SPM and EIM – excellent new article!
Any of my Blog readers who know me personally probably know that I was employed by a leading SPM (Sales Performance Management) software vendor for three years up to my layoff last July. SPM used to be called EIM (Enterprise Incentive Management) before Gartner redefined the segment with an SPM Magic Quadrant chart a few years ago. In any case, I have done a couple of consulting jobs since last year and I try to keep current on the theory and application of SPM as well as the application and implementation of the underlying technologies.
I just ran across an article that everyone involved with incentives and compensation should read. I think we all should keep an eye on it’s author, Randall Bolten, because of his experience and his excellent no nonsense philosophy about “the importance of presenting financials and other quantitative information in a cogent and effective way. He believes strongly that doing this well is a communication skill, and not a black art practiced by the ‘numbers guys’.” Mr. Bolten’s perspective comes from financial executive assignments and CFO, for public companies BroadVision and Pheonix Technologies, Corporate Controller at Oracle and financial management positions at Tandem Computers.
Randall Bolten is the CEO of Lucidity, a consulting/coaching practice focused on enterprise finance tasks such as incentive compensation plans, reporting packages, and business models. e has an MBA from Stanford and an AB from Princeton. He is the author of the forthcoming book, Painting with Numbers: Presenting Financials and Other Numbers as if You Were Actually Trying to Say Something, and write posts periodically about the hot numbers-related topics of the moment on his website, www.painting-with-numbers.com.
The recent article I think is so important is on the site 121 Silicon Valley, Inc and it is titled, “Avoiding Moral Hazard in Comp Plans” and I have included it below.
Avoiding Moral Hazard in Comp Plans – by Randall Bolten
When designing processes and setting goals and objectives, there is always at least some element of moral hazard. That’s why in business and any other walks of life, the players aren’t allowed to be the scorekeepers and vice versa , even though the great majority of us are fundamentally honest and ethical. And when it’s hard to keep those roles separate, as often happens in comp plans, sometimes it’s easier and more rational to change the scorekeeping rules (i.e., the comp plan) than it is have unreasonable expectations for employee behavior.
In high tech companies, especially software, a good example of this issue is sales compensation plans based on recognized revenue (“RevRec”). RevRec is an obvious choice for determining earned commissions, because it is always measured, is clearly tied to stockholder value, and is scrutinized by lots of scorekeepers, often – always, if it’s a public company – even including outside auditors. The problem is this: Accurate and credible RevRec accounting depends on honest and open communication between the sales and accounting departments. This interaction is essential answering to questions like:
- Is the customer making a binding commitment, free of contingencies?
- Do the customer signatories have the authority to make commitments?
- What further obligations, beyond simply delivering the product, do we have to this customer?
- Do we and the customer have the same understanding about what the sales documents say?
In complex deals, these questions don’t always have simple yes or no answers. In the software industry in particular, the RevRec rules are often so complicated that they’re hard for anyone to understand. And sadly, it’s even harder to understand why those rules are fair or reasonable.
If your company is in this situation, my strong advice is: Don’t put your company in a position where the salesforce regularly has to choose between earning commissions they think they honestly deserve and clear, straightforward, and perhaps even honest interactions with the accounting people. Rather than making heroic efforts to obtain and verify honest answers, you’re often better off instead basing commissions earned on metrics such as bookings, purchase orders, invoiced amounts, or cash collections. This decision should depend on balancing factors including:
- Which metrics are likeliest to motivate the salesforce to act in the company’s overall interests
- How complex RevRec is in your company
- How clear and meaningful each metric is to the salesforce
- Ease of accurate data collection for each metric
It’s an unfortunate fact of life that in many industry sectors the RevRec rules are complicated, poorly explained, and to many observers arbitrary or even unfair. But they are the rules. You may find that you can create a win-win situation by basing commissions on something other than RevRec, freeing the salesforce to deal openly with accounting on RevRec issues without threatening their livelihoods.
While I think clarity AND avoidance of Moral Hazard are extremely important in all compensation plans, I would not view tying accelerators and/or incentives above 100% attainment to Revenue Recognition (RevRec) as long as the goals and incentives to achieve that 100% attainment are clear and meaningful. By meaningful I mean that the metrics are ones that the sales force have at least some and ideally full control over. Using metrics and setting goals and incentives that the sales force does not have any control of just serves to invalidate the compensation plan and effectively implement a “shadow” comp plan that management has little or no control over or knowledge of.
[...] This post was mentioned on Twitter by John Rothgeb, John Rothgeb. John Rothgeb said: New post: SPM and EIM – excellent new article! (http://cli.gs/5WMAT) [...]
Having worked in SPM for the last five years I know through personal experience that Randy is exactly on point with his observations, though discussing it through the lens of Moral Hazard obscures the primary points since Moral Hazard usually refers to financial markets. Working in software for over 20 years and for 3 years at an SPM/EIM software company where these issues were all too obvious I saw this numerous times. Products and projects were sold primarily where the incentives were not the largest, but were the largest that were likely to be paid and also the most obvious and immediate, but were often not in line with the company’s or the client’s strategic goals and interests. Incentives that were largest, but not clear, simple and immediate were generally ignored.
I have seen first hand how compensating the sales force on metrics and for objectives/goals that are not easily defined results in terrible implementation difficulties and disgruntled disconnected unengaged employees. Sales staff closes the software sale with no attention to the implementation because in being compensated on RevRec they (believe they) are likely to never get paid on anything other than the software license. Even if they are paid, it is usually only after a large lag time, hassles with accounting and management so it if often viewed as not worth the trouble. Sales tended to view using RevRec as simply a way to cheat them out of hard work so they avoided doing any more work or communication on the consulting and implementation than absolutely necessary to get their software license commission and the rest of the sale be damned. In the end most of the sales staff simply promised the client anything they wanted in implementation to simply close the license sale and get the initial commission with little regard to a long term relationship (since the project could take 3 to 6 months to kick off and go 9 to 24 months – by that time the sales person was likely at another company) or the success of the project. The only success the sales people seemed to be tied to was the total amount of the sales deals closed and there was no connection to how many successful projects were closed or how much revenue was eventually recognized or lost. In other words, there was no penalty for messing up the sale from inception since they got to keep the software license commission no matter what and viewed getting paid on consulting, implementation or training as a long shot or too little to be worth the trouble.
This is classic compensation theory in that if the person being compensated can’t easily understand and define what it is they are being compensated on and have some control over those, they will focus on the two or three things they can understand. In this case, they sold licenses and got paid well for it so consulting, training and OnDemand were too new, different, difficult to merit attention and they could maximize their salaries by focusing on software licenses and doing the minimum on everything else even though it impinged directly on customer corporate long term success.