October 23, 2014

"Do you mind if I include the extended warranty with your purchase? It costs $149, but the final price to you will be the same." This sounds like a sales scam - add something in at the last minute to boost the value of the purchase. But in this case, I had already negotiated a 15% discount on top of the 20% Columbus Day sale. And the total we had agreed to pay was written in black and white in front of me. I literally had my credit card in my hand, and now the sales person was throwing in the high-margin warranty for no additional cost. There could only be one reason - there must be a significant incentive to them to "sell" the warranty. So they threw away $149 of profit for their employer, and gave it to the third party seller of the warranty. [And yes, I know it means that despite haggling for a 35% discount, I had left at least $149 on the table!]. I'm sure that's not the behavior that the store owner was hoping to create with the warranty program. Sales incentives are a great way to drive revenue, focus the sales team on high-margin products, or boost purchases of slow-moving inventory. But, if poorly designed, they can also reward the wrong behavior, leading to unintended consequences. In Freakonomics, Steven Levitt and Stephen Dubner delve in to this in great detail. In one instance, they describe a study of childcare centers in Israel.

Imagine for a moment that you are the manager of a day-care center. You have a clearly stated policy that children are supposed to be picked up by 4 p.m. But very often parents are late. The result: at day's end, you have some anxious children and at least one teacher who must wait around for the parents to arrive. What to do?

A pair of economists who heard of this dilemma.... decided to test their solution by conducting a study of ten day-care centers in Haifa, Israel..... For the first four weeks, the economists simply kept track of the number of parents who came late; there were, on average, eight late pickups per week per day-care center. In the fifth week, the fine was enacted. It was announced that any parent arriving more than ten minutes late would pay $3 per child for each incident...

After the fine was enacted, the number of late pickups promptly went up. Before long there were twenty late pickups per week, more than double the original average. The incentive had plainly backfired."

The authors go on to suggest that the reason for the "unintended consequence" was that the guilt that had driven most parents to pick up their kids on time, was now replaced by the feeling that they were paying for the extended service - and therefore were less inclined to hurry to the school to pick them up. So an effort to motivate people to be on time actually resulted in the opposite.

With these two cautionary tales in mind, how should this impact the way you design your next sales incentive program? Will you be rewarding your team for the right behavior? And will they act the way you expect?

Here's an approach to limit the risk of pushing your sales team in the wrong direction:

1) Define & quantify the ultimate goal of the incentive (higher revenue, more profitable product mix etc). Then identify metrics which must not be adversely affected (profit margin, overtime spending, absenteeism),

2) Include both the goals and the adverse metrics in the rules

3) Review the contest rules with your sales leaders, or a reliable sales veteran, and ask them how it would drive their behavior. Do they see any trapdoors? Maybe even role-play some situations with them.

4) Monitor the adverse metrics, not just the goals, and be willing and able to amend the contest rules if you see it moving off-track.

Chances are, someone will still find a way to game the system, particularly if the rules are complex. You just want to make sure that's the exception, not the rule!