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Leading vs Lagging Indicators Explained

Leading vs Lagging Indicators Explained

Believe it or not, a lot of business managers find that their sales commission incentives create a behavior that’s not in line with what they are looking for. I’m often asked for ideas on how to closely align incentives with the desired behaviors of sales reps in order to improve performance. I get it. It’s not easy to create an effective sales incentive plan!

Should You Use Leading or Lagging Indicators of Performance?

The first question a lot of leaders ask themselves is whether to use leading or lagging indicators. After all, you’re trying to create an ideal sales compensation program for your team, so it’s important to reward and influence the right behavior — isn’t it?

Yes and No

Sales management focuses on driving an increase in the quality and quantity of customer-facing activity. You might measure that using proposal numbers, customer visits, or conversion rates. Those are the leading indicators of sales success and can help you achieve your goals.

Leading indicators are metrics or data that predict future results. Customer visits lead to sales, as do proposals. When visits or proposals have a consistent conversion rate, you can accurately predict the number of sales using the number of visits or proposals.

On the other hand, lagging indicators assess the current state of the business. These include purchase order value, revenue, net profit, and cash collected. A lagging metric is typically output related and confirms sales have been made.

Most managers would agree you need a solid weighting on the lagging indicators. After all, it’s the purchase orders and cash coming in that is paying the commissions and incentives. The debate gets heated around what weighting should be applied to the front end – the leading indicators. How can you combine the two to achieve the desired outcome?

I’m not a fence-sitter, but I also don’t claim that I have the single right answer. Sometimes sales revenue is easy to measure but hard to improve. The right answer for your company will depend on your business’s specific policies, objectives, and HR strategies.

When Leading and Lagging Indicators Are Out of Balance

One way to think this through is to draw a line and map out where specific metrics are on the leading-lagging spectrum. On the far left you have the most extreme leading indicators, such as creating a prospecting list. On the far right you have extreme lagging indicators, such as annual company profit.

Most metrics fall in between. Sales under contract is on the right side, but not as far as monthly sales revenue. Make a list of the metrics you currently reward and place them on the spectrum. Are you focused more on leading or lagging?

The danger to rewarding only lagging indicators is that they take too long to materialize. Your sales staff will “starve” before they get paid for their sales success. Also, your team may feel they can’t influence the outcome effectively enough to stay motivated.

Likewise, if we go too far to the left – the danger is that the financial foundations of the plan are undermined. We pay for a whole bunch of activity but the profitable sales revenue is falling well short – so our cost of sales increases dramatically. Also, as much as we hate to admit it, we open up the opportunity for fraudulent activity that never leads to sales.

The goal is to find the right mix of lagging and leading so that your sales team is motivated to achieve key performance indicators (KPIs) but your financial performance doesn’t suffer.

Focus on the Core Purpose of Your Plan

What is your number one goal? If you want to align sales cost to sales revenue, you’ll want to focus on lagging sales indicators. If you want to open up a new market, or learn how to sell a new product you may want to focus on leading indicators.

It’s also important to have robust measurement systems in place. If leading indicators are difficult to measure, or the system is open to manipulation, you need to fix that before you can reward these metrics. You want everything to be easy to measure and clear to everyone so there’s no conflict.

Personally, I tend to be a bit conservative on preferring lagging indicators over leading indicators when it comes to measuring sales performance. I feel like it does a better job of matching incoming revenue — sales — with outgoing revenue — incentives.

Your preferences will be influenced by your unique business objectives and your own guiding principles. The challenge as always is to get everyone on the same page.

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