THE ADVERTISING BUDGET : INVESTMENT OR EXPENSE

• Percentage of sales approach leads to a peculiar selection.

•It increases advertising expenditures when business is good, and reduces them when sales are poor.

• In most cases, it would be reasonable to expect that the reverse should be true if we are to accept the basic definitions of advertising and its sales values

WHAT IS HAPPENING ?

1. Some companies are moving to more advertising self-sufficiency

2. Some companies specializing in functions such as media planning, media buying or creative.

3. Some full-service advertising agencies to offer partial services while, at the same time, continuing to offer a full range of client service.

4. An increase in client-controlled agency operations

WHY IS IT HAPPENING ?

Dissatisfaction with advertising agencies

• The 15 percent commission

• Performance

• Too many levels

• Difficulty under formalized agency structure to act fast in fast- changing business

• Inadequate knowledge of products and marketing

problem

• Lack of responsiveness

HOW IS IT HAPPENING ?

1. Use of house agencies

2. Expanded In-house capabilities

3. Use of independent services agencies

4. Contracting for partial service

5. Assignment of total job to full service advertising agencies

6. A combination of some or all of the above

How agencies remunerated?

A. The Commission System B. The Cost-Based SystemC. Performance Based

Compensation

A. The Commission System

The Commission System (We Are So Familiar With)

A Billing-based compensation whereby the agency’s compensation is an agreed upon percentage mark-up added to the agency’s purchases on behalf of the client.

The Commission System Work Well When ......

• The relationship is intended to be long term - at least three years.

• Billings are stable and predictable.• Billings keep pace with annual sales growth

and inflation.• A full complement of advertising skills and

resources is desirable.

• Service expectations are well defined and understood.

The Commission System- Prevailing To The Client Because ...

• It allows for full utilization of agency’s resources without regard to cost.

• It inspires agency to experiment.• Yet it does not involve time

consuming administration and auditing.

• It stimulates involvement and contribution to all facets of the client’s business.

• It provides an incentive to help build the client’s business.

• Leading to expanded billings and more commission.

The Commission System- Prevailing To The Agency Because ...

Reasons To Deviate From The 15% Commission System

• Where the advertising budget is BIG and is clearly disproportionate to the agency’s task.– May settle for lower commission– Or develop a sliding scale commission

• Client requiring less than full service.– Reduced commission to cover specific services.

• Where billings are unpredictable or subject to sudden change– May establish floor income guarantee or minimum

billing.• Were service expectations are unclear and adhoc.

– May establish cost-based fee or project fee.

Changing

Work Environment

Changing Work Environment

• Increasing creative boutiques.

• Specialist companies in design, media buying, consumer research, sales promotion, direct response, packaging, broadcast production.

• Sophisticated agency cost accounting system – Time reporting tracking– Accurate cost reports by client, product or

job

B. The Cost-Based

System

The Evolution Of Cost-Based System

Usually done when ....• Media billings is inadequate to generate

enough commission to cover agency cost

• The job scope entails considerable amount of collateral services e.g. sales promotion, direct response, packaging.

• Client simply do not require full service.

The Cost-Based System – Prevailing To The Client Because

• It matches agency’s resources to exact requirements.

• It inspires agency to explore beyond commission paying media.

• Forward planning becomes mandatory and a discipline.

• Agency income is more predictable

• Allows for better allocation of resources to achieve effective returns.

• It allows agency to be compensated for ideas that involves non-traditional commission compensation.

• It allows agency to be compensated for short-term or adhoc projects.

The Cost-Based System – Prevailing To The Agency Because

Cost-Based System - Best Practice

• You need to understand the:– company’s corporate culture

– operating philosophy

– and marketing objectives

to match agency resources to meet expectations.

• You need to discuss proposed staffing– the levels and seniority of key positions

– by functions or department

– use of in-house production facilities

– or outside contractor services

To Derive At:

• How to manage the business.

• What services agency will provide

• Who will be doing the work.

Cost-Based Plan – The First Step

• Assess the client’s marketing objectives to determine:– what programs and resources it will

use– which agency functions or

departments will be involved– who will be working on the account,

for how long

The Second-Step

Understand Cost Accounting

Cost Accounting

There are 3 parts to the P&L– Staff Cost

– Overhead Cost

– Operating Profit

And they are all quantifiable in Rp

Staff Cost And People Parts

Staff cost include:– Salary– Insurance– Benefits

The advertising team is made up of people parts. These parts can be converted to hours as follows:

52 weeks x 5 days x 8 hours = 2080hrs / annum

Office Rent Stationary

Utilities Membership

Repairs & Maintenance Professional Fees

Office Cost Telephone Mail Bank/Finance charges

Award Submission

Charity / Pro-Bono Business Development

Research

Overhead Cost

Indirect Staff Cost is also part of

Overhead Cost.• Accounting

• Secretarial

• Clerical support

• Administrative time of senior management

Overhead Cost - Con’td

Operating Profit

This is the juicy part of the equation.

It’s not a cost component but it is

necessary to keep the agency afloat.

Don’t Forget ... Past-Through Expenses

• There are normally authorized out-of-pocket expenses incurred by the agency, on the client’s behalf.

• These are billed or charged back to client at cost.

• They include items like: – travel– research– legal services– presentation materials

The Third Step - How To Fee?

There are broadly 3 cost-based compensation plan.

1. Fixed-Fee Retainer

2. Cost Plus Fixed Fee

3. Hourly Charge Plan

1.Fixed-Fee Retainer

1. Fixed Fee Retainer

A flat-fee arrangement whereby both client and agency have agreed upon and exact amount of money to cover a specific project or period of service.

• Step 1: Establish the Scope-Of-Work (SOW).• Step 2: Work out the parts (in hours) and percentage

of staff required to cover SOW.• Step 3: Establish the staff cost.• Step 4: Incorporate overhead cost (normally equal to

staff cost)• Step 5: Add profit component (normally 33% of staff

cost)

Fixed Fee Retainer

• Generally not renegotiable during its initial term (except for changes in the agreed-upon SOW)

• You must administer accurate and timely cost accounting and time reporting.

• Review with client at least every six months.

2.Cost Plus

Fixed Fee

2. Cost Plus Fixed Fee• An alternative to Fixed-fee.

• Could be a cost plus-fixed-fee arrangement– reimburse agency for actual service cost– but would not pay any more or less profit to agency

• It assures agency on full cost recovery and secures its projected dollar profit.

• For the client, it will not automatically increase its profit should it cost more to service the account than the original SOW defined.

3.Hourly

Charge Fee

C. Hourly Charge Fee

• Where client agrees to pay for agency services at an agreed-upon schedule of hourly rates for specific agency functions and staffing levels.

• Normally a pay-as-you-go plan– Client would be charged each month or

project for actual time spent

Downside On Fee Plan

Downside On Fee Plan

• Lack of a compelling agency incentive to go that extra mile.

• May limit that flash of inspiration beyond the identified Scope Of Work.

• In reviewing and monitoring the time charges, disputes may happen – what went wrong and who and why?

C. Performance

Based Compensation

Performance Based Compensation

• Performance -based compensation is an add-on to either a billing-based or cost-based plan.

• Incremental profit or full profit becomes a function of an agreed-upon agency Key Performance Indicators (KPI’s).

• How much should the incentive bonus be?– Must take into consideration of agency’s

base level of income.

Key Performance Indicators’ Measures

• The targets may include qualitative and quantitative measures.

• Since all measurements are speculative somewhat, it is encouraged to have a mix of both qualitative and quantitative.

Qualitative• Creativity &

Resourcefulness• Responsiveness• People Management• Budget and Cost

Control

Quantitative• Sales Volume & Revenue

Increases• Market Share

Improvements• Research Test Scores• Product Trial and

Repurchase

Payment

AGENCIES HAVE A SLOW-PAY PROBLEM

• If clients do not pay their bills on time, some agencies cannot pay the media on schedule

• Agencies are confronted by serious situation. In the balance are better client service on one side and higher cost with lower profits on the other.

Discounted Commission

Commission Interest Discounted Diluted

On time 15% 0% 15% 0%

1 month late payment 15% 2% 13% 13%

2 months late payment 15% 4% 11% 27%

3 months late payment 15% 6% 9% 40%

How can Agency make money then? Appropriate remuneration strategy

Understand Agency Agreement

Ensure appropriate agency remuneration implemented

Ensure prompt invoicing

Get paid in timely basis

Avoid mistakes

Excellent cost management/ efficiency people

Other factors (ceteris paribus):

Great creative

Excellent client servicing

Excellent brand knowledge

Depth in consumer needs

1. Top-Down Approach

- The affordable method

- Percentage of sales

- Return on investment method

2. Bottom-Up Approach- Objective & task method- Pay out planning- Quantitative method

Budgeting Approach

Thank you