The CEO Job

| back to the blog

11 Things to Consider When Designing Your Sales Compensation Plan
March 1, 2023

For most of my professional life I ran very large sales teams. I don’t have to tell you, CEO, that sales are the lifeblood of your company. Having a strong, motivated sales team is critical to your success as a CEO. Good salespeople are competitive and heavily motivated by personal success, which means they perform based on  the compensation they receive. Having a compensation plan that keeps them highly motivated, while also driving the behavior you want, is crucial to your long-term success.

Here is an eleven-point checklist of things to bear in mind when creating or updating your compensation plans:

1. Overall Sales Target vs Company Goal

You have studied the state of the market, carefully crunched the numbers, and decided that the company’s revenue goal for the year is $50M. What target do you give the CRO and the sales organization? You have a lot riding on achieving this revenue goal, so it is tempting to increase the number, say to $55M, so the company will still achieve its goal if the sales team comes up a bit short. Your CRO also wants to be sure he meets his $55M target, so he adds a bit more when he shares the targets with his sales managers. Of course, they then add a bit when defining the targets for their salespeople. Suddenly the sum of all the individual sales targets is close to $60M and not reasonable.

Having some cushion between the company goal and the sales plan makes sense, but talk with your CRO up front, decide what the sales target should be and then ensure that the sum of all the sales reps’ targets add up to that number.

2. Targets for Each Sales Representative

There is nothing more discouraging to a sales rep than finding out they have a hard-to-reach target, while one of their colleagues has an easy ride for the year. In order to make sure this doesn’t happen, have a rationale and methodology for calculating the individual sales targets that you are prepared to defend. Assuming you delegate this to your CRO, have them go through their methodology with you and be sure to critique it.

Here are some things to avoid:

Some things you might want to think about:

And just an additional note, that probably goes without saying, but make sure you communicate targets at the start of the year and then don’t change them.

3. Timespan for Target (Annual, Quarterly, Monthly)

Do you set monthly, quarterly, or annual targets? There are pros and cons to each. Longer time periods are generally better if your sales cycle is long, or you have a smaller number of high-value transactions. Shorter periods are good for high-volume, lower-value sales that are reasonably predictable. This is something that can be tweaked each year, based on learnings, but note that it is important to regularly provide opportunities for reps to see some of that variable comp rolling in.

4. Total On Target Earnings (OTE) and the Mix of Base and Variable Compensation

Salespeople generally earn more than other roles, like R&D, marketing, and service, even though those other roles are just as valuable, if not more so. Make sure that the OTE you pay your sales reps is competitive. Good salespeople are driven by compensation and will quickly jump ship if they think you are not paying them what they are worth.

You then need to decide how much of the OTE is at risk – what is the mix of base and variable pay? Generally, the more that is at risk, the higher the OTE should be. Keep in mind, that with higher proportions of variable pay, there is a greater risk of “bad behavior” where sales reps do whatever it takes to make sales, regardless of the impact it might have on others in the company. Make sure the behavior you are rewarding is consistent with the culture of the company. Be cautious of compensation packages that are predominantly variable.

5. Composition of Variable Compensation

Having decided how much compensation is variable, you now need to decide what determines that part of their compensation. Typically, most of it will be based on commission, but you may want to add a proportion based on other KPIs to try and drive the behavior that you want. Examples include company profitability, the performance of the sales team they are part of, or activities they should be doing, such as the number of customer visits performed, the number of meetings scheduled, etc.

Be careful not to make it too complex. The sales reps need to know exactly how much money they are making, and you don’t want a compensation model that requires a complex spreadsheet.

6. Commission Model

Assuming that most or all the variable compensation is commission based, you need to decide on the commission model. The simplest is constant commission – the rep gets a percentage of every dollar of revenue they sell. However, consider the case of a sales rep with $160k OTE, with 50% ($80k) of that variable based on constant commission. If they end up at just 50% of the target, they will still earn $120k for what is an unacceptable performance.

You might want to consider variable commission. For example, the commission model in the chart below only starts at 75% of the target and then has an accelerator after 100% of the target. To manage the situation where they do extraordinarily well, the commission reduces after 110% of the target.

However, as mentioned above, still be careful to keep it relatively easy to understand, and make sure the sales reps are clear on the behavior that you are trying to drive.

7. When is a Sale Credited?

When does the sales rep get credit for a sale? It could be when the Purchase Order is received, the contract is signed, or when the customer sends the actual payment. If you want the sales rep to help with payment collection, then they should only get credit when payment is received. However you choose to do it, just make sure it's clearly defined, including any rules for claw backs if the customer fails to pay.

8. Draws on Commissions

The variable compensation is a significant part of the sales rep’s earnings, and they probably can’t wait until the end of the year before getting their commissions. If you have annual targets, consider monthly or quarterly draws on the commission, where you pay some commission in advance based on their performance to date. At the end of the year, the final commission payment trues everything up. Be careful not to be too generous with the draws, particularly early in the year. You don’t want to be in a position where you need to ask for money back from the sales rep.

9. Territory and Plan Changes

As your company grows, you will be growing the sales team which will require changes to the sales reps’ territories. This means you will face the common issue when a  sales rep has been carefully nurturing a sale only to find that the potential customer is moving to another rep. Solutions to this might include giving the old sales rep commission if it closes in the next quarter or splitting the commission between the old and the new sales rep. Whatever approach you take, be sure to document it and explain it upfront.

Similarly, you might need to build in a transition when changing sales compensation plans. Be generous in these transitions to ensure that the sales reps are on-board with the change. If the new plan is better, it should drive higher sales and be worth the cost.

10. Discounting and Other Processes

No matter how hard you try to create the perfect sales compensation plan, there will be some things you didn’t think of and some unexpected consequences. You and your sales managers will need to step in to stop bad behavior if it appears. Make sure you have processes in place to allow for this. For example, have a discounting policy and an associated approval process to stop reps from “giving away the farm.”

Every plan should ultimately allow for management discretion, but you want to minimize how often you step in. The sales reps need to trust that they are going to be paid what they think they should get. There is nothing worse than spending months closing a big sale for management to then decide that you don’t deserve the commission.

11. Model, Document, and Communicate

Once you have a new sales compensation model in mind, model it thoroughly. Look at what compensation different reps will get in a variety of different scenarios and check that it looks reasonable. There will inevitably be some compromises to ensure the plan is simple and straightforward.

Document the plan carefully and communicate it well. Then enjoy the increased sales that result from a well-designed sales plan.

Read the full article at
get the monthly ceo briefing

Get the Monthly CEO Briefing and receive insights specifically for a CEO audience

  • Invalid email address
Thank you for signing up. Visit our CEO Blog for recent articles.
Oops! Something went wrong while submitting the form.