What is On-Target Earnings (OTE)?
Any ambitious sales rep must understand On-Target Earnings (OTE). It’s just as important for employers to understand how to calculate OTE and communicate it to representatives effectively to keep their sales reps happy and engaged.
What is OTE?
On-Target Earnings (OTE) is supposed to be how companies let sales reps know how much they can expect to earn if they hit their sales targets. It’s what they can expect to receive as total compensation. That includes the base salary plus the commission earned from reaching 100% quota attainment (base salary + variable compensation).
At best, OTE is a guideline based on averages, so the actual amount earned by any given rep will deviate from that number in a classic bell curve.
Why do companies use OTE?
The benefits of on-target earnings are that employers and employees understand how much they can expect their salary to be. Internally, on-target earnings are used to forecast revenue and accruals from compensation.
What is “fully-ramped” OTE?
Most sales reps don’t start making deals on day one of employment. They need time to:
- learn the product & get comfortable talking about it
- learn the sales process and language
- build a pipeline, and
- negotiate deals over the line
Over this period, some organizations offer a recoverable or non-recoverable draw to ensure sales reps earn a reasonable living wage until they are ‘fully ramped’ up and can hit their quotas independently. Those draws will often be a fraction of the OTE.
How to Calculate OTE
In one popular analysis, David Skok suggests that a sales rep’s quota should be about 5x their OTE, i.e. if they have $100k OTE, their quota should be about $500k.
As with any generalization, there are nuances and optimizations that every enterprise should look for internally, but as a starting point, this is a good one.
Here’s a simple formula to calculate On-Target Earnings:
On Target Earnings = Annual base salary + Annual commission earned from 100% quota achievement
Common Pitfalls with On Target Earnings (OTE)
On-target earnings can be a useful number for internal forecasting incentive compensation budgeting, provided the data is reliable and reassessed regularly.
Two common issues occur with OTE.
1. Overstated on-target earnings
As attrition increases and hiring sales talent becomes increasingly difficult, some companies have resorted to inflating the potential OTE on job descriptions and recruitment.
Inflating the potential earnings to some eye-popping figures is an easy way to lure away sales representatives, but once they realize their real OTE is a lot lower than advertised, it won’t be long before they walk out the door.
2. Timeline to OTE is miscommunicated
The other issue that frequently arises with OTE is being unclear about the actual pathway and timeline to achieving on-target earnings. While this is deliberate in the first issue, this second issue has more to do with the nature of a sales career. As Martin Roth points out:
“OTE relies on the rep being ramped AND hitting their number, which likely doesn’t include the 6-9 month ramp period where the rep is getting their feet underneath them with the product, the market, the sales cycle, and the company’s sales culture.”Martin Roth
Consistently earning more than OTE can take even longer, especially for younger reps with a smaller personal network and less experience in their industry. Most companies don’t communicate their compensation plans well or educate reps about the upsides of staying in a role or industry for a long time. Many reps instead move on for a higher base or perceived OTE in the short term, which can harm both the company and the rep’s earning potential.
Focus on Communicating OTE Effectively
As we see with most payroll and sales commission problems, these are communication issues.
Calculating OTE is a simple equation. But most employers fall short when communicating OTE accurately to sales reps, so they have the right expectations and then helping them exceed their targets.