Tuesday, May 30, 2017

Compensation/Commission Thoughts from Daniel Pink

In case you haven’t noticed, we have been doing a lot of research on the topic of commission-based compensation plans.  During the discussion, topics from Daniel Pink’s Drive, The Surprising Truth about What Motivates Us keeps coming forward.  I recently re-visited parts of the book and wanted to share a few points to further ramp up the discussion of the matter.  

The common belief is summarized by Pink this way:  “Rewarding an activity will get you more of it. Punishing an activity will get you less of it.”  This certainly falls in line with the sentiments of distributor managers.  When we asked the question,"Why do you employ commissions with your sales department?" the answer came back to drive both quality and quantity of effort (in that order.)  One-on-one examination of many plans revealed instances where distributors had applied greater rewards for selling select groups of products as well as rewards for selling into poorly performing or inactive accounts. 

Pink went on to site research done by the University of Rochester’s Edward L. Deci which states:  
“Careful consideration of reward effects reported in 128 experiments lead to the conclusion that tangible rewards tend to have a substantially negative effect on intrinsic motivation.  When institutions – families, schools, business and athletic teams, for example – focus on short term and opt for controlling people’s behavior they do considerable long term damage.”  
The intrinsic motivation referred to is the person’s internal drive to make things happen and achieve success in the work environment.  This is the opposite of the extrinsic motivation which comes from outside, i.e. the manager.

Looking further, Pink quotes from a London School of Economics study: “We find financial incentives… can result in negative impact on overall performance.”  This seems like a real bummer for those of us who have heavily invested in commission plans through the years.  

The Starting point in Motivation
The starting point for motivation is a fair and equitable salary.  Here the author refers to what one of the distributors we interviewed called the “Current Market Value of a Salesperson" possessing similar skills.  If an employee feels as if they are being shorted by the organization, it creates distractions.  These distractions, even in their most benevolent form, result in under-performance.  In the worst case, under compensation results in loss to a competitor. Your organization, however, doesn’t need to have the highest compensation in the market.

OK now what?
“Any extrinsic reward should be unexpected and offered only after the task is completed…” says Mr. Pink.  This is exactly the same advice long given by management expert Ken Blanchard; catch someone doing something right, as a tool for employee empowerment.  Both of these experts go on to state that intangible rewards work; often better than money.  Formal recognition and compliments on a job well done join fun awards as motivating tools.

Pink goes on to state that “providing useful information,” which describes how the work impacted the situation, can be a major motivator.  Here, an example might go something like this:  “John, the work you did introducing this new product goes way beyond a simple sale.  This product is part of our overall strategy for breaking into a new technology in the market.”

How does this apply to distribution?
Most distributors cling to a half century old compensation model throughout their sales department.  Change is tough.  As a matter of fact, most distributors recognize a lack of performance and candidly admit their plans often don’t drive the right kind of behavior.  Band-Aids have been applied, but largely we’ve played “kick the can” postponing the inevitable.  In spite of research and other evidence to the contrary, sticking with commissions.

Make no mistake, changing compensation plans comes with inherent risk.  The wrong move can create internal strife and many times can result in loss of scarce and valuable talent.  Unpredictable behavior by management scares the heck out of employees.  Making any kind of change without a researched and well thought-out plan is not advisable.  Now, while times are good, is the time to begin the decision making process.  

In the meantime, there are some steps we might consider to garner trust and support within our team.  Here are a few thoughts:

Set reminders to “Catch someone doing something right” and create a habit of rewarding the right behaviors after the fact.  Be specific as to the reason for the reward and why you feel it is worthy of praise.

Many companies honor someone on their team via a “President’s Award” or other annual award.  At the same time, we hear the award often goes to the guy with the highest sales numbers or largest commission check.  This is not a problem, as long as the recipient also follows company process, encourages the right cultural behavior and sells the right stuff.  Awards based on sales “tonnage” alone should be reconsidered and avoided.

Up the ante on information provided.  Sellers need to understand not only what is expected of them but why certain behaviors are important to the company.  Arguably, and I say this because I know a number of successful folks who are not this way, Baby Boomers were receptive to following orders and “getting the sale” at any cost.  The next generation doesn’t see things this way.  They need to understand the reason behind the instruction.

Allow me to leave you with a final thought from Drive.  Employees respond to culture and culture is never exclusively about profitability.  Instead, profitability is a by-product of the right atmosphere.  While one of the purposes of a distribution business is adding to the bottom line, there is more to the equation.  Our style of business improves customer productivity while creating a stronger local economy.  Our business serves the employees; good paying jobs, opportunities and career advancement come to mind.  We also sponsor little league teams, scout troops and contribute to local charities.  We are the pillar of the main street business you hear about on TV.  We have a purpose and a higher calling which extends into the future.  Getting our compensation model right is a critical component of making it all happen.  

If you don’t have a copy of our white paper comparing the major compensation models in the wholesale industry, drop us a line, we’ll be happy to send it your way.   As always, there is no obligation, no sales pitch and we promise not to fill your inbox with emails.  

Tuesday, May 9, 2017

Our customers need our services. If you don’t provide them who will?

Last week I was honored to lead a discussion on fee-based
services at the Association for High Technology Distribution (AHTD.org). For those of you not familiar with the group, allow me an introduction: AHTD is the trade association for distributors, Automation Solution Providers and manufacturers providing a long list of technical “products” (things like programmable controllers, software, sensors, motion control, machine vision and robotics) into the North American manufacturing segment. It’s a highly technical group and literally all members provide some very expensive products and service bundles.

Historically, the members of this group have provided a wide array of both technical and logistical services to their customer base. Most openly admit salespeople are the gatekeepers for these services. Further, management oversight of service deployment ranges from “informal” to “talked about it in a sales meeting last year.” Ironically, even companies with well-developed turnkey service business (where fees are the norm,) still had little direct control over sellers deploying technical resources for non-project business.

Costs are going up…
Costs of newly graduated engineers track at somewhere around $60,000; not counting travel, training and benefits. Without exception, the group felt newly minted engineers did little for their business and required many months “before they could impact the business positively.” Even with the cost of service is going up, only a few distributors took the time to proactively track the expenses on a per customer basis.

The Whale Graph of Customer Profitability
According to industry experts, “More than a third of a distributor’s customers are costing you 45% of your profits.” I believe for the high-tech and high-touch distributors the number is higher. The graph looks like the one below:

Basically, the long tail of customers, representing approximately 50 percent of customers, cost more money to service than their gross margin justifies. Simply stated, these accounts generate negative bottom line profits. In an environment where sellers determine who receives free services, there is no throttle on the amount or type of services offered.

Commission structures, which the group agreed were based on gross margin, may actually encourage sellers to do “whatever it takes” to make the deal without regard to actual profitability.

If the distributor doesn’t provide the service, who could?
Midway through the presentation, we asked the attendees to list the types of services they provide and identify who might do the services if they somehow went away. The list of services was extensive; this was no surprise. But the answers to the “who could” question were quite eye opening. Here is an unweighted summary:

1. Some customers could do the work internally, but might need to add additional staff.
2. Systems Integrators could handle the work, but some might need training.
3. Engineering firms could do the work. Again, additional training might be required.
4. Supplier/Manufacturers could provide the services. But often the resources would need to travel from headquarters or the factory.
5. A few competitors might be able to provide the services.

The interesting point in the first four responses is this: 1-4 all would be fee based. Further, most are just a bit iffy. Unanimously, the distributors felt they had quicker response times and were generally better at solving the problems than the other options. Let’s do a quick review of why this situation exists.

Customers could do the work internally
Industry trends point to customers preferring to operate in a very lean environment. Most have consciously decided that maintaining large engineering departments and qualified technicians is not a good use of their budget. Further, the demographics of America’s workforce point to issues in finding, training and retaining the right folks needed for rare emergencies. This is highlighted in a recent Plant Engineering Magazine survey of North American Manufacturers where the average plant outsources 20+ percent of their maintenance work.

Systems Integrators might provide the services
For those not familiar with the System Integrator business model, these are organizations who earn their living providing engineering services in the manufacturing sector. Generally, they are called upon to assist customers who lack sufficient internal resources with automation upgrades. Most specialize in control system design. Experience indicates the majority prefer to do larger turnkey projects versus providing short duration onsite assistance. Some have candidly commented they struggle to make money on projects billing anything below $40,000 in labor.

Several of the distributors attending commented Systems Integrators sometimes struggle with newly released technology. Further, many specialize in a few of the major automation equipment maker’s products which often require outside assistance from the distributor to make things work.

Consulting Engineering firms might do the work
Consulting Engineers mirror the efforts of the Systems Integrator with the exception of typically providing a wider range of engineering based services. Previous efforts indicate these folks are both more expensive than systems integrators and often favor larger projects.

Supplier/Manufacturers could theoretically provide the service 
Most of the major makers of automation equipment offer up some kind of technical service. There are two issues associated with acquiring service from these sources. First, technical expertise tends to be centralized; often housed at the factory or headquarters location. This translates into lost production time for the customer and travel expenses tied to the service. Secondly, while the technicians are well trained and capable, they frequently lack experience with integrated systems which take advantage of the best of several suppliers. Communications between the equipment of several automation manufacturers often requires this expertise.

All of these potential providers of service come with a price tag.

Can competitive distributors provide the service?
The final choice does provide a bit of a pause in our reasoning. Can a competitor really provide the service? The answer is maybe. However there are a number of issues to ponder. Let’s explore:

• The competitor may not know your customer’s installations and applications as well as your company. This translates into a steep learning curve on many of the services provided.
• The competitor may not have access to the same product lines. Again, this implies both a learning curve and a lesser quality of service.
• The competitor may not have the same quality of resources. This is very often the case with larger logistics provider types of distributors and remote outpost branches of larger chains. When downtime and productivity are involved, the customer knows the difference.

Summarizing these points leads one to believe the addition of fees to some services is both warranted and arguably, risk free. Referring to the “whale graph” shown earlier, one must wonder what the impact of moving an account with negative profitability would be for distributors. Additionally, what might happen if a competitor accidentally acquired a negative profitability customer.

A funny thing happened on the way to the bar…
Immediately following our time together at the meeting, the AHTD group hosted a great ending reception. The weather
was perfect, everyone was relaxed and the message had soaked in. Then it happened, one-by-one, a half dozen distributors walked up began sharing their stories. Lots of service provided. Extensive support staff. No fees currently being charged. These stories came with a resolve to go back and make something happen.

Since I had billed the presentation as “A License to Make Money,” I asked them what the impact to their business might be. The minimum amount mentioned was north of $60,000. Here’s a portion of that conversation: “We have three application engineers on staff. Currently, we do absolutely zero in fee-based service, but we’re consistently busy. Sometimes, I cringe when I hear the places we go. I’ve heard of others charging for their service, but we never pulled the trigger. After thinking more, I believe I will require each of these engineers to add fees to just ten percent of their time. That works out to something like 600 hours a year at $125 per hour with a total of $75,000 in added revenue. We’ll probably end up $60,000 ahead out of the gate.”

Before we sign off…
Quite frankly, I can’t imagine any distributor not assigning a value to their service and recouping at least a portion of the expenses tied to the service. While I personally believe ten percent is a bit low, it is a start in the right direction. Another point to consider is the typical return for a distributor runs in the 4 percent range. So, to add the same amount of money to the bottom line would require a sale of between 1.2-1.5 Million dollars. Demonstrating fee-based services really is a license to make money.

If you want to talk about your opportunity to move from free to fee, shoot us an email or give us a call.

Wednesday, May 3, 2017

Frank Hurtte Talks about Distributor Compensation

Last month one of Frank’s Articles was featured on the front cover of Distribution Center Magazine. They liked it so much they decided to do an interview with Frank. Here are his personal comments:
“Videos not only make you look ten pounds heavier, they make you look 100 years older. I guess my chances of becoming a key contributor to Fox News are pretty limited, so I’ll be hanging around the world of knowledge-based distribution for the foreseeable future.”

While we had better not comment on the 10 pounds or 100 years, we do feel like many of our readers will enjoy seeing the interview.