The Problem

Avi Dan of Forbes discusses why agencies have no incentive to come up with big ideas.

The reason is simple: most marketers pay agencies based on labor cost, an approach that turns agencies into vendors rather than partners. This encourages agencies to engage in include various bad behaviors:
  • Padding their activity.
  • Billing inflated costs to their clients.
  • Expanding the scope of work.

A Solution

Fixed pricing is the surest recipe to encourage the agency to settle for mediocrity, because payment is not conditioned on results. Since the current practice compensates an agency equally for good and bad work, a model that more highly compensates good advertising that delivers superior ROI might be an alternative:

Quality of ideas should determine not only agency tenure, but also the level of remuneration. It’s time to consider transitioning from the standard fee compensation to a new structure that will demand of agencies brilliant ideas as their contribution to a genuine partnership.

Dan recommends a model similar to that used in the entertainment industry. If agencies assume some of the cost of research and developing and producing the advertising, and performance goals were met, the agency could be compensated for taking the risk with the client by sharing in the profits. Or the agency could be granted a royalty agreement for the time its work supports a brand. He concludes on this intriguing note:

Just Imagine if the CMO of a company told the board that they are investing millions in advertising but the agency agreed to forgo all or part of its profit margin in the case of failure. That kind of compensation, focusing reward on success and failure of the agency’s output, not input of labor hours as it is now, would turn client/agency relationships into what marketers want from their agencies: creating growth.