What is Variable Pay When it Comes to Compensation?
Variable Pay Compensation Definition
Variable pay is the portion of compensation determined by employee performance. When employees hit their goals, variable payment is provided as a type of bonus, otherwise known as incentive pay or commission. Base salary, on the other hand, is fixed and paid out regardless of employees meeting their goals.
Together, incentive compensation and the fixed portion of an employee’s salary make up what is known as pay mix, with many companies offering some type of base and variable pay program.
How to Implement
Definitions aside, a variable payment plan is simply what inspires sales reps to hit their quotas each period. By rewarding or paying for rep performance, you are establishing a direct link between results and pay, which is one of the best methods companies can use to motivate sales teams to hit goals. And it’s more than just sales variable pay programs, with organizations turning to incentive-based measures for added inspiration for all employees.
Variable compensation pay is an amazing motivational tool, but it can certainly miss its mark without proper implementation and setting the correct pay mix. If your sales team is given opportunity that weights too heavily on incentive payment, you run the risk of encouraging reps to work independently, and perhaps shy away from taking chances for the organization. Too little variable performance pay and sales reps may not be inspired enough to work at high levels.
To effectively manage your system, here are a few tips when sorting out your compensation strategy and developing sales compensation plans:
- Incent based on a salesperson’s degree of control. If reps enlist help from other staff or your brand’s positioning does most of your selling, incentive compensation can be lower than when reps influence a sale entirely on their own.
- Variable incentive compensation should be based on individual achievement. Sales reps should be held accountable for things they can control. Placing an individual’s pay at risk based on team results may not be seen as fair, and could lead to increased turnover.
- Avoid a skewed variable pay system. As mentioned previously, if incentive comp makes up too much of a sales person’s salary, you can create independent operators who may be unwilling to take direction. Starting with a 50/50 ratio is a good base for most plans, with regular sales performance reviews and tracking to reassess.Sales team roles often determine the level of variable pay incentives. For instance, variable pay is greater when you have more control over results. So, an account executive will usually have the highest variable pay level on the team, and more than say a customer success rep, because the AE has more direct influence on the deal closing.
Download our guide, "Designing Sales Compensation Plans," to learn how to use incentive comp to inspire your teams to perform above and beyond the competition.
Again, This is Not “Sales Only”
Well, there was once a time when the different types of variable pay, whether they be bonuses or incentive payments, were perks only sales people enjoyed. But today, that simply is no longer the case. Various job roles and industries are now using incentive compensation to drive the behavior they want from their employees. Truck drivers, merchandisers, and wedding planners (to name a few) are some of the unexpected positions that are being compensated using compensation management software solutions. The more business leaders realize variable compensation pay motivates their people, the more they are willing to offer such bonuses to more or all company employees, and not just those in the Sales department.
According to a WorldatWork article by Ken Abosch, “The projected salary increase budget for U.S. Corporations for 2015 is 3% of payroll, whereas the projected variable pay budget is 12.7%. This level of projected spending is close to the lowest reported historically for salary increases, and yet the highest on record for variable pay.”
At a time when the needle is barely moving for base salary, and the incentive pay spend is over 12%, companies can’t ignore the impact that incentive compensation has on corporate goals and strategy.
Abosch asserts that, “Variable pay is also effective at focusing employees on critical goals and initiatives and in encouraging them to change their behaviors. Academic research studies from prolific authors such as Barry Gerhart and Sara Rynes show significant increases in productivity and quality when variable pay arrangements are put in place. Employees like being eligible for variable pay, and perceive that they have greater control over the outcome of their bonuses than their salary increases. Investors have expressed support for organizations where employees have “skin in the game” by having some of their earnings at risk in a variable pay plan.”
Which leads us to…
The Impact of Variable Performance Pay
Winning companies are well aware of the positive benefit of incentive pay, and aim to offer competitive compensation in order to reduce turnover while retaining top talent. It’s also why, according to the Society for Human Resource Management, “The percentage of organizations using variable pay vehicles, such as annual or quarterly bonuses based on individual, team and organizational goal achievement, rose to 84 percent in 2016,” as stated in WorldatWork’s 2016-2017 Salary Budget Survey. This is an increase from the 80% of previous years.
But how do you know how your practices compare to others in your peer group? And, what would you do with such valuable information? For starters, you’d be able to tell if you were paying less than others in your vertical, or more. But then what?
According to Xactly Insights, smaller companies paid 46% more in incentive compensation than larger companies with comparable quotas. So, smaller companies paid an average of 54,787 in variable compensation, while those larger companies ended up paying just 33,777. If you’re one of those smaller companies with variable incentive pay far below industry averages, the mystery of why you’re losing losing some of your top performers might have just been solved.
Again, it’s all about balance. Relying on commission only introduces difficulty in measuring sales performance beyond what the numbers are telling you. With a portion of fixed pay, you’re directly influencing how reps go about completing administrative tasks and how they’re going to work with the rest of the sales team. This is the main point of concern when it comes to holistically handling performance and the overall competitiveness of your sales compensation plans.
Designing Sales Compensation Plans
With careful consideration and strategic design, you can use incentive compensation to inspire your teams and empower them to perform above and beyond the competition.