Your Compensation Agreements as a Financial Portfolio

By Tim Williams

When creating an investment portfolio, no reasonable person would put all their money in just gold, just Certificates of Deposit, or just stocks (especially in today’s economic climate).  In a marketing communications firm, your client compensation agreements are your most important financial asset.  If they are all based on the exact same compensation system – just fees based on hours, for example – it means you’re not diversifying your portfolio.

A healthy financial portfolio includes a mixture of high risk/high return and low risk/low return.  Your client compensation agreements can be viewed in much the same way.  Professional financial portfolio managers are trained to optimize returns through a combination of different types and classes of investments.  A professional knowledge firm can do the same with different types and classes of client compensation agreements.

The first step, of course, is to apply some creative thinking to how your firm can be compensated for the value it creates.  Unfortunately, the default answer is simply to invoice the client for the hours you spend.  It’s more than a little ironic that firms that market themselves as creative thinkers apply virtually no creative thinking to how they price their services.

A different kind of portfolio

An agency that engages in innovative pricing practices would have a very different “compensation portfolio” from standard agencies.  Look at the risk profile of these two approaches:

Agency A will be undoubtedly be operating under the illusion that if they “manage their hours” that they will achieve their target profit of 15-20% on each client.  Agency B, however, can expect much more variety in its margins, with the potential to achieve much more than the industry standard.  Ignition’s experience with the few innovative firms who take this approach is that they achieve much higher profit margins, sometimes in the 30-40% range.   Not on every client, of course, but on enough clients in their portfolio to earn the agency above-average returns.

[compensation agreements chart] Put another way, if your compensation agreements are all one type – billing by the hour – your compensation portfolio is exclusively comprised of low-risk/low-reward. But by experimenting with different approaches to compensation, you can mix into your compensation portfolio some medium-risk/medium-reward and high-risk/high-reward agreements.  As with a financial portfolio, this kind of balanced approach to risk management will ultimately net your firm much better average margins.

The iconic Peter Drucker taught that if you want to make more money, take more risk – in business, and in life.