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When Is Too Much Pay at Risk

March 14, 2008
Related Topics: Variable Pay, Compensation Design and Communication, Featured Article, Benefits
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Few industries match telecommunications for cutthroat sales competition, but the industry has traditionally lagged others in designing highly leveraged sales compensation programs to boost revenues. Embarq Corp., a $6 billion telecommunications company formed in 2005 as a spinoff from the Sprint/Nextel merger, broke from the industry pattern two years ago with a sales pay plan that puts 30 percent of total cash compensation at risk.

    The purpose of the program is to drive sales along specific product lines. "If agents are hitting their targets, that should translate directly into revenue goals," says Kim Povirk, Embarq’s general manager for consumer market sales and service. But when Embarq recently looked at pushing the variable portion even higher, the perpetual question arose: When is too much pay at risk?

    "Sales organizations are grappling with this question," says Michael Herman, a principal with Deloitte Consulting and national leader, sales force effectiveness. "They want to make sure that they motivate effectively and strike the right balance. Many companies are now taking a step back and looking at who should receive variable pay and how much pay should be at risk."

    In the most recent Deloitte survey of sales organizations, companies continued to report excessive levels of complexity in sales plan design, cost misalignment and missed quotas. "The critical question is, who are the key people who have influence over the sale?" Herman says. "Who has a direct line of sight and should have pay at risk?"

70/30 split
   Embarq found the answers to these questions in a relatively simple sales pay plan that is now driving revenues. Based in Overland Park, Kansas, and operating in 18 states with 19,000 employees, Embarq began trading as a separate company in May 2006 and has emerged as one of the best-performing organizations in the sector. At Embarq’s 12 call centers, 1,300 sales reps and 120 supervisors now work under the 70/30 pay split along with an additional 400 employees in 51 retail stores.

    Embarq’s 70/30 split evolved from a completely unleveraged plan to a 95/5 split, then an 85/15 split and, finally, the 70/30 plan in 2005. The high level of variable pay requires absolute accuracy in record keeping, so Embarq moved into a software-based compensation administration program with the leveraged plan initiative.

    Monthly base pay for agents averages $1,762. Under the incentive plan, an agent performing at 100 percent receives an additional $755 a month in variable pay. Two-thirds of the agents are currently hitting above 100 percent of target.

    The 30 percent that is at risk is based on two components. The first, representing 40 percent of the variable portion, is based on achieving overall revenue targets; 60 percent is at risk for targets relating to four critical products.

    The targets for the four products are weighted, based on the company’s strategic goals. High-speed Internet service accounts for 25 percent of the 60 percent at-risk component. Packages account for 15 percent, and wireless and satellite television each are set at 10 percent. Every agent receives specific targets for each of the four products.

    A sales agent performing at 100 percent of target receives a monthly incentive payout of $302 for revenue growth, $188.75 for the high-speed Internet payout, $113.25 for packages, $75.50 for satellite TV and $75.50 for wireless activations.

    "Agents routinely hit 200 percent to 300 percent of their target," Povirk says. "At 300 percent of target, agents are more than doubling their base pay." Payouts are capped at $10,000 per month. Revenue results reflect the emphasis placed on Internet service sales, which jumped 27 percent for the year ending in the third quarter of 2007.

    The leveraged part is paid out monthly, but sales and the incremental increases in variable pay show up on agents’ statements within 24 hours. "We work very close to real time," Povirk says. Agents see every sale for every product and the associated payout on their statement by their next shift.

    Embarq did not incorporate a merit increase under the original 70/30 plan. When the company determined that some form of pay increase was necessary, it conducted a study to determine whether it could raise the level of pay at risk. The study and professional consultation determined that higher levels were not desirable. Embarq then instituted merit increases as an alternative to increased incentives.

    Under the merit pay plan, agents are evaluated with a scorecard that includes four to six metrics and determines annual merit increases of 1 percent to 3 percent on the base pay portion of total compensation. Rankings are determined by the scorecard results, with no forced distribution.

    Embarq also launched a noncash rewards program for specific marketing incentives, using items such as iPods for agents who hit targets for special products. In addition, the company added a customer service bonus. With 30 percent of pay focused on sales, Embarq was concerned that agents might lose sight of the service component of their job, so the company now pays a $200 per month bonus for agents who meet specific service goals.

The right level of risk
   Embarq’s concerns about setting appropriate levels of risk for sales agents and maintaining customer service are symptomatic of larger shifts in the nature of sales work. "Sales organizations are changing because of the changing customer environment," Herman says. "The customer experience is now the differentiating factor."

    Consequently, many companies have replaced the single sales position with a constellation of sales jobs that includes pre-sales positions, salespeople, account managers and customer advocacy representatives. "This creates very complex organizations and has a very high cost impact," Herman says. "Companies need this complexity to face off against the market, but they can’t handle it administratively and it often comes at a high cost that customers won’t pay."

    With complexity and costs moving well beyond what many companies can manage, some organizations are now pushing for greater simplicity in their sales compensation plans. This push begins with re-evaluating which positions should be included in variable pay plans.

    Setting the appropriate level of pay at risk hinges on the extent to which the salesperson can influence the transaction. In some cases, the sale may require substantial skill and effort. In others, the brand name may drive the business to the agents.

    Herman notes that setting the level of pay at risk also depends on company-specific factors. Pay philosophy plays a role. "Some companies want to provide significant upside to high performers; others are reluctant to push variable pay beyond a certain level," he says.

    In other cases, organizations are trying to not just simplify their plans but also to exert more control and ownership over the client. "The more pay is at risk, the more the sale representatives are going to try to hold on to their clients and protect their clients as their own," Herman notes. Reducing the risk level can reinforce the company’s direct relationship to the customer.

    Smaller firms may need to reduce their fixed costs by increasing the variable portion of pay. Companies that are trying to build rather than simply hold market share may also need higher levels of pay at risk.

    The level of pay at risk also reflects industry conditions. In industries where margins are not significant, large variable payouts are not viable. In addition, industries with long down cycles may need to limit the variable portion and pay higher straight salaries to employees to help them maintain a more consistent cash flow. In every case, Herman cautions, companies need to be aware of compensation levels at both traditional and nontraditional competitor companies.

    Herman notes that levels of variable pay should also reflect the firm’s ability to measure the relevant factors in evaluating performance. If employees believe that the factors used to determine variable pay are not relevant or measurable, the plan will not be effective.

Altitude markers
   Companies can watch for specific signals that the portion of pay at risk is too high. Herman warns that an uptick in turnover may be a marker. In addition, if there is no natural bell curve in performance ratings, the company may need to re-evaluate the levels of pay at risk.

    If commission costs are too high relative to sales revenues or if there is an adverse reading in this metric, the company may need to take a second look at the levels of variable pay. "At the end of the day, any plan must have strong governance surrounding it that monitors the plan and the data so changes can be made close to real time and before the plan is off kilter with the original intentions," Herman says.

    Excessive levels of pay at risk often undermine strong customer service. Herman reports that many companies are changing their sales models to incorporate account managers who are responsible for the overall well-being of accounts and product sales managers who focus on closing the sale.

    Adding a bonus plan for sales representatives who maintain high standards for customer satisfaction can be effective if solid performance measures are in place. "Customer service is based on a really subjective set of measures," Herman says. "If you can capture customer service, a bonus tied to goals is a great way to handle it."

    The general guidelines apply for setting levels of risk, regardless of the level of base pay. "It takes a higher level of skill to sell yachts than to sell wireless activations," Herman says. "Finding the right level of risk can drive revenue-generating behaviors across different skill sets."

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