Paying for performance Featured

7:00pm EDT November 24, 2006

The “carrot-and-stick” approach to get- ting results from a sales channel — or paying for performance — is about as old as the practice of paying sales channel partners to represent you in the market.

According to John Henderson, president and CEO of Frank Lynn & Associates Inc., what often isn’t understood by channel partners (dealers, distributors) is that pay-for-performance is also about values — the values of the supplier (to increase margins, to be paid on time) and the expectations of the customer (100 percent satisfaction or one-stop shopping). Channel partners need to understand that they’re being compensated to help you increase margins, grow sales and satisfy end-user customers — not just to sell.

Smart Business talked to Henderson to learn more about this value/performance relationship.

Where should executive managers start in evaluating their sales channel pricing strategy?

Your channel pricing strategy and the individual elements of your channel pricing plan must first be weighed according to the likelihood that they can help you achieve your values and business goals, as well as the expectations of end-user customers.

If channel pricing is not aligned with values and business goals, chances are you’re missing opportunities to use channel compensation to more effectively motivate channel behavior and thereby achieve better financial results in the market.

Can and do all channel pricing programs influence dealer/distributor behavior?

Yes, and be careful what you ask for. When you use a channel compensation plan to tell your channel partners what to do, chances are they’ll do it. And that includes changing their behavior — for good or for bad — to achieve the results you say you’re compensating them for.

For example, if you tell a channel partner to train all of his sales people on your product lines in order to receive a certain level of compensation, he’ll change his behavior and conduct the training. That’s because distributors are supportive of the concept of investing in capabilities that differentiate them from their competitors and thereby earn them differentiated pricing. It creates a win-win situation: you get more effective sales representation and your channel partner gets the differentiated pricing he wants.

Conversely, if you tell a channel partner he must achieve 15 percent growth in order to receive a certain level of compensation, he’ll change his behavior to do just that. But the change could be for the worse. The sales that are achieved might be at the expense of customer satisfaction, quality orders, receivables and returns. Often, the sales increase represents a shift in volume from one of your other distributors, resulting in flat sales to you, at a lower margin. In other words, the growth you pay the channel partner to generate might be completely contrary to your values and end-user customer expectations.

Are there common ‘pay-for-performance’ practices that suppliers use to motivate channel partner behavior?

Suppliers use a number of incentives or penalties to encourage certain types of channel partner behavior like co-op advertising allowances and specification discounts. Of course, not using incentives or penalties can have the opposite effect by encouraging the channel partner to exhibit the opposite behavior.

Why do suppliers have trouble converting their channel partner discount structures to a ‘pay-for-performance’ program?

First, unless specifically explained, channel partners often do not tie the discount received from the supplier to the activities the supplier has asked them to perform. When channel partners do not see the value in the activities, they focus on the costs of the activities.

Second, many suppliers do not differentiate the desired activities and the relative discount amounts associated with those activ- ities. Channel partners that do perform the desired activities would like to be differentiated/rewarded for their support (versus those that do not perform the activities).

Third, many suppliers do not enforce the activity elements of their compensation systems by taking functional discounts away when they’re not earned. As a result, they pay for performance that is not earned and forfeit the corresponding margin dollars.

Does fine-tuning sales channel compensation help sustain long-term profitability and market share growth?

That’s correct. Carefully planned channel compensation systems do more than reward channel partners to sell. They also consider the values of the supplier and the expectations of the end-user, and they reward channel partners for helping achieve those goals.

In addition, channel compensation systems enforce the activities for which the channels are being compensated by having a mechanism in place to prevent margin dollars from being paid to channel partners that do not earn them.

JOHN HENDERSON is president and CEO of Frank Lynn & Associates Inc. Reach him at jhenderson@franklynn.com or (312) 558-4828.