What Agencies Can Learn from Hollywood
By Mike Carlton

If agency income fluctuates, so should agency expense.
No wonder so many agency leaders don’t sleep well at night.

The Studio System

If you’re a classic films fan (like me) you know these five brands; Metro-Goldwin-Mayer (MGM), Warner Bros, RKO, Paramount and 20th Century Fox.

At the beginning of each of those old films the studio logo was emblazoned across the wide screen accompanied by a bugle fanfare or a roaring lion. There was never any question who made the movie you were about to watch.

Those five were the core of the old studio system. They controlled movie making. While there were some other operators, the big five were dominant.

They Did It All

Each studio owned everything that went into their movies. In business school terms, each studio was vertically integrated. They owned the sound stages. They owned the cameras. They owned the sets. They owned the props. They owned the editing suites.

In addition, all the talent were their employees. The screenwriters, the producers, the directors, the cinematographers, the actors, the costumers, the musicians, the editors, the publicists, the grips. Everybody!

And an employee of one studio could not work on a film for another studio. They were 100% committed to their studio alone. This had particular impact on actors who had little say on the scripts or roles their studio thrust upon them.

Every Week

And in those days each studio, on average, released at least one new film every week. Or looking at it another way, you could go to the movies every night for a year and never see the same new movie twice. A remarkable output.

These studios were big creative factories. Their infrastructure was immense. Yet they ran like well-oiled machines. Cranking out an unending array of titles.

With each movie different from the one before it. They never made the same thing twice. They practiced continuing creativity on a grand scale.

Staggering Overhead

The studios liked this business model. It gave them complete, absolute control. But it had a big, big price. The fixed costs for each studio were unrelenting. Regardless of whether a film was a box office hit or a flop, the costs kept rolling in. Every month all those people and all those facilities had to be paid for.

And the financial success of any individual film often had very little connection to the cost of making it.

Essentially the profits from the hit films covered the losses from the duds. So, too many bad films could quickly put a giant studio on the verge of bankruptcy. Conversely, a few mega hits could put a lot of money in the bank.

The problem, which is inherent in any creative endeavor, it was impossible to predict with reliability which new film projects would be financially successful and which wouldn’t. Each was a high stakes gamble.

This was an exceptionally risky business model. A business model that eventually proved to be unsustainable. And that unsustainability ultimately changed the entire landscape of Hollywood.

The Reinvention of Hollywood

Today, the business model for the movie making industry is dramatically different from what it was in the heyday of the big studios. While some of them are still around, what they do and how they do it has had a radical transformation.

No more owning all the resources and facilities. No more having everyone on the payroll. No more enduring back-breaking overhead. It is a stunningly different world.

The old big studio system has evolved into a free-form of entrepreneurialism.

Now to make a movie it often starts with an independent, basically self-employed, producer with a story concept. He is the driving force. It is his baby.

The producer finds collaborators, arranges financing, engages the writers, rents the production facilities and equipment. He retains the director, the actors and the other necessary talent. All are essentially independent contractors or temporary employees. All are obtained in an open, dynamic market. They don’t have permanent full-time jobs. They come from a giant fluid talent pool.

All are part of a sort of free-lance market on steroids.

Thus, almost everything needed to make the movie is sourced on a short-term basis. And when the production is over, they can have a big party and everyone goes their own separate ways.

Possibly to work on another film together in the future. Possibly not.

Project Focus

Today, each movie is viewed as a finite project. A project with a definite beginning and a definite end. Its costs and its income can be linked with precision. Fundamentally there is no ongoing overhead to be allocated to it.

It is a highly efficient and effective business model. One that is a far cry from the factory-like crank out a film a week mentality of the old big studio system.

Frightening Similarities

At this point you might be thinking, “What does all this have to do with advertising agencies?” Actually, quite a lot.

Making advertising and making movies have a lot in common. Each client campaign or project and each movie (which is a project) is different from every one before and after it. Each requiring a team of talented professionals. Each representing a different skill set or different resources. With each bringing his complementary skills to the successful completion of the work.

The advertising maker and the movie maker both live on their creativity. They must constantly be innovating. Never the same thing twice. And each campaign, project or film requires a different set of skills or resources. Each needing a team of complementary professionals.

And both are fun endeavors. Attracting bright, energetic, highly creative talent.

But unlike Hollywood, the advertising agency industry is still using a business model developed decades ago. A business model that may no longer be in keeping with the times.

Shifting Sands

No one doubts that marketers are rapidly changing how they use agencies. It used to be that clients retained agencies for most if not all of their market communications needs. And expected an enduring relationship. It wasn’t so long ago that the typical agency/client relationship would last for years, even decades.

That continuing relationship assured the agency of a reasonably consistent income flow. A source of funds to enable the agency to invest in the facilities and full-time permanent employees that would be required to serve each account.

That foundational support is now collapsing under the traditional advertising agency business model. Whether we like it or not, marketers are moving away from long-term agency relationships to increasingly retaining agencies for discrete projects. This poses a basic business model challenge to agencies.

A challenge that agency leaders can ignore only at their great peril.

The assurance of a predictable and reliable income flow from projects is radically different than the income flow an agency of record receives. In an ongoing agency/client relationship the agency can generally depend on a certain level of reoccurring monthly income. A continuing income stream that you can count on.

Project work is quite different. First, each project can have significant sales and up-front costs. Sometimes it takes as much work to win a project as it would to win an ongoing relationship. So right from the start the cost structure is different.

Jump Ball

To make matters worse, an increasing number of marketers are using the “jump ball” technique in which they routinely ask several agencies to compete directly for a single project. Knowing full well that the losing agency cannot recoup any of its up-front cost from that project. Its only hope is to win a future project from that client. Jump ball again.

Then, the agency that is assigned the project knows that the income stream from that work will probably last only a few months, or even in the best case, maybe a year. Then it is right back to trying to find other projects to fill that income void. Possibly another jump ball.

No wonder so many agency leaders don’t sleep well at night.

An Impossible Situation

Agencies have gotten (or are quickly getting) themselves into a crazy position. Because of the client movement to project assignments, away from ongoing relationships, the volatility of agency income flow is significantly increasing. In big project months agency income may be great. In slow project months income can be terrible. And there is little predictability about what lies ahead.

At the same time agency costs are remarkably stable. Salaries are fixed and continue regardless of the work available. So are the costs of benefits, rent, equipment, etc., etc.

When you stop to think about it, stable costs were no big problem when income from relationship clients was reasonably constant. Sure there were some ups and downs but usually nothing very violent. And it all balanced out.

But now many agencies are caught in the trap of having wildly fluctuating project income. Income that can increasingly bounce around with project work. Yet at the same time having fixed committed costs that reoccur unremittingly every month.

This is a crazy business model. Surely not a smart way to run a business.

A Fundamental Change in Thinking

Like the big movie studios of old, agencies have almost always staffed with people who were full-time employees. Employees who expected an ongoing employment commitment from the agency. This model required a wide variety of skills so that the agency could “do it all.” Folks who were permanently loyal to the agency. And in turn, expected the agency to assure their fixed pay along with continued employment with periodic raises and bonuses.

Marketers liked that model, too. At least they used to. Or perhaps they still would like it, but are just no longer willing to pay for it. In any event, it is a model that is rapidly becoming unsustainable.

This means that agencies need to seriously rethink their business model. And ultimately bring income and cost into ongoing alignment. Either they both must be stable or variability in income must be matched with variability in expense.

Anything less is a denial of what the marketplace is telling us.

Looking Ahead

First, there is no going back to “the good old days.” It is unlikely that marketers will revert to a universal embrace of the long-term agency of record model. And in viewing the future no magic pill is on the horizon that will work for all agencies.

But, that doesn’t change the imperative that if future income is to be highly variable then costs must become variable and closely aligned with the income.

Here are some initiatives that pioneering agencies are taking today in moving themselves in that direction:

1. Protect Core Staffers
The brand value of every agency is usually built around relatively few core staffers. These are the passionate, committed, big idea generators who drive the vision and values of the agency. They are also the ones that form the bond between the agency and its clients. They are the ones that are ultimately responsible for the agency’s perception in the market place.

These folks must be identified and protected. They will be responsible for the agency’s future success. They should be permanent full-time employees. And they should grasp and value their unique position. And they should enjoy the entrepreneurial challenges they will be facing.

But remember, these folks probably represent only a fraction of your total head count. Possibly only one in ten.

2. Expand the Use of Outside Talent
The agency layoffs of the past few years have created a large pool of specialized free-lance talent. Many of these people have exceptional skills. And many of them have decided that they don’t really want to be anybody’s full-time employee again. They like their freedom.

On the flip-side an agency may not be able to use their skills full-time. Or beyond an immediately foreseeable project. In the past it was not uncommon for agencies to hire before they had a demonstrated ongoing need for specific talent. It was kind of a “if you have the skills, continuing business will come” mentality. That has become a dangerous siren song.

As the Great Recession recedes, there is a temptation to rehire full-timers against anticipated needs. This is a risky approach which has questionable viability today. So, many smart agencies feel it just makes sense to establish the staffing policy of “when in doubt, source it out.”

3. Link Individual Compensation to Business Success
An agency cannot pay people with money it doesn’t have. Conversely, when times are good everyone, but particularly the core staffers, should be very well compensated.

This can be done by establishing modest base salaries with a very generous upside potential. Usually in a program that is more formula driven than discretionary. A program that the core staffers and the free-lancers understand and trust.

And one that continually ignites their entrepreneurial spirit.

Remember too that the free-lancers bring specific talent and capabilities to the table. Talent that may not be needed all the time, but when it is, it can be crucial to project success.

Also remember, that the typical free-lancer, like the typical Hollywood actor, is frequently out of work between jobs. So, the hourly or project cost when you are using a good free-lancer may be high. But you only have to pay that when you need them. While their rates may seem hard to swallow, this is a much better business deal than having to pay them when there is little or no work for them to do.

4. Nurture Talent Pool Relationships
In the past building agency relationships with free-lance talent had often been sort of an after-thought. Very little attention was paid to them until the instant they were needed. This will probably not be a very satisfactory approach in maximizing the agency’s benefit from the available talent.

Going forward, agencies that embrace the Hollywood model will need to continually cultivate and nurture the talent market just as they do the market for new clients. Ideally, an agency would like to be perceived by available talent as the most desirable source of project work. Creating and maintaining this perception will take continuing attention, time and effort. But it will be worth it.

It is also important to keep in mind that the Internet has dramatically expanded the geographic size of the free-lance talent market. With today’s technology there is no reason why an agency anywhere cannot access the best talent in any specialty a great distance away.

A couple of other points to consider:

1. The Role of Agents
In Hollywood, the better talent is represented by an agent. The agent’s role is to find work for the talent after they complete their current gig. It is not unreasonable for the better free-lance advertising talent to begin to use agents themselves. This should not be viewed as a threatening development, but rather a normal function within this business mode.

2. Available Office Space
Recently many agencies reduced their staff size. Sometimes this left them with more office space than they needed but committed to in their lease or real estate obligations. In some cases, agencies moving to the Hollywood model are dedicating that space to the use of free-lancers. Thus, giving the free-lancers a place to work that is easily accessible.

3. Non-Compete
Your agency’s relationship with its clients should be crystal clear to any free-lancer you use. You’ll want to make sure that you are protected so that you don’t find yourself competing with one of your free-lancers at one of your clients. And that their prior client relationships are protected too.

4. Legal Tidiness
Defining the difference between an employee and an independent contractor can be tricky. Laws and rules in different countries and taxing jurisdictions may be complicated and confusing. So, you’ll want to make sure your legal and tax advisors are confident that you’re on solid ground.

The Hollywood Model

Long-term success demands that if agency income becomes more variable then agency cost must be aligned with that variability. That’s a pretty simple concept.

But change is never easy. Embracing the Hollywood business model, or any other new approach, can be wrenching. But it appears that agencies have little choice but to address this issue proactively and creatively.

Hollywood successfully changed its business model. Smart agencies can, too.

© Carlton Associates Inc.

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