Dinosaurs ruled the earth for 160 million years before a huge impact rendered them all but extinct. They never saw it coming – one day they were the dominant species; the next, they were all but gone. Ad agencies might just end up being the dinosaurs of modern business. The impact that has created the seismic shock is Web 2.0 and online advertising.

A recent report says that only 27% of marketers expect to do more business with their ad agencies in 2010. At the same time, more than half see themselves doing more business directly with publishers. Entrepreneurs have developed software that make it easier than ever for publishers to create sophisiticated websites and to build communities. Google has made it nearly foolproof to advertise online. Many media publishers these days will even help with the creative concepts.

The bastion of ad agency revenue – bringing buyers and sellers together via media placements - is now increasingly the domain of advertising exchanges that make it now much easier and cheaper for advertisers and publishers to come together. And these new outlets are coming at a time when marketers everywhere are tightening their pocketbooks. The ability to shave a cool 17.5% off the once sacred media placement budget is very appealing. The result: the piece of the business that generated most of the agency revenue has suddenly been co-opted by the ad networks, media companies that go direct and Google. It is not likely to return.

Can ad agencies stave off exinction? Yes, but it will mean taking reinventing their role (and their revenue sources) across the advertising ecosystem. Creative development and even idea generation is an area where media publishers just don’t have an edge and ad networks (even Google) just can’t compete on the same level. This now must become the money making engine for agencies. But that will come bundled with a big reality check: agencies will have to get used to being paid for the value of the idea and the impact of the creative – pricing models that simply don’t exist today for agencies – ones that in many ways will force agencies to become more accountable for the quality of their work. It will likely mean leaner days for many and sheer extinction for some.

For more on my views on how Madison Avenue can reinvent itself, read Survival Tips for Advertising Agencies in the Online World.