How much should you pay your sales people? 💰
Compensation Plan Guidelines included
You’re a SaaS company, you’ve deployed an outstanding sales process and recruited a team of A-player sales. In other words, you’re almost ready to have killer sales reps to close deals. However, an important question remains: how do you pay them ?
It’s quite tricky to find the right compensation terms to incentivize them in the most effective and fair way without any perverse effect. The devil is definitely in the details. That’s why it is crucial to envisage and anticipate them upstream in order to keep your sales team motivated over time.
We’ve endeavored in this article to compile best practices and main mistakes on this specific matter. We sincerely hope it will help you.
1/ Align your compensation plan with your business goals
Your compensation plan has so much impact on your sales team’s behavior that it must be fully aligned with your business goals, culture and specific objectives. Let’s go through them one by one.
As a B2B SaaS company, your key goals are :
- Book as much recurring revenue as possible
- Collect cash upfront / as soon as possible
- Upsell your existing customers
- Focus on your most efficient sales channels (direct, indirect…)
- Launch a new offer or business line
- Reduce discounts
Your compensation plan must integrate those key objectives in a simple way. It is important to note that sales managers and sales reps can — we would rather say should — have different compensation plans.
2/ What should you take into account in your commissioning ?
The different parts of your revenue are generally:
- Recurring subscriptions either new business or upsell
- Recurring services
- One shot services
- Churn or downsell
A sales person must be paid on what he or she has had a direct impact on, which for a significant share of startups is new business and upsell.
Whilst churn is a key metric for customer success, it generally is not for sales. The customer success team generally manages renewal, support and implementation. They have to be the good guys for your customers, and not sharks like sales reps. Their objective is based on a churn level. In some organizations, renewal is managed by sales farmers or key account managers. In that case, their compensation is based on the MRR variation (including churn).
In the case of young startups, sales reps are often in charge of new business and upsell and rewarded on selling new subscriptions or selling additional features to existing customers.
Services are generally part of the compensation plan but at a lower rate (see below).
3/ Pay on recurring, recurring and recurring
If you’re a SaaS company, recurring revenue is the pulse of your business.
That’s why your priorities are recurring, recurring and recurring. It means that sales should be paid on Monthly Recurring Revenue (MRR) or Annual Recurring Revenue (ARR) instead of bookings. It has to be the common language of your whole company. Your sales reps will have to grow the subscription volume over time.
Two ways to commission your sales reps :
- American plan : you define a commission rate for your whole sales team. It’s quite simple and really efficient. The standard rate for SaaS companies is to pay your sales rep 10% of ARR or one month of MRR. Regarding the services part of your business, a good practice is to incentivize with half the commission you give for recurring revenues, that is 5%. If you’re launching your SaaS business or if it is possible for you to use this method, we really recommend it.
- It’s not always possible to directly base your compensation plan on a rate of recurring revenue because perhaps you historically based it on bookings or because you have already established more complex calculations. In that case, using quotas is a good practice. Quotas are targets assigned to sales people as a required minimum to achieve for a specified period. They may vary according to criteria you define like level of experience (junior / senior). You can then deduce a commission rate from your quota.
Sales people often ask to base compensation plans based on booking, not on recognized revenue. We are not really supportive of this. You cannot have your entire company focusing on improving subscription and recurring and pay your sales team on ACV (annual contract value) or TCV (total contract value).
4/ Commission rates for sales reps, pre-sales and sales managers
Sales reps generally love money. They must be hungry. That’s why we recommend keeping a large part of the salary variable. A good practice is 50/50 or 60/40 (base salary/commission).
Sales reps variables could be divided into 3 parts max:
- Individual commissions tied to their own sales performance (main part)
- Team objectives (<=10%). The collective compensation is a great thing to notably improve your team spirit.
- Product or company stakes (<=10%) like a new product launch or the ability to forecast their business properly
A common practice is to establish a minimum percentage of variable to be achieved by the Sales Manager per quarter. For example, if he does not reach a variable part of 70% over the quarter, he does not get it.
Pre-sales : Is pre-sales team supposed to earn commission for sales ?
Pre-sales remuneration is not really divided into base salary and commission. Pre-sales are mostly fixed salary based and should not be paid too much on variable.
Why? Pre-sales represent the technical expertise and awareness. They have to be able to say “No, we’re not going to implement this project because it is too risky or too far away from our core competencies”. That’s why they should not be incentivized too much on sales. We recommend a 30% variable based on sales performance (1/2) and the quality of their work (1/2). This variable part should not be individual but collective to a Business Unit.
5/ Mono-year vs multi-year ? Is multi-year always better ? Not sure !
A common practice is to encourage sales reps to sell long term contracts and to implement it in your compensation plan. The rational sounds like : If they gain the same compensation for a 1-year contract, a 2-year contract and a 3-year contract, why would they want to complicate their sales process to close longer contracts ?
Multi-year contracts present both advantages and disadvantages for a SaaS company. Long term contracts look great because they seem to offer more stable revenue for your business.
In fact, it’s not entirely right. If the contract is paid upfront, it represents a great cash advantage and in that case, you should not solely commission the first year of the contract. For example, for a 3-year contract, pay the totality of the first year and half of the second and third years. However, clients often request discounts when it comes to long term contracts, which is not really good for your MRR, your key metric.
Let’s take the example of an imaginary SaaS startup. Its basic offer lets it gain 10k€ in MRR (that is, 120k€ in ARR). The company sales rep is negotiating a 3-year contract with a prospect. Great news, the prospect decision-maker is convinced by your product and is okay for a long-term contract, but only if they get a discount. A standard discount for this kind of contract is “pay 2 years, get 1 free”. It means your customer wants to pay 240k€ for 36 months, that is c. 7k€ in MRR. It’s quite witchcraft. Your MRR just moved from 10k€ down to 7k€ in a few seconds. But you’re thinking “that’s okay, I’m going to collect cash upfront, so I should accept the discount”.
Now, it’s time for the CFO’s validation. It happens regularly that CFOs finally refuse to commit themselves over a period of three years but want to keep the negotiated price. In that case (which is not so rare), in order to close a long-term contract, you’ve reduced your MRR and collected no cash upfront.
Okay, that’s the worst scenario but it does happen quite frequently. That’s why we are not really in favor of long-term contracts. It complicates your sales cycle, negatively impacts your MRR and disturbs you in monitoring churn.
Finally, the majority of SaaS B2B contracts are annual. However, even if it does not totally match your business, it could happen that you close deals for shorter than a 12-month period. That’s the case of POCs (Proof of Concept = test periods) often asked by corporates. In this case, the commission should be calculated in proportion to the number of months.
6/ Are minimum quota and accelerators really efficient ?
Sales quotas are targets assigned to sales people as a required minimum to achieve over a specified period. When a sales rep exceeds their objective, accelerators are applied, i.e. a double commission rate. Accelerators are established to encourage sales reps to smash their sales targets.
We are not really supportive of accelerators based on quotas and we do not recommend using them as they often bring about complexity and create negative side effects.
- People are always going to negotiate their quota down so they can hit the acceleration phase
- It encourages sales reps to gather deals aggregates; that is move contracts from one month to another in order to hit their quota and accelerator bonus
- Junior sales will want to stay in the “junior” bucket of your salary grid because if they switch to senior, they will not hit the acceleration phase
Therefore, we recommend basing compensation as of the first Euro sold to a customer and avoid floor values and limits.
However, accelerators could be considered to encourage strategic initiatives. For example, if you want to promote your indirect channel, setting up an accelerator for indirect contracts sounds like a good idea.
Don’t be mistaken. Think twice before implementing a new accelerator. Let’s come back to our previous example. Imagine you wanted to boost your long-term contracts and so you decide to offer an accelerator based on this criterion. In addition to reducing your MRR with discounts, you have to pay more to your sales team. That is definitely not the good deal.
7/ Pay all contributors to sales, without exception
Don’t be stingy! If you want to grow your business and achieve mass acquisition, pay all the actors (especially in B2B) that contribute to the closing of a contract.
A partner is an organization that works with you to market, sell and/or distribute your products. They are often consulting companies, integrators and Managed Service Providers (MSPs).
Do not hesitate to commission partners and your sales team. It’s quite healthy to double commission (partner and sales rep) when the deal is provided by a partner. If not, it creates competition between your direct and indirect channels. That’s not really good for your business!
However, selling directly to a customer you were previously working with through a partner should not generate any commission.
8/ Sales reps should own dedicated territories
We highly recommend assigning territories and/or industries to your sales reps. It will help them focus on key accounts and gain expertise on specific markets, making them more efficient and letting you or your CRM automatically assign new leads and accounts to your sales without creating any jealousy.
In fact, it is quite common to hear sales reps complaining “I did not hit my quota because this deal was assigned to X”. This is not really productive or acceptable.
At the same time, it is recommended to keep 20% to 40% of territories unallocated. This will allow you to easily handle the arrival of new recruits and it’s always nice to be able to cheer up depressed sales reps with free territories.
This ratio of unallocated territories should depend directly on your sales process. For inbound sales (incoming deals), you can have more dynamic allocation, i.e. assignment of new deals by the VP Sales over time. Regarding outbound sales (active prospecting), it is important to allocate as many territories upstream as possible to push your sales reps into a proactive approach and encourage them to actively prospect.
9/ How to compensate during the ramp-up phase
The ramp-up phase is the period it takes for a sales rep to reach full productivity after hiring. It is more or less the time they need to become fully operational. Knowing your ramp up time is crucial. That’s why we recommend that you first evaluate your ramp up period by crunching your historical data.
Thanks to this information, you should hit something like “in the first month, new sales reps reach 20% of a full speed objective, in the second month, 50%… and the fifth month, 100%” (these numbers are just examples and not really representative; it depends on your sales cycle).
Now, you have 3 choices to calculate compensation during this ramp-up phase :
- You pay as usual. Your commission rate is the same as that of a fully ramped sales rep.
- You guarantee variable for a determined period of time. Variable is acquired for the first 3 months.
- You incentivize significantly commission rate. During the ramp-up time, you’re paid 15% instead of 10% of ARR.
In practice, senior sales reps don’t hesitate to ask for guaranteed commissions. We do not however recommend this method as we prefer to increase the commission rate. It’s encouraging and much more challenging than the other options.
10/ A clear process to release the compensation
It’s really important that you precisely define and clearly outline in your compensation plan the minimum documentation and actions needed from your sales to gain compensation.
- No contract signed, no commission. As long as you have not retrieved the contract signed as well as the purchase order form with a billing number from your client, you will not allow any compensation.
- Opportunity not properly documented in the CRM = No commission. Merely writing it on your compensation plan should be sufficient.
- Kick off meeting is mandatory. A good practice is to encourage your sales to organize internal and external kick off meetings. It’s the first formal meeting with the project team and the client. It will facilitate the transfer of knowledge and information between sales, project teams and customer success. Commission is allocated to the sales rep only after that meeting. You can easily implement that technique with a checkbox “Kick off meeting” in your CRM that could only be checked by the project team.
You should detail what you consider an eligible booking in your compensation plan including your rules, policies and all approvals that are required (don’t forget to check out our compensation plan suggestions at the end of this article). Any exceptions must be approved by the management team.
Define when commissions are paid: sales reps are generally paid either each month based on the results of the previous month, or at the end of the month after each quarter based on the results of the last quarter.
You then have to deal with potential litigations with your customers. If there are a lot, it can mean that your sales reps are over selling and in this case, you can define some way to deduct commissions.
11/ Safety margins are always good when it comes to budgeting
A great way to anticipate any sales problem (like a sales person leaving) is to establish a safety margin in your budget. Let’s be clear, margins should not make sales targets unreachable or impact transparency too much within your sales team. It is therefore not a question of taking a safety margin at all levels (sales reps, sales manager, VP sales, budget, board) to prepare for failure but rather to anticipate any potential issues such as resignation or layoff. For example, if one of your sales leaves your team or does not perform sufficiently, that’s a huge problem. By having anticipated it in advance however, the impact is limited.
The market standard is a 20% to 30% safety margin. If you want to check how to integrate this margin into your P&L, feel free to check our previous post on SaaS budgeting.
12/ Take advantage of unexpected incentives at the end of quarters
A great practice is to give your VP Sales a dedicated amount of money to incentivize the sales team with bonuses whenever they consider it appropriate. For example, one of your products was under-sold during a quarter, the VP sales could decide to increase the commission rate from 10% to 12% for sales of this product or initiate a challenge where the winner gets a gift like a weekend away or a meal at a nice restaurant.
It is often used at the end of quarters to encourage sales to hit better results. The impact of those incentives is definitely great since sales reps are good players and love challenges. However, it is quite important not to mention it in your compensation plan and not to make it too usual a practice. If this happens, the effect won’t be the same.
13/ Contractual form
Every year, your compensation plan should be modified. Sales reps must be used to accommodating to your rules even if changes are minimal. If not, the day that you’ll change something, it will be a huge source of stress and not really a good thing for your business. It is very important to be supported by a lawyer to establish and modify your compensation plans and employment contracts to ensure that they comply with the law in effect at the time you establish it.
In France, two ways exist to make changes to compensations :
- You state in employment contracts that sales reps will have a variable part of X that will be defined in annual amendments. In that case, sales reps must sign them every year.
- The other method is that you state in employment contracts that sales reps will gain a variable part non-contractually determined and will be subject to annual mailings. In that case, amendments don’t need to be signed every year by your sales reps. We really recommend that you use this method as it is the easiest way when all your sales reps have the same compensation rate.
Be careful, this is not the case in the USA. All amendments must be signed by your employees.
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We really hope it helped you build your compensation plan.
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Other interesting reading
If you’re a startup founder, you might also be interested in these resources that we made just for you :
• How to ace your SaaS budget (with a free excel model)
• A Board deck template to impress your shareholders
• The guide to implementing a CRM in less than 6 weeks
• The Sales process explained step by step
About Serena Capital
We are a capability-driven investor, bringing operational value to our portfolio companies and to the ecosystem.
Find out more at www.serenacapital.com