Written by Hiring salespeople is easy; hiring the right salespeople, motivating the troops, and helping them drive ARR growth takes more work. And for SaaS companies, the forecasting is so acutely tied to how the salespeople perform. For example, how much cash will the company have at the end of two years? Well, we can do the gross cost analysis, but the new money coming in from customers depends on sales execution.
Compensation plans and incentives are a big part of helping salespeople succeed, and we share some lessons from our SaaS companies. We discuss OTEs, quotas, ramp-up periods, different types of ARR, common compensation concepts, and, importantly, the concept of “accelerators.”
On Target Earnings (OTE)
New hires are given an OTE as their total compensation and OTE is basically the Annual base salary + commission earned at 100% of the quota = OTE. So, for a mid-level salesperson in the Bay Area, the base salary is $175,000, and the commission will also be $175,000 for a combined OTE of $350,000. The cost to the company will be higher for financial modelling purposes because of the benefits, onboarding costs, T&E, and the software tech stack that the AEs will need (Salesforce is not cheap).
The support cost around the AE needs to be calculated as well. For example, if you reach a certain point, you will need a head of sales or CRO and then territory managers. AEs must be coupled with SEs (often, they come as a package). Depending on your organization, business Development Representatives (BDRs), Sales Development Representatives (SDRs), and Inside Sales will need many resources to support the AE team. This high cost is why having AEs productive as soon as they start is so critical. Ideally, as the company scales, the ratio of the attached resources to the AE becomes more efficient.
The OTE split for the support team can vary, and we have a general rule of thumb as highlighted below:
The Ramp-Up Period
It would be nice if a new AE signs the offer letter starts the next day and is booking deals. It usually doesn’t work that way, and people take time to start selling. Now, if it takes a year to book that first deal, there is a problem: you hired the wrong person or changes were not made fast enough.
Some best practices can help with productivity, which are highlighted near the end of the article. For new hires, you want them to be familiar enough with your sector to sell the product. Ideally, they have their own Rolodex (my kids don’t know what a Rolodex is) of people so that they get their new Macbooks and hit the ground running.
For most new sales hires with the right training, sales collateral, and enough support, AEs should be able to do about a ⅓ of their quarterly quota in the second quarter of their hire. For example, if the quota is $1.2M, then in the first quarter, they are expected to do $0, then $100K in the second quarter, $200K in the third quarter, and then they are ramped humming along at $300K per quarter. The KPI we monitor at the end of the quarter is ramped sales capacity out in the field. So, if you have 12 fully ramped AEs with a quota of $1.2M, the math is simple: you can book $14.4M.
Different Types of Commission for Different Types of ARR
So, do salespeople get paid the same rate for different types of bookings? Well, yes and no, but it all depends on your policy. Here’s our way of paying for ARR:
New Annual Recurring Revenue (ARR)
Commission on New ARR: AEs typically receive a commission on new ARR they bring in. Eat what you kill, right? We incentivize them to land new customers and make the investor deck look good with all the shiny new logos. Salespeople are expensive, so get them productive and reward them handsomely, so they spend the bulk of their time hunting for new deals.
We generally pay a rate of 12% for new deals. If it’s paid up front (or let’s say a three year deal paid up front), the customer typically gets a discount but we might add a little sweetener for the salespeople for landing a multi-year whale.
Expansion ARR
Commission on Expansion ARR: Expansion ARR refers to additional revenue from existing customers, either through upsells or cross-sells. (this is why the product has to be conducive to expansion, either via modules, seats or both). Similar to new ARR, AEs often receive commission on expansion ARR. The commission rate might be the same as for the new ARR, or it could be different. For us, we keep it simple and keep the rate the same as the new ARR.
In some companies, if the AE retains the account for a certain period (e.g., 12 months) from the initial close, any expansion during that time is considered a new ARR for which the AE receives full quota credit. So if a customer actually purchased less than they thought and expands, hey, let’s pay the salesperson.
Typically, customer success should be getting the commission for expansion for long-standing existing customers since they are involved on a regular basis with their cadence calls, getting yelled at, troubleshooting, and product feedback sessions. So either you can use the one-year guide (where commission goes to Customer Success) or do what we do. For Series A, B, and C companies, we generally keep it simple and treat expansion ARR as new.
Renewal ARR: No Hunting Involved
Commission on Renewal ARR: The commission structure for renewals differs from new or expansion ARR. It’s common for the commission rates on renewal ARR to be lower than for new or expansion ARR.
After a certain period, the account may transition to a renewal phase, which may have a separate quota and commission rate. We generally like salespeople to hunt and not farm so the renewal rate is 6%. I’ve seen rates as low as 4%. If the customer was in the red zone and was about to churn, we might give a bonus for saving the deal and getting the renewal.
Now who gets paid? Renewal commissions might be handled by the original AE, a renewal specialist, or even a Customer Success Manager in some cases. Our preference is renewals go to customer success teams who are in the trenches with the customer. Customer Success is working on all the bug fixes, feature feedback, and teaching of new modules, so it makes sense to pay them for renewals. And AEs should be out hunting anyway.
We Don’t Like to Talk About Downgrades
What happens when customers churn or downgrade? Well, it’s not a fun discussion, but some policies have to be in place. And consider if the customer churned within a one-year period or before or after. Customer churn for all sorts of reasons (sometimes they can’t even get the product installed, yikes!), so have a set of procedures related to clawbacks
Clawback provisions act as a guide for SaaS startups, ensuring that the commissions paid to AEs reflect the actual value the company receives from a client over time. They are contractual clauses that allow the company to retrieve a portion (or sometimes all) of the commission initially paid to an AE if the client downgrades their subscription or cancels it prematurely.
AEs want to close many deals (usually any deals) but they should also focus on those that can pay and have the ability to grow and expand. Smaller targets can create some problems. Let’s say an AE closes a one-year deal with a hot startup which raised a lot of money in the prior year. The commission is based on this one-year commitment, reflecting the expected revenue for the company.
Churn Driven By Powell
However, five months into the service, due to Chairman Powell freaking people out, the startup’s revenues are hit, and they opt to cancel their subscription to save costs. The clawback provision becomes activated. Since over half of the contracted term remains, the AE might have to return more than half of the commission they initially received. Yes, it sucks. Oh, what happens if the AE quits after he or she collects the commission? Good luck trying to claw it back.
How and When do People get Paid?
As soon as possible. We pay commissions on a regular schedule on bona-fide bookings. We have the contract, things look good, the SOW, and the purchase order all looks solid and, so we pay the AE. Now, for smaller companies, I can have a policy of sales commission paid on cash receipts from customers. This ensures that the incentives are aligned and no crazy terms (net 90 days) are in the contract. It’s not popular, so generally, we stick to paying on bookings. Book the deal, set the renewal, and AEs get paid.
The Accelerators: It’s so Worth it
Sales accelerators, aka overachievement commissions, are advanced commission structures that offer salespeople higher commission rates when they exceed their predetermined sales quotas. A typical structure might look something like this:
- Base Commission Rate: 12% on all sales up to a certain quota, say $1.2M.
- First Accelerator: 15% on sales from $1.2M to $2M.
- Second Accelerator: 20% on sales beyond $2M.
On the surface, it seems like the company is paying a hefty sum in commissions, let’s say to Bob who did $2M in ARR. However, in return, the company received an additional revenue of $800K beyond the initial quota. The extra commission is merely a fraction of this added revenue, and thus, the cost-to-benefit ratio remains favourable for the company.
Such an enticing commission structure makes companies more appealing to top-tier sales talent. High-performing salespeople want to make money. They are aware of their capabilities and seek out employers who reward overachievement generously. By attracting this talent, companies position themselves to realize higher sales and growth. I mean, investors want growth. Get sales Amped
Here’s an illustrative example of how Billy, Bob, and Thornton did and their respective commission paid. Thornton made $464,000 in commissions and had a base salary of $175,000 so that’s not a bad living. Thornton delivered, and he got paid. We can further reward him by increasing his/her quota for next year.
The Reality of Bookings Planning
Capacity planning with Excel is one thing, but understanding salespeople’s behaviour, incentives, motivations and impact, well, there are a lot of variabilities.
If you have 10 salespeople with a quota of $1.2M and things are humming along, things are easy.
Sales teams however often grapple with attrition, causing fluctuations in team size. I mean, we just hired someone away to join us, and so we can have someone hire someone away from us as well. To address this, let’s study a scenario with a team of 20 salespeople experiencing a 10% annual attrition rate:
Now let’s examine the scenario with a 20-member sales team experiencing a 10% annual attrition rate, and new hires begin in Q1:
Salespeople Count Scenario Details Sales Contribution
Adding up the contributions: $1.2M (from departed salespeople) + $0 + $100K + $200K + $300K (from new hires across quarters) + $21.6M (from the remaining salespeople) = $23.2M. So total revenue for this Scenario is: $23.2M
However, if you are late with the new hires and consider the ramp time, then the data looks like this:
Then the total revenue: $22.8M because the late hires don’t really contribute to 2024.
Try Not to Get Caught Off Guard
Always have new people ready to join your company. Have a pipeline of potential new hires and have people ready to step into “leads”. Yes, running a business and modelling a spreadsheet can be quite different, so add flexibility and variability to your spreadsheet and assume people will come and go into your sales organization.
Mixed performance: Some Rockstars….Some Rocks
Companies feel good with increased cash flow and can go on a hiring spree for new AEs. However, the reality often unfolds differently due to several reasons. Sometimes, the expectations set during the hiring process may not align with the realities of the job, leading to disillusionment and subpar performance. Some people just overpromise but don’t deliver. Sometimes, it takes too long to learn the product, or you can have a misfit between the individual’s values and the organizational culture can lead to reduced morale and engagement, thereby affecting sales performance.
Here’s an article on proper booking planning so that you do not miss the numbers: Don’t Miss the Quarter
Regardless, assume that some will hit their numbers and some won’t and use the appropriate factor rate so that you can have a forecast that is achievable. For cost calculations, I assume I am paying them the full commission for their quota, but for results delivery, I will add a factor multiplier of less than one based on the history of each sales rep. I also add the start day and the ramp delay to get my total bookings.
I then split the bookings between new and expansion to get the Gross new. For the quarter, we look at overall bookings, which includes the renewals, and we like to see sequential and year-over-year growth that is above our relative peer group.
Dont Let them Starve at the Start: Use Draws
Non-Recoverable Draw: An upfront payment that AEs don’t repay, providing them financial stability during the ramp-up phase. Recoverable Draw: An advance against future commissions, which AEs offset from their earned commissions over time. Clawback: This allows companies to retract commission payments if specific conditions, like a deal falling through, occur.
Grease the Skids
An object in motion stays in motion, so have everything ready for a new AE. This comprehensive strategy encompasses lead preparation, utilization of efficient tools, mentorship, performance management, collaborative synergy, incentivization, and market acumen to facilitate a faster ramp-up of sales personnel. We highlight ways to shorten the ramp time here: Enhancing GTM
Warm Leads: Nurturing leads until they exhibit a readiness to engage significantly abbreviates the sales cycle. A repository of warm leads can be cultivated by employing targeted marketing initiatives, serving as a fertile ground for sales endeavors.
Qualified Leads: Please no email addresses to the Nigerian Prince. Qualifying everything that comes in. Ensuring a genuine interest or need for your product among the leads not only propels the sales but also augments the confidence and morale of sales personnel.
Salesforce.com…keep it clean and updated
Paying for Salesforce is one thing; keeping it clean and accurate takes time and effort. When done right, it can meticulously track interactions, manage leads, and unveil valuable insights aiding in swift deal closures.
Sales Enablement Tools: Equip your sales force with tools that automate mundane tasks, thereby channelling their focus and energy towards the quintessence of sales – selling. Access to customized, tailorable sales collateral goes a long way.
Innovative Approaches to Incentive the Team
Considering 6-month or quarterly quotas can motivate AEs by offering them immediate targets. This approach promotes a sense of accomplishment early in their journey, leading to enhanced productivity.
Crafting an AE compensation plan doesn’t have to be overwhelming. By combining strategic thinking with a clear understanding of market conditions and empathy for AEs, you can create a balanced plan. Such a plan will not only drive growth but also ensure a motivated and satisfied sales team, making it a win-win for everyone.
One last thing: Bonuses
Bonuses: Additional bonuses may be available based on overachievement, team performance, or specific strategic objectives. It doesn’t always have to be cash either, and we give out options toppers for the best salespeople to keep selling. Good luck!