Introduction

Sales & Non-Sales Impact

If you’ve implemented a sales incentive program in the past, did you consider how the program might impact procurement and the cost-of-goods? Shipping? Cash flow?  Far too often, sales incentive program designers discount the effects their programs may have on other business processes, opting instead to focus solely on sales results.

Although sales incentive programs are widely used throughout corporate America, isolating their singular investment return from other factors has not happened in a disciplined way. Far too often, the analysis has amounted to “we sold more so it must have worked” – not a true picture and one that can actually undermine sales incentive program value. In addition, attributing sales gains to a sales incentive program alone isn’t fair to other events like increased advertising, an upswing in market conditions, the demise of a competitor, etc. Worse still incentive programs are greatly devalued when only sales results are considered.

Avoiding “Sales Incentive Program Myopia”

This executive white paper presents an overview of how the impact of sales incentive programs extends into sales and non-sales realms. Lead researcher Srinath Gopalakrishna, Associate Professor of Marketing, University of Missouri-Columbia, presents a compelling story of how one such sales incentive effort for a major U.S. based hand tools manufacturer bolstered accounts receivables, finished goods inventory, procurement, and finance in general.  In fact, it was when these other business processes were factored into the sales incentive program equation that program ROI went from a negative position (if the company focused solely on sales growth) to an ROI estimated at 84%!

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Background on Benchmark Data

In order for ROI to be assessed in an isolated “casuality based” way, two approaches are generally used. The first is to set up experimental and control groups; the second is to examine historical data on certain select variables before and during the incentive program. For the former, sponsoring companies face an expensive proposition that often results in skepticism on the part of program participants. In the latter, the pre-incentive period essentially becomes the “control setting” or benchmark for measurement of incremental sales and other effects.

This white paper is concerned with the latter approach. Data collected prior to the launch of the incentive program served as the benchmark for use in assessing incentive program ROI at the subject company – a hand tools manufacturer interested in implementing a sales incentive program for its dealer/distribution network.

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About the Business Processes

Consider sales and non-sales components as integral to one another. If sales increase as a result of the sales incentive program, what impact will that have on profitability? Several functional areas across the organization were identified as having a large bearing on profits given sales volumes; these included:

Finance: The short –term sales focus of an incentive program may generate higher sales volume, but the accounts acquired may pay their bills later, increasing the drain on accounts receivable, hurting cash flow and thus profitability. Research conducted with employees and management revealed that unless inventory and accounts receivable received additional investment, already low margins would be further reduced.

Operations: Additional sales change the demand pattern, because new customers entering the sales system may order products on erratic schedules, creating imbalances in finished goods inventory and increasing shipping costs. Careful planning was identified as a central need to ensure that excess inventories and shipping issues would not adversely impact cash flow and thus profitability.

Procurement: More products may be produced to handle the sales increase, which places greater demands on procurement. Additional investments were necessary in procurement in order to avoid the higher prices the company would have to pay given the spot market material purchases. Perhaps (for example) longer term contractual arrangements would be needed with suppliers.

Production: Higher production volume that would be needed to meet short-term sales increase entailed additional labor hours to produce the extra goods. Finished product defects were projected to increase because less skilled, temporary labor would be required.

Human Resources: Planning for additional workers (even though temporary labor) involves considerable expense. Beyond the cost of hiring, the cost of training the new workers must also be considered. In addition, research revealed that current employees did not feel appreciated for job performance, adding to the challenge.

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About the Business Processes

Review of the business processes suggested that a sales incentive program that focused on sales growth alone – without considering these other business processes – would require an infusion of cash and may reduce already low margins. It also indicated that investments in procurement and sales would be necessary to support any likely gains from the incentive program.

Program (Sales And Non-Sales) Goals: All told, if only sales impact had been measured, the program ROI would have been in the basement at -92%. Therefore, if the sales incentive program was to be successful, so must the related business processes. The incentive program was designed in a manner that would involve the distributor/owners and decision makers, as well as their staff. The program had two primary goals that were ‘sales related’ and ‘non-sales’ as follows:

Goal 1

Increase incremental net sales by $1 million. (Sales Related)
To accomplish this, the first of four dimensions upon which the program focused was to:

  • Increase sales/purchase volume
Goal 2

Improve gross margins from 30.4% to 32%. (Non-Sales Related)
To accomplish this, the remaining three dimensions of the program included efforts to:

  • Improve invoice aging
  • Provide manufacturing with shipping date flexibility
  • Increase distributor knowledge of specific products
Program Rewards

Rewards were based on points and the program had clearly defined and communicated rules for attaining awards. Awards included Caribbean cruises and high end merchandise, as well as sporting event ticket packages.

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About the Measurement Process

The incentive program was in place during January-September, 2003.  Historical data from 2002-2003 during the same time period was analyzed in five stages:

Stage 1

Establishing of Reasonable Benchmarks For Key Indicators.
This essentially amounted to a prediction of what the situation would have been if the sales incentive program were not implemented. The team conducted trend analyses of the following variables:

  • Monthly sales aggregated across all distributors
  • Monthly cost of goods sold (COGS)
  • Finished goods inventory at the end of each month
  • Accounts receivable at the end of each month
  • Cost of the incentive program
Stage 2

Examination of Actual Sales Levels.
If additional investments in procurement and sales had not been made, the Cost of Goods Sold (COGS) and Selling, General and Administrative Expenses (SG&A) would have suffered through the increased demands additional sales would place on production, inventory levels, etc.

Stage 3

Assessment of How The Incentive Program Would Impact Cash Flow.
Inventory in a given month depends on the inventory of the previous month and sales that are generated during the current month. Data on inventory, accounts receivable and sales were analyzed to predict what the inventory levels would be during each month of the incentive program. In short, if non-sales related program elements were not put in place, cash flow impact on inventory and accounts receivable was projected as a negative.

Stage 4

Comparison of Actual Results to Benchmarked Projections.
Actual results involved additional sales as well as cash flow impact of inventory and accounts receivables following investment in these critical areas.

Stage 5 – Overall Results

Looking at the actual results in terms of sales and net profit, the sales incentive program – coupled with additional investments in procurement and a new sales manager – resulted in the incentive program (sales and non-sales components) generating an ROI of approximately 84%.

ROI calculations used in this study are detailed and extensive. If interested in exploring how related financial and operational  measurements were used, we urge you to take a detailed look at the full study having the same title as this Executive White Paper.

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Conclusions

This research study demonstrates that sales incentive programs can be highly effective in delivering positive, bottom line measures. Central to this research is that taking a business process view is critical – had the potential impact of additional sales not been considered, the program would have had serious side effects throughout the organization. Benchmark data on sales and operational and financial measures was analyzed early on in the process to determine the effect of both sales and non-sales program indicators.

 

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