For the Agency Business to Live, the Billable Hour Must Die

By Tim Williams

Persistent predictions of the imminent death of the advertising agency business have caused many industry executives to stop taking these prophecies seriously. We attend conferences devoted to “reinventing the agency business” which highlight the need for faster adoption of new digital technologies. We’re told that unless we can help our clients effectively navigate through the complexities of the metaverse and Web3, we will be eclipsed by a different breed of agency. 

Even if that’s true, it bypasses the real issue underlying agency transformation. Regardless of the type of output offered to clients, agency professionals are delivering four times more of it than just 10 years ago — for the same or less money. A decades-long trend of more and more work for less and less money can confidently be considered an unsustainable business model. To say that the current iteration of advertising agency business is on its deathbed is no exaggeration. 

Running a race in the wrong direction

The main villain in this drama is not old-school agency executives who are unwilling or unable to reinvent their skill sets to meet the demands of a digitally transformed marketplace. No doubt keeping up with the times is a requirement for remaining a relevant business, but the real culprit — the underlying cause of our eventual destruction — is the hourly rate. 

Selling a limited supply of hours (instead of monetizing an unlimited inventory of intellectual capital) makes the agency business impossible to scale, which then makes it impossible for agencies to compete head-to-head with other scalable business who poach their talent at twice the salary. 

Unless it finds a way to scale, the agency business will increasingly employ what marketing professor Scott Galloway calls “the leftovers.” Says Galloway, “Some 2,000 of WPP’s former employees have migrated to Facebook or Google. By comparison, only 124 former Facebook or Google people left to go work at WPP. The ad world today is increasingly run by the leftovers.”

In the world of knowledge work, a labor-based revenue model is a dead end on a one-way street. As long as revenues are directly tied to the costs of inputs instead of the value of outputs, professional firms are unable to add more income without also adding more staff — the very definition of an unscalable business. 

Breaking the barriers of linear growth

The hourly rate is anti-capitalist. It creates a self-imposed ceiling on your revenues and your profits, as though you’re running a regulated utility company instead of free-spirited entrepreneurial enterprise. Take a moment now and calculate your maximum revenue for the year by multiplying the number of billable people by the number of billable hours (usually around 1,600 per person) times your average hourly rate. Unless you unhook your revenues from your efforts, we will never be able to break that barrier. 

No amount of timesheet tracking and analysis will improve your year-end margins. No matter how much you improve timesheet collection (by shaming the offenders) you will not meaningfully improve your ability to pay better salaries. No matter how much creative analysis you apply to “billability” or utilization rates, you won’t appreciably enhance the amounts you can pay in bonuses. Even reducing the amount of written-off time (which can be significant in some firms) will not be enough to rescue the company from the institutionalized profit ceiling created by the hourly rate. As the old Scottish proverb goes, “You can’t make a sheep fatter by weighting it more often.”

Similarly, you don’t need a better time tracking system. You don’t need to enforce more timely submission of timesheets. You don’t need more meetings with your finance and client service directors to improve the “accuracy” of time tracking. None of these things will make a material difference in your margins. It’s just a futile effort to get better and better at doing the wrong things. 

Instead, we must invest our brainpower in developing ways to earn higher revenues without having higher labor costs. To escape the race to the bottom, we must produce exponential growth in place of linear growth. We must decouple revenue growth from staff growth. The classified advertising platform Craigslist earns more than $1 billion in revenues with only 50 employees. This equates to $20 million per employee, compared to about $150,000 for most advertising agencies.

The beginning of the end

Building a scalable business model is not a pipe dream. Advertising, law, and accounting firms are completely capable of reframing their labor-based services as products and programs, just like the rest of the business world. 

When your firm engages with Verizon as its mobile communications provider, you subscribe to a program that is supported by a suite of products ranging from international calling to data security. As Verizon finds ways to leverage new technologies to deliver the same services at even lower internal costs, they reap the financial benefits. But in professional firms, the faster we can solve a problem, the less we earn. The more productive we become through investments in technology and training, the less we can charge. The expertise, intellectual capital, and intellectual property we accumulate cannot be directly monetized. 

This could be considered “anti-scaling.” With these dynamics in play, even the most skeptical among us would have to concede that hourly billing in knowledge work is an unsustainable business model. So the question for the leaders of professional service firms is not “if” but rather “when.” Whether it’s because you’re tired of competing with higher margin businesses for the best talent or because artificial intelligence is suddenly enabling more do-it-yourself solutions in client organizations, you will, sooner or later, abandon hourly billing. Better to be in the vanguard of agencies who are creating exponential growth rather than playing catch up and enduring the unpleasantness of prodding a staff of overworked, underpaid people to continue to do more work for less money. 

Some of the world’s largest consultancies have been the first movers, now deriving more than 60% of their revenues from programs and products — not services. The Harvard Business Review article Putting Products into Services points the way to some practical next steps. 

Getting out of the business of selling time is quite literally a life-or-death decision. We must run our firms to be profitable, not busy.