Nerve Collective

Thoughts & Musings

Why is the Traditional Agency Model in Trouble?

Money, obviously. Traditional ad agencies are running out of it. Profits are down, which seems counterintuitive in an age where there are more products than ever competing for mindshare, more (and more varied) types of media that can be enlisted to disperse messages, and most importantly plenty of consumers around with money to spend. Considering all that, why are traditional ad agencies suffering?

It has to do with the way traditional agencies make money. They don't do it by selling creative services, that's for sure. Services are low margin affairs, no matter what industry you're in. No, when it comes to making a margin, it's much better to be selling goods. Ad men have always understood this, which is why every successful agency is a media brokerage first, a creative shop second. Being cost centers, creative departments barely cover their own expenses with their billings. All too often, they're loss leaders. 

So if ad agencies don't make money with creative, where do they make it? The answer is: by marking up goods, i.e. photography, TV and radio production, (in the old days) print production, but mostly media. The standard commission on media runs 15%, meaning that for every $100 a client sees on their media bill, $15 goes to the agency. It's not much compared retail markups which can be 100% or more, but it adds up quickly. McDonald's, the world's biggest advertiser, spends about $1 billion on advertising every year. Under the old scheme that would have meant $150 million in commissions to the lucky agencies placing the TV, radio, outdoor and print. 

But then things don't work quite like they used to in the modern digital age. Up until quite recently, tracking ad results was an inexact science at best, total guesswork at worst. In 1990, McDonald's could more or less determine, based on sales figures, whether their new national ad campaign was working. The problem was that they had very little direct evidence as to which tactics were pulling the most weight. Was it the TV, the billboards, the print or the radio? Because they couldn't really tell, McDonald's had to spend in all directions in hopes of keeping sales up. 

That of course was great news for ad agencies. Some of the media tactics they sold to their clients were total losers and they knew it. But because the losers couldn't easily be distinguished from the winners without hiring (even more expensive) researchers, clients had little choice but to keep the spend going, and of course paying the commissions. 

With the advent of the internet that all started to change. The internet was not only a great ad deployment medium, it was a great ad tracking medium. Unlike a billboard or a TV ad, a Google AdWords ad can be clicked. Those clicks can all be tracked, and that tracking can be used to identify failing ads, which very rapidly go poof (and with them the commissions). Even TV and radio have become more or less trackable based on the numbers of consumers who actually do go to (CLIENT NAME).com for more information. 

Accountability. Oh horrible, horrible accountability. It's blown a hole in the ad agency revenue model you can drive a BMW 7-Series through. Which is why we're seeing epic shifts in the traditional agency landscape right now. Among them an historically unprecedented consolidation as mega-firms like Publicis and Omnicom try to buy profits and market share because they can't earn either one the old fashioned way (they even tried to buy each other in 2014). What happens when there's no profit left to buy is anyone's guess.

New-fashioned methods will have to be invented, clearly. As to what some of those might be, we'll talk about them in the next post.

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