Is Pay-For-Performance Really Good or Bad? -- Mike Drexler

At a recent conference about whether agencies should avoid pay-for-performance compensation some consultants were telling agencies they should stay away from the concept. That pay-for-performance is a bad idea because it is hard to find the proper metrics. Another reason given was that scope of work changes over time. Both of these statements are valid, but they are not good enough reasons to avoid pay for performance incentives. Not every client/agency relationship can benefit from incentives but it is worth considering in many cases.

No agency should work for free. That’s obvious. And every agency should make a full commitment to their clients. But when everyone talks about an honest partnership between clients and agencies, it also means sharing the responsibility for success or failure -- getting a bigger reward for exceeding goals and accepting less if goals are not met. The fact is, clients want more from their agencies and want to be sure they’re getting the right price for the services delivered. Are they charging fairly based on actual costs and profit margins? Is the revenue going to the right places and the right people? Are the methods being used for accountability accurate? But, for the most part, pay-for-performance incentives have to do with incremental profit for better results and reduction thereof if performance is deficient. Even more important, however, is whether the bonus incentive for pay-for-performance is distributed to the right people who actually did the work. Here’s where there could be some problems.

Not every client/agency relationship should include incentives because both parties have to agree and establish benchmarks. This is not easy. But incentives should not be dismissed out of hand either. Furthermore, incentives should not be the total compensation agencies receive for their services. Agencies have to cover their basic costs at minimum. How much profit they should make is another story. And this is a negotiation between the agency and the client. But if there is to be a real partnership then the agency should be willing to take less profit if performance results are less than agreed to -- and make more profit if they do a better job than expected.

There are two primary problems in executing the right deal. First, what are the criteria and can they be directly achievable, accountable and measured? Second, is the added incentive going to the right people?

On the first count, criteria for direct results are difficult but not impossible. Sales results are only a part of the outcome. There are hard measures and soft measures (i.e. changes in brand awareness, perception, attitudes, etc.) and both should be considered. There are also measures based on the level of satisfaction agency services are being performed for specific clients. Agency performance criteria can be established up front in any contractual agreement and periodically reviewed.

The second and most important point is that many holding companies do allocate a certain percentage of their agency units revenue back to corporate overhead (presumably because the corporate guys add something to the operation but this is not an actual measure of their contribution to a client’s ROI). This is where an argument can be made against pay-for-performance because if the incentive does not go back to the people who directly made it happen then the incentive is not totally justifiable and may not produce a desired result. Clients are generally fair and they want true partnerships. Risking a limited portion of profits as an incentive can be a reasonable way to make the relationship more equitable.

Mike Drexler is co-founder and Managing Partner of Drexler/Fajen & Partners, a media consulting and agency review firm that works with advertisers to evaluate their agencies’ performance. He can be reached at mike@drexlerfajen.com

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