Pitfalls in the Standard Analysis - Should You Set up Your Own Sales Force or Should You Outsource it?

Should you set up your own sales force, or should you outsource it? Most standard measurements consider direct sales forces as fixed costs, and see outsourced sales forces as variable. Orthodox analyses then calculate the sales volumes at which the direct sales force's costs equal the outsourced force's costs. They then suggest that, for volumes above that quantity, companies would do better by employing direct sales forces. But as the John H. Loudon Chaired Professor of International Management, Erin Anderson, and co-authors Frédéric Dalsace and William T. Ross reveal in this article, such standard analysis has two major inherent flaws.

by Erin Anderson, John H. Loudon, William T. Ross
Last Updated: 23 Jul 2013

Should you set up your own sales force, or should you outsource it? Most standard measurements consider direct sales forces as fixed costs, and see outsourced sales forces as variable. Orthodox analyses then calculate the sales volumes at which the direct sales force's costs equal the outsourced force's costs. They then suggest that, for volumes above that quantity, companies would do better by employing direct sales forces.

But as the John H. Loudon Chaired Professor of International Management Erin Anderson and co-authors Frédéric Dalsace and William T. Ross reveal in this article, such standard analysis has two major inherent flaws. First, several other cost factors are generally not considered. Second, these analyses consider only cost, and thereby ignore coverage efficiency and selling effectiveness differences between the two types of sales force.

The authors set out to deconstruct five flawed assumptions regarding costs as they relate to fixed sales forces, and propose explicit steps to correct them:

· The costs associated with having a direct sales force are fixed.

· The costs of a direct sales force are limited and can be readily estimated.

· Fixed costs are truly "fixed".

· The compensation for manufacturers' representatives is unalterably fixed.

· A dollar paid to a manufacturers' representative is equivalent to a dollar paid to the direct sales force.

In all examples, they consider the case of a medium-sized American wrought iron manufacturer that has long relied on manufacturers' representatives, but whose president favours changing to a direct sales force. As the authors' examination reveals, it is essential first to determine the nature of the direct sales force's compensation policies in the light of duties that the firm needs carrying out. Only then should a compensation system be established, and no average compensation levels should be agreed to beforehand.

The article also covers the quite considerable number of unanticipated costs a firm is likely to accrue when switching from a rep system to a direct sales force. Firms normally have had little to no experience in operating direct sales forces, and may look to other companies' experiences These, unfortunately, are typically integrated into combined accounts or corporate overhead in the other companies' financial statements, meaning such costs are hard both to identify and estimate.

The authors also intend to debunk the myth that fixed costs are fixed in perpetuity. Rather, they hold that these are actually only fixed within a range of sales, or of other relevant factors for a specific cost. Perhaps more surprisingly, they also find that fixed compensation for manufacturers' reps is similarly far from being carved in stone. In reality, as sales rise, representatives may not only be willing to accept a decrease in commission as a percentage of sales, they may even suggest as much themselves.

The article goes on to scrutinise the two types of performance problems: efficiency and effectiveness. In the first, the main question is whether the firm can achieve acceptable account coverage by changing to a direct sales force. In the second, the chief concern is being able to transform sales calls into orders and client satisfaction.

The authors also point out that standard cost analyses (and their own performance analysis) are steady-state analyses. They therefore ignore the many complex issues inherent to the actual transitional phase from one sales system to another, instead focusing too exclusively on post-transitional issues which the authors lay out in detail.

Business Horizons, January/February 2005

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