The challenges of sales commission functionality

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    Written by HarmonyPSA on 2019-10-07 Last updated 2019-10-07 - 3 minute read

Every business blog needs to find a reason to include a cat picture - everyone likes cats, right?

So here we go, a business blog featuring a cat in a box.

You may have heard of the 1930s thought-experiment called Schrödinger's cat.

If not, Schrödinger postulated that a cat in a closed box could either be alive or dead and the only way to determine the state of its health was to open the box and observe it.

Until that point, it existed in a state of probability, indeed for reasons beyond the scope of this weak excuse to include a cat picture, Schrödinger decided that the cat in the box exists in two states simultaneously. In fact, it is both alive AND dead and it is the act of observation that collapses that probability to a conclusion.

Something to do with wave/particle duality or maybe quantum entanglement?

How on earth can this possibly be related to sales commission functionality in a PSA tool?

Well, we are frequently asked during the sales process, “Do you support sales commission calculations?”

The answer is no, and for the same reason we don’t know the state of the cat.

The enquirer has a very clear vision of the particular sales commission model they wish to report on. They are looking at an open box with just one state in mind.

As a vendor, our box is closed, but instead of there being only two conclusions available; for sales commissions, there are more or less an infinite number of states.

The problem actually breaks down into two dimensions:

  • the value of the commission; and
  • the timing of the payment.

Calculating the value is relatively simple for ERP systems selling goods: just use a % of the sale minus the purchase price, i.e. margin. This is easy, we can do this. But add in professional services time and term service contracts and the model suddenly becomes quite complex.

Some core modelling parameters to take into account when assessing the value include:

  • For professional services time, what is the cost of goods needed to calculate a gross margin? Average staff cost rates don’t really work for all cases as an assignment with a very expensive employee would then over commission. What if the delivery needs to substitute a contractor at a higher marginal cost - do you claw back commission? How do you deal with change orders, extensions etc, that the sales person was not involved in? What if the professional service time was discounted to win the work and actually lost money (it happens…)? How do you deal with pre-payment sums? How do you treat rate card agreements that have zero day 1 value? What about deposits or contingent billing?
  • For service contracts, is it based on the annual value, or the term value (this matters hugely if the term is monthly recurring)? What if it is a volume agreement - is it based on an estimate, or actual billings? How are early termination rights catered for (annual agreement with quarterly cancellation)? How are service expansions during the term catered for? For outsourced services, how do you deal with the difference between expected and actual (realised) margins?

Agreeing the right value is tough, even before we consider the additional complexities arising from multi-currency sales and withholding tax.

Timing is perhaps even more complex. Under ASC 606, revenue and cost recognition are key. Should these considerations also be included in commission calculations? Logically, yes, but then how does this work with a sales team used to upfront payments? If I’m commissioning on award (no matter how I calculate the value) do I have a right of return related to revenue recognition and associated delays, cancellations or projects placed on hold?

Basically, three models are available to deal with timing:

  1. On award
  2. On cashflow (i.e. invoicing)
  3. On recognition

Certainly the dominance of term contracts (replacing hardware and perpetual license agreements) have confused the picture and made sales incentives harder to manage.

This is a complex area and while the customer may have a very clear view (or believe they have such a view), as a vendor, the model is functionally open-ended and so extremely hard to code.

Our answer is to provide clear, simple and complete access to the complex data needed to make these calculations, rather than deliver the answer. That way the calculation is built on the rock of a fully congruent transaction lifecycle model, delivering all the information necessary to adopt and adapt any model our customers choose to use. This even includes revenue recognition and contract profitability by period. Most importantly, we deliver a single source of the truth to base your model upon.

To return to the cat: Harmony provides the box, you open it.

Read More

How to model channel sales correctly    

 

About the Author: Harmony Business Systems Ltd (HBS) is the company behind HarmonyPSA, the most complete cloud PSA software on the market. Developed with functionality to cater for even the most complex needs of MSPs, VARs, ISVs and Professional Services organisations, HarmonyPSA truly is the next generation of PSA systems. HBS is an independent company based in the UK. Follow HarmonyPSA on , LinkedIn or Website


Tags: managing channel sales, profitability, Managed Services Providers

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