What is the best method for compensating advertising agency partners?
This has been a spirited topic of conversation ever since the “old standard” of a 15% commission went by the wayside. To this day, there is no definitive approach in the industry and no consensus on either the mode of compensation or the amount.
Should we utilize a commission model? Straight commission or a variable rate? A hybrid of a fee + commission? Fixed retainer fees? Project-based pricing? Performance-based pricing? Or time and material? Ask a dozen industry professionals from either the client and or agency side and you will likely get 12 different answers.
According to the ANA’s last triennial study on agency compensation, advertisers still rely primarily on labor-based fees while continuing their search for a means to simplify agency compensation practices. Getting to a compelling and efficient remuneration model that fairly compensates one’s agency partners, while challenging, remains the goal of most advertisers.
With the rise in project-based work versus traditional retainer relationships and the dramatic expansion of technology enabled support, including programmatic media buying, we believe that the most effective means of compensating advertising agencies is time-and-material. Direct labor-based fees (direct labor costs + overhead + profit) tied to hourly bill rates by function and estimated utilization levels laid out in a staffing plan should form the basis of this approach. All third-party cost (including technology and data fees) would be billed on a pass-through basis, net of any mark-up. For those advertisers and agencies that desire, overlaying a performance bonus tied in part to agency performance and the advertiser’s attainment of business objectives provides an effective incentive to align both partners’ interests. Bill rates should be reviewed annually.
The key to protecting both parties’ interests in this model is linking scopes of work to agency staffing models and reporting on agency time-of-staff investment monthly. Advertisers seeking to avoid “surprises” when it comes to their agency fee investment can cap hours and fees requiring their agency partners to provide notification when that bank of hours is at risk of being depleted and securing the client’s permission to bill additional hours if necessary. This also protects the agency from scope creep, which often occurs over the course of a project and or a work year. In turn, minimum fee thresholds can be established that allow the agency to lock-in key personnel, providing their clients with the requisite level of coverage.
Historically, the challenge related to value-based or fixed retainer fee compensation models has been the inability to accurately track time on task to better align agency staff utilization with client scopes of work. Add in the complexities related to rapid response turnarounds and the need to develop multiple creative units to support an advertiser’s digital media placements and these models have become even more difficult to administer.
Long a standard in the professional fee-for-services area, time and material-based compensation models are easier to implement and clear to all stakeholders. Properly structured, they serve the interests of both advertisers and agencies more effectively than output or performance-based models, lowering variability and minimizing risks tied to changes in scope or marketplace occurrences. In the words of Edsger Dijkstra, the 20th century Dutch scientist: “Simplicity is a prerequisite for reliability.”