A Breakdown of the Ad Agency Business Model
The ad agency business model is fascinating. It walks the line between consulting and production, physical services and strategic ideas. The exciting thing (or not exciting, depending on who you are) is how profitable agencies can be when they’re set up the right way. I’ll break down a step-by-step process for an agency business model, and then you’ll see how the business works, and how profitable it can be.
Step 1 - Clients, Projects, Teams, and Hours
Imagine you own an agency. The first step, after landing a new project with a client, is to map out the team you need, and the hours the project will take. It could be a simple two-day consulting job, or it could be a global campaign that will take three months. Big or small, the success and profitability of the project depends on an accurate estimation of the team and the time.
Let’s say a client approaches your agency for a social media campaign that requires photo, video, and design assets, all united by consistent campaign messaging. (It would be a dream if clients were able to explain what they wanted in such simple terms like I just did, but they usually can’t. Often, you’ll need an accounts or sales person to help draw that out of their heads). Anyway, here’s the team the agency might need for a project like that:
Account manager
Copywriter
Creative Producer
Producer
Director
DP
Photographer
Editor
Designer
Social Media Managers
Once you have your team outlined, you’ll need to know how long something like this will take. If you’re not sure how many hours it will take, you can ask the vendors and team you’re hiring. Let’s say this project will take one week of creative development, one week of pre-production, one week of production, two weeks of post-production, and ten days to rollout on social. So six and a half weeks total. This is a great starting point to develop a billing format for the project. Doing this the first few times might feel daunting and risky, but once you’ve done it a few times, you’ll see the patterns and feel more confident.
Step 2 - Billing and Hiring
The next step is to send a quote or an invoice to the client for their approval. There are a few strategies for this. You can send an all-in project rate, or you can send an itemized breakdown of the budget. You keep your cards close to your chest with the all-in rate, which can help you make more profit without the client realizing the true cost. But it can also lead to a confusing grey area for the client, in which you have to manage the narrative if they ask for more services or add-ons. If you send an itemized invoice, the client gets to see how the pie is made, which might give them information about your process that you don’t want them to have. But the upside is that before they ask for additional services, they’ll have a good idea of what they might cost before they ask, and add-ons become pretty simple. Weigh what you think your client will prefer and go from there.
When you come up with your final number, bill as if you’re outsourcing everything. Even if you have team members who will do things for less than the industry standard, you should still bill at industry standard rates. This will help you have enough budget in the cases when you do need to outsource everything, and it will also help you keep your projects much more profitable when you run multiple at the same time. I’ll explain this more in step three, but the important thing is to bill as if you would be outsourcing everything.
Once the project and budget are locked in, it’s time to assemble your team. If the project is a short, one-off thing, then find freelance vendors who can do the project quickly, on a short-term schedule. If the project is a bit longer, like a month or more, you might want to bring on freelance vendors with a contract. Instead of hiring a copywriter for 30 days at her regular $500 day rate (which would be $12,000 excluding weekends), you could probably get her for a one-month all-in rate at like $7500 or so. And finally, if the project spans six months, or a year, you’re better off bringing on team members full-time. Again, instead of hiring a freelance copywriter for a year at $500 / day (which would be $130k exclusive weekends), you could probably get someone on salary for $60k-$80k.
The process I just explained is what can make the agency business model so profitable. Read on to step 3, and I’ll explain how.
Step 3 - Profit and Client Retention
The key to achieving a high profit on your agency projects is hiring team member full-time to complete your most common services. Agencies are a bit malleable, and will sometimes do creative work outside of their specialty. This is fine. but every agency must have a specialty, communicate it to clients, get consistent projects with it, and have full-time team members on board to complete that work. This is how agencies can be so profitable.
Like I explained with our copywriter friend in step 2, bringing on someone full-time can result in a 50% discount or more for just one client. So when you bill the client for a year of copywriting services, you bill at the going rate, which is $130k. But then you bring on the copywriter full-time at $65k. So you just profited $65k on that role. And since it’s unlikely your client will require a full-time workload through the course of the year, you can land another client at $130k, and have the same copywriter take their work too. Then you’re profiting 100% on that service with the second client. So the copywriting revenue from those two clients is $260k, and you’re paying $65k to your copywriter, which means you profit almost $200k on that one employee. Multiply this out by the other team members you have, and you could be pulling a few million dollars in annual profit with a small team of ten employees. The key is to make a profit on each employee you have, and keep only the most profitable employees on the team. If you sometimes get video work, but not often, it’s not smart to bring someone on full-time for that. In the case the video work dries up, you’ll be on the hook to either pay that employee anyway, or fire them.
Ah, but only if it were this simple. It’s not. Client retention is hard work.
Client retention depends on two things: great work and great treatment. There’s a reason that agencies are notorious for flying clients around the country, taking them to fancy dinners, and watching basketball games court-side. It’s what it takes to keep a client. Marketers at brands are in a powerful position: every agency around the country would kill for their business. And when a dozen top-tier agencies all create great work, the choice comes down to who treats the brand the best.
Finally, let’s talk about great work. Doing great work may only be slightly more important than great treatment, but it is still more important. Great work helps agencies be even more profitable, because it lets them charge for their name instead of just their services. If your ad agency wins an award, or develops a name for itself within an industry, brands will will want to work with you just for your name. They want to be able to tell their boss that they hired your agency. And they want the peace of mind and storyline that comes along with it. Doing great work leads to a great perception. And great perception is priceless for the client, and wildly profitable for you.
Closing
Thanks for reading! I hope this gave you a better understanding of the ad agency business model. There are key partners, hidden expenses, and important practices that go along with this. but as someone who has worked in and around ad agencies for most of my career, I can tell you that it’s one of the most exciting industries to be in.
