Robert Freedman is the former director of multimedia communications at NAR.
From Mutt to Best in Show
How you compensate your agents can change the color of your bottom line from red to black.
October 1, 2007
When Byron Hendricks, CRB, looks at the several hundred sales associates affiliated with his company, Prudential Real Estate Professionals in Salem, Ore., he sees a group of rising stars. But it wasn’t always this way.
In 2002 his company was struggling. Although his sales associates were performing well, with many of them organized into teams that were pulling in $1 million a year or more in gross commission income, the compensation structures he had in place were resulting in too small a company dollar for his brokerage to maintain profitability.
Part of the problem was the rapid growth of teams in his company. What started out as an experiment with one of his top producers about a decade earlier had mushroomed. By 2002, there were some 15 teams operating out of his office, comprising about a third of his sales force.
The teams themselves weren’t a problem. “We encouraged people to grow teams,” says Hendricks, the company president. “We’ve been proud to facilitate that.”
The problem was that the compensation plans that were in place — a mix that included 100 percent plans and several levels of splits — no longer made sense.
The teams were compensated as if they were one individual, not a group of sales associates working for one individual, and they were hitting their compensation targets too early in the year and ratcheting up to higher levels of split well before they generated enough company dollars to offset what they cost the company.
Hendricks found himself in a peculiar situation: compensating two sales associates at the same rate, even though one was supported by a team that would rise to a higher split far faster than the one operating solo.
As a result, the associate supported by the team would more quickly get to keep a greater share of gross commission income even while generating far more overhead costs to the brokerage, which had to support the team members with desk space and supplies.
At one point, Hendricks had an associate who, thanks to the team under her, quickly ratcheted up to a 90–10 split, generating more than $1 million in GCI.
But the performance ultimately hurt the company’s profitability because the 10 percent company dollar was insufficient to support the team.
It “wasn’t fair because the less profitable teams were being subsidized by other associates,” says Hendricks.
What do Your Associates Think?
To get control of the situation, Hendricks in 2002 brought in two consultants. Their marching orders weren’t to drive more revenue by helping his associates ramp up business, since the problem wasn’t on the revenue side. Nor was the goal to shrink commission splits, because the splits themselves weren’t solely the problem.
Rather, the goal was to conduct an up-and-down examination of Hendricks’ company cost structure and recalibrate all compensation plans — not just team plans — so that each individual and team paid a share of commissions to the company proportional to the costs they generated.
To determine the right mix of compensation plans, the consultants didn’t just look at quantitative factors like income versus costs; they gathered qualitative information as well to determine whether the level of services and the nature of office practices were in alignment with the associates’ expectations.
If associates felt they weren’t getting the services they needed, for example, the new compensation plan would have to factor in costs to provide increased services.
To tease out that qualitative data, the consultants surveyed and interviewed associates and found — among other results — concerns over the way recognition was meted out for performance. Since recognition was based on volume, those who headed teams tended to attract a disproportionate share of recognition. The performance of those who worked for teams, or who were unaligned, often went unrecognized.
“We had individuals who were doing $1 million and not getting recognized,” Hendricks says.
Other issues to come out of the interviews were more mundane: “mechanical things, like the copier on the third floor not working properly,” says Hendricks.
Crunching the Numbers
To get at the quantitative issues, the consultants examined the company’s expenses, but they didn’t compare them to the number of sales associates, as is often done at brokerages.
Instead, they compared them to what they call the optimum fully productive equivalent point, or OFPE.
That point is determined based on a formula that takes into account associates’ production and the interaction between company expenses and the compensation plans, the target profit level, and the revenue generated by the associates, among other things.
Once they had their OFPE point, they plotted it onto a popular matrix used on Wall Street to look at growth-share performance of publicly traded companies.
The matrix, developed and popularized by strategic management firm Boston Consulting Group, enables management to get a picture of company health by identifying an intersection point on a graph of quadrants of the company’s key indicators. Depending on the location of a company’s intersection point, analysts can diagnose the company as a:
- Rising star: very high productivity and profitability, with good survivability
- Cash cow: solid profitability and productivity, with strong survivability even in a downturn
- Question mark: solid short-term profitability but with questionable survivability during a downturn because of insufficient productivity, or
- Dog: insufficient productivity and profitability even during a strong market
From that diagnosis they can create an action plan. In the version used by Hendricks’ consultants, the vertical and horizontal axes that define the quadrants are for profitability and survivability.
With profitability and survivability calculations, “we can accurately assess where a company fits in the matrix,” says David Cocks, managing partner of Toronto-based CompensationMaster, which has its U.S. operations in Charlotte, N.C.
Cocks and Dennis Gould, managing partner of the company’s Canadian operations, provided the consulting services to Hendricks.
Position on the Matrix
Based on the data Cocks and Gould analyzed, Hendricks’ company was clearly struggling, with profitability barely reaching 1 percent, and its survivability not quite at 50 percent. That positioning made the company just barely a “dog,” to use the Boston Consulting terminology.
“Its expenses were in line but the teams were suppressing the company’s survivability,” says Cocks. “The compensation plans weren’t fair, which was affecting the results.”
From that starting point, Cocks and Gould, working with Hendricks, devised a plan to transition the company from dog to the sweet spot on the matrix between a cash cow and a rising star. That’s the point at which the company’s success isn’t so high that it would attract ruinous competition (from companies jumping into its market to take away its disproportionate share of business) but high enough that the company could invest to keep productivity strong even during a downturn.
“The advantage of this method of analyzing company performance is that it makes it easy for managers to see changes they need to make and to perform what-if scenarios,” says Cocks. “For example, you can see what will happen if you hire two top performers and five mid-level people, and how those results will differ from hiring four mid-level people and three who are new to the industry.”
Based on what they learned, Gould and Cocks devised a menu of seven compensation plans. The plans ranged from what the consultants call a “quick start” for beginners to a 50–50 split for more experienced associates and a 100 percent plan for veterans.
The menu also included a plan with a high split (with no desk fee) and one that enabled associates to get their costs to the company out of the way early in the year.
With the new plans mapped out, Cocks conducted a what-if analysis of the company’s previous year’s revenue to see where it would have fallen on the matrix had the new plans been in place.
The result suggested that the new mix of plans would have moved the company into the cash cow quadrant, in part because some associates, including some of those leading teams, would have split more commissions with the brokerage.
To be sure, some associates wouldn’t be happy with the company’s improved position if it appeared to be at the expense of their income. But it was equally clear that a larger company dollar was essential to help ensure the company’s survivability — something they all depended on, says Hendricks. The company went with the new plans.
Transition Alters Dynamics
To minimize the pain for associates facing a smaller cut of commissions under the new arrangement, Hendricks phased in the changes over two years.
The company lost about 15 percent of its associates.
“When the playing field was leveled, some people saw that they weren’t contributing their fair share,” says Hendricks. “Many of them stayed. Some left. It wasn’t easy. I lost people I cared for. But we also had people who got 15 percent raises.”
Replacing the people he lost proved easier than Hendricks had expected. The new compensation plans turned out to be a recruitment booster, in part because of the improved choices of splits for individuals. “We were able to hire more associates, and fewer people were needed to replace the lost revenue” because of their stronger productivity, Hendricks says.
One year after the plans were in place, Cocks again mapped the company’s performance on the matrix. The result proved surprising.
“What actually happened was better than expected,” says Cocks. “The company’s survivability went from 49 percent to 69 percent in the first year. That put it solidly in the sweet spot.”
Although the improved balance in commission splits is at the heart of the improvements, other factors were also at work, Cocks says.
The new mix of plans heightened motivation, creating incentives for associates to achieve more, he says.
Also, more experienced associates started joining the company — something that hadn’t happened much in the past.
The new system proved to be flexible, too. Within a year after adopting the plans, Hendricks’ company acquired a 60-associate office, and the new plans proved well suited to the additional branch office.
“Many brokers assume they can simply apply their existing commission plans to an acquisition,” says Cocks. “But we’ve seen so many companies get in trouble this way.”
As it turned out, after Cocks analyzed the new branch, it was evident that the new compensation plans could be applied quickly, with only one catch — that the new branch upgrade its technology to bring it up to par with Hendricks’ company.
The reason: The compensation plans were designed for associates who were receiving a high level of support and tech tools. The associates in the new branch hadn’t been receiving that. Without the upgrade, the company would have needed to take too high a split to cover the costs of bringing the branch up to speed.
One year after acquisition, the company was maintaining its strong position in the sweet spot on the matrix, something that impressed Cocks.
“Typically when a company is acquired, there’s a shakeout period,” he says. “Often it takes companies two or three years to recover their profitability, and some companies never do.”
What was different here? The compensation plans, Hendricks believes.
Not only are they built around what the company needs to operate, but because associates can choose the plan that makes the most sense for them, they build in an incentive for associates to operate at peak performance.
What’s more, they’re transparently fair, Hendricks says, so associates see how they contribute to the company’s survivability.
“We have 400 people who count on us to earn a living,” says Hendricks. “We want to cover our expenses, earn a fair profit, and give the rest to our sales associates.”
Now several years into the change, that’s what the company has done.