Tanner Montague came to town from Seattle having never owned his own music venue before. He’s a musician himself, so he has a pretty good sense of good music, but he also wandered into a crowded music scene filled with concert venues large and small.But the owner of Green Room thinks he found a void in the market. It’s lacking, he says, in places serving between 200 and 500 people, a sweet spot he thinks could be a draw for both some national acts not quite big enough yet for arena gigs and local acts looking for a launching pad.“I felt that size would do well in the city to offer more options,” he says. “My goal was to A, bring another option for national acts but then, B, have a great spot for local bands to start.”Right or wrong, something seems to be working, he says. He’s got a full calendar of concerts booked out several months. How did he, as a newcomer to the market in an industry filled with competition, get the attention of the local concertgoer?
1, All employees, including salespeople, come with costs. Clarify what each salesperson is truly bringing to your bottom line by going beyond numbers in a summary income statement.
2, Paying commissions based on gross profit instead of total sales helps hedge against heavy discounting, which helps close deals but can quickly erode the company profit margin.
3, Flying first class, constantly traveling and regularly wining-and-dining clients can win business, but also add to variable costs that can erode profit margins.
4, Any small business accounting software will allow you to generate an “Income Statement by Salesperson” report that can help you balance individual’s expectations and the company’s goals.
Using income statements to negotiate sales team compensation
Experienced salesprofessionals are tough negotiators. They will use those skills when negotiating a sales position or contract. However, the skills that make them star performers may also disadvantage a company in protecting its profitability.
A summary-level income statement doesn’t break down the bottom-line costs of acquiring new business. If increased revenue, or top-line, is the only trigger for paying out sales commissions or bonuses, this can sometimes result in eroding profitability through bottom-line sales costs.
What is your break-even?
All employees bring a cost to doing business. Salespeople may have special fixed costs as part of their role to attract and convert new customers. To clarify what each salesperson is truly bringing to the bottom line, break down the numbers by viewing fixed and variable costs per salesperson. Your fixed costs could include:
Base salary (paid regardless of sales volume)
Benefits
Depreciation on a company vehicle
Other negotiated perks
Say, for example, your total fixed costs for a particular salesperson are $250,000. Let’s also assume that the typical gross profit margin on sales is 20 percent. This means that the salesperson will have to generate $1,250,000 in sales before the company will break even on its investment. This is the reality before even considering commission or other variable costs. This calculation alone can assist you in setting commission structures. You will understand the level of sales required to achieve “break-even,” and therefore set the commissions to pay out only after the salesperson achieves break even.
In some cases, commission is paid from the first dollar of sales. If this is the case, the break-even sales dollars calculation changes a bit, as you can see in Figure two. That same salesperson from Figure one now has to reach $1,388,888 in order for the business to achieve break even because the business is paying 2 percent on every dollar of sales.
Other commission structures pay based on gross profit instead of total sales. This structure helps to hedge against heavy discounting, which helps close deals but can quickly erode the company profit margin. It also helps align the salesperson’s goals with the company goals — to maximize profit to the bottom line. In order to pay commissions on the gross margin model, you just need to have an accurate accounting of the gross margin on the jobs that each salesperson sold.
Variable costs can erode profits
As you explore your data, you may find that your star performers are costing you in higher-than-average overhead (flying first class on every flight, travel expenses, wining-and-dining prospects) while other great players are creating big opportunities with less month-to-month expense.
This is most apparent when reviewing variable costs such as travel, tradeshow expenses, fuel and entertainment per customer — all of which eat away at your profit margin. As you can see, this begins to create a full picture of the profitability of a particular salesperson by accounting for the variable expenses associated with that person’s approach to closing deals.
Of course, some companies make a conscious decision to incur some losses on the front end. This is common when a company is breaking into a new market or building a new book of business. If this continues to trend in the red after the agreed upon sales ramp-up, however, you may have a problem. Breaking down the income and expenses by salesperson on a regular basis will allow you to see not only the monthly results, but the lifetime trend or total of your investment gain or loss.
Having income statement trend data at your fingertips can ultimately assist in conversations to curb variable spending per salesperson. You may also choose to adjust your budget or renegotiate a specific compensation agreement. These decisions are critical when your sales team is pivotal to accelerating sales or helping to transition an owner out of the company. You need to balance each individual’s expectations and behaviors against the company’s goals.
Any small business accounting software will allow you to generate an “Income Statement by Salesperson” report. To identify trends and translate the data for those tough negotiations with your salespeople, you may need to seek a CPA level business adviser.
Be ready with the facts to back up your decision to adjust base pay or commissions while still providing enough incentive for your competitive salespeople to perform at their best. Use trending income statement sales data for mutual benefit of the sales team and the business for growth and higher business value.
