at Toshiba – national sales director Stewart, a compensation manager, and the HR director. “Companies tend to look outside for advice on compensation issues because it’s a recurring problem and one where they don’t have internal models by which to compare,” says Zoltners.

One of the first planning steps The New York Times took was to examine other newspaper comp plans. The paper then began a thorough assessment of their sales strategy, including a survey of the sales force. The project team collected and analyzed the data and began to develop plan options. “Between six and eight plans were developed and tested by running the previous year’s results through them,” says Luo. The sales force indicated their preferred option in a preference measurement survey. “We ended up going with the plan selected by the majority of the sales force,” says DiCio.

Defining achievement goals

“Firms and individuals that are goal-oriented tend to perform better,” says Zoltners. “Goals communicate to your sales force what is important and help measure achievement, which can be a nice reinforcement to offset all the rejection associated with a sales career,” says Zoltners.

Annual goals should always reflect the previous year’s results plus potential. To be motivational, your goals should be realistic. It’s essential that your incentive goals align with your company’s overall strategy. For example, if your company promotes sales over the Internet but your sales force isn’t rewarded for introducing customers to electronic ordering, the goals are at odds.

Tie goals to measurable activities. Sales volume is the most popular means of defining targets, but organizations also set goals for activities like making calls or completing training sessions. “Beyond salary and commission, we also utilize bonus incentives tied to MBOs (management by objectives),” says Paul Perreault, general manager, hospital products North America, for Centeon Management LLC. “I think it’s important for salespeople to work toward objectives and then measure the progress attained. Salespeople should have developmental objectives for skills, education and professional development.”

Zoltners and Sinha warn against tying individual goals to customer satisfaction surveys. They say it’s tough to get an accurate measure of performance on rep level, and you could be motivating your salesperson to give up value in exchange for favorable ratings.

Implementing your plan

“Sales success is 10 percent inspiration and 90 percent implementation,” says Zoltners. “A successful organization implements vigorously.” Communication is vital. Whenever you make changes to a compensation plan, your sales force will be afraid that they’ll make less money, so experts suggest you take time to explain all the possible plan scenarios.

“Communicating the plan back to the sales force was one of the most important aspects,” says DiCio. The New York Times created a slide presentation to explain the new program in small groups. “We wanted the plan to be simple because buy-in was so important. We explained the process of calculating volatility but didn’t expect them to remember that. It was only important that they understood how factoring it in made the plan fair for everyone and how it made goals more obtainable,” says DiCio.

The Times sponsored training classes with topics ranging from a refresher course on basic math to an overview of the incentive compensation plan process, while also training salespeople on understanding the new P&L statements they receive monthly by email. The statements remind them of their annual goal and show how to increase their payout with a “what if” section.

How to track success

Sales force activity, customer results or your company results can measure the success of an incentive compensation plan. Measuring sales force activity signifies that management knows what behaviors influence the sale. Tying sales force compensation to your customer’s success helps ensure your sales force will be focused on customer needs.

Of course, the most popular means of measuring an incentive plan’s success is by your company’s results. Though sales volume is the most common measure, it does not necessarily reflect competition or market potential. The New York Times measures profitability but is considering adding a market share component. “For any organization, it’s not only important to measure results internally, but to also see how you’re performing externally,” says DiCio.

Zoltners suggests that the best method combines measures. “The sales force is complex, and a single measurement cannot capture all of the dimensions,” he says.

Looking ahead

Once you’ve completed the process of implementing a new sales incentive plan, you can sit back and relax, right? Wrong. The process of continuous evaluation begins. “A compensation plan’s strengths and weaknesses will become clearer over time,” says DiCio. “You’ll want to fine-tune it as you uncover the problems.”

So is there an absolute rule to consider in incentive planning? Maybe one. “Change is imminent,” Zoltners says.