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Effective Retail Salesperson Compensation Plans

Furniture World Magazine


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Why plans that seem like they should work, often don't.

Since this series of sales management features began almost a year ago, a number of Furniture World readers have inquired about the important issue of salesperson compensation. Instead of getting into a general discussion about how compensation relates to motivation, this article will review several common compensation plans. Although each seems straightforward, a more careful review finds that some plans may 'de-motivate' salespeople, overcompensate others and even serve to encourage poor customer service.

HOURLY PLUS COMMISSION VS. STRAIGHT COMMISSION
I have outlined two different types of compensation in the table below (see also a graphic representation on page 19). One combines an hourly salary and a 2% commission while the other is based on a flat 6% commission rate - both of which are very common in our industry. Of these two plans, I strongly favor paying salespeople based on a straight commission for reasons that will become apparent. I generally find that stores with salespeople who are not performing well pay their people an hourly rate plus commission. As you can see from the chart, salespeople earn the highest effective commission when they are performing at the lowest levels. As their sales performance increases, compensation rises very slowly. The fact is that hourly plus commission plans reward poor performance and basically punish strong performance.

This becomes apparent when you look at the break-even point in the table (the sales volume at which the monthly earnings and the effective commission from hourly plus commission equals that from straight commission). After the break-even point the effective commission rate paid under the hourly plus commission plan goes below the 6% paid under a straight commission. In fact there is actually an inverse relationship between sales performance and effective commission in all hourly plus commission plans. The more sales people sell, the lower their effective commission goes. It is obvious that this is not an effective way to motivate salespeople.

Another weakness of hourly plus commission plans is that (based on our table) salespeople make only an additional $200 for every $10,000 in additional sales. Under straight commission they would earn an additional $600. Although that extra $10,000 in sales for most salespeople is the hardest (e.g. moving from $30,000 to $40,000, $50,000 to $60,000 etc.), hourly plus commission plans do not adequately motivate salespeople to shoot for the next plateau. They lose only $200 if they don't reach that next plateau. It is such a de-motivator for high performance that I am never surprised when I go into stores that pay this way and find the average sales person selling between $20,000 and $25,000. It happens every time. Even if the salespeople haven't stopped to do the numbers they're generally earning between $20,000 and $25,000.

When it comes to professional sales, no highly motivated salesperson would choose to work for a company offering a salary/hourly wage plus commission.

% OF GROSS MARGIN
Commission that is paid as a percentage of gross margin has a diminished place in retail home furnishings. This plan is common in stores that allow salespeople to negotiate on the floor. It began when owners realized that some of their salespeople were abusing the right to negotiate and were simply giving the company's profits away in order to close a sale.

This method of compensation is a way for the store to get into business with the salesperson so they have joint responsibility for the profit on each deal. It also stems from an attitude that compensation changes behavior. While the concept seems good on the surface, this is not a customer-driven approach to running a sales business. Compensation should never be used to cut back or eliminate negotiations on the floor. Instead it should be handled through proper training and store policy.

Although negotiations will be discussed in next month's article, I will simply say that salespeople should not negotiate. If, on the other hand, you wish to continue the practice, then paying commission as a percentage of gross margin is likely a suitable way to pay people. Its biggest drawback is that it has only a marginal motivational effect. Stronger salespeople who sell at the higher margins end up being overpaid. They would sell at those levels regardless of the way they are compensated because they have the skills that allow them to do so. So, you are essentially paying them extra to do something they would do regardless, even at a lower commission rate. Conversely, lower performing salespeople who are negotiating to make deals happen are doing something with the customer that they don't need to do. If they had the proper sales skills, as their higher performing peers do, they would be able to sell the higher margin merchandise.

I often find out during salesperson interviews that those who are paid a percentage of gross margin often actually avoid low margin items. It's not in their interest to sell these items even though the merchandise may be an acceptable alternative for their customers. This is clearly not customer-driven behavior. Unfortunately, the compensation structure creates the behavior. It is not in the customer's interest for salespeople to have a financial incentive to suggest items that may not fit customers' needs.

Paying salespeople on a percentage of gross profit also causes bitterness between the merchandising department and sales. When merchandising buys goods that don't sell and management reduces the price, this cuts the margins, commissions, and likelihood that salespeople will try to sell the items. So the very thing that the management does to move merchandise, acts as a disincentive for the salespeople to sell it. The unwanted result is that low turning items end up living on the floor or in the warehouse forever.

By choosing to use this commission structure we punish salespeople for mistakes the merchandising department makes. It is the role of merchandising to buy and to price the goods. It is the role of the sales department to sell the most suitable merchandise for each customer at the ticketed price. The two departments should not share responsibilities.

SPIFFS
The spiff is another misguided form of compensation. Spiffs should not be used to move merchandise. Although it has worked in the past it is not customer-driven. Typically a sales manager or owner will put a $100 spiff on a slow moving item to be paid on top of the commission to the first person who sells it off the floor. If you do this, you are sending a dangerous message to your salespeople. That is, an item that was not an appropriate selection for a customer for the last several weeks or months has suddenly become the right solution simply because it has a $100 bill attached.

Instead of paying spiffs to the salespeople, merchandising should reduce the cost of the merchandise by the value of the spiff. Then, the customer, not the salesperson, can make the value judgment. Although a particular frame or cover may not suit her exact needs, a price sensitive shopper may perceive value in a piece because it is within her price range.

VARIABLE COMMISSION RATE BASED ON VOLUME
Stepped commission rates based on volume sold are also very popular in the furniture industry. For example, a store may pay 5% on sales up to $25,000, 5.5% on sales between $25,000 and 35,000, 6% on sales between $35,000 and $45,000, and 7% for sales over $40,000. While they seem to make a great deal of sense, these stepped commission rates are not motivating. Again this goes back to the mistaken philosophy that commission and compensation can solve that which is essentially a training problem.

Many stores use stepped commissions because they do not have a training program that can effectively help salespeople sell more volume. Instead they throw commission incentives at a their staffs. This does not work. If somebody is struggling at $25,000 and has never before been able to sell $40,000, you could double the commission for $40,000 and still get nowhere near the desired result.

Poor performance on the floor can rarely be attributed to the fact that salespeople are unmotivated. Low performers could very well be more motivated than their more effective peers. The difference is generally due to the fact that low performers are simply doing the wrong things.

When we give people sales incentives and they're doing the wrong things in the first place, they often end up doing the wrong things harder. This can actually degrade performance, promote frustration and hurt motivation.

On the other hand the people who continually sell above the highest commission threshold are actually overpaid. These people would sell at the same level even if paid straight commission. So, stepped commissions are not incentives for low performers or high performers. They do, however, have some marginal value for those salespeople in the middle. They're doing the right things but they need the added incentive to reach the next plateau.

The most important thing to keep in mind regarding stepped commissions is this: they give management a false sense of comfort. They believe that their incentive program is going to change behavior when the real issues are training, coaching and leading. Compensation will never take the place of effective management.

COMMISSION TIMING
In our industry commissions are most commonly paid on delivered goods because that's when the accounting department recognizes that the sale has been consummated. Believe it or not, I haven't got a strong opinion about when commissions should be paid. Paying commission or bonuses on delivered goods does have some clear advantages. Most important, it gives the salesperson an incentive to ensure that furniture gets into the customer's home. Because they're not paid until the goods are delivered, salespeople are more inclined to follow-up and handle problems that arise between the sale and the delivery.

Stores that pay stepped commission rates run into problems, however, when these commissions are based on delivered sales. Salespeople should not have their commissions impacted by any factor over which they have no control. They do not have the ability to control the schedule of transit or delivery, so it is a mistake to pay stepped commissions on delivered volume.

Consider this; deliveries that happen during a given month are typically the result, in varying degrees, of sales that were made the previous one, two, three, or more months. A truck arriving a few days early at the end of the month (which was expected the following month) could cause a salesperson to end that month with an unusually high delivered volume and receive the higher commission rate. This would automatically lower her delivered volume for the next month and she would receive the lower commission rate. Her compensation varies widely, but she has no control because the calculations are dependent on the timing of transit and delivery.

If you are going to pay stepped commission rates, to be perfectly in line with the motivational goal of this compensation structure, you need to pay on written sales.

There are other justifications for paying people on written sales. For one, it allows salespeople to know exactly how much they're going to make during a given month, especially if they make a sale at a critical time (e.g. near the end of the month). They also know that they will see the result of those sales in their checks as early as the following week. This cause and effect relationship has some motivational benefit (I instantly sell, I almost instantly get paid for that sale). The downside, however, is that there is no incentive for salespeople to ensure that the furniture is delivered.

One home furnishings retailer in the Midwest actually does not pay salespeople until they have telephoned each customer after delivery. They have to show written proof that they talked to their customers following delivery, and that those customers are satisfied with both their purchases and the service they received. This has been their method of operation since the store first opened its doors. I've never attempted to switch a store to this method because so radical a change would create anarchy on the floor. For a retail start-up, however, this would be one of the best ways to ensure excellent service and customer satisfaction. It would keep salespeople 'bought-into' not only making the sale, and delivering the goods, but also ensuring ultimate customer satisfaction.

Retail managers looking for some magic compensation formula that will motivate their salespeople should consider that the very best stores I work with pay straight commission. The combination of a strong training and sales management process supported by a good compensation policy will always yield the best results.


HOURLY PLUS COMMISSION VS. STRAIGHT COMMISSION EXAMPLE:

Monthly Sales

Hourly Rate $5.50

Commission
2%

Store
Pays

Effective
Commission

Commission
6%

Store
Pays

Effective
Commission

Difference
Between
Plans

 $10,000   $880   $200  $1,080  10.80%   $600   $600  6.00%   ($480)
 $15,000  $880   $300  $1,180   7.87%   $900  $900  6.00%  ($280)
 $20,000   $880   $400  $1,280   6.40%  $1,200 $1,200 6.00%  ($80)
 $22,000   $880  $440  $1,320  6.00%  $1320  $1,320  6.00%  $120
 $25,000   $880  $500  $1,380  5.52%  $1,500  $1,500  6.00%  $320
 $30,000   $880  $600  $1,480  4.93%  $1,800  $1,800  6.00%  $520
 $35,000   $880  $700  $1,580  4.51%  $2,100  $2,100  6.00%  $520
 $40,000   $880  $800  $1,680  4.20%  $2,400  $2,400  6.00%  $720
 $45,000   $880  $900  $1,780  3.96%  $2,700  $2,700  6.00%  $920
 $50,000   $880  $1,000  $1,880  3.76%  $3,000  $3,000  6.00%  $1,120

Ted Shepherd is the founder and CEO of Shepherd Management Group. The company specializes in changing the selling culture of furniture stores from merchandise-driven to customer-driven using an intensive hands-on process of consulting, training, and mentoring. For more information on the topics in this article contact tshepherd@furninfo.com.

Furniture World is the oldest, continuously published trade publication in the United States. It is published for the benefit of furniture retail executives. Print circulation of 20,000 is directed primarily to furniture retailers in the US and Canada.  In 1970, the magazine established and endowed the Bernice Bienenstock Furniture Library (www.furniturelibrary.com) in High Point, NC, now a public foundation containing more than 5,000 books on furniture and design dating from 1620. For more information contact editor@furninfo.com.