Roberge, M. (2015). The right way to use compensation. Harvard Business Review, 93, 70-75. Zehnder, E. (2001). A simpler way to pay. Harvard Business Review, 79, 53-61. 1. Explain how EZI compensates its partners. (1 point) 2. Explain the three compensation plans that HubSpot used with its salespeople. (1 point) 3. Why does Zehnder believe that his compensation program is fair and effective? a. What are the potential advantages of this compensation plan? ( point) b. What are the potential disadvantages of this compensation plan? ( point) 4. Why does Roberge believe that his compensation program is fair and effective? a. What are the potential advantages of this compensation plan? ( point) b. What are the potential disadvantages of this compensation plan? ( point) 5. What are the characteristics of someone who would be happy working under Zehnder's plan while also being a top performer for EZI? (1 point) 6. What are the characteristics of someone who would NOT be happy working under Zehnder's plan while also being a top performer for EZI? (1 point) 7. What are the characteristics of someone who would be happy working under Roberge's plan while also being a top performer for EZI? (1 point) 8. What are the characteristics of someone who would NOT be happy working under Roberge's plan while also being a top performer for EZI? (1 point) 9. The compensation plans at EZI and HubSpot are quite different. Admittedly, the comparison is not an apples-to-apples one. The EZI plan is for partners. The HubSpot plan is for salespeople. Consider your own profession (or consider your \"dream\" profession). Which of the two compensation plans would be most effective in that profession? Explain your answer. (2 points) FIRST PERSON Rewarding Individual performance is the way of the business world, but there are rare exceptions. At executive search firm Egon Zehnder International, seniority and companywide results determine pay. The company's founder explains how this unconventional compensation system works-and why. A Simpler Way to by Egon Zehnder APRIL 2001 T HERE have been many changes in professional services since the day I first set up shop in 1964-not the least of which has been a pronounced shift in the way professionals pay themselves. When ! started, compensation was strongly tied to seniority. After all, seniority was a proxy for experience. Today, most consultingfirms,law firms, and so forth consider seniority irrelevant - and occasionally something much worse. They believe pay should be based on performance and, more specifically, individual performance. That's why at most professional firms, people are paid according to the size of their client billings and how good they are at bringing in new clients. Indeed, firms invest considerable time and effort to measure those results precisely. At Egon Zehnder Internationa! (EZI), we prefer to stick with the old-fashioned way to pay. In addition to base salaries, the firm gives partners equal shares of the profit and another set of profit shares that are adjusted only for length of tenure as partner. There is no formal procedure fortracking the performance of country offices, let alone individuals. At the close of a given year, for instance, a ten-year partner in any office will receive a larger share of the firm's profits than a five-year partner in any other office, even if the first office lost money and the second office broke billing records thanks entirely to the five-year partner's billings. Our compensation system often prompts people to ask me how we manage to hire "stars," let alone keep them. 53 F I R S T P E R S O N A Simpler Way to Pay They are shocked to leam that not only do we attract outstanding consultants year after year, but our annual turnover among partners is only 2%. (The industry average is 30%.) The reasons are simple, really. First, our approach to com- honed intuition. By the time a consultant has worked more than a dozen years - as have 90 of our partners worldwide - he not only knows thousands of executives, he also knows the inner workings of hundreds of companies. In his brain and in his bones, Egon Zehnder he knows who should work where. He can make a match became more quickly and correctly. That convinced of makes clients very pleased inthe fairness deed, which is perhaps why of rewarding more than 60% of our assignseniority as his ments each year come from executive search repeat clients. firm grew. pensation forces us to hire consultants who have little interest in self-aggrandizetnent. We must hire people who are true team players, people who get more pleasure from the group's success than their own advancement. These individuals by nature tend to be highly collaborative. They eagerly share information and ideas about existing and potential clients. Similarly, they pass around information about the executives who might best meet a client's need. After ail, if a consultant in Hamburg is paid according to overall firm performance, not her own billings, she will happily pick up the phone and call a colleague in New York to say,"I just met a candidate who isn't ideal for my client here. But he might be just perfect for your client's open position there." Second, our seniority-based system requires us to find people who want to stay with a company for the long haul, for whatever reasons. Believe it or not, even in the new economy, these men and women still exist. And thank goodness for that. Nothing benefits a client and its executive search firm more than a consultant with a well-developed network of executive contacts and a finely That, then, is the business case for our simple approach to pay. We hire professionals who are not only highly educated-two academic degrees are a must - but who are also trustworthy and humble and wbo want to work for one company their entire careers. They naturally collaborate. The clients are delighted with the results, billings rise, and the profit pool expands-as it has for each of the 37 years since I founded the firm. In the end, everyone wins, from client tofirmto individual professional. Call it a relic, but don't call it nonsense. It works. Seniority Rules EZI's seniority-based system is as easy to administer as it is to understand. For partners, compensation comes in three ways; salary, equity stake in EZI, and profit shares. There is some variation among partner salaries across countries because of variations in the cost of living; people don't expect to be paid the same base salary in Kuala Lumpur, say, that they would be paid in New York. But the distribution of equity and profits among the partners is consistent across the whole firm. To begin with, each partner has an equal number of shares in thefirm'sequity, whether he has been a partner for 30 years or one year. The shares rise in value each year, because we put 10% to 20% of our profits back into the firm. When a partner retires or leaves the firm, he sells back the shares, keeping the difference between the value of his shares at the time of his election to A Different Way of Charging Most executive search firms charge a client a percentage of the first year's salary of any person who is recruited through the firm. This creates pressure to find people who can command high salaries because of their track records but who may not be right for the positions involved. At EZI, we avoid this conflict of interest by charging a flat fee agreed to in advance for our searches. The fee is calculated according to both the importance of the position and our best estimate of the difficulty of the work involved. We look, for instance, at whether the industry is new to the country of search, at the numberof companies we can goto in order to find candidates for our client, and at the language skills candidates will need. We don't always guess right,of course, and often we find ourselves undercharging because the job has proved more complex than it first seemed. But our clients appreciate the efforts we make on their behalf, and they recognize that our flat fee encourages EZI to find the right candidatespeople who will stay and be productive over the long term-rather than the most expensive ones. So they will probably come back to us in the future Egor\\ Zehnder is the founder and former chairman ofEgon Zehnder International, an executive search firm with 57 offices and more than 300 management consultants worldwide. 54 with assignments that will prove simpler than they first appear; when all is said and done, that will leave us even. HARVARD BUSINESS REVIEW A Simpler Way to Pay FIRST PERSON APRIL 2001 55 F I R S T P E R 5 O N A Simpler Way to Pay partnership and their value at the time of his departure. Obviously, the longer you stay, the more valuable the shares hecome. If you stay for five years, your shares will probably double in value. The remaining 80% to 90% of the profit is distributed among the partners in two ways. Sixty percent is divided equally among all the partners, and the remaining 40% is allocated according to years of seniority. Someone who has been partner for one year has one seniority year, a two-year partner has two seniority years, and so on up to 15 years, when a cap comes into effect The pool is divided by the total number of seniority years to produce a base number; each partner receives an amount equal to that number multiplied by his seniority years. So a 15-year partner gets 15 times more from this portion of the profit pool than a one-year partner. (For a comparison ofthe compensations of a one-year and a i5-year partner, see the exhibif'Partners' Shares ofthe Profits.") The seniority principle doesn't extend to consultants who are not yet partners, because they are still proving their part- Parttiers'Shares ofthe Profits EZI doesn't divulge the compensation of partners. But the mechanism for determining it is illustrated in this hypothetical example, which compares a one-year partner's equity increase and profit share with those of a 15-year partner. Suppose EZI has a total of loo partners with an accumulated seniority of75O years, each partner has an equal numberof shares in the firm, and EZI's profit after paying base salaries is $75 million. Ten percent of the profit is put back into the firm, increasing each partner's equity by one one-hundredth {$75,000) of that amount. The remaining $67.5 million is divided up: 60% is apportioned equally among the partners-each partner gets one one-hundredth, or $405,000-and 40% is allocated according to seniority. The 40% is divided by the total number of seniority years, 750, to produce a base number, $36,000; each partner receives an amount equal to the base number multiplied by his or her seniority years. The equity returns and profit shares ofthe two hypothetical partners are as follows. nership qualifications on many levels. Here we do apply a kind of performance-based approach: nonpartner professionals get annual bonuses that are based on how well they have supported their colleagues and how they have contributed to the firm's reputation as a whole. But the performance we are measuring is not at all financial. For instance, if a consultant has published an article in a reputable business journal, it is marked to her credit because the contribution has benefited the Egon Zehnder reputation. At EZI, a consultant's annual bonus has nothing to do with the billings she has been associated with and everything to do with how partnerlike she has proved herself to be over the year. The most immediate benefit of our system is that it is transparent and takes relatively little time to manage. By contrast, my closest friend is a senior partner at a large international lawfirm.He tells me that his firm has hardly any time for client work during the last month of the year because people are too busy deciding who gets how much bonus for which client. They have to work out who referred which project to whom and who developed and contributed to each project. How awful! They're not working for clients anymore - they're working for the compensation system. A Fairer Way Equity increase and profit share Increase in equity value One one-hundredth of 10% ofthe $75 million profit Share of equal-profit pool 1-year partner 15-year partner $75,000 $75,000 $405,000 $405,000 $36,000 $540,000 $516,000 $1,020,000 One one-hundredth of 60% ofthe profit remaining after 10% is put back into the firm Share of seniority pool A figure based on years of seniority Total 56 The seniority rule for partner compensation has been in place ever since I founded EZi. From the start, 1 paid my first associate, Walter Siegenthaler, more than I paid my second associate, Hans Schaer, because I felt that Walter deserved more - t o refiect the extra time and effort he had put into building the Egon Zehnder brand. That continued as thefirmexpanded and opened offices in Belgium, France, Britain, and so on. As we grew, I became more convinced of the fairness of rewarding seniority. Financial performance is very heavily dependent on the immediate environment. Why should a hardworking partner in Sao Paulo be penalized because a downturn in the local economy has HARVARD BUSINESS REVFEW F I R S T P E R S O N - A Simpter Way to Pay reduced the firm's billings in Brazil? At the same time, why should a partner in Hong Kong eam more because he was lucky enough to be parked in the center of the booming Asian economy? The only exception to the seniority rule has been myself, for I have never been the highest earner in thefirm.People might think that rather odd-aft:er all, I am the founder. But 1 think it's fair. Initially at least, my associates had a far harder time than I did. It isn't easy for a consultant to work under a name that not only isn't his own but is hard to pronounce and has little recognition in the marketplace. Of course, that's changed now, and the firm has a global reputation. But back in the 1960s and 1970s, when I opened offices in London, Brussels, and Paris, hardly anyone could spell the name Egon Zehnder. Making myself the exception has, in my opinion, helped to sustain acceptance of the system among my associates. It's easy for partners, especially the newer ones, to see seniority as a polite term for cronyism. That may be one reason seniority has gone out of favor at other firms. But, along with the 15-year cap on seniority benefits, my situation makes it impossible for anyone to argue that EZI's system is unfair. Delivering Collaboration and Intuition of course, simplicity isn't everything. No matter how much time and effort we save by not measuring performance, no compensation system can work unless it promotes the right kind of behavior among professionals. Proponents of pay-for-individuai-performance systems argue that their plans encourage managers to generate more revenue, which more than compensates for any administrative burdens the systems may impose. But those systems have one great drawback: they encourage people to further their own interests ahead of the interests of clients and the organization as a whole. Picture this typical scenario. A New York conglomerate needs to find a manager for its Spanish subsidiary. At most executive search firms-the ones that re58 ward individual performance-the consultant who gets the assignment will hang onto it tooth and nail. It doesn't matter if the consultant is based in New York. He will fiy to Madrid every week, if he has to, in order to locate the right candidate for the position. Yes, he may stop into the firm's Spanish office. He time and energy in making sure that the Spanish office understood the new client's interests and needs. At the end of the year, all would share equally in the larger profit that resulted. Or consider this story, which happened just recently. The CEO of a German client that needed a manager for No Ordinary Interview Although there are probably few "experts" who would recommend it, I ask very personal questions when I interview people. If an applicant is married, for instance, I might ask her bow she met her husband and why sbe decided to marry bim. t ask these questions partty because they are the only ones left to ask-my colleagues have already asked all the technical and professional questions. But t also ask them because the answers to personal questions can often te(t me what a person's values are and how he or she makes important choices. There are no rigbt or wrong answers to my questions, and people can give totally different answers to the ones t would give. And t'm not looking for demonstrations of intellectual brilliance - my colteagues bave already done that. What I am looking for is integrity I want answers that make me feel tbat the person is warm, honest, and sincere. Those quatities are very important in a collaborative partnership like EZI. So wben t ask an appticant wby he went to a particular school, for instance, t'd ratber hear him say that he went to Michigan State because he thought he couldn't get into Harvard or Stanford tban that he picked tVlichigan State because it was good in a particular field. When 1 ask why he thinks he would be happy at EZt, t don't want to bear him say that be thinks he can create morevatue in EZt than he can anywhere else. What does "create more value" really mean? tt is so often an insincere c l i c h l Do people really change jobs because they can't add enough value? Some people-particularly Americans-find my questions intrusive and too personal (that's one reason t atways interview in Zurich). But I want to look inside a person as deepty as t can because tbat person may well be in tbe firm for the rest of his or her professional life. may even cbat witb its consultants about leads. But be will take the timebilling hourly, in many cases-to complete the job himself At EZI, no consultant would dream of such hoarding. Contacted by the conglomerate, he would immediately pass the assignment to the local office in Spain, where it could be completed with the kind of speed and accuracy clients seem to adore. He would also invest a textile company in Bavaria came to a partner in our Zurich office whom he had worked with before. Because of the past relationship, the Swiss partner would have liked very much to help the client, and if he had been concerned about his individual billings, all the more so. But instead, the partner referred the client to a person in our Munich office who was much better qualified to help. The Munich partner HARVARD BUSINESS REVIEW "Provides along with actionable advice." 4>r. John J. Sviokia, Vice Chairman, DiamondCluster Intemational, Inc. Eight atomic business models that form the building blocks of all e-business ventures. "A first-rate, reliable, ima^natlve, and intensely realistic guide for creating eHbusinesses upon solid foundations and Peter Keen, Author of From .Com to .Profit a(/The E-Process Edge knew the industry inside out, and he had a feel for Bavaria's idiosyncrasies. The match was so successful that the client ended up hiring not only the manager he wanted but also one of the other candidates the Munich partner had put forward. The client is all the more likely to come to EZI again, because he knows we will give our very best. Any firm in our profession that is serious about putting the client's need first has to be able to support the client with its whole network. Executive talent is a global resource: a company in New York might hire a Frenchman whose previous jobs were in Brazil and Japan. The firm should assign the most qualified people in the most qualified offices, regardless of whose contact the ciient Initially was. Our system, by rewarding seniority, also helps us build the right kind of human capital for our profession. I know that seniority is a very unfashionable idea these days, especially in America, which worships youth and energy. But in our profession, seniority is a key asset: it is only through experience that our consultants can hone the intuition they need to operate successfully in a people-intensive profession. Erik BryiijolfssonT Codirector of the Center for eBusiness, MIT It is also through length of service that a consultant builds a strong network of contacts. Senior search consultants not only know a great many people, they also know them very well, which means that their hunches are taken seriously. Let's say, for example, that 1 really believed that the ^migr^ taxi driver who took me from the airport yesterday was the right person to head P&G's operations in Russia. I would have no problem telling that to the head of P&G Europe because 1 have known him for years and have found many of his key executives. He would take me seriously. But 30 years ago, he would have responded with no more than a sarcastic smile. $35.00 whereiier books are sold Finding the Right People Peter Weiil & Michael R. Vitale "The most and readable ar ic hwsffwf? mf>'- i Vve Oiv/^ 1-888-500-1016 1-617-783-7440 Mention priority cock 5455 Eor our system to work successfully, we have to hire the right kind of people. But how? First, our interview process is extremely intensive. We see many hun- dreds of people each year, mainly graduates of the leading business schools, of whom only a small fraction are hired. Each candidate sees between 25 and 30 consultants during the process-old Seniority is unfashionable, especially in America, which worships youth and energy But our system helps us build the right kind of human capital for our profession. partners, young partners, and new associates. Our people have a good look at the applicant, and if any of them expresses serious reservations, we usually do not make an offer. What's more, by the time the interviews are over, potential hires realize that they are hearing more than a sales pitch about the firm. They know that the people in our Boston office think and act the same way as the people in our British and Brazilian offices, and that they themselves must think and act that way if they are to be successful at EZI. Until recently, when I retired, I interviewed every candidate myself. I used to ask people bluntly: "Do you know that even if you have the highest billings in the firm and are responsible for 60% of the profits of your office, you won't get an extra penny for it? Picture yourself in that situation. Are you comfortable with it? If you aren't, don't join us. You'll be very unhappy." After more than 40 years in the profession, I can usually tell if their answers are sincere. A really good actor can always fool me, of course, but I get it right 90% of the time. (For more on my interview approach, see the sidebar "No Ordinary Interview.") We also take much more time to promote people to partner than do most consulting firms. At EZI, people work for five or more years before they are considered for partnership. During that period, we observe people very closelyHARVARD BUSINESS REVIEW not to see how many clients they are bringing in, but to make sure they are hardv^orking, honest, collaborative, and entrepreneurial. We want to know whether the partners in a candidate's office believe that he or she should have the same stake in the firm as they have. Has the prospect ever passed clients on to Copenhagen? Is he an active alumnus of his university? Does he publish articles or give speeches? The decision on whom to put up for partnership is made by a group of partners drawn from all of our offices every three years. This Partnership Evaluation Group has the authority to call on anyone who has had contact with a candidate for partnership: colleagues in the candidate's office, colleagues in other offices, even clients. Making partner at Egon Zehnder is not an easy process, and it's expensive for the firm. But we have become very good at it: ofthe ten to 20 people put up for partner each year, only one or two will fail to make the grade. What's more, those partners will often stay for their entire professional careers, to the benefit of both our clients and thefirm,amply returning our investment in their selection. At the end of the day, I wouldn't recommend that every company copy our system too closely. It is probably not appropriate in most industrial corporations, where there can be big differences in the types of work that people do. You would not expect to reward the head of R&D,for instance,the same way you reward the head of sales. But at professional servicesfirms,the work is quite homogeneous-what a lawyer does in Tokyo, for instance, isn't all that different from what a lawyer does in Zurich, in these cases, I think that a compensation system such as ours, which reinforces common values and sets common expectations, has much to recommend i t EZI's record of nearly 40 years of ever-increasing profits certainly suggests as much. ^ Reprint R0104B E X E C y T I tf E E D U C A T I 0I GRADUJPWRHOOL OF BUSINESS In the Heart of Silicon Valley Powerful Ideas, Unovative Practice General Management Programs Stanford Executive Program June 24 - August 7,2001 Executive Program for Growing Companies July 22 - August 3, 2001 Stanford'N.tJ.S. Executive Program July 29 - August 17, 2001 (in Singapore) Advanced Management College Seplembef 16 - 21 2001 (at Stanford Sierra Conference Center) Management Degree Program Stanford Sloan Program September-I, 2001 -July 10, 2002 lor more information contact; Elif Soniay Office of Executive Education Stanford Graduate School Business Phone (650) 723-3341 Fax (650) 723-3950 Email executiveeducationffigsb.stanford.edu Web www.gsb.stanfoid.edu/exed Specialiied Programs Finance and Accounting for the Non-Financial Executive May 13 - 1 8 and November 1 1 - 1 6 , 2001 -Ixcellence in Developing and Manufacturing Products July 8-14,2001 financial Management Program " i | y 8 - 20, 2001 tecutive Program in Strategy and Organization August 5-17,2001 Marketing Management Program August 5-17, 2001 Manaqjng Your Supply Chain for Global Competitiveness August 26 - 31, 2001 Human Resource Executive Program: Leveraging Human Resources for Competitive Advantage September 9-14; 2001 E-Buslness and Supply Chain Management September 18 - 20, 2001 (in Hong Kong) Silicon Valley E-Commerce October 9 - 1 2 , 2 0 0 1 Credit Risk Modeling lor Financial Institutions October 14-19, 2001 Negotiation and Influence Strategies October 21-26, 2001 Leading Change and Organizational Renewal November 4 - 9, 2001 Stanford's Leadership Seminar: Effective Use of Power December 3 - 7,2001 Advanced Negotiation Program February, 2002 Managing Teams for Innovation and Success April, 2002 Strategic tJses of Information Technology April, 2002 To order reprints, see the last page of Executive Summaries, APRIL 2 0 0 1 WWW.gsb.Stanford.edu/exed Harvard Business Review Notice of Use Restrictions, May 2009 Harvard Business Review and Harvard Business Publishing Newsletter content on EBSCOhost is licensed for the private individual use of authorized EBSCOhost users. 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SPOTLIGHT INSPIRE YOUR SALES FORCE SPOTLIGHT ARTWORK Bruno Quinquet Salaryman Project, Yurakucho Tokyo, 2013, archival pigment print The Right Way to Use Compensation To shift strategy, change how you pay your team. by Mark Roberge 70\u0007Harvard Business ReviewApril 2015 HBR.ORG Mark Roberge is the chief revenue officer of HubSpot, a Boston-based inbound marketing firm. This article is adapted from his book, The Sales Acceleration Formula (2015), with permission of its publisher, Wiley. I I WAS THE fourth employee hired at HubSpot. I'd met the two cofounders when we were all pursuing graduate degrees at MIT's Sloan School of Management. They're smart guys with a big mission: to help companies transform their marketing by using online content to draw potential customers to their websitesa practice known as \"inbound\" marketing. My job was to build the sales team. An engineer by training, I'd never worked in salesI'd begun my career writing code. But my background proved to be more of an advantage than I'd expected. It led me to challenge many conventional notions of sales management, using the metrics-driven, process-oriented lens through which I'd been trained to see the world. For instance, instead of hiring by instinct, I meticulously tracked data on sales, identified predictors of success, and looked for people whose traits and skills closely resembled those of our top sellers. Instead of training new recruits by having them tag along on a successful salesperson's calls, I created a regimented training program that gave them firsthand experience with our technology and then taught them to systematically work leads. That approach worked well: Within seven years of its founding, HubSpot crossed the $100million run-rate revenue mark and had acquired more than 10,000 customers in over 60 countries. In the fall of 2014 our company went public in an offering worth $125million. April 2015Harvard Business Review71 SPOTLIGHT INSPIRE YOUR SALES FORCE When I look back on the various strategies I used to grow our sales force from zero to several hundred people, I realize that one of the biggest lessons I've learned involves the power of a compensation plan to motivate salespeople not only to sell more but to act in ways that support a start-up's evolving business model and overall strategy. Whether you're a CEO or a VP of sales, the sales compensation plan is probably the most powerful tool you have. Most of the critical strategic shifts that HubSpot made as a business were executed through changes to the sales compensation plan. In this article I will look at how we did this and at the general principles you should keep in mind when designing your own firm's plan. The ideal plan is tailored to the company's stage of growth. Knowing What You Need and When Business leaders often ask, \"What's the best sales compensation structure to use?\" It's a complicated question. The ideal plan is contextualtailored to both the type of business and the stage of growth the company is in. Start-ups typically go through three key stages: customer acquisition, customer retention and success, and sustainable growth. In the first seven years at HubSpot, we used three different sales compensation plans, each of which was appropriate for the stage our business was in at the time. 1 The customer acquisition plan. HubSpot's first compensation plan was oriented toward \"hunting\" new customers. When we put it in place, we had 100 customers and an annual run rate of barely $300,000. Like most start-ups at this stage of development, we needed to acquire customers quickly so that we could see how valuable our offering actually was to them. We'd been pretty good at gathering feedback from potential customers as we'd developed our productwhich is true of most new venturesbut the real test would be asking customers for money. The first plan paid salespeople a base salary and $2 up front for every $1 of monthly recurring revenue 72\u0007Harvard Business ReviewApril 2015 they brought in. To protect the company if customers defected, we implemented a four-month clawback on commissions. This meant that if a customer jumped ship within the first four months, HubSpot took the entire commission back (deducting it from the salesperson's earned commissions the next month). Once a customer had stayed on the platform for four months, the salesperson could keep the entire commission even if the customer later canceled. This plan was simple, clean, and hunting oriented. It worked well to accelerate the pace of new customer acquisition. In under six months our base shot up to 1,000 customers, and our revenue hit $3million. 2 The customer success and retention plan. With plenty of customers on board, we could now analyze how well the company was progressing toward \"product/market fit\"the point at which product features and pricing are aligned with the market's preferences. The biggest sign that the fit wasn't perfect was a clear problem with customer retention. Among our early customers, the level of churn was unsustainable. This was not surprising. It's rare that a start-up finds a fit on its first attempt with customers. That's why a fast feedback cycle, proper diagnosis of the issues, and quick, disciplined iteration are necessary during this stage. At this point in a start-up's evolution, it's key to figure out who your best customers are and what steps will make them successful. Looking for answers, we studied the data. At the time, each new customer was being assigned a postsale consultant, who would set our service up and train the customer's staff in how to use it. Our first theory was that some of the postsale consultants were doing a better job than others. If we could identify which consultants were most successful, we could dig into their processes, understand what they were doing differently, and introduce the best practices across the team. However, when we examined customer churn by postsale consultant, the levels were similar across the team. That particular theory didn't check out. Next we analyzed customer churn rates by salesperson. Eureka! Here was our answer. Across the organization, there was a more than 10-fold difference between the lowest and highest churn rates among salespeople. We did not have a customer onboarding problem. We had a sales problem. Our customer retention was predicated on the types of customers THE RIGHT WAY TO USE COMPENSATION HBR.ORG Idea in Brief THE CHALLENGE A start-up often changes direction as it grows. As the strategy shifts, it's critical that the employees who bring in the revenuethe sales force understand and behave in ways that support the new strategy. The sales compensation system can help ventures achieve that alignment. THE PRESCRIPTION Revise the incentive system to focus salespeople on new goals at each growth phase. The start-up HubSpot did this; it implemented a plan that encouraged rapid customer acquisition early on, but switched to a second plan to promote customer retention and then to a third geared for sustainable growth. the salespeople chose to target and the expectations they set with each new account. I immediately shared the analysis with the sales team, revealing each salesperson's churn rate and how it compared with the team average. I educated the team on the importance of retention, both to our business and to our customers. I said that I would be adjusting the sales compensation plan, in order to align customer retention performance with commission checks. Sure enough, the next quarter I followed through on my promise. I stack-ranked the sales team from the person with the best retention rate right down to the person with the worst rate. Then I segmented the team into quartiles. The top-performing quartile would earn $4 per $1 of monthly recurring revenue from then on. \"Congratulations,\" I said to this group. \"I'm doubling your commission payments. Why? Because you bring in the best customers. Keep it up.\" I moved on to the next quartile. \"Good work,\" I said. \"You now earn $3 per $1 of monthly recurring revenuea 50% increase above your previous rate.\" \"For the folks in the third quartile, there is no change. You will be paid the same rate of $2 per $1 of monthly recurring revenue.\" I concluded with the most difficult message. \"For the fourth and worst-performing quartile, your earnings are cut to $1 per $1 of monthly recurring revenue. Why? Your customers are not succeeding. On average, they're unprofitable for our company. More important, you are wasting our customers' money by not setting proper expectations about how to succeed with our service. We have initiated training on better customer expectation setting. We need you to take that training seriously. We are here to help you through this skill development.\" The combination of a different set of incentives and better training worked: Within six months, THE RESULT Changes to the sales compensation plan helped HubSpot quickly grow its business to $100 million in annual revenue and acquire more than 10,000 customers in 60 countries. customer churn had dropped by 70%. Once again, a sales compensation plan had driven the results of the business. 3 The sustainable growth plan. Thanks in part to plan two, HubSpot had quickly closed in on product/market fit. Unrealistic expectations set by sales were now almost never among the reasons customers gave for quitting our service. Churn in general was far lower, and the reasons for cancellations were not alarming. It was time for our start-up to focus on achieving faster, profitable growthin other words, scaling up the business. To do that, we had to align the sales compensation accordingly. To ensure healthy growth, I needed to incorporate what we had already learned on our journey. I certainly wanted a strong incentive for the sales team to acquire new customers at a rapid clip. However, I needed to keep the team aligned with maximizing customer retention, since that would obviously offset acquisition costs and increase profitability. One important insight we'd had earlier was that it was important for the customer to be committed to adopting inbound marketing. Though it can transform the way an organization gets its message to customers, inbound marketing is not a turnkey solution. It takes work. Customers must understand that to succeed. We had already worked to get salespeople to set realistic expectations, but we now had to find a way to focus them on clients who would make a real investment (of time, energy, and money) in learning to use HubSpot's service. How could I align the sales team with this goal in a clear and measurable way? The answer was advance-payment terms for new customers. When we looked at the data, we realized that our customers who paid month-to-month were less committed to the overall HubSpot service and were far more likely to defect. Those that prepaid April 2015Harvard Business Review73 SPOTLIGHT INSPIRE YOUR SALES FORCE Boosting Performance with Sales Contests Contests are almost as effective as compensation plans when it comes to motivating the sales team. Contests bring a fun, dynamic aspect to a sometimes mundane daily routine. They can be designed to promote desired behaviors and, unlike commission plans, can be temporary. They can even be used to build team culture. For these reasons, I ran a sales contest at HubSpot almost every month, especially in the early years of team development. Here are my six best practices for sales contest design: 1 Align the contest with a short-term behavioral change. For example, fearing a summer slump, you may want to boost activity in June. This increase would be difficult to pull off through the commission plan, but holding an activity-based contest for one month would do the trick. annually were more committed to the service and ultimately were more successful. (Of course, advance payments also had a positive impact on HubSpot's cash flowanother factor that becomes important for a start-up as it reaches scale.) As a result, our third plan was designed as follows: (1) Salespeople would earn $2 per $1 of monthly recurring revenue. (2) The commission would be paid out as follows: 50% on the customer's first month's payment, 25% on the sixth month's payment, and 25% on the 12th month's payment. So if a customer signed up paying month-tomonth, the salesperson would wait a full year to earn the last quarter of the commission for that customer. However, if the customer paid a full year's subscription in advancea factor that was completely under the control of the salespersonthe entire commission would be earned immediately. Before this plan was put in place, the average prepayment commitment was 2.5 months. After the plan was rolled out, that average jumped to seven months. Customer churn was checked; in fact, retention improved. The new customers were profitable to HubSpot. Salespeople felt in control of their destiny. Mission accomplished. Before You Change the Comp Plan... HubSpot is still a young and growing company, and we may have to adjust the sales compensation formula again as the business evolves. Drawing 74\u0007Harvard Business ReviewApril 2015 2 Make the contest team based. This approach has a remarkable effect on team culture, especially early on. For the first three years at HubSpot, every contest I ran was a team contest. I'd often see high-performing salespeople help out teammates who were lagging, and the low performers would start working late to avoid letting their teams down. When I finally ran a contest based on individual performance, I heard accusations of cheating and saw backstabbing behavior for the first time. We immediately returned to team contests. on what we've learned during our first eight years, my team has developed a few questions that we ask about any potential change: Is it simple? Is it aligned? And is it immediate? Let me elaborate. Simplicity. Salespeople should not need a spreadsheet to calculate their earnings. If too many variables are included, they may become confused about which behaviors will lead to the largest commission check. They might throw the plan aside and just go sell the way they know best. The opportunity to drive the desired behavior through the compensation plan is lost. Keep the plan simple. It should be extraordinarily clear which outcomes you are rewarding. Alignment. Look ahead to the next year and ask yourself, \"What is the most important goal the company needs to achieve? Customer count? Profitability? Customer success? Market share? New product distribution? New market penetration?\" Once you've identified that goal, ask yourself, \"How can the sales compensation plan be aligned with this objective?\" Don't underestimate the power of the compensation plan. You can tweak sales training, redesign marketing materials, attend customer conferencesyou name it. Regardless of those efforts, if the majority of your company's revenue is generated by salespeople, properly aligning their compensation plan will have greater impact than anything else will. THE RIGHT WAY TO USE COMPENSATION HBR.ORG 3 Make the prize team based. Choose a reward that the team experiences together: Rent a limo to take the winners to a casino. Buy them a golf outing. Send them sailing for a day. Making the prize team based maximizes the positive impact on culture. The winners return to the office with photos of the great time they hadtogether. People feel good about their colleagues. Teams feel motivated to win the following month. 4 Send out updated contest standings daily. At least once a day, publish the contest standings to the entire sales team (if not to the entire company), even if you have to compile and post them manually. This is such a critical execution point. Without daily updates, contest effectiveness will drop precipitously. Immediacy. When salespeople succeed, they should see it reflected in their paychecks immediately. When they fail, they should feel the pain in their paychecks immediately. Any delay between good (or bad) behavior and the related financial outcome will decrease the impact of the plan. Whenever I considered changing the compensation plan, I always involved the sales team in the redesign. To kick things off, I usually held a \"town meeting\" with the team. After communicating the goals for the plan, I would open up the floor to structural ideas. The brainstorming would begin. As the meeting progressed, I would share some of the structures that were being considered and invite people to offer their feedback. As a follow-up, I often created a page on the company wiki, reiterating the reasons for changing the plan, stating the goals, and describing some of the structures that were being considered. The conversation would then continue online with ideas and reactions. I responded to most comments. This digital format allowed salespeople to catch up on and participate in the conversation when they had time. Throughout the process, I was very explicit that the commission plan design was not a democratic process. It was critical that the salespeople did not confuse transparency and involvement with an invitation to selfishly design the plan around their own needs. Most of them appreciated the openness, even 5 Choose the time frame wisely. The contest period needs to be long enough to bring about the desired behavioral change but short enough that salespeople stay engaged. A daily time frame is too short. Weeklong contests are on the briefer end of acceptable. A quarterly time frame is probably too long. Monthlong contests are ideal. 6 Avoid contest fever. Don't read this and implement five simultaneous contests. Overlapping contests will dilute one another. Run one contest at a time for a given group of salespeople. when changes were not favorable to their individual situations. During the process the sales team contributed some great ideas. Each commission plan change we made included at least one structural element that had originated from a salesperson during our discussions. Because of this involvement, when a new plan was rolled out, the sales team would understand why the final structure had been chosen. COMPENSATION IS just one of the tools I learned to use while scaling up HubSpot's sales force. Our hiring, training, and sales coaching programs have also been vital to our success. The common thread among them is that they rely on close analysis of what works and what doesn't, rigorous use of data and metrics instead of intuition or improvisation, and systematically reducing what does work into a formula that can be replicated. Am I recommending the same evolution of compensation plans for every business? Absolutely not. The sales compensation plan should reflect the type of business you're in and the stage of business you're at. The evolution of HubSpot's plan illustrates this point and provides a real-world example of the impact that a change in plan can have on business results. It also illustrates how, in an era when managers can access data on everything that happens inside their firms, successfully managing a sales force should be much less of an art and much more of a science. \b HBR Reprint R1504E April 2015Harvard Business Review75 Harvard Business Review Notice of Use Restrictions, May 2009 Harvard Business Review and Harvard Business Publishing Newsletter content on EBSCOhost is licensed for the private individual use of authorized EBSCOhost users. It is not intended for use as assigned course material in academic institutions nor as corporate learning or training materials in businesses. Academic licensees may not use this content in electronic reserves, electronic course packs, persistent linking from syllabi or by any other means of incorporating the content into course resources. 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