• by Tom Denford , Op-Ed Contributor, May 22, 2014

In just the last six months the conversations we’ve been having with global advertisers have evolved. Instead of having a recession-geared conversation on how to save agency costs, the whole outlook has changed. 

The new conversation is about how marketing (and the company’s marketing service agencies) will generate top-line growth. 

This is significant in two ways. First, it means that business confidence post-recession is driving C-suite growth strategies. Also, the way that agencies are used and the way marketers are likely to reward their agency partners will have to change to meet those new strategies. 

ID Comms recently worked with the World Federation of Advertisers to analyze the financial relationships between advertisers and their agencies. The study was based on responses from WFA members representing more than $100 billion in annual marketing spend and included a close look at how performance-based agency payment models were being used by some of the world’s largest advertisers. 

The WFA/ID Comms report found that the use of performance-related payment methods are increasing--now 15% of all payment models used.  But if the growth of Pay-For-Performance (PFP) contracts has been slow then what’s remarkable is the intention of those surveyed in 2014. 

A further 37% of those surveyed said they planned to implement performance incentives, while 36% said they wanted to explore value-based compensation and 66% said they wanted to link agency income more closely to their own business performance. 

This significant uplift in marketers’ intentions indicates that we should see more implementation of PFP-based contracts in the coming year. Our conversations with advertisers reveal that they are becoming increasingly aware that the way they pay an agency not only determines the agency contribution by incentivizing the right behaviors, but also has a significant impact on marketing ROI. That’s because it focuses agency effort on value-creating behaviors and thus aligns them better to driving the clients business KPIs. 

With a shift in corporate strategies to focus on topline growth, marketing investment is increasingly seen as a powerful lever for driving this change and improving value creation. Hence, many procurement departments are finally seeing media budgets not as a cost to be managed down but increasingly as a value creation opportunity to drive growth from improved, efficient use of budgets to maximize the effectiveness of marketing communications.

A further factor that is encouraging the use of PFP is the increasing digitization of marketing processes, especially in media buying. With more and more data on the effectiveness of media buying and consumer usage, it’s increasingly possible to identify metrics that truly reflect the ability of media (and other) agencies to deliver additional value to their client’s business. 

One exciting benefit of shifting agency income to a PFP model is that the advertiser and therefore the agency will be able to attract the very best talent to their business. The most talented people want to work in more accountable cultures, with objective client feedback and where success is celebrated and rewarded. 

Media (and other marketing specialties) are still people businesses and the best talent can make a huge difference to the value that an agency generates.

Instigating PFP in the new growth-focused environment will allow brands to gain competitive advantage because their agency will be keen to earn the additional profit that hitting mutually agreed targets generates. That allows them to focus their people better on delivering client business objectives. 

There remain many challenges in making PFP work effectively. One common mistake that we have seen advertisers make is not to offer sufficient incentive. In too many instances the amount of agency income that depends on performance is set too low (the average in the WFA/ID Comms survey is 14% of agency income). 

Our experience tells us that to be effective at significantly influencing agency behaviors, the rewards on offer need to be at least 20% of total income, ideally pushing 30%. 

Critical to the process of delivering performance-related income models for agencies, where they are being asked to carry some risk and perhaps put their profit in jeopardy based on their performance, are far better methods of evaluation delivered with greater objectivity.  

Advertisers are going to have to invest more in agency performance measurement, not just counting the numbers but evaluating the quality of agency people, service and strategy in objective and accountable ways. 

Brands that get this right will benefit from better agency performance, better agency talent and increased marketing ROI.