How do I determine commissions for independent sales rep/referral person/finder fees for a service company?
We recently started a new marketing/advertising agency. We've never done a commission-only payout to anyone before. Would love to hear your advices for our scenario below.
My friend wants to bring customers to us. He has minimal knowledge on marketing/advertising, so he cannot close the deals on our behalf. However he is good at networking, and is willing to find potential customers for us. He doesn’t represent our company, and refers to us as his friends to potential customers. He contacts people that he knows or reaches out to new prospects. Then he sets up a phone call for us to talk to them. We talk to the potential customers, and close the deals.
He proposes 20% commission of gross profit as a starting point. There is no salary. For example, if we run a marketing campaign for a mattress shop, and manage to bring revenue to the shop $60,000. The shop agrees to give us 40% of the revenue, equals to $24,000. Our ads spending is $4,000. Therefore, our profit from the campaign is then $20,000. He would like to get $4,000 from it, which is 20% of our net. My concern is not only is this high, but it also doesn’t allow me to cover my overhead first. Does anyone have a plan for this?
I think it is too much, based on what I think a more experienced sales rep can do. But I want to be fair to him, unbiased to my opinion, and understand if his offer is reasonable.
Here are my questions.
1. Does his work fall into the category of “independent sales rep”, or “referral & finder fees?” Are they different?
2. Do you have any similar experiences as above? How do you solve it?
3. How do you structure commissions in a service company which has no predictable pricing? For commissions on products sales (e.g. a $300 software) I can see it clearly how to incentivize sales rep to sell more, such as in volume, or in higher margins. In this note, it’s best for us to get bigger-spend clients, than small-budget clients. For us, each client has unique marketing budget with rev-share percentages. What can we do to treat our friend fairly with a cut?
4. What do you think a fair deal would be for him? The 20% commission on the initial deal? 20% of the ongoing gross revenue from the client? Or something completely different. Again, he’s not closing the deal, and so far not really managing the clients once their signed. So what is a fair deal for him and us?
5. How do you structure a sales commission? do you pay off net? gross? do you pay your overhead first? what kind of percentages would you use?
Thank you for your help in advance!
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Jan 24, 2016
A true Professional Sales Person is a deal closer and then 20% seem appropriate or a little low depending on the profitability of the client..... I agree with the recommendations below......and then some..... Finders fees are less than 20% from my viewpoint--Ray's recommendation is excellent for a start...
Jan 23, 2016
1. what does your market demand? 20% seems high to me but if your industry pays this it could be realistic. That said, he is not closing the deal and may need much of your support.
2. Is your profit margin such that you can afford this? Talk with your CPA and make sure you are not giving away the store.
3. Write it down. Since this is a friend, you don't want misunderstandings later.
4 Good luck!
Jan 23, 2016
Yes, he is definitely performing a referral role rather than a true sales rep role. Even though he maybe lending his stature to the referrals, it is primarily getting the initial appointment. The bulk of the work comes after the fact: following up, doing presentations and finally the hardest part - closing.
As an alternative, you can consider a telesales operation which may charge you about $3000 per month to get you about 20 appointments a month. This is more of an upfront cost, but if you are confident in your qualifying criteria and closing abilities, it may work out the same.
Finder's fees /referral's fees normally do not exceed 10% of first year revenue from that customer.
Jan 23, 2016
Thank you Ray Badger, Kunal Bhat, Jim Carlson, and Rolando Rocha for your advices. I am deeply grateful for your guidances. These are really helpful. It gives me more confidence and feel educated to tackle this issue. I am sharing these insights with my partner and will post it here what we've come up with.
Jan 23, 2016
I agree that 20% of gross profit is a bit high. You should be able to do some math to come up with the number. If you assume that the referrals are incremental business that you would not get otherwise, then I think it is fair to award a percentage of the net profit (not gross) on this incremental business with the lead provider. Can you get a good estimate of your net profit based on the revenue of the sale? If you then offer 20% or more of the net profit, you are money ahead assuming you would not have the business anyway; and as your business grows the fixed overhead costs get spread over a larger revenue base. I would offer a larger percentage of net on initial contact with a smaller percentage on ongoing sales to incentivize your independent sales rep(s) to find long term customers with whom you can have an ongoing business relationship.
Jan 23, 2016
I agree with Ray on this. Referrals is a very plain job - sharing contacts and setting up a meeting. 20% works well when he carries thru the entire negotiation cycle and ensures you get your best price. I am sure he is not doing that. I'd recommend anywhere between 2%-5% per conversion and nothing more. The 10% which Ray mentioned can be a cementing incentive but just that once.
Jan 23, 2016
Thank you Kunal. I feel relief to see you agree. I can breathe better :)
I can see him get training on our industry, get better at selling, closing the deals, and managing clients, which will be more valuable to us. Then higher percentage like 20% is not a problem at all.
Jan 23, 2016
I spent 20 years as an independent rep and had a couple of deals that involved finders fees. If he were a true independent rep who made the presentation and got the order then the commission he proposes would be about right. A finders fee where they just give you the lead usually involves very little work and I think what he proposes as you outline your costs would be excessive.
One of the times I can recall working for a finders fee was for a neighbor who built commercial buildings. Since I was calling on a lot of businesses if I gave him a lead that resulted in a sale he was giving me a finders fee that amounted to about 1% of the sale. Of course the sale could be a half million or more which would have been $ 5,000 to me.
My suggestion would be to offer him either 20% of the first sale and nothing on continuing business or 10% of the first sale and 5% on continuing business. If he accepts the first offer you might not make anything on that first sale but on repeat orders you would make your full profit. If he takes the second offer then you should be able to make at least a little money on it. If he sticks to the offer he has made I would not proceed with him.
Jan 23, 2016
I have a total of about 20 years in sale and marketing total and recruited and worked under almost all scenarios. The Scheme your "friend" proposes sounds too high to me as well. Mr. Badger's proposal is closer to what would be "normal", but still a pretty good deal. Revenue sharing arrangements (and I've done a few) can be very, very problematic. If you only do business with people or for people that aren't motivated by greed, you're probably okay. I think a system in which your asking for an upfront fee and then some kind of ongoing revenue share might make it easier to arrive at a suitable commission. But, since he's not closing, anything above 5% sounds generous. I'm involved in a "bird dog" situation which is what you're describing. My fee ranges from 1% to 5%, plus depending on the deal, a portion of the profits going forward, but even that rarely exceeds 2%.
Jan 23, 2016
You might want to do a contract with him that spells out what ever you agree to but most importantly the termination terms. Otherwise if it doesn't work out he could demand that percentage you agree on forever even after you fired him.
Jan 23, 2016
Thank you Ray! Glad that I found you in here. Your experience and suggestions are super helpful. I can share your story to him to show the real-world standard.
I like the incentivized model you suggest. We will definitely take a look at our situation and come up with something that make sense.
Would you mind clarify a bit more about the model? Which one of these fit in your explained scenario? (For First Sale)
A) He gets 20% on gross revenue. For example, he gets $20K when our company makes $100K in revenue.
B) He gets 20% on net profit of the project. For example, he gets $12,000 when our company makes $100K in revenue, and ads cost $40K. So the net profit on the project is $60K.
C) He gets 20% on company net profit. For example, he gets $8,400 when our company makes $100K in revenue, and ads cost $40K. Our net profit on the project is $60K. Then we minus overhead on running business $18K (30% of our net profit). So the company net profit is $42K.
Jan 23, 2016
Definitely we will have a contract with termination terms. Thank you for looking out for us, Ray. Also I remembered our lawyer told us a while back that, it is better to set termination agreements when everyone is in good terms and expects nothing bad to happen. Because when things go wrong, things can get ugly real bad, and everyone will be more emotional.
Mr. Carlson makes a very good point. If the upfront is too high and nothing on the back end, your incentivizing sales people to write bad paper. Short-term business. So, it's smart to offer a smallish back end arrangement to incentivize long-term business. Think about what you're incentivizing your sales people to do. Good sales people do what's good for their pocketbook. Align that with what's good for your pocketbook. Valuable long-term clients.