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Commission Plans: Basic Rules
Writing a commission plan that provides incentive to the salesperson without giving too much of the company's money away can be a time consuming task.
To assist you with this exercise we will hopefully explain a few basic formulas that will assist you in maximising efficiency in this area.
The key to all commission plans, is the ratio between what the sales person generates in Gross Margin (the difference between your buy price and sell price) and what they can earn should be between 1:5-1:7 i.e. for every £5.00 of gross margin sold you can afford to pay no more that £1.00 to the salesperson.
This figure 1:5 ratio takes into account that even a very good salesperson will take time to start getting close their target, recruitment of not-so-skilled staff (everyone makes mistakes), cost to find replacements and the usual cost of employing people.
Establishing a Gross Margin Target
This is a simple sum of multiplying the persons required “On Target Earnings” (OTE) by no lower than 5 and no more than 7.
Most professional salespeople will ask for a basic salary that is slightly higher than their current monthly outgoings to provide a HIGH level of security, however this also means that they are less reliant on earning commission.
From a company perspective we recommend that the basic salary is most cases is not greater than 50% of the OTE and where possible, to be a close or slightly less than the salesperson minimum monthly requirement. This will generate a high level of commitment from the salesperson to earn commission each month instead of being comfortable just earning their basic salary.
To ensure commission is not paid to a salesperson before they have covered their basic costs, it is strongly recommended that each month the salesperson have a minimum contribution requirement as part of their payment plan.
This is worked out as follows:
These 2 key ratios provide the basic outline for most commission plans and ensure that the salesperson is motivated financially to achieve their targets.
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