Every business is different, which is why one-size-fits-all bonus plans rarely have the desired impact, long-term.
According to Sibson Consulting VP Joseph DiMisa, every type of commission or quota plan has its advantages and disadvantages.
In a recent article, DiMisa explains there are six different types of sales compensation models. We break down the pros and cons of each, as well as what type of plan makes the most sense, based on your business model:
- Straight commissions: Salespeople are paid a flat rate based on overall sales volume, the number of sales they close or the number of units they sell. Straight commission plans work best when salespeople’s only responsibility is to sell (as there may not be any base involved). More importantly, this strategy is most effective when salespeople aren’t in a position to bargain or negotiate based on price (or other concessions), as this tends to diminish profit margins, despite the fact salespeople continue to make the same commissions.
- Net commission: Salespeople earn commissions based on the net profit each sale yields (as opposed to gross volume). Net commission plans work extremely well in cases where salespeople are authorized to negotiate and make deals when they see fit. Knowing their bonuses are based on net profit makes salespeople much less likely to lower their price or grant concessions that minimize the company’s profit margins.
- Step quota systems: In this type of system, salespeople earn a fixed bonus amount based on the percentage they exceed quota by on a bi-weekly basis. In other words, if you exceed quota by 10%, you earn a fixed percentage of the overall volume you earned for the company. If you exceed quota by 20%, you earn a much higher fixed percentage of the overall volume you earned for the company. In other words, a mid-level performer who exceeds quota by 10% may receive 5% of the overall sales volume he generated, while a rep who exceeded quota by 20% may earn 15% of the overall volume he generated. Step or staggered quotas push performance, but they may also encourage salespeople to rush and close bad deals, simply to earn a much higher bonus rate for that pay round. These systems are only advantageous if salespeople don’t have a lot of leverage in terms of manipulating the system.
- Itemized commission plan: In this type of comp plan, salespeople are rewarded with fixed bonuses based on which specific models or services they sell. The scale generally varies based on what the cost/benefit or profit margin of each product is. This system works well when companies want to each push a specific product (in which case they can temporarily increase the bonus for that product), or they want to encourage salespeople to promote products and services that offer the highest rate of return.
- Steep commission: Salespeople are paid increasingly higher bonuses for closing higher amounts of sales or volumes. For example, a top-performing rep may be averaging $100 per sale, while a low performer is only making $65 per sale. In other words, low performance is a double whammy – you earn fewer commissions at a lower rate. This system only works in cases where high performance is the ONLY thing that matters to a sales organization. Systems like this are set up to reward star performers and discourage everyone else. A small sales force of veteran pros could potentially thrive on this system, but larger companies would most assuredly encounter morale problems, as well as disputes over unfair wages, etc.
- Individual commission plans: These plans are based on terms that both the sales manager and the salesperson agree to. Because every commission plan or agreement is unique, these plans are only advisable in cases where a salesperson is hired as a consultant or independent contractor. Otherwise, offering individualized commission plans based on each rep’s preference, while motivational, is bound to end in utter chaos.