Stan Rapp refers to the current upheaval in both the economy and the advertising/marketing world as “The Great Disruption”. In his opinion, what we are experiencing is not just a phase in time that will pass, but rather a permanent shake up that will forever change the world as we know it. I agree with him and believe that it will have a particularly strong impact on the current ad agency new business model.
The agency world in essence created its own monster. For years agencies have freely invested many millions of dollars on speculative pitch work, and the client has benefited from paying for only the work they consider to be the best. Can you imagine any other profession such as architects or engineers accepting the same terms? All based on a subjective decision with no mutually agreed criteria?
This age-old “Pitchworld” chaos is being further exacerbated by:
- The increasing complexity and integration of marketing communications media and channels.
- Ad agencies trying to become more digital and take a greater share of digital opportunities.
- Digital shops trying to be more full-service oriented and look more like agencies, so as to try and win a larger share of the traditional media spend.
- Technology providers going directly to the client and cutting out the agency.
One digital shop has even resorted to acquiring an existing ad agency. To my knowledge this is the first time ever that this has happened!
All this effort for an ever decreasing profit margin? Agency profit margins continue to be subject to serious downward pressure as clients expect increased value for a lower fee. A great example of this was recently reported in the trade press. Interpublic Groups’ CEO Michael Roth announced on July 28, 2009 that he expected IPG’s operating profit margin to around 7-7.5 percent for the current year. A very slim margin when you consider it from a return on risk perspective.
Something has to break. I just don’t see the industry being able to continue as it is. Consider the incredible amounts of money invested by agencies on speculative pitches with extremely low odds of success. In many instances the odds against the agency can start out being as high as 30:1 and, at best, be expected to finish somewhere around 4:1.
Successful agencies can achieve a 70% or higher success rate for a limited period of time. However, I would estimate the industry average as probably being closer to 25-30%. All of these pitches cost time and money. These costs either have to be paid for through reduced agency operating margins or alternatively, the three clients who actually picked the agency have to help fund the cost of the other seven unsuccessful pitches. Somebody has to pick up the tab for it all at the end of the day.
So my question is, how long will both private and public investors continue to put money into a company/industry that continues to experience declining operating margins with increased business risk? When is enough, enough?
I guess that’s the million dollar question we all keep asking ourselves.