LEARNING OBJECTIVES

This chapter provides an overview of key issues related to compensating salespeople. The key issues to understand involve the types of compensation available (especially incentive forms of compensation), and when each might be most effectively offered.

After reading this chapter, you should be able to:

• Discuss the advantages and limitations of straight salary, straight commission, and combination plans.
• Explain how and why a bonus component to compensation might be used as an incentive.
• Understand the effective use of sales contests, as well as the potential pitfalls of their use.
• Identify key nonfinancial rewards, and how and why they might be important.
• Recognize key issues surrounding expense accounts in relationship selling.
• Discuss making decisions on the mix and level of compensation.

OVERVIEW OF COMPENSATION AND INCENTIVES

Chapter 11 introduces the concept of rewards. The way the reward structure is implemented in a sales organization is through the compensation plan afforded to salespeople. Three basic questions drive successful compensation programs:

1. Which compensation method is most appropriate for motivating specific kinds of selling activities in specific selling situations?
2. How much of a salesperson’s total compensation should be earned through incentive programs?
3. What is the appropriate mix of financial and nonfinancial compensation and incentives for motivating the sales force?

In most firms, the total financial compensation paid to salespeople comprises several components, each of which may be designed to achieve different objectives. The core of sales compensation plans consists of a salary and incentive payments. A salary is a fixed sum of money paid at regular intervals. The amount of salary paid to a given salesperson is usually a function of that person’s experience, competence, and time on the job, as well as the sales manager’s judgments about the quality of the individual’s performance. Salary adjustments are useful for rewarding salespeople for performing customer relationship building activities that may not directly result in sales in the short term, such as prospecting for new customers or providing postsale service. They can also help adjust for differences in sales potential across territories.

Many firms that pay their salespeople a salary also offer additional incentive payments to encourage good performance. Those incentives may take the form of commissions tied to sales volume or profitability, or bonuses for meeting or exceeding specific performance targets (e.g., meeting quotas for particular products within the company’s line or for particular types of customers). Such incentives are useful for directing salespeople’s efforts toward specific strategic objectives during the year, as well as providing additional rewards for the top performers within the sales force. A commission is a payment based on short-term results, usually a salesperson’s dollar or unit sales volume. Since a direct link exists between sales volume and the amount of commission received, commission payments are particularly useful for motivating a high level of selling effort.

A bonus is a payment made at the discretion of management for achieving or surpassing some set level of performance. Whereas commissions are typically paid for each sale that is made, a bonus is typically not paid until the salesperson surpasses some level of total sales or other aspect of performance. When the salesperson reaches the minimum level of performance required to earn a bonus, however, the size of the bonus might be determined by the degree to which the salesperson exceeds that minimum. Thus, bonuses are usually additional incentives to motivate salespeople to reach high levels of performance rather than part of the basic compensation plan. Bonuses are almost never used alone as a form of compensation; rather, they are combined with one or more other compensation elements. Attaining quota is often the minimum requirement for a salesperson to earn a bonus. Quotas can be based on goals for sales volume, profitability of sales, or various account-servicing activities. To be effective, quotas (like goals) should be specific, measurable, and realistically attainable. Therefore, bonuses can be offered as a reward for attaining or surpassing a predetermined level of performance on any dimensions for which quotas are set.

In addition to the incentives mentioned here, many firms conduct sales contests to encourage extra effort aimed at specific short-term objectives. For example, a contest might offer additional rewards for salespeople who obtain a specified volume of orders from new customers or who exceed their quotas for a new product during a three-month period. Contest winners might be given additional cash, merchandise, or travel awards.

Finally, a foundation of most compensation plans is a package of benefits. These are designed to satisfy the salesperson’s basic needs for security. They typically include such things as medical and disability insurance, life insurance, and a retirement plan. The types and amount of benefits included in a compensation plan are usually a matter of company policy and apply to all employees. However, the benefit package a firm offers its salespeople should be reasonably comparable to those offered by competitors to avoid being at a disadvantage when recruiting new sales talent.

The key forms of financial compensation of salespeople are summarized in Exhibit 11.1. It is important to know that beyond financial compensation, a variety of forms of nonfinancial incentives exist. These might take the form of opportunities for promotion or various types of recognition for performance such as special awards and publications in company newsletters. Nonfinancial incentives will be discussed in more detail later in the chapter.

Sometimes sales organizations may choose to outsource their incentive programs. The Innovation box provides ideas and issues related to incentive program outsourcing.

STRAIGHT SALARY, STRAIGHT COMMISSION, AND COMBINATION PLANS

The three primary methods of compensating salespeople are (1) straight salary, (2) straight commission, and (3) a combination of base salary plus incentive pay in the form of commissions, bonuses, or both. In recent years, a steady trend has developed away from both straight salary and straight commission plans toward combination plans. Today, combination plans are by far the most common form of compensation.

In essence, managers seek to create a “pay for performance” plan that rewards people using both salary and incentive programs to maximize the salesperson’s performance. Unfortunately, creating such programs is very complex, and companies often choose a program based on convenience or cost effectiveness rather than actual benefits to the company.² And, much variety exists of preferences of rewards among salespeople.

The following sections highlight the three principal compensation approaches. Exhibit 11.2 summarizes this discussion.

SALES CONTESTS

Sales contests are short-term incentive programs designed to motivate sales personnel to accomplish specific sales objectives while, hopefully, maintaining strong customer relationships. Although contests should not be considered part of a firm’s ongoing compensation plan, they offer salespeople the opportunity to gain financial, as well as nonfinancial, rewards. Contest winners often receive prizes in cash, merchandise, or travel. Winners also receive nonfinancial rewards in the form of recognition and a sense of accomplishment.

Successful contests require the following:

• Clearly defined, specific objectives.
• An exciting theme.
• Reasonable probability of rewards for all salespeople.
• Attractive rewards.
• Promotion and follow-through.⁸

NONFINANCIAL REWARDS

Most sales managers consider opportunities for promotion and advancement second only to financial incentives as an effective sales force motivator. This is particularly true for young, well-educated salespeople who tend to view their jobs as stepping-stones to top management. One common career path is from salesperson to district sales manager to top sales management. Thus, if a person has been with a firm for several years without making it into sales management, the individual may start to believe such a promotion will never happen. Consequently, veteran salespeople may begin to concentrate solely on financial rewards, or they may lose motivation and not work as hard at their jobs. Most companies implement some variation of merchandise rewards and research suggests that sales performance can be negatively affected by a switch to cash-only incentive structures. As long as employees deem the reward to have a relatively equal cash value, a mix of merchandise and cash incentives is preferred.

To overcome this problem, some firms have instituted two different career paths for salespeople. One leads to management positions, while the other leads to more advanced positions within the sales force. The latter usually involves responsibility for dealing with key accounts or leading sales teams. In this system, even though a salesperson may not make it into management, he or she can still work toward a more prestigious and lucrative position within the sales force. To make advanced sales positions more attractive as promotions, many firms provide people in those positions with additional perquisites, or perks, including higher compensation, a better automobile, and better office facilities.

RECOGNITION PROGRAMS

Contest awards and promotions to positions with more responsibility provide recognition for good performance, but many firms also have separate recognition programs to provide nonmonetary rewards. As with contests, effective recognition programs should offer a reasonable chance of winning for everyone in the sales force. But if a very large proportion of the sales force achieves recognition, the program is likely to lose some of its appeal because the winners feel no special sense of accomplishment.

Consequently, effective recognition programs often recognize the best performers across several different performance dimensions. For example, winners might include persons with the highest sales volume for the year, the biggest percentage increase in sales, the biggest dollar increase, the highest number of new customers, the largest sales per account, and the best customer retention record. Recognition is an attractive reward because it makes a salesperson’s peers and superiors aware of the outstanding performance. Communicating the winner’s achievements, through recognition at a sales meeting, publicity in the local press, announcements in the company’s internal newsletter, or other ways, is an essential part of a good recognition program. Also, firms typically give special awards as part of their recognition program, and these are often awards with low monetary but high symbolic value, such as trophies, plaques, or rings. Finally, as Exhibit 11.3 points out, objectivity and good taste are also important ingredients of effective recognition programs, as they are for contests and other incentives.

EXPENSE ACCOUNTS

Expense items incurred by sales reps in the field—travel, lodging, meals, and entertaining customers—can be substantial. Depending on the industry and type of sales job, it is not unusual for field selling expenses to approach $25,000 or more per salesperson, and in some cases they are much higher. The growing trend of creating home offices for salespeople has increased expenses related to technology. Many firms have experimented with a variety of expense reimbursement plans. Such plans range from unlimited reimbursement for all “reasonable and allowable” expenses to plans where salespeople must pay all expenses out of their total compensation. Obviously, access to an expense account represents an enhancement to a salesperson’s compensation.

When deciding which form of expense reimbursement to use, sales managers must make trade-offs between tight control aimed at holding down total expenses and the financial well-being—and the subsequent motivation level—of salespeople. Some expense items—such as entertainment expenses, club dues, and the costs of personal services while the salesperson is away from home—can be considered either legitimate business expenses that should be reimbursed by the company or personal expenses that the salesperson should pay. Obviously, company policies and reimbursement plans that treat such costs as business expenses increase the salesperson’s total financial compensation but also increase the firm’s total selling costs. Different reimbursement plans have an impact on the effective financial compensation received by, and the motivation level of, a firm’s salespeople. Three key types of plans are direct reimbursement, limited reimbursement, and no reimbursement.

MAKING COMPENSATION AND INCENTIVE PROGRAMS WORK

The many complex issues involved make designing and implementing an effective compensation and incentive program difficult. Many managers wonder whether their company’s program is as effective as possible in motivating the kinds and amounts of effort they desire from salespeople. And sometimes compensation plans just get so complicated that they have to be retooled to make them understandable to the sales force.

To make matters worse, even well-designed motivational programs can lose their effectiveness over time. As we discussed earlier in the book, the characteristics of relationship selling are different from other approaches to selling, and this fact along with the changing nature of the market environment can cause motivation programs to lose their effectiveness. As salespeople become satisfied with the rewards offered by a particular incentive plan, for instance, the requirements of the job or the customer may change. The Leadership box describes a possible result when reward systems do not match current job needs.

Recognizing such problems, an increasing number of firms frequently review their compensation and incentive policies. Many firms adjust their total compensation levels at least annually, and they are increasingly willing to make more substantial adjustments in their programs when circumstances demand. Some firms have established compensation and incentive committees to regularly monitor sales motivation programs for fairness and effectiveness. Two major issues involve (1) assessing the firm’s relationship selling objectives and (2) determining which aspects of job performance to reward.

DECIDING ON THE MOST APPROPRIATE MIX AND LEVEL OF COMPENSATION

All salespeople do not find the same kinds of rewards equally attractive. Needs and preferences for a particular reward vary, depending on personalities, demographic characteristics, and lifestyles of different salespeople. Consequently, no single reward—including money—is likely to be effective for motivating all of a firm’s salespeople. Similarly, a mix of rewards that is effective for motivating a sales force at one time may lose its appeal as the members’ personal circumstances and needs change and as new salespeople are hired. In view of this, a wise preliminary step in designing a sales compensation and incentive package is for a firm to determine its salespeople’s current preferences for various rewards.¹⁸

The decision about how much total compensation (base pay plus any commissions or bonuses) a salesperson may earn is crucial in designing an effective motivation program. The starting point for making this decision is to determine the gross amount of compensation necessary to attract, retain, and motivate salespeople who can manage the firm’s customer relationships. This also depends on the specific type of sales job in question, the size of the firm and the sales force, and the resources available to the firm.

In Chapter 2 we introduced several different types of sales jobs, and it is important to note that average compensation varies substantially across these. In general, more complex and demanding sales jobs, which require salespeople with special qualifications, offer higher pay than more routine sales jobs. To compete for the best talent, a firm should determine how much total compensation other firms in its industry or related ones pay people in similar jobs. Then the firm can decide whether to pay its salespeople an amount that is average in relation to what others are paying or above average. Few companies consciously pay below average (although some do so without realizing it) because below-average compensation generally cannot attract the right level of selling talent.

The decision about whether to offer total compensation at an average or premium level depends in part on the size of the firm and its sales force. Large firms with good reputations in their industries and large sales forces generally offer only average compensation. Such firms, such as Intel or Cisco, can attract sales talent because of their reputation in the marketplace and because they are big enough to offer advancement into management. Also, such firms can hire younger people, often just out of school, as sales trainees and put them through an extensive training program. This allows them to pay relatively low gross compensation because they do not have to pay a market premium to attract older, more experienced salespeople. In contrast, smaller firms often cannot afford extensive training programs. Consequently, they must often offer above-average compensation to attract experienced sales reps from other firms.

SUMMARY

To effectively manage the relationship selling function, sales managers must be concerned with the firm’s compensation system. Which rewards do salespeople value? How much of each is optimum? How should the rewards be integrated in a total compensation system? This chapter provides insights to these issues.

In determining the most effective form of financial compensation, the firm must decide whether it should use (1) straight salary, (2) straight commission, or (3) a combination of base salary and incentive pay such as commissions, bonuses, or both. Most companies today use a combination approach. The base salary provides the salesperson with a stable income while allowing the company to reward its salespeople for performing tasks not directly related to short-term sales. The incentive portion of combination plans provides direct rewards to motivate salespeople to expend effort to improve their sales volume or profitability. To be effective, the incentive pay portion of the combination plan has to be large enough to generate the necessary interest among salespeople. Sales contests are often part of the incentive portion of compensation systems. To be successful, a sales contest needs to have (1) clearly defined, specific objectives, (2) an exciting theme, (3) a reasonable probability of rewards for all salespeople, (4) attractive rewards, and (5) effective promotion and follow-through.

Nonfinancial incentives can play an important role in a firm’s compensation system. Opportunities for salesperson promotion and advancement, recognition programs, and other forms of nonfinancial incentives can be effective sales motivators. For recognition programs to be effective, the salesperson’s peers and superiors must be made aware of his or her outstanding performance. This can be done through recognition at a sales meeting, publicity in the local press, announcements in the company’s internal newsletter, or other ways. Because all salespeople cannot possibly move into sales management positions, some companies have dual career paths to maintain the motivating potential of promotion and advancement. One path leads to positions in the sales management hierarchy; the other leads to greater responsibilities in sales positions such as a larger territory or key account position.

Expense accounts can enhance a salesperson’s overall compensation. Three common means of handling salesperson expenses are direct reimbursement, limited reimbursement, and no reimbursement. When everything else is said and done, the sales manager must determine an appropriate mix and level of compensation for salespeople that maximizes the compensation plan’s motivational value, is fair, and also is consistent with the firm’s resource capabilities.

KEY TERMS

compensation plan quota

salary

incentive payment

commission

bonus

quota

sales contests

benefits

nonfinancial incentives

variable commission rate

draw

perquisites (perks)

expense account

BREAKOUT QUESTIONS

1. We know that the use of selling teams, sometimes including both salespeople and others from the firm, to accomplish relationship selling is common practice today. As with individual salespeople, the success of these teams depends, in part, on the reward systems used to motivate and recognize performance. How would you develop a compensation plan that motivates members of a selling team? How can you ensure the plan is fair for everybody involved?
2. The Ruppert Company needed to build market share quickly. To motivate sales growth, Ruppert installed a straight commission compensation plan: The more the sales reps sold, the more they made. This strategy seemed to work—sales volume climbed and the Ruppert Company captured more market share. After two years on this program, sales growth flattened out and Ruppert began to lose market share. Sales reps continued to earn $85,000 to $90,000 on average in commissions through developing and penetrating current key accounts in their territories. Studies showed the sales force was not overworked and further territory penetration was clearly possible. What do you think was happening?
3. When OfficeSolutions, a software producer, went into business, it needed to establish market share quickly. To accomplish this, it decided to pay the sales force on a commission basis. After two years, however, the company had a large base business and customers began to complain that salespeople were not spending enough time with them on postsale service and problem solving, important relationship selling activities. The salespeople said they did not make any money on problem solving and they would rather spend their time finding new customers. What’s more, salespeople spent little or no time selling the new products on which OfficeSolutions was staking its future. The salespeople said they could sell the old products more easily and earn more money for both themselves and the company. How might the company rework its compensation plan to begin to resolve this issue?
4. When designing sales compensation plans, it is important to meet the relationship selling objectives and at the same time appropriately reward the person who has to meet those objectives. How would you design sales compensation plans to match the following different company objectives and sales environmental situations?
   1. Company has a high revenue growth objective in a sales environment characterized by frequent product introductions, boom markets, and a loose competitive structure.
   2. Company has a protect-and-grow revenue objective in a sales environment characterized by slow growth, many competitors, and few product introductions. The firm’s primary source of differentiation is its excellent sales force.
   3. Company’s objectives are to have an overall revenue growth and balanced product mix sales. The sales environment has multiple customer markets, many product groups, high-growth and low-growth products, and high and low sales intensity.
   4. Company’s objective is to maintain revenue and have new account sales growth (that is, conversion selling by taking customers from the competition). The sales environment is a moderate-to-slow–growth marketplace.
5. Sales contests, although very popular, raise questions concerning their value. Questions asked include: Don’t they simply shift into the contest period sales volume that would have occurred anyway? How can everyone be equally motivated when certain territories have a built-in edge because of customer and market characteristics? Won’t the contest backfire if people feel they haven’t had a fair chance to win? Will all sales reps participate with equal enthusiasm when there can be only a few winners? Respond to each of these objections.
6. A sales manager says, “You can never hold enough sales contests for your salespeople. The more the merrier…. They are guaranteed to increase your business.” Evaluate this statement.
7. Things are tough at Morgan, Inc. For the last several months, sales reps, who are paid on a commission basis, have barely covered their monthly personal expenses. To help the sales force through these tough times, Morgan executives decided to introduce monthly draws. Sales reps whose commission earnings fall below a specified monthly amount receive a special loan, or draw, against commissions. When sales and commissions improve, the sales reps will repay the cash advance from future earnings. Under what conditions will this plan help Morgan achieve its sales strategy? Under what conditions is it likely to fail? (Hint: Think about what might happen in the future in terms of sales volume.)
8. Assume you are taking a job in relationship selling right out of college. What would be your own ideal compensation mix? Why do you prefer the one you propose?
9. What are the pros and cons of placing ceilings on salesperson incentives? If you were a sales manager, would there ever be a situation where you would advocate the use of incentive ceilings? If so, in what situation and why?
10. Veteran salespeople can pose unique challenges in terms of compensation. Why? What would you suggest in terms of designing a compensation plan that would motivate a veteran sales rep?
11. Ethical Question. You are the VP of sales for a large, global technology company. Each of your 15 key accounts is handled by a separate team of between four and seven specialists (depending on the size of the account) and each team is headed by a key account manager. He or she is ultimately held responsible for the success of the account including quota achievement and other goals. Recently, senior management has been pushing to restructure the compensation system to allocate more rewards to the other members of the key account sales teams in order to better recognize their contributions. Currently, the key account manager receives about 60 percent of the incentive rewards (in the form of bonuses), while the other team members split the remaining 40 percent. The proposed new plan changes the bonus split to 50–50. As VP of sales, what do you think about this proposed change? Do you support it, and if not do you have a better idea? Assuming upper management pushes the change through, how would you go about implementing it in your organization?

LEADERSHIP CHALLENGE: ONE FOR ALL, ALL FOR ONE

Danielle Drexel was getting ready to make some important decisions for her company, Dynamic Printing. She had started the company in Chicago and in a little more than 12 years it had become one of the area’s largest printers. With more than 50 salespeople in the Chicago area, the company had built a reputation for quality printing, great service, and fair prices.

Over the years the printing business had changed. When Danielle started the company, salespeople called on customers. Once a relationship had been established, customers would send the work to the shop. Often the salespeople would handle the pickup and delivery or the customers would have a courier do the job. Salespeople oversaw the job and the customer had little contact with anyone other than the salesperson.

As customers demanded more and better service, Dynamic Printing had created customer service representatives (CSRs) who handled problems and inquiries over the phone. These CSRs were responsible for a group of customers and worked closely with salespeople to enhance the customer’s relationship with the company. In the last few years, Dynamic had seen the need for a third group, Inside Support Personnel (ISP), to help with the flow of orders and other issues that came up inside the company. ISPs worked for the CSRs and helped support the overall customer service experience.

As a result of these changes, each customer (particularly those who were regular customers of Dynamic Printing) had a sales team. Unfortunately, the compensation system at Dynamic Printing had not changed in 10 years. Specifically, salespeople received a 10 percent commission on gross sales for each of their customers. It made no difference how the sales were generated (by the salesperson or by calling into the store and talking with a CSR). CSRs and ISPs were paid a straight salary (with the CSRs making about 30 percent more, on average, than the ISP employees).

As Danielle sat in her office, she came to realize that this system was no longer valid. Over the last five years the sales mix had changed and sales generated in house now accounted for 50 percent of all sales for many customers. The CSRs and ISPs had expressed frustration that they were responsible for a lot of business and they received no credit. Indeed, they argued, the salespeople were receiving money for work they did with the customer. Danielle knew something had to change, but what?

ROLE-PLAY: CANNONBALL EXPRESS

MINICASE: FRANCESCO’S BIKE WORLD

Francesco Rizzo established Francesco’s Bike World, a retailer of bicycles and related parts and gear, in 2013 in Milan, Italy. The company saw steady growth in its first few years and had opened eight stores throughout Italy by the beginning of 2019. Francesco is the owner and acts as the general manager for all stores. Each store has one manager and four to six salespeople, with two to three working on the sales floor at any given time. Francesco himself is a bike enthusiast and rides more than 200 kilometers per week. He encourages his sales staff to do the same and looks for fellow bike enthusiasts when hiring. As a result, the sales staff generally loves to buy equipment from the store, especially since Francesco gives an employee discount of 10 percent.

Francesco’s sales revenues increased by almost 15 percent each year for the first five years of the company’s existence. But since that time, sales revenues and profits have declined at approximately the same rate. According to Francesco’s analysis, the decline did not seem to have a single cause: a down economy, opening too many stores too quickly, rise of price from suppliers. He has tried to reduce costs to maintain consistent profits but has cut them to the point where the only remaining reductions would be to begin closing stores, which he does not want to do.

Francesco has always prided himself on having a top-notch sales staff. Although the staff shares a common bond of love for cycling, they are a heterogeneous group in other ways. About one-half are in their 20s, one-quarter in their 30s, and one-quarter in their 40s. Some have families, some do not. Some are married, some are single. Some rely solely on the job income to live, some do not. For the first six years, Francesco paid his staff a straight salary in the range of €22,000 to €34,000, depending on sales experience, with an annual bonus of €500 if the salesperson met the standard sales quota for the year. Francesco liked the stability the salary provided his staff, especially those with families. However, after the sales began to drop with the onset of the recession in 2008. Francesco decided that the staff would sell more if they were better motivated. So he instituted a new compensation plan that paid the sales staff on 100 percent commission. To allow for some stability, there was a system of a “draw” where employees could borrow against future commissions. This plan has now been in place for almost four years, but sales are still declining. Francesco recently sat down with his best store manager, Luca Moretti, to assess the commission-based compensation plan.

They started with Francesco’s business goals in order of importance: (1) increase sales revenues relative to quota, (2) increase customer satisfaction and customer loyalty, (3) increase sales for certain product lines, (4) take advantage of bike knowledge of the sales staff, and (5) encourage bicycle riding in local events.

Then they examined the staff. Luca’s first observation was that the sales skills of his staff vary greatly. For example, top performer Leonora Rossi has no trouble meeting her monthly quota; she even makes it so early in the month that she can relax for the remaining time. However, other salespeople like Ruggiero Giordano do not sell as easily and feel pressure because they support big families. Moreover, Ruggiero and others have taken money from the draw but then felt even more pressure for being far behind. Several have even quit to eliminate their debt, leaving Francesco with a loss and having to incur the added expense of training new hires. In addition, the sales approach has evolved into one of pressuring the customer to buy rather than building a relationship and taking the true needs of the customer into account. Also, there has been little effort to follow up with customers after a sale, assist with bike maintenance, or even clean up the store. As a result, customer loyalty and retention have been down. Furthermore, the old team environment, where a salesperson with a customer would call over a more knowledgeable salesperson to answer a customer question, has been replaced with an “every person for her- or himself” mentality.

Francesco and Luca decided that things must change, and the compensation plan was the place to start.