Is Your Profit an Illusion?

[Read time: 3 minutes]

By: David J. Cocks, CEO

"Of course we're profitable," says the broker. "I take a quarter million dollars out of this business every year!"

Every so often we hear statements like this from brokers. Sometimes it's an owner who is ready to retire and wants to sell the business to one of our clients.

But when we analyze their books, we discover that although the company appears profitable on the surface, it is actually barely breaking even.

To help determine a company's true profitability, here are the first three questions we ask brokers:

If you sell, are you paying yourself the appropriate split?

Very often, broker/owners don't take their split. They leave the money in the company account, and pay themselves out of what's left over after expenses are covered.

While this helps ensure that the company has the necessary cash flow, it can mask profitability issues. If the owner is the top-producing agent, that can really skew the results.

Are you paying yourself for the time you spend managing the company?

You need to determine how much of your time is devoted to administration and management. Then you need to figure out how much it would cost to hire someone else to perform those functions. Until you hire that person (or those people), you should pay yourself the same amount of money.

Are you getting a return on your investment?

You need to have profit built in separately from your split and the money you make performing management duties. This is your return on the capital you invested to buy

or start the business. If there is no return on capital, you are going to have a hard time selling your business for any significant amount.

The bottom line is that you need to structure your business financially so that if you decided to go live on a beach in Fiji and do nothing more than sip mango daiquiris in your beach chair, your company would still be profitable.

You have to make sure that you are paid for all the functions you perform: as an agent, as a manager, and as an investor.

Once you have done that, you will be able to sell the company at a substantial profit – or hire someone to manage your business while you go off to Australia!

Increasing Share Value through Sales Compensation Design

[ read time: 4 minutes ]

By David J. Cocks, CEO

While there are a number of factors that impact the share price of a company, the two basic drivers remain earnings (or profit) and the multiple applied to earnings.

Two companies with the same profit, working in the same overall environment, frequently have different multiples; these multiples dramatically impact the value of the company and therefore the share price.

For example, a company with a $10,000,000 profit and a multiple of 5 times earnings receives a $50 million valuation, while another company with the same profit and a 7.5 times multiple has a value of $75 million.

While many companies focus on increasing profit, and therefore shareholder value, relatively few focus the same effort on improving their multiple. So, what drives this multiple?

The first driver is economic expectations. If the economy is deteriorating, even though profits have not yet fallen, share prices will drop and multiples retract on expectations of leaner times. Despite the fact that this is outside of management's direct control, it is important to note that some companies do not drop as significantly as their counterparts.

This is due to the influence of the second driver, corporate expectations. These expectations are a function of the company's ability to lead the industry. Proven leaders typically have higher multiples than others in the same industry, regardless of economic expectations. One of the key leadership criteria is whether or not a company has a sustainable competitive advantage.

So if a company's compensation plans strengthen the company financially, increasing profit immediately and protecting earnings in a downturn, it would provide such a sustainable advantage.

Such a solution does exist today and has stood the test of time. It is particularly effective when the primary distribution channel is through people whose skill is key in binding the consumer to the company. Examples range from industries that use a typical sales force, like real estate and manufacturing, to professional service organizations, such as law firms and dental offices.

The companies that have used this bold new approach have experienced increased productivity from their existing staff and improved ability to recruit key revenue providers from their competitors. They typically have seen an immediate increase in profit and have been able to retain their lead even after competitors copied their strategy.

The essence of the approach is:

1. Design compensation plans so that after the company has recovered its costs plus a profit from each revenue-producing individual, those individuals can then receive substantially more of the revenue they bring in.

This drives productivity and immediately increases profit. It also creates a naturally cost-efficient environment and improves recruiting.

2. Offer choices that empower the individual to find the right compensation fit; usually this involves selecting the risk-reward relationship that works best for each revenue-producer.

This maximizes recruiting and retention and lowers the breakeven point of the company, increasing its survivability and maintaining profitability, even in a downturn.

If you have any questions, please call us, email us on hello@cmglobalpartners.com or schedule a demo here.

How to Introduce New Sales Compensation Plans

[ read time: 3 minutes ]

By David J. Cocks, CEO

No matter how you introduce new compensation plans, expect your salespeople to move through several stages in their response:

Denial

Many salespeople will deny that a change is required and will want to keep their current commission program.

Rejection

Even after you've explained why the change is being made and discussed it with them, they will reject your reasoning.

Exploration

Sales reps will begin to explore their options, perhaps at a competitor's office.

Acceptance

Your salespeople come to grips with the reality that change is required and become ready to commit to the changes.

You need to be prepared for these stages, so you can help your sales force work through them. A consultative approach usually works best - share the rationale behind the change and help reps understand how both they and the company will benefit from the new plans.

Here are some more tips that can help ease the process:

1. Consult sales associates during the process of determining new plans. Although you may believe you know what your reps want, your ear may not be as close to the pavement as you think. Asking for input can provide useful information.

2. Explain why changes are needed. When reps understand the issues and are consulted, they are more likely to buy into the solution.

3. Analyze the impact of the changes. Typically, some salespeople will come out ahead, others will see little difference, and some will see at least a temporary decline in income. Focus on those who are negatively affected. How likely are they to jump ship? If you don't want to lose those reps, perhaps there are some low-cost perquisites you could offer to soften the impact.

4. Offer a choice. Allowing sales reps to choose among several compensation plans restores their feeling of being in control. It also lets them match their tolerance for risk to their compensation, and choose the plan that motivates them most effectively.

5. Don't make exceptions. It destroys the trust between you and your salespeople. You do run the risk of losing some reps, but you'll lose more if others see you making exceptions and feel they haven't been treated fairly.

6. Remember that salespeople leave a company mainly for personal reasons or lack of good management – not for compensation.

If you follow these steps, you'll ease the transition and make it much easier to successfully implement your new compensation plans.

How to Change Sales Performance Management Plans

[ read time: 5 minutes ]

By David J. Cocks, CEO

I was talking to a sales executive the other day who was concerned about introducing new commission plans to her sales force. Her firm has several hundred sales people, and she was worried that changing their compensation structure would cause a lot of disruption.

I explained that if you follow best practices for introducing new plans, you minimize the disruption, can retain virtually all of your sales representatives, and get them powerfully motivated to sell even more.

Here is the process we use, which typically results in a 98% retention rate, a 30% increase in sales in the following year, and significantly enhanced profitability.

Needs Analysis

We start by asking your sales force, sales managers, and support staff what they want. They're usually very forthcoming about what they like and what they don't like, what's important and what they don't care about, what they want changed and what they would prefer to keep.

If you're doing this yourself, don't skip this step. Even if you think you already know what they are going to say, take the time to consult with members of each group. You may be surprised by what you hear.

Competitive/Market Analysis

We analyze the competitive factors in your market and determine the potential for growth as well as possible areas of risk.

If you're doing the work, update your information about what commission structures your competitors are offering. If there any new competitors, make sure you include them. Then analyze what's happening with your market. Is it growing or shrinking? Is anything going on that will affect the demand for sales representatives?

Financial analysis

We build a business model of your company and look at where you are now in terms of revenue, expenses, and profitability. We interview top management to find out what your goals are and determine where you want to take the company.

If you're doing this yourself, take a look at your numbers and the trends. What are your goals?

Design plans

Using all the information we've obtained so far, we design new compensation plans that meet your goals, address the desires of your sales force, and are competitive for your market.

If you're designing the plans, it helps to use software that lets you do what-if analysis so you can project the results of your changes. We think our software is the best for this, but you can use Excel too.

Risk Analysis

Once we have the plans designed, we run them through several tests. First, what are the implementation risks? We break your sales force into a number of groups and analyze the impact on each group. Given the market conditions and competition, who are you most at risk of losing?

For example, if top producers have been subsidizing the rest and we equalize the plans, are we at risk of losing mid-level producers? Perhaps not, because no competitor in town has a better offer for mid-level people. But there might be a group of new recruits who are at risk.

Then we determine whether the plans can be administered. There are some accounting systems that can't handle certain types of plans. There's no point in implementing a plan that you can't pay on.

If you're doing this, run some test transactions through your accounting system.

Calculate the results by hand and compare that with what your accounting system comes up with. Do they match?

Tweak Plans

Based on what we found out during the risk analysis phase, we adjust the compensation plans.

Introduce Plans

Once the plans have been finalized, it's time to introduce them to the managers, sales representatives, and support staff. We start with the managers, making sure every manager understands the plans inside and out, because they'll have to explain them.

Then we introduce the plans to the sales representatives, explaining the rationale for the changes and showing where sales force concerns and requests were addressed. We also sit down with each associate and show them what they would have made last year on the new plan. We show them how they will benefit. If a choice is now being offered, we help them make their selection.

This is the most important step. If you're doing it yourself, spend the time it takes to make sure everyone involved really understands what's happening, why you're doing this, and what it means for them.

When you follow this process for developing and introducing new compensation structures, you stay in control. You can project what your results will be ahead of time, and manage the whole process with confidence.

Are You Stuck in the Technology Sinkhole?

[ read time: 4 minutes ]

By David J. Cocks, CEO

How do you know you are in the technology sinkhole? You invest in technology...
Your agents become more productive... Your revenue goes up... BUT your profit goes down!

About three years ago, we started to see a pattern in the companies with whom we were consulting. Firms that had invested in technology, and had seen significant revenue growth as result, were now losing money.

WORSE in the second year!

Interestingly, a number of companies did see the increase in profit they expected in the first year. The losses didn't show up until the second year, making it difficult to identify the cause of the problem. We found it because of the thorough financial analysis we do as part of our consulting. When we noticed the same problem in company after company, we realized this was a problem affecting the whole industry.

How does an investment in technology cause this problem?

What we discovered was that the investment in new computers, new software, and the Internet worked the way it was supposed to – agents became more productive. Revenue went up. But selling more pushed many agents up to higher split levels. This reduced the company dollar, making it more difficult to pay for the increased technology expense. As an example, let's look at a company where:

GCI = $5 million
Company dollar = 32%
Profit = 2% (or $100,000)
Technology investment = $50,000 annually

Let's say the technology investment results in a 5% increase in revenue. 5% of 5,000,000 is $250,000. So revenue goes up by $250,000.

32% of $250,000 is $80,000. So the company dollar increases by $80,000. $80,000 less the technology investment of $50,000 leaves a net profit increase of $30,000. So in the first year, profit increases to $130,000.

So far, so good. Now, let's look at what happens in the second year.

Let's say all the agents benefited equally from the technology, and everyone moved up to a higher split. Say they go up 2.7%.

Now company dollar drops to 29.3%. You now have $135,000 less to pay your bills than you had last year. Your revenue is up, but your profit is gone.

The situation can be even worse if all agents do not benefit equally from your technology investment, which is what happens in the real world.

Suppose the entire increase in revenue comes from your top producers, who are at an 80% split level. The company dollar on those sales is just 20%, so instead of gaining $80,000 you only increase profit by $50,000 – just enough to pay for the technology investment. Although revenue increased, profit stayed the same. That's in the first year. It could be worse in the second year.

How do you get out of the sinkhole?

You need to be able to recover your investment in technology. Some firms do this by charging user fees for technology or referral fees for leads that come in over the Internet. Other companies increase off-the-top fees, like relocation, for business directly attributable to the new technology. However, these fees are not popular with agents, who feel they are being "nickel-and-dimed" on one thing after another.

The best approach

Your best strategy is to re-design your compensation plans so they are based on your current costs of doing business, including the amount you invest in technology. When you use CompensationMaster's system to design your plans, you can make sure your expenses are covered and build in the profit you need to grow your business. Our consultants can help you design compensation plans that are aggressive and highly competitive in your market. We can also work with you to introduce them to your sales force and managers, ensuring that the introduction occurs with a minimum of disruption and that you get the results you need. 

Get Nimble Again

By David J. Cocks, CEO

When you first start a business, it's easy to turn on a dime when you perceive an unmet need in the market or encounter a new competitive threat. But as the business grows, it becomes increasingly difficult to respond as quickly.

How can you make an established firm nimble again?

Use a Contribution-based Approach

The first step is to design compensation structures that get everyone pulling in the same direction.

Normally, when you design sales force compensation plans, your goal is to maximize revenue. But as a manager or owner, that's not all that concerns you. You want expenses kept as low as possible, so profit can increase too. Right?

A contribution-based approach allows you motivate sales associates to increase revenue, reduce expenses, and increase profit – all at the same time. With a contribution-based approach, sales associates are responsible for contributing their fair share towards corporate expenses and profit. Once that contribution has been made, they are able to keep most of the rest of the revenue they bring in.

Sales associates are motivated to increase revenue; as they sell more, they make more. But with this system they can also increase their income by reducing expenses. When expenses drop, the amount they have to contribute decreases, so they keep more of the money they bring into the company.

You would naturally expect profit to increase when revenue improves and expenses are reduced, but a contribution-based approach provides a higher level of control – you define the percentage of profit you want to achieve. That amount is then built into the plan design. The result is a system that provides automatic incentives for sales associates to increase revenue, reduce expenses, and increase profit.

Meet the Needs of the Sales Force!

Now that you've aligned the goals of the sales force with yours, the next step is to reduce unnecessary expense so you can run a more efficient operation.

If you're in a service business, your biggest expenses are related to your staff – salaries, commissions, and benefits. You can mandate across-the-board expense

reductions, but the way to really save money is to find out what your sales associates don't value and stop spending money on those items. Normally, you can't simply ask what sales associates want; they want it all.

However, with a contribution-based approach, your sales associates learn that benefits, perquisites and support services come out of their pocket – not yours. We recommend that our clients design several compensation plans that offer different combinations of benefits and support services. Let the sales associates choose the plan they prefer. If no one chooses the plan with the most expensive health and life insurance, and many choose the plan with additional administrative support, you know where to spend your money.

We've had clients save hundreds of thousands of dollars, simply by adjusting their benefits packages to line up more effectively with what the sales force wanted.

By using a contribution-based system, you take a holistic approach to designing compensation. You can factor in the company's level of expense, the competitive situation, the desired level of profitability, and the needs of the sales force. The result is a more efficient operation that responds to the needs of the marketplace quickly – and stays nimble over time.

TOP 6 Tips for Compensating Sales Managers

By David J. Cocks, CEO

Managers should be compensated, at least in part, for their performance – for the degree to which their decisions influence the company and contribute to its success. However, sales force managers have a wide range of duties; some sell, some don't; some own part of the business, while others are employees. Designing incentives that balance all these factors can be a challenge.

The following tips can help you design compensation packages that will motivate your sales force managers most effectively.

1. Base Salary

Start with a base salary that reflects the marketplace value of the manager's administrative duties. For example, if those duties are expected to take up to 60% of the manager's time, the base should be approximately 60% of what a full-time administrative manager in the open market would receive.

2. Overrides

Overrides can be calculated in many ways: on gross revenue, net operating income, earnings of the sales representatives, or profit before interest and taxes (EBIT).

Consider carefully which measure you use. When an override is calculated as a percent of gross revenue, the impact of poor sales is not felt as dramatically as it would be if the override were on net operating income.

Paying on the net operating income also encourages recruitment, and rewards the manager who devotes time to getting sales representatives to the breakeven point. It provides a disincentive to managers who readily give exceptions or cut deals to recruit new reps – the manager's own income is affected proportionally.

3. Task Completion Incentives

Many companies are instituting financial rewards for successfully recruiting new associates, offering training or coaching, or increasing the percentage of productive sales representatives.

Recruiting. If you pay a flat amount as a reward for recruiting, consider a sliding rate relative to the value of the new recruit. Make the payment in stages, as the associate makes sales, to help guard against a body shop operation. Even better, pay when the associate reaches breakeven, as this ensures that the bonus comes from profit built into the breakeven point.

Training. Offering an incentive for training or coaching helps ensure continuous improvements in production. Try paying a flat fee for the amount of time invested or giving a bonus based on the number of associates who complete training programs.

Productivity. Incorporating an incentive for increasing the number or percentage of active representatives encourages motivation of all reps, and helps prevent preferential treatment of high producers.

4. Bonuses

Offering rewards for reaching targeted production levels can be highly motivational. Bonuses might be given for reaching a certain level of revenue or profit each month, or for bringing down the company's expenses.

5. Profit Sharing

You may want to pay a top manager a set percentage of any profits retained by the company over a specified period of time. For this to work, your company should have well-controlled expenses and a generally stable economic situation. The manager should have access to all of the company's financial information, and feel that he or she has enough influence in the company's day-to-day operations to control the factors that affect profitability.

One risk is that relations between the manager and senior management may become strained if the top executives want to make investments that will grow the business at the expense of short-term profitability. For this reason, profit sharing is best used as a component of a compensation plan rather than as the whole means of compensation.

6. Offering a Choice

One of the most important factors in manager compensation is the competitive situation in the market. Where lots of good managers are available, companies do not have to pay as much. However, where talent is scarce, more aggressive plans are essential.

One innovative approach is to offer managers a choice of compensation plans. In the same way that you allow your sales associates to choose the plan that best motivates them, you can allow managers to choose the compensation structure that best meets their needs.

Whatever form of compensation you choose, it is important that managers clearly understand how the commission or bonus will be calculated, and feel that they have control over the factors that will affect those numbers. Without that understanding and that power, they won't be motivated effectively.

Compensation plans should not only be attractive to the manager, but should also be tailored to the needs of the company, providing incentive in those areas most needing improvement. When compensation is carefully thought out, managers can be motivated to lead the company in directions well above and beyond the daily operations of the business. 

TOP 5 Ways to use Sales Compensation as a Competitive Weapon

By David J. Cocks, CEO

I spoke with a gentleman recently who was buying a business and wanted to develop a sales force compensation strategy that would give him a competitive advantage.

He wanted to lure top sales representatives from his competitors, motivate them powerfully, and grow his business rapidly to the point where it would dominate the market.

Here's the approach I recommended he take:

1. Analyze your competitors' plans

First, you need to know what compensation plans your competitors offer. What salaries, base rates, draws, commissions, incentives, quotas, perquisites and benefit packages do they provide?

2. Ask sales reps what they want

Far too many firms skip this step, either because they don't care what the sales representatives want or because they think they already know. Don't make assumptions – ask! Your sales associates will tell you what they like about your compensation plans (and your competitions' plans), what they don't like, what motivates them, and how they would prefer to be paid.

3. Find out what you can afford

Many companies skip this step too. But you can't be aggressive about compensation without knowing how much your business can afford to pay your sales force. Analyze your expenses and revenue to find the maximum that you can afford to pay.

4. Blend what the sales reps want with what the company needs

When you know what your sales force wants and you know what you can pay and you know what else is available in your market, you are in a good position to create very desirable plans.

For example, top producers might be frustrated with plans that put a ceiling on their income. You can create a compensation plan with a lower base and a higher commission that rewards them for accepting more risk by giving them the opportunity to make more money.

Sales associates who have high fixed expenses (or trouble managing their money) might be willing to accept a lower total compensation package in exchange for the security of a higher base.

People who have health insurance through a spouse's plan may resent having to pay for coverage through your insurance plan. You can structure plans so people who don't want benefits don't have to pay for them.

5. Offer a choice

The key to success is realizing that the same compensation plan isn't going to work for everyone. You'll get the best results if you create several plans, each meeting the needs of a different group, and then let your sales associates choose which they prefer.

When you follow this five-step process, you can design a compensation strategy that supports your business plan, positions your company successfully against competitors, and allows you to recruit and retain the sales force you need. 

How to Handle Sales Performance After a Merger or Acquisition

By David J. Cocks, CEO

When companies go into a merger or acquisition, there is often a tendency to leave compensation alone – the feeling is that the ownership change will be traumatic enough without changing the commission structure too.

However, this leads to problems. Invariably, representatives compare plans. There are bound to be differences: different commission levels, base salaries, incentives, perquisites, benefits and more.

No matter how generous the plans are, representatives are going to feel that "the other guys have a better deal."

One company's reps see that sales associates at the other company receive a higher commission, while the other company's reps notice the higher level of administrative support and lead generation the first company provides.

To keep everyone happy, there's a tendency to creep towards a plan that has the best of both – higher commissions and higher levels of support, services and benefits. This can be disastrous.

The longer it goes on, the worse it becomes. Top producers have the leverage to cut better deals for themselves, and resentments build and fester.

Additionally, the longer plans are left alone, the harder it becomes to find a good time to make a change.

Right after a merger or acquisition is the perfect time to rationalize compensation. Creating new compensation plans makes a clear statement of the company's goals and positions everyone to move forward without the baggage of the old arrangements.

Start by asking sales people from both companies what they like and don't like about their compensation structures. You'll get good feedback that will help you design new plans, and you'll also have information about what works and doesn't work that you can use to better manage the combined sales force.

The simple act of asking what they want sends a powerful message to the sales force and is an excellent retention device.

Then you need to decide what value proposition you want to offer the sales force. Can you combine what each company is doing now? If one company has a particularly attractive culture, you may want to transition everyone to that offering. Or it may make sense to start over with something brand new.

You can take this opportunity to rationalize the compensation structures, bringing them into line with what the sales force needs and wants. Maybe some of the services or benefits one of the companies offered are no longer needed. We have actually seen companies pay for an acquisition simply by restructuring compensation.

Don't forget to do a thorough financial analysis of any proposed changes. We saw a merger once where one of the companies offered a very generous commission at high sales levels, which they could afford to do because very few people ever reached that level. The company they merged with had far more high producers, and when management decided to offer that plan to everyone they quickly found themselves in serious trouble.

Of course, you need to take into account the revised cost structure of the new company. You'll be saving money through consolidation and reducing duplicate costs. Those savings can go to the bottom line.

Or you might invest them in your sales force by designing plans that provide higher commissions – which would be highly motivational to the existing sales force and very useful for recruiting.

By taking advantage of a merger or acquisition to revise your compensation plans, you can better meet the needs of the combined sales force and position your company for greater growth in the future. 

How to Make Each Sales Associate a Profit Center

By David J. Cocks, CEO

Are some members of your sales force subsidizing others?

In some companies, the top producers carry the burden. In others, it's the mid-level or lowest producing members of the group.

Either way, it's not fair.

Consider treating each sales associate as a separate profit center.

View each sales associate as if he or she were an individual company. (Your firm as a whole is then like a big conglomerate.) Does each sales associate bring in more revenue than it costs to have him or her on board?

If not, what can you change to generate a profit?

You might want to create a commission structure designed specifically for new hires that allows you to provide the training and intensive support services they need to be successful – while ensuring that you recoup those costs. When associates are ready, they can move up to a commission structure designed for solid mid-level producers.

You can create another set of commissions for top-producing sales associates who don't need a lot of support and want to do things their own way.

When you set up commission structures like this, you can do a better job of meeting the needs of the sales associates. You can provide a higher level of support to those associates that want it, while offering independence to others.

You're also virtually guaranteeing corporate profitability. When you make a profit on each member of your sales force, it's hard not to make a profit on all of them put together – which makes your company more stable financially. But what's more important is that you are treating all members of your sales force in a fair and consistent manner.