Busting Ad Compensation And Liability Myths

It’s hard to identify any area of our business that hasn’t — or shouldn’t – have changed over the past few years. This is particularly true when it comes to the assumptions that guide our policies for extending credit to advertisers and their media buying agencies.

As Robin Szabo, president of Szabo Associates media collection professionals and a past member of MFM’s board of directors recently observed, the economic realities in recent years have compelled advertisers, agencies and media to rethink some of their traditional practices for compensation and payment liability.

One tangential benefit of this reevaluation, according to Szabo, has been to dispel old myths about how agencies operate. Eliminating these misperceptions can help media companies develop better compensation and credit liability practices that protect their own interests while fostering a win-win relationship with these valuable industry players.

Applying his knowledge of the credit and collections marketplace, Szabo identified seven commonly held beliefs about ad agencies that he says fly in the face of reality:

Myth No. 1: All advertising agencies that purchase media have adopted the “Sequential Liability” position.

Szabo reminds us it was in 1991, 20 years ago, that the American Association of Advertising Agencies (4A’s) recommended to its members that they adopt a Sequential Liability position. As defined by the 4A’s, the policy states that the agency shall be solely liable for payment of all media invoices if the agency has been paid for those invoices by the advertiser; prior to payment to the agency, the advertiser shall be solely liable.

While many 4A’s members, particularly larger agencies, have adopted the Sequential Liability position, Szabo reports that there actually are more than 15,000 U.S. advertising agencies routinely purchasing media that have not done so. In many instances, these agencies have accepted the media providers’ terms and conditions. Often these include a Joint and Several Liability position, which holds all parties — the advertiser, agency, and buying service (if applicable) — liable until media receives payment. This is the policy currently endorsed by MFM and its BCCA subsidiary.

Myth No. 2: Advertising agencies need more time than direct accounts to pay for media purchases.

As Szabo points out, agencies typically bill their clients on estimate — either on credit with 30-day terms or cash-in-advance — at the time the media order is placed. Most agency invoices should have been paid by the time the agency receives media invoices.

Myth No. 3: An advertising agency’s sole compensation is the standard 15% agency commission, received when the agency purchases media.

There was a time when media commissions were the predominant method of agency compensation. According to Szabo, this method was based on the idea that the agency, as a result of its efforts on behalf of the advertiser, would profit as the advertiser’s business grew. The reverse would also be true, with agency revenues stagnating or dropping if the advertiser’s business failed to grow and media budgets shrank.

However, as media costs began to soar in the late 1980s, particularly for television, advertisers that were paying huge commissions to their agencies began to revisit their agency compensation arrangements. In addition, many national agencies had become parts of publicly traded holding companies, making it more important to deliver on predictable revenues.

Given this, there has been a shift toward alternative compensation models. Szabo says these include a fee-based model, which takes into consideration such activities as hourly rates, project fees or monthly retainers; “value-based compensation,” which links the agency’s compensation entirely to the value it provides the advertiser; and a “performance incentives” model, which usually adds an incentive bonus to a fee-based or commission-based structure.

A 2010 survey of major marketers by the Association of National Advertisers illustrated how these newer approaches have eroded the agency’s reliance on media commissions. Traditional commissions now account for only 3% of compensation plans.

Myth No. 4: Since the advertising agency checks the creditworthiness of the advertiser, the media provider doesn’t need to.

“Determining the advertiser’s creditworthiness can save you a lot of grief if nonpayment occurs,” Sabo advises. Unlike in the situation of a Joint and Several liability position, where media companies can pursue any and all parties involved until the invoice is paid, the Sequential Liability position means the agency isn’t obligated to pay for the media buy if it hasn’t been paid by the advertiser. In this scenario, Szabo warns, the chances of getting payment directly from the advertiser are severely diminished if the advertiser has gone bankrupt or is facing deep financial distress.

Under a Joint and Several Liability position however, if the agency goes out of business, the station may still be able to seek payment from the advertiser, even when the agency had received payment from the advertiser, since the advertiser received a benefit from the media buy. In any case he recommends (and so do I), the additional protections afforded by evaluating the creditworthiness of both the agency and advertiser are well worth the extra effort.