Over the last several months, it’s been impossible to ignore one of the top stories that seems to be in the news almost daily: inflation. With each monthly CPI report—and the inevitable commentary and analysis that follows—there seems to be no end in sight at the moment for these across-the-board cost increases. Add to this a potential global recession that seems to be looming on the horizon, and it feels like much of the country currently has money on its mind.
With all of this as the backdrop, I thought it might be a good time now to dust off and review some of my notes I typically prepare for clients regarding incentive program financing. These are some of the most common questions I get asked around this topic, and my typical responses:
- What are the typical costs in an incentive program?
- How are points generally paid for in a points program?
- What is breakage?
- Are there alternative ways of financing my program?
- Should I include an expiration date for my program’s points?
- What do I need to know about financing an Incentive Travel Program?
1. What are the typical costs in an incentive program?
The answer here is pretty straightforward. An incentive program will generally have fixed costs and variable costs. The fixed costs could include website design, the creation and promotion of marketing materials, and the overall program administration fees. While these can vary depending on how robust the client wants to make their program, these can usually be negotiated up front before the program begins.
The most common variable cost is the number of points that will be issued and/or redeemed by participants during the program lifecycle.
2. How are points generally paid for in a points program?
Typically, program points are paid for either on issuance or on redemption. When we say “issuance” what we mean is that the client will pay for the points as they are issued to their program participants. Conversely, for points that are paid for on “redemption”, a client is generally not charged until those points are redeemed, or used, by the participant who earns them.
While most clients opt to pay on redemption, there is one benefit to paying on issuance. When it comes to the accounting of a program, paying for points on issuance is much neater and straightforward on a balance sheet because a company won’t have to carry the liability of the potential points. Especially for a publicly traded company that may need to disclose their P&Ls on a quarterly basis, identifying the black-and-white cost of a program up-front may be helpful, if not necessary.
3. What is breakage?
Depending on how familiar a client is with incentive programs, they may or may not be aware of the concept of breakage and how they should think about it. We’ve written a more extensive article about this topic, but generally speaking, it’s essentially the outstanding liability of a reward, either in terms of points or dollars and cents. In an incentive or loyalty program, it refers specifically to the amount of program currency that a participant earns but is not redeemed.
4. Are there alternative ways of financing my program?
This is another question we’ve touched on previously, but the answer usually depends (unsurprisingly) on who the client is and what their goals are. A market development fund (MDF) or Co-op marketing fund is often the go-to strategy for a distributor program; these are designed to help distributors and manufacturers penetrate new markets, create brand awareness, and help their channel with sales and marketing activities based around their products.
When vendors implement an MDF, for example, their main goal is to build strategic alliances and brand loyalty within their channel. In a best-case scenario, distributors and other channel partners can take advantage of these funds to partially, or even fully, finance their marketing initiatives, which may include customer incentive programs.
The problem is that, in many cases, co-op funds are not always effectively utilized. This “funding disconnect” occurs for a variety reasons, but regardless, these vendor driven funds continue to be a strategic method of financing a host of channel incentive programs.
5. Should I include an expiration date for my program’s points?
There are certainly some reasons why a client may be inclined to put an expiration date on the points in their program: it can help a client control the general liability of the program, which could be useful from an accounting standpoint; it enables them to realize a higher-percentage of profitable breakage; and on the face of it, it seems like it would spur participants to spend those points by the closing date.
However, in our experience, the majority of clients don’t choose to go this route, mainly because it’s not very user-friendly from the standpoint of the participants and may even cause some grumbling and dissatisfaction. That’s because, for starters, it’s much more inconvenient to have to spend your hard-earned points on something if you’re not ready to. Just imagine frequent flyer miles that expire at the end of the year: what if you weren’t planning on traveling? It doesn’t take much of a leap to envision how annoyed this could make you, and this kind of negative association is the exact opposite purpose of an incentive.
Additionally, expiration dates mean that participants usually don’t have enough time to save up for big-ticket items that may require years of accruing points. This could have a negative, demotivating effect on a large swath of your participants. In fact, according to a study by the Incentive Research Foundation (IRF), 79% of employees expressed a preference for saving their points for large-dollar items. What this suggests is that expiration dates may end up reducing engagement for the majority of participants, and as a result, undermine the efficacy of the program.
6. What do I need to know about financing an Incentive Travel Program?
Some of the financing lessons for a points program can also be applied to an incentive travel program. But where the two diverge, unsurprisingly, is in the cost of the trip itself. For incentive travel, this is going to be the main cost, and a client’s finance team will likely want a line-item list of expenses that will need to be accounted for, including air travel, hotels, and ancillary expenses.
In addition, the cancellation language for the trip will need to be ironed out, which is something a points program generally doesn’t have to deal with. What will happen if flights get canceled, there’s a natural disaster and a hotel has to be shut down, or there’s a global pandemic that halts travel completely? Clients need to be aware of what the expectations are in terms of payment if these unlikely scenarios do occur.
In some cases, clients may want to delay their trip to a later date; in other instances, they may request their money back, however, there are often fees associated with this decision. A third alternative that we’ve seen more of since 2020 is the modifying of the program reward structure itself, usually to something other than travel. This can take on a variety of shapes and sizes and can often be customized to fit the needs of a client’s audience.
In the end, the question of “How do I finance my program?” has a lot of nuances that need to be addressed. These questions will inevitably depend on who the client is, what their goals are, what type of program they want to run, and how they’re looking to reward their participants. For large manufacturers, program funding may need to be accounted for in the budgets of individual divisions, while smaller distributors may be looking to use MDF funds to pay for their program. Points programs will not be the same as incentive travel programs. Payment schedules will differ based on the length of a program. The list goes on.
Because each of these needs is unique to each client we work with, it’s important to establish a baseline of understanding before diving into the weeds. Hopefully this brief financing primer has helped accomplish that, but as always, contact us if you have any questions or would like more details.