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San Francisco Design Agencies Feeling the Squeeze

This morning, Dan Saffer shared on Twitter that Smart Design SF is shutting down. Earlier this month, Adaptive Path surprised pretty much everyone who cares by announcing they were being acquired by Capital One. So what’s going on?

I don’t know the rationale for Smart’s decision, but in talking to friends, and trying to make sense of what’s happening, it appears there are two opposing forces that San Francisco design firms have had trouble reacting to.

The first is the growth of well-paid in-house design teams at money-hoarding tech companies and well-funded startups. I first saw this about 10 years ago, when Adaptive Path lost a candidate to Google because they offered what we thought was an insane salary. A few years later, Facebook and Twitter followed suit, and now every tech company is offering designers 50-100% more in salary than what design agencies can swing. In the past, agencies could say, “Yes, but we respect and value design in the way that in-house companies don’t, and you’ll get to work on a range of things, instead of just one thing over and over.” That doesn’t hold true anymore, and most of the interesting design work is emerging in-house, and designers want to be where the action is. And get paid better to boot.

Here comes the counterintuitive bit. If design is in such demand (and jobs pages at every company suggests it is), why aren’t agencies just charging more, and using those higher billings to pay their designers more, and thus be competitive? That’s how markets work, right?

Well, not quite. What’s actually happening, according to friends at agencies, is that client’s willingness to buy design from agencies is decreasing, and project budgets have been shrinking. And the prevailing theory is that this is happening because companies are building in-house teams, and that’s where their ‘design budgets’ are going. Whereas in the past, a company might spend 20% of a design budget internally and 80% externally, that’s now swapped.

Another way to put it, as companies have gotten smarter about design, and recognized it’s a competency they need internally (something which Adaptive Path promoted in our book), they’ve become less comfortable outsourcing it.

So, San Francisco design agencies are often billing less than before, yet the talent market is able to earn more than before. This is a quandary.

It’s telling that Smart Design seems to be otherwise financially healthy — last month they opened an office in London. Their main offices is in New York. It just seems like they’ve thrown in the towel in SF, and from what I can see — I don’t blame them.

19 Comments

  1. Hi Peter – I agree. We’re seeing this trend in mobile development and design as well. I don’t think companies are doing a better job in-house, but they definitely want to control it. In many cases it costs much more this way. If they’re going to do it in-house, I think they should use agencies to supplement their thinking and keep up with current trends.

  2. Hi Peter. I’ve long since believed that this trend was coming. Design firms and consultancies like the Big 5 (and others) simply don’t have the ability to affect strategy over the long term in client organizations. That competency and ongoing momentum has to come from within organizations. So– as you’ve said– as companies increasingly value design, there’s less and less incentive to outsource strategic thinking and the design and implementation work that often accompanies it. I think there will always be a need for external design expertise, but it will truly have to be ‘expert,’ i.e. niche, narrow and deep.

  3. As someone who has built internal creative teams for the last 10 years of my career I and creative leaders like me, are the reason this is happening. Smart companies are recognizing the importance of design and creative talent. This isn’t just a trend, it’s becoming de-facto, and it won’t go away. External agencies don’t have any skin in the game other than the next project. Internal teams can be motivated by the work and by the performance of the company’s bottom line through bonus programs. The idea that internal teams cannot keep up with technology and design trends is naive, we have access to all the things external agencies have. And the cost of internal teams is usually 30-50% cheaper, we have domain knowledge that external teams could never have.

  4. Haha, just as I left 20 years in the world of (not even well-paid) in-house design for the life of a freelancer (not building my own agency, though). In-house design, IMO, has gotten a really unfair rap over the years; I hope it loses that stigma. This is kind of like design’s version of movie stars going to TV.

  5. Guys, not every company has enough scale to have qualified in-house design teams… This really smacks of post-rationalization of your own theories.

    There will be design service firms for a long time to come.

  6. Andrew’s points are right on (disclaimer, I’ve worked for him in some of these efforts)… But I think ther are two issues that loom even larger. With the success of lean methodologies, the pace is quicker, and frankly, we can no longer afford the time it takes an outside agency to “ramp up” through a discover phase. User research must be an on going and sustained effort. Add to that the need for deep industry knowledge really only attained through embedded resources, and the need to retain institutional knowledge. With all of that, outsourcing ceases to make sense. I don’t see how agencies (who typically invest in client relations over creative) can change quickly enough to sustain. These aren’t your father’s in-house designers.

  7. As a UX consultant, I work with a lot of very young startups who are too small to yet afford in-house design staff, and at the other end of the spectrum, very large companies who need immediate auxiliary help for their existing design teams. In both cases, my clients simply do not want to pay for the design agency overhead of an account manager, salaries for the agency owners, rent on a fancy design office, etc. I cannot say I blame them at all.

  8. Extrapolating this out beyond the specifics of the SF market and a few things are worth mentioning:

    • different client-services models – design firms, ad agencies, business consultancies – feel this is in different ways. The more specialized and singular your service offering is the harder and faster you’ll feel it. The more specialized you are the faster you can be commoditized. The more generalized you are the less likely you’ll be to compete for certain engagements. It’s a tough balance.

    • while Google and others have a legitimate cache around design and can attract talent other companies cannot and will continue to need to turn to outside groups for those services.

    • the dirty secret of many in-house studios is that the bulk of their staff is freelance or comes from agency staff augmentation and as a result the arguments around subject matter expertise and skin in the game go away. It’s even more mercenary than agency staffing.

    • one aspect that in-house studios can’t readily deliver is cross-industry insight and value. the better agencies act as conduits for their clients to help bring them together on big market initiatives.

    • smart agencies are changing their billing practices to prove their allegiance to clients by providing discounts when their efforts don’t mean certain metrics and getting bonuses when they radically exceed them.

    • smart agencies are also diversifying their own portfolio to be less dependent on client partners in the first place.

  9. Good article and it’s interesting to see all the different replies and comments. To Peter’s comment where he mentions why can’t design agencies just charge more and pay their designers higher salaries. I hate to say it, but it could be that some agencies in fact are charging more but that’s just not translating into the designers salaries?

  10. Adaptive Path, Sapient, Razorfish, etc., achieved high billing rates because they had something new and valuable that large companies could not easily replicate and incorporate into internal processes. The larger companies leap-frogged their competition by hiring leading edge agencies. However, we drank our own koolaid and are today thinking that companies will still pay premium rates for something that long ago became common knowledge via UXmatters, UX Magazine, UIE, Cooper, UXPA, wandering UX minstrels, etc.

    I don’t agree that the agency party is over and that internal teams rule the horizon. It’s yin and then yang, and then back to yin. The bottlers of the next secret sauce that wins PR accolades and shows promising initial results will again be the shiny object that large companies want to experiment with through external agencies, and will pay a premium before they decide to grow it internally. However, the next wave will not be able to discount internal teams the way that agencies did in the early e-commerce boom, as deficits rather than collaborators, UNLESS there is another quantum technology leap that changes the rules of the game as much as going from DEC VAX to Web did.

  11. This is part of the normal in-house vs out-house cycle.

    I’ve seen it happen several times in the Australian market: companies get design agencies/outsourced software because they don’t want to incur the headcount / believe that they can get better quality / don’t want to invest in building capability, then decide they want to build their own capability because they can have better control / more reliable supply / lower cost, then decide that their own capability isn’t up to scratch / too expensive / need to reduce headcount and turn back to outside suppliers.

    I’m sure CapitalOne will be hiring design agencies again 5 years from now because they either don’t have the needed capacity or skills.

  12. Interesting article and comments.

    Another factor in play – agencies that passively or actively encourage employees to work ~60 hour weeks aren’t helping themselves keep their talent. I know several people who went in-house and won’t go back to agencies for this reason.

  13. The most interesting question in play to me is whether this movement toward corporate design centers is permanent (as Peter seems to believe) or whether we’re looking at a cyclical shift in design activity from agency to corporate. Examples from the advertising side of the creative world provide analogies, where companies have oscillated between agency and in house for ages – http://onforb.es/1oovNWR provides a relatively recent snapshot indicating the movement to in-house may have legs.

    In the long run it comes down to innovating your consultancy offering to capitalize on current market expectations, conditions, health, distribution, etc. If you are sticking to your business model like Charlton Heston to a flintlock rifle, you’re lost. Either way, as Daniel Harvey indicated, there are a LOT of companies out there who lack the appetite and/or resources to DIY their design work. Beyond that, companies in many other markets, certainly on a global level, still lag (sometimes significantly) in design awareness, and do not evidence compensation discrepancies on par with those we’re seeing in certain cash-flush parts of the US; SF, NYC, Austin, etc.

  14. It’s not just San Francisco. This is happening in Chicago too. Agencies are losing not only to inhouse design teams, but to the increasing range of small specialty firms poaching the big client budgets that larger digital agencies used to plunder. Gone are the days of Digital AOR for mega brands. Agencies are left scrapping for project work and staff aug opportunities in many cases as inhouse teams try to fill executional roles.

    From what I’ve seen, however, this is happening only with brands large enough to build entire design teams. And many brands still rely heavily on agencies to help with strategic efforts.

  15. I run a small UX design agency and we are not seeing this trend at all. We are super booked up and our budgets are not shrinking. We are having a hard time hiring but are combatting this by having an alternative work environment different from most other agencies and strongly supporting people who want to work part time/work from home/ etc… I think the reason we are not seeing this trend as an agency is because we are small and not getting any bigger (~10 people). We have very little overhead. Everyone on our team is senior and we don’t have a lot of overhead with project managers and account managers etc. The design lead is the project/account lead when we do work because it’s hard for anyone other than the design lead to understand the complexity of the projects we work on. Startup teams hire us to work on super complex project that demand a lot of background knowledge becasue they can’t afford an internal team OR can’t hire one quickly enough. Internal teams at large companies often hire us when they are short staffed to work on intense high value projects. Large companies (Google, Intuit, etc.) also often hire us to work on internal projects like their intranet design or other internal software that thousands will use but just internally. I wonder if the reason we are not seeing this trend is because of our size and our workstyle?

  16. Corporation want to partner with design stars: Yves Behar, Karim Rashid, Marc Newson etc. that have a unique design personality that’s marketable. Consumers can’t connect with a faceless design firm like Smart Design. Vanilla wafer firms have nothing unique to offer. Maybe Smart can use their body of knowledge to build their own products like Scott Wilson at Minimal.

  17. Design and market should technically go hand in hand right?
    So if the market is expanding its boundaries into services/technology (word that come up the most) data etc, shouldn’t design expand its boundaries too? Keeping up with the trends makes sense(John). But since I am not in their shoes, I can only wish them luck!

  18. There’s a strong correlation in economics between outsourcing and wages, in short, when outsourcing increases labor rents decrease, so based on your account this explains why design couldn’t afford to retain their employees, they have a business model based on labor-intensive/low-rents wages that is unsustainable when demand pushes wages up. It seems to me that by (relatively) overpaying designers, big corporations are transforming design from being a labor-intensive to a capital-intensive task, and this is an environment that doesn’t favor outsourcing. The good news are that if it’s in fact a bubble and funds become scarce again, those design firms that managed to stay in business will profit big time.

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