McKinsey: Not much has changed three years after media rebate uproar

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Three years after former Mediacom CEO Jon Mandel gave a blistering speech alleging widespread media rebates in the U.S. -- and the Association of National Advertisers launched a crusade to investigate and stop them -- nothing much has changed, according to a report by McKinsey & Co.

Sarah Armstrong.
Sarah Armstrong.

The McKinsey effort, which was scheduled to be discussed at the ANA's Advertising Financial Management Conference on Monday, was led by Sarah Armstrong, a former Coca-Cola Co. executive who dealt with media rebates extensively during the last 15 of her 20 years there before moving to McKinsey last year.

The firm found that 500 media accounts have been reviewed by advertisers in the past three years, contracts have been widely rewritten and audits of media agencies have skyrocketed. Yet rebates and other forms of "non-transparent" incentives from media companies to agencies remain common, Armstrong says.

"Everyone is saying 'I ran a pitch,' or 'I updated my contract,' but that's really just a start," Armstrong says in an interview with Ad Age. "This is a topic that never goes away."

The new report goes beyond the ANA's voluminous 2016 report from K2 Intelligence to quantify how big rebates are in the industry. This follow up focuses specifically on traditional media—stating on average up to 5 percent of an advertiser's spending on TV and radio gets rebated back to the agency; up to 15 percent of outdoor spending finds its way back to the shop; and 20 to 35 percent of digital gets kicked back to the agency.

In the McKinsey report, an unnamed executive who was involved with the original K2 study is quoted as saying the K2 report "set off a nuclear weapon in an enclosed space, but it feels like we're back to business as usual in the industry." A former media-agency executive is quoted in the McKinsey report saying: "Most media-agency profitability is driven by non-client revenue. We would not have a business if we didn't have rebates."

Perhaps that's extreme, but one sign the whole thing did have an impact on agency profits and revenues, at least when it comes to the stock prices of the four biggest holding companies. All are down double digits since the K2 report came out in mid 2016, McKinsey notes.

McKinsey recommends marketers hire rebate specialists whose primary job is to track media rebates and other incentives to agencies and to help ensure the value from them passes through to clients, something Armstrong says almost no companies have today.

Rebates now more often take harder-to-track forms, Armstrong says, including what she calls the "$20 million pencil," in which media companies pay media agencies or their holding-company siblings inflated prices for research reports of questionable value.

She also supports the assertion from another non-McKinsey consultant, who declined to be identified, that while much of the transparency focus by the ANA and marketers has been on digital media and programmatic buying, big issues remain in traditional media.

Both consultants pointed to "co-mingled buys," where agencies leverage their collective client clout at the holding company level with TV networks to also buy inventory for their own accounts at discounts deeper than what clients receive, and which can then be resold to clients at substantial profit. Such deals can be difficult even for clients with recently rewritten contracts and strong audit rights to prevent or detect, they say.

But a spokeswoman for Procter & Gamble Co., the biggest U.S. and global advertisers, which has extensively reviewed its agency contracts in recent years, says the company believes its current contracts do address and prevent such practices.

The ANA's master contract template, developed with consulting firm Ebiquity, does contain language that might prevent such sweetened deals for agencies when the same rates aren't offered to clients. But that's among provisions agencies routinely strike out or "redline," Armstrong says.

"I think it's great the ANA put [the model contract] in place," Armstrong says. "It's then up to clients to stand as firm as possible that this is what the industry expects."

But even the strongest contracts may have trouble regulating side deals between holding companies and media sellers, since a variety of special payment terms can be used to justify extraordinary discounts, and finding them requires audit rights for transactions that don't directly involve clients. It's possible to write contracts that would provide visibility of such deals, Armstrong says, but even the most dogged client is unlikely to get all the incentives they may be due.

That's one reason McKinsey, perhaps idealistically, is also recommending a simpler solution: Contracts that compensate agencies fully to staff a realistic and mutually agreed scope of work plus a reasonable margin, combined with mutually agreeable performance incentives.

McKinsey partner Robert Tas, a co-author of the report, says, "We believe agencies should be paid appropriately for the skills they're delivering, which are different than they were in the past. Clients need to be aware of that and why it costs money to do analytics and digital."

That last recommendation is one 4A's CEO Marla Kaplowitz enthusiastically endorses, but she takes issue with other things McKinsey is saying.

"The majority of agencies have said they don't take rebates," Kaplowitz says, or that when they do occur they will be disclosed to clients. Despite the vast wave of audits in the wake of the K2 report, she noted the nearly complete lack of any public reports of contractual violations.

"There are some publishers who will offer rebates and call them that, and those are typically disclosed and passed on to the client," Kaplowitz says. The ANA model contract is just that, a model, she notes, so clients and agencies need to develop their own versions that are mutually satisfactory.

The problem with reports that lean on unnamed sources to make broad accusations, she says, "Is that it tends to cast everybody in a bad light, and it's never clear if they're based on conversation and hearsay or tangible proof."

For its part, the ANA takes issue with the idea that nothing much has changed. CEO Bob Liodice points to a survey last year in which 65 percent of members reported taking some action on the transparency issue, such as updating contracts or enforcing audit rights. But he says the "philosophy of transparency" also has spread to marketers asking more questions before making decisions generally.

"Increasingly, clients are taking back control of their media investments via greater supervision of their agencies, and also moving certain types of work in house," says ANA Group Executive Vice President Bill Duggan, including programmatic buying, social media and influencer marketing." Cost and speed were the traditional reasons for such "in-housing," he says, but "transparency concerns have recently accelerated that trend."

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