CHICAGO, July 9, 2013 /PRNewswire-USNewswire/ -- Salespersons are often paid a base salary plus incentives for attaining sales targets. Two types of incentives are commonly used—a lump sum bonus when salespeople hit their target (bonuses-at-target) or a commission for every sale beyond their target (commissions-beyond-target). Which is better?
An answer to this question is revealed in the first large scale experiment on this issue with a real sales force. The results appear in the June 2013 issue of the American Marketing Association's Journal of Marketing Research. The study was conducted by a team of researchers including Sunil Kishore of McKinsey & Co., Raghunath Singh Rao of the University of Texas at Austin, Om Narasimhan of the London School of Economics, and George John of the University of Minnesota.
The researchers tracked sales representatives in 458 territories of a global pharmaceutical company for 3 years. For the first 18 months, these reps were under bonus-at-target plan. Then, they were switched to a commission-beyond-target plan which was carefully designed to be financially "equivalent" to the prior bonus incentive. Sales were observed under the new plan for 18 months.
Sales improved by 24% when the sales reps were switched to the commissions scheme. Both the firm and the reps made more money. Why? "Under commissions, if you sell more, you earn more whereas earnings are capped under bonuses," said Prof. John. Another benefit of commissions is that a rep is less inclined to manipulate sales timing. As Prof. Narasimhan explains it: "With bonuses, it's all or nothing - you either get a big payout or nothing, and people will go to remarkable lengths to earn this big payout. With commissions, the payouts are gradual, so timing games are less useful."
Are commissions always better than bonuses? "Not necessarily," said Prof. Rao. While commissions definitely improve short-term sales, selling often involves tasks that have longer term payoffs not captured by current quarter sales. Reps ignore these activities under commissions, because they want to sell as much as they can today. On the other hand, once they have earned their bonus, reps are more willing to attend to these other tasks.
To sum up, if you want to boost current sales, pick commissions. If you want salespeople to attend to activities with possible payoffs beyond current sales, bonuses work better. Finally, be aware that bonuses make timing games more likely.
About the AMA
About the American Marketing Association: The American Marketing Association (AMA) is the professional association for individuals and organizations who are leading the practice, teaching, and development of marketing worldwide. Learn more at marketingpower.com.