To make a splash in the marketplace, businesses will often establish a compensation system that rewards salespeople to take huge risks in exchange for the chance to earn huge sums. The practice is especially popular with venture-funded companies who are trying to maximize sales and grab market share in a short period of time. Research published in Kellogg Insight also associates these kinds of compensation models with the recent near collapse of our financial systems.
Dan Barron, an assistant professor of strategy at the Kellogg School, notes that performance contracts with a ‘threshold’ feature end up motivating employees to ‘game’ the system. Offering employees a bonus to sell products and services above a specific threshold can result in bad behavior. Barron asks, “Why should a salesperson put in the effort to sell more cars all month long when [offering] a steep discount on July 31st can result in the same reward?” The employee who needs just one more will slack all month, offer that discount on July 31, and qualify for her bonus.
Some businesses also use pay system models which ‘punish’ employees whose performance fall below a specific threshold. These models discourage gaming. At the same time, they also discourage employees from trying hard, because there is no upside potential in earnings.
The researchers contend the optimal model for performance is a linear contract. In these arrangements, employees are compensated for results. The more sales they make, the more money they earn. Harvard researchers also suggest that managers should remove any cap they might be tempted to place on commissions. Doing so can often discourage top performers from trying harder.
In today’s economic environment, you should also be considering a reward system and incentives other than pay. While individualized compensation plans, which allow for gifts, paid time off or types of non-cash rewards are difficult to administer, they are also highly appreciated by some sales reps.
When making changes to your compensation system, it pays to consider the likely outcome for your bottom line and implications for motivating your sales reps.