Rory Sutherland's Blog

Rory Sutherland

This is a wonderful picture which I found here.

The wonderful irony of the girl's drawing is that her mother does not, as you may have reasonably assumed, work at Spearmint Rhino - but at B&Q. The picture is, in fact, a child's depiction of her mother selling an unfeasibly large shovel to a crowd of happy customers. Phew!

But there is a lesson to be learned here. A lesson which perhaps some retailers can learn from Spearmint Rhino. And which agencies can learn from both.

It's about the healthy questioning of what you might call pure P&L capitalism. The reductionist idea that the value created by any organisation can be best understood by ever-greater dissection of its balance sheet.

At the recent Media Festival in Manchester (of which more tomorrow) I was lucky enough to meet Will Page, Chief Economist at the MCPS-PRS Alliance and recent author of a fascinating article questioning some (if not all) of Chris Anderson's assumptions about The Long Tail. One of his earlier projects had been an enquiry into the Scottish Pole Dancing industry (and, whatever your ethical stance on the matter, you have to agree that Scottish Pole Dancing is a good deal more interesting than any other kind of Scottish Dancing).

The business model is apparently complicated. In earlier such businesses, massive drink mark-ups (eg £100 for a bottle of cider masquerading as Champagne) would pay for free naked girls. With the new pole-dancing model, I am told, the girls actually pay the proprietor for use of the pole - earning the cost back in, er, voluntary donations or heaven knows what else. This franchise model apparently produces a greater level of commitment than one involving payment by the hour.

But in both systems a large degree of cross-subsidy takes place. And money isn't necessarily made where value is created. For instance in the first model the bar made all the profits but the "free" women provided the value-add. In the second model you may actually subsidise the drinks to raise the hourly value of the pole.

Most businesses, in short, are ecosystems. There is much more going on than a simple one-off, one-way value exchange. When you go to a pub with a nice view, you pay more for the beer - you don't pay separately for the view.

Retailers generally understand this well. Certain items have far greater price elasticity than others. Some items are simply sold to drive footfall (selling newspapers is not all that profitable for newsagents, for instance, nor is selling petrol nearly as profitable for petrol stations as selling coffee). 

Occasionally, I suspect, some businesses lose sight of the interplay between items. Boots a few years ago became so preoccupied with seeling high-margin beauty products it somehow forgot it was a chemist. In 2001 in Tunbridge Wells they kept baby products upstairs, only reachable via a buggy-defying flight of steps - presumably so that more floorspace could be devoted to perfumes and other such fripperies. I stopped shopping there for five years. Woolworths, too, may have been led astray by an obsession with high margin categories - to a point where it sold 600 kinds of Bratz merchandise but not string. After a while, people forgot what it was for (and would not much miss its absence were it to vanish). Now M&S has an issue in that the success of its Simply Food concept means people use M&S to buy, er, simply food - for, as there now a diminishing need to go into its larger stores, you are rarely exposed to its clothes. And, according to a loyalty programme legend, one large supermarket hastily abandoned its decision to delist feta cheese: while selling the cheese itself made them no money, its few regular buyers were shown by loyalty-card data to be the top spenders in the shop.

Now advertising agencies are no less an ecosystem than is any other kind of "shop". Effectively, like any other kind of  shop, we do not always make most of our money where we add most of our value. Boots adds most value in Pharmacy and other essentials; it makes most margin in perfumes. An ad agency adds most value in creating ideas - something which may take a matter of minutes - but makes most money in the laborious and time-consuming business of execution. (Similarly an agency probably makes a small margin on its senior staff but a large one selling more junior staff.)

This is all fine - let's face it all businesses work that way. Or at least it's fine until you get exposed to the boneheaded people who refuse to acknowledge it. The more stupid procurement staff, say, or people with recent MBAs. They become obsessed with splitting the business into more and more watertight compartments, in order to facilitate the measurement of anything and to allow them to compile ever more elaborate spreadsheets. This is dumb. Every great business has interdependencies: it adds value in some places and makes money in others.

It's only a problem when people start treating a balance sheet as a substitute for judgement. There are too few creative people, proportionately in almost every agency in London. Why? Is it because they are less valuable? Or is it because they are harder to sell on retainer?

Follow the logic in this way and you have a bar selling cider for £100 a bottle but no girls. It's a high margin business, I grant you, but you don't get many customers.