There is a multitude of ways in which an ad agency can be compensated
For full-service shops, like knoodle, it typically consists of some form of hourly billing, media commission and/or production commission. While there are standard industry norms, it’s common practice for us to engage in negotiations specifically tailored to the unique needs of each client. Finding an agreement that is fair and mutually beneficial is the foundation to building a successful long-term partnership.
So, what are “hours”? We, as an ad agency, sell ideas – along with the expertise and strategy to execute them. The tangible product is a written communications plan, creative concepts, and finally, the advertising assets that go to market. As it’s pretty impossible to stick a SKU number on an idea, it gets translated into the amount of “time” it took to develop it.
It’s often an imprecise concept to dissect, but billable hours are the core of most shops in one facet or another. To be operational in any capacity, the agency has to cover salaries, internal resources and all overhead expenses. Thus, the agency exists by compensation for invested time. However, this “time” should not simply be thought of as the clockwise journey of the minute-hand – as it encompasses the knowledge, experience, education and collective wisdom of specialized “idea makers” and “problem solvers”.
How are hourly rates established? Agencies take into consideration the total cost of running the agency and divide that by the number of billable hours available from all non-administrative employees. Comparable to any other business, revenue, minus cost of goods/service sold (adjusted gross income) must exceed total expenses for the business to be profitable. Overhead / total billable hours = hourly rate.
Typically, hours are compensated in one of two ways: monthly retainers or per-project estimates. There are pros and cons to both structures. Here is an overview to help determine which option is better suited for your needs.
A monthly retainer is an agreement to purchase a preset amount of hours every month. You do not have to determine what the specific details of each project will be in advance, although the initial hours were predicated on a basic assessment of overall needs. In other words, retainers are calculated based on a scope of work coupled with estimates of man-hours and staffing needs for that scope of work (based on past experience). From this, a monthly fee is arrived at and proposed.
Each month you get one (1) invoice for the exact same amount. That invoice covers a specific block of agency hours at a blended rate across all departments (public relations, graphic design, account management, etc.). Under the right conditions, a retainer can be advantageous. For example, a retainer can work well if you require long-term strategic planning and an ongoing partnership that works in a proactive capacity.
Consistent billing for both parties.
Allows for ongoing proactive solutions.
Clients can more accurately forecast an annual marketing budget.
Retainer clients are often the priority in the agency.
The hourly rate for a retainer structure is typically lower than its per-project counterpart.
Projects can start immediately after being requested, there is no additional paperwork required (pending it is within the scope of the retainer).
Retainers can lead to liberally requested assignments that often eat up hours.
Often time, the amount of hours needed to complete the full scope of work in a given month is underestimated. This means that the client must be able to prioritize projects and work within the allotted hours.
Neither party wants to hear “over hours”, but an agency can lose major resources if it consistently gives away hours. Time can’t be resold or recouped. Everyone must agree on the hour allotment and work within that parameter.
With a retainer structure, there is no set amount of changes to any particular project. Unfocused rounds of revisions are often the culprit of hours usage. On estimated projects, a change order estimate is generated after three rounds of revisions. This can lead to a more tightly focused approach.
A per-project estimate is an agreement to a predetermined amount of hours to complete one specific project. This works best when you know exactly what you both need and want. “Need” is relative to your target audience. If you don’t know what you need in order to stimulate action among them, then it is important to take a step back and focus on a strategic plan first. “Want” is relative to knowing what the end product must achieve to gain approval in your organization. If you don’t know, the agency certainly doesn’t know.
Estimates are based on past experience. It’s a culmination of collective wisdom from the agency for the development of a similar type project. Typically, ad agencies will develop two to three design options for client review. One option will be further revised for final execution. The estimate assumes there will be a set number of client revisions to the chosen concept. Additional revisions that cause an overage of quoted hours typically results in a change order estimate prior to the commencement of new work. The client should be notified of approaching hours at 70% completion.
Working on a per-project estimate has a higher perceived workload visibility and transparency.
There is no ongoing payment for the client.
If you need reactionary solutions, this is a better option.
The review process is often more tightly focused, as the estimate allots for a finite number of revisions.
No work can commence until a formal estimate is approved. Estimates generally take 48-72 hours to create. This means projects cannot start immediately upon request.
This structure does not allow for ongoing proactive solutions; it simply covers the exact task requested.
It is hard for an agency to staff based on project work because there is no clear determination when projects will come in or how large they will be.
The hourly rate is often higher than what retainer accounts receive.
The success of a good agency/client financial relationship is based on having a clear understanding of the project up front. Expectations of both parties must be defined prior to the commencement of any work. 99% of billing issues are a result of poor planning or faulty communication.
It is important to truly evaluate both compensation models to best determine what will meet your needs. It’s also important to understand that there is no perfect science to estimating hours. Just ask yourself, how much will a new kitchen cost? Every single project is unique and there is no way to predetermine the exact amount of time needed to create the exact design a client will love. Because design is subjective, the agency could hit a home run with the first concept or it could go to ten rounds of revisions because of a multi-person approval process. It’s truly in the client’s hands.