Hard vs. Soft Dollars: Determining The Real Costs Of Distribution
One of the biggest challenges facing senior management is determining how to maximize the value of each dollar spent on distribution. Distribution spending can be broken down into two basic categories: “hard dollars” and “soft dollars.” Companies that identify how they spend these dollars take a significant step to understanding the dynamics of their distribution system.
Hard Dollars. A “hard dollar” is cash in an agents pocket. First-year commissions, gross dealer concessions, renewal commissions, trails and expense reimbursement are examples of hard dollars. These costs are expressed as a percentage of sales, and the actual dollars paid by the company vary directly with the level of production.
However, hard dollar compensation is only one aspect of the overall expense a company has in maintaining a distribution system.
Soft Dollars. A soft dollar does not go directly to the agent as cash. Rather, it is anything that supports a producers ease of doing business. Ten years ago, soft dollars were called the “value-added” that a company brought to the table.
Soft dollars do not always fall into the traditional definition of compensation. Common soft dollars include advanced underwriting, agent financing and training, marketing materials and tools, lead generation initiatives, conferences and contests, health insurance, matching 401(k) contributions, matching FICA, and sales seminar support.
In practice, a strong distribution program and a good compensation package are built on a complex system of hard and soft dollars. These systems evolve over many years, sometimes decades, and it is often difficult for companies to define and identify the soft dollar services they provide.
Soft dollar services are frequently introduced with very little cost benefit analysis, and they are maintained because the company does not know what might happen if the program is eliminated.
The Cost. Both hard and soft dollars have two things in common: They provide benefits to the distribution channel and they have cost to a company. Most companies can easily identify the costs associated with hard dollars. Ask any senior executive, and he or she can easily list the hard dollar expenses: We spent $15 million on life commissions, $4 million on mutual fund commissions and $6 million on annuity commissions.
Companies have a much more difficult time calculating the cost of soft dollars because the accounting treatment for these soft dollar services is more complex. The accounting systems for soft dollars are not self-managing; they require yearly budgets and staffing that do not automatically change with varying levels of production.