Marketing Math Blog

Grossing Up Spend Prior to Applying Commission is Wrong

By Advertising Agencies, Agency Compensation, Billing Reconciliation, Letter of Agreement Best Practices No Comments

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It has been decades since the advertising industry relied on a standard 15% commission as its primary form of ad agency remuneration. Yet, one aspect of this bygone standard is still in use today.

When it comes to traditional media, for example, the commission rates charged by agencies for media placement services are in the low-to-mid single digits. However, rather than applying the agreed upon media commission to actual costs (sometimes called “net media”), known or unknown to the client, many agencies “gross-up” the net media cost before applying the contractual commission rate. Further, they do not gross up actual costs by the compliment of the commission rate, but by the old standard of 17.65%. The net result is that the media agency yields more in fees (commission), the advertiser pays more, and the agreed to media commission is not applied to actual media purchased – it is inflated.

For example, if $50 million of net media has actually been purchased (substantiated by media publisher invoices), and a 3% commission rate for the media buyer is applied, then the client would be charged $1.50 million in commissions (net media cost x commission rate).  Pretty simple – and how most client CFO’s (and most individuals not aware of this practice) would expect the agreed-to commission structure be applied.

However, it is still too common a practice for agencies to gross-up net media cost by 17.65% (using a 15% commission rate) before applying the agreed-to commission. Thus, had the same advertiser spent $50 million on media, they would be charged $1.765 million in fees (commission) – yielding the agency an extra $265k – akin to had the agreed-to commission been 3.5% of net media.

(1 +  Mark-Up Rate / Cost) x Net Media Cost x Commission Rate

or 

$1.765 million = (1 + .15 /.85) x $50,000,000 x 3%

The notion of calculating based on a “grossed-up cost” linked to an outdated industry standard from the 1920’s prior to applying the commission rate is quite simply non-sensical. Further, in the current environment, this practice could be perceived by many to be misleading.

To paraphrase Leo Burnett, one of the great advertising minds of the twentieth century; “The greatest thing to be achieved in advertising, in my opinion, is believability…” Thus, we would advocate eliminating the subterfuge and applying agreed upon compensation rates directly to actual costs for a cleaner and more transparent means of calculating agency remuneration in commission-based systems.

 

Marketers Without Formal Assurance Programs Are At Risk

By Advertisers, Contract Compliance Auditing, Marketing Accountability No Comments

risk-icebergFor most companies, marketing spend can be considered a material expense, often running at 5% or more of annual revenue. Yet, a majority of these organizations have not included marketing in their corporate governance and risk mitigation efforts, conducting limited or no supplier compliance, financial management and performance testing.

Given the complex nature of the marketing and advertising space, the less than ideal levels of transparency and the murkiness of advertiser supply chains, this creates a precarious situation.

It must be noted that this is an industry which is largely predicated on the concept of “estimated billing,” where advertisers are invoiced in advance for approved activity by their agency partners. These funds are then disbursed over time by the agency to third-party vendors or realized as agency revenue in accordance with remuneration agreement terms. An underlying tenet of this billing model is  that estimated costs are “trued up” to reflect actual costs incurred once a job is closed, supplier invoices tallied, and an agency’s time-of-staff investment is fully posted. However, reconciliation efforts do not always occur and approved but unused funds, for which advertisers have been billed, are not always returned in a timely manner or at all.

Many Client/ Agency contracts contain solid control language to protect the advertiser and to provide explicit financial management and reporting guidelines to their agency partners. That said, many agreements are outdated and do not contain the requisite terms and conditions necessary to adequately safeguard an advertiser’s marketing spend. Ironically, good contract or not, too few organizations review supplier compliance with agreement terms or conduct financial and performance reviews of their agency partners… even though most agreements provide advertisers with the right to audit the agency to review the financial documentation that supports the agency’s billings.

In our experience, advertising agencies expect their clients to conduct periodic compliance and performance testing. The fact that more companies are not following through on their audit rights is a mystery. Why should testing be performed? Because periodic compliance reviews drive accountability and improve transparency, addressing questions such as:

  • Did we get what we paid for?
  • Were we charged the appropriate rates for the work performed?
  • Were third-party expenses billed on a pass-through basis, net of any mark-up?
  • Did the agency reconcile fees to reflect its actual time-of-staff investment?
  • Were third-party vendors paid in a fair and timely manner?
  • Were agency and third-party vendor billings accurate?
  • Are future projects being estimated and approved using accurate historical information?

Beyond providing financial management assurance and recoveries, compliance testing identifies gaps in control, yields recommendations for improving contract language and reporting and can drive process enhancements that result in future savings.

In the end, sound Client/ Agency agreements backed by a formal risk mitigation program can protect a company’s marketing investment, converting risk control measures into business growth opportunities. This, while driving accountability and providing company stakeholders with a sense of trust and confidence that its marketing team, agency partners and third-party suppliers are properly stewarding the funds entrusted to them.

 

Will Consolidation Play a Role in Creating the “New” Agency Model

By Advertisers, Advertising Agencies, in-house ad agency No Comments

ConsolidationIt was a simpler time when advertising agencies began to “unbundle” in the 1980’s, separating media planning and placement from creative. This, along with the shift from remuneration systems predicated on commissions to direct labor-based fees, formed the basis for today’s advertising agency model.

While there were certainly variations on the aforementioned theme, this approach served both advertisers and agencies well for the next thirty years. However, as the advertising business became increasingly more nuanced and fragmented, the industry saw a rise in the level of specialization resulting in an increased number of agencies with highly concentrated service offerings. In turn, agency holding companies went on an aggressive acquisition binge gobbling up traditional and specialized agency brands. While there were some efficiencies gained by the holding companies in consolidating back-office functions, the acquired shops were allowed to continue to operate under their individual identities. In so doing, there was little to no cultural acclimation across the holding companies’ agency brand portfolios.

One of the notable consequences of this movement was that marketers saw an expansion in the number of roster agencies, which swelled beyond their ability to effectively manage their now far-flung agency networks. According to Manta Media, in 2020 over 57,000 agencies were operating in the U.S. alone, creating a highly fragmented and competitive marketplace for marketing services providers.

Concurrently, a once stable and manageable business sector was now having to deal with increased levels of complexity stemming from an expansion in the number of media types and outlets, the rapid adoption of changing technologies, the emergence of “Big Data” and an ever-evolving set of consumer media consumption behaviors.

Fast forward to the present and it is easy to understand the position shared by many who feel that the “agency model” is no longer effective and needs to either be fine-tuned or perhaps completely overhauled. These pundits believe that talent constraints, eroding margins, expanding scopes of work, a shift from retained to project-based relationships and the emergence of management consulting firms as viable competitors in the marketing services space have led to the demise of the traditional agency model.

While there have been numerous questions raised, there has been little progress made on client-agency relationship improvements, compensation schema and or agency positioning, let alone ideation around creating a new marketing services delivery model.

There clearly is no “silver bullet” and while we don’t portend to have the answer to remedy all of the challenges facing the industry, we predict that the ultimate solution may involve some of the following actions:

  • Advertisers will streamline their marketing services agency networks with a goal toward eliminating redundant resources/competencies, clarifying agency roles and deliverables, establishing a “lead” agency and providing a framework for long-term, collaborative relationships.
  • In-housing will continue as advertisers seek to improve their controls, gain line-of-sight into the disposition of their spend at each stage of the marketing investment cycle, better assess their return-on-marketing-investment and to drive working dollars. This will involve managed service models where the client takes ownership of the technology and data and engages the agency to plan and execute select components of their communication programs.
  • Compensation programs will blend a balance of direct-labor and or project-based fee methodologies with gainshare and painshare components that link a portion of an agency’s remuneration to the advertiser’s in-market performance.
  • Agency holding companies will “right-size” their brand portfolios, combining and or shedding redundant service providers, consolidating agency brands and developing “centers of excellence” to gain scale efficiencies and improve client delivery within key functions (i.e. broadcast production, digital production, programmatic trading, trafficking, etc.).
  • Agency service delivery models will evolve to simplify advertiser access to the range of agency holding company resources through dedicated relationship management teams that can tap the entirety of a holding company’s offering.
  • Management consulting firms and advertising agency holding companies will co-exist, and in fact, will be called upon to collaborate in providing their clients with integrated end-to-end solutions focused on both building brand and driving in-market performance.

Experience suggests that the best way to solve complex professional services challenges is to focus on the common denominator and craft solutions that ease the burden of the client organization in accessing those services. Thus, consolidation will play a key role for all stakeholders (advertiser, agency, intermediary, publisher) as the advertising industry considers how to evolve its current business models.

The more you drive positive change, the more enhanced your business model.” ~ Anand Mahindra

 

Outdated Client-Agency Agreements Pose Risks to Advertisers

By advertising legal, Contract Compliance Auditing, Letter of Agreement Best Practices, Right to Audit Clauses No Comments

ExpiredWARNING: If the contract between your organization and its advertising agency(s) has an effective date prior to January 1, 2017, you may be at risk.

Not unlike fresh produce, dairy products, meat, medicine or even beer, contract language is perishable.

Seems far-fetched you say. Consider the ad industry is a dynamic, fast-paced business sector. One only need recall the breadth and rapidity of change brought on by technology advances and increasing levels of regulation in just the last four years:

  • April of 2016 – Europe enacts The General Data Protection Regulation (GDPR) governing how companies handle consumer data, forcing advertisers, agencies, publishers and intermediaries to implement business rules and guidelines to safeguard personal data and privacy.
  • June of 2016 – The Association of National Advertisers (ANA) publishes its North American Media Transparency study, leading to wholesale changes in contractual controls. As a result, nearly 2/3 of ANA members indicated that they would update their media agency agreements.
  • December of 2016 – The industry’s four largest agency holding companies involved in a Federal bid-rigging probe following allegations by post-production houses on the misleading use of rates they provided to agencies.
  • September of 2018 – The California Consumer Privacy Act (CCPA) goes into effect giving consumers more control over the personal information that businesses, including advertisers, agencies and publishers collect about them.
  • October of 2018 – The Federal Government informs the ANA and its members that the Federal Bureau of Investigation would be investigating potential misleading conduct and or deception between media holding companies and advertisers.
  • June of 2019 – Cybersecurity company, Cheq reports that advertisers will lose over $23 billion to ad fraud in 2019 alone.
  • July of 2020 – Year-to-date the European Union has issued over 300 fines to advertisers and publishers totaling more than $171 million for violating GDPR guidelines.

Each of these occurrences and numerous others has led to the need for advertisers to rethink their contractual controls in order to safeguard their organizations both legally and financially. In turn, this requires language enhancements and the addition of terms and conditions dealing with a range of topics such as privacy protection, data security, intellectual property ownership, transparency, audit rights and indemnification.

All too often, the contracts governing client/ agency relationships are slow to evolve, posing serious risks to advertisers. This in spite of trends such as the growth in the number of intermediaries, agency use of affiliates, expanding agency rosters, murky supply chains, brand safety concerns and the prevalence of ad fraud that pose risks to advertisers.

The thinking on items that were once considered “standard” within the industry, and therefore thought to be sufficiently covered in the context of agreement language can no longer be assumed. Advertiser expectations on topics such as; establishing principal-agent relationships, client-centric audit rights, requirement for full-disclosure in all dealings by the agency with affiliates and third-party vendors and limiting agency revenue to the remuneration described in the agreement and or appropriate SOWs must be reviewed and explicitly defined.

In our contract compliance practice, we have identified 3 key “triggers,” which if present, should incent advertisers to review and revise their agency agreements:

  1. The “effective date” of the current Client/ Agency agreement is more than 2 years old.
  2. If the parties utilized the Agency’s contract template as the basis for the agreement. These documents contain language that reflects the agency’s interest, not necessarily those of the advertiser.
  3. If an advertiser has “evergreen” agreements in place, but updates Statements of Work annually. Too often, while clients update the SOW, reviewing the contract for necessary updates is forgone.

The good news is that both the ANA and the ISBA have issued solid guidance in the form of framework agreements for use as a starting place to construct media and creative agency contracts. It’s important to note that while these broad-based agreements are an excellent resource, every relationship has nuances with new evolving risks that should be weaved into new advertising agreements.

Current, comprehensive supplier agreements leads to solid controls, improved transparency and stronger agency relationships. Integrate periodic contract compliance and financial management auditing and advertisers can rest easier knowing that they have successfully extended their governance and risk management framework to this important area.

“The essence of risk management lies in maximizing the areas where we have some control of the outcome, while minimizing the areas where we have absolutely no control of the outcome.” ~ Peter Bernstein

Creative Development Post-Pandemic

By Creative Development, Creative Services No Comments

IdeasFew would debate that creative development services are one of the most critical skill sets provided to advertisers by their agency partners. Thus, as agencies the world over adjust to their employees working remotely it is natural to wonder how this dynamic will reshape creativity?

“Creativity is thinking up new things. Innovation is doing new things.” ~ Theodore Levitt

How, for example, will working remotely impact the gathering and imparting of knowledge, insights and inspiration between advertiser and agency? Between creative directors and their teams? Between agencies and their production resources?

The answers to these questions, and others, require multi-disciplinary inputs that will necessarily impact creative workflows and timelines. Whether in the context of the creative briefing and approval processes, creative asset management or the trafficking of finished work, advertisers and agencies alike will need to rethink the procedures that guide this process from end-to-end.

Once creative processes have been reviewed, mapped and guidelines issued, stakeholders must shift their attention to “execution,” which is central to successful innovation (doing new things right).

The first item to be addressed is the creative brief. Relationships in which advertisers and their agency partners had implemented and honed a solid briefing process, pre-COVID, will find themselves ahead of the game. Evolving the tools and procedures related to both the joint and internal agency briefing process is infinitely easier than creating them from scratch.

During the creative ideation phase, a remote working environment presents a unique set of challenges, the least of which is the collaborative process between creative leadership, art director, copywriter, content producer, etc. To this end, in a London Business School article by Richard Hynter the author mused about what the pandemic can teach us about creativity. This included his belief that practitioners will need to focus their orientation and efforts on three components of creativity; expertise, thinking skills and motivation. How agency creative management adapts its approach to address these areas will greatly aid and abet its creative development process… and outputs.

For most of us, it is likely that over the course of the last several months, we’ve logged more time on web-conferences, Zoom meetings and conference calls than one would care to. Welcome to the “new normal.” Along the way, we have experienced the subtleties of presenting data, proposals and yes, creative using these tools. While not ideal, being able to hone one’s skills to embellish the presentation of creative concepts is essential to secure client buy-in to an agency’s creative recommendations. How these presentations are staged, who attends and how feedback is shared will be critical to the creative approval process and, in turn, the development timetable.

Wash, rinse and repeat…

With client sign-off secured, ad agency creative personnel must set about briefing third-party vendors (i.e. production houses, illustrators, animators, digital video editors, etc.) to solicit proposals, begin work and to coordinate the ad production process. Managing the production workflow across multiple organizations, with employees working remotely will require adept project management and creative asset management skills along with a robust technology platform(s) to facilitate. Having a centralized creative file management system, will greatly assist the creative development, review, approval, tagging, delivery and tracking phases of the process, whether work is completed at the office or remotely.

Based upon casual observations of the creative that has been produced and placed since the onset of the pandemic earlier this year, agencies and advertisers have done an excellent job adapting to the new environment. Continuing to refine the processes already employed and implementing new tools and guidelines to assist a remote workforce will only help drive creativity on a post-pandemic basis.

Keys for Optimizing Agency/ Client Relationships

By Advertisers, Advertising Agencies, Client Agency Relationship Management No Comments

KeysThe Agency/ Client relationship has been under duress for a couple of decades. The “Procurement Phenomenon” at the dawn of the new millennium has morphed squarely into the Procurement Era for Marketing Services adding stress to these important relationships. This has been further compounded by the erosion of trust resulting from media rebate and transparency issues that have beset the industry, and even more so as a result of the current socio-economic turmoil.

Join J. Francisco Escobar, a leading industry “marriage counselor” and Procurement consultant for a webinar that will cover current trends, compensation practices, a Procurement primer, and negotiation tips that will guide agencies and advertisers in optimizing their relationships. Key takeaways include the following … View Webinar

  • Key trends impacting ALL Marketing Communications Services
  • Top 10 ways to Demonstrate Value to Procurement
  • Practical negotiating  tips and best practices
  • Actionable keys to optimizing Client relationship

Why Are Media Agencies Forgoing Objectivity?

By Digital Media, Digital Trading Desk, Marketing Accountability, Media, Media Transparency No Comments

questionConsumer media consumption behavior is ever evolving. And advertisers must select from an expansive array of content venue choices to communicate their messaging. Balancing these two dynamics is the key to optimizing media investment decisions.

Time was when agencies based their media resource allocation recommendations on insights gained from an exhaustive, objective review of media performance and audience delivery data. 

In traditional principal-agent relationships, agencies have a fiduciary responsibility to act in the best interest of their clients. This includes providing advertisers with informed recommendations, free of bias or conflicts of interest, that are advantageous to the advertiser. Most advertisers understand that in the twenty-first century, unless the principal-agent relationship is firmly established in the Client/ Agency agreement, all bets are off when it comes to their agency being bound to adhere to principal-agent guidelines.

Over the course of the last decade or so, practices such as “principal-based media buys” and ABVs (rebates) came into vogue. This is where an agency takes ownership of the media inventory and resells that inventory to the advertiser at a non-disclosed mark-up, making a profit on the spread and or receives an incentive based upon its total spend with a media seller. Good Client/ Agency agreements require the agency to secure the client’s written authorization before employing these type of practice and in the case of rebates to remit the advertisers pro-rata share of such rebates.  

Fair enough. Buyer beware. Trust but verify. Got it.

There is another practice that seems to be gathering steam between media sellers and media buyers that raises questions about the objectivity of an agency’s media planning and buying recommendations. Simply stated, media owners, seeking to lock-in a revenue stream from a given agency holding company, are offering to reserve inventory in bulk for that agency to allocate to its client base at some point in the future.

One recent example of this is Omnicom Media Group’s (OMG) commitment earlier this month to spend $20 million of its clients’ media funds to advertise in podcasts distributed by Spotify. Given the nature of the advertisers represented by OMG (McDonalds, AT&T, P&G, PepsiCo, etc.), their total media spend and the fact that 2020 media plans have been completed and buying commitments presumably made perhaps there is little risk of such a deal influencing whether or not an advertiser should commit dollars to Spotify podcasts.

Separately, it was recently reported by Digiday that TV networks and agencies, in an effort to jump-start the annual upfront marketplace, were considering share of spend deals to “address advertiser commitment issues.”  In this scenario, an agency holding company would commit to spend a percentage of its clients’ aggregate upfront budgets with select network groups. However, client budgets are in flux and there are multiple questions surrounding the traditional upfront marketplace. Thus, the commitments being made by agencies are being done in advance of any client media authorization process. It would be natural for one to ask; “What incentives are being offered by the network groups to facilitate such deals? And How are such benefits distributed to an agency’s clients?”

The primary concern with this type of approach is the potential for these buying commitments to bias an agencies recommendations to its client base. As the author of the Digiday article points out if aggregate spend projections come up short, the holding company may find itself in a position where it may “need to push clients to spend their money” with a given network group.

Practices such as these are fraught with risks. When an agency has already committed to a pool of inventory on a network group based upon hypothetical aggregate spend levels across its client base objectivity is lost.

We are simply not fans of this practice, believing that agencies have a fiduciary responsibility to their clients to make media recommendations, based upon an unbiased fact base, that are in the best interest of the advertiser.