Authors: James Reda Rob Bentley
A well-designed sales incentive plan ideally motivates and rewards effective sales efforts. Sales compensation includes salary — typically calculated as annual pay — and incentives like sales commissions and quota bonuses for salespeople reaching targets.
But how can sales leaders design incentive plans to apply to smaller or startup companies where senior executives generate the sales instead of a salesforce? Such organizations must determine appropriate incentives to build a fair and competitive cost structure to pay a salesperson who's also the founder or CEO.
Measuring the cost of sales
All organizations, whether they directly employ a sales team or indirectly hire dealers or agents, incur sales compensation cost. The compensation cost of sales (CCOS) represents the sum of the various forms of rewards for achieving revenue goals. Leaders can use this hypothetical pool of money as sales commissions and incentives, re-invest it for growth or enhance price competition to boost market share.
We define CCOS as a percentage:
Annual total cash compensation (base salaries and incentives paid but not benefits or other costs/expenses) divided by total annual sales revenue
For example, a company with a higher cost of sales compared to a direct competitor with related products and similar go-to-market strategy would suffer a competitive disadvantage. Surprisingly, industry isn't a significant factor in determining the market CCOS. However, a company selling at a higher price point due to superior marketing or perceived higher product quality may calculate a higher CCOS percentage, resulting in higher profitability.
Developing a CCOS framework to assess sales effectiveness
At Gallagher, we use sales CCOS and comparisons to understand the cost structure of a sales organization. We diagnose whether the cost is industry competitive and supports the organization's strategy. To create a baseline for comparison with individual organizations, we gathered aggregate data:
Identify actual total cash compensation and sales revenue data from client projects over the previous 10 years, including 40 to 50 sales organizations of multiple sizes from various industries.
Collect associated information, including
- Industry
- Total revenue (size)
- Margin percent
- Year-over-year growth history
- Typical deal size
- Typical account size
- Direct versus indirect sales channel mix
- Number/complexity of roles and number of sales employees
We summarize and conduct regression analyses to determine which factors wield the most effect on CCOS.
Drop factors without meaningful or conclusive correlation with CCOS.
Determine how the meaningful factors explain how the CCOS percentage would vary based on a company's fit within the selected parameters.
Explore the full sales/executive compensation whitepaper to get the details examining how CCOS analysis offers start-ups and smaller organizations a framework to measure total compensation levels — including equity — when the traditional cost-of-labor pay philosophy may not yet apply.
