The Campaign Essay: Proving the value of advertising

Remuneration has never been higher on the agenda, but ad agencies will have to convince clients of their worth if they want to demand a fair price for their work, Tim Broadbent writes. King James I founded the first advertising agency on 5 March 1610.

His Letters Patent made Sir Arthur Gorges and Sir Walter Cope, two gentlemen of his privy chambers, advertising agents for the kingdom. But they had a problem: how much should they be paid? A condition of their grant was that clients would not be charged more than pleased them. Gorges & Cope went out of business within a year.

The same question is being asked again today: how much, and how, should agencies be paid? The recent Seifert and Early case in the US came about because Ogilvy stood to lose $3 million servicing the Office of National Drug Control Policy account. ISBA is due to publish its updated remuneration guide soon, which amounts to clients saying what agency charges would please them. The precedent is not encouraging.

A study by David Haigh for the IPA in 2004 showed that agencies' profit margins have become wafer thin. Haigh found agencies only make any profit at all by drastic cost-cutting. As agencies' biggest cost is their payroll, they are tempted to pay their staff less. Most alarmingly for the future of the industry, new recruits in particular are paid much less than they would get in other jobs - not just compared with the law and accountancy, but less even than they would get in client marketing departments.

Advertising has always been a high-risk business. As Nigel Bogle once said, all agencies are three phone calls away from disaster. But it used to be a high-risk/high-reward business. Now it seems to be a high-risk/low-reward business - not a great combination.

It raises the question, why would the great strategists of the next generation want to work in ad agencies any more? Agencies don't just pay less, they have less influence on marketing and communication decisions. If agencies no longer attract the best strategic brains, if they merely execute marketing plans developed by clients, they may become vendors of technical services and nothing more.

It could get even worse. Clients have more to worry about than the relationship between their brands and their customers. Brands themselves may weaken if ad agencies decline.

How did we get into this predicament? In the past, clients didn't pay agencies at all. Agencies made a living on the difference between the retail and wholesale price of media space. George Rowell, who did as much as anyone to establish the media commission system, described his first deal in his book Forty Years An Advertising Agent, 1865 - 1905. His idea was to buy columns of space in New England country papers at the wholesale price. If he charged clients half the retail price per line, and sold half the lines, he would get $13,000 for space that cost him $7,500. To a young newspaperman earning $18 a week, this was real money.

The sheer volume of advertising in the Victorian era would amaze us.

The conventional media were full to bursting - The Times of 12 May 1855 contained 2,575 ads in its 16 pages.

Advertisers turned to new, ambient channels as well, just as we have.

Ads were placed on the tops of mountains, on risers of steps at railway stations, in public houses and dining rooms. Ads were placed on matchboxes, horses and airships. Ads were carried in the streets by sandwich-men, sandwich-children, sandwich-dogs, and, something I'd pay to see, sandwich-elephants. One advertiser hired men in stencilled boots, with ink running down tubes in their trousers.

Some Victorian media channels seem remarkably modern. We may think mobile phone SMS advertising is a new medium. But in 1875, 5,000 homes received telegrams at the same time - at "the fashionable dinner hour, when families would be assembled" - telling them of a load of bedsteads ready at the advertiser's store. Even text ads are nothing new.

You may remember the fuss made a few years ago when an advertiser projected the image of a young woman's bottom on to the Houses of Parliament. But there's nothing new in projected ads either. In 1876, traffic on The Strand was brought to a standstill by dissolving views of "the best sewing machine, the cheapest butter, where to dine, etc". Victorian agencies used to project ads on to Nelson's Column in Trafalgar Square.

Rowell's idea made him and his agency so rich he took four months holiday a year for the rest of his working life. Once, the splendid man took seven years off.

Agencies competed for media commissions on price. But they also started competing by offering added-value services. Strategy came first. The first known research survey was carried out by the N W Ayer agency for a pitch in 1879 - against Rowell's agency, as it happened. The client was impressed and tried to buy the findings. The agency said they were not for sale, but were free if they got the account. Ayer won the pitch, and the practice of giving away strategic advice to win business had begun.

Next came creative services. The first agency copywriter was hired in 1892. Before then, copywriting was anyone's business - sometimes clients wrote the ads, sometimes they hired freelancers, and there were even handbooks containing slogans for all occasions. Actually producing the ads was another loss leader for agencies.

The point is that clients started using agencies because they made marketing cheaper. They offered media space at a lower price than clients could buy it themselves, and they said: "Great news! You can downsize your creative and strategy departments, and you don't have to pay those expensive freelancers either. We'll do all that for you - at no extra cost!" But now signing cheques to agencies seems to add to a client's marketing bill. Agencies seem to have moved to the dark side of the balance sheet - from being a saving to being an expense.

Agencies' focus swung away from media broking. The new agency copywriters saw the results of their work every day. Many ads then were direct response, what was called mail order - the Victorian equivalent of Amazon, though much bigger than e-commerce is today. It was easy to measure the effectiveness of mail-order ads: one simply counted how many boxes were sold per ad. Creatives became the aristocracy of the advertising industry because they extracted more sales from a given media space.

John Caples put the copywriter's case in his Tested Advertising Methods.

He wrote: "I have seen one mail-order advertisement actually sell, not twice as much, not three times as much, but 19 times as much merchandise as another ad for the same product. Both advertisements occupied the same space. Both had photographic illustrations. Both had carefully written copy. The difference was that one used the right appeal and the other used the wrong appeal."

No wonder agencies came to believe their real value to clients was devising "the right appeal". But they were still paid by how much space they bought until 1988, when Saatchi & Saatchi, then the biggest agency group in the world, ended full service by separating Zenith as a media-only agency.

It is hardly surprising client procurement departments are now asking awkward question about agency fees. When you get down to it, they have a point: how should agencies' strategic and creative services be valued?

For 100 years, agencies themselves said they should cost nothing at all.

I'm not sure the industry has good answers yet. In fact, I suspect we don't - Jeremy Bullmore wrote chillingly in his book More Bullmore that, with the decoupling of media, among other factors, "advertising agencies have no self-evident future function".

However, the IPA Effectiveness Awards has re-established the link between getting "the right appeal" and sales. This link, originally established by mail-order advertising, lasted until the 60s. In those days, people who applied to work as copywriters at Masius, for instance, were told to spend six months behind a counter at Selfridges first, "to learn selling".

But it was broken by the 70s, when many came to believe advertising's effects on sales were unknowable and immeasurable.

This foolish idea has been largely discredited. As Simon Broadbent wrote in the first volume of Advertising Works in 1980, the cases show that: "It (advertising) is a serious commercial tool. It can be a contributor to profit, handsomely repaying investment in it. It is not a cost, irrelevant to sales volume and drawing directly on the profit at the bottom of the balance sheet, as accountants (and, we would add today, procurement departments) sometimes treat it."

After 25 years of the Effectiveness Awards, it seems clear adspend can be accountable. It is possible to find out what advertising contributed to a client's business, if the will to do an evaluation exists. The cases in the IPA Databank - about 1,000 examples ranging from cars to public health campaigns - show advertising's commercial value can be isolated and quantified in most product categories.

It was competition for media commissions that got ad agencies into the strategic and creative markets in the first place. Competition in evaluation will help establish their future profitability, and perhaps even survival.

It's a Darwinian struggle; analysts are the longer teeth and sharper claws that will give some agencies an edge.

Ad agencies are different from other consultants because they execute the strategy too. Other consultants may know the way but can't drive the car. Only agencies translate an understanding of the brand and market into executions. It is precisely because what agencies do is unique that pricing is such a problem. The current timesheet-based arrangement borrowed from consultants and lawyers does not capture what ad agencies do; nor does it reward successful campaigns or punish unsuccessful ones.

In future, perhaps every campaign will be evaluated for its sales effectiveness, and that will largely determine how much the agency earns. The current system of payment by results (PBR) is a misnomer. PBR is actually a small bonus (say 15 per cent) on top of a base fee. It might make more sense if the proportions were reversed, so that agencies received a small base fee to cover costs, and made really huge sums if the advertising produced huge gains in sales, share, profit or brand equity. That would be a true partnership.

Agencies would also be demonstrating marketing's value. The Marketing Society carried out a survey of client chief executives last year. "Accountability" is top of the list of qualities required in the "new style of marketer", because many chief executives see marketing people as "lacking the discipline and capabilities to drive profitable growth". Measuring marketing's contribution to growth is the first step in reversing that perception.

In The Essential Drucker, Peter Drucker argued companies have only one sensible business purpose - to create customers. It follows from this they have two, and only two, basic functions: marketing and innovation.

By proving the value of marketing to the chief executives that pay for it, consistent, automatic evaluation of all activity would show marketing is "a serious commercial tool" too.

For more than 100 years, ad agencies grew as the media grew. But now they need to develop new payment systems. Suppose an agency said: "Enough is enough. This is the death of a thousand cuts and we don't like it.

We're going to find out what our advertising contributes to all our clients.

When we get that figure, we can work out whether we would make more money by asking for, say, 5 per cent of the increase we created, or 10 per cent, or whatever. If the numbers work out, we'll reduce our fixed charges and make our profit on our success." Otherwise, as poor old Gorges & Cope found all those years ago, if clients pay what it pleases them to pay, agencies may start going out of business.

- Tim Broadbent is the director of BrandCon and a former chief strategy officer at Bates.

- This article is based on a chapter in Advertising Works, And How, edited by Laurence Green, to be published by WARC/IPA in May 2005.