Determining Commissions for Independent Sales Reps
One of the most common questions involved with the hiring of independent sales reps relates to compensation. “How do we pay our manufacturer’s reps?” Fortunately, while there is no standard flat rate or easy answer, there is a very important guideline to keep in mind:
Nothing motivates sales better than an attractive commission schedule.
A commission-only position is the best way to pay sales reps, with the best method being a straight percentage of the sales price. While there are a few different ways to handle this, most sales reps tend to prefer a straight percentage based on the sales price.
If there are no fixed prices involved, a company might decide to go with a percentage of gross margin. It is worth pointing out, obvious as it is, that independent sales reps are in fact independent. They don’t work for your company, and don’t have much stake in what price a product sells for. If they have the flexibility to negotiate the final sales price, it makes sense to base commission on the gross margin, both to encourage your reps to try and sell higher, and also to prevent them from selling to low simply to close a sale. This is a way of providing your independent sales reps with a further level of investment in the well-being of your company and your products while maintaining them as independent.
With any sales rep you should enter into a marketing agreement which, among other things, should clearly define the commissions to be paid to the sales rep to eliminate disputes and hard feelings.
Depending on the industry, commission ranges can vary wildly. Other things that can influence commission include:
- How much customer service do your sales reps need to provide to customers? If you expect your sales rep to provide functions beyond simply training, assisting with installation, testing, and so on, you should raise your commission rates.
- Do your sales reps only provide leads, or do they close sales? Plenty of companies only require sales reps to bring in leads, and prefer to close the sale themselves, and act as account managers. This preference should probably reduce the commission rate to reflect the independent rep’s level of involvement in the actual sale.
- Does your product generate repeat business? When a principal’s line is disposable or consumable, meaning that repeat business exists, commission can often be lower unless it takes time to service the account, generally because the customer does not need to be sold on the product every time. You also have the option of offsetting the lower commission by paying a higher percentage or a bonus for the first sale to a new customer.
- What types of expenses tend to occur for new businesses? In many cases, the front end costs of acquiring new customers can be fairly high, and commissions should reflect this to ensure that sales reps receive an appropriate return on their investment.
In general, most manufactured products prompt a commission rate of anywhere from 7 to 15 percent. For percentage of gross margin, (sales price minus direct expenses) a standard range is anywhere from 20 to 40 percent. In the interest of increasing the incentive, often a principal will include a sliding scale based on the volume of business that is generated by any given sales rep. You will want to be careful to factor in support services. If additional business necessitates additional support services or inventory, that can play a role in the sales rep’s return on investment.
Most service based products that do not require manufacturing expense tend to have commissions that can run upwards of 50 percent. You’ll want to be very careful in these instances, as this can have a significant impact on your business! For service based products, reps can sometimes be under the impression that as there are no manufacturing costs, there is very low overhead. You need to make sure that you factor time expenditures into your commission schedule such that your business has a good return on its investment.
Commission splits are another important consideration. Sometimes territories are divided by geographical location, or by industry type. You need to define any provisions on commissions that come into effect if the independent rep sells to a customer outside of their territory. You should also define what sort of commission split your independent reps should expect if someone else sells within their territory. You can’t always anticipate these issues in advance, and it is very important that all independent sales reps always have adequate incentives to continue performing up to the expectations of their employers.