The Hidden 10%

Published 15.11.2016

Like all businesses, agencies waste money. Perhaps more importantly, they waste profit. And frankly, agencies work way too hard for that to be okay.

I’ve seen it in agencies that I have worked for, agencies that I founded, owned and managed, and now agencies I consult and non-exec for. They all pretty much waste profit in the same ways.

Profit is not a dirty word. It’s often an indicator of quality management and underlying operational performance. And how good the agency is in general. So, I say let’s celebrate the fact agencies are businesses and profit is ok. More so, profit is good. Good for all stakeholders in fact – internal and external.

Now, before I continue – to ensure this is relevant to you – everything I write about is only ever aimed at agencies that have ‘purpose above profit’ – i.e. those who truly exist to profit from doing great work, that delivers great results while building great brands. To those that care about profit alone, this article, and probably my entire approach, is not for you.

Some numbers.

Most agencies (integrated, creative and digital) aim to deliver and maintain a 15-20% EBITDA performance, as a good to great. Actual industry performance vary wildly between 8% and 23% – with a concentration at the lower end.

Most independents struggle to get anywhere near the upper end. Or they swing between lean years and good years. The lean years are seen as setting up the good years. It’s pretty normal – though anything but ideal.

Last year the Top 50 agencies put in their lowest average performance in 7 years. It’s tough out there – so maximising your profit opportunity without any impact on the agencies performance is absolutely critical. Particularly when planning an exit or acquisition.

I’ve reflected many times on the best place to look for increased profitability. Growth and client wins don’t always guarantee additional profit. Often it has the opposite effect if growth is poorly managed.

The answer to where additional profit can come from is usually a lot closer to home.

It’s my belief that there’s probably something like 10% of hidden profit in every agency that isn’t delivering near 15%+ EBITDA consistently, which should be the minimum target for any agency.

So, to the important bit… where the hell is it?

Profit is increased in agencies that are not only doing good work but also those that have good habits. More profit is lost in poor process and practice than anywhere else. It’s safe to say that profit is realised through; a) organisational behaviour and processes; b) monitoring your own financial performance and metrics closely; and c) the one that all agencies seem to wrestle with… charging properly.

Another variable to consider here is that most agencies are ‘hooked on’ one core agenda or another. Their board often believe the secret to delivering their optimum financial performance is dependent upon their agenda being delivered – typically it’s either new business, disruption, relationships, the big idea, awards or cost control.

I was once hooked on new business and the big idea, over everything. I had a phenomenal new business win ratio (80%+) and I would relentlessly craft our work within an inch of perfection… but it didn’t always NET down to an increased EBIT. So I began to reflect deeply and hunt for other areas to drive our margins.

The truth is ‘The Hidden 10%’ can be found pretty fast as long as everybody is on board with a little optimising, self reflection, good practice, time investment and the odd change of attitude/ behaviour.

Which makes the challenge sound all very simple. But it isn’t. Because people resist most forms of change.

Sometimes though it’s good to press for change. It finds people – often highlighting your real stars and the influencers within your own business. And they may not be who you think they are.

Here’s some of the areas that I concentrate on. These are things I am unswerving about – with best practice in each of these areas, up to 10% NET is waiting for your agency if you’re not hitting a comfortable 15% EBITDA each year.

The following list is not exhaustive. It’s just the stones that need to be turned over for quick wins. None of this is critical thinking. But it is critical for delivering your maximum margins.

Organisational Behaviour and Processes

First time fix – This term is borrowed from the automotive industry. Nothing drives me more crazy than poor work being sent to a client without senior team input or sign-off, missed amends or rushed work, it’s utterly counter-productive and unacceptable – and a huge source of waste. If you’re doing it, do it right first time. Imagine driving your car out of a main service and your brakes failing – it wouldn’t happen, but agencies miss things all the time. It’s unacceptable. Worse still, it takes far longer and involves more people when you try to fix something, rather than getting it right first time.
Poor testing – a huge problem in the digital world, and linked with the above. It needs no explanation, but always leads to massive waste.
Poor briefing – Heard this one: ‘garbage in, garbage out’? It terrifies me how little investment is given in teaching account people how to write a brilliant brief, and perhaps worse how rarely briefs are approved before they go into production teams – both behaviours create backlogs, disappointment and massive time wastage.
Poor culture and internal politics – no department or team in an agency can perform at its optimum without support (at best) or cooperation (at worst) from their colleagues. Do not underestimate this one – if you don’t have people batting for each other, it almost always results in projects running over allocated time and deadlines.
Over-servicing – It’s not good to over-service clients, and it isn’t required to deliver an excellent customer experience. Over-servicing eats profit, it gets clients expectations skewed and it’s not sustainable.
Under-servicing – The ugly sister of the afore-mentioned, under-servicing is equally negative. Under service any client and you begin to miss key selling opportunities (the bits that make the difference) and you’re always on the back foot.
Poor visibility of project costs – Whether it’s hours or third party costs, if you don’t have the systems, tools or habits in the agency to use this information at the right time it leads to massive waste.
Poor up-front negotiations – again it needs no explanation, but before you start working take the time to agree terms. What’s chargeable and what’s not, at what rate etc. It gets forgotten or ignored – and it’s insanity.
Not being direct with your clients – if you’re not making money on account, tell your client. Find a way through it together. You may be surprised at their response.

Monitoring your own Financial and Business Performance

KPIs – are you using them? How do you set them? Are they useful? Do you know what they’re telling you? Does your team know what to do with the information? Are you using real KPIs or simply metrics? In many agencies KPIs aren’t being used well, if at all. The number of KPIs that each manager uses should be minimised to drive efficiency – and training should be given around what they really mean. Take time to build a powerful set of KPIs and measurement tools that drive action. Not nodding dogs.
Invaluable industry standards – like staff cost:gross profit which healthy agencies should report between 40-50% (USA) – without training, bonuses and retirement costs, and 52-58% – all-in (UK AND EUROPE). Any lower and you’re under staffed and over-stretched (under-servicing). Higher and you’re over-staffed, inefficient or over-servicing. Neither scenario is sustainable.
Utilisation rates – agencies should be hitting 85-90% sold for creative staff and 80-85% sold for account staff.
Real cost per hour:Hourly rates – as your people get paid more and the cost to run the business increases is this reflected in your hourly rates? If it isn’t your strangling your profit from within. A 3% annual / inflationary salary increase across the board must be met with equal lifts in revenue to simply stand still.
Holding when times are tough – there are many compelling reasons why you shouldn’t cut costs in the lean times. I’ve toughed it out through a few. But it hits you were it hurts, and sometimes it’s best to act quick to protect the business.

Charging Properly

Charging based on hourly rates only – there are things every agency does that they can charge on a value basis. And if you don’t have any, you’re in big trouble. Find some. Create some. If you’re creating real value for your client, you should be charging in value terms.
Scope Creep – when the scope changes, so should the cost. This is an epidemic in digital agencies particularly. The mistake most agencies make is they don’t talk to the client along the way even if they do intend to charge more. Speak to your client – they’re reasonable. But do it at the right time.
Time and Purchases not making it on to job bags and projects – either before they’re closed and billed or sometimes not at all. Insane.
Estimating poorly – either by not sharing the scope of work properly, making assumptions, letting the wrong people estimate a job, waiting too long to create an estimate after briefing or rushing it through without enough detailed thought. Estimating is an art.
Profiteering – yes, profiteering. Basically, over-charging. One of the most counterproductive habits of the over-zealous and the idiotic. They look like agency stars, but they are more like client shrinkers. You can only get away with it so long. In the end when the client eventually walks away from you (and they will) you’re left with nothing but a red face, excuses and a lot of cost to dispose of. Fairness is part of partnership. And partnership (in one way or another) is the secret to long-term success.
Amends vs. Change of Brief – Like scope creep, changes to a brief are chargeable. If what you’re being asked to do is not an amend and it’s outside of the original estimate, it’s chargeable… as long as you talk to the client about it. Again, at the right time – i.e. early in the process. Never the end.
Poor retainer scoping – large clients are good at scoping retainers with their agencies. Mid and small sized clients are not – because often they don’t know what services they will need from their agency over the period of their contract. That said, if all else fails, offer a mix of retained fees for those elements that are predictable and project-by-project costing for those that aren’t. Otherwise, the agency will waste a huge amount of time on budget approvals, they’ll never recover account services to the appropriate level and you end up spending more time negotiating costs (at no charge) than doing any work – and that makes sense for no one.
Agreeing to fixed costs if you don’t have a fixed brief – this one is simple, if you’re not working to a rock solid brief you’d be crazy to work against a rock solid quote.
Making it up as you go – Don’t. Please, just don’t. Carefully prepare budgets, quotes, estimates, create standard job templates – to drive consistency in billing and time plans once you have consulted everyone that is impacted by your work.

There’s a lot there, but it’s really just ‘The Basics’ – and it’s really important to charge your senior and line management teams with the responsibility of delivering and measuring the elements relevant to each of them.

Get the basics right – every day, and ‘The Hidden 10%’ will reveal itself.

As a quick aside – one question I am asked often is ‘how do I communicate the importance of working within budgeted hours to our team’?

Working on the basis that I believe you should be relatively open with your team about the business’ financial objectives here’s something that has worked for me. The 9 Minute Rule. It’s rudimentary – but powerful.

Explain to your team that for every hour billed if they over-run by 9 minutes (15% of an hour), we just lost money. That’s how sensitive an agencies profitability can be. It makes it real – and it shows how shockingly slim an agencies profit opportunity is to your teams.