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Simplifying the Way Agencies Are Compensated

In a bid to drive simplicity in their relationships with agencies, advertisers are increasingly adopting commission-based pricing models. The move toward commission-based pricing models is a direct result of their awareness of the fact that other widely adopted pricing models are complex and are not as effective as they seemed. This awareness stems from the study conducted by the Association of National Advertisers (ANA), in 2016, which revealed the unethical practices followed by advertising agencies.

As advertisers began to dig deeper into their agency contacts, their concern regarding transparency grew. In addition, they also discovered certain inefficiencies pertaining to agency compensation. These factors influenced their perspective on their agency relationships, leading advertisers to look more closely at agency compensation.  

The sentiment regarding agency compensation also reverberates in a recent survey conducted by ANA, covering 82 companies representing more than 1,100 client/agency compensation agreements. The findings of the survey were released as a report titled “Trends in Agency Compensation,” published this year. The report points out that the rate of adoption of popular compensation models such as incentive-based compensation as well as fee-based compensation has declined since 2013.

Advertisers are increasingly becoming skeptical regarding their agency incentive plans which include the bonus an agency earns if it meets predetermined performance goals. The report states that many advertisers find structuring and managing an effective incentive plan to be complicated and time consuming, as well as inadequate in improving agency performance. It was also recorded that there is an increase in the number of respondents, from 13 percent in 2013 to 22 percent in 2017, who claimed incentives negatively affected agency performance. As a result, there has been a significant decline in the adoption of incentive-based fee for the first time in the 50 years of the ANA survey. Like incentive plans, the adoption of fee-based compensation model also fell from a high of 81 percent in 2013 to 68 percent in 2016.

In contrast, commission-based agency payment (i.e., pay based on a percentage of spend) as a compensation model rose to 12 percent in 2016 from 3 percent adoption in 2010. However, this trend varies significantly by the type of agency and service offerings. According to the report, 24 percent of compensation agreements with media planning/buying agencies are commission based, whereas just 6 percent of compensation agreements with creative agencies are commission based. Also, commissions are more frequently paid for programmatic buying, traditional media buying, and planning services than for social media and digital services.

This implies that, though the adoption of a commission-based compensation is clearly on the rise, there shouldn’t be a “one size fits all” approach when aiming to simplify agency relationships. For example, traditional commissions might be perfectly appropriate for certain media functions, labor-based retainer fees are effectively employed for ongoing annual creative agency activity, and fixed project fees are better suited for less frequent and/or unplanned promotional events and PR initiatives.

As advertisers eagerly look to simplify agency relationships as well as maximize their return on the agency compensation, agencies themselves are trying to remain profitable with rebates. Given this scenario, setting up a mutually beneficial compensation method is really difficult.

To overcome this challenge, advertisers should ensure that the compensation method adopted aligns to their business goals, i.e., selecting the appropriate compensation model for a specific marketing service.  It is also important for advertisers to have a clear internal alignment on agency budgets and their approach toward negotiations. Any changes/reductions in compensation without clarity and rationale will erode the agency relationship, resulting in a sub-optimal agency performance and a rift in advertiser-agency relationship.

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