Whenever I see the success of Vodafone’s Zoozoos being celebrated or the iconic advertising that almost created brands from scratch (like Onida), I am bewildered about the context of the celebration. It’s almost feverishly praising the ‘idea’ and its execution while ignoring the wealth creation in the hands of the owners. It’s shocking how the agency then sells and transfers all this for a mere few lacs to brand owners. It’s an IP slavery model.
Advertising agencies are almost equal partners in some business creations and yet benefit the least. For the older and rock solid brands, they are the true ‘custodians’. I remember meeting an agency head to seek help on some confusing signals about a particular brand of toothpaste from a Unilever brand manager. He chuckled and said ‘These guys are new kids. They will grow and learn. The brand is about………’ and he gave me almost a Wikipedia like 1 hour plus analysis of the brand and what it stood for.
A case:
Imagine that you are the owner of a Rs. 1000 crore industrial air conditioning enterprise. The business is stagnating. Lots of small players are eating into your market share. You have to move from being a service business to becoming a product company that makes air conditioners for consumers – a business that is booming. All the assets to do this are in place. The business cash flow can support this logical expansion. It’s a giant leap but has to be made for you to survive and thrive.
Lots of questions remain unanswered – How will you create a new brand for ACs in the consumer space? What’s the product strategy? What’s your positioning and differentiation?? What is your consumer communication? Which media vehicles work best? You have sold ACs to purchase guys in factories and malls – how will you sell them directly to discerning consumers?
Sure you could hire some professionals from existing consumer AC companies but that’s a path riddled with hits and misses.
Now, imagine that Advertising Agency ‘Olive & Mason’ that has helped sell ACs for 50 years finds out about your plans & approaches you to help. They have worked with over 10 leading AC brands in the past, made them market leaders, they have all the insights, research, market penetration data and the knowledge of what the market wants. Most importantly, they know what the market doesn’t want. Also they are not conflicted to work with you at this stage.
Their proposal is simple – they will charge you only their real costs in terms of research, media and creative costs that they will incur on your behalf.
Their upside is 2 % equity of your company’s extra valuation should this new business of yours succeed. So their entire profit is success based. The nitty-gritty of ‘success’ is of course negotiated hard between you and them and is a sure win-win for you and them.
If I were that owner, I would do that deal.
Your CFO however is much wiser and this is what he does:
Your company casually floats a general inquiry that you will be spending 200 crores in building a consumer AC brand. Of this almost 20 crores (10%) will be spent only in consumer media (TV, Print etc) to launch the brand. In a few hours the 30 best agencies of India clamor to get into your reception door. Over the months, they pitch so sincerely and hard that you feel like hiring all of them. Finally, the best amongst the best is selected. The lucky agency crafts your product, strategy, creative and media plan. They wisely spend your 20 crores.
It was agreed between you and them that they will earn about 1 crores in the bargain (5% margin on the 20 crores as a blended commission on creative and media) but they secretly make 1.5 crores (ouch). A few weeks later a media auditor calls your CFO and whispers about the 50 lacs extra surreptitiously earned and all hell breaks loose. You can now legally and morally strangle the agency anytime you wish.
At your end, the AC business has gotten off to a great start. The 200 crores investment is poised to create a 200-300 crore business in the next 3 years and your stock has risen to reward you with a market cap of an extra 500 crores (1.5x of revenue). Life couldn’t have been better.
The guy who fooled the ad agency is you.
If the agency had taken equity as compensation, their 2% would have been worth 6 crores and appreciating. They would have been your partners in many more milestones to cross. Today, they are a vulnerable vendor that has taught you everything and yet earned a negative reputation for themselves. This is classic win – lose.
The trade-off – fees vs. value creation.
Consider this:
| Revenues of Indian cos that advertise* | Ad spend (3.4% of revenues)** | Gross agencies earnings (assumed at 5% of ad spends) # |
The topline that ad agencies helped improve of their clients @ | The improvement in market cap of these companies (1.5 x revenue) | If ad agencies earned out 2% equity of the upside |
| 3,00,000 cr | 11,000 cr | 550 cr | 30,000 cr | 45,000 cr | 900 cr |
* Zenith Optimedia report
** LiveMint report
# Assumed blend between creative and 1-3% media commissions
@ Assumed that 10% of the topline increase was thanks to improved marketing and communication of ads.
The new business model – Ad agencies becomes the Brand VC
The new business model would mean that Ad agencies get capitalized to run operations at their own costs (salaries and overhead expenses) and use the teams to then create and manage brands in exchange for equity. Its equity for knowledge just like VC operate using the equity for cash model. This creates a deeply valuable business model that not only can be externally funded but also create a deep synergy across the value chain – rather than being at conflict today (it’s well known that ad agencies need their clients to spend to survive – sometimes it’s not in the best interest of their clients to spend but that gets compromised). In a world that’s contracting spends and improving returns, we need partners in arms – not enemies in bed.
The risks in this model as Punitha Arumugam – CEO of Madison Media explained to me are manifold: The business of clients (and hence their stock) declining due to reasons other than good marketing; the inability of the agency to really control or influence a client like a financial VC; having the deep cash pockets required to sustain long term cash burns in the hope of accumulating equity etc.
Well, this is the brave new digital world and that calls for brave hearts. If google, twitter and facebook are the new media powers, it’s knowledge over brute media power that will win. More the reason to trade IP – not sell it to the highest bidder. As a starter, the big 5 agencies could incubate a VC agency model to service new start-ups and less risky business models as an experiment.
Mr. Martin Sorrell – are you game to become VC yet?
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