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The Most Common & Costly Mistake Made With Sales Compensation

by Doug Davidoff | Jun 25, 2020 4:00:00 PM

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COMPENSATION. DOES. NOT. MOTIVATE. (With one exception.)

I know right now there are three groups reading this blog. The first group sees my statement above and either already knows that or is relieved because they’ve always believed it and are happy to see someone who agrees with them. If you’re in this group, you can skip this section or continue reading to learn why this is and how to manage it when implementing sales compensation programs.

The second group is surprised, intrigued, or skeptical. Those in this group should continue reading and see how they feel when at the end of this point.

The third group radically disagrees with me and thinks I’m either naive, foolish, or stupid. I ask this group to read on and ask “What if?” as they read. Please note, there was a day (not that long ago) when I was in this group. I firmly believed that compensation motivated, and thought I was exhibit A to prove my point (As a sales rep, I’ve always loved heavy commission programs, because I made more money with them.) 

As I started advising a broader set of sales organizations, I began to see the compensation and incentive programs produced highly varied and unpredictable outcomes. Salespeople rarely behaved as was anticipated. We doubled down on compensation design, and while changes would often lead to a quick burst of improvement, over time nothing really changed. This led me to challenge my belief, and as the saying goes, there’s no zealot like a convert.

As I share my thoughts here, I’ve made the decision to write this as a narrative, rather than an academic dissertation. Trust me, everything I share here has been deeply researched. If you’d like to read more about the science behind my thoughts I’d encourage you to review Thinking, Fast and Slow, Start at the End, Nudge, Drive, or just about anything written by Daniel Kahneman, Amos Tversky, or Richard Thaler.

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The Exception: When Compensation Motivates

A basic tenet of behavioral economics is the observation that people think of value in relative, not absolute, terms. The less someone has of something that is important, the more they value each incremental unit. As they gather more, the same incremental increase produces less joy. Think of it this way, if I were to give my 19-year old daughter $10,000, it would feel life-changing to her. So, I could use a $10,000 payment to motivate her to do something exceptional. However, if I were to make that same offer to, say, Jeff Bezos, it wouldn’t have much impact at all.

Commissions will motivate salespeople who are making less money than they feel they need to be making. When I first got into sales I had a sales manager who always encouraged his best reps to buy new homes, new cars, and just about anything that would create an additional monthly payment. When I asked him why he did that, he responded candidly, “As long as your monthly payment is larger than your draw, you’ll stay motivated.” 

Compensation motivates salespeople (or anyone else for that matter) when they have a lack of money. That’s the exception.

When Compensation Motivates, The Business Is In Trouble

There’s a major problem with this type of motivation - it’s based on fear. It appeals to a person’s most basic emotions - it’s reptilian. It’s “survive or die” motivation. 

When someone is operating in this environment their judgment is impaired. Shortcuts, unethical, or even illegal, are easily justified. Good people do bad things. Here are some prime examples of this:

  • Wells Fargo banking fraud
  • Car dealerships (especially in the 80s, 90s, & 00s)
  • VW’s green diesel fraud

Dozens of studies have demonstrated that when people expect to receive a reward for completing a task or for succeeding at a task, they do not perform as well as those who expect no reward at all. These studies examined rewards for children and adults, males and females, and included tasks ranging from memorizing facts to creative problem-solving to designing collages.

Understand Why Companies Paid Commissions In The First Place

Let’s take a step back, look at history, and understand why commissions came into existence. 

Commissions became common when companies (typically manufacturers) allowed third-parties to represent or sell their products. These people and companies became what was known as manufacturer’s representatives (MRs). They typically represented multiple manufacturers and served as a distribution channel for manufacturers. 

The business rationale for MRs was very simple:

  1. Using MRs was less expensive than building a direct sales team
  2. MRs were a lower risk option

How were they lower risk? They only got paid when they made a sale because they were on commission. No sale - no cost.

Commissions are, inherently, a risk-mitigation tactic. Using them to incentivize or motivate behaviors simply isn’t going to work.

The Role Compensation Plays In A Sales Organization

All of this is not to say that I’m against commissions, variable compensation, or other rewards systems. Actually it’s quite the contrary. I’m a HUGE proponent of variable compensation plans. 

role-of-compensation

The simplest, fastest, and clearest way to communicate what matters to an organization is the comp plan.

I’m very careful when designing, implementing and adjusting compensation programs because the sad truth is that your comp plan does very little to encourage the right behaviors - these are driven far more by the underlying structure, scoring, and management of your organization - and it can do a whole lot, probably more than any other action you take, to create conflict with the behaviors and outcomes you desire.

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