Sales Compensation
Sales compensation plays a pivotal role in attracting, motivating, and retaining an efficient sales team. Used correctly, it can drive tremendous results for the sales team and the business.
If you're in a high growth industry, it may look like the wild-west in terms of the different comp plans and tactics that competitors will roll out to attract and retain the very best talent.
What it Means
The good news about sales compensation is that it's free form - you can set it up however you want or even forego it. The bad news is that this means you have so much freedom that you can drive a lot of decision fatigue trying to figure out the "right" structure. If your business needs a strong sales team, then you're going to need to incentivize their performance appropriately. The most important items to consider when structuring these programs are:
The ability to meet targets or goals is directly in the control of the incentivized party
The compensation agreement is as simple as possible and easy for everyone to understand: when X happens, Y payout occurs
Incentives drive behaviors and sales compensation should be directly aligned with company goals.
Sales compensation agreements are generally bound by state law and look more like a 1099 contract than a one page signature document with some basic compensation scenarios outlined. Can you change the structure when the company goals change? Absolutely, but you should consider how that will change your sales reps' incentives - up to and including them quitting for a higher paying gig.
One more quick point around "on target earnings" (a.k.a. OTE). OTE for a sales person simply equals their gross take home pay including their base salary and variable comp for hitting their targets. Be aware that when you set an OTE expectation, an employee has most likely now anchored themselves mentally and emotionally to earning at least that number. This can be a great incentive, but it can also be harmful if the organization has not set them up for success.
Other Considerations:
Targets:
What target or goal should your sales person shoot for? For an SDR, it may be meetings booked per month. For an AE, it may be based on the ARR of new deals booked.
As a very simple example: Let's say your top business goal is total revenue booked and you run an outbound sales process where an SDR does hundreds of cold calls a week hoping to set up just four demo meetings per month. At the demo, the AE steps in and brings the fireworks meant to "wow" the prospect and close the deal.
You close a deal running this process. You have two sales people with two different roles in this process. What's a fair way to compensate them? Should they both get a % of the revenue on the booked deal? Maybe. But who's doing the real work here? What if the SDR doubles their quota and brings in eight meetings, but the AE is terrible at their job and unable to close any of the eight? What if the SDR is incentivized by number of demos booked and finds a way to book a ton of demos quickly, but with low quality prospects? What if the AE's poor performance on the eight demos was caused by getting fed low quality prospects?
There are a number of different target types that you can assign to variable comp. Which ones align best with your overall business strategy?
Quotas:
Quotas generally represent whatever target(s) you gave your salesperson. It may be an annual goal, quarterly goals, monthly goals, or any number of ways you want to split it (remember to keep it simple and achievable). Quotas provide a quantitative way for companies to track their sales teams' performance against goals. When a rep hits their targets, they get rewarded. What do you do when they miss their target? Maybe a new strand of COVID just emerged and killed your sales team's ability to meet goals. Maybe a high value and high probability prospect falls out of the expected quarter because they are taking a month off for personal reasons. The point is that you should be consistent and clear on why quotas exist, what happens when they're met or exceeded (reward!), and what happens when they're missed (1-1 review, pat on the back, termination?).
Caps:
Will you put a cap on sales commissions or leave it uncapped? If you're a young tech startup growing quickly, you may want to leave incentives uncapped so that your superstar sales team can get you to the company's next milestone ASAP. On the other hand, if you're constrained by your product and software team, then maybe you don't want your sales team to exceed quota because you won't be able to deliver product and will leave a very bad taste in the mouths of any paying customers who you can't deliver to.
Accelerators:
Accelerators are not uncommon in high growth businesses. Simply put, they are incentives for sales people to blow past their quotas and earn a higher rate of return for hitting targets above their standard quota. As an example, say your sales rep gets a 10% commission on sales booked up to her quota of $1M. She has booked $1M in the first six months of the year and gets her $100k variable comp. What does she do the next six months?
Scenario 1: You have a cap on your comp structure and she can earn no further commission this year.
Result: The rep has hit her targets and starts phoning it in for the rest of the year because she's not incentivized to make any more sales. She ends the year with $100k variable comp and $1M in bookings for the business.
Scenario 2: You have an uncapped comp structure that pays 10% commission on each sale over quota.
Result: The rep has hit her quota and is guaranteed to make her OTE this year. She still wants to squeeze out a little more cash and lands a few more deals. She ends the year with $150k variable comp and $1.5M in bookings for the business.
Scenario 3: You have an uncapped comp structure that includes an accelerator for sales over quota. The accelerator pays 15% commission on each sale above $1M and below $1.5M. The accelerator also pays 20% commission on any sale above $1.5M.
Result: The rep has hit her quota and is guaranteed to make her OTE this year. She realizes that she's on fire and she can earn big with your accelerator structure. She stays on a hot streak and finishes the year with $475K in variable comp and $3M in bookings.
We've doubled our bookings between scenarios two and three, but is it worth all the extra cash we paid per dollar of booking? Is our product truly easy to sell and we should consider cutting back on commissions all together? If we had two reps instead of one, they could both deliver scenario two type performances for a total of $3M in bookings and $300k in variable comp. Wouldn't this be better? These are not easy questions to answer.
Aside On Caps, Quotas, and Accelerators: Remember that incentives drive behavior. Quarterly or Annual caps will absolutely incentivize sales people to move deals into and out of quarters to game the system. Don't hate the player, hate the game.
Payout:
Your sales team killed it. They met their quotas and your goals. When will you pay them? Will it be when the PO is signed or when you collect cash from the customer? How does this impact your overall cash flow? This can be tricky if you're bootstrapped and owe a big commission on cash that you won't collect for a very, very long time. I won't dive too deep, but remember to keep it fair and within the control of your rep.
If you prioritize cash, then maybe you base payout on cash receipt and this in turn incentivizes the sales rep to get the customer to pay cash upfront (at a discount?). Also consider how the timing of payout may impact the sales person. When they book a deal, it's a huge hit of dopamine. But it quickly becomes less exciting if they won't see any cash from variable comp for six months because of a long delivery process.
What if the incentive is ARR booked and a customer churns mid-year? You may have just lost half of the revenue that you incentivized your sales rep to book. If you already paid them, what do you do? You could clawback their earnings. Clawbacks could be applied in several ways. Let's say the sales comp on this deal was $10k for a 12 month deal that churned at 6 months. You paid the sales rep upfront, but now you overpaid them $5k because you didn't recognize the full revenue from this deal. Do you ask them for $5k in cash? When will they have to pay you back? What about the taxes they already paid on that $10k payout? You could clawback against future earnings. But what if they have left the company before the customer churned?
Delays are another way to manage the timing of incentives. Delays are a straightforward concept - once the goal is met, delay payout by X period of time (normally weeks or months). This helps protect against the possibility of customer churn, but it also makes the sales rep wait longer for their money. The sales rep may not care, they may be resentful, or they may feel locked into the company because they're waiting on their commission. The second two are the most likely of the three scenarios.
Why it Matters
Sales people can be some of the highest paid employees in a business, period. One successful startup CEO (B2B SaaS) once told me that he didn't mind paying a sales rep more than $1 million/year if that rep was a real rainmaker. Indeed in tech, it's not uncommon for good, enterprise account executives to have million dollar years. Here's a table from Bravado.co offering some guidance on recent benchmarks for AE compensation in tech.
The good news is that you don't have to budget $1 million per sales rep. The not as good news is that sales people can be some of the biggest sources of internal gossip when it comes to compensation. Hopefully this won't be an issue if your compensation structure is well thought out and structured "fairly" across not just the sales team, but also the organization as a whole. This does not mean that you need only one structure and policy that treats each sales rep the same, but it does mean that you need to be thoughtful about how you comp an SDR vs an AE or how you comp an AE selling ice in Florida vs how you sell an AE selling ice in Alaska.
Stack it - Resources & Tools
There are a myriad of resources and consulting services that can help you structure your sales team and comp structure.The free resources generally include the usual suspects for compensation like Glassdoor with its crowdsource data, but there is no guarantee on data quality. Expensive resources include full on compensation consultancies that may charge an arm and a leg to deliver their boilerplate template to you. The best resources are probably your personal network.
If you've decided you need to hire a sales force, then consider a few points:
What does my market research tell me is an appropriate range of OTE given my industry?
Can I be competitive with the OTE range identified? What does my business value? If it's revenue, then how much am I willing to pay in cost of sales for every $100K in revenue?
How do I decide if my product will really sell itself or will be harder to sell than I appreciate?
If my business is valued at 10X revenue, then every $100K in revenue is also $1M in enterprise value. Does that change how I think about how much I'm willing to pay in cost of sales?
I have the target OTE that I'm willing to pay, but how will I structure the variable comp plan to attract the best talent? Am I taking into account the time it will take this person to ramp up and become successful (~3-6 months)?