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Marketing MathTM

Category Archives: Advertising Agencies

Dueling Task Forces

22 Jun

DuellingRecently, the Association of National Advertisers (ANA) sent an RFP to professional auditors, research firms, agency search specialists and management consultants to undertake a study of how media is bought in the U.S. with an emphasis on the practice of AVBs or rebates.  Separately, the American Association of Advertising Agencies (4As) announced the formation of a task force to address the issue of media rebates, with the goal of issuing new “Best Practices” and “guidelines” governing this area.

The good news is that both industry groups have taken to heart advertiser concerns regarding the use of rebates and the reporting of non-transparent revenue.

Sadly, a collaborative effort between the two industry associations would have been ideal if the goal was to clearly identify the appropriateness of this practice, the extent to which it does occur and to formulate guidelines that both the ANA and 4As constituents could agree to.

Ultimately, both advertisers and agencies benefit from the identification of practices that could impede trust and potentially mar client-agency relations. Further, a timely joint resolution regarding the use of rebates in the U.S. market would also send a clear message to the other side in this discussion about what is and is not acceptable and that would be the media sellers.

After all, there is a precedent for the two organizations to marshal their resources to address issues of importance to their constituents. Two obvious recent examples are the “Trustworthy Accountability Group” or TAG alliance and the “Making Measurement Make Sense” or 3MS task force both of which include the ANA, 4As and IAB that are tackling the issues of digital media fraud and digital media audience delivery measurement respectively.

One might argue that nothing is more important than the need to restore trust between advertisers and agencies. One need look no further than the recent spate of media agency reviews taking place by advertisers such as; P&G, Volkswagen, Sony, Visa, L’Oréal,  Johnson & Johnson, Sears, Unilever, General Mills, Coca Cola, Daimler and Citigroup to name a few to understand the need to restore both transparency and confidence.

Therefore it would seem that removing any obstacle which hinders that goal would be expedited if both the ANA and 4As were teamed up to tackle the issue. Of note, the number and size of the aforementioned relationships which are in review comes at a significant cost to advertisers and agencies. Both the time and out-of-pocket expense associated with conducting the reviews and the transition and integration costs associated with onboarding a new media agency partner.

As many astute industry followers believe, the ultimate answer to the issue of rebates will be rooted in a broader conversation around agency remuneration and what is considered fair and appropriate. In order for this conversation to occur and to bear fruit, both sides will have to come to the table in the spirit of full-disclosure and be prepared to engage in open, honest dialogue.  Thus, a joint approach on rebates could have set the tone for ultimately addressing one of the root causes of the problems.

As New York Times best-selling author Patrick Lencioni so aptly stated:

Great teams do not hold back with one another. They are unafraid to air their dirty laundry. They admit their mistakes, their weaknesses, and their concerns without fear of reprisal.”

Either way, we wish both the ANA and 4As success with their efforts in resolving the questions surrounding the use of rebates. We believe that putting the topic of rebates in the industry’s rear-view mirror sooner rather than later will allow advertisers, agencies and publishers to move on to the more economically damaging issue of digital fraud, which according to the ANA will cost advertisers $6.3 Billion globally in 2015 alone.

Does Your Agency Agreement Address “Special Relationships?”

29 May

business relationship and partnership  conceptWhen it comes to the subject of contracts between advertisers and their marketing agency partners, there is one principle, long understood within the legal, financial and audit sectors that is frequently overlooked… the concept of “Related-Party” transactions.

Why is this important you might ask? Primarily because as principal agent, an advertising agency has a fiduciary responsibility to solely serve the interests of their clients. In fulfilling their role as a fiduciary, agencies are held to a standard of conduct and trust in which they must avoid self-dealing or conflicts in which the potential benefit to the agency is in conflict with that of their client. 

Over the course of the last thirty years, growth within the advertising industry has been chiefly driven by acquisitions and marked by consolidation. The net result was the emergence of large, complex and highly influential agency holding companies such as; WPP, Publicis Groupe, Omnicom, Interpublic and Dentsu. In turn, each of these organizations own dozens of diverse agency brands providing full-service advertising, media, creative, digital and social media, public relations and multi-cultural advertising services and resources. 

Each of the aforementioned holding companies is a publicly traded entity focused on maximizing profits for their shareowners. As such, one of the primary roles of holding company management is to leverage intra-group synergies across their agency brands to profitably drive group revenues. No one would begrudge them this focus, particularly in light of the need to offset acquisition costs and the marketing and operational expenses associated with maintaining dozens of agency brands. 

Unfortunately, advertisers are often unwitting participants in the act of leveraging intra-group synergies. Further, more often than not, the agreements which are in place to formally govern client/ agency relationships do not afford advertisers the requisite controls and or transparency concerning related-party transactions. 

So what is a related-party transaction? In short, related-party transactions can be defined as arrangements between two parties that are joined by a special relationship. For example, if an advertiser’s media agency of record were to funnel a portion of that advertiser’s digital media buy to a digital trading desk operation, which happened to be owned by the media AOR’s parent company that would be considered a related-party transaction. 

While there is nothing wrong with the premise of related-party transactions, they do carry the potential, or at least perception, for conflicts of interest. This may be as simple as an agency awarding work to a related party, rather than competitively bidding that work to a range of providers. Further, undisclosed, these transactions can mask the overall percentage of an advertiser’s budget being spent through their agency, its parent and subsidiary companies.  

Fortunately, this issue is easily addressed in the context of a client/ agency agreement. The first step is straightforward and involves defining the terms “related-parties” and “related-party transactions.” Secondly, it is imperative that advertisers introduce standards for the identification of agency related party relationships that may come into play on its business and to provide disclosure requirements for when an agency seeks to engage a related-party. At a minimum, such requirements should include: 

  • Identification of the related-party and the nature of the relationship
  • Statement of the business purpose of the transaction and why the related-party is being considered
  • Securing the requisite transparency controls ranging from access to invoices, compensation agreements, contracts and audit rights with regard to the related-party
  • A list of client personnel authorized to sign and approve related-party transactions, in advance of work being awarded

Too often client/ agency agreements do not establish guidelines for behavior in this area. When combined with the fact that agency operating styles sometimes do not openly reveal related-party transactions, a control gap is often created, which can have negative financial consequences for the advertiser as well as blemish the agency relationship. 

Client-Agency Erosion

26 May

feature2-value-basedcompensationWritten by J. Francisco Escobar, President & Founder – JFE International Consultants, Inc. and originally published by Connote Magazine on October, 31, 2014.

WHY WE NEED TO RESTORE THE MOMENTUM OF TRUST IN THE PROCUREMENT ERA

Much change has taken place in the marketing services industry since the year 2000. The advent of the “Procurement Era” along with two severe economic shocks—the dot-com bust and, more recently, the “Great Recession”—have taken a toll on the most important component of marketing services relationships: the element of trust. Three major areas are responsible for this erosion of trust between marketing clients and their agency partners—transparency, equity, and the interpretation of value. Without agreement on standards and guidelines in these vital areas, individual marketers have been left to their own devices, while individual agencies have been somewhat defenseless against a hodge-podge of interpretations and practices that threaten the very fabric of commerce.

TRANSPARENCY

As the spend-based commission system has become virtually irrelevant as a total form of agency compensation, the predominant use of labor-based models has opened the door to client-side procurement and strategic sourcing to exploit transparency in the interest of lowering the cost of services. The use—or, rather, misuse—of benchmarks, all in an attempt to get agencies to fully disclose their proprietary financial information and business economics, has at times been ludicrous. What our industry clearly needs are rules of the road for what is acceptable and unacceptable, in what may be called “limited full disclosure.”

Trust is eroded when a client feels like its agency is withholding information, or when an agency feels like its client is over-reaching (e.g., requesting individual salaries).

We must heed the wise words of business guru Peter Drucker from his 1954 classic, The Practice of Management, “… the purpose of business is to create and keep a customer; the business enterprise has two—and only two—basic functions: marketing and innovation. Marketing and innovation produce results; all the rest are costs. Marketing is the distinguishing, unique function of the business.” So long as we allow relationship stakeholders to view marketing as a cost to be reduced rather than an investment to be optimized, the issue of inappropriate financial transparency and benchmarking will NOT go away.

More recently, the subject of transparency has been at the center of two burning issues in media remuneration—rebates and programmatic buying. The former is an age-old controversy, and the latter a new-age dilemma.

REBATES

Media rebates are a totally normal and acceptable business practice in many countries. In some cases, they are the dominant form of income for media agencies. Thus, it boils down to just two issues of transparency in any given client/agency relationship. First, has the media agency disclosed to its client the markets in which it is receiving rebates? Second, has the client expressly written into its agency contract(s) how rebates will be treated? A lack of either disclosure or specific contractual language creates an opportunity for, and perception of, foul play.

PROGRAMMATIC BUYING

In the rapidly expanding digital media space, programmatic buying, real-time bidding, and other activities generated by demand-side platforms (DSPs) have created significant revenue growth opportunities for technology providers and a host of marketing/media services providers. The capital investment required by these firms to play in this exchange marketplace is significant, coupled with the clear risk associated with carrying media “inventory.”

Large players in the industry have taken differing positions on the financial transparency of their “trading” companies, from full to very limited disclosure of profitability on individual and cumulative transactions. There is currently no right or wrong answer; it is up to individual clients and agencies to ensure they are having sufficient dialogue in this area so that there is a clear understanding about current business practices as it relates to their unique relationship. Anything less will keep a client wondering if they are being exploited, further eroding trust.

EQUITY

There is no greater enemy to trust than the lack of equity in a relationship. When it comes to assessing fairness in client/agency relationships, one needs to look no further than the contractual agreement between the parties. While there are way too many instances to discuss the subject of equity in contractual matters, there are three areas where the greatest transgressions take place.

  1. AUDIT

When a client/ agency relationship begins to exhibit trust issues, the contract is unearthed to ascertain what is contained in the audit provision. It is vitally important that this provision be so unambiguous as to not be subject to liberal interpretation by either party. At minimum, audit provisions should include the following:

  • Reasonable notice period and conducted during business hours
  • Require an audit plan with clear objectives shared with agency beforehand
  • Auditors under nondisclosure with agency
  • Mutually acceptable external audit firm, not compensated on a contingency basis
  • Restrictions — no access to personnel data, agency overhead/profit, other client data
  • Limited to one audit every 365 days (unless there is evidence of contractual breach)
  • Findings favoring agency go to offset findings that favor client
  • Audit results shared with agency prior to finalizing report to client
  • Reasonable length of time in which audit may take place after termination (1 – 2 years)
  1. COMPETITIVE EXCLUSIVITY
    While there are certain untenable competitive situations—such as Coke/Pepsi, AT&T/Verizon, and Home Depot/Lowe’s—most others are often 80 percent perception and 20 percent reality. A well-written and equitable exclusivity clause should force the client to list its competitive concerns. Additionally, these restrictions should apply mostly to identifiable key agency personnel on the staffing plan. And, most importantly, the clause should bring the parties together in dialogue.
  2. PAYMENT TERMS
    Without exception, there is no more contentious, damaging, and inequitable issue facing our industry today than that of payment terms. A little history sets the stage. In 2004, the merger between Belgium-based company Interbrew and Brazilian brewer AmBev created the brewing company InBev. Within two years’ time, InBev embarked on an ambitious global cost-reduction initiative which centered around a movement to unilateral 120-day payment terms across its entire supply base.

InBev’s acquisition of Anheuser-Busch in 2008 brought this issue to the U.S. and started a domino effect across the largest global packaged goods companies, and the industry as a whole. Although several industry groups are working to address the issue directly, there has been no concerted effort to denounce this practice as patently unfair and damaging to the service provider community, and ultimately the overall marketer ecosystem.

How can it be that companies whose current cash position may exceed the market capitalization of the biggest marketing services holding companies expect to extend cash payments, particularly in the current low interest rate environment on cash deposits? And even more ironic is the concept of cash neutrality in master service agreements, where large advertisers expressly define it as what it truly is and then choose to apply it only to the cash management of media expenses between themselves, agencies, and media owners, but not to fees, production, or third-party expenditures.

VALUE

The notion of value has become central to the dialogue as the industry makes attempts to get away from payment based on people’s time to that of results generated by agencies’ deliverables. But who ultimately defines value and, more importantly, who determines it?

Two bellwether companies, representing the largest marketer and most valuable brand in the world, respectively, have taken it upon themselves to lead the industry with “value-based” compensation models. Sadly, both of them miss the mark on an interpretation and application of value that would engender and foster trust with their agency supplier partners.

In both cases, payment is initially determined by historical labor-based models and adjusted based on each company’s definition of value. Then, the ultimate determination of value is once again solely the purview of the client, with a significant component being a subjective, qualitative evaluation of agency performance.

The real benefit in these two models is purely on the buyer’s side. On one hand, creating a general contractor model removes internal/external cost, which then eliminates multiple touch points, transactions, and negotiations. But efficiencies are gained by managing agencies via menu pricing and standardized spreadsheets.

To their credit, both companies have continued to enhance their respective models since their joint introduction in 2009, but neither appears to have budged in the direction of increased collaboration on the definition and determination of value.

Value, like transparency and equity, has to be a two-way street. Nothing could be more productive in client/agency relationships than the dialogue that is created between the parties to mutually define success and value for their unique “marriage.” And even more interesting is when actual monetary value can be tied to the accomplishment of collaboratively devised objectives. When a client and agency can agree to a scope of services that relate to realistically achievable objectives, and the agency is able to exceed them, then you have true incremental value that should be rewarded accordingly. It’s not rocket science or brain surgery, but it does require a commitment by both parties to put in the necessary effort, energy, and time to ensure a fair and honest playing field. Doing so can only serve to encourage and restore trust.

AN INDUSTRY CALL TO ACTION

Restoring a momentum of trust in the marketing services industry calls for explicit, concerted action by the major industry associations.

We desperately need collaboratively developed standards and guidelines governing the critical issues of transparency and equity in client/agency relationships. Conversely, value should remain a nut for individual, involved parties to crack. Given the uniqueness of each and every engagement between marketers and their supplier-partners, every significant statement of services or statement of work (SOW) between the parties must contain a specific section addressing the mutual expectations of transparency, equity, and value.

Francisco Escobar is a business management advisor to global advertisers and agencies in the marketing services industry. He speaks internationally on issues surrounding marketing procurement and optimizing business relationships. If you are interested in learning more about “restoring the momentum of trust” in your client/agency relationships contact Francisco at (214) 728-6903 or via email at francisco@jfeintl.com.

What is the True Cost of Opacity? (part 2 of 2)

01 May

risk-icebergPart 2 of a two-part look advertiser concerns regarding “transparency” and the impact it is having on client-agency relations.

Why is a tight client-agency agreement important? One need look no further than the recent comments of Maurice Levy, Chairman of Publicis; “We have a clear contract with our clients, and we are absolutely rigorous in respecting transparency and the contracts.”  It should be noted that other agency executives have also cited their compliance with the terms of their client agreements as part of their response to recent questions regarding transparency in the context of rebates and the lack of full-disclosure associated with trading desk operations.

As contract compliance auditors we would suggest that most of the client-agency agreements, which we review do not have sufficient language to deal with the evolving advertising landscape.  It is common to find contract language gaps when it comes to items such as; AVBs, related party obligations, disclosure requirements and or right to audit clauses. Therefore, it is quite possible for an agency to be in compliance with an agreement as Mr. Levy suggested and still not be operating in a fully transparent manner.

To the extent that reducing the level of opacity is an important step in establishing a solid client-agency relationship founded on the basis of trust, we would strongly encourage advertisers to review their marketing agency partner agreements.

If agencies truly functioned as principal agents for the advertiser, a less structured agreement may pose less risk. However, today we operate in a complex environment where agencies may have a financial stake in certain outcomes and those stakes are not always fully disclosed to clients. Thus the reality is that the potential for bias to impact an agency’s recommendations clearly negates the principal of agency neutrality.  Think about it, agencies today operate as independent agents, partnering with a range of third-party vendors in the research, technology and media sectors and actually owning and reselling media inventory to their clients.

Don’t agree? Consider the comments of Irwin Gotlieb, CEO of WPP’s Group M at the aforementioned ANA conference; “Those relationships, rightly or wrongly, don’t exist anymore” he said, adding that “You cease to be an agent the moment someone puts a gun to your head and says these are the CPMs you need to deliver.”

It is imperative that advertisers protect themselves from a legal and financial perspective by crafting contract language and implementing the appropriate monitoring and control processes to insure that they have the transparency that they seek in the context of their agency partners’ financial stewardship of their advertising investment.  This does not mean that clients cannot forge solid relationships with their agencies or that their agency partners should not be afforded positions of trust. Quite the contrary, it simply means that candid, direct dialog must occur so that each party in the relationship is clear and comfortable with regard to the guidelines that will be put in place to govern their relationship.

Once clients and agencies have aligned their interests in the context of their relationship, the ability to focus their time, talent and resources on driving business forward and tackling industry challenges will be greatly enhanced. Interested in learning more about industry best practices when it comes to client-agency agreements? Contact Cliff Campeau, Principal at Advertising Audit & Risk Management, LLC at ccampeau@aarmusa.com for a complimentary consultation on this important topic.

What is the True Cost of Opacity? (part 1 of 2)

29 Apr

opacityPart 1 in a two-part look advertiser concerns regarding “transparency” and the impact it is having on client-agency relations.

Ad industry concerns regarding the issue of transparency and the trust which exists between advertisers and their agencies have taken a new, decidedly negative turn over the course of the last month.  What had been largely an “in-house” debate focused on items such as AVBs, programmatic buying, media arbitrage and concerns over digital media viewability was thrust into the limelight as the result of one Wall Street analyst’s recommendation that ad agency holding company investors “sell their shares.”

The recent revelations about the utilization of media rebates or AVBs in the U.S. marketplace and the resulting firestorm in the advertising trade press seems to have been the tipping point that spurred Brian Wieser a Senior Analyst from Pivotal Research Group to downgrade the stocks of IPG, Omnicom, WPP and Publicis and to recommend that investors exit the category. Mr. Wieser’s recommendation provoked an additional round of denials by some holding company CEOs regarding the practice of agencies accepting rebates in the U.S. and spurred some debate amongst the holding companies about the transparency of their revenue realization processes. One notable CEO, Sir Martin Sorrell of WPP reiterated his company’s policy regarding rebates and encouraged WPP’s competitors to be more forthcoming on that front; “We said what the model is in the U.S., the way it’s a non-rebate model. We’ve made that quite clear. I would urge greater transparency in what’s happening to net sales and revenues, then we would have less black box and more open box.”

While the topic of rebates seems to have garnered a lion share of the attention, when it comes to transparency the rebate issue carries with it much less financial risk than the challenges associated with the rapidly evolving digital media landscape. Consider the fact that various research studies have suggested that digital media advertisers may be losing 50% + of their investment to click fraud, bots, piracy and excessive fees related to supply chain complexity.

Given that digital media now ranks second only to television in terms of media spending and that it continues to grow at double-digit rates the potential for Wall Street commentary regarding advertiser investment in this area could be much more problematic. For instance, at the recent ANA conference on “Agency Financial Management,” Peter Stabler, Managing Director, Senior Equities Analyst with Wells Fargo Securities raised concerns about one particular aspect of the digital media space… agency trading desks. Specifically, Mr. Stabler cited the inconsistent manner in which holding companies report on trading desk operations, the potential for the proceeds from trading desks to inflate revenues and create margin dissolution and the potential for conflict-of-interest concerns between advertisers and their agencies.

If there is a silver lining to this maelstrom, now that the genie is out of the proverbial bottle, perhaps the highly charged nature of these issues can serve as a galvanizing force to bring clients and agencies together to address these issues in an objective manner… without the emotion and finger-pointing which has characterized the discussions to date. Let’s face it, the last thing either party wants is to see their market capitalization rates decline because analysts and investors have concerns about how they transact business and or the state of client-agency relations.

While the individual issues raised are substantive, many feel that they have taken on additional import as a result of an erosion of trust between clients and agencies. Thus, shoring up the strength of these strategic relationships could yield significant asset value both in the context of issue resolution and the ongoing business of building brands and generating demand. As automotive pioneer Henry Ford once said;

“If everyone is moving forward together, then success takes care of itself.”

In our opinion, the best place to begin is to develop a sound client-agency letter-of-agreement, which clearly articulates both parties expectations and desired behaviors. Further, the agreement should specifically identify the level of disclosure required by the client of the agency, their related parties (i.e. holding companies, sister agencies, trading desk operations, in-house studios, etc…) and their third-party vendors. We believe that this is a critical first step in establishing accountability standards and controls.

Turnover: Temporary Anomaly or Omnipresent Reality

26 Feb

 

 

agency compensationChief Marketing Officers come and go every twenty-three months or so. The average Client-Agency relationship tenure is thought to be around three years. So has anyone really noticed that average ad agency turnover is reportedly running between 28 – 30 percent? 

In an industry where change and upheaval have become constants, the agency talent crisis has likely not received the attention that it deserves… outside of the agency community. Clearly, this is a dynamic that agencies in general and agency HR executives specifically are acutely aware and are trying to address. After all, in a service business that is highly reliant on talented professionals with diverse skill sets to create and deliver their product, the talent challenge cuts to the heart of agency sustainability. 

During the fall of 2014, Digiday published an article entitled; “Anatomy of an Agency Talent Crisis” which suggested that entry-level salaries were one of the primary challenges in attracting college graduates to even consider a career in advertising. In light of the 4A’s annual talent survey findings, which found that “most entry-level salaries” for agency personnel “were between $25,000 – $35,000,” most agency insiders understand the challenges in attracting and retaining top tier talent. 

The question, which has not been addressed is; “Why aren’t agencies paying more to secure top college graduates?” If a capable young person armed with a college degree can earn a starting salary of $70,000 by going to work for Accenture, McKinsey, Booz & Company, Adobe, Google or Microsoft then it stands to reason that advertising agencies must close the salary gap if they hope to attract their fair share of talent. As the American inventor and businessman, Charles Kettering once said: 

“We should all be concerned about the future because we will have to spend the rest of our lives there.” 

Importantly, this is a decision which the agency community owns. Their ability to pay higher salaries to attract young graduates is not hindered by the fees being paid by advertisers. Unfortunately, many advertisers have little exposure to many of the agency “worker bees” deployed on their account, spending most of their time interacting with more senior “point people” such as account directors, creative directors or senior media planners. As such, advertisers may have little transparency into the high turnover rates being experienced within the agency community. 

That’s not to say that advertisers aren’t paying a price from a learning curve perspective, which can affect the caliber of an agency’s work or the number of iterations required to generate satisfactory outputs. 

What is intriguing when looking at the fully-loaded hourly rates being charged by agencies, is that there appears to be plenty of room to increase compensation for junior to mid-level personnel. 

There are a couple of issues which impact an agency’s willingness to free up funds to address the pay scale issue. The first is the growing salary disparity between entry-level personnel and senior executives. One need look no further than the 4A’s own 2014 talent survey, which found that in the same year in which entry-level personnel were earning on average between $25,000 – $35,000, they had an agency report a $1,000,000 base salary for a Chief Creative Director position. 

Additionally, agency holding companies are growing and require resources to fuel their expansionary appetite. This growth comes largely via acquisitions of specialist agencies and investing to support in-network horizontal integration strategies which have spawned the birth of digital media trading desks and the creation of global cross-platform production hubs

Ultimately, market dynamics will force the agency community’s hand when it comes to a reapportioning or prioritization of resources to address the competitiveness of their salary offerings. Smart agencies will move to address this issue, recognizing that the lack of success in recruiting top college graduates combined with 30% staff turnover rates, is clearly not a formula for success.

Is Agency Ownership of Audience Measurement Providers a Good Idea?

13 Feb

transparencyRecently, WPP indicated that they were planning to take a large equity stake in comScore, one of the world’s largest online campaign measurement providers. This is in addition to WPP’s recent investment in Rentrak, a television audience measurement service, an organization in which WPP is now the largest institutional shareowner.

With WPP’s continued push into the campaign measurement space, advertisers may begin to question the consequences of an agency holding company’s ownership of audience delivery measurement resources. After all, these campaign measurement service providers gather and analyze data and publish ratings which are utilized to assess the efficacy of the agency’s media purchasing efforts on the advertiser’s behalf.

More broadly, based upon the business activities in which the agency holding companies now routinely engage in, one might legitimately question whether or not the designation of “agent” is even an apt description of the role which advertising firms play in support of their clients. Activities such as media arbitrage or reselling if one prefers, joint media and technology ownership deals with publishers, participation in AVB or volume rebate programs offered by media owners to agency holding companies tied to transactions entered into on behalf of their clients, all raise a legitimate question about “Whose” interests agencies are beholden to.

What recourse do advertisers have? After all, there are often distinct advantages to utilizing large agency holding company brands. Independent agencies, which while unencumbered by questions regarding their fiduciary focus, sometimes lack the scale or depth of resources required to perform in certain situations. Enlightened protectionism in the 21st century requires advertisers to aggressively push for enhanced transparency, improved controls and the unimpeachable right to audit their agency’s contract compliance and financial management performance. In the oft quoted words of President Ronald Reagan; “Trust, but verify.”

As a sound first step, it is essential for advertisers to understand their agency partners’ affiliate relationships. Secondly, it is imperative for advertisers to fashion contract language which requires their agencies to provide full disclosure when an agency affiliate is being utilized on their behalf, how that affiliate is compensated and by whom and whether or not the rates charged by that affiliate are competitive with comparable providers in the market. Whether in the context of ad serving, programmatic buying, trading desk operations or campaign measurement, an advertiser has a right to know when their agency has engaged an affiliate firm. This affords client stakeholders the opportunity to raise any questions or concerns they may have regarding such a selection and its impact on the agency’s objectivity. 

Once affiliate firms have been identified, tracking what percentage of an advertiser’s budget is being spent collectively at the agency holding company level can prove enlightening. More importantly, understanding the value of their account to the holding company based upon total revenues enhances an advertiser’s negotiating position when considering agency remuneration options going forward. 

As the ad industry has grown in size, generating approximately $521.6 billion in revenue in 2014 (source: MAGNA GLOBAL), it has also grown in complexity which is due in large to the rate and rapidity of technological change. Thus, it comes as no surprise that relationships among industry stakeholders have evolved, becoming more complex in their own right. The industry has begun to come to terms with the plurality of such relationships where partners may simultaneously be competitors or buyer agents may also function as sellers. However, “coming to terms” doesn’t mean blind acceptance. Rather it requires a new level of discourse and enhanced controls to protect advertisers and their investment.

Interested in learning more about agency network “affiliate management?” Contact Cliff Campeau, Principal at Advertising Audit & Risk Management, LLC at ccampeau@aarmusa.com for a complimentary consultation on the topic.  

 

Why Contract Definitions and Demonstrations are Important

01 Feb

contract complianceFor as long as there have been advertisers and agencies, there have been Client-Agency agreements. Contractual instruments, which are often referred to as “terms of divorce.” This is likely because one of their primary roles is to spell out the guidelines governing how each party must conduct themselves and identifying their respective obligations in the event a relationship is terminated.

The fact of the matter is, a contract is much more than that. It is a binding agreement between advertisers and their agencies which should identify the terms and conditions that will govern all facets of the relationship, ranging from how an agency is to be compensated to the level of staffing that an agency will deploy on a client’s behalf, to the scope of work to be undertaken by the agency. An effective contract also asserts both parties expectations for how they will conduct themselves while providing a mutual understanding for how the agency will steward a client’s marketing investment from a performance, financial and legal perspective.

Unfortunately, when it comes to contracts, there are too few “industry standards” within the advertising marketplace, varied definitions for descriptive terms and too often a lack of clarity around what is being represented by certain aspects of the agreement language. These gaps create gray areas which are seldom understood, much less agreed to by both parties. Unchecked, these gaps can be costly, particularly to advertisers that aren’t supported by knowledgeable industry experts and attorneys with solid industry experience.

As contract compliance auditors we have reviewed hundreds of Client-Agency agreements and have sat across the table from advertisers and agencies to help mediate gaps in understanding over even the most basic terms or representations. Examples include the definition of “Gross Media,” the assumption that individuals listed in an agency “Staffing Plan” are full-time employees of the agency (rather than contractors or part-timers) and or whether or not the awarding of work to agency affiliates is allowed, let alone how that activity is to be billed.

Let’s examine the financial impact of one of these items. Hypothetically, an advertiser with a $100 million media budget engages a media buying agency. The agreement indicates that media is to be placed on a net basis and that the agency will be paid a commission of 2% on that activity. This appears to be a relatively straightforward description. So the question is; “How much commission should the agency earn?”

  1. $2,000,000
  2. $2,040,000
  3. $2,353,000

It would not be unusual for a lay legal or procurement advisor assisting an advertiser in drafting or reviewing contract language to assume that the answer was 1) $2,000,000. Their assumption in this instance is that the agency’s commission would be calculated by multiplying the net media spend by the agreed upon commission rate.

On the other hand, a seasoned agency finance executive would advocate that the correct answer is 3) $2,353,000. How did they arrive at this figure, which is $353,000 higher than the prior scenario? By “grossing up” the net media spend by 17.65% and then multiplying that total by the agreed upon commission rate. Why would they do this? The answer would likely be; “that is the standard methodology used in the industry.”

This view has its roots in the golden days of advertising, when agencies delivered “full-service” and earned a 15% commission on their clients’ gross advertising investment. In that era, a biller would have to mark-up a net expenditure by 17.65 % in order to account for the 15% commission rate:

  • 15% divided by (100% – 15%) or 85% = .1765
  • If the net expenditure was $85, the total cost would be calculated by multiplying or “grossing up” the net amount by 1.1765 to arrive at a total cost to the advertiser of $100.
  • On the $100 gross expenditure the agency would earn $15 or 15%.

One might legitimately question why an agency would gross up a net expense by 17.65%? After all, it has been many years since full-service agencies were compensated at that rate. Should not the mark-up amount be specific to the negotiated commission rate? Using this approach for the 2% commission example could suggest that the correct answer to the aforementioned question would be 2) $2,040,000:

  • 2% divided by (100% – 2%) or 98% = .0204
  • $100,000,000 net media “grossed up” would be calculated by multiplying the net amount by 1.0204 to arrive at a gross amount of $102,040,000.
  • The agency’s commission on the grossed up media total would be $2,040,000

So which methodology represents the proper approach for calculating an agency’s commission in this example? Unfortunately, there is no definitive answer. This is a classic case where had a term such as “Commission” or “Gross Amount” included an example of how such formulas were to be applied, it would have clarified the intended agency remuneration, staving off a potentially difficult conversation between client and agency long after the ink on the agreement had dried. We can all learn from the words of the 18th century Scottish philosopher, Thomas Reid:

There is no greater impediment to the advancement of knowledge than the ambiguity of words.

 Interested in a securing a second-opinion regarding the clarity and soundness of your organization’s agency agreements? Contact Cliff Campeau, Principal of AARM at ccampeau@aarmusa.com.

Transparency Concerns Extend from Media to In-House Production Services

16 Oct

agency in-house productionEarlier this week The Association of Independent Creative Editors (AICE) posted a statement dealing with untoward agency business practices in the area of in-house production services on its website.

This action was enough to get the attention of two important industry stakeholders; AdAge who wrote an article entitled; “Trade Group Blasts Agencies for Shady In-House Post Practices” and the Association of National Advertisers (ANA) which voiced support of the AICE for going public with their concerns in an association blog post.

The AICE’s claims include the claims that “agencies lack transparency, ethics and fairness” when it comes to securing business for their in-house production units. While the AICE may have a certain level of bias, the directness of their statements and the allegations being leveled should cause advertisers to reflect on this particular agency service offering.

In our agency contract compliance auditing practice, one of the trends that we have noted over the last several years has been the increased level of advertiser billings which are running through agency production services groups. Perhaps more importantly, beyond the publication of a “rate card” for select production services, there is little in the way of transparency into the composition or competitiveness of those rates. Yet here to for it is an area that has attracted little in the way of advertiser attention.

Interested in learning more? You can read the AICE’s post in its entirety by clicking here.

Clients Paying Too Much, Agencies Too Little

13 Oct

agency compensationAs one who has experience on both the agency and client side, it was with great interest that I read Shareen Pathalk’s article; “Anatomy of an Agency Talent Crisis” on Digiday.  

Before we examine the talent challenges identified by the author, let’s take a look at the current agency compensation landscape.  As advertisers and agency practitioners know, agency remuneration practices have clearly migrated from a commission based system to a fee based model, which is now employed in approximately three out of every four client-agency relationships (source: ANA Agency Compensation Survey, 2013). 

Further, a majority of those relationships utilize a labor-based rather than output based or fixed fee approach.  Thus, one way for agencies to optimize revenues involves deploying more experienced, personnel with higher bill rates on client assignments… at the expense of less experienced individuals compensated at a lower rate.  In labor-based remuneration systems, higher bill rates are directly correlated with higher compensation levels.

This dynamic, which emphasizes “experience” is at least partially responsible for one of the advertising industry’s challenges… attracting fresh talent.  Why?  Entry level agency salaries, which have always been low relative to other potential career endeavors, are failing to entice new graduates to pursue a career in advertising, even though there is much about the industry which appeals to them.  As support, the author references the ANA’s 2014 Employee Compensation survey which found that “most entry level salaries” were between “$25,000 – $35,000.  Further, the author suggests that much of the work available is “either too temporary or too high-level for the applicant pool.” 

For an industry which relies so heavily on people, it is imperative that agencies find a way to address this dynamic in order to attract their fair share of intelligent, energetic college graduates looking for meaningful career opportunities.  So what’s stopping agencies from paying better wages for entry-level talent?  According to Nancy Hill, President, CEO of the 4A’s; “The benchmarks are in a place where we can’t raise our salaries.”   While it is not entirely clear which “benchmarks” Ms. Hill is referring to, one potential concern is likely the agency communities desire to maintain their cost competitiveness in the eyes of the advertisers. 

While this has some merit, direct labor cost is but one component of an agency fee and the corresponding bill rates which it charges advertisers.  Overhead rates for example can vary greatly from one agency to another often running between .85 and 1.25 times an agency’s direct labor cost.  Additionally, profit margins used to calculate base fees also differ from one shop to the next.  

For the sake of example, let’s look at two hypothetical scenarios.  Agency #1 is offering entry level media planners $28,000 per year in salary and presently uses an overhead multiplier of 1.25 x direct labor and a profit margin of fifteen percent applied to the combination of direct labor and overhead.  Based upon an eighteen-hundred hour annual full-time equivalent level, this would result in a fully-loaded hourly rate of $40.25 for that media planner.  Agency #2 is offering entry level media planners $35,000 per annum, uses an overhead multiplier of .85 and a profit margin of seventeen percent.  In this latter example, the fully-loaded hourly rate would be $39.27. 

In our experience as agency contract compliance auditors, working with several of the world’s leading advertisers, we have a breadth of experience in reviewing agency remuneration practices.  As such, there are two things which we can share.  First and foremost, in our opinion the difference in bill rates in the aforementioned example is imperceptible from an advertiser’s perspective.  This is largely because most labor based compensation agreements utilize functional or departmental billing rates, rather than actual direct salary costs as a base for calculating fees.  Ask any advertiser when they saw a billable hourly rate of less than $55 for an assistant media planner, which is still significantly higher than either of the fully-loaded rates referenced above.  Secondly, there is a great deal of subjectivity utilized by agencies in establishing overhead rates and much of the methodology employed to calculate those rates is not transparent to the advertiser or subject to independent review.   

The net take away… agency’s have a choice when it comes to talent recruitment, development and retention.  The fact is, there are no advertiser imposed constraints or industry benchmarks which restrict an agency’s ability to rethink entry level salaries or in limiting what an agency spends on training and development of their new hires.  Perhaps the only impediment is the lack of creativity currently being demonstrated by many in the agency community when it comes to talent management.

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