Your Top Sales Compensation Questions, Answered

Published in The Circle

Why companies shouldn’t cap commissions, payout strategies for bluebird deals, and how to set quotas and handle commissions during a new hire ramp-up period.

There is no such thing as a perfect sales compensation plan. Most decisions are really trade-offs: profitability or growth? Cost control versus upside? No go-to-market (GTM) model sits in a vacuum, so priorities are always changing. That means tweaks to the sales compensation program are likely needed.

Sales compensation policy questions are one of the most popular topics among The Circle community, so Chris Semain and Andrea Farinelli at Alexander Group answered some of the most pressing member questions, including whether to cap commissions, what the payout should be on bluebird deals, and how to set quotas and handle commissions during a new hire ramp-up period.

FAQ #1: Do You Ever Cap Commissions?

A mature business with fully ramped reps and accurate quota systems rarely cap compensation plans for individual contributors. “The psychological perspective from a sales team is perceived negatively so it’s not typically worth it,” said Andrea.

One reason to avoid a cap is that it can lead to bad rep behavior. “For example, the best reps that hit caps may start to sandbag deals into the next quarter,” said Andrea. “Additionally, caps are used less frequently in the tech industry relative to other industries, so an organization can put itself at risk of talent and/or retention issues if they cap commissions.”

There are a few instances when it might make sense to introduce a cap. Examples include 1) new rep ramp periods when quotas are small, 2) unpredictable market situations (e.g., Covid bounce) with significant tailwinds or 3) other factors that make forecasting costs extremely difficult. A more common practice than a cap is a decelerator because it allows reps to continue to work deals and earn accelerated earnings, albeit at a lower rate. “This approach is particularly helpful for organizations that struggle to set quotas and need some cost protection without risking bad rep behavior,” said Andrea. “One example is that a rep earns at 2x up to 200% of quota and then decelerates to 1.25x after 200%.”

Quotas must be scrutinized no matter what decision is made regarding caps and decelerators. If your organization has unusually high quota attainment or skewed distribution, that can signal a quota setting problem rather than a comp problem.

“People get comp design and quota setting problems confused all the time. Companies that use commission caps often do so because they are not good at setting quotas. It is better to find ways to improve quota accuracy rather than the band-aid solve of caps.” – Chris Semain, Alexander Group

Lastly, a quick note on payouts above 100%. “Commissions above 100% are usually paid out at an accelerated rate, i.e. 2x the base commission rate,” said Andrea. The rate at which the pay is accelerated depends on a number of factors including job role, quota size, performance variability and region. The need to use caps is partially dependent on the richness of an incentive plan. For example, caps may be more needed for plans with 4x accelerators vs. plans with 2x accelerators.

FAQ #2: How Should Mega Deals be Compensated?

One gray area in the sales compensation conversation is what happens in the case of “bluebird” deals: abnormally large deals that may be multiples larger than someone’s quota and could have C-Suite involvement. In this case, some might question whether the salesperson warrants earning their full commission and if management should have more discretion over the payout.

Andrea recommends that organizations should have a written policy outlining compensation treatment for bluebird deals. Some potential triggers for when a bluebird policy is activated includes:

• “If one deal makes up more than X% (i.e. 75%) of your quota…”
• “If a deal comes into the pipeline that was not foreseen or part of quota setting…”

The different quota credit and compensation options typically include:

• Giving full quota credit and paying out the full amount (if rep had full influence over the deal and did everything expected).
• Giving partial quota credit and paying out a partial amount.
• Delinking quota credit and payout; for example, giving full quota credit but only partial payout.

The language should allow for some management discretion in the decision given deal type variability and indicate the reasons when and why a sale is subject to the bluebird policy. These deals should also route through a compensation governance committee, staffed with sales, operations, HR, finance and legal representatives, to reach a fair decision for both rep and company. The committee would determine the percentage the seller should get paid.

The bluebird policy ultimately protects your organization from blowing out the commission budget when the potential earnings are not commensurate with the rep’s influence and effort in the sale.

That said, most organizations don’t really want to enact their bluebird policy. “Reps don’t like it, and it makes them feel like they can’t trust management,” said Andrea. Plus, in many cases, it is hard to definitively measure individual contributions to a sale. Be sure to use the bluebird policy sparingly.

FAQ #3: Should Sales Reps Receive Commission Guarantees During Their Ramp-Up Period?

Your organization, particularly those in tech, probably should have a draw policy where some portion of a new rep’s target incentive is guaranteed for the first two to six months. “If you don’t do this in tech, you will probably miss out on hiring some good people,” said Chris. (There are some caveats, such as hiring a renewal rep who has a fairly easy transaction process or when a new hire enters a territory with a large, established book of business.)

One consideration is how you want to ramp the rep’s quota. Chris shares a theoretical example: Say you have a new rep in month zero, and their annual quota is $1 million of annual contract value. “Maybe their quota is 0% in Q1 while they build their pipeline, then it is 50% in Q2 and 100% in Q3 and Q4,” he said. “The draw policy supports them through the early phase.”

This phase is actually when you might revisit something you thought you would never introduce: a commission cap. Let’s say you have a rep who starts halfway through the year and they have an annual quota of $1 million that has been pro-rated to $500k for half the year. Then they are put on a ramping quota that scales the quota from $500k down to $250k.

“Then, boom, they get hot and close a big deal,” said Chris. “You could see someone absolutely crush a $250K quota.” In this case, you could cap the ramp plan and/or adjust your ramp pay curve which reduces the accelerator rate. “Someone with a large quota probably needs more acceleration, while someone with a smaller number probably needs less,” said Chris.

The Takeaway:

While every company must develop a sales rep compensation plan that is unique to its priorities and objectives, every organization faces questions about how to pay out bluebird deals, and ramp new hires with the right mix of guaranteed and commission compensation.

By using Alexander Group’s go-to-market services, your team can make smart decisions on these topics and ultimately build a stronger sales engine for your company.