What Business Is Your Agency In?
By Mike Carlton
Once Upon a Time
The story goes that a man had a serious brain tumor. His life was in danger. He searched the land looking for the best brain surgeon to cure him. After a lengthy process, he found just the kind of specialist he had been seeking.
The surgeon was highly respected. He had a great reputation. And, he had good news. He told the man that the solution was a simple cut. He had done it successfully many times before. The man was delighted.
Then he asked the surgeon what his fee would be. Without blinking an eye, the surgeon replied $100,000. Taken aback, the man questioned how such a simple cut could cost so much.
The surgeon replied that cut itself only cost $10,000. However, knowing where to make that cut would cost $90,000.
The Question is Simple
Is your agency in the business of knowing where to make the cut, and getting paid appropriately for it?
Or does your agency give away the knowledge of where to make the cut in order to get paid for the time it takes to stitch up the wound and apply the bandages?
Are you in the idea business? Or are you in the stuff business?
Some Interesting Similarities
When you really think about it, advertising is all about the consumerï's brain.
Marketers want consumers to behave in ways that are beneficial to them. Those behaviors are driven by perceptions. Perceptions that reside in the consumers brain.
And the purpose of advertising, and other forms of market communications, is to change (or maintain) those mental perceptions about the client's brand. No matter what you call it, advertisingï¿½s job is to work on the consumer's brain. And, to do so in a way that enhances the life of the consumer, while providing economic benefit to the marketer.
Messages that modify the consumer's mental perceptions skillfully can alter behaviors in ways that are stunningly successful for the marketer. Doing so poorly can have equally disastrous results.
When you look at advertising this way, it has a surprising amount in common with medical brain surgery.
Two Very Different Views
When thoughtful agency leaders are asked what business they are in, the answer is usually something like this, "We are in the idea business. We create and communicate ideas that change consumer perceptions and behaviors in ways that enhance their lives, serve society and benefit our clients."
That's a good and true answer.
Agencies have been creating ideas that change consumer perceptions and behaviors since the beginning of the agency business. All the great agencies were built on this premise. All the industry giants were driven by this.
This is why intelligent clients hire agencies. For these powerful ideas. Ideas that move the client's consumers. Ideas that ring the client's cash registers. Ideas that the clients are not able to create for themselves.
Ideas are at the core of what agencies are all about.
Outcomes vs. Stuff
Unfortunately, not enough agency people answer the question this way. Frequently they will say, "We create and place ads, TV commercials and web sites (etc.) for our clients."
That may be an accurate answer, but it is not a good one. It is far too limiting. It misses the grand purpose of advertising and its societal and economic benefits. It addresses the stuff that agencies do. The things they make. But, it does not recognize the marketplace outcomes that clients expect.
And, worst of all, it plays right into the price shopping marketer's hands.
Because stuff like ads and TV spots are easy to put a price tag on. The cost of creating stuff can be easily calculated. How many hours? By whom? What are the pay scales? What are industry standards? What are the trends?
Pricing stuff is all very nice and tidy. And, there is always someone willing to make stuff for a little bit less.
While ideas that successfully deliver market outcomes have quite a different value proposition. Their economic value rests in the business benefit they drive to the marketer. What it costs to create the idea is immaterial. And, the value to the marketer is not immediate. It accrues over time.
Thus, ideas are much more difficult to price.
The Commoditization of Ideas
This has led the price shopping marketer to a false and terribly dangerous assumption that the value of ideas is directly related to the hours it takes to create them. That an idea is a commodity.
This is a patently stupid notion.
Ideas have their own lives. They donï¿½t happen on the timeclock. Everyone knows that great ideas sometimes come quickly. Even instantly. Other ideas can take a more difficult course. They can take countless hours of excruciatingly hard work, stress and frustration to reach the same kind of outcome. Ideas come how they want to come, when they want to come.
Having said that, great ideas are more likely to come, and usually do so more quickly, to highly skilled talent organized in a manner that inspires and celebrates innovation. This spirit of freedom to create is the secret of great agencies.
The fundamental truth is that the value of an idea is in the outcomes it delivers. Not in how many hours it took to create it.
The Wisdom of Pogo
Pogo was a wise and loveable possum in a comic strip some decades ago. One of his more famous quotes is, "We have met the enemy, and he is us." He could well be speaking of the business management of advertising agencies.
For, a lot of the commoditization of ideas is a result of agencies focusing too intently on building their pricing and compensation models on the hours it takes to make stuff. So, before we point the finger at price sensitive search consultants and client procurement departments, we need to take a closer look at ourselves.
How We Got Here
It used to be that the agency created ads or commercials and got paid a media commission for running them. It was a good business model in that if the ad or commercial worked in the marketplace, the client kept running it, and the agency got paid continuing commissions that were a lot like residuals.
And, if the ad didn't work, the client stopped running it, and the agency didn't get paid any more until they came up with a new, and presumably better, ad.
But the commission system had it limitations. It did not work well on non-media related activities. And, the size of the media budget dictated the level of agency involvement. And from the agency standpoint, it did not protect the agency on the downside - recovering the cost of creating an ad that only ran once. So marketers and agencies groped for a better model.
It looked like the hourly charge system, so popular in other professional service businesses, was the answer. And agencies gravitated toward it. Hourly charge systems are cost-based ï¿½ usually the cost of time to make stuff. At their core so are most fee systems. Commissions on the other hand were much closer to outcome-based.
From an economic standpoint, hourly charges or fees protected the agency on the downside, but provided little or no reward on the upside. The agency received the same compensation for effective work as it did for ineffective work.
But, this downside protection was alluring. Thus, almost without recognizing the potential consequences, agencies agreed to a major business model shift.
And, the wolf was invited into the hen house.
The Ultimate Trap
The hourly charge model became a slippery slope. Agency income and profitability were directly linked to selling hours. So, billable hours, not just effective ideas, became the touchstone. The underlying focus shifted subtly, but forcefully, from idea generation to doing implementation work.
At this point the once unthinkable began to happen. Agencies started to give away great ideas just to sell the billable hours necessary to implement them.
The brain surgeons were now selling brain surgery by the time it took them to stitch up the wound and apply the bandages, not by their knowledge of where to make that cut.
A bad business model. And a very difficult trap to get out of.
Like a Salami Slicer
Once hourly charge systems for stuff were firmly in place, marketers, their procurement departments and search and compensation consultants began slicing away. A little bit here. A little bit there.
Soon they were asking questions like, "What are your hourly charges for each person? How much do you pay each of your people? Why are some above industry average? How many hours do they work? Why are your overhead costs so high? Why should you make so much profit?"
Their paradigm was simple. From their standpoint it was an honest one, too. They were buying a commodity. And one hour was the same as any other hour. And the ideas that were generated in that time were of equal value. So, the objective was to drive down the hourly cost.
Agencies were on the defensive. And it became increasingly difficult to say no to unreasonable client pricing demands. Slowly, but surely, agencies lost freedom in their generation of ideas. Idea generators were becoming stuff factories.
Is It Any Wonder?
Surveys show that a frightening percentage of senior marketer management believes that agencies are out of touch with their market needs. Studies of consumers indicate that their trust in and respect for advertising is falling. And lots of agency professionals feel agencies have lost their way. Worse yet, an increasing number of qualified students actively avoid careers in advertising.
Clearly, the commoditization of ideas is taking a terrible toll. An industry once known for its joyful brilliance appears to be sliding into mediocrity.
Can the tide be turned?
Why Clients Hire Agencies
The basic truth is that intelligent marketers hire agencies for ideas that will change consumer behavior. It's as simple as that.
Sure marketers want stuff. They want ads. They want commercials. They want websites. They want podcasts. They want brochures. All kinds of other stuff. But the smart ones know that anybody can make stuff. They also know that only the exceptional can generate ideas that move their consumers.
And, that is what they really need.
The Long March Back
Make no mistake. There is no magic bullet to turn everything around quickly. Returning to more reasonable agency compensation models will take lots of relentless effort over many years. But just deploring what has happened is non-productive. There must be a proactive effort to reverse the trend.
As the Chinese proverb says, "A journey of one thousand miles begins with a single step." The following suggestion is a single step that can begin that long journey. An approach that has a lot in common with some sophisticated programs more enlightened agencies and advertisers have pioneered.
An Alternative Model
It is important to note that this proposed model goes beyond conventional performance incentives. Often they are viewed as frosting on the cake, nice but not crucial. Fully implemented, this model should become much more fundamental to the agency/client relationship ï¿½ part of the cake itself.
Here it is. Conceptually, it is simple.
1. The agency does its strategic work at cost.
2. The agency precisely defines and prices the scope of work for implementation.
3. The agency receives a share of the brand's future success.
"Whoa," you say. "That kind of thing is fraught with dangers. It's complicated. And, it's risky." You're right. But before discarding the idea, let's consider what might be accomplished by it and how it might be applied.
On the plus side:
1. It is fair in that it links the value of the agency's ideas to market results for the client.
2. It's good for the client. She is paying for outcomes, not just stuff.
3. It makes the client and agency true partners with a shared metric for success, thus elevating the agency and its people from mere vendor status.
On the minus side:
1. Many clients would reject this kind of approach out of hand. Remember, it's not familiar. They have been trained to buy stuff by the hour.
2. It is a much more complex business model to plan and administer.
3. The agency must be confident that its ideas will work in the marketplace.
A Careful, Considered Approach
If you are like most agencies, you have one client that you really trust and respect. One that you feel a kindred spirit with. One that deeply values the leverage a great idea can deliver. One that has the authority to innovate and is not afraid to do so.
Offer this concept to that client, and only that client. Explain that you want to try what you believe is a better way of working with them on a test basis. Keep your other clients under their current business model.
The Devil is in the Details
If there is serious interest, the challenging part begins. Working out the details will take time and patience. It must be a win-win proposition for both your client and you. It is very easy to get bogged down in tiny details of the arrangement. And, there are lots of them.
You'll need to address questions like; What does doing work for "cost" mean? How is the formula set up? What work is included? What is not? How is client market success defined? What is a fair share of reward? How to measure that success? Is the reward in cash? Or in equity? Or other? How and when are success payments made? For how long?
Work hard at keeping it as simple as possible. And avoid over-lawyering it.
Also, don't get greedy. Trust your gut. And, trust your client. Remember, you are seeking a way to better match your compensation to the value that your ideas deliver to the client. And that value will likely accrue only with time.
Recognize, too, that once you embark on such a program you must be committed to proactively revisiting it regularly (between quarterly and annually) with the client. This is not something you can set on autopilot and ignore.
Above and Beyond
Once the agreement is in place, do everything you can to make sure that your ideas are successful in the metrics you and the client have agreed to. Your work here should be exceptional. Work that you believe will have significant traction in the marketplace. Fight for what you believe is right. Say no to what you believe is not.
With great, on target, ideas from the agency the campaign should be successful. The client should achieve its goals. You should be fairly compensated. Celebrate not only the success in the marketplace, but also the success of this business model. With this success under your belt, it is time to take the concept to the second client. And then the third.
A Path to Freedom
As stated earlier, this is not a magic bullet. It will not work in all situations. And it wonï¿½t change things overnight. But, it is a proactive path. A path back to the freedom that comes from elevating the value of the ideas you provide.
Is this the only path you can take? Certainly not. There are countless other business model possibilities. Limited only by your imagination.
Is this a path worth exploring? You bet it is. The future freedom of your agency may well be depend on it.