Advertising fraud case raises questions for hotel industry

Legal
Though the Association of National Advertisers released its report on potentially fraudulent advertising practices in 2016, the FBI continues to issue subpoenas. Photo credit: iStock / Getty Images Plus / Pattanaphong Khuankaew

Rumors of undisclosed rebates and overpriced principal transactions have plagued the media-buying industry for years, with the Association of National Advertisers beginning to investigate those and other nontransparent practices as early as 2011. It was not until June 2016, when the ANA released an independent study of media transparency in the U.S. advertising industry, that the industry at large, and advertisers in particular, began to take notice. The ANA report, co-authored by K2 Intelligence, concluded that nontransparent purchasing practices are “pervasive” in the media-buying ecosystem.

The scale of wrongdoing detailed in the ANA report is massive. Businesses spend well over $630 billion on advertising and media purchases annually, and by 2021 that number is expected to approach $750 billion. The hotel industry’s media spend is a substantial portion of that overall number, with advertising spending for 2019 projected at $769 million. Notably, an ever-larger share of this spend is going to digital advertising. ("The Smart Hotelier’s Guide to 2017 Digital Marketing Budget Planning" suggests that 75 percent of a hotel’s marketing budget should be set aside for digital marketing.)

While some strides have been made in addressing issues of fraud (such as bot traffic) in digital advertising, hotel industry ad buyers still lack fully reliable data on what, exactly, they’re getting for their money and who profits from these arrangements.

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Among other practices, the report detailed illicit agreements in which media suppliers—television and digital platforms, for example—provide advertising agencies with cash and other forms of rebates in exchange for hitting certain placement thresholds. In turn, the media buying agencies do not disclose the rebates to their advertiser clients, whose ad spend enabled them in the first place.

Similarly, agencies could receive free or discounted media from media suppliers, which agencies then turn around and sell to clients at a considerable profit. The ANA report also detailed how some advertising agencies go as far as to hold or solicit equity stakes in media suppliers and then funnel business to these suppliers, thus frustrating their fiduciary duty to clients through this indirect profiting scheme.

The 2016 ANA report blew the lid off these industrywide practices. Although the report did not name names, it nonetheless concluded that all manner of agencies commit these nontransparent practices—from the massive, publicly traded agency-holding companies down to the smallest independent firms—and that the nontransparent practices were prevalent across all types of media including television, print, radio, digital and out-of-home advertising. The ANA report also uncovered a systemic element and concluded that the pervasiveness in its own study suggested that these practices were not limited to just the sample selected. Rather, the supplier-to-agency rebates were wide-ranging, estimated from 1.67 percent to 20 percent of aggregate media spending.

According to widespread reporting, the ANA report and the resulting industry turmoil drew the attention of federal and state government authorities. For example, the Wall Street Journal reported that the FBI, working with the U.S. Attorney’s office in New York City, initiated a criminal investigation into these practices, and the FBI has called on the ANA and its member companies for help in its investigation. Given the FBI’s limited resources and the overwhelming scope of the potential fraud at issue—the potential victims number in the hundreds, if not the thousands, nationwide—the FBI requested and the ANA recommended that advertisers perform their own investigations into their agencies’ practices, and then report any evidence of fraud to the FBI to assist in the government’s investigation.

The fallout from the ANA report has been and is expected to remain ongoing and disruptive. Any hotel chain that used an outside agency to buy media on its behalf should, at a minimum, consider whether it could be a possible victim of these nontransparent and potentially fraudulent activities. Although occasionally limited by contract, hotel marketing executives should be aware that they are likely entitled—at the very least—to audits of their media accounts. An audit and accompanying investigation is the only way to see how much money rightfully went to the agency, versus how much money an agency improperly received through kickbacks, equity shares, or other nontransparent practices. If those investigations indicate overpayment, hotel marketing departments could be entitled to a potentially sizeable recovery, whether through a negotiated settlement or through litigation.

These transparency issues largely stem from a fundamental disconnect between advertisers and the agencies they rely upon. Most companies understandably believe that their agencies will act as their agents; that is that they will act in their best interests. Yet, the agencies hired to represent them may instead view their duties as being strictly prescribed by contract, and they assume that what a client does not know will not hurt it.

Regardless of a hotel’s size or advertising spend, it should be mindful of these issues. Mounting evidence suggests that these nontransparent practices may have continued over a number of years, perhaps even longer than a decade. So, multiplying the potential damages by the relevant statute-of-limitations period—often four years or more—can put a substantial amount of money on the line. Setting aside any potential monetary recovery for past deeds, these investigations are beneficial because they help to better define the relationship between agency and client. Marketing executives at hotels should review these agreements and make revisions as necessary to the extent this relationship is ambiguous. Agreements should also require transparency in rebates, equity positions, use of inventory, and margins, charging an advertising agency with a duty to disclose this information. And, auditing rights should be expanded, up to and including the holding-company level.

The question of what recovery looks like can be shaped in a number of ways, including discounts, credits, and cash payouts. As the FBI continues to issue subpoenas, this issue will likely grow worse before it gets better. The silver lining is that companies and suppliers have recourse, if they choose to use it, and it would be wise to be at the head of the line to seek recompense given the current state of the industry.

David Almeida, a partner in Benesch’s Litigation Practice Group, is chair of its retail, hospitality and consumer products group.

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