On the face of it, the news that Telewest’s audit committee is to launch an investigation into commission payments made to media agencies by its IDS subsidiary could not have come at a worse time for the sales house – it falls right in the middle of agency negotiations for 2005.
Nasdaq-listed Telewest Global announced late last year that certain business practices of IDS, which “involve the payment of commissions, believed to be no more than £5m in aggregate, to commercial counterparties over the period from 2001 to date” are to be reviewed. IDS sells advertising time on behalf of Flextech.
Until Telewest’s investigation is complete and it has decided what business practices may be allowed to continue, industry insiders say some media agencies could be reluctant to agree deals with IDS. It is known, however, that agencies are continuing to trade with IDS without any problem.
Furthermore, Telewest made clear in its announcement that it does not believe that there will be a “material impact” on its “financial statements, results of operations or financial condition” as a result of the review or of terminating the “business practices” in question.
Although Telewest will not elaborate on the exact nature of the “commissions” under investigation, it is understood to be looking at whether these conform to normal business practice. The company is expected to call in outside auditors to conduct the review, which was initiated after senior managers brought certain practices to the attention of Telewest’s audit committee. There is no suggestion that IDS has broken UK law, which allows parties to agree their own commercial terms.
The outcome of the review could have wider ramifications for the media industry as a whole, helping to determine what is – and what is not – normal practice with regard to commissions or other payments made between media owners and agencies. Television trading is already due to be reviewed by Ofcom later this year.
In the UK, for instance, it has always been standard practice for media owners openly to grant media agencies a commission of about 15 per cent, subject to some variation. In print, Northcliffe Newspapers announced earlier this year that it was slashing agency commission from 15 to ten per cent. Increased competition and aggressive procurement departments have led to agencies agreeing to reduce the amount of commission they retain in order to win new business. Most now pass on the commission either fully or in part to clients, who instead remunerate agencies by payment of a fee or by results.
As margins have tightened, some media agencies have looked elsewhere for revenue, claims Experience founding partner Greg Turzynski. He says: “Agencies have managed to offer clients ‘too good to be true’ terms by relying on other sources of income – income that is often derived without clients’ knowledge.”
This can take the form of additional, sometimes confidential, incentives from media owners in the form of side letters, consultancy or research agreements whereby agencies promise to spend a certain amount in a set period with a media owner in return for a further discount and/or a flat fee. But not all media owners offer these deals or incentives, which are said to be more prevalent in print, outdoor and online. Where they are made, it is often by weaker players in the market. Furthermore, not all media agencies accept such incentives, and some of those that do may pass the benefit on to, or spilt it with, their clients.
Stephen Broderick, chief operating officer of auditor Firm Decisions, which specialises in checking the financial arrangements between agency and client, claims that most agencies are contractually bound to pass on incentives: “Ninety-nine per cent of client-agency agreements say that where any discount is given, and if client money was used to get it, it should be passed on.”
The model contract agreed by the Incorporated Society of British Advertisers and the Institute of Practitioners in Advertising promotes transparency and recommends that clients reap the benefit of commission payments and that they have the right to inspect agency books.
But one industry insider says: “Few advertisers, in my experience, call for and get full disclosure. In these cases, any additional incomes are returned. However, in the majority of relationships this is not what happens.”
Unless an advertiser takes steps to conduct a financial audit of its agency business, it will never find out whether these payments have, by oversight or otherwise, not been passed on. And even then, it is not always possible for auditors to detect them or to prove any link to a particular client. For some smaller advertisers, the cost of undertaking such a degree of auditing could prove prohibitive. And some industry insiders suggest that clients, knowing they have squeezed their agencies on price, are prepared to turn a blind eye to any additional benefits or discounts that may come their way.
Many in the industry maintain that it is rare for agencies not to pass on additional incentives from media owners to clients, but where they do fail to do so and the client is unaware of what is going on, they say doubts could be raised over the agency in question’s ability to deliver true media-neutral planning.
Others, however, hold that planners are divorced from the finer details of media deals and that media auditors are able to detect any deviation from a media plan. In any event, claims one industry insider, advertisers can separate their planning and buying requirements to avoid vested interests interfering in communications solutions.
Transparency is likely to become increasingly important for agencies and media owners following the introduction of the Sarbanes Oxley Act in the US, drawn up to avoid Enron-style incidents. In the US, certain contingent commission payments made to brokers in the insurance industry have already come under scrutiny in a probe launched by New York State Attorney General Eliot Spitzer.
Turzynski suggests that with more transparency, agencies’ margins will be eroded even further and they will be forced to cut costs by focusing more on buying. Alternatively he says, “Clients could pay a reasonable amount to agencies to allow them to make a profit under the rules of full disclosure – this is not the case at the moment.”