Faced with a tight economy, increased competition and more demanding clients, ad agencies are revamping how their services are measured and compensated.
The changes include more labor- and incentive-based payments, and fewer billings-based payments. Traditionally, agencies have been compensated based on a percentage of billings, or the money the advertiser spends through the agency to buy media, materials and services.
Partly driving the shift in compensation models is the tough economy, which means fewer ad dollars to go around for agencies. Moreover, there is now a slew of competitors in the agency space that didn’t exist a decade ago, such as systems integrators and boutique interactive agencies.
At the same time, shrinking marketing budgets mean clients are being much more demanding about the service they’re getting from their agencies, and are paying accordingly, say industry experts.
According to a survey by the Association of National Advertisers Inc. released last week, 68% of major advertisers used labor-based compensation agreements with their agencies in 2000, up from 53% in 1997.
Labor-based, also called fee-based, compensation is designed around an established amount of agency labor that will be required to perform a task or project, including built in costs for overhead and estimated profit for the agency.
"[Advertisers] are realizing that labor-based compensation offers a more consistent, practical and equitable way of paying agencies," said David Beals, president-CEO of Jones Lundin Beals Inc.
Also according to the study, billings-based agreements, which typically involve a commission paid to agencies for media buys, fell to 21% in 2000 from 35% in 1997, the last time the study was conducted.
"As clients took a closer look at commissions, they realized the potential to overpay the agency was great," Beals said. "Agencies have jumped on board," he added. "Particularly in tough times, when marketers are cutting budgets, the reverse could happen. The agency could potentially lose money [if media budgets are cut]."
Another factor influencing the move to fee-based compensation, Beals said, is the increasing use of non-traditional types of marketing, including the Internet, PR and direct mail, which usually do not involve significant media buys.
Growth by the numbers
The ANA study also found incentive-based compensation plans are used by 35% of agencies, up from 30% in 1997 and 19% in 1994. The most common incentive-based plans include achieving sales goals, conducting agency performance reviews, and meeting brand or advertising awareness goals.
Many b-to-b agencies and clients are now shifting their compensation agreements, using more performance- and incentive-based payments, which they say result in a higher level of service to the client and a fair payment scheme to the agency.
Take McClain Finlon Advertising Inc., a midsize independent agency based in Denver with b-to-b clients including Sun Microsystems Inc., Johns Manville International Inc., Qwest Dex and Xcel Energy. The agency, together with its clients, is using incentive-based compensation that is based on meeting specific goals such as collaborating with the client more effectively, meeting deadlines, cutting client costs and improving communications.
Cathey Finlon, chairman-CEO of McClain Finlon, said the agency first started using incentive-based compensation in early 2000 for client Qwest Dex, a unit of Qwest Communications International Inc. that provides Internet Yellow Pages to 14 states. McClain Finlon handles the sales collateral, direct marketing, print ads and general project work, such as Web development. Billings are undisclosed.
"At the beginning of the year , we were having trouble with the work process," Finlon admitted, pointing to cumbersome processes and ineffective communications with the client that resulted in creative work taking up to four weeks, or twice the time needed. She said much of the blame could be placed on misunderstood job roles, miscommunication about specific work and mistakes that required work to be redone.
Qwest Dex Senior Products Manager Tim Fires agreed. "We had good people on both sides, but the process had gotten lax," he said. "[The account reps] weren’t getting feedback [from the client]."
To address the problems, Qwest Dex and McClain Finlon sat down and defined all job functions for all projects, including how many people and how much time should be allocated to each. They set very specific goals, with bonuses to be awarded quarterly if the goals were met.
For example, the client committed to educating the account reps on its company, products and industry in order for the agency to better understand the work, and devised a formal creative strategy on an Excel spreadsheet that would track every deliverable and where it was in the process.
McClain Finlon would be awarded bonus incentives based on quantitative goals such as spending a certain number of hours at client education sessions and meeting deadlines for deliverables, as well as qualitative metrics such as developing better creative.
Key to the effort were quarterly agency evaluations by the client, with quarterly bonuses awarded to team members and the entire agency. "Quarterly evaluations are critical, and they must be contractually agreed to," Finlon said, in order to keep motivating team members.
For the year, McClain Finlon met its goals and was awarded incentive bonuses, although Finlon declined to disclose amounts. Aside from the bonuses, however, the new rules resulted in much higher performance from both sides, improved creative, higher morale, and, most important, new business for McClain Finlon from Qwest’s wireless division.
"We saw dramatic improvements on both sides," Fires said. "It really is a two-way communication process to make things work. Other people at the company have moved over to McClain because of this," he said, pointing to the wireless win.
Cleveland-based brand development agency Brokaw Inc., with b-to-b clients such as Cisco Systems Inc., manufacturer Parker Hannifin Corp. and Aironet Wireless Communications Inc., has implemented a new outcome-based compensation plan that includes getting paid for meeting goals that build overall value to clients.
For example, in its brand development and Internet advertising work for Cisco’s Wireless Networking Business unit, Brokaw has moved from specific project-oriented work, such as getting paid for an ad campaign, to broader work with an outcome-based objective, such as how to increase Web site traffic by 15%.
"Instead of saying, ‘We have this project for a price and here is our budget,’ now they say, ‘This is what we’re trying to achieve. Tell us what it’s going to take to help us achieve it, whether that’s partnerships or redefining brands’," said Robin Segbers, exec VP and creative director at Brokaw.
As part of its work for Cisco, Brokaw manages the relationships among several Cisco agencies, including DigiKnow, Great Lakes Lithographers, Message Media and Data Link, and is compensated if all agencies working together to achieve common goals, such as increases in Web site traffic.
"We sit down and do a lot of brainstorming between partners to come up with the best solution [for a specific goal]," said Brad Turner, account group director at Brokaw. "If we succeed, everyone succeeds."
The outcome, he added, is that beyond project-specific work, if the agency helps its clients achieve broader goals such as increasing overall Web site traffic or building brand awareness, "They’ll share more of their budget with us." And so far, that seems to be working, as Brokaw has gained additional work from other Cisco groups. Currently the work for Cisco is fee-based, but will be moving to more incentive-based compensation, Turner added.
As agencies and clients continue to work on redefining their business models in the current environment, it becomes more important than ever to develop compensation plans that will benefit both sides, said Jones Lundin’s Beals.
"With tougher economic times, the scrutiny on agency costs is only going to increase," he said.