Achieving sales excellence with variable compensation plans

In sales, offering a fixed salary on its own is fairly uncommon.  

When evaluating employers salespeople seek motivation, recognition, and something dynamic to push them beyond the ordinary.  

Enter variable compensation plans (VCPs).

Also known as variable incentive compensation, these plans link a portion of an employee’s earnings to their performance, offering a perfect mix of reward and drive. More than just compensation; these pay plans align personal achievement with company goals. VCPs inject energy into sales teams, increase accountability, and boost productivity.  

Where objectives are constantly pivoting in modern businesses based on market needs, VCPs are the compass guiding sales' direction.  

In this article we're walking through variable pay plans, and some examples.

So, what exactly is a variable compensation plan?

When it comes to a a definition of variable pay, it's essentially a system where compensation isn't entirely fixed, and (as the name suggests), variable. A chunk of this pay depends on measurable outcomes—whether that’s closing deals, landing new clients, or hitting revenue targets.  

Unlike a flat salary, which stays the same despite performance, variable pay goes up or down depending on results. It’s a mix of guaranteed income and performance-based incentives like commissions, bonuses, or even profit-sharing.

Examples of different variable payout structures include:

• Commission-based pay: You sell, you earn. It's as simple as that—employees pocket a percentage of their sales.  

• A profit-sharing plan: When the company wins, everybody wins. With this structure, employees get a slice of the profits when business targets are crushed. This plan gives employees a portion of the company's quarterly or annual profit in addition to their base salary.

• Bonuses: These are one-off rewards for hitting specific goals. Think of it like a surprise gift after a job well done. It's often an unspecified amount on an annual basis and will vary depending on the year's results.

• Stock options: This option gives employees the right to purchase shares in the company under certain circumstances. They are sometimes offered as an alternative to cash compensation for particular roles, and are popular with startup companies with ambitions of going public or being bought out.  

The importance of variable pay in modern sales performance strategies

The beauty of variable compensation? It’s adaptable. Sales organizations can tailor it to fit their unique strategies and goals. As priorities shift, so can the incentive structure, making sure teams stay laser-focused on what matters.

So, why are optimized variable comp plans so essential now? Well, the old, rigid salary models don’t inspire greatness. When competition's fierce and targets keep rising, a fixed paycheque doesn’t spark ambition.  

VCPs flip the script. They align individual performance with company success, motivating salespeople to go above and beyond. It’s a win-win. Sales teams feel directly rewarded for hard work, while companies see a sharp rise in revenue performance.

Often software sales, manufacturing firms, and B2B organizations choose this compensation structure.

The benefits of implementing variable compensation plans

As an alternative to traditional, fixed-salary plans (the norm for other employees and departments), variable comp offers some financial flexibility to a business.  

For example, employers can pay employees after revenue is generated. Meaning employers can align expenditure with income. Flexibility is also a factor when companies need to change the base compensation or require employees to meet specific performance KPIs to earn additional commission.

But when it comes down to it, there are three main advantages that even outweigh flexibility of this type of compensation, including:

1. Full alignment with company goals and market changes

By tying rewards directly to performance, companies build a sales team that’s fiercely aligned with the company’s long-term vision. Incentive compensation is developed specifically to match up with the company's larger-term goals.

And variable pay gives businesses the agility needed to adapt to changing markets. Launching a new product? Breaking into a fresh territory? Need to boost upselling for retention and LTV? Variable pay can be recalibrated on the fly, to ensure your sales force is always focused on what matters most in a given moment. From acquisition through to retention and expansion.  

If the comp plan is not effectively incentivizing certain behaviors (revenue, user growth, etc.) as required for business success, then the plan hasn’t been built correctly and should ideally shift.

2. Stronger employee motivation and productivity

As we've mentioned, variable compensation—like commission—correlates performance with income. Employees can see and quantify the value they add to their employer and vice versa.  

Performance-based pay gives employees an incentive to continually improve their outcomes.

Overall, a variable pay program puts revenue-critical employees in the driver’s seat regarding their incomes, giving employees more control over their pay and thereby, motivation for the highest productivity and result possible.

3. The ability to attract and retain top talent

Companies with attractive compensation plans tend to attract competitive self-starters who are confident they can reach company targets and reap the rewards. In addition, when companies pay employees well and feel that they reward them for their efforts, they’re more likely to stay.

Challenges and considerations  

Implementation challenges

Variable pay isn't just about offering enticing commissions or bonuses; the compensation structure needs to be scalable and adaptable to changing business objectives. Poorly designed plans lead to unexpected costs, misaligned sales efforts, and, in the worst cases, a disengaged team chasing the wrong targets.

Additionally, integrating the variable compensation plan into existing systems and workflows is a big hurdle for many organizations. Tracking sales performance, calculating accurate payouts, and ensuring timely payments can become overwhelming without the right software.

Many companies struggle with outdated, legacy ICM systems or several, disconnected point solutions that don’t easily integrate data from various sources, leading to calculation errors and delayed payments.  

These issues erode trust in the sales compensation process, so it's essential to have robust, automated systems that can manage the intricacies of variable pay without errors.

Balancing fixed and variable pay
Striking the right balance between fixed and variable pay is a delicate art. If you lean too heavily on fixed pay, you risk a disengaged sales team that lacks the drive to push for that extra sale. But overemphasize variable pay and you might foster uncertainty, where employees feel financially unstable, leading to burnout or churn.  

The challenge is finding a sweet spot where fixed salary provides enough security to keep morale high, while the variable component offers a compelling incentive for top-tier performance.

Part of this balancing act is managing the diversity of your sales team. Not all employees respond to incentives in the same way. Some thrive under high-risk, high-reward structures, while others prefer a larger base salary. Additionally, companies must consider market conditions, job roles, and industry norms when designing the right compensation mix. Getting it wrong either demotivates your workforce or makes your compensation plan unsustainable long-term.

Ensuring fairness and transparency

This is one of the biggest challenges in implementing variable compensation. If employees feel compensation decisions are arbitrary or biased, motivation and trust in leadership plummets.  

Sales teams need to clearly understand how their pay is calculated, why specific goals are set, and how they can influence their earnings. Without this understanding, even the most well-designed compensation plans can feel like a moving target, leading to frustration.  

Types of variable compensation (examples)

There are several types of variable pay, each designed to motivate specific behaviors. From more traditional commission-based structures, to bonus plans that reward hitting milestones, and more—each type offers distinct pros and cons.  

Let's walk through each to help you best tailor your compensation strategy.

1. Commission-based plans

Commission-based plans are one of the most straightforward and widely used forms of variable comp in sales. Employees earn a percentage of the sales they generate, creating a clear incentive to close deals driving revenue, as earnings increase directly in line with the company’s financial success.

Pros:

• A direct performance-to-reward link: Sales associates have an incentive to work harder and close more deals because compensation grows as sales skyrocket.

• Simplicity and transparency: The plan is easy to understand, and provides clear visibility into how much you stand to earn based on your performance.

Potential pitfalls:

• Income instability: Relying heavily on commissions can lead to inconsistent earnings, especially in industries with long sales cycles or unpredictable market conditions, potentially causing stress or disengagement.

• Short-term focus: Sales reps may prioritize closing quick deals over nurturing long-term customer relationships, which has the potential to harm customer retention and satisfaction. Check out our post on how to avoid sales incentive mistakes.
  

2. Bonus structures

Bonus structures offer a flexible way to reward employees for meeting or exceeding specific goals or milestones. Unlike commissions, which are tied to individual sales, bonuses can be awarded for things like hitting revenue targets, launching a new product, or improving customer satisfaction. These one-time payments provide an additional layer of motivation, encouraging sales teams to align their efforts with broader company objectives.

Pros:

• Targeted incentives: Bonuses can be tailored to reward a wide range of outcomes, from hitting specific sales quotas to achieving strategic business goals, making them highly adaptable.

• Team motivation: Bonus structures can incentivize collaboration, offering rewards for group achievements or even cross-departmental goals.

Potential pitfalls:

• Lack of ongoing motivation: Because bonuses are typically for one-time achievements, they may not sustain long-term motivation compared to ongoing variable pay like commissions.

• Perceived inequity: If bonus criteria seems unfair, employees may feel resentful, especially if they believe their contributions aren’t being recognized as much as their peers.
  

3. Profit-sharing plans

Profit-sharing plans distribute a portion of the company’s profits to employees, rewarding them for contributing to the organization's overall financial success. Unlike commission-based or bonus structures, profit-sharing is typically not tied to individual sales or performance metrics but to the collective achievements of the company. This model encourages a sense of ownership and alignment with long-term business goals, making it a powerful tool for fostering team unity and commitment to company success.

Pros:

• Fosters team alignment: Employees feel like they are part of the company's broader success, leading to stronger loyalty and collaboration.

• Encourages long-term thinking: By rewarding overall profitability, profit-sharing plans can help shift focus from short-term sales goals to sustainable, long-term growth.

Potential pitfalls:

• Lack of individual motivation: Since payouts are based on company-wide performance, top performers may feel undervalued if their individual contributions don’t result in a larger share.

• Profit variability: In times of low or inconsistent profits, employees may feel demotivated if payouts are small or non-existent, especially if they contributed heavily but didn't see financial rewards.

4. Stock options and equity-based compensation

This model of variable pay plan gives employees the opportunity to own a stake in the company. Employees are granted the right to purchase company stock at a predetermined price, often below market value, or receive shares outright as part of their compensation package. This form of compensation is typically used to attract and retain top talent, particularly in fast-growing industries or startups, where future growth is a key focus.  

Pros:

• Long-term alignment: Employees are incentivized to think and act in the company’s best interest, as the value of their stock options or equity grows with the company’s success.

• Attractive for talent retention: Offering equity can be a compelling way to attract and retain high-performing employees, particularly in competitive markets or industries.

Potential pitfalls:

• Complexity and delayed reward: Understanding stock options and equity can be confusing for employees, and the financial rewards often aren’t realized until a future date.

• Market volatility: The value of stock options is subject to market fluctuations, meaning employees could see little to no benefit if the company's stock underperforms or the market downturns.  

5. Management by objectives (MBOs)

This is a performance-based compensation model where employees are rewarded for  specific, predefined goals. These goals are typically set in collaboration between management and employees. MBOs can encompass a wide range of targets, from increasing sales to improving efficiency, and offer a goal-oriented way to tie compensation to measurable outcomes when measurement of certain targets is trickier.

Pros:

• Customizable goals: MBOs allow for individualized objectives tailored to each employee’s role and responsibilities.

• Strategic alignment: By aligning personal objectives with broader company goals, MBOs ensure that every employee’s efforts contribute meaningfully.

Potential pitfalls:

• Difficulty in goal setting: Setting fair and achievable objectives can be complex. If goals are too ambitious or vague, employees may get discouraged.

• Short-term focus: MBOs can sometimes encourage a focus on short-term objectives at the expense of long-term growth, particularly if the goals are too narrowly defined or disconnected from the bigger picture.

Check out our full primer on management by objectives here.

Tips for managing variable compensation plans

Variable compensation plans require a thoughtful approach to ensure they drive the right behaviors and contribute toyour company's overarching goals.  

To maximize the success of your plan, keep the following best practices in mind:

Conduct regular review and adjustment
Variable compensation plans aren't set-it-and-forget-it.  

As sales strategies evolve or new products launch, you'll likely need to tweak targets or introduce new incentives. Without ongoing evaluation, a once-effective plan can become outdated and lose its impact, potentially leading to disengagement or misaligned efforts from your team.

Ensure clear communication with employees

As we covered earlier, employees need to clearly understand how their compensation is calculated, what targets they need to hit, and how they can influence their earnings.

As David Gerardi shared at NUDGE '24 (our virtual conference on the psychology behind sales incentives), ideally sales representatives can share the comp plan back to you, and calculate down to the dollar amount how much they stand to earn in a given period based on their knowledge of the plan's fundamentals.

Use robust software for management

As many revenue operations and sales compensation professionals will know from experience, managing variable compensation manually can quickly become overwhelming, especially as your team grows or your compensation structures become more complex.  

Leveraging robust software designed for sales performance management—as opposed to only incentive compensation management (ICM)—can streamline and automate processes, ensure accuracy in payouts, and provide real-time visibility into performance. You can ultimately reduce the risk of errors, enhance transparency, and allow managers to make data-driven pivots to the plan that keep the compensation fair and effective.

FAQs about variable compensation plans

Why do employers offer variable compensation?

A variable compensation plan is designed to align salespeople's daily activity with company objectives. Employers offer commissions to encourage sales reps to produce better business results.

It also helps employers attract top salespeople who want their ability to create value reflected in their pay check. The best sales reps pride themselves on their ability to control their income based on performance. Flexible compensation allows them to do this.

Should I offer my employees variable compensation?

Despite its popularity, variable pay is not easy to manage and can have mixed sentiment. In fact, Hewitt Associates found that half of companies with single-digit revenue growth believe that the cost of variable pay programs outweighed the benefit. Whereas almost all companies with double-digit revenue growth reported positive outcomes from their variable pay programs. This considered, It may be that the way the variable comp is managed by a company and their ability to adequately support the program may be a defining factor of success.

Flexible compensation programs can help you motivate employees and achieve superior business performance, but, they need to be administered properly to be profitable.  

What is variable compensation vs. commission? (are they different?)

Variable compensation and commission are related, but not the same.

Variable compensation broadly refers to any part of an employee’s earnings that fluctuates based on performance, company results, or achieving specific goals. It includes commissions, but also covers other forms of payment like bonuses, profit-sharing, stock options, and management by objectives (MBOs).  

Commission is one specific type of variable compensation. It’s usually a percentage of sales or revenue generated by an employee, typically used in sales roles.  

What's variable compensation vs. a bonus? (are these different?)

In a nutshell, bonuses are a type of variable compensation, but variable compensation is a broader term that includes several other types of incentive-based pay structures as well.  

While variable compensation broadly refers to any part of an employee’s earnings that fluctuates based on performance or specific objectives (encompassing a variety of incentive-based pay structures, like commissions, profit-sharing, bonuses, and stock options), bonuses, are a specific form of variable compensation. They are typically one-time payments awarded for meeting specific performance goals or achieving certain milestones, such as hitting revenue targets, launching a new product, or surpassing quarterly sales quotas. Bonuses are typically discretionary.