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Sales On-Target Earnings (OTE) Compensation Plans

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The Point: The most frequently asked inquiries that we receive at The Zeroing Agency — Tip of the Spear Ventures’ consulting side of the firm — is regarding OTE or on-target earnings. It’s clear why, because if you show us a salespersons’s compensation plan, we’ll show you what it is that they are going to do (and what will get done as a result!) On-target earnings allow companies to better plan their budgets. Additionally it helps sales reps to know the amount they’ll be able to earn should they reach their sales goals. This in turn increases the motivation of both sales leaders and their sales representatives to help boost their efficiency, revenue and increase growth to make the most of OTE. However, there are many important factors that companies must be aware of when implementing OTE within their incentive compensation pay plans. If they do implement the OTE methodology improperly it could result in lower morale, low performance, and eventually the loss of revenue for the business. What factors should you take into consideration when you are using OTE? In this article, we’ll discuss the OTE considerations in greater detail and guide you through the process of creating an effective compensation plan with it… Enjoy!

What is OTE?

In simple phrases, OTE or on-target earnings is the total of a sales rep’s annual base salary as well as their on-target commission. Then, OTC or on-target commission is essentially the commission sales reps receive if they achieve their sales targets.

In simple words, OTE is the total amount of compensation that sales professionals are expected to receive if they meet the 100% mark of goals or the quotas. The majority of the time, this quota is going to be an annual number, instead of the weekly or monthly numbers.

That’s an enormous amount of information to decode. In order to understand the concept more clearly let’s examine an illustration. Suppose you post an advertisement in order to locate an employee for sales. You plan to give the employee a starting salary of $100,000, provided you can prove that they meet their annual sales target. The job description you include in your advertisement will typically mention the compensation for the position by the number “$100,000 OTE”.

That’s why that, if a salesperson is interviewed and is hired, they should realistically expect to make $100,000 annually. The compensation will be contingent upon them meeting 100 percent of their sales targets for the year. Remember, the on-target earnings (OTE) figure of $100,000 is only an approximate figure. It could be a bit off, but it could be higher or lower depending on their performance to goals.

Benefits of using On-Target Sales Earnings in Compensation

There are numerous advantages of using on-target earnings in your compensation program both for you as well as those who sell:

  • Forecasting Sales Commissions – If you are able to calculate on-target earnings you’ll be better placed to accurately forecast sales commissions. This will make it simpler to plan and budget your financials.
  • Estimating Earning Potential – Your sales reps using OTE allows them to see the exact amount they’ll be earning should they be able to meet their sales goals. Another benefit is that when you have an OTE is competitive sales reps will be motivated to reach their quotas.
  • The Process of Determining the Realistic Commission Rate – If you choose an OTE number that is both realistic and competitive and realistic, you’ll be able decide on a commission rate that is suitable. That is you’ll be in a position to decide on the appropriate base amount for the sales reps you employ.

Employing OTE as a Part of Your Incentive-based Compensation Plan

We’ve now covered what on-target earnings (OTE) are and the benefits it offers. Now it’s time to consider ways to utilize OTE to enhance your compensation strategy. There are three key aspects to take into consideration when you plan to employ this type of incentive structure for compensation:

  • Set the Compensation for OTE. As mentioned previously, OTE is the total of sales rep’s annual base salary as well as the commission on-target, OTE is the total earnings that sales reps will be capable of earning. This means that it is essential to get this figure correct if you wish to retain and attract the top talent.
  • Calculating the Pay Mix. This is simply the ratio of base salary to the on-target commission. It reveals sales reps the level of risk that comes in reaching their OTE. The higher the ratio, the greater the risk.
  • Quotas and Setting Sales Goals. These sales targets are the objectives which sales reps must achieve in order to earn the entire OTE as compensation. In this case, it is essential that the goals you set are accountable and achievable, or sales reps may lower them in line with the goals they receive.

Set the Compensation for OTE

In order to retain and attract the top-tier talent, it’s essential you get your OTE in order. The first thing you should be aware of is what your market-based compensation is for your particular sector. Sales reps have to feel as if they’re receiving an equivalent amount to employees of other companies. If they’re not and your OTE isn’t in line with other businesses in your industry, it will be difficult to hold your sales reps’ good qualities and turnover will result.

Be aware, there aren’t any strict and fast rules for calculating OTE. Therefore, it can vary depending on the industry you’re operating in, the kind of products you’re selling, the complexity of the sale, and the amount of expertise you’d like your sales reps to possess. In this case, a site like Glassdoor is a great resource. It can provide information about what market-based compensation plan for your job and the industry you work in looks like.

Another factor to take into consideration in determining the OTE must be the fact that your OTE needs to be similar to other sales and other non-sales positions within your business. The most important thing is to make sure that you provide similar pay rates for the same amount impact a particular job position can have on your business and its profit.

This means that you must be wary of overpaying or underpaying for the performance of your sales team. If you overpay you will incur costs for customer acquisition that will be excessively high. Likewise, underpaying can result in poor results, low morale, and lower retention rates for employees. In the end it’s all about finding the right balance.

Calculating the Pay Mix

As previously mentioned the Pay Mix is the ratio of the base salary to commission paid. The ratio determines what actual earnings will be for particular roles. Our experience suggests that OTE plans average 65% base salary and 35% commission. However, the Pay Mix ratio will vary based on the particular market or the expertise of the sales representative.

But the most important aspect to take into account when determining the Pay Mix ratio is the extent to which a sales representative is able to influence sales that, in turn alter the ratio. For instance, when a sales representative generally has no control over the result of a transaction, their base pay should comprise an increased portion in the OTE. If, however, the sales rep is able to significantly influence sales and influence the outcome of a sale, commissions should constitute more of the OTE.

Quotas and Setting Sales Goals

From a sales rep’s standpoint, one of the primary aspects they should consider when they’re evaluating their compensation plans are the sales targets, or the goal. In order to achieve the anticipated total salary (OTE) and to earn it, they must meet their sales targets. This means that sales targets must be achievable. However, if it’s not so, the sales representatives are likely to, as previously mentioned, simply reduce their sales. That is, they’ll calculate their pay by calculating their targets — More proof for the previously mentioned “show us a salespersons’s compensation plan, we’ll show you what it is that they are going to do (and what will get done as a result!)”

Based on our experiences, sales quotas must be achievable for 60 – 70 percent of your sales representatives. This gives the majority of them the chance for them to achieve their OTE. However, those who aren’t will realize the possibility of it. They’ll also be driven to be more efficient — Think “stretch” goals here!

However when your quotas and/or goals are not achievable in less than 60 percent, it’ll result in the opposite. The result is that morale overall will decline. If the percentage is higher than 70 percent, you’ll probably overpay for the performance.

Remember, when setting the OTE and setting the Pay Mix various factors can affect the quotas you set. In this case, the majority of companies begin with their historical performance, and then adjust the quotas according to the market conditions.

But, that means for more recent products and markets that are less developed this could make it more difficult to set limits. Considering the COVID-19 pandemic, this is an extremely important point. The most effective solution is to establish quarterly quotas , and then adjust them over the course of the year as information becomes available.

SUMMARY

The use of on-target earnings (OTE) in your compensation plans is a great option to improve the performance of your sales reps and encourage them to generate more sales. But, it is important to be careful when setting the OTE as well as the pay structure, and establish sales limits. Once you’ve finished this, you must determine the salary for each employee. This is where we can help. We can streamline the process of commissions for sales, which means you’ll be able to concentrate on developing your company.

We love helping businesses lessen the burden of the process of calculating sales commissions. If you’d like more information more about the concept of OTE and how we can assist you in improving your sales, we’d love to talk. Contact Us today to learn more.

Sam Palazzolo

Should You Hire a Chief Transformation Officer (CTO) – Eight Questions?

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The Point: At Tip of the Spear Ventures, and our Business Transformation consulting firm — The Zeroing Agency — We know that a highly skilled and experienced leader will significantly enhance the odds of an effective business transformation. This leader — the Chief Transformation Officer (CTO) — is the key to Business Transformation! But what if your organization doesn’t have a CTO? Through our experience with a variety of organizations that have taken this path and have seen CTOs who are devoted to driving the company forward, and held accountable to those responsible for the numerous (even thousand) of activities and projects that comprise the typical business transformation plan. Effective CTOs are able to inspire employees and serve as role models for the kind of behavior required to inspire and instill changes. So in this post we’ll look to answer the question, “Should you hire a Chief Transformation Officer (CTO)?” along with eight questions… Enjoy!

Should You Hire a Chief Transformation Officer

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A Chief Transformation Officer’s (CTO’s) Job Description

At the core of the CTO’s job is the capacity to achieve the proper equilibrium between carrots and sticks in achieving short-term improvements as well as long-term value and between ensuring that line managers take personal responsibility for change , and ensuring that they can deliver their results swiftly and with the appropriate level of expectations. This judgment is crucial when it comes to allocating the resources that are often at resources to address the diverse needs of a change.

CTOs must be impartial (certainly not tied to the decisions made in the past) They should have had experience in similar corporate environments that were turbulent during their previous careers, and receive the support of the CEO, the board and the upper management. Their mandate–responsibility for ensuring that the full bottom-line target gets delivered–must be clearly defined at the outset. They must be integrated fully in the team of executives (not isolated to separate units for transformation) and their pay is to be tied to their results, including a significant reward for exceeding the target. Ideally, they should act as an extension of the CEO or the board, and have the ability to hold highest-ranking managers accountable.

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The CTO – A Project Manager on Steroids?

The CTO is the top-level orchestrator of a complex system that includes a variety of distinct initiatives. The responsibility for making day-to-day decisions and implementing the initiatives is with the management, but the CTO’s role is to ensure the task is completed. This isn’t always easy.

The CTO is the persona of the change and sets the tone, encourages excitement, and challenges the conventional wisdom. Similar to a drill sergeant in the military who insists on daily push-ups as well as 10 mile runs The CTO has the goal of ensure that the organization is fit in order to maintain the efforts over the long term.

Excellent CTOs are those who believe in nothing without the benefit of facts and an independent analysis. They aren’t just business leaders and problem solvers They also have an emotional quotient that is high and excellent interpersonal abilities. The most effective transformations we’ve seen result from CTOs in generating enthusiasm and leveraging the capabilities of a wide range of abilities. They recognize and reward the best performers.

The book “Outliers,” author Malcolm Gladwell famously promoted the idea (since challenged by other authors) that it requires around 10,000 hours of work to master the area. Being a competent CTO definitely requires this kind of instruction. In this regard it is essential that CTOs are able to draw on a broad cross-functional background (as as opposed to being an expert in a particular field) and have experienced many different circumstances and issues in their professional career. With this knowledge, they be able to tell how to encourage and praise and when to work tough.

The Biggest Threat to Chief Transformation Officer (CTO) Success

We’ve witnessed CTOs fail when their authority is compromised. Here are two instances of what could fail.

  1. Poor Governance. Issues arise whenever the CTO is treated as an employee on the corporate staff. This is often the case when businesses set up the traditional office of program management. The CTO’s authority and capacity to influence the process is derived from his or her CEO. The CEO clearly lends the CTO authority as well as support to the process of transformation. Anything that violates this implicit agreement undermines the CTO. For example, when the board or the CEO are able to hold the CTO accountable, but do not give them the ability to influence the decisions of business transformation. The CTO should be able invite senior executives (including even the CEO) for attendance at meetings and, in turn, the CEO should provide regular and consistent messages of their confidence and support in the business transformation initiative.
  2. A Negative Environment. If employees and managers do not recognize the urgency of making changes, the CTO’s task will be a continuous struggle. The CTO must make a conscious effort to change these negative attitudes and behaviors, instilling within the workplace a preference towards actions. A mindset such as “that’s the method we’ve always used in this organization” are extremely destructive particularly when they are shared by the top managers and must be resisted with vigor. The time wasted in useless debate and bureaucracy indicates that the company isn’t fully supportive of the methodology and tools of the business transformation shift in which case the message of the CTO isn’t being heard now or ever.

Eight Questions for the Chief Transformation Officer

The success of a change initiative is dependent on the CTO being able to solve a vast array of business and organizational problems. Here are eight (8) important questions CTOs must consider:

  1. Have I got the complete backing of the CEO as well as the Board of Directors?
  2. Have I gotten involved with the vested interests of my current employer and killed any/all/most sacred cows?
  3. Have I created a pattern like a clock that changes the rate of metabolism in the company?
  4. Have I gotten to know the frontline team members and have I created a sense of their struggles and views?
  5. Do I have the ability to coach the CEO and top management team in successfully changing the way they manage the change?
  6. Have I got a clear perspective on where the true value is within the organization, and when/where we can’t allow ourselves to make compromises?
  7. Have I purposely made a few squabbles with the top line leaders and persuaded them to make changes successfully?
  8. Do I know the dominant mindset/culture and the areas it should change?

SUMMARY

In this post we’ve looked to answer the question, “Should you hire a Chief Transformation Officer (CTO)?” along with eight questions. This leader, the Chief Transformation Officer (CTO) is the key to Business Transformation! A highly skilled and experienced leader that significantly enhance the odds of an effective business transformation. Through our experience with a variety of organizations that have taken this path and have seen CTOs who are devoted to driving the company forward, and held accountable to those responsible for the numerous (even thousand) of activities and projects that comprise the typical business transformation plan. Effective CTOs are able to inspire employees and serve as role models for the kind of behavior required to inspire and instill changes.

Sam Palazzolo

How to Effectively Communicate Your Business Transformation Initiative – Five Tips!

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The Point: In business transformation initiatives, everyone scrutinize every detail – Stakeholders, Investors, etc. So how can you effectively communicate so as to manage the discussion? At Tip of the Spear Ventures’ Business Transformation Consultancy — The Zeroing Agency — We’ve seen business transformations achieve less than full-potential results because of communication. So, in this post we’ll explore how to effectively communicate your business transformation initiative along with five tips… Enjoy!

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Business Transformation Communication

As a leader, you know that there are always a few challenges present in your business. Communicating with stakeholders (Your superiors, subordinates, and peers) during a business transformation initiative is perhaps the most difficult aspect. Leaders must be prepared for increased scrutiny of disclosures and reporting. Leaders are subject to rigorous performance discussions about their managerial-abilities. Leaders in business transformation situations must convey humility and confidence about any mistakes made, as well as a belief that they can correct them.

Leaders, Team Members, etc. will scrutinize every financial statement, report and public appearance for signs of weakness or strength, regardless of whether the business transformation is a formal restructuring or strategic redirection. Competitors will use any hesitation or ambiguity to win customers, suppliers and key employees. All these challenges are present simultaneously, when core business management is most challenging.

Communication during business transformation is not an easy task. Our research suggests that there are some guidelines for communicating with stakeholders. Leaders can improve their focus and support their teams by focusing on the team’s perspective, monitoring changes in support base, identifying future milestones and building trust/credibility.

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Five Tips to Effectively Communicate Your Business Transformation Initiative

Tip #5 – Communicate from the Team’s Point of View

To achieve a successful business transformation, there must be input from many stakeholders such as investors, board members, owners, employees, customers, suppliers, government agencies, communities, and unions. It is important to communicate early and often in order to establish a consistent narrative for stakeholders and convince them that the business transformation is a win-win proposition.

Investors hold the purse strings. Employees may be motivated to work harder if they acknowledge a company’s achievements and reward it by increasing their share price. If investors remain negative about a company for too long, it can lead to low morale and defections that ultimately affect the viability of any business transformation. A decline in share prices can lead to activists launching attacks or to a takeover bid for a company with a lower intrinsic value. In such a situation, news that is not good news is often considered to be bad news. This process can be accelerated and accompanied by increased risks from a lack of communication.

Communication with investors and team members is important to set the tone for all discussions. It is tempting to adapt messaging for different stakeholders. We have found that this can lead to confusion, conflicting narratives and increased risks. Some cases ended badly because the company misrepresented what it said to whom. We have also seen messages from internal management leak to investors and other stakeholders (such unions) or messages meant for employees confuse employees about company priorities.

Tip #4 – Watch for Shifts among Core Supporters

Even in times of great fortune, smart leaders invest their energy understanding the views and values of their most important supporters. These “intrinsic supporters” base their decisions on a thorough understanding of the company’s strategy, performance and potential for long-term value. They are more likely than short-term supporters to support leadership during a business transformation and to help the company’s stock prices move as it develops. However, we have found that supporters can shift more in times of business transformation than in times of crisis. This can indicate the difficulty of the transformation ahead.

Leaders can benefit from a thorough analysis of these supporters to help them assess the potential impact of any improvements. External agents such as public-relations or communications firms can help to identify pain points. Leadership must address these issues head-on and not hide behind pleasant statements and platitudes. For example, one company’s supporters praised management’s efforts in addressing hot-button issues raised during meetings between top supporters and the board of directors.

Tip #3 – Share a Specific Vision for the Future

A company going through a business transformation should have a clear and compelling strategic vision about its plans to fix the root causes of underperformance or distress. This meant that one client had to recognize its shortcomings in capital discipline and commit to improving return on investment and short-term results. It meant that another client had to integrate ten previous acquisitions that had tripled its size, reduce fragmentation and build a more efficient central support system.

A vision should include financial goals and an outline of how they will achieve them. The organization should be open about the tradeoffs it is making between saving money to improve the bottom line and investing in the business to sustain its performance after the business transformation efforts are complete. We have found that investors are open to reinvestment as a key part of long-term value generation. They are willing to support if they know what investments are being made and when they expect returns.

Although being too precise about timing can lead to problems, investors often value and sometimes demand a guidepost. One client company, for example, set a midterm goal to grow earnings margin by 18 percent to 20 percent. It regularly reported on progress towards that goal during earnings calls and in reports. A company that was part of a cyclical industrial industry business had been earning lower returns for five years. It set bold goals to return capital invested at or above cost. This goal included estimates of margin and cost improvements from its largest divisions.

Tip #2 – Build Trust & Credibility

Leaders of companies that are underperforming will not be able to regain trust and credibility with stakeholders until they have a discounted version of the improvements they claim. To regain trust, leaders must be transparent and open about their work and inspire confidence in their ability to do the right thing.

Tip #2A | Get Rid of All the Bad News. Leaders should be as honest as possible right from the beginning. This is a well-known principle in politics, but it also applies to businesses going through a business transformation. The opportunity for a new leadership team to admit all past failures and begin fresh is a wonderful one. One example: A company’s stock rose after it announced a write off of over $1 billion. Investors and stakeholders saw this as a sign that the new leadership team would take responsibility for past mistakes and make tough decisions about exiting investments that were still taking capital and management’s time. The task of a current leadership team is more difficult. Strong leadership is required to critique one’s actions and sometimes risk being replaced. Investors and stakeholders might be more patient when a business transformation is in progress, but they will wait for evidence to prove that it is working. If bad news keeps coming in, even the most dedicated stakeholder or intrinsic investor’s patience will be worn thin.

Tip #2B | Establish a Track Record of Delivering. Only communicate the goals that you are confident you can reach–using metrics and milestones that you review regularly. Then prove that you can accomplish them. Credibility is important in a turnaround. Nothing can undermine it more than making promises and then failing to deliver. Metrics don’t have to be strictly financial. One company, which had repeatedly missed its output and financial targets, focused its business transformation goals on operational metrics to show tangible improvement in performance. For instance, it tracked progress towards overall equipment effectiveness. Although these operational metrics weren’t directly related to top-line performance they provided stakeholders and investors with a way for them to monitor their leaders and hold them accountable for making improvements.

Tip #2C | Offer Incentives to Targets. Talk is cheap and sophisticated stakeholders and investors tend to gravitate towards leadership teams that are willing to put their money where it is needed. Structured compensation packages that directly tie them to business transformation targets and having board members and executives buy significant amounts of stock in a company are signs of confidence and commitment to keep their promises. One company presented a new incentive plan for business transformation that aligned incentives between leadership and frontline employees based on similar performance metrics. Stakeholders and investors responded positively to this plan, citing it as an example of the company’s focus and commitment towards turning a new chapter and a reason to keep their current position.

Tip #2D | Increase Transparency. Honesty can be helpful not only in the financial guidelines, but also for specific projects. Two made a habit of describing — during earnings calls or investor gatherings — 10-20 projects that would improve operational efficiency, cash generation, and worker behavior. The stakeholders and investors noted that they were more impressed by the clear picture of the transformations that these companies underwent and that they believed that the margin improvement was more sustainable than shortsighted cost reduction.

Tip #2E | Be Confident. Leaders need to project confidence in their ability to weather difficult times and compete with other companies, as well as a positive outlook on the company’s future. They must also show humility when faced with distress, regardless of whether it is due to past underperformances or external factors. Stakeholders and investors will be looking at word choice and tone to identify signs of arrogance or overconfidence that can result from denial of past mistakes.

Tip #1 – Brand the Business Transformation

Although branding a business transformation might seem like marketing to many executives, it can be a powerful way to create a focal point for the outside world and amplify the story to make the rebuilding effort more credible inside the business. For example, a client company gave a succinct name to its transformation efforts and included it in all of its external communications. Stakeholders, investors and media began to mention the project name in their communications. This was a shortcut for the company’s impressive transformation. It made internal and external communication more cohesive and gave employees some external recognition.

Brands can convey a feeling of new beginnings. A campaign name can be attached to write-offs, exits of failed ventures, or even boring PowerPoint templates for earnings call slides. This will reinforce a consistent, compelling story about change and help build critical momentum.

SUMMARY

in this post, we explored how to effectively communicate your business transformation initiative along with five tips. In business transformation initiatives, everyone scrutinize every detail – Stakeholders, Investors, etc. So how can you effectively communicate so as to manage the discussion? At Tip of the Spear Ventures’ Business Transformation Consultancy — The Zeroing Agency — We’ve seen business transformations achieve less than full-potential results because of communication. Why?

Communication is not an alternative to performance. A stock price can only be driven by beating expectations and punishing short-sellers quarter after quarter. Leaders can build momentum by communicating with investors and other stakeholders in a thoughtful way to help them raise a company that is struggling to create new value through business transformation.

Sam Palazzolo

Keeping a Long-term View During Business Transformation

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The Point: Business Transformations demand an intense focus on short-term performance, but success needn’t come at the expense of long-term value. At Tip of the Spear Ventures, our Business Transformation consultancy — The Zeroing Agency — we see this desire for focus at times competing with successful initiatives outcomes. The question we ask most often is, “Should Short-term achievements compromise the Long-term success of overall Business Transformation?” So, in this post we’ll explore the importance of keeping a long-term view during business transformation… Enjoy!

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Business Transformation Long-term View

Anyone who has been through a business transformation knows that leadership requires a keen focus on the immediate results. Some moves are obvious. For example, incorporating value-creation metrics in a long-term vision, and using aggressive cash-management techniques, can help fund restructuring while avoiding existential crisis down the line.

Some moves are more risky. Leaders can be tempted to make rash decisions that could lead to irreversible financial ruin or worsening of their company’s long-term health. There are many examples of companies that have survived financial crises by cutting off discretionary spending only to lose their business later on when they were unable to rely on new investments or become unreliable. These cases can cause more damage than the initial financial loss. The loss of capital investment, whether in growth, innovation or maintenance, can lead to a host of other problems. Each one is small and easily corrected, but all add up to create a unreliable operation that damages the customer and the business’ reputation.

Leaders who balance the short-term and long-term in business decisions are what make Business Transformations successful. Many investments that don’t pay off in a timely manner (in less than two year) are still valuable and important to the viability and well-being of the company. Although there are not always clear answers to these investment decisions, we have found that there are a few methods that can help you make the right decisions with the information available.

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Is Business Transformation a Binary Decision?

Many companies respond to financial difficulties by freezing all spending. This includes capital expenditure, hiring, travel and any other discretionary costs. These moves are sometimes necessary during times of financial distress. It’s best to be more careful in most cases.

Managers should discuss the company’s largest investments in detail, paying attention to both short-term as well as long-term consequences of delaying investment. It can be disastrous to let such decisions fall within a broad spending policy. A global manufacturing company that relied heavily on electrical power decided to defer a planned transformer rebuild for a year in order to save money. Five months later, the transformer exploded, causing 20 percent of production to be stopped. The company then built and installed a new replacement. A transportation company delayed replacing key logistical equipment, which caused collateral damage to its equipment and plant.

It is better to divide spending into smaller categories that can be better discussed and understood for the long-term impact on health. It is important to distinguish between repainting hallways and repairing an electrical transformer. This distinction is not recognized by a general ban on spending maintenance money. Similar to a hiring freeze for executive assistants, it presents different risks than a freeze on vehicle drivers or sales managers.

One business transformation saw executives from a consumer-products firm discover that plant managers had not been disciplined in their spending. They invested in projects without taking into account hurdle rates and returns. More than 350 projects would be affected if a spending freeze was implemented. Executives worked with plant managers during the Business Transformation process to determine the best compromise between the need to deliver products and serve customers. They also discussed the possibility of delaying certain projects to save costs. They found that almost half of the projects they had planned could be delayed. The team implemented a program for working capital management to make inventory management easier. They approved spending that would allow the company to grow in the short and long term, while also instituting strict internal controls in areas such as overtime travel and maintenance.

Business Transformation Investment Orientation

Under pressure, managers in Business Transformation situations are often unable to take the time to carefully evaluate which activities and investments they should support or cut. Decisions are often made based on who has the greatest organizational influence, is the most persuasive, or has the highest level of personality to protect his programs and people. This is a common but not very effective way to make cuts.

We have seen companies use a better approach: a list of all actions that could create near-term cash. This list is ranked according to how much damage each could do to the long term health of the company. Typically, this will prioritize actions with the highest net current value (NPV). This list should be discussed early in the Business Transformation process. It must evaluate the impact of selling all assets and activities, as well as whether they are being discontinued or divested. The list will be completed when all actions have been taken. Although it is a difficult exercise, it allows for all ideas to be discussed.

This list includes actions that are immediate and pose little risk. Actions that have a negative impact on long-term growth prospects and operational reliability will be lower down. It is important to distinguish between real and perceived long-term risks of damage. It is possible to do this by spending the time to fully understand each investment and making sure that someone is given the hard questions.

It is also a good idea for companies to set quantifiable metrics that will trigger the next cut if they are unable to pay their bills within a specified time period. It creates a plan of action for if things go wrong. It is also important to have a clear understanding about the future risks that could affect the stability of the business.

You, the Business Transformation Leader, might be able to find other actions that you could take. You may have less long-term impact than eliminating one project over another. This could make you feel more comfortable about approving one alternative versus another. You could also use Business Transformation as an exercise to reduce the time between spending approvals so that you approve only the minimum spending. You would be able to keep control of your future financial investments, in the event that things change or you have to take more drastic measures.

Discourage Short-term Actions with Negative Long-term Consequences

Increased accountability and pressure on business unit managers to meet their numbers can lead to short-termism, which often leads to poor business decisions. There are many ways they can cheat, and they may be attracted to it. Some tactics can be purely financial, like allowing sales discounts in order to reach near-term volume goals and margin goals. Others may involve structuring risky or back-loaded contracts. Some tactics can be more risky, like allowing lower quality products to go on the market, delaying maintenance outages until the next accounting period or continuing production despite safety and reliability concerns. For example, a manager in a global commodities firm hoped to increase production by delaying routine maintenance on heavy equipment, despite engineering concerns. Shortly after the equipment broke down, a long production outage ensued. It is important to note the tension between innovation and execution. In an environment that values every dollar, innovation requires experimentation and failure. It can be difficult to defend this kind of innovation.

It is important to establish urgency and accountability for short-term performance targets, without encouraging shortcuts that may be costly and have unavoidable negative consequences. Companies deal with this by protecting employees and budgets for strategic innovation while simultaneously reducing costs in other areas. Others establish short-term goals and outline what managers can do to achieve them. It is important to clearly identify and understand the effects of each step in the company’s ability create value.

Invest in Your People

Our experience shows that the most important attribute of a successful business transformation and a healthy company are the people who run it. In many cases, however, investing in people is the best way to invest in a company when it’s struggling. These steps can be used to quickly save money, whether it is pay freezes, cuts, elimination of training and benefits, or even the elimination of team-building activities. We know of more than one company that drastically reduced the hiring of leadership talent at entry level during the 2009 recession. It now faces a shortage of leaders at the middle level of the organization.

We believe that nearly all of these actions will have a negative impact on a company’s long term health. Companies depend on their employees more when a company is in trouble than they do when it is healthy. This includes the ability to increase productivity, bring up creative ideas, support morality, and improve teamwork. This will send a message to employees that they are valued and will encourage them to participate in the Business Transformation. While it is essential to make individual decisions about talent, it should also be possible to avoid cutting across-the-board benefits and people spending.

Leaders must be encouraged and supported to take hard decisions that will benefit the long-term, even if they may not yield immediate results. This starts with an aggressive education-and-awareness campaign that provides the entire organization with the tools to understand what value creation means and how it is measured. Training can be provided on financial statements, how to interpret them, how to calculate the NPV, return of invested capital, as well as how to make economic profit. Performance evaluation should be tied to short-term results. Compensation should link in some ways with equity to reflect long-term value, especially for senior leaders. Senior leaders should also be consistent in communicating the story.

SUMMARY

It is difficult to implement rapid business transformation in the most challenging of circumstances. Even if a company achieves short-term success, creating long-term value is a higher priority. Leaders who are able to transform a company should have a vision and a roadmap with markers established. They must also guide their teams in managing within this vision.

Sam Palazzolo

How to Build Capability to Power Business Transformation | Part 1

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The Point: A program that encourages productive behavior and skills in employees can be a powerful tool for boosting the organization’s productivity. It is also an important element of any successful business transformation. So why do so many leaders get it wrong? In this series, we’re going to explore building employee capabilities, or skills for business transformation… Enjoy!

Business Transformation_Zeroing Agency

Imagine this: An international manufacturing company employing thousands is separated from its parent. Within a year, the stock price of an international manufacturing corporation with thousands of workers drops by more than 80 percent. Morale plummets and the company’s health measures fall into the bottom quartile of its industry. Something is here… very wrong.

What you think is happening as a leader, versus what actually is happening is typically very different!

Sam Palazzolo, Managing Director @ Tip of the Spear Ventures

Four years later, the stock price of the company has increased sixfold. The corporation has moved from the bottom to the second quartile in terms of organizational health. Employees feel more connected and are invested in the company’s success. With increased discipline and better risk management, plant safety has been dramatically improved. Customers are astonished at the improvements and have celebrated them. One customer even called the CEO to tell him that the manufacturer would be his preferred vendor moving forward.

What changed? This real-life example shows how a manufacturing company transformed its performance and organizational health. It also changed the way it looked at “capabilities,” which are the hard and soft skills required to help organizations achieve and sustain their full potential.

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We know that many companies fail to meet their potential when it comes enterprise-wide transformations. Although most organizations understand the importance of having a motivated and skilled workforce, they don’t spend enough time or resources on developing them. It is easy to overlook an opportunity that could be irreplaceable, while the priorities are elsewhere. Others might find foundational capability building too easy. The CEO and organizational leadership might think that we already do this. However, we have found that what seems like common sense in an organization is not often practiced across the organization, which leaves room for better performance. In other words, common sense is NOT so common.

Capability building is more than just training employees. It’s about fundamentally changing the way work is done. It is also a great way to get people involved in supporting the transformation, from the top to the bottom. It is almost impossible to achieve and sustain a successful transformation without that energy. Companies can build the capability to achieve transformational gains. They also add to their gains over time by establishing an execution engine that will continuously improve value.

This article will discuss the key elements of a strong capability-building program. As the global manufacturing corporation went through a holistic transformation, we show that empowering employees with new skills can not only enable sustainable change at large scale, but also help the bottom line.

Sam Palazzolo