Creating Commission plans from scratch
A tightly-structured commission plan is like organizing a trip with your college buddies. You sure ain’t getting a pat in the back for a job well-done but even if there is a minor glitch, you will never hear the end of it. Likewise, you’re not going to receive applause from your customer-facing teams for putting together a great compensation plan. It is a thankless job and it’s not a walk in the park either.
When I first wanted to create my own commission plan, I found guides online but nothing elaborate enough where I could consider all inputs before making the right choices. Everyone had their own version of what worked within their SaaS firm. So, we thought we’d create a series covering as many aspects of creating a compensation plan as possible. We’ll look into various roles, industries, level for GTM teams so that you can create a plan from scratch after considering all outcomes.
When you’re trying to come up with the perfect commission plan, you are likely to encounter two problems:
- It becomes too complex for reps to understand and effectively use it.
- It is made too simple that the GTM teams think there isn’t anything to get out of it other than straightforward goals.
So, how on earth does one make the perfect commission plan? Well, some might argue that the concept is as real as a mythical Sasquatch that doesn’t exist (wait, or does it?). However, you can sure head to the Great Lakes and at least enjoy that nice view.
Our philosophy on commission plans is distilled down to aligning 3 major parts to a plan:
- Choosing the right plan type for each role
- Picking your primary revenue goals as the major metric for the plan
- Choosing the right secondary goals to incentivize behaviours and keep reps motivated
Also, we will cover profitability as a metric to the compensation plan so that you can get this approved by your finance leaders as well (ka-ching!).
First things first: For which role are we making the plan?
Success metrics for the role
Before choosing the plan type and metrics, it is important to understand that each role has a specific set of goals critical to the overall business objectives. Sales reps of junior or senior levels are usually at the firing line and need to stay razor-focused on their goals. Their compensation needs to be as simple as possible without many variables outside their control like your leaders. Hence, we usually narrow their success metrics to two engines.
- Deal closures: Primary success metric
- Opportunity generation: Secondary success metric
Sales representatives completely own the deal closures but depending on your business type, they could also be partially-responsible for lead generation. Under both of these metrics, there are several sub-goals that you could include. This is an exhaustive list but that doesn’t mean you should use all of them. Pick and choose what works for you based on your business model.
Choosing the right Commission plan type
Now that we have understood the success metrics for this role, we need to choose the right plan type that goes with your revenue goals. There are usually only 2 main types of commission plans for acocunt executives.
- Commmission % as part of deal value (reserved for most use cases)
- Commission % as part of their attainment (used only in special cases which will be covered below)
Type 1 - Incentive Pay on Revenue Closed With Tiered Commission Rates
In this plan, reps are compensated with a flat commission % as part of their deal value. In SaaS, you might find this type to be the most commonly used commission plan. Imagine, you hire a representative with a fixed pay of $60k and an OTE of $100k at an annual rate. The incentive pay in this package is around $40k and the quota allotted for the rep is approximately $500k per year. In this case, the base commission rate for the rep would be 8% on OTE. ($40k divided by $500k).
But, get this, if you stick to the base rate for all revenue, the rep would receive no incentive for closing deals post their quota attainment. So, after hitting their targets, they sit back and simply push the upcoming deals to the next quarter, where they will be incentivized for closing them. This particular occurrence can be avoided via tiered commissions plans.
Here’s a sample of a tiered commissions plan:
You see what happens? Reps get a shot at getting paid more if they overachieve on their targets.
Let’s break it down:
- For every $1 ACV revenue brought in to the company, the representative is paid 8 cents till they meet their targets.
- Post their quota attainment, for every $1 till 150%, they get paid 12 cents. This goes on for as long as the sales star keeps bringing home the dough.
If tiered commissions are put in action, the representatives will put in more effort to surpass their targets to bag additional cents on the dollar, thus resolving the issue of them pushing deals to the next quarter. If they do, they will have to start at square one- the base rate.
But, hold on. Will this plan negatively affect your overall profit rates? Straight answer: Not a chance! Here’s the secret: if you model it right, it actually makes it more profitable for you. When you hire a rep, you would usually plan for a quota to OTE ratio ranging between 4:1 and 6:1. If a rep overachieves on their quota, this ratio doesn’t change a lot.
Take a glance at the table below. At a base rate of 8% and 12% above 100% attainment, the better the rep does, the better your Quota Attainment to OTE ratio. Even though you hired the representative here at a ratio of 5, when they perform better, the ratio increases.
Type 2 - Relative Commissions with Tiered Kickers
This plan comes into play in those scenarios where our Type 1 plans don’t fit in, like the ones we’ve mentioned below:
Scenario #1: The AE has a non-revenue based component like number of deals or pipeline-generated deals which you want to reward if they do well. Here, a rate-based method doesn’t make sense.
Scenario #2: Your revenue is measured in dollars whereas your commissions are not paid out in dollars. This is common when your business has teams operating in a global sales model where revenue in dollars might be closed by reps from different regions. In these cases, it will be difficult for the teams to interpret the rates on the dollar value when they don’t get paid on dollars.
You can set up your Type 2 plans in the following split:
Choosing the primary success metrics
Now that we have covered compensation structures and commission plans, it’s time to optimize for your SaaS product, representative type, and the ACV of your customers. In general, we can classify SaaS sales models into 4 broad categories:
Self-served models don’t require a lot of sales compensation optimization. It is usually straightforward and the compensation should be based on deal velocity metrics that we’ll get to in the next section. Of the four models, High Velocity and High ACV products are extremely rare while High Velocity and Low ACV and Low Velocity and High ACV are the most common.
High Velocity and Low ACV - SMB
This sales model can apply to your company in 2 ways:
- You have a fast-moving SMB product that SMB, MM and Enterprise customers will purchase. Example: Zoom, Slack.
- You have a fast-moving SMB product that your sales team sells to a specific segment of your base. Example: Inside Sales teams.
In either of these cases, the components you use to measure and compensate your sales teams will be one of the following:
Deal Value Metrics
- ACV: Annual Contract Value, pretty straightforward.
- Contract tenures: What’s the length of your contract? Yearly or half-yearly contracts work great for the company in two ways: predictability of revenue and cash upfront. Therefore, deals of such nature can be incentivized with a 20% to 40% markup when they are considered for incentive payouts. This will push reps to bag the longer term contracts.
- Implementation fees: If your team is selling to low velocity businesses, you might not come across this often. Most companies prefer a one-time payout of 1-3% of the implementation revenue.
Deal Velocity Metrics
Deal velocity goals are not for everyone. Unless you have a very strong baseline and a fast-growing business, it usually doesn’t help. But, if you do find a place for it, it boosts sales efficiency.
When you add the deal velocity goals as part of your reps compensation, it should be for the following reasons:
- It is more important for you to acquire a customer than the first deal value. When you have a suite of products, it is super important to land the customer and open yourself up to potential expansion revenue in the future.
- You have a well-established sales team with 25-50 reps and you want to ensure that they sell efficiently. Adding an efficiency metric such as conversion rate into the mix can provide better results.
There's also a possibility to apply pipeline generation or outbound deals in this sales model. However, in a high velocity business, it's uncommon because high velocity AEs don’t have renewal or expansion goals. The account gets transferred to the customer success or account managers team in a very short span (less than 6 months). AEs will usually be compensated for the first deal value and any subsequent upgrades within the first 3-6 months.
Low Velocity and High ACV - MM/Enterprise
You can make use of this sales model in one of two ways:
- You have a sales team that focuses on big deals. The sales teams are usually one part of your company and these deals are your big customers. Ex: Field Sales
- You are an MM/Enterprise-only product and, in general, your deal velocity is low with high ACV. Ex: Planning tools and compensation tools.
In either of these cases, the components you will use to measure and compensate your sales teams will be one of the following:
Deal Value Metrics
The deal value metrics in Type 2 are similar to that of Type 1. Only, we also take into consideration the minimum deal value. And when it comes to implementation fees, as they are very common in high ACV businesses, you should clearly state it as part of the plan. Similar to Type 1, companies follow a one-time payout of 1-3% of the implementation revenue.
Lead Generation Metrics
Unlike the high velocity reps, the high ACV reps usually are responsible for generating their own leads and working with SDR to find opportunities within their territories. Hence, they are also compensated based on their lead generation goals. However, lead generation compensation influences a lesser percentage (<30%) of their overall incentive pay. The two important metrics to consider are as follows:
- Pipeline generation targets: For companies with longer cycles (6-9 months), it is imperative to generate a pipeline in advance to ensure a healthy revenue outlook. Reps usually carry a quarterly pipeline target.
- SQL Acceptance turnaround time: In cases where a close collaboration between SDR and the reps is necessary, SQL acceptance turnaround time is used to ensure that the reps closely monitor and turn around on the SQLs generated by the SDR team. Reps prevent having early SQLs as part of their pipeline to avoid being accountable for them in their pipeline review meetings. A balance must be struck between SDRs and reps when it comes to SQL acceptance or else we risk creating a culture of bad pipeline hence resulting in inaccurate forecasting.
Choosing the secondary success metrics
The metrics that we looked into in the earlier section will only address the revenue goals that you have planned for. But, there are non-revenue behaviour-based goals that you want to address and reward to make the sales engine more efficient and to address more focused goals.
Secondary success metrics are usually applied only if the reps hit their 100% quota. Avoid adding too many additional metrics to their base plan as it might distract them. Instead, we suggest a temporary SPIFF program to address short-term behavioural changes. You can look at our SPIFF blog here to learn more about how to use SPIFFs to your best advantage.
If you’re curious, here’s a list of some secondary success metrics:
- Flat bonus: A flat one-time bonus of a fixed amount awarded for hitting their quarterly target. It can also be a percentage of a rep’s incentive plan.
- Contract tenure bonus: If reps are bringing in multi-year contracts, then you would want to recognize those deals more than your yearly deals. Even though the customer might pay you yearly and not upfront for 3 years, a contract commitment will reduce future churn and give you a lot of expansion opportunities as well. These deals can be paid out at 40% to 60% markups based on the contract length.
- Multi-product deals: In companies where selling a suite of products is more strategically important, you can add a special markup where reps are closing multi-product deals. Selling two products is usually a lot harder especiallyif they are selling to multiple personas within the same company. So, if your products are organically evolving and catered to the same team, this one may be an overkill. For example, if Rep A sells one product at $50000 ACV and Rep B sells two products at $50000 ACV, you can reward Rep B with a special markup of 10% of the deal value to be counted for their incentive rate plan. If it’s 3 products, you can make it 20%. You can hike the percentage with an increase in the number of products.
Let’s go over our journey till now and look at what we have learned about designing a perfect compensation plan for your teams:
- Choose the right commission plan based on your regional nuances and goals. You can stick with the tried-and-tested rate-based model if revenue is your main goal.
- Have additional goals or operate your sales team in a different region? Kicker models are the way to go!
- Rate accelerators or kickers don’t hurt profits. In fact, they make your sales efficiency numbers improve.
- Different types of primary success metrics can help you decide what works best for a high velocity sales team and a low velocity sales team.
- Secondary success metrics like flat-deals might help drive specific behaviours in reps.
We’ve also made a shareable image of the summary. Check it out: