Challenges in growing an agency

Once upon a time, marketing agencies were profitable businesses.  They were tough to get into and get the first few accounts, but  competition was reasonable and the business model provided  sufficient profit margins. 

Today, that is no longer the case. It is very easy to get into the  business, but it’s very hard to grow an agency and make money for  many reasons.

Here are six of the toughest challenges to growing an agency.

Scaling: An inherent service business predicament

The most profitable businesses scale very well — the cost of both  adding more customers and servicing customers drops as more  customers are added. This is not the case with service businesses. 

The only two ways to scale a service business are to land large,  multimillion-dollar projects or to offer repeatable services sold in mass  quantities. The first is very difficult in a field saturated with firms and  new entrants, especially since the marketing field is shifting away from  retainer contracts to individual projects. The second method, inspired  by product companies, is just as difficult to pull off as it requires the  particular service to have a large customer base and resemble a  product that can be componentised and mass produced. 

By definition, service businesses offer a custom solution for each  customer. Therefore, a project done for one customer cannot be resold  to another, at least not without significant customization and changes  that result in significant new costs. According to a report by  The Economist, the traditional marketing skills of creative, graphics,  advertising, and branding are resistant to scaling. 

This is in direct contrast to the software companies that compete in  digital marketing. For example, consider Facebook’s native advertising platform. Facebook must hire software engineers and graphic  designers to create the platform, but it does not need to hire them at a  rate directly proportional to the number of clients using its advertising.  Revenues can grow much faster than costs. 

Similarly, small agencies must find ways to increase their ability to  scale, meaning they must efficiently find new customers and service  them at a much lower cost than they currently are. 

For marketing agencies, the threat of competition is acute: A 2019  study on digital agencies by website builder Wix found that competition  is the top challenge. There are relatively low costs to setting up a new  digital marketing agency, so it is easy for new competitors to appear  at any time. Fifty percent of agencies named competition as an issue,  while the second greatest challenge noted was adapting to new  technology. 

Growing competition from everywhere

Competition especially affects smaller firms: 94% of digital agencies  have fewer than 50 employees. Yet, competition for clients among  these firms is greater than that statistic implies. The majority of large  

firms are agency holding companies that own a number of specialized  agencies. Consequently, these large companies can work with  competing businesses and capture different segments of the market. 

New technologies are constantly revolutionizing the face of digital  advertising, while new businesses launch in response to innovation.  Recessions actually increase competition as laid-off workers start  their own businesses. Despite current economic turbulence and  high unemployment, the rate of new business growth remains high. 

According to the U.S. Census Bureau’s Business Formation Statistics  (BFS), new business applications grew each year from 2013 to the  present. 

In 2020, business applications increased 54.2% over 2019. The scale  of the competition is daunting: The Digital Marketing Agency Industry Report estimated a 23% increase in the  number of new firms since 2019.

Given this striking growth, small agencies must find ways to compete  and win in the face of such relentless competition from everywhere. 

Differentiation: Both necessary and a hurdle to growth 

In software and other product companies, the differentiation scales  with the product. Whether a vendor produces one or one million  softwares or products, each one contains the same differentiating  feature. 

With service, the differentiating feature is the service provider — the  intellectual capital found within the individual doing the work. The  differentiator, the creative work, is custom and doesn’t scale. This is a  paradox in that to compete and win business, marketing agencies must  differentiate from competitors and demonstrate value beyond what  in-house marketing teams can provide. Yet, this differentiator becomes  the hurdle to scaling and growing.

There is also a skills gap in the marketing world between  agencies that need employees with technical and soft skills and the  job candidates on the market. A report by The Economist and Marketo,  which surveyed marketing executives worldwide, predicted this talent  gap would drive the marketing world.6 The report states that CMOs  “want people with the ability to grasp and manage the details (in  data, technology, and marketing operations) combined with a view  of the strategic big picture.”

Another report by Econsultancy and SmartFocus surveyed 500 marketing agencies and found that 30% of respondents rated “finding marketers with the right skills” as highly difficult. 

This labor shortage creates another major problem: high churn rate.  According to a 2018 LinkedIn analysis, the turnover rate in marketing is  the highest of any industry. 

500 marketing agencies found 30% of  respondents rated “finding marketers with  the right skills” as highly difficult.

Difficulty in providing proof before buying

A barrier to attracting new clients is the difficulty of proving  competency. Clients only hire agencies they trust. In the absence  of reassurance before jumping into a contract, corporations tend to  choose in-house marketing. CMOs believe it is easier to track ROI  internally, and when they do hire outside agencies, performance  matters most.

Once a marketing agency takes on a project, ROI is still difficult to  prove, yet clients need quantifiable results. Finding new clients is difficult, as shown by a HubSpot survey, which found that 60% of agencies struggle.

As a result, most agencies rely on referrals  and repeat business, which is not scalable. 

First to get cut when the economy sours

Marketing services are price-elastic. When demand is high, marketing  agencies can charge high prices, but when demand drops, the price  that clients are willing to pay drops. In a downturn, marketing budgets  are the first to go. Beyond severely curtailing budgets, economic reces sions change the nature of the marketing field itself. The 2008-2009  financial crisis accelerated the pivoting of B2B marketing to online  marketing, social media, and analytics. 

The current 2020 economic recession created by the global  coronavirus pandemic dramatically differs from previous downturns  due to its cause. While unemployment remains at a historic high, the  S&P 500 also remains high and retail sales grew by 1.2% in July. The  long-term effects on the marketing world are still unfolding, but the  impact is uneven. The tenure of CMOs is decreasing, yet a small part of  the market is growing. The Association of National Advertisers found  that 36% of CMOs have increased their technology investments and  12.5% have increased their media budgets. 

Still, consumer spending in general continues to decline. This, in turn,  causes marketing budgets to shrink. Competition for remaining busi ness is intensified by the high number of new firms. 

Digital Marketing: Both an opportunity and a threat

On the demand side, technology such as SEO, Google AdSense,  Facebook Ads, and other platforms has caused an increase in com panies doing in-house digital advertising instead of outsourcing it to  digital advertising agencies. 

Digital marketing has contradicting implications for small marketing  agencies. On one hand, more of the marketing is done digitally, and  technology improves scalability and turns insights into results. On the  other hand, digital marketing lowers the barriers to entry. Small  agencies must not only compete with new competitors, but also with  in-house marketing departments that feel they can do marketing  themselves. 

The COVID-19 pandemic accelerated the shift to digital marketing, and  e-commerce is one area of digital marketing that’s currently growing.¹⁵ 

Janet Balis, Ernst & Young’s Americas marketing practice leader,  stated that the current recession:

“has created a dramatic acceleration,  first and foremost in terms of customer behaviour, and then in terms of  leadership priorities, where things that would’ve taken years are now  taking a matter of weeks or months with respect to digital marketing.”

Digital marketing increases competition for clients, forcing marketing  agencies to struggle to distinguish themselves. With social media, it  is easier than ever for rival marketing companies to copy social me dia approaches and online strategies. New players with technological  solutions often offer low prices in order to enter the market and attract  clients, and more companies take advantage of digital tools to conduct  in-house marketing.

As we have seen above, small marketing agencies face a number of  challenges and must find viable, cost-effective strategies to compete  and win profitable business in this new age. The next section provides  an effective guide for addressing these challenges.