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What's your experience in offering sales commissions for long-term recurring revenues?

Hi folks,

My friend is willing to bring in clients for my startup as a sales consultant. I am unable to pay him any salary but offered to pay him a commission of x% of revenue generated from his clients.

Clients will typically sign a multi-year contract. I am wondering if the commission payment should be limited to the 1st year of the contract or the full term of the contract.

What has been your experience in setting this up? I want to be fair and more importantly, I want to keep my friend.

Thanks!

17 Replies

Lawrence I Lerner
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Lawrence I Lerner Entrepreneur • Advisor
Digitalization and Transformation Coach
Sales commission vary by type of industry. In Services multi-year commissions are around
  1. 3% Year 1
  2. 2% Year 2
  3. 1% Year 3
With this model, strong sales execs can pull down a lot of money over time. It's also a strong incentive for them to stick around.
Scott Milburn
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Scott Milburn Entrepreneur
Entrepreneurial Senior Executive and Attorney
I agree with Lawrence that the commission should decline over the first three years of the contract. The commission level depends on the industry - I've seen up to 15%/10%/5% for the three years.
Chris Rallo
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Chris Rallo Entrepreneur
Entrepreneur, Advisor, Startup Exec
agree with earlier comments on industry and declining payout. when creating a compensation plan, you should also consider:
  • the velocity of sales
  • the length of sales cycle
  • the average deal size
Chris
Yaya Mbaoua
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Yaya Mbaoua Entrepreneur
VP at MED1 and bringing doctors to patients anywhere
Scott - I like the tiered model in commissions over time (similar to Lawrence's answer above) but what justifies double-digit commissions in your industry?
Scott Milburn
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Scott Milburn Entrepreneur
Entrepreneurial Senior Executive and Attorney
Yaya, it all depends on the factors like Chris list. One way to determine it is to figure out what you expect a good sales person to accomplish in closed deals over a year, the average deal value, and what % commission makes a good salary. E.g. if they should get $200K, what % is it likely to take to get that. Earlyon, if you don't have a feel for it, you could go with a lower % and then have year-end bonuses to bring people up to appropriate compensation levels.
Eoin Matthews
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Eoin Matthews Entrepreneur
Cofounder at Point
@Yaya -- it variously enormously by industry. Ad rep firms will take anywhere from 25-60% of ad revenue from a small publisher (in essence, that's what Google does for all the media they sell on other publishers' properties). On big ERP deployments, referrer sales reps may just take a few points.

What drives down the commission:
a) the margin in the industry
b) how much marketing you are doing to build awareness?
c) whether you are handing off warm leads to the sales rep
d) what sales support you provide
e) deal value
f) time/effort to close
g) how difficult it is to access/close those clients
h) what resources your friend needs to invest to close

If your friend doesn't have some secret sauce, industry experience, amazing network (i.e. some form of unfair advantage) then it doesn't really matter that they are your friend; their cost of closing deals will be higher than a specialist who knows the business well. If your friend has an unfair advantage then you should jump on them and lock up their commitment.

While declining payouts might look nice, there are lots of downsides for both parties that you need to consider:
a) there's real maintenance cost involved to paying reps over the long-term
b) most deals start small and grow over time and that increased value is usually attributable to account management (+ evolving product) over sales -- you will pay too much if they get a cut of everything from the account
c) it can get real contentious on high-value accounts
d) at the start, just having customers matters most so someone needs to get customers....
e) most sales reps optimize for cash-in-hand vs residuals (especially when dealing with startups)

At this early stage, get the deal done with your friend at a mutually agreeable price that doesn't come with long-term maintenance. Depending on time to close accounts, you'll know the unit economics after X months and you should write into the agreement a review process at X months to reevaluate the relationship (and pricing).

Ramesh Barasia
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Ramesh Barasia Advisor
Certified Business Coach | Help Business Owners Get More Money, Time, & Freedom
Yaya: Multi-year contracts are even better since they provide you a source of recurring revenue. I would generally pay a higher commission for a multi-year contract. However, the challenge is matching revenue stream and also to account for the possibility that the multi-year contract may turn into a single year contract depending upon the whim of the customer (most contract Ts/Cs will account for cancellation of a long term contract with say 30 day advance notice). All of this should be up front with the sales person, for example, a sales compensation plan may be as follows (all numbers are for illustation only). By the way, there are infinite ways to create comp plans, but the most important rule of thumb is to keep it simple so the sales person can easily understand and calculate his/her optimal options: contract value: Sales Commission (all numbers are for illustration only) 0-$1k or m: 10% $1-5k 15%
Eric Bernal
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Eric Bernal Entrepreneur
Co-Founder, Director of Web Development & Design
I think it varies widely from industry to industry and you have to consider various factors. For example: value of the contract, length of the sales cycle, etc. When my partners and I built up mywedding.com, we found that allowing sales people to earn their full commission on every yearly renewal really helped to fuel our growth. Our sales people were well compensated, but in return our expectations were also very high. Our compensation packages also attracted a lot of great talent. You get what you pay for. If you try and nickel and dime your sales people and if you keep changing the commission structure on them, you will lose out in the long run. Our most lasting and fulfilling achievements are often earned by helping others fulfill theirs. You will succeed when you help others around you succeed as well!
Yaya Mbaoua
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Yaya Mbaoua Entrepreneur
VP at MED1 and bringing doctors to patients anywhere
@Eric: I completely agree with your statement.

@Ramesh: I like the idea of keeping things simple

@Eoin: you're making really good points about account maintenance. I get the potential contention with this model. do you think that the sales rep will benefit from the deal size over time if he also manages the accounts? In essence he will be entitled to increased commissions because he will be responsible for growing the deals. Not?
Eric Landeen
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Eric Landeen Entrepreneur
Director at doxo
When I have managed salespeople, I have paid commissions based on 12 month guaranteed revenue with a 6 month chargeback threshold. So for example, if a salesperson secured a contract with a customer agreeing to pay a minimum of $1500 per month, I would pay commissions on $18K. If the customer churned away in the first 6 months, I would take back the commission by netting it against the next commission payment. This works well when you want to incent the salesperson to maximize a guaranteed minimum monthly contract amount, and you want the salesperson to care about the customer staying in the band through implementation and beyond. In my case, I've normally separated the hunting and farming functions, so there is a transition from the salesperson to an account manager and there needs to be continuity. But you don't want to incent the salesperson to take care of the account forever, you want him/her to go hunt for the next customer.
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