Client organizations are staffed with professional buyers in the form of procurement agents. Advertising agencies attempt to do battle with these professional buyers using amateur sellers (amateur in the sense that most agency executives have not been trained in the art of pricing and negotiating in the same way procurement pros have). That alone puts agencies at a significant disadvantage when it comes to establishing compensation agreements.
It's easy to assume that procurement people are interested only in saving money by getting products and services as cheaply as possible. No doubt their goal is to lower your price (just as your goal is to protect your price), but procurement exists as a function to secure value for the marketer.
The head of procurement for a large international company recently told a colleague of mine that his department goes to great lengths to assure what he described as "compliance to a process" in selecting providers of products and services. He said this detailed selection process was created in order to assure that the company is getting not just the best price for a product or service, but also to make sure the company is receiving what it is paying for. In other words, that the company is getting the desired value for the price.
Consequently, procurement departments drag agencies through a series of detailed questions about their competencies, experience, processes, cost structures, and financial strength all with one central goal in mind: to make sure the agency is capable of delivering what it says it can deliver. When you think about it, the client organization really has no other way to evaluate or assure performance. As long as agencies continue to price their services based on costs (hours) instead of value, procurement professionals will always be looking for compliance to their process as a means of evaluating whether an agency really, truly is capable of delivering what it promises.
Our procurement professional friend explained that because he depends on the detailed procurement process not only to judge but assure performance, that there really is no way for agencies to avoid or short-circuit the process. We replied, "Yes there is, and we can describe it in three words: alignment of incentives." We went on to explain our view that the reason procurement departments have such a detailed process for selecting agencies is because of the total lack of alignment of economic incentives between clients and agencies. In fact, in the current cost-based system, there is a real misalignment of incentives. In the world of hourly-based compensation, the agency has an incentive to spend more time, not less.
"What if," we asked, "the agencies you are evaluating proposed a form of compensation in which the economic incentives of both parties were in near-perfect alignment?" Our procurement friend was silent for a moment. "Then there would be no need for compliance to our detailed process," he replied, somewhat surprised himself. In other words, that's why the process exists. Why not just bypass the process and go directly to what it's supposed to accomplish -- alignment of incentives?
Aligning incentives means clearly defining desired outcomes. It means tying compensation to value created, not costs incurred. It means shared risk and shared reward.
If agencies want to not only disarm but actually help procurement, they must first make the mental leap from cost to value. They must embrace the reality that that they're not selling their time, hours or costs. Because the typical agency bases its compensation on its costs, procurement generally wants to know all about how much the agency pays its people, what it pays in benefits, the amount of overhead, how overhead is calculated, and if all these costs are "reasonable."
If you take costs out of the picture as the basis of agency compensation, it radically changes the dialogue. If the agency is paid based on outcomes instead of costs, it gets the client out of the business of managing the agency's profit margin. When the economic incentives of the agency and client are aligned, marketers actually get more of what they want in the first place: even better planning, project management, innovation and proactive thinking, because the agency has all the right incentives to be both efficient and effective.
By adopting a compensation approach based on value created rather than costs incurred, agencies have an opportunity to help procurement, marketing, and other stakeholders bypass -- or at least greatly simplify -- the arduous "compliance process." It starts with the realization that marketers don't really buy an agency's costs, but rather their value
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Tim Williams leads the agency consultancy Ignition. He is author of Creating Value, a quarterly exploration of the issues and opportunities surrounding value-based compensation.