Traditional Broker Compensation

Questioning Traditional Broker Compensation

What's wrong with the traditional, "highly variable, straight commission on margin" approach for paying your employees?  Nothing...if every employee has the same opportunity, the same skills, the same training, and all your freight is from the spot market where each day is a new day and no one knows for sure what's coming their way.

However, as this industry matures, many transportation brokers are questioning traditional broker compensation designs that are no longer working for them.  This is especially true in organizations with substantial business from contracted or long-standing "house" accounts or those experimenting with non-traditional organization structures (such as using strategic account managers, strengthening the use of outside selling roles, and/or splitting your organization between teams of "freight finders" and "truck finders", who may or may not be tied together in shared dependency).

Choosing An Approach

The challenge that arises in these situations is to determine what is "fair".  If you use a highly variable plan delivered via a flat commission rate, is it fair to pay an employee the standard commission rate for moving freight for a large contracted account they didn't land?  What about for freight that is generated by an outside sales person - shouldn't there be a reduced rate on these loads when it comes to paying the truck finder?  What about if you are using a team approach that generates a shared pool, but now you need to add people to the team?  Or you need to move your best team leader to another group that is substantially smaller because you know he/she will be able to grow it?  It each case, if you stay wedded to using a highly variable commission-only approach, you will find yourself creating "special deals" where certain accounts are paid a lower (or higher) rate than others, where you are administering cumbersome calculations to deduct the "lead generation" fee before calculating the commission, and where you are creating temporary "deals" with employees as you re-organize your staff or your accounts.  You may find yourself spending more time trying to remember the different compensation arrangements you have for Joe, Sally and Fred and what the rates are for accounts A, B and C than you are spending building your relationships with your customers.

Using the traditional highly-variable straight-commission approach for incentive compensation is appealing on many levels:  it's simple, easy to understand, it's economically "pure" so you don't have to worry that you're going to spend all your profits on incentives, and it's easy to administer (at least at first).  For busy business leaders, this approach feels like it should be a "fix it and forget it" solution.  In addition to these benefits, the commission mechanic (regardless of how much pay is at risk in the plan) is a powerful tool that creates an intensity of focus you generally don't find with other compensation mechanics.  For these reasons, using a highly variable pay plan, with a commission mechanic to calculate pay, is perfectly appropriate for some selling roles and in some selling situations,  especially pure new business hunters in start-up companies or high growth divisions of established companies.  These types of roles have what is called "high prominence" - which means, in plain language, that they have a high degree of control over the outcome of their sales efforts.  (I would still suggest using an escalating or deescalating commission mechanic for even these roles, however, as it's rarely appropriate or advisable to base an entire incentive plan on a single, unchanging commission rate.)

Where the traditional highly-variable commission-based approach does NOT makes sense, however, is for companies that have developed a substantial book of regular business, are building strong brand awareness in the marketplace, and are using multiple internal resources to land and grow accounts.  In these cases, most of the employees are "less prominent" in the sales process; they are a cog in a much larger wheel that includes marketing and advertising campaigns, outside sales resources, and long-standing company relationships with customers. Using the traditional approach can hinder management from making the right changes for their business (shifting customers or load volume around) because it would be "taking pay" away from one employee and "giving it" to another.   In these circumstances, the better approach is to shift your pay mix more toward base salary (at least 50/50), and make at least part of the incentive plan dependent upon the attainment of defined goals.

Questioning Traditional Broker Compensation: What is a Goal-Based Incentive Mechanic (aka "Bonus")?

Commissions pay for volume ("the more you sell, the more you make").  Goal-based bonuses pay for attainment of a predefined goal ("if you beat your goal, you make more money").  Using goal-based incentive mechanics can provide more flexibility for managers to run their business to meet customer needs, target strategic objectives beyond gross margin, and manage employee pay as a motivational tool.

An example might help illustrate the difference.

  • Joe, who has been given a large volume of mainly long standing accounts, generates $30,000 in a given month in margin.  This is down 25% from what he did the last month.

  • Sally, who is still developing her book of accounts, generates $15,000 this month, which represents 150% growth over what she did the last month.

A pure commission mechanic would pay Joe twice as much as Sally, even though his business is shrinking and hers is growing.  Arguably, Sally is doing a better job than Joe, even though, and I can hear many of you saying it, "Joe is still bringing more money into the company."  Yes, he is.  But, once a company grows beyond the point of living hand-to-mouth in start-up mode, management needs to think strategically in terms of what behaviors and results should be rewarded for the long-term growth of the company.  Sally could very well be a better long-term asset, but she may not stay around too much longer if her pay is below market competitive levels (and also very likely perceived by her as being "not fair" compared to what "that slouch, Joe" is making).

Using a pure bonus mechanic, Joe might be given a monthly goal of $35,000 per month in margin, and Sally given a goal of $12,500.  Management would make this determination based on previous period performance, opportunities for growth, and the overall numbers which must be hit by the organization.  At 100% of goal, each would make $1,000 for the month.  A well-designed goal-based plan has a range around goal (called a performance range) which allows for payout both below and above goal, with different escalation rates.  At $30,000, Joe would be at 85% ($30,000 / $35,000) of his goal, and he might be paid 77.5% of his target incentive or $775.  At $15,000, Sally would be at 120%  ($15,000 / $12,500) of her goal, and she might be paid 140% of  her target incentive or $1,400.  This provides a payout that is determined by the individual's ability to meet and exceed the goal that management has set for him/her.  Next month, when management decides that Sally might do a better job managing one of Joe's accounts, Joe's goal would be reduced and Sally's would be increased, to reflect this shift in accounts.  Each of their incentive targets would still be $1,000 for 100% of goal attainment.  Management can make this decision purely based on what is in the best interest of the customer and the company, without fear that this kind of change is taking pay from Joe and "giving it" to Sally.  Instead, the discussion is entirely about who is best suited to manage and grow this particular account.

For those of you who may feel that the pure goal-based approach is not quite right for your business, or it's too much change to take in one step, there is the comforting fact that there are millions of different ways to design incentive plans.  One of these options is to use a goal-based commission, where the commission rate increases when the individual's goal is attained.  This provides a blend of reward for volume and reward for goal-attainment.  Another option is to divide the incentive into two (or three) elements, one of which is paid using a commission mechanic, and the other of which is paid using a goal-based mechanic.  Some companies elect to transition by using the goal-based mechanic on a lesser-weighted team measure, and the commission mechanic on a more heavily weighted individual measure.  The possibilities are truly endless, and companies that are moving beyond the traditional broker method for compensating their employees are finding the answers to some of their most vexing compensation problems.


This excerpt was originally published in the December 2010 issue of The Logistics Journal when Beth was part of The Cygnal Group.

Components of Well Written Incentive Plans