Marketing and sales promotion agencies' profit margins reach all-time low

Marketing and sales promotion agencies are suffering as their average operating profit margin falls to a record low, according to Kingston Smith's latest report. Kingston Smith partner Esther Carder explores the category in more depth.

Marketing and sales promotion agencies' profit margins reach all-time low

Marketing and sales promotion agencies suffer, as margins across the top 40 as ranked by fee income fall to a record low of 6%. This was despite a collective increase in fee income of 6.8%.

The ability to convert fees into profit remains challenging for a number of the top 40 marketing and sales promotion agencies. While fee income across the sector increased by 6.8% to almost £460m, profits fell. Individually, half of the top 40 reported a decrease in their fee income; however, it was good to see that growth among the other half outweighed these declines.

However, on a less positive note, once two major group reorganisations are factored out the overall increase in fee income reduces to just over 1%, which is more in line with what perhaps one may expect as this industry continues to struggle.

Despite the increase in income, operating profit fell to £27.5m, which represented an average profit margin of just 6% and, perhaps more significantly, the second consecutive year that a record low has been achieved by the top 40.

Margins were generally suppressed across the board with only nine agencies achieving a margin of 15% or more and only six agencies generating premium margins of 20% or more. A staggering 25% of the sample reported an operating loss.

On a positive note, agencies were able to better use staff and the income generated per head increased to approximately £93,500, an improvement in productivity of roughly 2.5%. Meanwhile, the average employee increased their earnings by 2.1% to approximately £54,800.

As a result of this, employment costs as a proportion of income remained broadly in line with the previous year at 58%. We recommend that agencies maintain their employment costs to within 55% of their income or no more than 60% once freelancer costs are included.

The crippling factor for agencies in the last Kingston Smith annual survey was other overhead costs and, sadly, this year is no different as they increased by more than 10% and consumed more than 35% of income. As the rental of premium property in the capital reaches ever high prices and with the vast majority of the top 40 either being London based or having a London presence, this is perhaps unsurprising.

The key ratio for assessing the financial success of an agency remains the average profit generated by each employee. We believe that an accomplished agency should target a minimum of £15,000 with £20,000 being the target, which six agencies managed to achieve.

There was a noticeable divide between the performance of group and independently-owned agencies. Continuing the trend of recent years, the difference in the productivity of group-owned agencies in comparison to their independent counterparts widened, as gross income per head at group agencies increased to a respectable £106,906.

Independent agencies, on the other hand, have seen little growth in productivity, as gross income per head remained relatively stable at £69,712. This is far too low and no doubt partly responsible for the very low margins at independents, where increases in other costs meant that margins slipped from 3% last year to a very disappointing low of 1%. In comparison, the group-owned agencies generated an average operating profit margin of 7.8%.

Overall then, it was a mixed year for MSP agencies. The continued squeeze on profits is clearly a cause for concern which needs to be addressed. Agencies need to evolve to keep pace with technological changes, which demands investment in people; that combined with escalating property costs means that the pressure on margins may not lift for some time.

The effects of Brexit will no doubt also contribute to their woes with a general dampening of the economy expected, which will no doubt affect marketing spend.

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