www.inddist.com March/April 2016 / INDUSTRIAL DISTRIBUTION 21
exceed gross profit for these sales so the sales rep makes
more money; 3) actual company costs remain roughly the
same, and company has fewer gross profit dollars to pay
its bills; and 4) net profit at the company level declines.
This, in a nutshell, is the reason I haven’t been much of a
fan of paying sales reps on net profit.
A Better Approach
That said, the reasons distributors are looking at net
profit as a potential basis for paying salespeople are legitimate. Voodoo accounting or not, we all know that a $5
order at 30 percent gross profit delivered to a customer
in the next county is a money loser. This deficit is further
amplified when a salesperson is also paid a commission or
gets credit toward his gross profit bonus goal.
The goal of better aligning sales rep pay with the economics of the business is an admirable one.
The good news is that there are ways to incorporate
key profit drivers into a sales compensation program
without taking the full territory net profit plunge. One
approach is to eliminate the allocation of costs that are
truly unrelated to transactional volume and focus in
on costs that could be justifiably incurred as a result of
the transaction. Delivery, warehousing labor and order
processing costs would fit this description. It’s true that
warehouse labor and order processing costs are people
costs that come in increments of tens of thousands and
not tens of dollars, but staffing levels for inside sales and
warehouse are much more elastic than IT system adminis-
trator or CEO.
A rudimentary analysis can quickly lead to a cost-per-order for warehouse business and direct business.
Applying this cost to every order to arrive at a commissionable gross profit or incorporating a minimum order
for commission can better align sales rep rewards with
company profitability. If done properly, this approach
can nearly eliminate the “shrink to profitability” dynamic
because actual costs would be avoided if the orders were
not taken. Furthermore, if a portion of a rep’s business
were not commissionable or the amount of gross profit
on which commission were paid were reduced, growth
would be required to make more money (and profitable
growth at that). As a result, the “sell less, make more”
scenario wouldn’t exist.
One potential issue with the minimum-order or order-charge approach is that inevitably the impact will vary
by sales representative. For some reps, the impact will
likely be miniscule, while for others the impact could be
significant. In these cases, using a multiplier approach to
facilitate a level playing field may make sense.
The multiplier approach can be used many different
ways. Goals or budgets would be established for each
sales rep showing improvement on identified key cost
drivers, and performance to this goal would regulate
incentives that are otherwise paid on gross profit dollar production. For example, if order size is identified as
a key cost driver, those with the lowest average orders
would be expected to show the most improvement and
have a goal set to that end. Missing the goal would result
in a lower commission rate than is currently being paid or
a 10 or 20 percent reduction in bonus earned depending
on the structure of the existing incentive program. There
are many options.
In the past few years, technology has made it much
easier for distributors to analyze and model data in ways
that previously were arduous and often impractical. With
these tools, distributors have an opportunity to analytically understand profit drivers like never before. Distributors
should be prudent in using this new-found knowledge.
And when it comes to sales compensation, the consequences can be severe if applied unwisely.
Mike Emerson is a Partner
with Indian River Consulting
Group ( www.ircg.com). He
has worked with hundreds of
distributors and manufacturers,
specializing in sales compensation design. He has authored
four books published by NAW.
Reach Mike at memerson@ircg.
com or call 321-956-8617.