PE's Annual Sales and Marketing Employment Survey: The Big Squeeze

January 1, 2004
Michele Goldberg

,
Bob Davenport

,
Tiffany Mortellito

Pharmaceutical Executive

Pharmaceutical Executive, Pharmaceutical Executive-01-01-2004,

In spite of pharmaceutical employers' best intentions to the contrary, sales rep compensation is being squeezed in a vise that is gradually narrowing the gaps between what top, average, and bottom performers are earning. According to the Hay Group's Pharmaceutical Sales Force Effectiveness Study, co-sponsored by Pharmaceutical Executive, reps in the 90th percentile are earning just 40 percent more than the average performer. This is not to suggest that reps aren't being paid handsomely (they are), but that the pay-for-performance model is showing signs of weakness.

In spite of pharmaceutical employers' best intentions to the contrary, sales rep compensation is being squeezed in a vise that is gradually narrowing the gaps between what top, average, and bottom performers are earning. According to the Hay Group's Pharmaceutical Sales Force Effectiveness Study, co-sponsored by Pharmaceutical Executive, reps in the 90th percentile are earning just 40 percent more than the average performer. This is not to suggest that reps aren't being paid handsomely (they are), but that the pay-for-performance model is showing signs of weakness.

On the whole, the annual survey confirmed that many of the industry's compensation practices are working well, but sounded a few notes of caution along the way. (See "About the Survey," at the end of this article.)

Another Way?

When it comes to allocating resources in sales, US pharmaceutical companies are engaged in a staring contest on a grand scale. Collectively, they employ nearly 100,000 sales reps, targeting approximately 250,000 physicians, and they plan to hire still more. The thought of backing away from such a ratio may be appealing, but only if someone else does it first-and survives in the market. No company wants to be the first to blink.

Nearly a quarter of US manufacturers plan to increase their sales staff by "a great deal" in the next year. Still, one gets the impression that every major player would do with fewer reps if only others would do the same. In the absence of one company taking that first bold step, industry is compelled to keep doing what seems to work: get reps in front of physicians as often as possible.

Pay them to stay

Employing an army of salespeople works to achieve reach and frequency, but is that what it all hinges on? Could the whole sales process work even better? Many companies are in the process of answering that question by evaluating various sales force models. Their aim is to improve sales force effectiveness-without adding to the number of people knocking on physician doors. At that point, effectiveness will have to be measured in terms other than reach and frequency. Any new model would, of course, have to prove itself against the increasing numbers of competitive reps clamoring for face time with physicians.

Until someone punctures the status quo and adopts a different model, the challenges in using compensation to achieve a company's business goals will remain the same. Pharmaceutical employers continue to make their compensation plans ever more motivating, attractive, fair, equitable, and manageable. In fact, many companies intend to change their incentive plans next year, and several changes in effect this year are quite interesting.

Yet, the industry's sales force, which has reached roughly 100,000, continues to grow. In recent surveys, the market appeared on the verge of becoming saturated, and each year, like a magical sponge, it somehow absorbed still more reps. Between May 2002 and May 2003, 78 percent of study respondents increased their sales staffs, and nearly half did so by more than 5 percent.

A look down the product pipeline suggests that in the 2005–2008 time frame, the rate of new product introductions may slow, which theoretically should bring a corresponding slowdown in sales force growth.

Taming Turnover

Last year, voluntary turnover rates had begun to drop after they had peaked at 19 percent in 2001 for primary care reps. The ongoing drop has now brought them back to a more "normal" level of 10 percent-the lowest rate since 1998. (A voluntary turnover rate of 10 percent is typical in sales organizations in other industries.) Of course, in theory, the 10 percent a company loses should be the bottom-not top-performers. It seems logical to assume that salespeople were less mobile last year because of the tepid economy and because they recognize that the pharma industry is a good place to be.

For the first time, it appears that turnover rates within large pharma companies are slightly higher than those within specialty and biotech companies. It is too early to say if the change will become a trend, but it is at least worth noting and watching. Hay's experience in the field suggests that reps who are not afraid to take risks are frequently drawn to small specialty and biotech companies because of the autonomy, greater visibility, and wider scope of responsibility.

While previous study results have demonstrated that pay is not the primary reason for voluntary attrition within a sales force, it is nonetheless a related factor. Companies that targeted their compensation at the market median experienced 16 percent turnover, whereas those that targeted the 75th percentile saw only 10 percent attrition. (See "Pay Them to Stay.") Moreover, compensation is the primary reason for turnover among high performers-the very people companies most want to retain.

Who merits A raise?

Moving Target

The pharma industry continues to pay salespeople well for their efforts. Reps earned more in total cash compensation in 2003 than the previous year, more as a result of their incentive earnings than their base salary. Some senior specialty sales reps, for example, earned 9.6 percent more in total cash than the previous year, which was primarily the result of larger incentive payouts. That trend suggests that companies are putting the onus on salespeople to earn their keep through strong performance. Even so, new salespeople can expect to do well for themselves. In 2003, an entry-level pharma sales representative can expect to earn an average of $62,500.

Most companies examine their salary structures every year and make adjustments to remain competitive, to improve internal equity, or to counteract compression. The next median salary structure increase for all employee groups covered in the study is expected to be 3.2 percent, a slight decline from the previous increase of 3.5 percent.

On the other hand, merit increases are expected to remain flat over the next year, and the criteria for determining merit raises have changed. In 2003, companies are relying far less on a demonstration of core company values and team skills than the year before. Reliance on core company values declined from 58 percent to 21.6 percent, and companies using team skills as a basis decreased from 34 percent to 5.4 percent, perhaps reflecting an industry preference for quantitative rather than qualitative measures. (See "Who Merits a Raise?")

The use of sales results and compa ratios (an employee's base salary divided by the salary midpoint for the job level) to determine merit increases remained relatively steady between 2002 and 2003, currently used by 43.2 and 48.6 percent of companies, respectively.

A growing number of companies claim that their compensation philosophy is to target base pay above the market median. In 2002, 38 percent of respondents aimed to set their reps' base salaries above the median, whereas 62 percent intended to do so in 2003. The constant escalation has the effect of perpetually pushing the median beyond reach, like the mechanical rabbit in greyhound races. The market median is the proverbial moving target.

A majority of companies also continue to target above the median for total cash compensation, a practice that is causing the upward spiral of compensation, evidenced by the substantial increases in total cash paid out in 2003.

Less than ideal

One unintentional consequence of using compensation as a competitive weapon in the battle to attract new talent is that it compresses the spread between what a new hire and a tenured person make-unless sufficient changes are made to the salary structure for existing employees. Some new hires can be offered more in starting salary than experienced incumbents earn-the current situation with a few district managers. Naturally, that imbalance could prompt experienced district managers to look elsewhere.

Ever More Complex

A job in pharma sales compensation management is not for the faint of heart; characteristically, the industry's plans are ultracomplex-more so than in any other industry. The most prevalent type of plan (representing 72 of the incentive plans reported) provides a multivariable incentive bonus on top of a base salary. By taking into account a variety of performance measures, the typical plan has a lot of moving parts that can be adjusted and re-adjusted to accommodate changing conditions and expectations.

That's the benefit, but there are two drawbacks. First, the plans are devilishly hard to understand, and consequently, they don't always provide reps with the direction and motivation intended. Rather than providing direction toward the required sales behavior and performance, the plan designs are viewed more as abstract algorithms that generate a cash payout that one hopes will be satisfactory. Second, the use of so many variables tends to compress pay, as individual payouts gravitate toward the mean. This is an example of probability theory at work: the more measurements taken, the less variation found in the results.

A related phenomenon is that many companies are now treating each quarter as a stand-alone performance period with its own goals and payout. Nearly 70 percent of companies reported using stand-alone quarters, a practice that had not been observed before. The concept is appealing to reps who have a bad quarter and get to start fresh with the next 90 days. It also benefits companies that want to ratchet up standards as the year progresses.

Although a short-term focus can be an appropriate performance management tool for sales organizations in a dynamic market, a note of caution should be sounded. To use quarterly stand-alone performance periods effectively, companies must ensure that their plans can stretch sufficiently to differentiate pay. Otherwise, when a rep's four units of compensation are averaged together at the end of the year, the total tends to gravitate toward the mean for all reps.

In adjusting an individual's targets upward or downward each quarter according to achievements in the previous quarter, companies are minimizing the difference in incentive payout across reps. Also, the use of quarterly plans for the sales organization and annual plans for other areas of the company could introduce major discrepancies across the company in the year-end perspective.

As a rule of thumb, companies should strive to have their top performers earning twice the incentive compensation of an average performer. This goal is unrealized, however. In actuality, reps in the 90th percentile are earning only 140 percent of the average performer's incentive compensation. And, the rep in the 10th percentile earns 60 percent of what the average performer earns. (See "Less Than Ideal.") Combine that with the fact that everyone's base salary is essentially the same, and the differentiation between levels of performance becomes even more blurred.

Compression of compensation levels is a serious situation because it affects the best salespeople the most, and they are the ones most likely to pull up stakes for better pay elsewhere. The industry's pay-for-performance model is showing some signs of strain in that respect. It is essential that companies take steps to, as one industry member put it, "Let the big dogs eat!"

All of this leads to the disappointing fact that the industry's $2 billion incentive compensation budget is not as well appreciated as it should be. Fewer than half of sales reps feel that their incentive payout reflects their performance. Only slightly more are favorable about the fairness of their incentive plans.

Popular Practices

There is clear evidence that new reps are being added to incentive plans earlier and earlier in their employment. The average number of months elapsed before they are put on a plan has decreased from seven in 1999 to three in 2003, according to participants in Hay's semi-annual Sales Incentive Roundtable. That can be viewed as a shrinking security blanket-new reps are expected to start producing sooner-or as a recruitment tool-new reps are promised an opportunity to start earning bonus pay sooner.

Most companies (70 percent) incorporate sales incentives for new products into their existing plans, even though in Hay's experience, having a separate plan for the first six months of launch is more effective in boosting sales. A separate plan for a newly launched product gives the launch goals extra visibility and helps reps focus. But establishing a separate plan for a new product makes it difficult to maintain equity for those sales reps who do not have a similar opportunity, and that may be why so many companies refrain from doing so.

Ranking. Fewer than 20 percent of companies in the study use ranking as a primary method of calculating incentive compensation. In ranking, all reps are placed in order according to their performance, and the sales incentive budget is doled out accordingly. The practice simplifies incentive calculation and has the advantage of keeping budgets predictable.

But, it pits one rep against another in less than healthy competition. The practice brings to mind the old joke about the hunter who realizes that to survive, he need not outrun the bear that is chasing him, only his hunting companion. When they are compensated by rank, reps focus more on how they are doing relative to their peers and less on making their best effort.

Special achievement. The number of companies using special achievement awards has increased dramatically over the past two years-from 31 percent in 2001 to 71 percent in 2003-perhaps reflecting a need to counteract compression. Such awards are also often used to even out the score when good performers are adversely affected by managed care policies in their territory.

Long-term incentives. These programs remain quite popular; 59 percent of reporting companies offer them. The most prevalent type is a nonqualified stock option plan, so smaller companies that can't offer stock are at a disadvantage. The whole practice is worth watching.

If Microsoft's move to give its employees restricted stock grants rather than options, the use of incentive stock options in pharma may be a bubble waiting to burst. Because companies can generally afford to be more generous with options, employees tend to prefer them. Reps may view a move toward grants as a negative change.

New Trends

In recent years, pharma's marketing function has been gaining ground in a sales-dominated world. Between 2002 and 2003, marketing made major strides, at least in terms of sheer mass. In just one year, the average number of incumbents per company in product management has nearly doubled, indicating a growing reliance on that critical function. The average head count in market research has also increased substantially (67 percent).

The value of marketing is reflected not only in head count, but also in compensation. Compared with 2002, total cash increased an average of 8.8 percent for incumbents in product management jobs and 12.5 percent for incumbents in market research in 2003. Considering the recent state of the economy, those are healthy increases.

For now, the pharma industry is focused on using the sales force to achieve reach and frequency. Only when companies are able to change their orientation from those metrics will the size of sales forces self-correct.

In the meantime, employers, in their zeal to measure an ever-multiplying array of variables in monitoring performance, risk compromising their ability to differentiate and reward top performers through their compensation and incentive practices.

Still, companies have been making many improvements in their policies, and in the final analysis, there are many saving graces: turnover is down, total cash targets are moving closer to the median, and sales reps are still generously compensated.

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