When it comes to measuring ROI, companies spend much more time on the "R" (return) than on the "I" (investment). Sophisticated marketing analytics today give marketers an unprecedented degree of insight into how well their marketing spend is performing.
Very few organizations, however, apply the same level of rigor to their spending on external resources such as marketing agencies, production houses and market research firms. That is starting to change, as more companies launch agency reviews. In the past year alone, a number of high-profile brands have ordered agency reviews to consolidate their media buying and creative agencies.
This increased scrutiny is based on many reasons, not the least of which is the amount that companies spend on agencies. According to a McKinsey analysis, these expenditures can account for as much as 20% of a company's total marketing outlays. U.S. agency revenue increased 3.7% to $39.1 billion in 2013, according to Ad Age DataCenter's analysis of more than 900 agencies in the annual Ad Age Agency Report. But too much of marketers' outlay to agencies is squandered. In our experience, it's not uncommon to find that as much as a quarter of marketers' fees to agencies is wasted.
Taking a more disciplined look at marketing spend with agencies through a systematic approach can not only save a significant amount of money; we've found that this approach also leads to more productive partnerships.
Executives can capture more value from external marketing resources by pursuing five key strategies:
1. Identify needs and bring non-strategic roles in-house. As marketing budgets have shifted toward emerging media (such as digital, social, and mobile), external resources can provide companies with specialized expertise. Too often, however, what begins as the temporary use of agency staff for strategic purposes becomes a long-term arrangement due to complacency or inertia. Besides the cost implications, using external resources can lower productivity (for example, through delays in legal and HR approvals) and undercut a company's efforts to retain and develop its distinctive employees for strategic roles.
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2. Increase transparency to understand true cost drivers. As part of initial marketing negotiations, savvy companies have sought to define the cost of marketing products and services. Bottom-up cost models -- that is, a "should-cost" view of what an agency should be charging for its services -- have become increasingly common. One European high-tech company, for example, built a detailed model estimating an agency's overhead, including indirect labor, space and facilities, IT expenditures and corporate and professional costs. Using this fact base, the client found a gap of 40% between what the agency was charging clients for overhead and its actual costs. This exercise compelled the agency to explain its cost structure and specify a 15% profit margin on its services. While contentious, the process created full transparency, which served to strengthen the company's relationship with the agency. Ultimately, this visibility led the high-tech company to reinvest savings with the agency and even send additional work its way.
3. Apply procurement best practices to marketing spending. Supplier fragmentation is common in various functions, but it is particularly acute in marketing. Individual business units within a company tend to favor their own particular agencies, production houses or market research companies. In many instances, business units enter into disparate contracts with the same supplier -- a costly mistake. By pursuing consolidation and scale -- core components of effective sourcing -- companies can achieve benefits that extend beyond cost savings alone; a master agreement with standardized terms and conditions and service-level agreements (SLAs) can help to ensure higher work quality.
4. Link compensation for external resources to company performance. Given the many factors that contribute to higher revenues, companies understandably might find it difficult to determine the direct impact of agencies and production houses. Objective evaluation metrics, while not always feasible, can help organizations assess the performance of their vendors more accurately. This sort of qualitative evaluation of the creative output from external marketing resources is only a starting point. Best-in-class companies are establishing metrics -- backed by incentive models -- to align the vendor's compensation with its impact on the company's success.
5. Retain an external auditor to verify terms and conditions and benchmark rates. Companies are increasingly turning to external auditors to uncover hidden sources of value, especially in instances where an agency or production house may be reluctant to provide complete transparency. To be effective, external auditors must have a detailed understanding of cost benchmarking for different creative processes such as film shoots, media buys and website development.
The specialized expertise of external marketing partners will continue to be vital in developing and executing effective marketing strategies. But only a better relationship based on transparency can sustain a true partnership. After all, the goal isn't to minimize funds for marketing content and strategy but to increase the impact of this spending.
The authors would like to thank Pallav Jain, who contributed to the publication of the article.